Who we are. Our vision. What we do. Resilient network. We collect

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1 Promises we make to our customers Welcome Quality drinking water Excellent customer service Value for money Who we are Sutton and East Surrey Water supplies 161 million litres of clean water each day to 688,000 people Our vision To be an outstanding water company that delivers service excellence 2016 Highlights A good start to a new regulatory period Turnover stable as customers bills fall in real terms Profit before tax down 0.5m, but remains strong 18.1m invested in new and replacement assets Fixed assets increase by over 3% Turnover 63.0m Profit before tax 14.3m 63.0m 63.0m Resilient network What we do We collect 85% of our raw water comes from underground sources (groundwater) and 15% from river sources. We clean To make sure we maintain a high quality drinking water for our customers, our water quality is continuously monitored at all our treatment works. We store We have 31 operational service reservoirs and water towers. We distribute 24 pumping stations pump water to our customers through 3,500km of pipes Capital investment 18.1m 14.3m 14.8m m m Positive contribution Respected business Sutton and East Surrey Water plc Annual Report 2016 We have made a clear promise to our customers to deliver our aims See the inside flap for more information We don t only supply water m Since 1993, our customers have also raised more than 1.5 million for WaterAid, enough to help 104,000 people gain access to safe water. 13,000 Our education team talked to over 13,000 children and adults during the year by hosting school visits, giving assemblies, organising open-days and attending local events. Fixed Assets 268.2m m m

2 This year Employees helped us serve ,000 Homes Our aims Keeping our promises to customers Aim 1 To provide a reliable and sufficient supply of safe, high quality drinking water See page 10 17,000 Businesses Aim 2 Offer good value for money and keep bills at a fair and reasonable level See page ,000 People served 161 Million litres of water supplied per day Which is equivalent to over 64 Olympic sized swimming pools! Aim 3 Increase the resilience of our network to drought, flooding and equipment failure See page 14 85% of our raw water is extracted from underground sources 99.95% Overall drinking water quality Cobham Leatherhead Dorking Sutton Reigate Redhill Horley Gatwick Airport Coulsdon Purley 835km 2 Distribution area Caterham We supply water to an area extending across the London Boroughs of Croydon, Merton and Sutton, as well as East Surrey and parts of Kent and Sussex MEASURES PERFORMANCE IN 2016 MEASURES PERFORMANCE IN 2016 MEASURES PERFORMANCE IN 2016 MEASURES PERFORMANCE IN 2016 MEASURES PERFORMANCE IN 2016 MEASURES Supply interruptions over 3 hours Number of bursts Overall water quality Taste, odour and discolouration contacts Water softening Security of supply index 6.3 minutes Target: 15.6 minutes 212 bursts Target: 290 bursts 99.95% Target: 100% 419 contacts Target: 350 contacts Delivery on schedule Target: Deliver programme 100% Target: 100% Customers on our Water Support tariff Perception of value for money Bad debt as a percentage of turnover 5,686 Target: 5, % Target: Less than 15% of customers dissatisfied 0.75% Target: Less than 1% of turnover Water restrictions Building a more resilient network 0 Target: 0 36% Target: 36% Customer satisfaction with the water service Service Incentive Mechanism (SIM) score Number of complaints (per 1,000 properties) Aim 4 Deliver consistently high levels of service See page % Target: 89% 80.8 points Target: 85.6 points 10.0 Target: 7.4 Aim 5 Reduce our impact on the environment while seeking to make a positive contribution to its quality Leakage Environmental education programme Customer usage reductions through metering Greenhouse gas emissions (kgco 2 eq/ml)) Pollution incidents See page Ml/day Target: Ml/day 13,314 people Target: 8,000 people litres per person per day Target: Target: incidents Target: Zero incidents M23 M25 Over 5,000 Customers received a 50% discount thanks to our Water Support tariff Edenbridge Overall Aim Continue to be a well-run, respected and successful business Employee satisfaction Community engagement Health and safety (lost time incidents) Financial health See page 20 PERFORMANCE IN % Target: >70% 9,010 Target: 8,750 7 Target: 2 Achieved Target: Achieve budget 50p The average household in our supply area spends 50p a day on its water supply and this is how it breaks down... Chairman s Statement Jeremy Pelczer provides a summary of performance in Read more on page 02 Performance Report 10p Other operating costs 6p Financing Inside this report A detailed look at how we have delivered against our aims. Read more on page 10 5p Energy 4p Tax, rates and licences Jeremy Pelczer Chairman The UK Marketplace An overview of the industry and how it is changing. Business Overview Anthony Ferrar Managing Director 17p Investment 8p Read more on page 06 Employees A look at how we are adapting to a changing marketplace and the structure of our business. Read more on page m Invested to secure and improve our network and water resources Contents Overview Highlights IFC Chairman s Statement 02 Year in Review 04 The UK Marketplace 06 Business Overview 08 Performance Report Aim 1 10 Aim 2 12 Aim 3 14 Aim 4 16 Aim 5 18 Overall Aim 20 Strategic Report Operating and Financial Review 22 Managing our Risks 26 Our Values in Action 28 Directors and Advisors 32 Governance Directors Report 34 Corporate Governance Report 37 Nomination Committee Report 46 Remuneration Committee Report 48 Audit Committee Report 55 Statement of Directors Responsibilities in Respect of the Strategic Report, Directors Report and the Financial Statements 58 Financial Statements Independent Auditor s Report 59 Statutory Accounts 62 Regulatory Accounts 82 Directors Responsibilities for Regulatory Accounts 82 Certificate of the Directors to the Water Services Regulation Authority (the WRSA ) 102 Independent Auditors Report to the Water Services Regulation Authority (the WSRA ) and Directors of Sutton and East Surrey Water plc 103 Overview Performance Report Strategic Report Governance Financial Statements

3 02 03 Chairman s Statement The Board s focus this year has been the delivery of the promises we made to our customers in our business plan and ensuring we are prepared for when the competitive retail market opens up for businesses in April I am delighted to report that we have made sound progress on both. To be an outstanding water company that delivers service excellence is the vision we set ourselves as the new regulatory period got under way last April. Jeremy Pelczer Chairman Challenges, progress and exciting prospects Our target for the current regulatory period is to deliver on six key aims, which were identified after extensive research with our customers and stakeholders. Underpinning each aim is a set of performance measures, which now forms the basis of an employee bonus scheme, ensuring we all take responsibility for delivering on our promises. Our performance against each of these measures is detailed in our new Performance Report on pages 10 to 21. We have agreed challenging targets with our regulator, but believe they are achievable through continued investment and hard work. I would like to congratulate all our employees on an encouraging set of results, which have put us on a firm foundation for the next four years. Here I highlight some key successes and challenges. Our drinking water quality performance was again excellent and, while it narrowly missed our own target, was well within the performance range accepted by the regulator. The water leaving our treatment works was 100% compliant with industry standards. Just three failures at customer taps reduced our overall drinking water quality index to 99.95% for the year. We have made a strong start with our investment programme for the next five years, including awarding the contract to upgrade our Woodmansterne water treatment works which, when complete, will increase output by 50%. Our assets remain in good condition (assessed as achieving stable serviceability ), interruptions to customers supplies were less than half the target agreed with the regulator, and once again we beat our regulatory target for leakage. A key part of our business plan is affordability. Our new Water Support scheme has been extremely successful in helping those in genuine financial difficulty. We achieved our goal of signing up 5,000 customers two months early and continue to accept customers onto the scheme. Overall satisfaction with the level of service we provide to customers remains high, but we have struggled to meet our targets for the level of service we provide when customers need to contact us. We are very disappointed with our Service Incentive Mechanism (SIM) score for the year, but we are actively addressing the situation in 2016/17 with a project team in place which is specifically focusing on improving this area of the business. We take the health and safety of our employees, contractors and members of the public extremely seriously so I am disappointed to report seven lost time injuries this year, more than half related to employees suffering back injuries. The Board monitors health and safety matters closely and receives monthly reports, reflecting the paramount importance we attach to health and safety. Our Customer Challenge Group, chaired by Dr. Jean Venables, played a crucial role in helping us set our priorities for the current regulatory period. Now that it is underway, the group has been refocused as the Customer Scrutiny Panel. We are delighted that local resident Graham Hanson has taken over the reins as Chairman and the Panel has already begun scrutinising our performance on a quarterly basis. On behalf of the Board, I d like to take this opportunity to thank Jean for her invaluable contribution over the past four years and formally welcome Graham aboard. Our financial performance remained good. Turnover remained stable at 63.0 million (2015: 63.0 million). Operating costs increased by 9.4% to 42.9 million (2015: 39.2 million). Interest charges fell by 20% to 7.9 million (2015: 9.9 million). Other interest receivable and similar income fell to 0.7 million (2015: 0.9 million). Profit on ordinary activities before tax fell by 0.5 million to 14.3 million (2015: 14.8 million). Due to the impact of the Government s enactment of lower tax rates for future years on the provisions we have made for future tax payments, we had a tax credit of 0.4 million in the year (2015: 4.4 million charge). Profit after tax was 14.7 million (2014: 10.5 million). In total, we invested 18.1 million during the year (2015: 21.1 million). We have also had a busy year preparing for retail market competition in April 2017, when businesses will be able to choose their water services provider. All areas of the Company have been involved in this major overhaul of the water industry and I have been impressed by the level of cooperation I have seen. I believe we are in a good position and will be fully prepared when the market opens. Turning to other regulatory matters, we welcomed Ofwat s early consultation on key issues for the Price Review and look forward to having clarity on areas that can be agreed at an early stage. We have welcomed three new Non-executive Directors to the Board this year. A former audit partner with PwC, Murray Legg, was appointed on 1 October to replace John Biles, who stood down as our Senior Independent Director and Chairman of our Audit Committee on 31 March Jon Woods, the General Manager of Coca-Cola Great Britain and Ireland, was appointed on 1 March to replace Stewart Gilliland. Seiji Kitajima joined the Board on 1 October as a shareholder representative replacing Wataru Oba. We extend a warm welcome to our new Non-executive Directors and thank John, Stewart and Wataru for their loyal service and wise counsel. The country is currently in a period of some economic and financial uncertainty following the Referendum decision in favour of leaving the European Union. While it is too early to assess what the impact on the Company will be, we would expect to be well-placed to respond to such external challenges. As we consolidate our achievements in 2015/16 and embark on an exciting new era for the Company this coming year, I would like to thank all our employees for their contribution to our success through their dedication and commitment, and congratulate all those who have celebrated Long Service Awards and other milestones together we have built the foundations for solid progress in the coming years. Jeremy Pelczer Chairman 5 July 2016 Profit before tax 14.3m m 14.8m Summary of 2016 Delivering the promises we made to our customers Aim 1 Supply interruptions 60% better than target. Burst mains 25% less than expected. Just three water quality failures at customers taps. Aim 2 Target for customers helped by our Water Support tariff achieved two months ahead of schedule. 91% of customers consider bills affordable compared with a target of 85%. Cost of bad debt just 0.75% of turnover 25% lower than target. Aim 3 No supply restrictions. Good progress with building a more resilient network. 6,333 new water meters installed. Aim 4 Extended opening hours in our customer contact centre. Over 30,000 customers signed up to paperless billing. Service improvement plan implemented. Aim 5 Leakage once again better than target. Environmental education programme reaches 66% more people than target. Greenhouse gas emissions achieve year-on-year reduction. Overall Aim Substantial increase in employee engagement and overall satisfaction. Strong community engagement. Credit rating upgrade. 5,000 Over 5,000 customers receiving support with their bills Overview Performance Report Strategic Report Governance Financial Statements

4 04 05 Year in Review A year of highlights Community briefings for breakfast Future water resources, retail competition and the Water Support scheme were among the topics on the agenda at two breakfast briefings for local stakeholders in May. Over thirty guests from local councils, residents associations and other community groups congregated at Banstead Downs and Reigate Hill Golf Clubs to hear presentations from Directors Anthony Ferrar, Jeremy Downer and John Chadwick. The briefings were part of our efforts to strengthen links with the local community and more are planned for the future. Top marks for education team! In July, our hardworking education team was awarded the Learning Outside the Classroom Quality Badge for the third time, proving they are top of the class when it comes to providing quality educational visits for children. Awarded by the Department for Education s Council for Learning Outside the Classroom, the accreditation acknowledges a qualified standard of learning and safety, and makes it easier for teachers to identify providers of quality educational visits. Training success for networks and engineering teams 22m upgrade for Woodmansterne treatment works September saw the start of a three-year programme to significantly redevelop and upgrade our Woodmansterne water treatment works in Chipstead. The 22 million due to be invested will help secure water supplies for our existing and future customers and includes the creation of a new soakaway lagoon on nearby land. Meetings took place with local elected representatives, residents groups, businesses and other stakeholders to explain and discuss the redevelopment project, and a drop-in was held for local residents to find out more about the works. Five employees (Martin Adcock, Lee Chatfield, Daryl Edge, Tony Harding and Andy Higgins) from our Wholesale Services team successfully completed their Level 2 Diploma in Water Engineering in August. Studied over 25 days, with training and assessment throughout the year, the 15 units covered a range of activities, from water mains and services tracing, to mains cleansing by flushing, and water leakage acoustic detection techniques. The group s achievement is an excellent example of how investing in and developing technical skills enhances career development and helps us build a stronger business. Bough Beech tour impresses visitors Over 60 specially invited stakeholders and customers were treated to a fascinating insight into the water treatment process at Bough Beech on 23 and 24 October The visitors were taken on a guided tour and shown how our recent 22 million investment has upgraded the works and increased output. Informative, enjoyable and very interesting were typical comments from the visitors. 150,000 water main scheme for Ashtead Meet Mizu! In November, work began on a 150,000 engineering project to replace the old cast iron water mains in and around a section of the A24 Epsom Road in Ashtead with a new tougher plastic pipe that is less prone to bursts and leaks. Now complete, this scheme forms just part of our investment programme to upgrade our network of pipes, pumping stations and water treatment works. A competition to name our e-billing character was held in December and gave all employees the chance to get their creative hats on! The winning name was suggested by Network Analyst Natasha Davidson who came up with Mizu pronounced my-zoo which is Japanese for water. Oscar the orangutan spearheads our latest water efficiency campaign Around 5,000 households in Worcester Park were invited to Join Oscar the orangutan in January as part of our latest campaign to encourage customers to use water efficiently. The cheeky primate appeared on promotional material to encourage customers to sign up for our free Home Water Efficiency Check. From finding and fixing simple leaks to checking flow rates and fitting suitable water saving products, the Home Water Efficiency Check is a brilliant way of engaging with our customers and saving them money. The programme, which is likely to be extended to other areas, is part of our overall water resources plan which aims to reduce household consumption by five litres per person per day by Good teamwork delivers excellent service to developers Hard work, collaboration and employees taking ownership of their part of the process that s what Wholesale Services Network Manager Damian Crawford attributed to our rise in the industry s Developer Services Level of Service rankings over the year. March s statistics put us in 2nd place out of 18 water companies, achieving industry targets 99.5% of the time a huge improvement on our result over the last year. April May June July August September October November December January February March Official launch for Water Support In April, our new Water Support scheme got off to a flying start with an official launch at The Belfry Shopping Centre in Redhill. Aimed at customers who struggle to pay their water bills, the scheme offers a 50% discount and is funded by an annual 2 contribution from non-eligible customers. In February 2016 we signed up our 5,000th customer reaching our target two months early. Magnificent seven raise 1,100 for WaterAid Steep inclines, rugged cliffs and battering winds were just a few of the challenges overcome by our seven-strong mountain climbing team when they took part in WaterAid s Mountain Challenge in June. After a full English breakfast and under sunny skies the team made it to the top of Pen y Fan in Wales to complete the challenge and raise a fantastic amount for the charity. 5,000 Households invited to join Silver award for Investors In People We ended the year on a real high by being awarded Silver after our Investors in People assessment. In fact, we very nearly achieved Gold a superb achievement for a first time assessment. The Silver standard, which defines what it takes to lead, support and manage people, has been awarded to fewer than 600 organisations in the UK, so we have joined an elite group of companies and can be very proud of our success. Overview Performance Report Strategic Report Governance Financial Statements

5 06 07 The UK Marketplace A rapidly changing industry is a period of fundamental change in the UK water industry 17bn 70% April 2017 The water industry in England and Wales is divided into ten regional water and sewerage companies (WaSCs) and eight regional water only companies (WoCs), of which Sutton and East Surrey Water is one. In addition, there is a number of smaller local appointed companies providing either water or sewerage services or both to small local areas. These regional companies are monopolies meaning that there is no choice in who provides the service. The industry was privatised in 1989 and the companies are now a mix of the publicly listed and privately owned. The industry is going through a period of change. The UK Government is committed to providing business customers with choice in who supplies their water and sewerage from April This year has seen a concerted effort from all sections of the industry towards establishing a new competitive retail market for eligible business customers. The regulatory environment The water industry in England and Wales is subject to a range of UK and European Laws. It is governed by, amongst others, the Water Industry Act 1991 (as amended) (WIA), the Water Act 2014, the Water Resources Act 1991 (WRA), the Water Act 2003 (WA) and related secondary legislation. Each regional water company holds a licence (or Instrument of Appointment) and is regulated through the conditions of that licence and the WIA. A water licence specifies the geographic areas served and imposes conditions on the licence holder which include limits on charges to customers. Sutton and East Surrey Water plc s licence was granted in 1996 following the merger of Sutton District Water plc and the East Surrey Water Company plc. Economic regulation Ofwat is the economic regulator of the water and sewerage sectors in England and Wales. It is responsible for ensuring that water companies provide a high-quality, efficient service at a fair price. Its main duties, as laid down in the WIA, are to protect consumer interests wherever appropriate by promoting effective competition; secure that the functions of water companies are properly carried out; secure that water companies are able (in particular by securing reasonable return on their capital) to finance the proper carrying out of those functions; secure that companies with supply licences (i.e. those selling to large business customers) properly carry out their functions; and further the resilience objective to secure the long-term resilience of water companies supply systems and secure they take steps to enable them to meet the need for water supplies. Its additional duties include promoting economy and efficiency on the part of water companies, contributing to the achievement of sustainable development and ensuring that no undue discrimination is shown by water companies when fixing charges and providing services. The water industry operates in five-year cycles known as Asset Management Plan (AMP) periods. For each five-year period Ofwat fixes the amount that water companies are allowed to charge their customers and sets the standards of service that each company must deliver. The latest package of price and services standards, known as Ofwat s Final Determination, was formally accepted by the Company in February This Annual Report reflects our performance in the first year of this new AMP period. This period presents some important and welcome changes to the regulation of the industry with an increased focus on delivery of the promises we have made to customers; more focus on longer-term objectives; and ownership of plans and performance by company Boards. Further information on how we have delivered against the promises we made can be found in our Performance Report on pages 10 to 21. The industry is also subject to a number of other regulations: The Drinking Water Inspectorate is responsible for assessing the quality of drinking water, taking enforcement action if standards are not being met and taking appropriate action when water is unfit for human consumption. The Environment Agency regulates licences for water abstraction and preserves and improves the quality of rivers, estuaries, coastal waters and groundwater, through pollution control powers and the regulation of discharge consents. The Consumer Council for Water s role is to provide information for customers and to promote the interest of all water customers. Giving business customers a choice From April 2017 eligible business customers will have the freedom to switch water and sewerage supplier. Much like the energy industry, these customers will be able to choose who provides them with retail services which cover billing and account management. Existing suppliers will continue to provide wholesale services to customers in their area. Wholesale functions include the abstraction, treatment and transportation of water from source to tap. Existing suppliers will also continue to provide all services related to the supply of water to households. It has been a busy year for the industry as it gets ready for competition in the retail market with a focus on getting the right systems, processes and governance in place for April Early in the year Market Operator Services Limited (MOSL), an independent body owned by parties that will operate in the new competitive market, was established. MOSL s role is to deliver the operational capability needed to support the efficient operation of the new market. This includes building the IT systems that will allow for customer registration, switching and financial settlement. As well as actively participating in the industry programme discussed above, we have been evaluating and updating our own systems and processes to ensure we are ready to operate in a competitive environment from 2017, and are able to meet the challenges industry change will bring. Overview Performance Report Strategic Report Governance Financial Statements Each day the UK water industry collects, treats and then supplies close to 17 billion litres of high quality water to domestic and commercial customers. Groundwater sources provide around 70% of the total water supply in London and the South East. 85% of our supplies are from groundwater sources. Eligible businesses in England will be able to choose their water supplier for the first time. Source: Water UK

6 08 09 Business Overview Meeting future challenges The environment we operate in is continually changing. In 2014 we reorganised into the structure you see on page 9 to allow us to better meet future challenges and continue to deliver the service our customers expect. This is the first year we are reporting on how we have performed against the commitments we made in our Business Plan for These commitments summarised as six key aims reflect our customers and stakeholders key priorities which they shared with us in the most comprehensive engagement process we have ever undertaken. Underpinning each aim is a set of performance measures on which our performance can be evaluated. Achieving our aims is a message now well embedded in every area of the Company. Our employee-focused Vision, Values and Aims campaign identified and defined the key characteristics and qualities we need to achieve our aims and put them at the heart of how we run our business. Our vision is a brief statement of what we want to be. Our values define who we are, guide our behaviours and underpin everything we do. They are the characteristics all our employees strive to display. All our employees contribute to achieving our aims and delivering our vision. Everyone has attended our comprehensive companywide cultural training initiative the Spring Programme. No individual or department is solely responsible and the programme is targeted at helping employees deliver service excellence both to our external customers and internally between departments. 18 months on we believe these changes have been a success. Our Performance Report on pages 10 to 21 highlights the great work our employees have done to deliver on the commitments we made to our customers. In some areas we know there is more we need to do. We explain where we have fallen short and how we are addressing this. The Company s principal office in Redhill This is only the first year of longer term commitments but already there are some great achievements and some areas where we have found that we need more focus to get to where we want to be. Delivery of these performance commitments also impacts on our financial performance. Where we do not deliver we may face a penalty and where we deliver greater improvements than planned we may receive additional funding. The financial impact of our performance will not crystallise until the end of the current five-year period. A summary of this year s forecast financial impact of our performance can be found on pages 100 and 101. This year has also seen an increase in activity as we prepare for retail competition for eligible businesses. Continuing to provide an outstanding service to all customers is the priority. Our programme of work has focused on making sure our systems and processes are able to interact with the market. This has included providing regular and independent assurance to Ofwat, the government and the market operator that demonstrates that our programme of work is on schedule. We are also actively working with Ofwat to finalise key pieces of policy design to help ensure that the market delivers the customer benefits intended. We will now be moving into the next phase as we look to increase the focus on employee training and communications in preparation for shadow operation where the market arrangements will be rigorously tested before April Our Vision To be an outstanding water company that delivers service excellence Our Values Service Integrity Innovation Commitment Collaboration Compassion Our four key functions focus on service excellence and strong governance Sutton and East Surrey Water plc Our structure allows us to focus on delivering our two frontline services wholesale and retail while keeping our core support functions together. Retail Services Responsible for customer service including billing, cash collection and answering customer queries. Jeremy Downer Retail Services Director, currently seconded to the role of Market Reform Delivery Director Key functions Household and business account management and billing. Business Support and Control Custodian of the key functions which support the work of the other departments. Human Resources John Chadwick Finance and Regulation Director and Company Secretary Key functions Finance, economic regulation, IT, communications, procurement, administration, property and facilities. Provides support on all employment issues across the Company. Anthony Ferrar Managing Director Independent expertise in an integrated team Wholesale Services Lester Sonden Wholesale Services Director Key functions Water resource management and planning, treatment, networks and capital delivery. Nicola Houlahan Quality and Compliance Director Key functions Water quality, health and safety, quality assurance, environmental regulations, risk management and compliance. Sarah Brown HR Manager Responsible for delivery of water from source to tap including maintaining a sufficient water supply and reducing leakage. Quality and Compliance Oversees the externally accredited quality and environment systems that the Company uses in all its activities and provides independent internal assurance including on health and safety matters. Overview Performance Report Strategic Report Governance Financial Statements Read more about our Values in Action on page 28

7 10 11 Aim 1 To provide a reliable and sufficient supply of safe, high quality drinking water Network resilience We significantly improved our performance on supply interruptions this year and beat our target by reducing average time off supply to 6.3 minutes per property. Our regulatory target is calculated by measuring the length of time that a customer has lost supply for, where this has been for more than three hours, and dividing by the total number of properties in our supply area. The Company and our customers will benefit from additional funding because we have beaten our target provided we continue to outperform for the next four years. Only 5,780 properties had their supply interrupted for three hours or more with 80% of those customers having their supply restored within six hours. Planned supply interruptions are necessary so that we can improve the long-term resilience of our network by replacing aging pipes or fixing leaks. We have been investing in techniques such as line-stopping and freezing of hydrant branches to reduce the number of interruptions required only 59 properties had a supply interruption of greater than three hours due to planned activity. The majority of interruptions greater than three hours were due to unplanned activity which cannot be predicted, such as repairing bursts on our network. Highlights Supply interruptions 60% better than target Burst mains 25% less than expected Just three water quality failures at customers taps The number of bursts is a key measure of the general health of our network. We are pleased to report that we had only 212 bursts this year which is well below our challenging target. This is as a result of carefully managing the pressure on our network and our continued investment to replace aging pipes which are more susceptible to bursts. The mild weather this winter helped us meet our targets as cold weather increases the stress on the network, which in turn increases the likelihood of bursts. Water quality Our drinking water quality performance reflects just three failures of water quality standards out of a total 10,500 water quality checks carried out over the year. These failures were all a result of the presence of lead or nickel in the water samples taken at customer taps which exceeded the standards set by the Drinking Water Inspectorate and all were influenced by the condition of the customer owned pipework or fittings rather than the mains water quality. We continue to promote the industry produced guide Looking after water in your home which contains simple tips to help our customers protect the high quality of water we deliver to their home from regularly cleaning taps to ensuring that a WaterSafe registered plumber is always used. The quality of the water leaving our treatment works and service reservoirs remained impeccable with 100% compliance on all tests carried out. We received more contacts from customers about the taste, odour or discolouration of their water than we expected. The majority, 331, related to discoloured water. We will receive a financial penalty because we failed to meet our target for this measure. The value of the penalty will be agreed with Ofwat, but will not be applied until If performance over the next four years improves and we are able to beat our target, then the penalty may be reduced. We have put in place a number of measures aimed at reducing the cause of taste, odour and discolouration enquiries. For example, we have a wealth of water quality advice on our website; we are reducing the number of mains we need to shut down when work is carried out; all our network technicians continue to check the appearance of water (for cloudiness or haziness) before a main is put back into supply; and we are making sure we keep our customers informed when we carry out work in their area which may cause some temporary but harmless change to the water they receive. We also believe that some 15% of the contacts we received were as a result of disruption to the network caused by illegal use of our water hydrants. We have successfully prosecuted a drainage contractor for persistent use of our hydrants without the proper equipment. Water softening Around 85% of the water we supply comes from underground sources. In our area this groundwater is naturally hard. We have a legal obligation to partially soften our water. This year we started a five-year 22 million investment programme to upgrade our Woodmansterne water treatment works so that it can supply greater quantities of softened water to meet the needs of a growing population in our supply area. The project is on schedule to be completed by March Security of supply The security of supply index is a way of monitoring the resilience of our water resources so that they are able to meet customers demand. We have maintained our index at 100% for both an average dry year and a critical period of peak demand. Our investment programme including increased capacity at our water treatment works and provision of critical new mains help ensure the continued resilience of the network. Our measures MEASURES Supply interruptions over three hours Number of bursts Overall water quality Taste, odour and discolouration contacts Water softening Security of supply index PERFORMANCE IN minutes Actual Target 212 bursts Actual Target 99.95% Actual Target 419 contacts Actual Target Delivery on schedule Actual Target 100% Actual Delivery on schedule Deliver programme TARGETS BY 2020 No more than 12 minutes per property Less than 290 in a year 100% Less than 350 contacts in a year Deliver our softening programme Maintain 100% compliance Overview Performance Report Strategic Report Governance Financial Statements Target

8 12 13 Aim 2 Offer good value for money and keep bills at a fair and reasonable level Highlights Target for customers helped by our Water Support tariff achieved two months ahead of schedule 91% of customers consider bills affordable compared with a target of 85% Cost of bad debt just 0.75% of turnover 25% lower than target Supporting our customers We offer a range of services to help customers that find themselves in vulnerable situations including those struggling to pay their water bill. This year saw the official launch of our Water Support tariff aimed at helping those customers suffering serious financial hardship. It provides a 50% discount on the bill to households that receive certain meanstested benefits and have an income below a defined threshold. We exceeded our target by providing financial support to 5,686 customers and continue to welcome more customers on to the scheme. The discount is funded by a 2 annual contribution from all other household customers. The majority of water companies now operate a support tariff that follows guidance from the government. We took the decision to include the amount on each bill to be transparent about the contribution our customers make to support those in financial hardship. The Consumer Council for Water, the independent body that represents all water consumers, has praised us for this initiative. Our measures MEASURES Customers on our Water Support tariff Perception of value for money Bad debt as a percentage of turnover PERFORMANCE IN ,686 Actual Target 9.0% Actual Target 0.75% Value for money and affordability The average household we supply spends just 50p a day on its water supply. This goes towards not only running the day-to-day operation of the business but also investing for the long-term so that high quality drinking water keeps on flowing for future generations. More information on what the 50p is spent on can be found on page 1. We carry out a regular survey of a random selection of customers to get their views on a range of issues, including overall satisfaction with the service we provide, value for money and affordability. Just 9% of customers consider that their water bill is not good value for money and a similar percentage feel the bill is unaffordable. We offer a range of options to support those genuinely struggling to pay their bills. This includes debt advice, payment plans and the Water Support tariff. Customer debt Bad debt is the cost of water charges that we are unlikely to be able to collect. We aim to keep the level of bad debt at less than 1% of turnover meaning we will continue to have one of the best collection records in the country. We work hard to ensure that those that can pay do so, and those that are struggling to pay are supported. For example, those that previously may have found themselves in debt to the Company may now benefit from our Water Support tariff. Those that are in debt can also apply for our restart scheme or have payments automatically taken direct from their welfare benefits. We were pleased to be able to keep the cost of bad debt to 0.75% of turnover in the year 25% better than our target. 5,686 5, % <15% Actual 0.75% Target <1% TARGETS BY 2020 At least 5,000 Less than 15% of customers dissatisfied Less than 1% of turnover Overview Performance Report Strategic Report Governance Financial Statements

9 14 15 Aim 3 Increase the resilience of our network to drought, flooding and equipment failure Highlights No supply restrictions Good progress with building a more resilient network 6,333 new water meters installed Water supply and restrictions We have had no restriction on the use of water this year. At the start of the year water levels were around average. It was a mixed year for rainfall with a relatively dry spring, wet August and below average rainfall through the autumn. We ended the year with rainfall significantly above average from January to March. Rainfall in March was 198% higher than the long-term average. This means that water resources are healthy going into the next peak period of summer demand. To see up-to-date information on rainfall and water levels, look for Rainfall and Resources on our website, Building a more resilient network We are extending and upgrading our mains network which means customers will face less disruption if we experience a major event, such as a repeat of the flooding which almost put our Kenley water treatment works out of action in early In March 2015 we reached the closing stages of a strategic project to install 17km of mains pipeline from Outwood reservoir to Buckland pumping station to improve the resilience of the supply in the area. This year we started to design more major mains pipeline upgrade projects across the area with a total planned investment of 10 million. These improvements in our network of mains pipelines will allow us to reach our target of increasing the number of properties able to be supplied by more than one treatment works to 56% by Investing for the long term We operate in a region which is classified as being in serious water stress. We have a growing population and limited water resources. Our Water Resources Management Plan details what we plan to do over a 25 year period to ensure that we can continue to meet demand in the most efficient way available. This looks at, amongst other factors, the environmental impact and cost of the options available. We are an active member of the Water Resources in the South East (WRSE) group which has a remit to determine a regional water resources strategy that meets our customers needs while continuing to protect the local environment. This allows us to look at options beyond our own boundaries such as supplying water to neighbouring water companies or taking water from their area when we need it. So what are we doing to ensure the long-term availability of high-quality water? We are working to reduce the amount of water per person that we need to take from the environment by: Installing water meters to help customers manage their own demand. This year we installed 6,333 meters; Reducing leakage year-on-year through operational improvements, such as pressure management, and replacing mains that are in a poorer condition. Read more on page 19; and Our measures 6,333 New water meters Targeted water efficiency campaigns to give customers the information they need to make choices about how they use their water. We are also investing over the next 25 years to ensure that the demands of a growing population can be met by: Increasing treatment capacity at existing sites; Developing new boreholes to allow us to abstract water from underground sources; and Increasing our ability to transfer water between areas by constructing new trunk mains. Overview Performance Report Strategic Report Governance Financial Statements MEASURES PERFORMANCE IN 2016 TARGETS BY 2020 Water restrictions 0 Less than one in ten years Actual 0 0 Target Building a more resilient network 36% Actual Target 36% 36% At least 56% of properties supplied by more than one water treatment works

10 16 17 Aim 4 Deliver consistently high levels of service Highlights Extended opening hours in our customer contact centre Over 30,000 customers signed up to paperless billing Service improvement plan implemented Customer satisfaction with the water service We carry out a regular survey of a random selection of customers to get their views on a range of issues, including overall satisfaction with the service we provide, value for money and affordability. Satisfaction with the overall water service remains high. This measures satisfaction with the continuity of supply; pressure; colour; taste and smell; and hardness. 91.5% of customers surveyed were satisfied or very satisfied with the service. The hardness of the water, while not the most important attribute according to our customers, is the area that generates the least satisfaction. We soften our water which predominantly comes from underground sources that are, in our area, naturally hard. This year we started a 22 million investment project to upgrade and improve our softening capacity which will help meet our customers expected service standards. Customer experience The Service Incentive Mechanism (SIM) was introduced by Ofwat, the economic regulator for the industry, in It allows performance to be compared across water companies in England and Wales. It has been through a number of changes since 2011 meaning yearon-year comparisons cannot be made, but it still remains the key measure of our household customers satisfaction with the service they received when they contacted us. It has two components: A quantitative measure which counts the number of unwanted phone contacts, written complaints, escalated complaints and investigations of complaints by the Consumer Council for Water, an independent body representing consumers; and A qualitative measure which is based on a survey of customers experiences when they have had contact with us. Our final SIM score for this year was 80.8, calculated using the two measures listed above, which was significantly below our target. Our performance was particularly impacted by the results of the survey of customers experience when they needed to contact us, where our performance is disappointingly below the industry average. This year we have faced challenges in always being able to provide the customer experience we aim to deliver. Customers are very satisfied with the water service they get but are saying that there is more we can do when they find they need to contact us to discuss their bill, let us know of a change in circumstances or requirements (such as a change in address), or because of an operational incident. We are working to improve our customers experience. The improvements we have put in place include: Making it easier for customers to stay in touch with us by extending the opening hours of our contact centre. You can now call us from 8am to 7pm on weekdays and between 8.30am and 12.30pm on Saturdays; Offering alternative and more flexible ways for customers to manage their accounts. Our paperless e-billing service, which launched in February 2015, continues to prove popular with customers with 30,000 customers now signed up; When working in an area pro-actively contacting customers we may impact; and Reviewing our processes to make sure they provide the smoothest possible experience for our customers. Our measures MEASURES Customer satisfaction with the water service Service Incentive Mechanism (SIM) score PERFORMANCE IN % Actual Target 80.8 Actual Complaints The number of complaints we received was higher than our target. A total of 2,794 complaints were addressed in the year which equates to 10 complaints per 1,000 properties. We present the information per 1,000 properties so that our performance can be compared with other water companies of different sizes. Our performance on complaints is not good enough and reflects the challenges we have referenced. Our improvement plan is also targeted at limiting the occasions where customers have reason to complain. 91.5% 89% TARGETS BY 2020 At least 91% 88 or more points Overview Performance Report Strategic Report Governance Financial Statements Target Number of complaints (per 1,000 properties) or less Actual Target

11 18 19 Aim 5 Reduce our impact on the environment while seeking to make a positive contribution to its quality Highlights Leakage once again better than target Environmental education programme reaches 66% more people than target Greenhouse gas emissions achieve year-on-year reduction Leakage Leakage is a measure of the water lost between the treatment works and customers taps. So it includes water lost due to leaking pipes that are customers responsibility as well as the leaks on the pipes that are the Company s responsibility. Managing leakage is one of our customers top priorities and therefore a key area of focus for us. We are pleased to report that at megalitres per day (Ml) our leakage is below the target for this year and we have committed to reducing this further each year. We continue to be one of the top performing water companies in the country for leakage management. We manage leakage in a number of ways, including: We manage the pressure on our network. A calm network means pipes are less likely to burst thereby reducing the resulting leakage from our mains. We repair or replace mains pipelines in poorer condition. We base our decision on whether to replace or repair on detailed analysis of the condition and performance of each section of mains pipeline. We have leakage detection teams out on the street every day. They have special listening devices that allow them to hear where a leak might be. We aim to fix all visible leaks quickly and provide support to customers to help them fix leaks in their own pipes. Not all leaks can be prevented, but by fixing them quickly we limit the amount of water lost. Environmental education We are a firm believer that education helps both children and adults to see the way they use water in a different light and leads them to make small changes in their daily lives that will benefit the environment. Our education programme continues apace with a fantastic 13,314 children and adults attending one of our education events. Over the year we have taken nearly 5,000 people round our reservoir and upgraded treatment works at Bough Beech; given over 2,000 environment-focused talks to children; presented to over 4,000 children at school assemblies; and challenged nearly 2,000 people to see if they can tell the difference between tap water and bottled water. All the hard work paid off and the team was again awarded the Learning Outside the Classroom Quality Badge by the Department for Education. So if you haven t yet had the chance to join us for one of these events, get in touch or search for schools educational programme on our website. Customer usage reductions through metering Customer usage, measured as consumption per person per day, decreased slightly from litres per person per day (l/p/d) to l/p/d, meeting our annual target of l/p/d. This is despite not meeting our planned level of meter installs, which is based on the number of customers moving home or requesting a meter. We installed 6,333 meters against an annual target of 6,400 meters. Some adjustments were made to the input used this year to calculate customer usage: empty property numbers were retained at the level due to a delay in processing new accounts; operational usage increased due to increased flushing related to an event in the Coulsdon area; and a more detailed calculation of process water usage at our water treatment works. Greenhouse gas emissions The water industry is a significant user of energy due to the amount of electricity needed to pump and treat water. Our greenhouse gas emissions this year totalled 470 kgco 2 eq per million litres of water delivered. Due to changes in carbon accounting rules the figure is not directly comparable to last year or the basis on which the target was set. Using the same Our measures MEASURES Leakage Environmental education programme Customer usage reductions through metering Greenhouse gas emissions Pollution incidents PERFORMANCE IN Ml/day Actual Target 13,314 people Actual Target litres* Actual Target 470 kgco 2 eq/ml Actual Target 2 approach as prior years shows that we have again reduced our emissions. We are committed to continuous reduction of our carbon emissions. Our energy policy and associated environmental procedures provide a framework for targeting energy efficiency measures where they can produce the most value. During the year we carried out Energy Savings Opportunity Scheme (ESOS) audits and other internal audits which identified where further reductions could be achieved. We will investigate which opportunities are likely to drive the greatest benefit and put these into practice in 2016/17. Pollution incidents Minimising our impact on the environment is a key aim of the Company. Our performance in this respect is good and in 2015/16 we only had two minor incidents reported by the Environment Agency. The first incident was as a result of a small quantity of clean water from a burst main entering a local stream; and the second related to additional silt in a local stream arising from our processes to recover as much water as possible from the solids removed from raw water by our treatment processes ,314 8, TARGETS BY 2020 No more than 24 Ml/day Reach over 10,000 people in a year No more than litres per person per day No increase in emissions per litre of water supplied No incidents Overview Performance Report Strategic Report Governance Financial Statements 2 0 Actual Target * Per person per day

12 20 21 Overall Aim Continue to be a well-run, respected and successful business Highlights Substantial increase in employee engagement and overall satisfaction Strong community engagement Credit rating upgrade Employee satisfaction Each year all our employees have a chance to participate in an independent survey about what they think of the Company as an employer. This year s results show a very pleasing increase in overall satisfaction from 70% to 77%. The survey gives everyone a chance to express their views anonymously to senior management and an opportunity to feed views into the Company s plans. Every employee has an essential contribution to make if we are to deliver on the commitments we have made to our customers. That is why this year we have provided training and support under our Vision, Values and Aims campaign (more on this on page 8). Survey results show a 16 point increase in awareness of the Company s objectives which helps enormously in giving each individual the tools they need to achieve our vision to be an outstanding water company that delivers service excellence. Community engagement We are a local company and are proud to have served the community for over 150 years. This year we have donated over 9,000 to support local communities. We take every opportunity we can to partner with local organisations. For example, we are fundraising to help Macmillan Cancer to build a new support centre in East Surrey by donating 1 for every new customer that signs up for our e-billing service. Our operational sites also serve as local amenity areas for the public providing open spaces and fishing facilities. Kent Wildlife Trust also run a nature reserve at our reservoir at Bough Beech. The Company s Give-a-Day scheme has been running for a number of years and provides an opportunity for employees to go out into their communities and use their skills to help others. This year 21 employees gave up a day for a range of local charities including supporting Headley Court, a rehabilitation centre for armed forces personnel who are recovering from injury or illness. Our long-standing support for WaterAid, the water industry s international charity continues. It aims to transform lives by improving access to safe water, sanitation and hygiene. Through a number of initiatives, this year we raised 20,150 to help them deliver their mission. In addition to our successful environmental education programme (see page 19), our education team has been busy this year promoting the benefits of drinking water with two talks. One aimed at primary school children, the other aimed at adults, particularly the elderly. A Living Without Safe Water talk, which tells the story of our two employees who visited projects run by WaterAid in Bangladesh and Uganda, has also been given to a number of schools in our area. Health and safety The health and safety of our employees, contractors and the public is of the utmost importance to us. We comply with all relevant regulations set by the Health and Safety Executive. There were seven lost time accidents this year which is an increase on last year but all would be classified as minor injuries. We take any shortfall from the standards we set ourselves very seriously. We continue to ensure all staff attend relevant training and have in place a formal system of risk management, which allows all employees to report potential hazards which can then be rectified before causing any harm. Financial health Delivering our continuing investment programme whilst holding down the price we charge our customers means that we need to maintain our ability to borrow money at competitive rates. We will only do this in the longer term by demonstrating that we are able Our measures to manage our finances in a reliable and secure way building confidence that we are a low risk and safe investment. Achieving our annual budget is one important indicator that our finances are well managed. Both the profit we generated and the level of investment it enabled were better than budget in the year. In addition, we have made commitments to the investors who made 100 million available to the Company when we issued our indexlinked bond in Complying with these financial covenants is essential if we are to retain the confidence of investors. Despite the real price reductions for customers in 2015/16, we still remained compliant with these covenants. Finally, our financial health is kept under scrutiny by two independent credit rating agencies, Moody s, and Standard and Poor s. We were pleased that in the last year Standard and Poor s converted a positive outlook on our credit rating into a formal upgrade, bringing their assessment of our financial health into line with that maintained for a number of years by Moody s. The Company therefore now enjoys two independent assessments of its financial health as comfortably within the investment grade required by our Licence. MEASURES PERFORMANCE IN 2016 TARGETS BY 2020 Employee satisfaction Community engagement 77% Actual Target 9,010 Actual Target 77 >70 9,010 8,750 Improve employee engagement scores each year Increase support to local charities and community initiatives Overview Performance Report Strategic Report Governance Financial Statements Health and safety (lost time incidents) 7 Actual 7 2 No more than two accidents in a year Target Financial health Achieved Achieve our budget Actual Achieved Target Achieve budget

13 22 23 Operating and Financial Review The dawn of a new Price Control Period coincides with an exciting new era in our history as we prepare for retail competition in the business sector in April We could not have delivered the successes described in this report without the loyalty and experience of our employees. Anthony Ferrar Managing Director Together we re moving forward A new five-year Price Control Period The first year of the new Price Control Period has seen us focus on two main priorities: keeping the promises we made to our customers in our Business Plan for the years ; and preparing for competition in the business sector from April. I m glad to report that significant progress has been made in both areas, and we are in a strong position to move the Company forward during 2016/17. Keeping our promises to our customers As documented earlier in this Annual Report, the Business Plan and funding agreed with our economic regulator, Ofwat, for the five-year period requires us to deliver on a number of commitments to customers while keeping our prices affordable. Meeting operational efficiency targets, delivering our significant investment programme and maintaining high levels of service and quality within the allowed price limits is a delicate balancing act. We are determined to succeed and, motivated by the vision, values and aims we introduced in 2014, we have made significant progress over the past twelve months. Progress against our six aims Our Business Plan was put together after extensive public consultation and made a number of promises to our customers focused around delivery of six aims. The Performance Report on pages 10 to 21 outlines how we have performed by describing in more detail the measures by which we assess our performance. These measures have become the central focus of the Company s monthly reporting to the Board, and have been shared with every employee in a booklet, Our Shared Targets, which focuses on what each individual can do to help achieve them. To engage employees further, we have also introduced an employee bonus scheme, with a financial reward for each of six key targets met. By making a greater effort to work effectively together, we have met four out of the six targets in our employee bonus scheme. The exceptions were Health and Safety, where we suffered seven lost time injuries and customer service, where our Service Incentive Mechanism (SIM) score improved but fell well short of our target of More than half the lost time accidents related to back injuries and we are working hard to ensure training and awareness is as high as it can be. As regards customer service, while I am delighted that 91% of customers surveyed are satisfied with the service they receive, I am disappointed that we fell short of our SIM target of 85.6 (actual score 80.8). This was partly due to staff shortages in our Contact Centre following the retirement of a number of experienced employees, combined with challenges in finding replacements in an area of relatively high employment. We are determined to improve our customer service this year and have already put the foundations in place with a successful recruitment campaign, an intensive training programme for new recruits and a dedicated customer relations team to respond to customer enquiries. Meanwhile, we made notable progress in a number of other areas. Last autumn saw us embark on our biggest capital investment project to date, the 22 million upgrade of Woodmansterne water treatment works, which when complete will increase the effective output of the works by 50%. In addition, we enjoyed considerable success in signing up customers to our new Water Support tariff, which offers those in genuine financial difficulty a 50% discount on their water bills. We met our target of signing up 5,000 customers two months early and by the end of March, the figure had risen to 5,686. This will undoubtedly reduce our bad debt levels, which will help us stay well within our target of always being below 1% of turnover. Innovation takes centre stage We cannot be complacent when we have set ourselves such challenging targets. We are therefore putting innovation right at the heart of our business. We have made an excellent start by appointing an Innovation Manager, who, supported by our IT Manager, is charged with exploring the ground-breaking ideas and technologies that can really make a positive difference to the way we operate. The results so far have been impressive. Starting with IT and new technology, no fewer than 17 improvements have been made across the business and an Innovation Hub has been set up at our office in Redhill to encourage employees to try out new devices and software programs. A number of employees have also travelled to Japan on a fact-finding trip to see what innovative techniques we can learn from our shareholders, Sumitomo Corporation and Osaka Gas. Our dedicated employees We could not have delivered the successes described in this report without the loyalty and experience of our employees. I was delighted that our latest Employee Engagement Survey revealed an impressive increase in the level of satisfaction with the Company as an employer to 77%. We believe this is partly due to our focus on leadership and communication; all those with management responsibilities including team leaders, senior managers, and executive directors have attended leadership workshops aimed at creating the conditions for success. All remaining employees participated in two separate half-day service excellence workshops during the year. In September, we also signed up to the Investors in People programme, a nationally recognised framework for improving performance through people. Following an in-depth assessment by external specialists, we were delighted to be awarded a Silver standard and were just eleven points away from gaining Gold a superb achievement and one we intend to build on during the next twelve months. We continue to recognise exceptional individual and team achievement through our monthly MARK Awards, which stand for Make it a wow, Always be positive, Right first time and Keep our promises a useful reminder of the high standards we are aiming for. Employees are also invited to participate in our ERIC Scheme Employee Realistic Ideas Capture which aims to encourage and reward ideas on how we can improve efficiency, equipment and working conditions, reduce or eliminate waste and prevent accidents. Now in its sixth year, the scheme generated 74 ideas this year, all of which have been considered and a substantial number actively progressed. The Employee Engagement Forum continues to play an important role in updating employees on business developments and encouraging feedback on our plans. We also communicate via regular department meetings and our internal magazine, which aims to support the vision, values and aims introduced in In order to promote a greater sense of teamwork throughout the business, we have continued to run company-wide social events throughout the year, bringing together employees from different parts of the Company who would not normally meet. Further customer engagement Our Business Plan for was put together after our most extensive ever consultation with stakeholders, including our Customer Challenge Group, and we are keen to retain that level of engagement going forward. Over the past year, we have hosted stakeholder briefings and open days at our Bough Beech water treatment works and locally at our office in Redhill. The feedback was excellent, with the majority of attendees reporting that they found the briefing interesting and useful. Further public briefings are planned to enable us to maintain a valuable dialogue with our stakeholders as we take the business forward. Having performed a very valuable role in helping us set our aims, our Customer Challenge Group (CCG) has now been given a new focus and a new name. The Customer Scrutiny Panel (CSP) is charged with actively monitoring our progress against our aims and contributes independent advice, scrutiny, challenge and support. Chaired by Graham Hanson, a local member of the community, the CSP meets quarterly and is made up of former members of the CCG and new members who bring fresh perspectives of their own. Overview Performance Report Strategic Report Governance Financial Statements

14 24 25 Operating and Financial Review Continued Water resources update After the extreme weather events of the past few years, I m pleased to report that 2015/16 was relatively uneventful weather-wise. We started and ended the year with groundwater sources at the expected level and our Bough Beech reservoir full. Our customers demand for water was higher than in the previous year, and the highest demand in any one day last summer was Ml, nearly 40% higher than the average for the year. Healthy resources, full treatment capacity and a well-maintained distribution network meant that we continued to be able to meet customer demand comfortably. Our average demand for the year was 161 Ml/d which is less than 2% higher than the previous year. Looking towards the future, our current Water Resources Management Plan sets out the Company s 25-year plan for balancing supply and demand until The plan demands that we take a twofold approach to balancing supply and demand. This means controlling leakage and managing demand through water efficiency and metering initiatives. In the near-term we can provide more water than our customers need and this year we started a project that will allow us to share surplus water with our neighbouring water company, South East Water. This benefits customers of both companies by improving the resilience of the water network in the South East of England. Population in our supply area is forecast to increase and therefore our plan also includes providing additional resources by increasing treatment capacity at our Woodmansterne water treatment works, and carrying out a small number of minor source enhancements. In the longer term, we are looking at increasing the capacity of the Bough Beech reservoir to ensure we have sufficient resources to meet future demand. The process to update our Water Resources Management Plan for the period is already under way, and will describe the measures proposed for meeting further growth in demand from new consumers while also protecting the environment. We are an active member of the Water Resources in the South East Planning Group (WRSE) and are working closely with other water companies and the Environment Agency to consider the options and opportunities for sharing resources across the South East region. Preparing for competition in the business sector The Company has made steady progress with preparations for a new competitive market for all business customers from April We have established a well-governed programme to ensure that our Wholesale business will be ready to comply with the requirements of the industry-wide market operator, while also forming a new retail business to capitalise on the opportunities that a competitive market will offer. We have invested in our relationship with our largest customers, from whom we have secured long-term commitments and, under a new licence, our sister company, Sutton and East Surrey Water Services (SESWS), has started to win customers outside our existing supply area. SESWS has also obtained a licence to extend their service offering to Scotland, where a competitive environment already operates, and anticipate gaining invaluable experience before the market opens in England. Other regulatory matters We have continued to work constructively to progress other regulatory changes aimed at benefiting our customers. We welcomed Ofwat s early consultation on key issues for the Price Review but have concerns about the way in which the move to the use of CPI in place of RPI will be managed. We look forward to having clarity on areas that can be settled at an early stage. We have also welcomed Ofwat s reinstatement of an annual report on the financial performance of the sector, while constructively challenging some details of the proposed approach. Ensuring that the distinctive characteristics of the water only company are taken into account in developing the regulatory regime remains a priority. Financial performance Turnover remained unchanged at 63.0 million (2015: 63.0 million). Operating costs increased by 9.4% to 42.9 million (2015: 39.2 million) as the Company invested in new capabilities to deliver on commitments made to customers. As a consequence, operating profit fell by 3.7 million to 20.1 million (2015: 23.8 million). Interest charges fell by 20% to 7.9 million (2015: 9.9 million) largely as a result of lower inflation reducing the indexation charge on our 100 million index-linked bond. Interest receivable and similar charges generated 0.7 million (2015: 0.9 million). As a result, profit before tax fell by 0.5 million to 14.3 million (2015: 14.8 million). Reductions in future rates of corporation tax reduced the provisions we need to make for tax payable in future years, creating an accounting tax credit for the year of 0.4 million (2015: a charge of 4.4 million). Capital investment The Company has continued to invest heavily in new plant and infrastructure, with 18.1 million invested (2015: 21.1 million) as we begin a new five-year investment programme. In the autumn, we began work on our biggest ever capital investment project the 22 million upgrade of Woodmansterne water treatment works and had invested 1.5 million by the end of the year. Also included in this year s investment was 5.8 million on the ongoing replacement of pipes within our distribution network, selected according to their age, condition and performance, as a contribution to maintaining our underground network in a stable operating condition. An additional 2.5 million was invested in the network during the year, including 1.1 million in mains to serve new developments and 0.6 million on lead pipe replacement. Of the remaining 8.3 million, 6.0 million was invested in replacing other assets coming to the end of their useful life, including plant and equipment at our water treatment works, pumping stations and boreholes as well as on replacement vehicles and computers. 1.8 million was invested in our continuing metering programme, and 0.5 million on completion of enhanced security and other protective measures at our key operational sites. In association with a neighbouring water company, we have instituted a strategic procurement review to reduce the number of suppliers we use and maximise the proportion of works, goods and services we buy through centrally negotiated agreements. We are confident that this will make a big difference to our future efficiency. On a similar theme, we have been through a major competitive tendering exercise to renew our principal infrastructure services contract for the next five years (with an option for a further five-year extension). Future challenges Whilst we have made significant progress on delivering our aims for the five years to 2020, we need to maintain momentum and improve our customer service performance. Good progress is being made in meeting our own efficiency targets by achieving savings to offset inflationary pressures and unavoidable cost increases, without jeopardising the quality or security of service to customers. We have reduced our exposure to increases in market prices for electricity, and have crystallised savings through purchases for future years. We have also agreed a framework for pay awards for employees for the whole of the current five-year period based on the RPI used to fix our prices. Externally driven costs, including the cost of making changes needed to compete in a future competitive market, plus essential works we need to undertake on the highway, adversely affect our performance and profitability, and we keep them under constant review to minimise their impact. Net debt Net debt for the Company at 31 March 2016 rose by 1.4 million to million (2015: million) including 30.0 million (2015: 27.5 million) drawn down under new facilities with the Royal Bank of Scotland. The carrying value of our 100 million index-linked bond was increased by 2.0 million due to the link to RPI (2015: 4.1 million). Cash and liquid resources increased by 3 million during the year (2015: 0.8 million). The level of gearing is a key ratio under the covenants associated with our index-linked bond and is measured by the ratio of net indebtedness to Regulatory Capital Value (RCV). The RCV is indexed by movements in RPI and therefore this provides a hedge as our debt is predominantly index-linked. The ratio as defined by the bond was 78.0% (2015: 78.0%) at 31 March Pensions The Company is a member of the Water Companies Pension Scheme (WCPS), details of which are disclosed in the Financial Statements under the requirements of IAS 19(R). A net pension scheme asset of 23.8 million (2015: 19.2 million) is included in the balance sheet. The last funding valuation was carried out by the pension scheme trustee at 31 March Acturial valuations are required to adopt more conservative assumptions than those used for accounting purposes, and the valuation indicated a small deficit in our element of the fund of 1.9 million. The Company has agreed with the pension scheme trustee s proposal that contributions to the deficit be continued at the rate agreed under the previous actuarial valuation (at March 2011), which will be sufficient to eliminate the current deficit by the end of April Anthony Ferrar Managing Director 5 July 2016 Overview Performance Report Strategic Report Governance Financial Statements

15 26 27 Managing our Risks Risk management is embedded in the culture of the business, and the Company views the careful management of risk as a key management activity. It maintains a formal register in which risks are recorded, assessed and ranked in terms of likelihood of occurrence and severity of impact. Each risk is owned by a named senior executive. Risk Operational Water supply shortage Water quality failure, including by deliberate acts Major burst Cyber attack Regulatory Failure of economic regulation Competition for business customers Effect Customer demand not met Poor quality water supplied to customers failure of statutory duty Damage to third party property Interference with operational controls Loss of personal data Insufficient funding for Company to fulfil its duties Loss of customers Impact before mitigating actions Mitigations Detailed water resource management planning Maintaining ability to treat peak demand at water treatment works Improving resilience and flexibility of network Protection of assets from risk of flooding Customer metering policies Water efficiency education and communication programmes Customer consultation for long-term business planning Security measures on all sites Detailed control procedures for all treatment and network activities Automated controls on treatment processes 24-hour manned Control Room Extensive sampling regime In-house quality accredited laboratory Targeted long-term mains replacement programme Network operating procedures Ability to isolate damaged network and re-route supplies Experienced staff and contractors on 24-hour standby arrangements Insurance policies covering third party liability Clean-up and remediation contractors engaged Multiple layer security Controlled access to Company systems Participation in expert forums Regular testing of security measures Staff awareness training Stable and transparent regulatory regime Detailed business planning process, including customer consultation Strong regulatory focus for management Effective relationship with regulator External assurance for key regulatory submissions Appeal mechanism available for key regulatory decisions Contingency plans developed Formal 'market readiness' programme Dedicated resources Independent assurance Active participation in market development Strong relationship with key customers New service offer in development Impact after mitigating actions This register also acts as a means of monitoring the effectiveness of mitigating actions. The Audit Committee reviews the register twice a year and reports to the Board on its reviews. Risks are grouped under four main headings operational, regulatory, financial and people and take into account financial and reputational impacts. The principal risks that the Board considers affect the Company at present are shown below. This is not intended to be a comprehensive analysis of all risks and may change over time. The way in which some of these risks have manifested themselves, and been mitigated, in the report year is described in other sections of this report. Financing Increase in borrowing costs breaches financial covenants High Impact Low Impact Risk Effect Impact before mitigating actions Mitigations Financial Failure of billing system Cash collection rates People Temporary loss of large numbers of staff Failure to recruit or retain high quality staff Temporary loss of revenue Loss of revenue and increased collection costs Failure of normal business operations Degradation of service to customers and business success Magnitude of impact and likelihood of occurrence Low Likelihood Debt exposure linked to increase in regulatory capital value of business Ring-fenced accounts funded to ensure compliance Governance arrangements for monitoring forecast covenant ratios Detailed treasury controls at key measurement points Independent audit of key covenant ratios Pension deficit monitoring in place Stable billing system supported by experienced system provider Detailed controls for any changes to system or environment Full disaster recovery arrangements in place and tested annually Adequate liquidity for temporary loss of billing capability Affordability testing of future prices Variety of payment options offered Discounts available for genuine financial difficulties (including a Water Support tariff) Experienced collections staff with detailed local knowledge Mixture of field-based employees and external legal advisors to optimise collection performance Health benefits including flu injections offered to employees Staff consultation and engagement to avoid industrial action Health and safety given priority at highest level in the Company Cross-training and flexible working practices across functions Annual disaster recovery exercises Industry mutual aid arrangements Competitive employment conditions and employee benefits Regular appraisals and staff recognition schemes Commitment to staff training and development Employee engagement surveys and forums High Likelihood Impact after mitigating actions Overview Performance Report Strategic Report Governance Financial Statements Regulatory compliance Compliance failure leads to reputational or financial damage Stable, experienced management team Adequate resourcing accorded priority Well-established procedures for ensuring compliance Internal governance hierarchy Independent external assurance Inappropriate action by employees Damage to customer service, Company reputation or finances Code of Conduct and Business Ethics promulgated to all staff Effective internal controls over systems and processes, including segregation of duties Training and performance reviews for all staff

16 28 29 Our Values in Action Fulfilling our Vision to be an outstanding water company that delivers service excellence is as much about the culture of our business as it is about the activities themselves. This is the reason we have invested time in seeking to articulate and agree with all employees the values we want to underpin our business. These values define who we are, guide our behaviours and are the foundations of everything we do. In this section we celebrate some of the more obvious examples of our values in the last year. They illustrate what running our business in a socially responsible way really means and bring to life our Corporate Social Responsibility Policy. Service We put our customers first and take pride in our service delivery They tweet, they and they even write letters but above all, our Customer Relations team members aim to impress with their response to written correspondence and help improve our customers views on how we deal with their enquiries and complaints. It s a tall order, not least because and social media makes it even easier for customers to get in touch so they do! Newly appointed team leader Shelley and her three-strong team routinely deal with around s a day as well as scores of Twitter messages and 10 or 20 letters. Typical enquiries cover a wide range of issues, from house moves and queries on water bills to water quality contacts. The team s initial response is to telephone the customer, confirming that the letter or has been received and promising that it will be attended to promptly. This seems to work really well said Shelley, Customers really appreciate the personal contact and feel reassured that their query is being dealt with. The team is also responsible for root cause analysis of complaints, in other words, digging down to the detail of what prompted them and working with colleagues across the business to avoid the same issue happening again. We already have one of the lowest levels of complaints in the industry but analysing the cause of the complaints we receive will improve our processes and get us back on track to meet our target to reduce complaints year-on-year. We are also increasingly engaging with our customers via Twitter, and the team has recently undergone specialist training to help them harness the power of this valuable communications tool. The team is also investigating the future use of other more innovative communication channels like Livechat so we can continue to meet the demands of our increasingly technology savvy customers. Compassion We care about the effects of our actions and seek to make a positive impact on the community We are proud to have served the community for over 150 years. We aim to make a valuable contribution to the community and support those in need. We ve partnered with Macmillan Cancer Support to donate 1 for every customer who switches to e-billing. The initiative started in February and aims to raise a total of 10,000. The money will help fund more local services to improve cancer information and support in our supply area, such as the brand new East Surrey Macmillan Cancer Support Centre in Redhill. It will also provide financial grants to help local people cope with the hidden costs of cancer. This year also saw the official launch of our Water Support tariff aimed at helping those in serious financial hardship by providing a discount on their water bill. Our customer relations team have been out and about talking to customers and helping those that qualify to apply. Here are just a couple of examples of the conversations they ve had. Commitment We are passionate about our work, act responsibly and care about quality A burst main deep in ancient woodland once owned by William the Conqueror tested our Wholesale Services team to the limit. Fortunately, a combination of clever planning, cross-company teamwork and hard work saved the day. At 2.37am on 10 March 2016 our operational team discovered that the water level in one of our service reservoirs was dropping unexpectedly quickly. An out of hours team were sent to investigate and, after a torch-lit search of dense woodland, found water gushing from a 9 main. With the ground underfoot saturated and no obvious vehicle access, it certainly wasn t going to be an easy fix and over a thousand properties were at risk of losing their supply within hours. A mother and fulltime carer for a disabled son was absolutely delighted when she found out she qualified My son loves to play and bathe in water as it soothes his disability, so it s really reassuring to know that financial help is available to reduce our water bill. The application form was very straightforward and I found out within two weeks that I qualified for the scheme. Our presence at the Belfry Shopping Centre in Redhill was well received with one customer who found out they qualified for a reduction in their bill declaring I want to hug you I m so grateful. You rarely hear of help like this being available. We thank our customers for their continued support in providing this scheme which, as you can see, is making a real difference to those in need. As customers slept, an Emergency Incident Room was set up at the Company s head office and the team alerted the land owner and the five nearest properties at risk of losing their supply. Field teams went out to assess the situation and discovered that corrosion had caused a hole in the main almost a metre below ground. Given the location, there was nothing for it but to dig down by hand. It was hard going for the repair team in dreadful conditions but by 2pm the repair was complete. The reservoir immediately began to recover and everyone s quick response meant that no customers suffered an interruption to their supply. The incident was a fantastic example of our values customers were not disturbed by any noise or inconvenience and the repair was completed and supplies maintained by great teamwork while also being sensitive to the unique environment. But perhaps more than anything, it was a great example of commitment. Overview Performance Report Strategic Report Governance Financial Statements

17 30 31 Our Values in Action Continued Collaboration We are respectful, welcome diversity and are supportive of each other to achieve our goals Collaborating to achieve excellent customer service has been the focus of management, training and development this year. Here are a couple of examples of this in action. The Company has had a meteoric rise in the league table for services to developers seeking new connections to our water mains. By March 2016 we had reached 2nd place out of 18 water companies in the industry-published levels of service rankings. We achieved 99.5% compliance with the standards of service we promised developers. This is a huge improvement on our result earlier in the year which saw us languishing at the bottom of the table. It has been a great team effort from employees, our delivery partners and our customers. We have focused on understanding the needs of developers by working in collaboration with them and having good two-way communications. We have then used this valuable customer insight to improve our processes and the results can be seen in our move up the industry rankings. We have also sought opportunities to collaborate with other water companies to learn from best practice and to seek opportunities to do things more efficiently that will benefit our customers. One such example of this type of collaboration is our strategic review of how we purchase works, services and supplies. The review s aims were to: maximise the proportion of works, goods and services we buy through centrally negotiated agreements; look to partner with neighbouring water companies by undertaking joint procurement wherever possible or practical; and reduce the number of suppliers we use. It has also incorporated a review of our procurement processes to make sure they comply with the latest UK and EU legislation on procurement. We are already seeing a real difference. From relatively small things like learning and sharing best practice with other water companies on a range of topics, to the approach we took to tender for our 9.5 million per year contract with our main contractor. Ultimately, the improvements in efficiency that this drives will be reflected in ensuring the water bill remains great value for money. Innovation We seek to improve our business to be forward thinking and to embrace change Employees are invited to participate in our ERIC scheme Employee Realistic Ideas Capture which looks to employees to come up with ideas that improve efficiency, equipment or working conditions. A clever idea to prolong the life of the pipework and pumps at Cheam water treatment works won the Company s annual award for An electrical and mechanical technician at the works noticed that acid was sitting in the pipework and pumps after being used to dose the vessels. While the pipes and pumps were designed to hold the acid, it could easily be removed if fresh water flushing was incorporated into the system so that the equipment was flushed after every acid dose. After an initial investigation the idea was implemented and the flushing has been so successful that the suggestion has been selected as the best of the 74 ideas received this year. Integrity We are accountable, ethical and trustworthy The Silver standard for Investors in People has been awarded to fewer than 600 organisations in the UK and this year, Sutton and East Surrey Water joined that elite group of organisations. Investors in People optimises business performance by championing best practice in people management. The process starts with a detailed assessment by external specialists, followed by in-depth interviews with a cross-section of employees to get under the skin of the organisation. Company culture, employee engagement and leadership are all put under the spotlight to see what is working well and what can be improved upon. Our Innovation Manager has also been hard at work in his first year in the role as we seek to put innovation at the centre of everything we do. A new cutting-edge mobile working solution with much enhanced functionality and improved Geographic Information System (GIS) functionality, went live. It has enabled employees working in the field to share much more information about a job by, for example, transmitting photographs back to the office. This has improved decisionmaking and is one of the tools we are using as we move towards smarter real-time water management. This was just one of 17 IT improvements implemented over the year. The production and water quality departments have also been embracing innovation to reduce the impact of metaldehyde (the pesticide found in slug pellets). They have introduced faster water testing processes in the lab which means they can respond to water quality results quicker and vary treatment processes accordingly. We are a firm believer that improving performance through people and making Sutton and East Surrey Water a great place to work is the way to achieve service excellence and are therefore delighted that this approach has been endorsed by Investors in People. Our Vision, Values and Aims programme, with its focus on training and leadership, impressed Investors in People and put us within eleven points of achieving the Gold assessment, which leaves us something to aim for in the future. Overview Performance Report Strategic Report Governance Financial Statements

18 32 33 Directors and Advisors Chairman Executive Directors Independent Non-executive Directors Jeremy Pelczer Chairman, Non-executive Skills and experience Jeremy was elected Chairman in April He has a financial background and is a qualified accountant. He moved into the water industry in 1996 and was CEO and President of American Water from February 2004 until December He was the Chief Executive of Thames Water from November 2005 until its sale was completed in December Jeremy was a Non-executive Director of South Staffordshire Water plc until 31 March Current external appointments Jeremy is currently the Chairman of East Surrey Holdings Ltd, of WaterAid International, of Cylon Controls Ltd and of Agua Via Ltd and a Director of Landara Ltd and G2O Water Technologies Ltd. Committees Anthony Ferrar Managing Director Skills and experience Anthony joined the Company in 2008 after 15 years as the Finance Director and Company Secretary of Bournemouth & West Hampshire Water plc. He has previously worked in UK and overseas contracting, manufacturing and service industries. Current external appointments Anthony is a Director of a number of associated companies, a member of the Board of Water UK and a Trustee of Water Companies Pension Scheme. Nomination Remuneration Audit Committee Committee Committee Jeremy Pelczer Chairman Member Dave Shemmans Member Chairman Member John Chadwick Finance and Regulation Director and Company Secretary Skills and experience John joined the Company in His previous role was as a senior manager at Ofgem. Prior to that he worked for Thames Water for nearly 20 years in finance and regulatory positions. Current external appointments John is a Director of a number of associated companies. Murray Legg Non-executive Director Skills and experience Murray is a chartered accountant who spent 35 years with PricewaterhouseCoopers in the UK where he held a variety of senior management, governance and client roles. As a partner he spent 15 years auditing and advising major UK utilities and a variety of listed and unlisted companies in other sectors. From 2005 to 2013 he was a member of the PwC international network s Global Governance Board, and he also served on the PwC UK firm s governance body. Current external appointments Murray is also a Non-executive Director of Global Data plc and Tower Bridge Ventures Ltd. He joined the Board on 1 October Seiji Kitajima Non-executive Director Seiji joined Sumitomo Corporation in 1992 and has held positions in the Corporation's water, telecomms, renewable energy and transport teams. He joined the Board on 1 October Dave Shemmans Non-executive Director Skills and experience Dave joined Ricardo, a global engineering, strategic and enviornmental engineering consultancy, in Prior to joining Ricardo he was Operations Director and co-founder of Wavedriver Limited (a subsidiary of PowerGen plc). He has also gained consulting and management experience in both listed and private companies. Dave holds a degree in electronics and is a graduate of the Harvard Business School. Current external appointments Dave is the Chief Executive Officer of Ricardo plc and a Director of a number of its associated companies. Shareholder Nominated Non-executive Directors Ryuichi Nishida Non-executive Director Ryuichi joined Osaka Gas in 1988 and has held various positions including in natural gas procurement and deregulation of the Japanese gas market. He joined the Board on 1 April Jon Woods Non-executive Director Skills and experience Jon has 20 years experience in the food and drinks sector gained at Cadbury Schweppes, AB Inbev and now Coca-Cola. Jon joined the Board on 1 March Current external appointments Jon is the General Manager for Coca-Cola Great Britain & Ireland and a Director of a number of its associated companies. Advisors Auditors KPMG LLP 15 Canada Square London E14 5GL Solicitors Blake Morgan New Kings Court Tollgate Chandlers Ford Hampshire SO53 3LG Bankers Royal Bank of Scotland 280 Bishopgate London EC2M 4RB Lloyds Bank Horley Surrey RH6 7BJ Property Consultants Jones Lang LaSalle 22 Hanover Square London W1S 1JA Overview Performance Report Strategic Report Governance Financial Statements Murray Legg Member Member Chairman Jon Woods Member Member Member Anthony Ferrar Member Current external appointments Seiji is General Manager for the Water Infrastructure Business Unit of Sumitomo Corporation Europe Limited. Current external appointments Ryuichi is the Managing Director of Osaka Gas UK Ltd. Full details of the other external appointments are listed on page 45. Registered Office Sutton and East Surrey Water plc London Road, Redhill Surrey RH1 1LJ

19 34 35 Directors Report The Directors present their report and audited financial statements for the Company for the year ended 31 March Ownership and relationship with associated Companies The Company is jointly owned by the major Japanese businesses, Sumitomo Corporation and Osaka Gas. Each has a 50% stake in the UK-based holding company Sumisho Osaka Gas Water UK Ltd. The full corporate structure is shown below. Except where indicated, all companies within this corporate structure are domiciled in the UK for tax purposes. Sumitomo Corporation Europe Ltd Summit Water Limited Sumitomo Corporation (Japan) Sumisho Osaka Gas Water UK Ltd is entirely financed by shareholders equity. Osaka Gas UK Limited 50% Sumisho Osaka Gas 50% Water UK Limited The immediate parent of the Company is SESW Holding Company Limited, a company established at the time that the Company s 100 million index-linked bond was issued in March 2001 to protect the interests of bond holders by exercising control over distributions. The Company is an associate of other trading and property businesses within the East Surrey Holdings Group, transactions with whom are disclosed on page % East Surrey Holdings Limited 100% SESW Holding Company Limited 100% Sutton and East Surrey Water plc Osaka Gas (Japan) 75.5%- 100% Non-Regulated Companies Financial results and dividends Financial performance for the year is described on page 25 in the Operating and Financial Review. Turnover for the year ended 31 March 2016 was 63.0 million (2015: 63.0 million). Profit on ordinary activities before taxation was 14.3 million (2015: 14.8 million). A profit of 14.7 million (2015: 10.5 million) was transferred to reserves, out of which a dividend was paid to shareholders. Details of ordinary dividends declared and paid during the year are given in note 8. The total dividend declared and paid for the year ended 31 March 2016 was 11.5 pence (2015: 4.8 pence) per ordinary share and 7.8 pence (2015: 7.8 pence) per preference share. Dividend Policy Statement The Board considers that a base level of ordinary dividend for the appointed business should reflect the return on regulatory equity (defined as Regulatory Capital Value less net debt) allowed in the regulator s most recent Price Review, subject to the Company having adequate resources available to fulfil its overall service commitments and its other financial obligations, including compliance with the covenants associated with its index-linked bond (which are designed to protect the interests of the Company s creditors). The Board will consider variations from this base level of ordinary dividend reflecting: The overall level of service delivered to customers, compliance with statutory obligations and progress with the delivery of regulatory and other obligations; and Financial performance against regulatory assumptions and internal targets. Performance for each year against these and a broader set of performance measures is described in detail in this Annual Report. Dividends from non-appointed activities undertaken by the Company will be determined based on the financial performance and prospects of these activities and their anticipated need for future investment. Greenhouse gas emissions Greenhouse gas emissions are calculated using the UK Water Industry Research Carbon Accounting Workbook which is updated annually to reflect changes to emission factors and carbon reporting guidance from the UK Government. Operational greenhouse gas emissions in 2016 were 27,789 tonnes of carbon dioxide equivalent (tco 2eq) (2015: 29,388 tco 2eq), a 5% reduction on the previous year. This equates to 470 kgco 2eq per million litres of treated water (2015: 490 kgco 2eq). Operational greenhouse gas emissions for the regulated business include: Direct emissions from Company vehicles and fossil fuel use; Indirect energy use emissions from the purchase of electricity; and Emissions from outsourced services, business travel and transportation and distribution of purchased electricity. We have installed solar panels at four of our treatment works to help manage our emissions. In 2016 we generated 217,150 kwh of electricity (2015: 117,589 kwh). Principal activities The Company is engaged principally in the supply of water across the London Boroughs of Croydon, Merton and Sutton, as well as East Surrey and parts of Kent and Sussex.

20 36 37 Directors Report Continued Corporate Governance Report Charitable and political donations During the year the Company made charitable donations amounting to 9,009 (2015: 8,749). There were no political donations (2015: nil). The largest donations to UK charities were 3,514 to the Defence Medical Rehabilitation Centre at Headley Court, 1,588 providing bottled water to drivers stranded on the M20 motorway during Kent Police s Operation Stack in summer 2015, 614 to Macmillan Cancer Support and 546 to WaterAid. Payment to suppliers Settlement terms are agreed with suppliers as part of the contract terms and it is the Company s policy to pay in accordance with these terms. Other creditors are paid in accordance with invoice terms. The introduction during the year of an additional payment run for all suppliers each month reduced creditor days to approximately 26 days (2015: 41 days). Going concern and long-term viability The going concern and long-term viability statements required by the Disclosure and Transparency Rules are set out on pages 41 and 42 in the Corporate Governance Report and are incorporated by reference in this report. Appointed business At 31 March 2016 the Company was in compliance with paragraph 3.1 of Condition K of its Instrument of Appointment, which requires that the water supply assets are protected by a ring-fence. Disclosure of information to auditors The Directors who held office at the date of approval of this Directors Report confirm that, so far as they are each aware, there is no relevant audit information of which the Company s auditors are unaware; and each Director has taken all the steps that they ought to have taken as a Director to make themselves aware of any relevant audit information and to establish that the Company s auditors are aware of that information. Auditors Pursuant to a shareholders resolution, the Company is not obliged to reappoint its auditors annually and KPMG LLP will therefore continue in office. By Order of the Board John Chadwick Company Secretary Redhill, Surrey 5 July 2016 Company number CHAIRMAN S MESSAGE ON CORPORATE GOVERNANCE Strong and effective governance by the Board requires good control of how the Board spends its time, maintaining an appropriate balance between strategy, governance, performance, market reform, topics of particular interest and finance. The first year of operation under the new forms of regulatory controls for demanded a proper focus on our progress with delivering the commitments we have made to our customers. However the Board has continued to look to the future and the opportunities we see being enabled by the extension of competition in the industry, and has sought to emphasise the importance placed on drinking water quality, health and safety, high environmental standards, and employee engagement by dedicating time to special focus sessions on these topics during the year. Governance of matters reserved to the Board under the Company s scheme of delegated authority continues to be given targeted and incisive attention. In guiding the Board through such full and challenging agendas, I continue to benefit enormously from the expert knowledge and wide experience that fellow Board members bring to our discussions. Their continuing commitment to maintaining the highest standards appropriate to the nature and ownership of the business remains greatly appreciated. The mix of skills and expertise of current Board members is illustrated later in this section. The membership of the Board continues to be refreshed in a planned and orderly way, and its composition remains consistent with Ofwat s principles for Board Leadership, Transparency and Governance. In October 2015, we welcomed Murray Legg to the Board as an Independent Non-executive Director and on 31 March 2016 he replaced John Biles as the Senior Independent Non-executive Director. Murray brings over 35 years experience in audit and financial advisory services, most recently as a senior partner focusing on major UK utilities. Murray also becomes Chairman of the Audit Committee. John s deep knowledge and long experience in senior financial roles has been a great asset to the Company over his ten years of service, and his wise counsel will be missed. Stewart Gilliland also stood down as Independent Non-executive Director from the Board in February 2016 following his appointment as Chairman of a major listed company. The Board has recorded its appreciation of the insights and experience he has shared and has wished him well with his new role. The Board was pleased to welcome Jon Woods as Independent Non-executive Director to replace Stewart on 1 March Jon is currently General Manager for Coca-Cola Great Britain & Ireland and brings us 20 years experience in the food and drinks sector. Wataru Oba stood down from the Board as one of the two shareholder representatives and was replaced by Seiji Kitajima with effect from 1 October The Board has recorded its appreciation for Mr Oba s contribution during the period of his appointment. This Annual Report reflects the requirements of the 2014 edition of the UK Corporate Governance Code as applicable for this reporting period. Jeremy Pelczer Chairman 5 July 2016 How the Board spent its time (June 2015-June 2016) 31% Strategy 29% Performance CORPORATE GOVERNANCE STATEMENT The Board considers it has fully complied with the main principles of the UK Corporate Governance Code (the Code ), and its application, together with any reasons for not applying specific provisions of the Code, is described in the following sections. 12% Governance 10% Market reform 9% Special topic discussions 9% Finance Role of the Board The Company is controlled through its Board of Directors. The Board s main role is to ensure that the business is run properly in accordance with its regulatory and other obligations for the benefit of its customers and to create long-term value for shareholders. In fulfilling this role the Board approves the Company s strategic objectives and ensures that the necessary financial and other resources are made available to enable management to meet those objectives. The Board, which meets at least six times a year, has reviewed and agreed a schedule of matters reserved for its approval, outlined on page 38.

21 38 39 Corporate Governance Report Continued The matters reserved for Board approval are: Strategy and management including approval of the Company s long-term objectives, regulation, commercial strategy and budgets; Structure and capital including share issues and borrowings; Financial reporting and controls including annual and interim accounts and dividends; Maintenance of a sound system of internal controls and risk management; Approval of significant contracts above agreed levels; Board membership and other appointments; Remuneration; Delegation of authority, including Board committees and division of responsibilities between the Chairman and the Managing Director; Corporate governance matters; and Policies code of conduct, health and safety, environmental, corporate responsibility and charitable donations. The Board continues to dedicate a full day each year to consideration of strategic issues, including the development of the regulatory regime, market competition, customer service, and stakeholder engagement, which creates a strong foundation for subsequent more targeted strategic discussions at regular meetings. Progress with the delivery of the new performance commitments the Company made to its customers in its Business Plan has been a particular focus in this, the first year of the period, whilst updates on the Company s preparations for the opening of a competitive market for business customers on 1 April 2017 have featured on every Board meeting agenda. Whilst dedicating appropriate time to governance matters (including receiving reports from the regular meetings of the Board s sub-committees), and finance matters (including approval of annual budgets, major capital projects and contracts, and ordinary dividend payments), the Board has sought to emphasise the importance placed on drinking water quality, health and safety, high environmental standards, and employee engagement by dedicating time to special focus sessions on these topics during the year. Roles and responsibilities The division of responsibilities between the Chairman of the Board and the Managing Director is clearly defined and has been approved by the Board. The table below details their individual roles and responsibilities and highlights the specific duties of our Senior Independent Non-executive Director and our Company Secretary. Chairman Jeremy Pelczer is responsible for: The effective operation, leadership and governance of the Board; Ensuring the effectiveness of the Board; Setting the agenda, style and tone of Board discussions, including ensuring a focus on strategic and business critical decisions; Ensuring all Directors make an effective contribution to the Board through debate and discussion, balancing the Executive, Independent Non-executive and Shareholder Nominated Non-executive contributions; and Ensuring Directors receive accurate, timely and clear information. Senior Independent Non-executive Director Murray Legg is responsible for: Acting as a sounding board for the Chairman and as an intermediary for other Directors; Acting as lead contact for the Independent Non-executive Directors for the Water Services Regulatory Authority; and Leading the Board s annual assessment of the Chairman s performance. Managing Director Anthony Ferrar is responsible for: Development of strategic plans for consideration by the Board; The performance of the Company in line with the strategy and objectives agreed with the Board and under powers delegated by the Board; Ensuring the Board is supplied with information relevant to its role; Leading Executive Directors and senior management in dealing with the operational requirements of the business; and Providing clear and visible leadership in business conduct. Company Secretary John Chadwick is responsible for: Under the direction of the Chairman, ensuring effective information flows to the Board and its committees, and between senior management and Non-executive Directors; Advising the Board, through the Chairman and Managing Director, on all governance matters; Securing, where appropriate, independent professional advice for Directors at the Company s expense; and Facilitating induction activities for new Directors and assisting with their agreed development needs. Composition of the Board Stewart Gilliland and John Biles stood down as Independent Non-executive Directors on 11 February 2016 and 31 March 2016 respectively. Murray Legg joined the Board on 1 October 2015 and took the role of Senior Independent Non-executive Director and Chairman of the Audit Committee on 31 March Dave Shemmans became Chairman of the Remuneration Committee on 12 February Jon Woods joined the Board on 1 March Wataru Oba stood down as a Shareholder Nominated Non-executive Director on 1 October 2015 and was replaced by Seiji Kitajima. The Board continues to benefit from the rich mix of skills and experience of its Independent Non-executive Directors and Chairman. Particular attention is paid to maintaining an appropriate balance when making new appointments, to enable the Board to support and constructively challenge a management team with a detailed understanding of the Company s obligations, operational procedures and customer priorities. The key manner in which the Board seeks to achieve this goal is to target specific skill sets for each new appointment. Whilst all current Board members have extensive management and business leadership experience, the particular areas of expertise is shown below (excluding the Executive Directors and shareholder representatives). Chairman and Independent Non-executive Director Expertise Staff development 33% Finance 22% Engineering 12% Customers 33% The Board considers that this mix ensures that an appropriate balance of perspectives is brought to bear on all the matters it considers. Independent Non-executive Directors The Independent Non-executive Directors constructively challenge and help develop proposals on strategy and bring strong, independent judgement, knowledge and experience to the Board s deliberations. The Board considers that they have always been of sufficient calibre and number to ensure that their views carry significant weight in the Board s decision making. The Company has found that the composition of the Board, with its mix of Executive, Independent Non-executive and Shareholder Nominated Non-executive Directors, has proved effective in ensuring that all stakeholder interests can be addressed and decisions taken on all matters of strategy, policy and planning affecting the business. Significant commitments of the Directors held outside of the Company are disclosed prior to appointment and on an ongoing basis where there are any changes. Current appointments are disclosed on pages 32, 33 and 45. All Directors are required to allocate sufficient time to the Company to discharge their responsibilities effectively and the position in practice during the year is reviewed as part of the annual review of Board effectiveness. The Chairman is not listed as Independent as he was nominated by Sumitomo Corporation on their acquisition of the Company, but the Board has continued to find him independent of character. The Chairman meets with the Independent Non-executive Directors at least annually without Executive Directors present. The Directors have a right of access to the advice and services of the Company Secretary and have the opportunity to take independent, professional advice in the course of their duties at the Company s expense. Day-to-day conduct of the Company s business is entrusted to the Executive Directors and their senior management colleagues. The Board receives regular management reports and operates a system of review against strategic objectives and targets. The Non-executive Directors are not employees of the Company.

22 40 41 Corporate Governance Report Continued Evaluation of Board performance The Board undertook the latest regular evaluation of its effectiveness in November 2015, which concluded that the Board continued to fulfill its responsibilities well. Two areas for particular focus succession and talent planning were considered in more detail in March No changes were made to the terms of reference of the Board s formal Committees, which the Board considered were operating effectively. The latest versions of all Committees Terms of Reference are available from the Corporate Governance section of the Company s website. Training and development Directors are primarily responsible for their personal development and for compliance, where appropriate, with the continuing professional development requirements of their respective professions. The Board also receives regular updates on legislative, regulatory and other governance developments, including briefings from external specialists as appropriate. In addition, the Board periodically visits the Company s water treatment works and enquires into operational policies, practices and procedures. Board effectiveness The Board met seven times during 2015/16. Committees met as required and considered regular and ad hoc business. Attendance at meetings by Directors is summarised below. Director Board meetings Nomination Committee meetings Remuneration Committee meetings Jeremy Pelczer 7/7 5/5 2/2 John Biles 7/7 5/5 2/2 4/4 Stewart Gilliland 5/6 5/5 1/2 2/3 Dave Shemmans 7/7 5/5 2/2 4/4 Murray Legg 4/4 1/1 1/1 2/2 Jon Woods 1/1 1/1 1/1 Wataru Oba 3/3 Ryuichi Nishida 6/7 Seiji Kitajima 4/4 Anthony Ferrar 7/7 5/5 John Chadwick 7/7 Audit Committee meetings The Board has also established ad hoc committees to consider key risk items, including the strategy for power purchases (an Energy Risk Management Committee) and for managing the Company s exposure to risks associated with the defined benefit pension scheme (a Pensions Risk Management Committee). Both are chaired by the Senior Independent Non-executive Director and comprise Non-executive and Executive Directors with such other senior executives and external advisers as are appropriate for the matters to be considered. During the year the Energy Risk Management Committee considered changes in market prices for the commodity component of electricity requirements, reviewed and revised triggers for purchases, and approved purchases in line with the agreed strategy. By 25 April 2016 the Company had completed purchase at market rates of all its principal electricity requirements for the whole of the period. System of internal control The Directors acknowledge that they are responsible for the Company s system of internal control. Such a system is designed to manage rather than to eliminate the risk of failure to achieve business objectives, and can only provide reasonable and not absolute assurance against material misstatement. Control is exercised through an organisational structure with clearly defined levels of responsibility and authority, and appropriate reporting procedures. Information is regularly provided at all levels and compared with budgeted targets, which are reviewed on a regular basis. Regular reports and papers on key business issues and matters reserved to the Board are circulated in a timely manner in preparation for Board and Committee meetings. The Company s system of internal control is founded upon the following key features: 1. Control environment The Directors have put in place an organisational structure with clearly defined lines of responsibility and delegation of authority. The Company has a clearly defined policy on whistle-blowing, which is detailed in the staff handbook, and includes access to independent and confidential advice. The Company s Code of Conduct and Business Ethics policy, which has been approved by the Board, has been drawn to the attention of all employees and published on the Company s intranet. 2. Risk management Managing business risk to enable opportunities is a key element of all activities. This is done using a framework which provides a consistent and sustained way of implementing the Company s values. Business risks, which may be strategic, operational, reputational, financial, regulatory or environmental, are reviewed regularly by the Audit Committee and discussed by the Board. An overview of key business risks and the mitigations the Company has established are presented on pages 26 and Information systems There is a comprehensive budgeting system with an annual budget approved by the Board. At each Board meeting, monthly trading results, balance sheets and cashflow statements are reported against the corresponding figures for the budget and the forecast for the full year is reviewed. 4. Control procedures There are clearly defined policies for controlling expenditure including appropriate authorisation levels. Larger projects and major investments require Board approval. The Board has considered arrangements for responding to increased competition for business customers. 5. Monitoring system The Company s internal financial, operational and compliance control systems have been reviewed in the context of evolving legal and regulatory requirements and additional assurance procedures have been agreed and implemented. The Company has consulted on a draft targeted assurance plan for 2015/16 and has published its final assurance plan on its website. The Audit Committee has reviewed the application of this first targeted assurance plan and has reported its conclusions to the Board. The Committee has also considered the need for a dedicated internal audit function and, taking into account the establishment of a Quality and Compliance function in 2014, has concluded that a separate internal audit function is not needed at the present time. The monitoring and control arrangements operated in the year are considered adequate, with only minor potential enhancements identified. Having reviewed the effectiveness of the Company s system of internal control including control of financial, operational, compliance and risk management, the Board confirms that it has implemented these requirements of the UK Corporate Governance Code for the year ended 31 March Fair, balanced and understandable assessment The Board has given careful consideration to whether the Annual Report and accounts, taken as a whole, is fair, balanced and understandable in accordance with the requirements of the Corporate Governance Code. The preparation of this document is overseen by the Managing Director and the Finance and Regulation Director with inputs from senior executives from across the business. The whole has been reviewed in detail by the Audit Committee, which has noted the close personal involvement of Directors who are involved in the day-to-day operation of the business and therefore well-placed to ensure the accuracy of matters reported, and the extensive enhanced assurance processes to underpin the reliability of key performance information. The Board is therefore satisfied that the document meets the requirements of the UK Corporate Governance Code in this respect. Going concern The Company s activities, together with the factors that are likely to affect its future development, performance and position are set out in the Strategic Report on pages 22 to 33. The financial position of the Company is set out on pages 62 to 81. Note 16 on pages 75 to 76 sets out the Company s position in relation to risks associated with financial instruments, credit and interest rates and describes the Company s risk mitigation measures. After making appropriate enquiries, the Directors have a reasonable expectation that the Company has adequate resources to continue its operational existence for the foreseeable future. Accordingly, the financial statements continue to be prepared on a going concern basis.

23 42 43 Corporate Governance Report Continued Long-term viability statement The Directors have assessed the viability of the Company over the four year period to March 2020, taking account of the Company s current position, performance and the potential impact of the principal risks documented in the Strategic Report. Based on this assessment, the Directors have a reasonable expectation that the Company will be able to fulfil its obligations, including meeting its liabilities as they fall due, over the period to March In making this statement the Directors have considered the resilience of the Company s financial position based on its medium term business plan, the principal risks facing the business in severe but plausible scenarios, and the effectiveness of any mitigating actions. The Directors have, in particular, considered the ability of the Company to comply with the financial covenants associated with its 100 million index-linked bond under a range of scenarios, including different inflation and interest rates and cost shocks (consistent with those adopted when testing the Company s medium term business plan submission to Ofwat at the last Price Review). The Directors have determined that the four year period to March 2020 is an appropriate period over which to provide this viability statement, taking into account the Company s strong liquidity position and committed borrowing facilities, its key potential mitigating action of restricting dividend payments and the protections which exist under the regulatory regime which places a duty on Ofwat to ensure that efficient water supply companies are able to finance their functions. Code on Principles of Governance by the Board In accordance with Ofwat requirements, the Company s Code on Principles of Governance of the Board, and its assessment of compliance with the Code, are shown below. The Code of the Company s ultimate holding company in the UK is also published on page 44. Sutton and East Surrey Water plc takes its obligations for good corporate governance extremely seriously and applies standards appropriate to the nature and ownership structure of the business. These standards are kept under continuous review and are expected to develop as the business and best practice elsewhere develops. The Company is committed to assessing its performance against the principles established by this Code (and any subsequent enhancements) in each Annual Report. The Code is based on five principles: 1. Acting as if it is a separate plc The Board will govern Sutton and East Surrey Water plc in accordance with the standards applicable to an independent company listed in the UK, focusing exclusively upon the long-term interests of the Company. Subsequent principles in this Code define what this overall principle means in particular areas. 2. Transparency The Board will comply with the Disclosure and Transparency Rules and seek to explain the way in which the Company is governed in an open, accessible and balanced manner. This will include the relationship of the Company with any associates, including holding companies. 3. Board skills The Board will maintain an appropriate balance of skills, experience, independence and knowledge of the Company and will consider these factors in making appointments and in assessing Board performance. Compliance assessment The Board does not take for granted compliance with the five principles of the Code and has committed to publishing a formal annual assessment of compliance. The third such annual assessment is set out below. 1. Acting as if it is a separate plc The Board considers that it complies fully with the principle of governing Sutton and East Surrey Water plc in accordance with the standards applicable to an independent company listed in the UK, focusing exclusively upon the long-term interests of the Company. The Board has defined matters it reserves to itself and has full powers to make decisions on behalf of the Company. The Board has established Committees to consider key aspects of corporate governance. Final decisions affecting the Company are made by the Board. 2. Transparency The Company has updated disclosures in this Annual Report to meet the requirements of the September 2014 edition of the UK Corporate Governance Code. The Terms of Reference of its committees are published on the Company s website. The relationship of the Company with its associated companies is set out on page 34. The Board therefore considers that it has achieved full compliance with the Disclosure and Transparency Rules required by the UK Corporate Governance Code. 3. Board skills The Board s Nomination Committee considers the composition of the Board and the skill and experience required from new appointments. The current Board contains members with a mix of experience and expertise and significant experience of other plc Boards. All new Directors receive appropriate induction. The Board has carried out a formal review of its performance during the course of the year and reports on its conclusions on page 40. The Board considers that it fully complies with the principle of maintaining an appropriate balance of skills, experience, independence and knowledge of the Company. 4. Independent representation The Board has three Non-executive Directors who are independent of management and shareholders, one of whom has been appointed as the Senior Independent Non-executive Director able to act inter alia as a channel for Board communication with regulators. The Board also comprises two Executive Directors, two shareholder representatives and a Chairman who had a connection with a shareholder prior to his appointment. Independent Non-executive Directors form the largest single group on the Board. 5. Board committees The Board has Nomination, Audit and Remuneration Committees on which Independent Non-executive Directors form a majority. The Board considers that it complies in full with this principle of its Code. 4. Independent representation The Board will ensure that Directors independent of management and shareholders are the single largest group on the Board and any of its Committees. A Senior Independent Non-executive Director is appointed to act inter alia as a channel for Board communication with regulators. 5. Board committees The Board will maintain as a minimum Nomination, Audit and Remuneration Committees on which Independent Non-executive Directors will form a majority.

24 44 45 Corporate Governance Report Continued SUMISHO OSAKA GAS WATER UK LTD. (SOWUK). Code of Corporate Governance Principles As the ultimate holding company of Sutton and East Surrey Water plc (the regulated company ), we recognise that the principles which govern our code of corporate governance should: i) take into account the areas where our activities may have the greatest direct impact on the regulated company; and ii) complement the corporate governance principles of the regulated company. Accordingly, we have established this Code of Corporate Governance Principles to address these considerations as well as regulate and enhance our activities in terms of transparency, risk management and long-term decision making. 1. We shall ensure that our holding structure is transparent and explained in a clear way. This structure, together with any changes, shall be demonstrated and explained in the Annual Report of the regulated company each year. 2. We shall provide clear information on our debt and equity structures. This structure, together with any changes, shall be demonstrated and explained in the Annual Report of the regulated company each year. 3. We shall be transparent in declaring the interests of our Directors. We shall demonstrate this transparency by having a clear internal process for disclosure and publishing a list of such interests in the Annual Report of the regulated company each year. 4. We shall disclose and explain any matters at the regulated company level which are reserved for our Board in the Annual Report of the regulated company each year. 5. In carrying out our activities we shall ensure that we fully understand and take into account, particularly at Board level, the duties and obligations of the regulated company contained within statute and its Licence. In particular, we shall refrain from any action which would cause the regulated company to be in breach of any of its obligations. 6. In order that the regulated company may assess any potential impact on its activities and its exposure to risk, we shall provide the regulated company with any information that it reasonably requests about the activities of our wider group. Further, we shall proactively disclose to the regulated company any issues or information that may have a material impact on its activities. 7. We recognise the importance of supporting the regulated company in a way that allows it to run its business as if such company were an independent public listed company. 8. We recognise the importance of supporting the regulated company in order that it can make strategic and sustainable decisions in the interests of the regulated business for the long term. 9. We shall regularly review this Code to ensure that it meets the standards of current best practice. Any changes to this Code shall be reported in the succeeding Annual Report of the regulated company. Approved by the Board of Directors in June The corporate structure disclosures required under the first two principles of the Code are shown on page 34. The interests of Directors to be disclosed under the third principle of this Code are shown below. Name Position within SOWUK Description of interest Wataru Oba (From 3 November 2014 to 31 March 2016) Shinichi Hasegawa (From 1 April 2016 onwards) Graham Holman Masaya Kyo Ryuichi Nishida Director Director Director and Company Secretary Director Director Director of East Surrey Holdings Ltd, Director of Summit Water Limited, Director of Aguas de Reuso del Tenorio, S.A. de C.V, Director of Concesionaria de Aguas Residuales de Juarez, S.A. de C.V., Director of Eastern Water Co. Limited, Director of Interchina Water investments Co., Ltd, Director of Soluciones Especializadas en Tratamiento de Agua, S.A. de C.V., Director of Summit Global Management V B.V., Director of Tratamiento de Aguas de Culiakan, S.A. de C.V., Director of Sumisho Capital Management Co. and Director of Sahara Cooling Limited. Director of Summit Water Limited, Director of Aguas de Reuso del Tenorio, S.A. de C.V, Director of Concesionaria de Aguas Residuales de Juarez, S.A. de C.V., Director of Eastern Water Co. Limited, Director of Interchina Water investments Co., Ltd, Director of Soluciones Especializadas en Tratamiento de Agua, S.A. de C.V., Director of Summit Global Management V B.V., Director of Muscat City Desalination Company S.A.O.C. Director and Company Secretary of Sumitomo Corporation Europe Ltd., Director of East Surrey Holdings Ltd., Director of Summit Water Limited, Director of Sutton and East Surrey Water Services Ltd. and Director of The Japan Society. Managing Director of OG Capital Co Ltd., Director of OG Sports Co Ltd. Managing Director of Osaka Gas UK, Ltd., Director of S2 Operation & Maintenance Company W.L.L., Director of Ruwais Power Company PJSC, Director of Shuweihat 2 Holding Company Limited, Director of S2 Japan Holding B.V., Director of Planta de Regasificación de Sagunto, S.A., Director of Iniciativas de Gas S.L. and Erogasmet S.p.A. There are no matters in relation to Sutton and East Surrey Water plc upon which decisions are reserved to Sumisho Osaka Gas Water UK Ltd.

25 46 47 Nomination Committee Report STATEMENT BY THE CHAIRMAN OF THE NOMINATION COMMITTEE The Nomination Committee has once again had a full agenda in order to fulfill its obligations to the Board under its terms of reference. The Committee completed the planned appointment of a successor to John Biles as Senior Independent Nonexecutive Director and Chairman of the Audit Committee, and was pleased to welcome Murray Legg to the Board in October The Committee was also pleased to secure the services of Jon Woods following an open and competitive process to replace Stewart Gilliland, whose appointment as Chair of a major listed company necessitated a review of the time he had available for other commitments. Finally, the Committee also considered and recommended for acceptance the appointment of Seiji Kitajima as a UK-based Shareholder Nominated Nonexecutive Director in place of Tokyo-based Wataru Oba. Membership Jeremy Pelczer John Biles (to 31 March 2016) Jon Woods (from 1 March 2016) Anthony Ferrar Stewart Gilliland (to 10 February 2016) Dave Shemmans Murray Legg (from 1 October 2015) The Committee has also devoted considerable attention to succession planning and talent management and development for the Company s executive and senior management team, and have been greatly encouraged by the skills, commitment and potential of the future leaders of the business. Jeremy Pelczer Chairman of the Nomination Committee 5 July 2016 Responsibilities Ensuring the Board and its Committees have the right balance of skills, knowledge and experience; Planning for orderly succession to the Board and ensuring that an effective succession planning system is in place for other senior executive positions; Making recommendations to the Board on the appointment of any Director; Identifying and nominating suitable candidates for Executive and Non-executive Director vacancies, having regard to, amongst other factors, the benefits of diversity, including gender diversity; and Contributing to the annual review of Board performance, particularly in relation to the ability of Non-executive Directors to devote adequate time to the Company s business. Activities of the Committee The Nomination Committee met five times during the year, focusing upon appointment of Non-executive Directors, succession planning arrangements within the Company, and the performance of the Committee and individual Directors as part of the annual review of Board effectiveness. Jeremy Pelczer does not chair the Committee when it discusses his performance as Company Chairman. The Committee devoted significant attention to the skills, knowledge and experience required for two Independent Non-executive Director positions which arose during the year. A search to find a successor to John Biles, whose term of appointment was due to end during the year, had already been commenced earlier in Following review of an initial list of prospective candidates by the Committee and interviews of preferred candidates by the Chairman and Managing Director, Murray Legg was invited to meet the full Board before an offer of appointment was made. The Committee was pleased to recommend Murray s appointment to the Board and for him to be appointed in time for an appropriate handover from John before he stepped down at the end of March The Committee also needed to initiate a search for a successor to Stewart Gilliland as an Independent Non-executive Director, following Stewart s appointment as Chairman of a major listed company which necessitated a review of the time he had available for other commitments. The Board was grateful to Stewart for staying on as a Non-executive Director to 10 February 2016, enabling the Committee to review an initial list of prospective candidates and interview preferred candidates before Jon Woods was invited to meet the full Board prior to an offer of appointment being made. We are pleased that Jon Woods has joined the Board from 1 March These two new appointments mean that the Committee has overseen an orderly refresh of the Independent Non-executive Director appointments to the Board within the last two years. The quality of candidates willing to serve has reinforced to the Committee the high reputation for strong corporate governance maintained by the Company. The Committee has considered shareholder nominations for a new appointment to the Board following the standing down of the Sumitomo Corporation nominated Non-executive Director. Having reviewed the skills and experience of the candidate, the Committee was pleased to recommend to the Board the appointment of Seiji Kitajima. The Committee has also devoted considerable attention to succession planning at Executive Director and senior management levels within the Company, recognising the importance of talent management and development in a competitive and changing business environment. We have been greatly encouraged by the Company s continuing ability to attract, retain and develop individuals with the potential to serve the Company and its customers with distinction for many years to come. With the benefit of the output from evaluation of the effectiveness of the Board and its Committees, the Committee was able to report to the Board that it remained satisfied with the contribution of all Directors to the effectiveness of the Board in ensuring high standards of corporate governance are maintained. The effectiveness of the Committee was considered by the Board as part of the same annual evaluation. The Board concluded that it remained satisfied that the Committee continued to perform its duties in line with its terms of reference. Attendees: Terms of reference: Senior employees or external advisors may attend specific meetings by invitation. The Committee s full terms of reference as approved by the Board can be found in the Corporate Governance section of the Company s website.

26 48 49 Remuneration Committee Report STATEMENT BY THE CHAIRMAN OF THE REMUNERATION COMMITTEE I took over the role of Chairman of the Remuneration Committee when Stewart Gilliland stepped down in February I should like to take this opportunity to thank Stewart for his leadership of the Committee and his commitment to ensuring a smooth transition. During the year the Committee considered the Company s remuneration policy for Executive Directors and concluded that remuneration arrangements without a long-term incentive component was no longer compatible with the long-term nature of the business and the Executive Directors responsibilities for the growth and value creation of the wider Group of which the Company is a part. Having taken advice on the structure and overall level of potential remuneration from independent reward specialists, the Committee was pleased to be able to offer Executive Directors a new long-term incentive plan funded entirely by shareholders. Full details of the operation, performance metrics and potential rewards under the plan are set out in our Remuneration Policy Report. Membership Dave Shemmans John Biles (to 31 March 2016) Stewart Gilliland (to 10 February 2016) Jeremy Pelczer Murray Legg (from 1 October 2015) Jon Woods (from 1 March 2016) Attendees: The Committee has overseen the first year of operation of the new organisational structure and annual performance bonuses (for both senior management and all employees) introduced in 2014/15 as part of the preparations for meeting the challenges of the performance commitments we made to our customers in our Business Plan for Details of performance against these shared targets and the consequent bonuses payable to Executive Directors are set later in this report. Dave Shemmans Chairman of the Remuneration Committee 5 July 2016 Responsibilities Making recommendations to the Board on the framework for remuneration of the Managing Director, Chairman and other members of the senior management team; Approving the design of and determining targets for the Company s performance-related pay schemes and approving total annual payments under such schemes; Determining the total individual remuneration package of each Executive Director including, where appropriate, bonuses and incentive payments; Determining policy for and scope of pension arrangements and service agreements for Executive Directors and designated senior executives; and Ensuring that disclosures of remuneration comply with the relevant regulations and obligations applicable to the Company. Terms of reference: REMUNERATION POLICY REPORT The Company s remuneration policy is designed to attract and retain good quality senior executives having regard to other UK-based businesses. It provides for a remuneration package, the variable element of which reflects the Company s performance against customer service, operational and financial objectives. The Board considers that the performance element of the remuneration package is appropriate given the main activities of the Company. Full details of each component of Directors remuneration applicable for the twelve months commencing 1 April 2015 are shown in tabular format below. Base salary Purpose and link to strategy Operation Opportunity Performance metrics Benefits Purpose and link to strategy Operation Opportunity Performance metrics Retirement benefits Purpose and link to strategy Operation Core element of fixed remuneration, reflecting the size and scope of the role. Purpose is to recruit and retain Directors of the calibre required for the business. Reviewed annually and normally fixed for 12 months commencing 1 April. Whilst Executive Directors are contractually entitled to an annual review of their salary, there is no entitlement to an increase as a result of this review. Salary levels are determined by the Committee taking into account a range of factors including: Role, experience and performance; Prevailing market conditions; and External benchmarks for similar roles at comparable companies. Increases in base salaries are reviewed in the context of salary increases across the Company as a whole. The Committee considers any reasons why increases should diverge from this benchmark, including: Increase in scope, complexity or responsibility of the role; Increase on promotion to Executive Director; and A salary falling significantly below market positioning. Not applicable, although contribution and overall performance in the role are taken into account in determining whether any increase in base salary should be awarded, and if so, at what level. Ensures the overall package is competitive. Purpose is to recruit and retain Directors of the calibre required for the business. Executive Directors receive benefits in line with market practice, which include a car allowance, private medical insurance and life assurance. Other benefits may be provided based on the role and individual circumstances. These may include, for example, relocation and travel allowances. Set at a level which the Committee considers appropriate against the market and provides a sufficient level of benefit based on individual circumstances. Not applicable. Purpose is to recruit and retain Directors of the calibre required for the business. Provides market-competitive post-employment benefits. Executive Directors are eligible to participate in the Company s defined contribution pension scheme (or such other pension plan as may be deemed appropriate) and, if a member before closure of the scheme, the Company s defined benefit scheme. The defined benefit scheme was closed to new entrants from 1 May Any Executive Director who is a member of the closed scheme can continue to receive benefits in accordance with the terms of the scheme. Neither Executive Director is a member of the defined benefit scheme. The Managing Director attends meetings for all business other than any business relating to his own remuneration. The Company Secretary or his nominee acts as Secretary to the Committee. The Committee s full terms of reference as approved by the Board can be found in the Corporate Governance section of the Company s website. Opportunity Performance metrics The Executive Directors have personal pension plans. Not applicable.

27 50 51 Remuneration Committee Report Continued Annual bonus Purpose and link to strategy Operation Opportunity Performance metrics Long-term incentive plan Purpose and link to strategy Operation Rewards performance against annual targets which support the strategic direction of the Company. Annual targets include shared corporate targets for the levels of service to customers and other aspects of operational performance, financial performance, and individual targets for the achievement of personal goals. Targets are set by the Board (advised by the Remuneration Committee) before the start of each financial year and are assessed following audit of the Company s financial statements and independent assurance of the levels of service achieved, prior to publication of the Company s Annual Performance Report and signature of the Risk and Compliance Statement (as published on page 102). As with all bonuses, they remain discretionary and can be adjusted or removed at the Company s discretion, which is exercised by the Remuneration Committee on behalf of the Board. Maximum bonus opportunities are: Managing Director 55%. Finance and Regulation Director 35%. The weighting of annual targets across the three main categories described above are: Finance and Managing Director Regulation Director Customer service and operational performance 10% 5% Financial performance 20% 15% Personal targets 25% 15% Customer service and operational performance targets comprise a weighted basket of measures (shared with all employees), with awards for achievement of between 90% and 105% of annual targets for each measure. Financial targets are based on the Company s budget for the year. Outperformance of budget only attracts award if overall customer service and operational targets have also been achieved in full. Personal targets reflect a combination of project, developmental and behavioural measures designed to support delivery of the Company s strategic objectives. Rewards performance against longer term financial targets which support the strategic direction and value of the Company and the Group of which it is a part. Targets for financial performance over three years for the Company and the Group of which it is a part are set by the Board (as advised by the Remuneration Committee) annually before the start of the three-year performance period. Rewards only crystallise if the shared corporate targets for the levels of service to customers and other aspects of operational performance (as applicable under the Annual Bonus) are achieved. Performance is assessed annually following audit of the Company s financial statements and independent assurance of the levels of service achieved, prior to publication of the Company s Annual Performance Report and signature of the Risk and Compliance Statement (as published on page 102). Rewards only become payable at the end of the three-year performance period, when performance over the three year period as a whole is assessed. Payments under the Plan will be funded by shareholders from Group funds. As with all bonuses, they remain discretionary and can be adjusted or removed at the Company s discretion, which is exercised by the Remuneration Committee on behalf of the Board. Explanation of performance metrics chosen Performance metrics are selected to align with the Company s strategy. Performance targets are designed to be stretching and require year-on-year improvements in overall business performance. In setting stretching performance targets, the Committee takes into account a range of factors, including the Company s medium-term business plans, commitments to customers, regulatory and other obligations, and shareholder expectations. Customer service and operational performance targets reflect the high standards of customer service, drinking water quality, reliability of supply, asset stewardship and health and safety that our customers and other stakeholders tell us are important to them. Annual targets include the Outcome Delivery Incentives accepted by the Company as part of the PR14 Final Determination, and in certain cases exceed the regulatory commitment. Failure to achieve the overall operational and customer service target acts as a bar to any reward for financial performance above target. Financial performance targets are based on achievement of the Company s annual budget, which is designed to ensure that resources are in place to deliver operational and customer service priorities as well as regulatory and other obligations and provide returns to debt and equity investors consistent with reasonable expectations. Compliance with the financial covenants associated with the Company s principal external borrowings is assumed. Personal targets focus upon critical areas of business development, including process and service enhancements, demonstration of the Company s values, and employee leadership and development. Remuneration scenarios for Executive Directors In the illustrations of potential remuneration for Executive Directors shown below, the following assumptions have been made: Minimum performance Median performance Maximum performance Fixed pay Annual bonus Long-term incentive Fixed elements of remuneration are base salary, benefits and pension. Base salary is that applicable from 1 April 2016 and the value of benefits included in the single figure calculation on page 53. No bonus. 50% of potential annual bonus achieved. 100% of potential annual bonus achieved for delivering at or above the highest performance against the respective bonus targets. John Chadwick 000s No reward earned. On target reward earned. Maximum reward earned. The charts below show the relative split of remuneration between the fixed pay (base salary, benefits and pensions), annual bonus and long-term incentive elements for each Executive Director under the three scenarios described above. Anthony Ferrar 000s Key Fixed pay Annual bonus LTIP Key Fixed pay Annual bonus LTIP Opportunity Incentive payments for the three year period vary from on-target performance to maximum opportunities as shown below: On target Maximum available Managing Director 70% 140% Finance and Regulation Director 60% 120% Performance metrics Performance targets are for profit before tax and take into account forecast revenues for the appointed business (reflecting allowed revenues under Ofwat s PR14 Final Determination) and growth targets for the other businesses in the Group. The balance of targets between the Company and the other businesses in the Group will be determined by the Board on an annual basis. 0 Minimum Median Maximum 0 Minimum Median Maximum

28 52 53 Remuneration Committee Report Continued Non-executive Director fees Purpose and link to strategy Operation Opportunity Non-executive Directors receive only a fee, which is set at a level that reflects market conditions and is sufficient to attract individuals with appropriate knowledge, skills and experience. Fees comprise a basic fee plus enhancements for additional responsibilities including chairing Board Committees. Non-executive Directors representing shareholders receive no fees from the Company. Fees are reviewed every two years and amended to reflect market positioning and any change in responsibilities. The Committee and Managing Director recommend the remuneration of the Chairman to the Board. The Chairman of the Company, the Managing Director and the Company Secretary recommend the remuneration of other Non-executive Directors to the Board. Non-executive Directors do not receive annual bonuses nor do they receive any benefits or pension contributions. Fees are based on the level of fees paid to Non-executive Directors serving on the Boards of comparable companies and the time commitment and contribution expected for the role. Pay and conditions for other employees The Company aims to provide an overall remuneration package for all its employees that not only complies with any statutory requirements, but is competitive with remuneration for equivalent skills offered by other comparable employers, and is applied fairly and equitably across all employees. In particular, the Company applies the same core principles to all employees, whether Executive Directors or the most junior members of staff, namely: Employees will be remunerated in a manner that underpins the long-term stability of the business; and Each role will be remunerated fairly and consistently with due regard to market conditions, internal consistency and the Company s ability to pay. Many elements of fixed pay, benefits and pension arrangements are common to all employees. In particular, employees all have the same rights to participate in the Company s defined contribution pension scheme (and for those employees joining before 1 May 2002, the Company s defined benefit pension scheme), the cash health plan introduced in 2014 and the Employee Bonus Scheme introduced in Annual pay awards for most employees are negotiated with employee representatives taking into account the Company s ability to pay, comparable awards in other businesses, and increases in the cost of living for employees. Agreed awards are effective from 1 April each year. In the early part of 2015, agreement was reached with employee representatives for pay awards for the five years commencing 1 April 2015 comprising: A 2.2% increase in basic pay and associated allowances for the year beginning 1 April 2015; Increases in basic pay and associated allowances linked to the annual increase in RPI to the previous November (to which the majority of the Company s income is linked) for 2016/17 to 2019/20; A guaranteed increase of 1% pa for 2016/17 and 2017/18, and 0.5% pa for 2018/19 and 2019/20; and The opportunity to earn an Employee Bonus of 250 pa upon achievement of Company customer service, health and safety, and financial targets. Service contracts The service contracts for Executive Directors are subject to twelve months notice when terminated by the Company and six months notice when terminated by the Director. The Executive Directors contracts commenced on the following dates: Anthony Ferrar 1 May 2008 John Chadwick 10 August 2009 The Non-executive Directors, including the Chairman, do not have service contracts and their appointments, whilst for a term of three years, may be terminated without compensation at any time. The Chairman and the Independent Non-executive Directors have letters of appointment. The appointments of the current Non-executive Directors commenced on the following dates: Jeremy Pelczer 1 April 2013 Dave Shemmans 1 September 2014 Murray Legg 1 October 2015 Jon Woods 1 March 2016 Ryuichi Nishida 1 April 2015 Seiji Kitajima 1 October 2015 Single total figure of remuneration The table below shows the total remuneration earned by each Director in 2015/16, including annual bonuses in respect of performance against the targets shown on page 54. Long Pension Base salary Taxable Annual -term related 000 and fees benefits bonus incentive benefits Total Anthony Ferrar John Chadwick Jeremy Pelczer John Biles (to 31 March 2016) Stewart Gilliland (to 10 February 2016) Dave Shemmans Murray Legg (from 1 October 2015) Jon Woods (from 1 March 2016) 3 3 Totals Totals Base salaries for Executive Directors were increased broadly in line with salary increases for other Company employees from 1 April 2015 and 1 April Annual bonuses were determined in accordance with the policy described on page 50, reflecting performance against the targets shown on page 54. As not all targets were achieved in the year, no earnings under the long-term incentive plan were deemed to have crystallised in the year. Fees for the Independent Non-executive Directors have been set in accordance with the policy disclosed on page 52 and were reviewed during the year, with changes effective from 1 April The Remuneration Committee takes into account the annual pay award for employees along with the factors outlined above when considering any Basic Pay award for Executive Directors. Senior employees who are eligible for an annual bonus award share the same customer service, operational, financial and behavioural targets as the Executive Directors and also have personal targets set in the same manner and consistent with those of the Executive Directors. Recruitment remuneration policy When hiring a new Executive Director, the Committee will seek to use the policy detailed in the tables above to determine an appropriate ongoing remuneration package. If necessary to facilitate the hiring of an executive of appropriate calibre, the Committee may exercise discretion to include any other remuneration component or award outside this policy agreed with the Board. Appropriate costs and support will be covered if the recruitment requires the individual to relocate. None of the other Non-executive Directors received any remuneration from the Company. The Chairman also acts as Chairman of East Surrey Holdings Ltd, which remunerates him accordingly.

29 54 55 Remuneration Committee Report Continued Audit Committee Report Relevant details of annual bonus payment The targets shown below are common to all employees, including Executive Directors and senior management: Topic Target Achievement Overall drinking water quality (%) 99.96% 99.95% Service Incentive Mechanism survey results (score) Interruptions to supply >3 hours (hours per total number of properties) < Leakage (Ml/d) Health and Safety lost time incidents (number) 2 7 Financial budget Achieve Achieved Executive Directors and senior management also share three additional targets: Topic Target Achievement Number of burst pipes < Number of customer contacts on waste, odour and discolouration of water < Number of meters installed at properties for first time 6,400 6,333 The weightings applied to the combined set of targets for the Executive Directors are shown on page 50. Pensions Anthony Ferrar and John Chadwick have personal pension plans, to which the Company makes contributions. Pension contributions for these Directors amounted to 60,000 (2015: 66,000). Dave Shemmans Chairman of the Remuneration Committee 5 July 2016 STATEMENT BY THE CHAIRMAN OF THE AUDIT COMMITTEE Since my appointment to the Board in October 2015 I have welcomed the opportunity to work alongside John Biles prior to taking over from him as Chairman of the Audit Committee and Senior Independent Non-executive Director on 31 March I would like to record my appreciation of the support and insight John has provided during this planned transition. Whilst always focusing on safeguarding the highest standards of integrity, financial reporting, risk management and internal controls within the Company, the work of the Audit Committee inevitably comprises a mixture of recurring and new topics. A summary of our main activities during 2015/16 is provided later in this report, but some new activities in the year are worth highlighting. First, the transition from reporting under UKGAAP to the new accounting standard chosen by the Company (FRS 101) required substantial consideration over an extended period, but critical judgements were crystallised during the year as interim and now full-year financial statements were published in accordance with FRS 101 Reduced Disclosure Framework. Secondly the new requirement for a long-term viability statement required the Committee to consider the period to be covered, the stress tests to be considered and the mitigation measures available to the Company. Thirdly, the requirements of Ofwat s new Company Monitoring Framework have involved the Committee in reviewing and approving published Targeted Assurance Plans building on the Company s well-established framework for ensuring the accuracy and reliability of performance reports. Finally, the new assurance requirements on the Company s progress towards readiness to operate in the competitive market for business customers from 1 April 2017 required additional work by the Committee to support the first formal assurance letter from the Company to Ofwat in February In all of these new matters, as well as the ongoing regular activities, I have been impressed by the insight, diligence and seriousness the Company applies to all its assurance activities. The Committee has reviewed this Annual Report and accounts. It is able to confirm to the Board that it meets the requirements of the UK Corporate Governance Code by being, when taken as a whole, fair, balanced and understandable. It provides the information necessary for a user to assess the Company s performance, business model and strategy. I am satisfied moreover that, as a result of the work undertaken during the year, the Committee has acted in accordance with its terms of reference and ensured that good financial practices have continued to operate throughout the Company. Murray Legg Chairman of the Audit Committee 5 July 2016