November 2001 saw Thames Water win a 30-year concession contract to operate the water and waste water systems in Region VII of south central Chile. Far from being Thames’ first incursion into the Chilean water market, this was just the latest in a series of moves that has elevated Thames Water to a position where it serves nearly 20 per cent of the Chilean population, and is the second largest private water services provider in the country.

It had already bought the water providers in two other neighbouring regions of Chile in 2000, and today supplies over 3 million customers. Thames’ Chilean business now has 1,200 employees and a 2002 projected annual turnover of US$120 million. Yet two years ago, this was a business that simply didn’t exist.

This rapid and substantial growth is largely the result of the privatisation policies pursued by the Chilean Government over the past four years, and we will be looking at this in some detail later in this article. But first we need to consider the scale of the changes that Thames itself has been ringing.

Ten years ago Thames was the water company for London and part of south east England. This represented a relatively large market and gave Thames the wherewithal to look beyond the UK regulated water sector in seeking to internationalise and expand its scale of operation.

It was also a market in which Thames had established a reputation for providing high quality customer service and environmental management, as well as water. Its managerial and operational skills had led it to become one of the UK’s most efficient providers of both water and waste water services. Moreover, it was in a position to offer its customers one of the lowest combined bills in England and Wales. It had also helped to transform the River Thames to such an extent that it is now one of the cleanest metropolitan rivers in the world.

It is the solidity of this reputation in its home market which has been critically in assisting its overseas expansion. However, that expansion had been gathering pace well before Thames itself was acquired by RWE in November 2000. This added considerable financial muscle to Thames’ commercial, operational and management skills, and enabled Thames to become a genuinely global water business. It is now the third largest water and waste water operator in the world, with a presence in 44 countries and 43 million customers from Adelaide to Zagreb.

Although the UK remains Thames’ largest market, that honour is likely to be shared with the USA in 2003, when the US$7.5 billion acquisition of American Water Works, and its 13 million customers, is due for completion. This will mean that Thames Water will be the market leader in three of the world’s four largest economies, as RWE was already the leading water provider in Germany.

Thames had established itself in Chile before RWE arived on the scene and expanded their involvement from that point on. However, it was the growth opportunities provided by its German parent that have seen Thames change from a UK company with a number of overseas operations, into a thoroughly global business.

About Chile

Located on the west side of the Andes Mountain in South America, Chile’s geography results in some considerable technical difficulty for water supply. This is due in large part to the fact that the rivers that are used for providing drinking water are very fast running. Geographically it is a long, thin country with 2,600 miles of coastline and a range of environments and climates that span desert in the north to fjords in the south. It is divided administratively - from north to south - into 12 regions, the thirteenth being the metropolitan area around the capital Santiago. With a population of around 15 million, the country is a politically stable democracy and has a sound macroeconomic base. It is the world largest exporter of copper and has an export driven economy, the main commodities being fresh produce, forestry, fishing, and wine.

Its solid legal framework makes it attractive to foreign investors, and there is no discrimination, positive or negative, between national or overseas investment. Meanwhile, with over 20 years of experience of privatisation, Chile has well-developed systems of regulation for utility companies, in particular water utilities.

In short, it was, and is, a market that represents a proper environment for a British company to invest in, as a long-term business opportunity.

Chilean water sector

Chile has 13 main water utilities, one in each region which provide service to 94.8 per cent of the urban population. In addition there are 30 small water companies which service a further 4.8 per cent. Clean water services are therefore available to almost the entire urban population of the country. Coverage for sewage collection is also high at 93.3 per cent. However, waste water treatment facilities are only available to 26.6 per cent of the Chilean people.

Prior to 1998, all of the main regional water utilities were state-owned. But, a privatisation process initiated that year has seen a major shift away from public provision, and now nearly 77% per cent of the Chilean population is served by private water operators.

As in many other countries, water is the most politically sensitive utility service of all, and the Chilean authorities have taken special care to regulate the sector properly. There is a relatively independent water regulatory body, the head of which is a direct appointee of the President of the country. The sector’s regulatory framework includes three other main laws which govern the provision of services under a concession; the tariff setting process; and the right to a direct subsidy for those customers with low income. In addition, all main water utilities are also under the regulatory eye of the Stock Exchange, National Health Authority, National Rivers Authority and the Environmental Agency.

The tariff regulation system was designed to incentivise efficiency in the provision of the service and guarantee a minimum return on investment calculated on the basis of an efficient model company. Tariffs are set every five years through a process of transparent negotiation with the Regulator.

If all of this sounds relatively familiar, it is because water regulation in Chile is very much based on the UK model. It achieves a balance between securing good quality service for the community and fair returns for the providers of the service. In fact, the Water Association in the UK has been quoted as describing the Chilean regulatory system as ‘one of the best in the world’.

Thames Water has an excellent relationship with government officials and with the Water Regulator, and the company enjoys a very good reputation.

Private sector participation in the Chilean water sector

Chile has developed and implemented the three main planks required of private sector utility participation in the water industry:

• A solid regulatory framework that protects the rights of both the service provider and the customer
• A professional regulatory body, the Superintendencia de Servicios Sanitarios (SISS) which has the necessary expertise to enforce compliance with water regulation and
• A transparent tariff setting process that in addition to encouraging efficiency, guarantees a fair price to customers and an adequate return to the service provider.

As mentioned earlier, Chile began its process of privatising its water industry in 1998. The main three main objectives of the privatisation were the freeing-up of state financial resources; the modernisation of the country’s water and wastewater treatment infrastructure; and the consolidation of regulations into a strong framework.

Between 1998 and 2000, five of the 13 state-owned water companies were partially privatised, with private utility operators taking 51 per cent stakes in them. During 2001, however, the Chilean Government decided to change the way in which it wished to involve the private sector, moving from straightforward privatisation by equity sale, to the issuing of concessions. Under this new scheme, a sixth company was allocated to an operator during 2001.

An important characteristic of the Chilean privatisations has been the encouragement that the government has given to the participation of any type of utility company in the process. As a result, a number of power companies –initially - invested in water.

However, as the process has gone continued it has been water companies that have stayed the course, and the main players in the Chilean market are Thames Water, Ondeo and Anglian Water. At present almost 77 per cent of water company customers are served by international water operators, the remaining 23 per cent are expected to follow suit by December 2002.

Current regulations impose restrictions on market shares in the water sector. For example, no company is allowed, either directly or indirectly, to operate more than 50 per cent of the total number of customers in the country.

Thames Water in Chile

Thames Water began to look at and assess the Chilean market in 1998, shortly before the first privatisation of a regional water company, ESVAL, the water supplier for Region VI. But it was too soon for Thames Water to actually take part in the process, and no offer was submitted.

By 1999, however, Thames was in a position to make serious offers, and joined in the bidding for Santiago’s water utility EMOS. This was the first time Thames had been actively involved in the Chilean privatisations and on this occasion it was unsuccessful, losing out to Ondeo.

The second privatisation of 1999, that of ESSAL (the water company responsible for Region X) once again went ahead without the participation of Thames Water.

But in 2000, Thames Water won control of both of the companies that were privatised: ESSEL, which serves Region VI and ESSBIO, which serves Region VIII.

ESSEL

In a joint venture with EDP, Portugal’s electricity company, Thames acquired 51 per cent of ESSEL shares during March 2000 at a price of US$134 million. Later, in December 2001, Thames Water bought out EDP’s stake in the JV.

ESSEL is based in the city of Rancagua, about 50 miles south of the capital Santiago, from where it provides water and waste water services to Chile’s Region VI. The company’s turnover in 2001 was US$19 million.

It has 147,000 customers, serves 573,000 people and has 4.3 per cent share of the Chilean water market. While 99 per cent of customers received water services, and waste water coverage was also up at 80 per cent, waste water treatment coverage was only 28 per cent.

A capital expenditure programme of around US$85 million is planned for the next five years, with the focus primarily on the construction of waste water treatment plants.

Treatment in this area is expected to rise to 100 per cent by 2006, and indeed it has already risen to 80 pr cent - the highest in the country – following the completion of the Rancagua wastewater treatment plant during 2001.

In the same month that Thames won control of ESSEL (March 2000), it also opened an office in Santiago to manage its operations and business development in Chile and throughout Latin America.

ESSBIO

The next step in Thames’ involvement in Chile occurred in December 2000, when it acquired 50.96 per cent of ESSBIO shares for US$336 million.

Based in Concepción, 350 miles south of the capital, it is the second largest water and waste water company in Chile serving 1.7 million people in Region VIII. It has 380,000 customers, a market share of 10.7 per cent and a turnover in 2001 of US$46 million.

ESSBIO had coverage of 99 per cent for water and 86 per cent for waste water. But again, waste water treatment coverage was low, and this, together with enhancements to customer service, will be the main target of the five-year, US$180 million capital investment plan.

Waste water treatment is forecast to grow from 35 per cent at the beginning of 2001 to 75 per cent by the end of 2003, rising to approximately 100 per cent by the end of 2006. This ambitious target will be achieved by building two large plants in Los Angeles and Concepción.

This acquisition consolidated Thames Water’s position in the Chilean market where its 15 per cent market share already made it the country’s second largest water operator. But ESSBÍO was the last water company to be sold. It was after this that the Chilean government changed its privatisation policy from the sale of majority shareholdings to a policy of concessions.

During November 2001, Thames Water won a 30-year concession contract for the country’s fourth largest water company ESSAM, for US$171 million. This is the only concession to have been granted so far.

ESSAM

Based in Talca, 155 miles south of Santiago, ESSAM serves Region VII. This means that Thames Water now has operations in three geographically contiguous regions, and with that the possibility of creating synergies between the three companies.

ESSAM, which has subsequently changed its name to Aguas Nuevo Sur, Maule (ANSM) has 158,000 customers, and serves 582,000 people. Turnover in 2000 was US$21.4 million, and it has a market share of 4.6 per cent.

Water and waste water coverage are already high at 99.7 per cent and 95.2 per cent respectively, so the capital investment programme of approximately US$90 million over the next five years will again concentrate primarily on waste water treatment and enhanced customer service.

ESSAM concession contract

The concession contract for ESSAM is a result of negotiations between the Chilean government and the bidders. The basic principle is that the Concessionaire (ESSAM) transfers to the Operator (ANSM) the exploitation rights of the concession, together with full management rights for the concession period of 30 years.

The Operator receives tariff revenues which come from related services where prices have been agreed by the parties - such as industrial effluents - and a payment at the end of the contract period for investments where the positive difference in value added has not been recovered by the tariff. Penalties are applied when the Operator does not comply with the legal and regulatory obligations, such as the continuity and quality of the water supply, or compliance with the Development Plan agreed with the Regulator.

The provision of sanitary services is subject to the separate Tariff Law of Sanitary Services and its corresponding regulation. Tariffs are calculated by applying tariff formulae determined by the Regulator (SISS) and based on incremental development costs. Meanwhile, any dispute has to be solved by mutual agreement through negotiation between the parties and, if there is no agreement, by binding independent arbitration. The arbitrators decide in accordance with Chilean law.

The Operator can develop other related core business, with industrial effluents for example, where prices are not regulated. The Regulator (SISS) supervises, instructs and penalises the Operator directly. But in case of any concession extension, this is agreed directly between the Concessionaire (ESSAM) and SISS. The Concessionaire then has to pass the extended concession to the Operator.

Future plans

As a result of its acquisitions and the development of its business in Chile, Thames Water has gained considerable local operational experience, and excellent market knowledge, that it can apply not only in Chile, but in other Spanish-speaking markets in Latin American - and also in Brazil.

There are plenty of opportunities, and these will be assessed on a project-by-project basis. But in the immediate future, Thames Water’s strategic attention will be turned to expansion further south in Chile. The next regional water company to be offered for concession, for example, is ESSAR (Region IX), which is adjacent to the territory served by ESSBIO.