Cover Story: Old flame, new fire

Two years ago, British Gas held the dubious accolade of being Britain's most hated corporation, having earned its place in history as the birthplace of the Fat Cat. Then it was broken up, and today Centrica, its sales arm, is one of the nation's most admired companies with money to burn. It is even toying with buying the RAC. So how was this transformation achieved?

WHEN BRITISH GAS was broken up two years ago into a trading company called Centrica and a gas storage and transportation business called BG, they carved up the rights to the trade name between them.

But they also drew up a "poison pill" agreement to protect each other. If either company were taken over, the new owner would forfeit the right to call itself British Gas or use the familiar blue flame logo.

At the time it did not seem to be much of a defence against hostile takeover bids. Indeed, it looked more like the product of some terrible, misguided vanity. Far from being a prize asset, the name of British Gas was Mudd. Customer complaints were at an all-time high. The company had earned the soubriquet of the most hated corporation in Britain. Cedric Brown, its former chief executive, had assured British Gas a footnote in history as the birthplace of the Fat Cat. It was the kind of publicity that would make most firms desperate to change their identity, not ringfence it.

Of the two new businesses, Centrica was the one most in the firing line. It was the public face of British Gas to 19 million disgruntled customers through its chain of High Street energy centres. It was also responsible for checking three million central heating boilers through the three- star service scheme.

If any business was on a hiding to nothing, it was Centrica. But its troubles did not stop there. Competition had been introduced into the domestic gas market and British Gas's monopoly was being eroded fast by smarter and nimbler rivals who did not carry the same negative baggage and could offer cheaper prices. To cap it all, Centrica had inherited some pounds 30bn in liabilities in the shape of the old parent company's take- or-pay gas contracts in the North Sea.

If all of that wasn't enough to sink Centrica outright, it was sufficiently serious, potentially, to hole it below the waterline. Small surprise that the British Gas chairman, Sir Richard Giordano, had a simple piece of advice for the army of Sids who had jumped on board in 1987 when the business was privatised - abandon ship now.

There didn't seem to be much future in being a shareholder anyway since Centrica was not forecasting anything other than losses and was therefore not paying a dividend.

How times change. Last week, Centrica reported its first profit and, to reward those shareholders who had remained loyal, announced a special dividend totalling pounds 530m. And Centrica has reversed the tide of customer desertions. Its share of the domestic market has fallen to 80 per cent but for the first time since competition began in April, 1996, it is gaining more customers than it is losing. Since the opening of the electricity market to competition last August, it has also set itself the goal of replacing every one of the four million gas customers lost with a customer from one of the regional electricity companies. After seven months, it is a quarter of the way towards its target. But its sights now stretch beyond home energy. It wants to buy the RAC's motoring services division and is also lining up a consortium bid for Drax, Britain's biggest power station. Ultimately, Centrica sees no reason why it shouldn't leverage its customer base of 15.5 million households and the British Gas name to provide everything from car insurance and home shopping to mortgages and domestic appliance repairs.

There are several factors behind the transformation. Customer inertia is one. Based on Centrica's experience in those regions where competition has been running longest, it looks as if loss of market share has hit a natural floor at about 30 per cent. Centrica's ability to offer "dual fuel" deals to households has made it price-competitive.The series of documentary-style television adverts, using real customers and real service engineers and filmed by Dominic Savage, the Cutting Edge director, also plays cleverly to the strengths of the British Gas brand. But most of the renaissance is down to two men, Centrica's chief executive, Roy Gardner, and its finance director, Mark Clare. Mr Gardner is all restless energy, his muscular physique accentuated by a tan he picked up last month in the Bahamas. Before joining British Gas as finance director in 1994, he was managing director of GEC Marconi where he learned his trade under Lord Weinstock. Mr Clare, a former STC executive, is one of those finance directors who is a big picture man, not simply a number cruncher. They make an interesting contrast with the two top men at BG, David Varney and Philip Hampton, who are also highly rated but in a different way. Where Mr Gardner is streetwise and forever on the lookout for a deal, Mr Varney is analytic to the point of being ethereal.

"Gardner would sell his granny if he thought he could make a turn on it whereas Varney would probably philosophise on the ethics of treating old people in that way," says one analyst. "Gardner is a streetfighter. He just wants to take the gloves off and get in there."

His pugilistic tendencies have not hurt the share price. Since demerger in February, 1997, Centrica has outperformed the market by 20 per cent, not bad for a company that recorded a bottom line loss of pounds 791m in its first year of trading. Dr Rod Maclean, oil and gas analyst at ABN Amro, says: "Slowly but surely, they are putting the pieces together. They have renegotiated a good deal of the take-or-pay contracts, their gas market loss is less than expected and they have done better in electricity than they thought they would. As for the energy regulator, he has much bigger fish to fry elsewhere." Centrica says the cost of acquiring each new electricity customer is pounds 30 compared with the pounds 100 a head National Power paid when it bought the supply business of Midlands Electricity and the pounds 200 per customer PowerGen is paying through its acquisition of East Midlands Electricity. The City likes these numbers and the extra profit it expects Centrica to squeeze out of its new customer base.

ABN Amro is forecasting that operating profits will more than double from pounds 208m last year to pounds 528m in 2002. "The question is, `Where to next'," says Mr Maclean. "What worries some people is what they might buy and what the long-term growth prospects for the company are."

In particular, what worries the market is the idea that Centrica might become a roadside breakdown service. Mr Gardner says he has merely registered an interest in RAC. Even if it does bid it is expected to offer substantially less than the pounds 450m that Cendant of the US was prepared to pay. "Our operations are quite similar in terms of logistics, customer interface, billing and purchasing so the savings would be quite large," says Mr Gardner.

That much is true. Both businesses have men and vans and call centres and both provide an emergency service, which makes their cultures similar. But Centrica sees opportunities beyond that to exploit its expertise as a service company. Mr Gardner says that other than BT, no other company has a comparable customer base. He believes it could support a great many more products and services around the home. Last year Centrica launched a home security division and more recently it has started experimenting with air-conditioning and electrical repair.

Beyond that it is examining the potential of home shopping and the burgeoning market of home automation - remote diagnostic systems that monitor utility services in the house. If Centrica takes the plunge into mortgages, it would be through its financial services division, which pioneered the successful launch of Goldfish and now has nearly 900,000 card members.

Inevitably, this has raised fears that Centrica may overstretch itself at the expense of its bedrock business of gas supply. But the Gas Consumers Council does not share this concern.

Jenny Kirkpatrick, its chairwoman, says: "Provided it brings greater energy efficiency into the home and doesn't disadvantage those who are less able to afford the add-on services, then it will be beneficial."

The council is less happy with Centrica's dominant market position. "After nearly three years of competition, it still supplies eight in 10 homes with gas and looks like replacing all its lost gas market with new electricity customers," says Ms Kirkpatrick. "If I was one of the smaller players up against British Gas, I'd be cheesed off."

Mr Gardner likes it that way.

Centrica Turns Up The Heat

CENTRICA WAS formed from the demerger of British Gas on 17 February 1997. It is valued at pounds 5.2bn and has 15,000 employees and 15,500,000 domestic and industrial customers. It also operates a 240-strong chain of gas showrooms and has a service division with three million customers.

Its chairman is Sir Michael Perry, the former chairman of the consumer products giant Unilever. But the driving forces behind the company are Roy Gardner, its chief executive, and Mark Clare, the finance director. Mr Gardner, 53, has run the New York and London marathons and is an avid Manchester United fan. He joined British Gas in November 1994 as finance director and took charge of the businesses that formed Centrica a year later.

Mr Clare is regarded in the City as much more than a conventional finance director. "He's very much in control of the strategy as well as the numbers," says one analyst. "Together they make an impressive pair."

The rewards of success are large. Mr Gardner earns pounds 493,000 a year and has a further 1.3m Centrica shares earmarked for him under the company's long-term incentive scheme. In addition he has 1.4m share options currently showing a paper profit of pounds 500,000.

But the 1.3m Sids who have stuck with Centrica since demerger also stand to gain - its share price has risen 60 per cent in the last two years.

Apart from gas, Centrica is also the company behind the Goldfish credit card, which now has 900,000 mem bers. It is keen to expand further into financial services, possibly offering mortgages. It is also looking at buying the RAC.