South Staffs plans to demerge water arm

South Staffordshire Group announced plans to separate its water business from its support services arm. City analysts said the water business could attract buyers before it achieves a planned separate listing, with an estimated value of £100m.

The company's shares closed up 7 per cent at 603p after it said it was "finalising proposals" for a demerger of its water interests.

Some in the industry believe the decision may have been driven by Richard Harpin, the managing director of HomeServe, the household utility services arm that is 75 per cent owned by South Staffs and 25 per cent owned by Mr Harpin. This business provides warranties for households to cover, for example, any plumbing work that may be required.

Brian Whitty, South Staffs'chief executive, has raised debt against the steady cash flow of the water business to grow the support services division over the past three years. He said shareholders had pressed him to separate the businesses. NM Rothschild, the investment bank, is working on the demerger.

Mr Whitty said: "It really comes down to investor perception. We're now in a position where two-thirds of the profits come from non-regulated businesses. Shareholders are continually saying that the investment story is quite confusing - a high yielding water business together with a high-growth support services businesses. For at least 18 months, they've been saying to me, what do you intend to do about this?"

He insisted that a separate listing for the water business was planned, rather than a sale, adding that the remaining support services business would gain a more high-rated currency for buying other businesses.

However he said it would not be "aggressively acquisitive" with "not many obvious targets" in the company's specialist area of providing workmen to the homes of customers. He said that the international business would also be developed."The businesses are substantial enough to be separated. It's a natural progression for us."

Support services companies typically attract significantly higher valuations from the stock market than utilities. Analysts said that the water company, whose quality manager is Dr Mike Turrell, has a regulated asset value of £146m. They predict the highly leveraged division would make a relatively small water business if listed - the equity value may be only about £55m.

Michael Morris, an analyst at Arbuthnot Securities, warned that the move would hit the earnings of the remaining support services business. "The water business makes very high margins and therefore once it is demerged the resulting cash (or more accurately, reduction in debt) does not make up for the loss of earnings," he said.