A CONSORTIUM led by Goldman Sachs is tipped as the frontrunner in the £4 billion auction of Southern Water, the utility group that supplies water to more than 1m households in the southeast.

Final bids for Southern are due tomorrow. The group is being sold by Royal Bank of Scotland’s private-equity arm.

With 2,000 staff and assets valued at £2.9 billion, Southern supplies to Kent, Sussex and Hampshire. As well as supplying water, it treats and recycles dirty water from nearly 2m homes.

Three consortiums were expected to contest the final showdown, but one, led by Morgan Stanley and including Scottish and Southern Energy, dropped out last week.

This leaves the auction to be contested by two groups – the Goldman-led team, which is understood to include Rreef, an investment arm of Deutsche Bank, Babcock & Brown, the Australian finance group, and one led by investment bank JP Morgan, which is being advised by Macquarie, the specialist Australian infrastructure investor.

General Electric, the American conglomerate that is one of the world’s largest companies, has withdrawn from the Goldman team, City sources said yesterday. Bankers said Goldman was regarded as the frontrunner in the race, but that the outcome of the auction was still uncertain.

Commentators said a successful sale of Southern at £4 billion, which represents a 25% premium to the company’s regulated asset value, might kick-start another round of bidding in the utilities sector.

Geraint Anderson, utilities analyst at Dresdner Kleinwort, said: “If the auction achieves the expected £4 billion price tag, it is likely to reignite interest in the remaining listed UK water companies.”

Analysts will watch closely the price paid for the utility group. Macquarie set a new benchmark for UK utilities last year when it bought Thames Water, Britain’s largest water company, in a deal that put an enterprise value (equity plus debt) on the business of £8 billion.

This represented a 20% premium over the company’s regulated asset base, whereas previously investors had paid close to or below the value of the regulated assets.

The value of utility companies has soared as more and more investors have been attracted by their combination of stable cashflows and relatively low-risk business.

Using the Thames Water valuation as a benchmark, Southern would have an enterprise value of £3.3 billion.

City sources have speculated the bidding could go as high as £4 billion, but some believe this is unlikely.

RBS bought Southern Water with the French environmental services group Veolia in a £2 billion deal in 2003. At the end of last year, analysts at UBS estimated that there was $1,300 billion (£636 billion) of global capital available to invest in infrastructure businesses.

In June, a survey by KPMG found that nearly two-thirds of senior utilities industry executives surveyed by the accountancy firm were contemplating merger activity. This will be the first test to see whether the appetite is still there, despite the summer’s turmoil.

Dresdner’s Anderson said: “A sale of Southern at a decent price will prove that the problems in the credit market have not affected the desire for highly regulated companies with strong cashflows, like water companies.”

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