Water In Trouble - Another Privatisation Rip Off Coming Home To Roost

3rd July 2023

Thames Water (TW), the largest water utility in the UK, is facing significant financial difficulties, according to reports. The company, responsible for providing water and sewage services to 15 million people in London and the Thames Valley, is struggling to secure additional funding to sustain its operations. With a massive debt of GBP 14 billion and a series of water and sewage leaks plaguing its system, TW is burdened by its current situation.

When TW was privatised it had £5billion of debt written off by the Government/taxpayer. What did it do after the deal was done but begin to take on ever more debt to pay dividends to shareholders and directors.

Newly privatised water companies had started out with zero debt in 1989. Yet by the end of March 2022, total debt in the sector was at £60.6 billion. In part, the increased debt was used to refinance the companies so that investors could repay themselves part of the original cost of buying the water utility.

The UK government is considering temporary intervention through a Special Administration Regime (SAR) until a new buyer can be found. This predicament could have implications for other water utility companies operating in the UK.

Originally privatized in 1989 alongside other utility and industrial sectors during the Thatcher administration, TW is currently owned by a variety of private equity, pension, and infrastructure funds. Major shareholders include Ontario Municipal Employees Retirement System (OMERS) with a 31.8% share, Universities Superannuation Schemes with 19.7%, Infinity Investments SA with 9.9%, and British Columbia Investment Management Corporation with 8.7%. While pension funds hold significant stakes in TW, their highly diversified portfolios reduce the potential impact of TW's failure on these institutional investors.

In response to rising inflation, interest rates, and government pressure to invest in critical infrastructure improvements, TW's owners committed to injecting GBP 500 million of equity into the company's balance sheet. They also pledged an additional GBP 1 billion, acknowledging that further shareholder funding might be necessary to stabilize their financial position. However, the first GBP 500 million was only received in March 2023, and no progress has been made in securing the additional pledged GBP 1 billion. Consequently, the company now finds itself lacking the necessary funding to effectively continue its operations.

Furthermore, TW has been plagued by serious infrastructure problems, including water and sewage leaks. Sewage leaks have worsened throughout the company's system, reaching the highest level in five years. TW has admitted that it will be unable to meet its target for reducing leakage rates this year.

Under the current regulatory framework set by the Water Services Regulation Authority (Ofwat), utilities failing to meet performance commitments face financial and reputational penalties known as outcome delivery incentives (ODI). These penalties can reduce future revenues.

TW's poor operational performance has resulted in ODI penalties of GBP 53 million in FYE21 and GBP 51 million in FYE22. The funding challenges and ongoing infrastructure issues have led to the resignation of CEO Sarah Bentley on June 28th, following the departure of the previous CEO, Steve Robertson, in 2020.

TW has reported significant losses in recent years, with GBP 973.3 million in FYE22 and GBP 198.5 million in FYE21. These losses have made it even more challenging to raise additional capital from its current investor base. A significant factor contributing to the poor performance is that more than half of TW's debt is linked to the Retail Price Index (RPI), which has a historically wide premium compared to the Consumer Price Index (CPI) used to price consumers' water bills. Consequently, the cost of the company's debt is outpacing its revenue growth at an alarming rate.

TW's problems are not unique, as the entire water utility sector in the UK is facing inflationary pressures and higher interest rates. Over half of the sector's average debt costs are linked to inflation rates. Additionally, water and sewage leakage is a common problem across the industry due to aging infrastructure and insufficient investment in recent years.

The government has mandated a total investment of GBP 56 billion over the next 25 years, with Ofwat proposing to accelerate GBP 1.6 billion of expenditures originally planned for the next regulatory period. The Environment Agency and Ofwat are also investigating all water and sewerage companies with quite a few holding huge debts that are now in question due to the rising interest rates due on them.

TW's problems are not unique, as the entire water utility sector in the UK is facing inflationary pressures and higher interest rates. Over half of the sector's average debt costs are linked to inflation rates. Additionally, water and sewage leakage is a common problem across the industry due to aging infrastructure and insufficient investment in recent years. The government has mandated a total investment of GBP 56 billion over the next 25 years, with Ofwat proposing to accelerate GBP 1.6 billion of expenditures originally planned for the next regulatory period. The Environment Agency and Ofwat are also investigating all water and sewerage companies for breaches in sewage treatment and excessive discharges into the environment. Ofwat has initiated enforcement cases against six water utilities, including TW, which may result in financial penalties.

The potential failure of TW raises concerns about the sector's ability to meet the government's infrastructure overhaul plans. While the current regulatory regime allows water companies to recover investment through tariffs, the upfront capital required for infrastructure works is substantial. Water companies are lobbying for up to a 40% increase in household bills at the next price review in 2024 (PR24). However, any rate increases must be balanced by the ongoing cost-of-living pressures on UK households.

In conclusion, a significant equity investment is necessary for TW to meet its debt obligations. Otherwise, the government may need to intervene to keep the company afloat. Recent examples of stressed privatised energy and utility companies include Bulb, which was acquired by Octopus Energy under the government's SAR, Macquarie's acquisition of a majority stake in Southern Water with a GBP 1 billion injection of new equity, Anglian Water's GBP 1.2 billion equity injection from its owners, and Yorkshire Water's GBP 500 million raised from shareholders.

These cases present potential solutions for TW and the government if the SAR is enacted. However, attracting such investments may prove challenging given the industry's infrastructure challenges and inflationary pressures. TW's current financial instability and infrastructure problems will likely impact other sector participants, increasing sector credit risk and the cost of raising capital.

What about Scottish Water you may ask
Scottish Water is still a company owned by Scottish Government and although it may not have the debt problems to the same extent it has a big problem with discharges. There is a debt issue but it is nothing like the problems of water companies in England.