INDEPENDENT WATER COMMISSION

In the Foreword to the above commission’s final report, written by Sir Jon Cunliffe (a former civil servant and Bank of England official), it is stated: ‘This sector requires fundamental reform on all sides – how we manage the demands on water, how the system is regulated, how companies are governed and how we manage the critical infrastructure on which we all rely.’

The Foreword continues to set out what it considers to be the purpose of the Report, and the need to ‘address the absence of a long-term, cross-sector strategy for water … A clear set of national priorities for water – covering the water industry, agriculture, land-use, energy, transport, housing development … changes to improve affordability and customer service, including the introduction of a single social tariff … a new, fundamental rebalancing with the introduction of a company-specific supervisory function to sit alongside and to inform the econometric, industry-wide benchmarking approach … changes to the Price Review process that include new mechanisms to make sure sufficient funding is dedicated to asset maintenance … and to restore investor confidence that investing in the sector is a “fair bet”.’ Also (italics my emphasis):

‘Within our Terms of Reference, we have looked in depth at ways to ensure water companies are aligned with the public interest. Alongside a stronger regulatory approach, we have set out changes to governance including a new regime for senior accountability and changes to company licence conditions. We also propose giving the regulator the power to block material changes in control of water companies – for example, where investors are not seen to be prioritising the long-term interests of the company and its customers.’

Revealingly, the Foreword ends:

‘And finally, we cover infrastructure – the underground pipes and other assets that underpin our water and wastewater services. We need far greater clarity on the health of these crucial assets and the resilience of the system as the infrastructure ages and the pressures upon it increase. Given the importance of this vital national infrastructure, we have proposed new national resilience standards to drive the action and funding necessary to ensure these assets are fit for the future.’

We are to believe that the highly-paid (with vast bonuses) management of the water companies have, thus far, lacked the gumption to carry out an audit to find out which of the ageing assets needed maintenance or replacement.

The report extends to 464 pages, no less, as it shoots off in a variety of directions giving a micromanaged account of what it says is needed. It recommends a bureaucratic response to the future management of the sector. However the central issue, which the report skirts around, is not directly addressed.

The water companies were privatised with no debts. They were sold to a variety of investors as independent organisations. There then followed a series of takeovers, concentrating ownership in private equity and like firms. The takeovers were funded by large bank borrowings again and again. The new owners set about turning the net asset value of the companies into cash and dividends. One estimate is that £77 billion has been taken out in dividends and bank borrowings are now £64 billion. The companies neglected to invest in the infrastructure and steadily the industry failed. Untreated sewage discharges into rivers and seas became the norm and far cheaper than actually doing what the customers, the general public, paid them to do. Meanwhile, the regulators and the politicians sat back and watched, before making a few gestures at doing something.

In 1995, the government redeemed a golden share that it had retained. This was a mistake. The government paved the way for what followed.

The central issue today is that the various water companies are either barely solvent or are insolvent due to the scale of debts they merrily acquired and the interest charges thereon. Those companies want to be able to exploit their monopoly position to impose substantial price increases on customers. Ofwat has approved this. The customers object.

Of Ofwat, the report says:

‘The Commission has heard that Ofwat has focused too much on price scrutiny and keeping bills low. This may have been at the expense of longer-term resilience. Ofwat challenge this view and point out that, at Price Review 2019, they “did not reject a single scheme on the grounds of affordability”. Though, as described below, companies argue that Ofwat’s incentives effectively deter them from bringing forward their true assessment of what is needed. Notwithstanding, stakeholders have highlighted in evidence to the Commission, for example, that “Ofwat’s priorities need to be reconsidered. Low bills have led to a lack of infrastructure investment and a significant rise this year to meet…environmental responsibilities. It would have been far better to increase bills steadily over the past 20 years, rather than the huge hike we have seen this year to restore or replace infrastructure that is not working. The pain felt by customers this year would have been far less if there had been a gradual move towards the current position.” The Commission has heard that there has also been an “invisible gap” where companies have been deterred by Ofwat for submitting business plans on what they actually need to spend on infrastructure … This could have deterred companies from submitting plans for necessary spending on the capital maintenance and/or enhancement of assets in the first place, where this was not in line with Ofwat’s view, and even penalised them for simply making the case.’

The report makes the above comments and insinuations despite elsewhere saying: ‘ Ofwat has a primary duty to protect the interests of customers. They regulate to ensure fair treatment and service levels by setting and monitoring guaranteed standards, financially incentivising companies to improve consumer outcomes and more broadly monitoring company performance against customer outcomes.’ Ofwat’s primary purpose is to ensure that the water companies do not exploit their monopoly position to fleece customers and provide a shoddy service. Ofwat is correct to object to large hikes in customer bills when they know that the water companies have been paying out large dividends and/or have been engaged in financial chicanery.

The report continuously refers to the interests of investors:

‘The Commission has identified 6 main issues in relation to the attractiveness of the sector to investment:

• The low levels of return

• High levels of risk

• The need for new equity

• Competing demands for investment in other similar sectors and countries

• The impact of government and regulation

• Past decisions by companies that have weakened them and made them less attractive’

The industry was privatised without debt. It is a monopoly. If there is any noticeable risk, let alone ‘high levels of risk’ it is as a result of the water companies’ own mismanagement. The report continues:

‘Investors have emphasised to the Commission that equity financing needs of the water sector are now much higher – meeting these needs will be challenging given low returns and high levels of risk … More equity is also necessary now because debt at many water companies is too high relative to the level of equity to provide adequate headroom for further borrowing without damaging companies’ financial resilience. Water companies have estimated they will need an additional £7 billion of new equity to finance the £44 billion of enhancement investment planned over the next 5 years.’

The report claims that the pool of investors is limited and that the bad publicity and criticism of the water companies might deter potential investors.

At page 321, the report manages to observe:

‘Stakeholders note that decisions by a number of companies to increase debt to high levels in the 2000s and adopt complex structures, for example, have increased perceived risk at these companies and contributed to the increase in the assessment of risk for the sector as a whole. They also note that these decisions have contributed to declining returns for those companies, as senior management have become focused on meeting debt covenants at the expense of operational performance … The perception of very high risk at some companies, particularly Thames, has also damaged the reputation of the sector in the eyes of investors and has likely pushed up the financing costs of the sector more generally.’

The report acknowledges ‘legitimate questions’ exist about:

‘whether companies have, in some cases, issued dividends at the expense of their own financial resilience. Between 2002 and 2012 some companies – including Anglian Water, Thames Water, Southern Water, Yorkshire Water, South East Water and Affinity Water – carried out balance sheet restructuring. As part of restructuring, companies raised increased levels of debt at the regulated company and also paid special dividends or made inter-company loan arrangements. The payment of such dividends may have left companies with reduced financial resilience. Southern, South East and Thames Water are rated with Ofwat financial resilience status in 2023-24 of “action required” and with gearing above 80% across multiple years since 2022.’

The water companies might think that exploiting their monopoly status and fleecing the customers is a way out for them. But neither Ofwat nor the government should either encourage or facilitate this. The law should be applied and companies fined for breaches in the duties owed. If they cannot fund themselves, then they can either suspend dividend payments and negotiate a suspension of interest payments with their bankers – or else go into administration with the companies being sold off for whatever they sell for and the bankers can write off any shortfall.

There is no justification for customers to be forced to pay high water changes in order to bail out the bankers.

The report is a bureaucratic, long-winded cover up and should be ignored.

Presently, the government is going around claiming that they cannot afford to nationalise the water industry as it would cost £90 billion. To be blunt, that is a lie. The £90 billion is a gerrymandered figure concocted by the water companies. This is an insolvent situation and the companies are worth what their assets will sell for in a fire sale.