How bad are things at Thames Water? So bad that Ofwat has invented a new tool – a “turnaround oversight regime” – to get a grip on the financial and operational mess.
The regulator’s manoeuvre is clearly justified. The water company, under its umpteenth new chief executive, has just filed (late) a business plan judged “inadequate”. Its board could not provide formal assurance that statutory obligations on environment performance would be met. And remember, Thames has already been abandoned, in effect, by owners who think the firm is “uninvestable”. So, yes, heightened regulatory scrutiny looks like a minimum requirement until a workable solution is found.
But the intriguing part was Ofwat’s thinking on how Thames might eventually emerge from special measures. The company will need to show it can maintain “adequate levels of financial resilience”. This could involve “introducing a limit on the amount of debt the company can take on, a separation of the business into two or more water companies, or looking to a public listing to secure additional equity”.
The last of those – a return to the stock market – is the one to focus on. If Ofwat has finally concluded that a privatised water system in England and Wales works better if the companies are listed on the London stock market, give thanks. This column has been banging on (repeatedly) about the virtues of a listing.
Why? First, stock market investors would never have tolerated the extreme over-leverage that was imposed on Thames after Macquarie bought the company in 2006. You cannot get away with 80%-plus gearing in the public arena. The three firms that still remain on the market – Severn Trent, United Utilities (in the north-west) and Pennon (owner of South West Water) – have never strayed far from regulatory norms of 60%-ish.
Second, financial transparency improves on the stock market. You don’t have holding companies in the Cayman Islands, or tax-minimising financing vehicles inserted above the regulated entity.
Third, a share price and a six-monthly public reporting cycle provides a warning signal of trouble ahead. Incompetent and failing managements tend to be cleared out earlier.
Fourth, a public listing ensures closer proximity to the public: the customers can buy shares if they wish. In the post-Macquarie era, Thames’s ownership consortium has included giant sovereign funds from Abu Dhabi and China, for whom a UK water company is a faraway entry on a spreadsheet.
A path back to the stock market for Thames looks far from simple, it should be said. Step one would surely have to involve a debt-for-equity swap to clear the decks and reduce the towering £15.2bn pile of borrowings. The process could happen either voluntarily or be enforced via special administration – one or the other has probably become more likely after Thursday. Nobody should mourn for Thames’s bondholders, who would take a whack in a financial reconstruction: they have also contributed to the soggy disaster.
By way of further demonstration of the relative merits of stock market ownership, look at how the quoted firms emerged from Ofwat’s five-yearly review. The business plans of Severn Trent and Pennon were the only two in the sector to be judged “outstanding” and United Utilities got a middle-of-the-pack “standard”.
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Nobody is pretending the trio is faultless. All have had pollution and leakage woes (United notably at Windermere; Pennon with a diarrhoea and vomiting outbreak in Devon) And some of the executive bonuses are inexplicable (think Liv Garfield at Severn). Stock market ownership is not a cure-all.
The point, though, is that the evidence of a couple of decades suggest it is easier to get listed companies to respond to regulatory incentives than unlisted ones. In a privatised system designed to reward relative outperformers, and penalise underperformers, that is an important point. Indeed, there is a fair argument that regulators only truly lost control of the whole privatised show after the take-private leveraged buyout boom of 2004-08.
The new Labour government should take note. It is dead set against nationalising water companies – and rightly so. But it would perform a service if it could force more firms back to the stock market.
