The UK water sector is at the peak of “regulatory reset risk”, S&P Global Ratings has warned, with the new regulatory period less than a year away.
The ratings agency believes the new regime will be “challenging” for many of the companies in the sector, it said in a report on UK utilities. The next regulatory period for the sector is set to come into effect from April 2020, reducing the companies’ allowed cost of capital from 3.4 percent to 2.3 percent.
S&P said the change means it has downgraded seven of the 14 water companies’ outlook to ‘negative’. They are: Northumbrian Water, Portsmouth Water, South Staffordshire Water, Wessex Water, Anglian Water, Thames Water and Dwr Cymru Welsh Water.
“We assigned a negative outlook for some U.K.-water companies because we expect their credit metrics could be under pressure given higher investment requirements,” Matan Benjamin, a director at S&P, told Infrastructure Investor. “Meanwhile, we consider some companies to be better prepared and, as a result, these entities currently carry stable outlooks.”
Benjamin added water companies that were listed on the stock exchange had more data available and greater transparency. However, he added a company’s ownership structure did not have a large bearing on the outlook.
S&P said the new regime would lead to an average 3 percent reduction in revenues across the sector between March 2020 and March 2021, while capital expenditure will remain high to meet the demands of the new regulatory period in areas such as leakage reduction, lower service interruption and better customer service.
The ratings agency said average capex across the sector will increase by about 10 percent in the timeframe, predicting that “the worst performers in the sector will suffer”.
The sector was criticised last year by Ofwat boss Rachel Fletcher, who accused some companies of having “created the perfect conditions for renationalisation” and that “some companies have focused more on taking money out of the business than delivering for customers”.
S&P said in the report that it was not considering a potential renationalisation of the industry as its base case but had received “significant interest” from investors regarding the scenario. The ratings agency said, in this scenario, said it may consider companies as government entities and base the credit rating in part on the country’s sovereign rating.