Fast track water companies digest PR19 updates

The three fast-tracked water companies – Severn Trent, South West and United Utilities – all saw shifts in the final determinations (FD) received from Ofwat this week.

The three listed companies had all received an early draft determination (DD) in April but had to wait until yesterday to hear the ultimate view of the regulator.

In the meantime all had put forward representations which broadly welcomed the DD but challenged certain aspects, including the allowed return on capital.

Along with the 14 companies rated slow track and in significant scrutiny, the three fast trackers have the option to appeal their determinations to the Competition & Markets Authority by mid-February. All released statements yesterday saying the detail of the FD needed to be considered before a decision was taken.

Invesco, a shareholder in each of the companies, aired concerns after the DD about the return on capital.

The announcement of the FD combined with the unequivocal defeat of Labour in last week’s election – eliminating the threat of nationalisation – has been reflected in the buoyancy of share prices for the three fast trackers. Severn Trent’s shares stood at £25 on Tuesday afternoon, compared to £22 at the close of business last Thursday. Pennon Group was at £10 today compared to £9 before the election, while United Utilities stood at £9.45 as opposed to £8.48 a week ago.

Here is a summary of the changes between DD and FD for the three firms:

 Severn Trent

Average bills over the next five years will have to fall by 8.9 per cent – to £313. This compares to the company’s proposal of a 5.2 per cent reduction and the DD level of 4.7 per cent.

Total allowed revenues have reduced from £7.9 billion at the DD to £7.77 billion at FD. Severn Trent had originally asked for £8 billion.

However, Ofwat has increased the totex allowance by £191 million to £6.2 billion (coming in at £25 million lower than the company proposal) as well as allowing £864 million for improvements to service, resilience and the environment.

Severn Trent’s subsidiary Hafren Dyfrdwy was placed in the significant scrutiny category.

In a statement to the stock exchange, Severn Trent said: “We are pleased Ofwat has approached the final determination ‘in the round’.

“In respect of Severn Trent Water, our Totex allowance increased by a further £91 million over the next five years (in addition to the £100 million increase we received in the updated cost modelling in July) in part reflecting a reduction in the annual shift in the frontier efficiency target from 1.5 per cent to 1.1 per cent.

“The benefit of this has been offset by a number of other adjustments including notably the reduction in wholesale WACC of 16bps (reducing revenue by c.£75 million over the next five years) and a reduction to the RCV run-off1 (worth c.£40 million over AMP7 but value neutral in the long term, as seen by an increase in our AMP7 RCV growth to 3.8 per cent).

“We estimate the changes since July 2019 mean an overall reduction of c.£50 million in total revenue for AMP7.

“We welcome the positive adjustments Ofwat has made to the targets for our Supply Interruptions, CRI2 and Mains Repairs customer ODI measures for AMP7. In combination these changes will have the effect of de-risking our plan, as reflected in the movement on our P10/P90 ranges from -3.9%/+1.7% to -2.83%/+1.9%.

“On Hafren Dyfrdwy, we are pleased to note that revenue will increase by £3.6 million across the next five years, and we will benefit from a number of positive customer ODI adjustments including those above.

“We have until 15 February 2020 to consider the final determinations in full and respond to Ofwat.”

South West

The Pennon Group-owned company has the second highest target for cutting bills over the next five years (after Northumbrian) with a 20 per cent reduction demanded – meaning bills will be at £422 by 2025. This compares to the 13.9 per cent reduction suggested by South West and the 14.6 per cent at DD.

Total revenues are set at £2.5 billion, down from £2.68 billion at DD. The totex figure has also slightly reduced – down £9.6 million to £1.9 billion. A further £312 million is available to invest in service, resilience and environment.

The company responded: “The key elements for South West Water’s Final Determination include:

• a post tax real cost of capital for the industry of 2.92% on a CPIH basis (1.92% on an RPI basis)
• a totex allowance of £2 bilion (wholesale and residential retail) – consistent with South West Water’s Draft Determination in April 2019
• outcome delivery incentives reflecting the priorities of our customers – aligned with South West Water’s Draft Determination in April 2019.

“Ofwat’s proposed Final Determination package is now being reviewed, and South West Water has until 15 February 2020 to respond.”

United Utilities

Ofwat has increased the company’s totex allowance to just under £5.5 billion. This is £160.8 million higher than the FD but still £146.7 million lower than UU had requested. A further £837 million is set for service, resilience and the environment.

Ofwat has also allowed £57 million for UU’s role in the Manchester and Pennines Resilience scheme, which will be delivered by direct procurement.

Bills will fall 13. 8 per cent by 2025 under the FD to £370. This is a slight shift from the DD which suggested an 11.9 per cent drop. The company had originally suggested 11 per cent.

Altogether Ofwat has allowed revenue of £8.25 billion, compared to an £8.3 billion request from UU.

The company said: “The final determination contains a significant amount of detail that will take time to review thoroughly. We now have a period of two months to decide whether to accept the final determination and will respond to Ofwat and other stakeholders once this decision has been made.”