Ofwat tightens executive pay rules

Bonuses for water company bosses will be more aligned with performance under new rules put forwards by Ofwat.

The regulator has announced plans to implement an end-of-period reconciliation mechanism which would allow it to adjust a company’s revenue allowance if it does not meet Ofwat’s expectations, particularly around environmental objectives.

Ofwat said that this would ensure that customers do not end up funding performance-related pay for under-performing companies.

“In too many cases, bonuses paid do not reflect the reality of company performance,” said David Black, Ofwat chief executive.

“Customer trust is damaged when executive bonuses are not aligned to water company performance for customers and the environment.”

Pay, bonuses and dividends have been a target by Ofwat as part of its measures to increase transparency in the water industry and rebuild customer trust. It said not all companies are applying performance related pay in a way that lives up to expected standards.

“We said that if companies did not address this we would take action, and that is exactly what we are doing. Alongside our new rules on dividend payments, this is part of our ongoing work to make companies more accountable for their actions,” Black said.

The recovery mechanism aims to motivate more focus and scrutiny by companies’ remuneration committee and board when making pay decisions, particularly how performance is reflected and whether the targets are appropriate.

CCW chief executive Emma Clancy commented: “Customers don’t want chief executives to be rewarded for failure, so we look forward to examining the detail of Ofwat’s proposals on bonuses. Customers will want to see this making a clear difference.

“Our research shows that people want to see evidence bonuses have been earned by companies delivering on commitments to their customers and the environment. People also want far greater transparency on pay. We want chief executives to explain to their customers – who are not able to switch supplier – why their salaries are justified.”

The measures put forward will apply for the remainder of the current asset management period (AMP7) and into AMP8. The regulator will decide at the end of each five-year period as part of the reconciliation process how much revenue will be disallowed through the recovery mechanism.

Ofwat stressed that remuneration for investors or executives should closely reflect obligations to customers, communities and the environment held by the companies.

Ofwat added that performance related pay must be demonstrably linked to companies’ delivery targets for customer service, water quality or pollution incidents. Remuneration decisions should be based on stretching targets linked to upper quartile company performance and bonuses only awarded when certain thresholds are met.

Overall company performance must be taken into account to consider whether performance commitments were met; financial resilience; reputational issues over the course of the year; compliance and performance as reviewed by Ofwat and the Environment Agency in their annual reports.

Ofwat stressed financial measures that solely benefit investors cannot be considered as relating to delivery for customers.

A consultation on the proposed mechanism will run to 1 May.