The PR24 draft determinations have attempted to balance a difficult trilemma

The PR24 draft determinations have attempted to balance a difficult trilemma between the interests of customers, the environment and investors, each of which have different objectives. Ofwat’s proposals mean some companies and customers do better than others, however, overall the draft determinations still represent a significant challenge for companies and investors - and are unlikely to have satisfied the customer and environmental stakeholder groups either. Investors in many water companies will be concerned by the significant reductions in their expenditure plans, as they are simultaneously required to continually improve service performance. Ofwat’s proposals to introduce limits on companies’ gearing levels - with a 70 percent cap - will also concern some companies and investors, particularly noting the scale of future investment (beyond 2030) that will need to be funded.

The implication of Ofwat’s proposals is that significant additional equity will need to be injected into many of the water companies during AMP8 and beyond. The allowed cost of capital will also likely disappoint and may not be sufficient to secure the additional equity needed.

• Customers are, on average, facing very significant increases in their bills, during a period when the cost of living still remains challenging for many. The improved service levels Ofwat is expecting, and which many customer support, will be welcomed, but there will be affordability challenges for many.
• Reductions in sewer overflows and improvements in river water quality required by Ofwat fall short of what some environmental groups wanted, particularly noting that the improvements will take years to deliver. The significant reductions in enhancement expenditures that companies had requested may also bring into question the deliverability of some of the improvements.
• There may also be some disappointment at the scale of ambition around improving water efficiency, with reductions to metering programmes and only limited reductions in per capita consumption too.

Even with the material reductions in expenditures Ofwat has proposed, PR24 still represents a significant acceleration in expenditure and investment by the water industry. This is a big challenge for the industry, with increased resources and supply chain required, as well as new delivery models and ways of working.

There may yet be significant changes to come for the Final Determinations. Stakeholders will provide feedback to Ofwat in coming weeks, and the extent to which the new government’s priorities for investment, specifically to drive growth, are reflected into the Draft Determinations. There may yet be significant changes to come for the Final Determinations.

Ofwat’s Draft Determinations do not resolve the ongoing financial and performance challenges faced by Thames Water. Ofwat’s proposals include a significant reduction in the expenditures proposed by Thames, which while delivering a lower increase in customer bills, means Thames is likely to continue to underperform relative to its environmental and quality-of-service targets. The lower expenditure allowances may make it harder for Thames Water to deliver its turnaround plan, which is likely to be needed to attract equity into the business. The resultant financial penalties Thames is likely to continue to incur from not meeting performance targets further undermine the attractiveness of the company for investors. The “turnaround oversight regime” introduced by Ofwat means enhanced monitoring of Thames, but does not offer a clear pathway to making the business investable.

Without a change in approach at Final Determinations, there may be other water companies facing significant financial challenges in the months and years ahead. Ofwat has also singled out several other water companies for further reassurance around their financial resilience, noting several had indicated they may require new equity during the 2025-30 period in order to be financeable, but that it could be challenging to raise that equity without a supportive PR24. Some of these companies are among those with the more challenging draft determinations, with some of them having their business plans scored as “inadequate” by Ofwat. Combined with the situation surrounding Thames Water, and the sheer scale of future capital investment required to deliver the expenditure plans of the companies – not just over 2025-30 but over the next 25 years – means that there may be other water companies facing significant financial challenges in the months and years ahead.