Like an emptying bath, Thames Water’s downward spiral is accelerating as it gets closer to the plughole.
The last week has seen a flurry of developments in the saga of Britain’s biggest water company, the outcome of which matters not just to its customers and investors, but the UK’s credibility as a haven for overseas investment.
The trigger was Thames‘ warning a week ago that it could run out of cash by Christmas, fully five months earlier than previously warned, unless it can persuade its creditors to allow it to access £380m in undrawn reserves.
If it fails, the company would enter a “standstill”, allowing it to access the £380m as well as a further £550m, but not able to commit to any expenditure beyond day-to-day operations.
That prompted a further downgrade this week of the company’s credit rating with international agencies whose judgements guide investors on the health of debt markets.
They now view the company as highly risky and prone to default, and take a “negative” view of its management.
Thames Water insists it was clear about the need to access reserves, and says it is “engaging” with creditors, while beginning a search for fresh equity investors willing to fill the £3.25bn hole left by existing shareholders who no longer are.
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Earlier this month, chief executive Chris Weston told Sky News he could save the company, but the uncomfortable truth is that its fate may now be out of the existing management’s hands.
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‘High-wire, high-stakes plan’
A group of creditors – 90 institutions who collectively hold £10bn of Thames’ almost £16bn debt pile – are working on their own plan to save the company which, if successful, would represent the biggest turnaround in British corporate history.
It is a high-wire, high-stakes plan that will require the acquiescence of financiers, regulators and ministers, all of whom may have more to lose if it fails.
The plan has three parts.
First, the creditors and Thames are discussing a new loan of £1bn to tide it over. This would be expensive, reflecting the risk of throwing good money after bad, and have seniority, putting it at the front of the queue for repayment should the company fall.
Second would come a restructuring that would inevitably entail a “haircut” – the creditors writing off some of the money they are owed, perhaps trading some for equity in the company.
The ultimate aim is to convince the regulator Ofwat that it should reach a more generous settlement than it has been willing to offer in negotiations thus far.
Ofwat is nearing the end of the price regulation process it carries out every five years, in which it balances water companies’ business plans and sets the price they can charge customers.
After a decade focused on suppressing customer bills, it is now insisting on investment in infrastructure upgrades, and will allow prices to rise by 21% on average.
The companies, Thames included, say this is not nearly enough to make the water sector attractive to the investors it needs to provide tens of billions for upgrades.
Changes in market conditions since the last regulatory round mean there are equally attractive investment options in other industries.
‘Water not the low-risk investment it once was’
The political climate has changed too, including new laws threatening imprisonment for bosses in reaction to public outrage about sewage spills and owner dividends. Water no longer appears the long-term, low-risk investment it once did.
Analysis of debt markets undertaken by the creditors also suggests Thames’ challenges are causing contagion in the rest of the industry, driving up the cost of borrowing for less troubled providers.
The final part will be finding a new equity partner willing to put in billions into the company.
Thames is running its own separate search for saviours, but they will be fishing in the same small pool of entities large and experienced enough to contemplate investment.
There is consensus on all sides, however, that no one is likely to stump up without both a restructuring of debt, and a new deal from Ofwat.
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The active creditors have ten billion reasons to try and make their plan work. If Thames collapses into special administration – the government regime to ensure the taps keep running – they could be wiped out.
How much they might lose remains to be seen. Thames’ current ratio of debt to regulated capital value (the measure used to value water companies) is around 80%. Ofwat’s target for water companies is around 60%, implying £4bn of the total £16bn debt pile needs to go.
Thames Water says it is working closely with the creditors, whose advisers are currently deep in the books at the start of a four-week due diligence process that will determine their next move.
Intriguingly it may allow them to share information with Ofwat that the regulator, to its frustration, has found hard to squeeze out of Thames previously.
Watching all of this is a new government and Environment Secretary Steve Reed who have pledged to respond to public anger, but are desperate to avoid Thames toppling.
At stake is more than just the £2bn a year it would cost the taxpayer to run the company in administration.
Labour has promised to overhaul the UK’s infrastructure and invest in new industries, for which it requires the confidence of international markets. It also has pressing financing needs, including the Sizewell C nuclear plant.
The failure of Thames Water could pollute those prospects.
