Fitch: water firms could maintain credit ratings with strong operating performance

Some water companies could maintain their credit ratings if they put in strong operational performance under Ofwat’s PR19 final determinations (FDs), Fitch Ratings has said.

Fitch commented: “While the impact of an all-time low allowed weighted average cost of capital (WACC) on cash flows and post-maintenance interest cover ratios (PMICRs) will keep the pressure on ratings, strong operational performance resulting in limited penalties or significant rewards could help some companies maintain their ratings.”

Fitch pointed out the impact of the FDs was “likely to be less severe” than assumed at the draft determination (DD) stage, given the alterations made between July and December. While there was a 23bp reduction in appointee WACC (to 2.96% CPIH-linked), offsetting factors included:

• A £1.5bn increase in totex allowances (in 17/18 prices, including a £0.5bn contingent allowance for Thames Water).

• Less demanding Performance Commitment (PC) targets.

• Reduced negative skew in the Outcome Delivery Incentives (ODIs) – Fitch said “the potential financial impact of ODI rewards / penalties measured as a percentage of regulatory equity is now more symmetrical: it has shifted to 1.3%/-1.9% at FD from 0.6%/-2.6% at DD.” Overall the range of ODI penalties / rewards in terms of RoRE improved by around 70bp.

Fitch said the impact of the FDs varies widely across companies, depending on the remaining totex gap and estimated financial impact of specific PCs. It took urgent rating actions in December involving Anglian Water Services and its holdco Osprey; Kelda Finance; and Southern Water owner Greensands UK. It said all other existing water ratings and outlooks hold.

All Fitch-rated UK water operating and holding companies currently have Negative Outlooks or are placed on Ratings Watch Negative except for United Utilities, which Fitch believes has sufficient financial profile headroom to maintain its 'BBB+' rating.

The agency added the ratings of Thames parent Kemble Water “remain on RWN since December 2019, with a strong probability of a downgrade unless the company appeals to the Competition Markets Authority and obtains a more favourable FD settlement or unless any balance-sheet strengthening is proposed.”