Moody’s warns of increase in risk from regulatory reform uncertainty

(by Verity Mitchell)

Moody’s issued a warning on regulatory uncertainty ahead of its annual water conference last week.

The rating agency noted that timelines have slipped and regulatory uncertainty persists. Revised strategic direction to the existing regulators has been limited. Time is increasingly constrained, given that the methodology for the 2029 price review will need to be consulted on during 2027. Further delays could weaken confidence in the future regulatory framework and implementation timetable.

Moody’s also observed that prime minister Andy Burnham has been highly critical of the sector and suggested greater public control. Consideration of reforms beyond those previously outlined by the Government appears to have stalled progress and could further delay implementation of the new framework. Against a backdrop of persistent political scrutiny and negative public sentiment, this may weaken investor confidence and increase the cost of attracting capital needed to support substantial investment programmes.

The consequence of this uncertainty is that any increase in business risk will require stronger financial ratios to maintain credit quality. Moody’s set out the negative progression of more stringent credit metrics needed to achieve a particular rating (see table). The sector’s rating has fallen from Aaa to A in terms of stability and predictability. For a Baa1 rating, adjusted interest cover has increased to greater or equal to 1.4x from 1.2x, and regulatory gearing requirements fell from equal to or lower than 75% to 68% between pre May 2018 and post November 2024.

More positively, Moody’s noted that there has been increasing regulatory focus on asset health, with Ofwat approving – in draft – additional investment of almost £3.4bn to be spent between 2025 and 2035. More than £1.3bn was linked to asset health areas, including to improve network storage capacity, gravity sewers, boreholes and filters.

For UK water to achieve a stable outlook, the agency requires a common and balanced narrative that clearly explains the time and cost required to implement necessary service improvements, and any trade-offs that need to be considered around affordability constraints. A stable sector outlook would further anticipate that companies will be able to earn a fair return sufficient to attract investment to deliver necessary asset health and service improvements.

Comment:

What the Government fails to see is that this increased cash retention to meet credit metrics has eroded the funds available for investment in improvements for customers.