July 22 (The following statement was released by the rating agency)
Fitch Ratings has affirmed Dwr Cymru (Financing) Ltd's
(Dwr Financing) senior secured rating on its class A debt and class B debt (both
wrapped and unwrapped) at 'A' and its class C debt at 'BBB+'. The company has
redeemed all its existing class C debt and, therefore, the affirmation of the
senior subordinated class C debt of the bond programme at 'BBB+' indicates the
level at which Fitch would expect to rate any prospective issuance, if any. The
Outlooks on the ratings are Stable.
Dwr Financing is the debt-raising vehicle of Dwr Cymru Cyfyngedig (Dwr Cymru or
Welsh Water). Dwr Cymru is one of the ten appointed water and sewerage companies
(WaSC) in England and Wales and the sixth-largest by regulated asset value
The affirmation reflects Dwr Cymru's sound regulatory and operational
performance for the financial year ending March 2013 (FY13) and expectations of
incremental improvements over the remainder of the price control ending in March
2015. Other important factors for the ratings are revenue visibility in the UK
water sector until March 2015, the not-for-profit nature of the group's business
model and the covenanted and secured financing structure, including early
warning signals based on financial and non-financial parameters (defined as
trigger events in the documentation).
Ofwat, the economic regulator for the UK water sector, will modify the
tariff-setting methodology for the price control period from April 2015 to March
2020 to focus more on customer service and sustainability. To date there has
been little guidance as to how these changes will be implemented. Therefore,
Fitch cannot judge the impact of the upcoming tariff settlement on the credit
quality of the sector at this stage. However, we note that as a not-for-profit
organisation, Dwr Cymru has no obligations to pay dividends and built up
substantial financial flexibility during the current price control period
through progressive deleveraging. Therefore, the company is comparatively better
placed to face any future challenges than other companies in the sector.
KEY RATING DRIVERS
Substantial Financial Flexibility
Fitch forecast pension-adjusted net debt/RAV to move towards 60% for the
combined class A and class B debt for the period to March 2015. Post-maintenance
and post-tax interest cover (PMICR) is expected to range between 1.5x and 1.6x.
While gearing provides for increasing headroom in comparison with Fitch's ratio
guidelines, the interest cover ranges at levels that are in line with existing
Improved Regulatory Performance
For FY13 Welsh Water reported stable asset serviceability for all asset
categories, representing good progress in fulfilling its regulatory contract
after a marginal assessment of sewerage non-infrastructure the year before. In
terms of customer service, the company was ranked number three amongst WaSCs and
met its leakage targets. In the area of pollution incidents some reference
levels were missed, but capital spending for the remaining two years of the
price control still includes schemes that are expected to alleviate some of
these minor deficiencies.
Dwr Cymru is a not-for profit organisation, which makes it unique among its
peers as there is no shareholder pressure to pay dividends, and consequently it
can reinvest all its financial surpluses into the business for the benefit of
Targeted Operating and Capital Spending
After taking day-to-day operations back in house Welsh Water outperformed
Ofwat's targets for operating expenditure in the order of GBP48m/8% during the
first three years of the price control. In terms of capital expenditure, the
board of directors consciously decided to pursue additional schemes over and
above the regulator's baseline. The company has this flexibility as there is no
need to pay dividends.
The additional investment at the same time causes incremental operating
expenditure to operate the new assets and/or processes. Furthermore, there are
some cost pressures related to doubtful debt, the adoption of private sewers,
the carbon reduction commitment, movements in power costs and inflation. As a
result, Fitch expects Dwr Cymru to slightly overspend in FY14 and FY15.
As of 31 March 2013, Dwr Cymru had GBP157m in cash and cash equivalents
available as well as GBP215m of undrawn, committed bank facilities against debt
falling due over the next two years of GBP91m. This funding position will
provide for sufficient liquidity for capital expenditure and operating
requirements until March 2015. In accordance with transaction documentation, the
group also maintains a GBP135m reserve liquidity facility which would be
available in times of financial distress.
Positive: Future developments that could lead to a positive rating action
- A sustainable reduction in target gearing to below 60% together with
maintenance of current regulatory performance.
Negative: Future developments that could lead to negative rating action include:
- A marked deterioration in operating and regulatory performance or adverse
changes to the regulatory framework.
- A sustainable increase in target leverage to above 73% for combined class A
and class B debt.