Feb 25 (The following statement was released by the rating agency)
The UK water regulator's new approach to setting price controls reduces earnings visibility
and is likely to put pressure on some credit ratings, Fitch Ratings says.
Ofwat has indicated that for the upcoming tariff settlement, which will set
water bills for 2015-2020, support for credit investors has been reduced to
investment grade, or 'BBB-' and above, in line with licence requirements. The
regulator previously targeted solid investment grade 'A-' or 'BBB+' ratings for
these capital-intensive companies.
Among the main changes from the previous price review is a sharp drop in the
guidance for weighted average cost of capital to 3.85% (from 5.1%) and an
increasing proportion of earnings from incentives. The reduction of the cost of
capital to 3.85% was sharper than we expected and the emphasis on incentives
reduces earnings visibility.
We are reviewing the ratings of the more highly leveraged transactions and
related unregulated holding companies, where the impact will be greatest, and
will take any necessary initial ratings action in the coming weeks.
Our initial analysis indicates that reduced earnings will have a material impact
on post-tax and post-maintenance interest cover ratios, and that these are
likely to be a limiting factor for ratings under the new price regime. In the
coming months it will be important to assess how challenging cost targets for
total expenditure will be. Some companies may be able to narrow the earnings gap
through outperformance in this area.
Our Special Report "UK Water Sector Faces Material Reduction in Earnings",
published today, considers the potential impact of Ofwat's pricing review,
including a comparison of the Ofwat process with the gas regulator Ofgem's gas
distribution price controls. The report is available from www.fitchratings.com.
Link to Fitch Ratings' Report: UK Water Sector Faces Material Reduction in