Ofwat raises bar on financial resilience

Ofwat has set out new proposals to improve financial resilience in the sector. These would give the regulator extra powers to stop water companies making dividend payments if the company's financial resilience is at risk. The move would also enable Ofwat to take enforcement action against companies that don't link dividend payments to their performance, or those failing to be transparent about their dividend pay-outs.

Inadequate financial resilience puts customer money at risk and undermines focus on customers and the environment. By strengthening the financial resilience of the sector, Ofwat will also improve the attractiveness of investing in water and wastewater companies, which in turn helps ensure the sector can continue to improve performance.

As part of these proposals, companies will be required to transparently demonstrate how dividends take account of service delivery for customers and the environment, investment needs, and the company's own financial resilience. If the company falls short, Ofwat will be able to step in and take action.

The proposals will also ensure that companies will be able to weather financial pressures and unexpected shocks to their business, without compromising their delivery for customers. As such the regulator is seeking:

· to raise the cash lock-up trigger to BBB/Baa2 with negative outlook. This is designed to prevent companies from paying dividends where there is a risk of further damaging the company's financial resilience. The change would be effective from 1 April 2025.

· to require companies to hold two issuer credit ratings, with the cash lock-up trigger being met if only one of these ratings hits the required level. This would remove the ability for companies to hold one issuer rating that is significantly higher than the others available.

· that companies would need to notify Ofwat of any change to their credit rating (currently only required for material changes).

· to bring other ring-fencing provisions in Wessex Water's licence up to the current industry standard.

David Black, Chief Executive, Ofwat said:

“It is vital that companies have sufficient financial strength to withstand shocks and surprises. Our proposals today will raise the bar on credit quality and give us new powers to block dividends if a company is putting their financial stability at risk in making them. These changes should also ensure that companies engage with us earlier when they do see any concerns with their financial resilience.

“In addition, our proposals will reinforce the link between performance and dividends. Customers are rightly concerned that companies pay out dividends even where the fall well short of their obligations to customers and the environment. The responsibility for determining dividends ultimately sits with companies and their boards. However, in a sector that provides an essential service, where customers cannot choose their supplier, it is important that customers and wider stakeholders can understand and have confidence in how decisions companies make about dividends relate to overall performance.”

The consultation will remain open until 29 September 2022 and follows a discussion document on financial resilience published in December 2021.