A majority of the water companies who responded  to Ofwat’s recent consultation for a financial monitoring framework have rejected a proposal for companies to perform stress testing on their forward looking business plans and to publish the results to demonstrate that they were financially resilient over the longer term.

The objections are included in a summary of responses published by Ofwat to its July consultation for a framework to monitor the financial stability of the water and wastewater sector in England and Wales.

Ofwat said that while a number of respondents agreed that companies should be doing stress tests, the majority had objected strongly to the proposed approach of asking companies to demonstrate that they are financially resilient by preparing and publishing the results of forward looking financial projections.

The main objection was to the requirement for companies to publish the results of the stress tests as they felt that this would be commercially and price sensitive information. In response, Ofwat said:

“We continue to believe that it is appropriate that companies should be carrying out this type of stress testing on their business plans to demonstrate that they are financially resilient. However we acknowledge the companies’ concerns relating to the publication of the results of stress tests and therefore we will not be asking companies to publish the results of stress tests in 2016.”

Broad support overall for the purposes of the financial monitoring framework

Ofwat said that overall, there was broad support by respondents for the purposes of the financial monitoring framework, particularly in relation to the need for companies to report their financial information in a transparent and consistent way.

Ofwat published its consultation in July 2015 setting out proposals for a financial monitoring framework to monitor the financial stability of the water and wastewater sector in England and Wales. The regulator received formal responses from 17 regulated water companies, Thames Tideway Tunnel Limited, the Consumer Council for Water and the London Fire Brigade.

Following the closure of the formal consultation period Ofwat also ran two workshops in October 2015 to explore further some of the questions raised in the written responses to the consultation; the workshops were attended by representatives from 18 regulated companies, along with Bazalgette Tunnel Limited and Moody's Investors Service, Inc.

Ofwat said the purpose of the meetings was to better understand the reasons for any objections to or concerns about the proposals. The regulator was also seeking further company views on how companies should demonstrate that they are financially resilient over the longer term; and to identify where further guidance would be helpful.

In response to suggestions that the financial monitoring report would be duplication of regular comments on the financial position of each company by the credit rating agencies, Ofwat said it was not intending to replicate or replace the work carried out by the credit rating agencies. The need for companies to maintain an investment grade credit rating was an important part of most companies’ licenses and the reports produced by the credit rating agencies continue to be an important source of information for stakeholders about the financial resilience of each company, Ofwat said.

On Tuesday this week ratings agency Fitch said it would no longer provide ratings or analytical coverage for Northumbrian Water Limited “as the issuer has chosen to stop participating in the ratings process for commercial reasons.”

No definitive set of criteria on potential intervention by Ofwat

On triggers for a potential intervention by Ofwat, where companies had requested clarification about the triggers that Ofwat would use, the regulator said it does not intend to provide a definitive set of criteria for intervention. This would need to be determined on a case by case basis depending on the individual circumstances.

In response to requests for Ofwat to include an explicit statement on its view of the financial viability of the industry, the regulator said it would aim to include a statement about Ofwat’s view of the resilience of the industry based on the information that is published in the financial monitoring report.

Inappropriate to use same financial metrics for regulated companies and new retail only companies

Ofwat has also confirmed that all regulated companies will be included in the financial monitoring regime and agreed that it would be inappropriate to use the same financial metrics to monitor the regulated water and waste water companies and the new retail only companies that are likely to be created when the non household retail market opens in 2017. A separate suite of financial metrics will be developed for the new retail only companies.

Many respondents felt strongly that the financial monitoring regime should cover only the regulated appointed businesses and that Ofwat “should not be looking outside the regulatory ring fence at any other group companies.”  Ofwat said it was not seeking to regulate those companies, but saw a need for further transparency about the group ownership and tax arrangements. This would enable it to make sure that that the regulated companies were not put at risk due to the activities of other group companies outside the regulatory ring fence.

Ofwat to discuss financial resilience with leading financial audit firms

In addition Ofwat is also arranging discussions with representatives of the leading financial audit firms to discuss their views on how financial resilience should be demonstrated and assured by companies in light of the new requirement under the 2014 UK Corporate Governance Code for companies to include a long-term viability statement in their statutory accounts for accounting periods beginning after 1 October 2014.

Ofwat will now issue further guidance setting out the financial metrics that it intends to use for financial monitoring purposes by the end of December 2015. It is also planning to hold a further consultation setting out its proposals for how companies could provide assurance in their financial statements, in respect of their financial resilience. The regulator is expecting the companies to publish this information in their financial statements commencing with the financial year ending 31 March 2016.

Click here to download the summary of responses in full