Moody's Investors Service is warning that the outlook for regulated water and wastewater utilities in the UK for the coming 12 to 18 months remains negative in its annual outlook on the sector.

The negative sector outlook reflects continuing regulatory, political and public pressure on the industry.

Water regulator Ofwat said in its final methodology for the 2019 price review that it expects to cut allowed cash returns from 3.6% currently for the wholesale activities to around 2.9% on average over 2020-25. Companies with gearing in excess of 70% will see their returns cut further.

Stefanie Voelz, Moody's Vice President -- Senior Credit Officer commented:

"Although companies' business plans seek to address regulatory priorities, including a reduction in customer bills while also promising more investments, their plans will be subject to regulatory scrutiny and they could struggle to maintain credit quality."

Companies' cash flow could also be weakened by performance penalties, competitive pressure and legacy adjustments, Moody’s said.

Increasing rewards and penalties under outcome delivery incentives, volume risk exposure on processing sewage sludge and different remuneration rules for new water resources could also increase cash flow volatility from April 2020.

Most companies will also see a cut to their regulatory capital value (RCV) at the start of the new period, reducing future return potential.

Moody's said it expects the sector outlook to remain negative if the regulatory review proceeds as anticipated and until companies demonstrate that they can meet the regulatory challenges in the context of the prevailing macroeconomic and political environment.

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