Equities analysts at two prominent investment banks have thrown their weight behind UK water firms ahead of a high-stakes decision from water regulator Ofwat.
The sector is awaiting Ofwat’s ‘final determination’ (FD) due on 19 December, which will lay down the law on how much water firms can charge customers and invest.
Ofwat’s initial ‘draft determination’ in July was condemned by the water industry, with industry group Water UK calling it “the biggest ever cut in investment”.
While customers will applaud Ofwat’s ambitions to keep bills down, water firms say urgent investment is necessary to upgrade Britain’s leaky water infrastructure to prevent further sewage spills.
As the two sides of the negotiating mete it out, analysts at JPMorgan Chase & Co (NYSE:JPM, ETR:CMC) “expect significant improvements in regulatory allowances on December 19th to drive a re-rating of the UK Water sector”.
JPM analysts acknowledge that investor sentiment is low in the sector, but they have turned more positive as the FD approaches, with Severn Trent PLC (LSE:SVT) and Pennon Group PLC (LSE:PNN, OTC:PEGRY) upgraded from neutral to overweight.
Citi analysts agreed that Ofwat’s FD proposals should be “constructive”, although “we struggle to turn more bullish beyond the FD catalyst despite unchallenging valuations”.
Citi upgraded United Utilities Group PLC (LSE:UU.) to a buy, calling the North West supplier “the best way to gain exposure ahead of regulatory review”.
Going south
Things aren’t as chipper outside of the market-listed channel of the water sector.
Thames Water’s insurmountable debt pile, which threatens to send the London supplier over the brink of solvency, is well documented.
But conditions are scarcely better at Thames Water’s smaller counterpart Southern Water.
Resorts have emerged that Southern, which supplies millions of homes across Sussex, Kent, Hampshire and the Isle of Wight, is seeking a £4 million rescue package from alternative lenders at a substantial risk premium.
Recent bond issuances at a 7.75% interest rate exceed the regulator’s guidelines, leading ratings agency S&P to downgrade Southern Water to just above junk status.
The Telegraph reported that King Street New York hedge fund King Street is one of Southern Water’s lenders.