sh.t in Rivers

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IvanV
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Re: sh.t in Rivers

Post by IvanV » Fri May 19, 2023 5:32 pm

TopBadger wrote:
Fri May 19, 2023 9:07 am
...in that this week it was reported that a farmer has been (rightfully) sent to jail for damaging a stretch of river in Oxfordshire with a digger...
[pedant]Herefordshire actually, damaging the river Lugg near Leominster. And he did get the sentence reduced on appeal, but it is still a custodial sentence.[/pedant]

My guess is that there remains a difference between active and passive negligence. The farmer went out with his digger and did it, and carried on doing it despite a lot of formal correspondence telling him not to and other complaints and representations. Typically water companies do not actively dump stuff in rivers, etc. Rather an overflow occurs because their equipment, which was once had adequate capacity, no longer has adequate capacity and overflows a lot more often. That was what happened near me with Chesham sewage works, which overflows into the river Chess. When eventually it overflowed about 300 days in a year, then they got prosecuted, as 300 days in a year didn't meet anyone's sensible view of "in an emergency".

But what is wrong is the deal they did with Ofwat. And I suspect this lies at the heart of what has gone wrong recently - but of course no one is very interested in tracking it down and finding out. Once upon a time, things were getting better, a lot better. And now rather quickly they are terrible again. Now it is possible that some water companies did not make the enhancements they were funded to make, and paid the money out in dividends to shareholders instead, and I could name a water company that I suspect of such a tendency. But I don't think most of them behave like that.

And Ofwat is relevant, because the customer has to pay for the investments to enlarge sewage works. And so Ofwat has to agree a funding plan with them to fund an investment program, to ensure that their system is compliant. But Ofwat had been actively trying to keep the water price increases down for the last 20 years or so, by discouraging the water companies from including enlargement investments,etc, in their investment plans, unless they absolutely have to, and also to minimise the scope.

So when Thames Water got to agreeing to put investment into Chesham sewage works into its works plan, it negotiated with Ofwat what was fundable. And Ofwat only agreed to a modest investment in Chesham sewage works, a holding tank to hold material that would otherwise overflow. Because the sewage works has capacity at an annual level, the problem is peaks. So smoothing out the peaks with a holding tank will solve most of the overflows. But how big do you build it? Because when it is full, the sewage works will overflow again. To keep costs down, Ofwat did a deal that it would be sized so that it would still overflow (iirc) about 30 times a year. Which I think is pretty poor when what it is overflowing into is the most significant chalk stream in the Chilterns, that holds 90-100% of the Chilterns' water vole population, etc. With poor water expected 30 days per year, the watercress farm could not re-open, and so is now abandoned.

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Re: sh.t in Rivers

Post by Fishnut » Fri May 19, 2023 6:39 pm

According to the Guardian, customers are paying for infrastructure investment and the water companies have taken on massive debt to pay out dividends to shareholders.
England’s nine big water and sewage companies had zero debt in 1989 when they were sold off to the private sector. Now they have £54bn. The number is even higher when you include the six smaller water-only companies.

It’s normal for companies to take out debt to fund things like investment.

But it is actually customers that have been footing the bill for investment, researchers say.

“Investments have been entirely financed from customer payments, almost every year,” argues David Hall, visiting professor at Greenwich University and leading commenter on England’s water industry, in a 2021 analysis.

In Hall’s argument, that means the loans have been used for something else. He claims: “The companies have nevertheless borrowed large amounts of money, building up a large pile of debt and large annual bill for interest. This debt has not been taken on to finance investment, but to finance the payment of dividends.”

Water company debt has gone from zero in 1989 to £54bn in 2022.

In the same time frame, £66bn has been paid out in dividends. Again, including dividend payments from England’s smaller water-only companies would result in a higher figure
it's okay to say "I don't know"

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Re: sh.t in Rivers

Post by bjn » Fri May 19, 2023 7:15 pm

I thought it was a cleverer wheeze than that. Predatory owners loan the company lots of money, which then gets paid out as dividends. The company now owes the owners money, at some exorbitant interest rate, which it pays back, free of any company tax, for ever and ever. Typically the debt holding shell company is somewhere that doesn’t believe in taxing rich people.

Ivan will probably correct me. But I’ve been owned by private equity before.

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Re: sh.t in Rivers

Post by jimbob » Fri May 19, 2023 7:48 pm

bjn wrote:
Fri May 19, 2023 7:15 pm
I thought it was a cleverer wheeze than that. Predatory owners loan the company lots of money, which then gets paid out as dividends. The company now owes the owners money, at some exorbitant interest rate, which it pays back, free of any company tax, for ever and ever. Typically the debt holding shell company is somewhere that doesn’t believe in taxing rich people.

Ivan will probably correct me. But I’ve been owned by private equity before.
Same here. KKR put up 10% of their own money, the rest was bonds on our company, in 2006 at a stupid multiple of earnings at the top of a highly-cyclical industry. In 2008, the CFO renegotiated the debt with the bondholders at 20 cents in the dollar which they took as otherwise they'd get nothing.

Meanwhile KKR had been charging our company significant "management fees" so they made a nice profit.
Have you considered stupidity as an explanation

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Re: sh.t in Rivers

Post by bjn » Sat May 20, 2023 9:51 am

What I said. Government report from 2002 just released said PE would f.ck it all over, and they did.

https://www.theguardian.com/environment ... since-2002

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Re: sh.t in Rivers

Post by Herainestold » Sat May 20, 2023 5:57 pm

Is Starmer pledging to re-nationalize the water companies?
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Re: sh.t in Rivers

Post by Grumble » Sat May 20, 2023 6:00 pm

Herainestold wrote:
Sat May 20, 2023 5:57 pm
Is Starmer pledging to re-nationalize the water companies?
Given that even the tories renationalise failing railway companies I’m fairly sure if he did commit to doing that it would be a vote winner.
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Re: sh.t in Rivers

Post by Herainestold » Sat May 20, 2023 7:52 pm

Seems like railways, water and energy are the three industries in dire need of nationalization.
I don't think they have pledged to any of them except maybe railways.
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Re: sh.t in Rivers

Post by EACLucifer » Sat May 20, 2023 8:01 pm

Grumble wrote:
Sat May 20, 2023 6:00 pm
Herainestold wrote:
Sat May 20, 2023 5:57 pm
Is Starmer pledging to re-nationalize the water companies?
Given that even the tories renationalise failing railway companies I’m fairly sure if he did commit to doing that it would be a vote winner.
Probably would be. I'm not against use of the private sector where appropriate, but what we have with the water companies isn't some kind of leveraging of the free market, it's f.cking tax farming. Without any form of effective competition, the only pressure that can be exerted on the companies is through Ofwat, and the companies will themselves be spending money on ways to evade that pressure and trouser as much cash as possible. Nationalisation would be much more efficient than that. So too would be a system of competitive tender to manage water and sewage, so long as there were actual consequences for f.cking up, such as penalty fees, losing the chance to bid for future contracts, and dunking senior management directly into the sewage.

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Re: sh.t in Rivers

Post by IvanV » Sun May 21, 2023 1:26 pm

jimbob wrote:
Fri May 19, 2023 7:48 pm
bjn wrote:
Fri May 19, 2023 7:15 pm
I thought it was a cleverer wheeze than that. Predatory owners loan the company lots of money, which then gets paid out as dividends. The company now owes the owners money, at some exorbitant interest rate, which it pays back, free of any company tax, for ever and ever. Typically the debt holding shell company is somewhere that doesn’t believe in taxing rich people.

Ivan will probably correct me. But I’ve been owned by private equity before.
What I said. Government report from 2002 just released said PE would f.ck it all over, and they did.

https://www.theguardian.com/environment ... since-2002
Same here. KKR put up 10% of their own money, the rest was bonds on our company, in 2006 at a stupid multiple of earnings at the top of a highly-cyclical industry. In 2008, the CFO renegotiated the debt with the bondholders at 20 cents in the dollar which they took as otherwise they'd get nothing.

Meanwhile KKR had been charging our company significant "management fees" so they made a nice profit.
On the PE situation
When I was seconded to Ofwat in 1990, then newly set up, one of the first things we had to do was respond to Northumbrian Water draining cash out of licensed water company into the holding company. Because we knew that would later enable them to hold us to ransom when they needed to fund and finance the large investments in the network that were as bound to come as tomorrow would arrive, especially since some of the cash plumping up the water companies was, according to the models of the water company, intended to enable them to fund and finance part of those investments. So some financial ring-fencing provisions were brought in to stop that more obvious kind of shenanigans. Because some other water companies had quickly spotted what Northumbrian did, and had proposals to copy them. I don't know if Northumbrian had to put the case back, or if they got away with that. But we did stop the others following suit. And this is not me naming the water company I felt I didn't want to name in an earlier post. This much is a matter of history and I am happy to name Northumbrian in relation to it. The same is true of others I name below.

Similarly, when the proposal to turn Welsh Water into a non-profit-making body turned up, Ofwat knew that this could rebound against customers if the water company wasted money (and Welsh Water had been demonstrating an ability to waste money on ill-managed private sector ventures) and ran out of cash. Because there wouldn't be an equity shareholder to take the loss on those ill-managed ventures, it would rebound on the customer. So Ofwat devised a ring-fencing trick that provided some protection. And for all that people complain about any money at all being paid out to shareholders in dividends, Welsh Water acts as a nice demonstration that taking shareholders out of the equation doesn't clearly make things better for the customer in the round. Investment capital has to be paid for, short of demanding that the tax-payer gives it to you for free. And high debt arrangements are not necessarily the best way to minimise the cost of it, as people complaining about high debt PE companies demonstrates.

Then Yorkshire Water turned up with a proposal to turn itself into a non-profit organisation like Welsh Water. But unlike Welsh Water, it would largely be a shell company that contracted out many of its activities to a company owned by the shareholders of the Yorkshire Water of that moment. When Ofwat explained how the ring-fencing provisions of Welsh Water would have to be modified to protect against the obvious abuses potential in that situation - to protect against the contractor inflating costs and making hay - they abandoned it. They had been rumbled. (Mr Branson had a similar trick in his first proposal to run the National Lottery, likewise quickly sniffed out by the Lottery regulator of the time.)

Essentially the PE takeover of a water company presents some of the risks of the situations like the above, while being sufficiently close to the intended model of water companies that the ring fencing arrangements don't protect against it, nor is there any obvious line that would cross at some point. And that does make it difficult to protect against. But given Ofwat were alert to the issues in the 3 cases above, they arguably ought to have been alert to this general issue. Though it is more difficult and I don't have an obvious solution in my pocket to suggest.

On how private water companies are supposed to work and the (other) risks to it working properly
When the water industry was privatised, it was because the govt knew that it had a very large capital program to fund in the water sector, and the public sector borrowing requirement - a restriction on government borrowing that seemingly evaporated later - couldn't fund it. This system would result in water companies having growing balance sheets for a very long time, and hence a perpetually growing requirement to fund the capital they had invested. Water charges would be going up for a very long time.

So it was always expected that the water companies would have to raise a lot of finance to pay for stuff, which customers would not pay for immediately, but through contributions to the cost of the investment finance. And, once water charges rise faster than inflation, to the extent that growth in investment requirements rose faster than efficiency gains.

A risk is that the water company fails to make the investments the charges are intended to fund. In theory, there is protection against this. The water company makes investments, which are then admitted to the "Regulated Asset Base" of the company (RAB), according to actual spending, with a test to ensure that it is legitimate spending. Very rarely, some spending is identified that is disallowed. Water charges include an allowance for interest on the RAB, at a Weighted Average Cost of Capital (WACC). In theory, if there was some investment that the company was supposed to make, and it didn't make it, then it doesn't get admitted to the RAB, and at the next 5-year review, they get no allowance for investments they didn't make. But there is also an element of pre-funding - there's a growth profile to the RAB during the 5-year period, and the allowed charges include a return on that. In theory, there is supposed to be later taking-away if you didn't make the the full RAB investments anticipated, but I'm not sure how well that works.

The general tendency has been for water companies not to make all the predicted RAB investments. So my suspicion is that the systems for adjustment against them aren't sufficiently rigorous, and it pays them not to make the full investments. Also not making the investments ought to rebound to some extent in prosecutions, but it is evident that system doesn't have the entire desired effect, and some take less notice of it than others. And I'm also concerned about the systems for assessing cash-flow in charge setting. Because that is taken into account, because they can't be made to make investments out of cash they couldn't reasonably be expected to have it. So that gives an incentive to get cash out of the company so as to prejudice the starting position for that - the old Northumbrian problem.

Another issue that got badly out of hand was when the cost of debt came down substantially, and it took quite a long time for all regulators to realise that this was not just a short term fluctuation that would average out over the regulatory cycle, but it was going to be very low for a very long time. Even today that nominal interest rates have gone up, they are still negative in real terms, and water charges have RPI correction (another mistake to use that rather than CPI). So the water companies made money hand over fist when they could borrow very cheaply, and the allowed WACC had been fixed at a constant level for 5 years. There was a lot of arguing about how to address this. But ultimately you have to recognise you can't get the genie back in the bottle, and you have to write off the public loss that was made through making a mistake. All you can hope for is to avoid future losses by avoiding repeating the mistake. I think it is now generally understood that the sensible thing to do is index the WACC to the market cost of debt.

And then there is another problem that debt is generally cheaper than equity, so that gives the companies an incentive to overgear with high dept and low equity, and that is an incentive to the PE outcome which isn't very good either. And it seems that has never really been effectively addressed.

On top of that there has been an insidious tendency, as I referred in a previous post, for Ofwat to keep water charges from exploding in the way always inherent in the way that this was set up, by trying to reduce the extent of the capital program that they should invest in. And the population of this country has grown by over 10% since the water companies were privatised, and by rather more than that in the southern parts of the country. And as people got better off, so wealthier people generate more sewage volume (even if they don't defecate any more than other people). And sewage volume is a major driver of overflows into the sea and watercourses. So the Ofwat-limited investments have been insufficient to deal with the growth in sewage volume.

And that is what I understand as the major points of how we have got into this pickle.

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Re: sh.t in Rivers

Post by Grumble » Sun May 21, 2023 10:28 pm

Thanks for that Ivan
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Re: sh.t in Rivers

Post by bjn » Mon May 22, 2023 3:36 pm

IvanV wrote:
Sun May 21, 2023 1:26 pm
On the PE situation

Similarly, when the proposal to turn Welsh Water into a non-profit-making body turned up, Ofwat knew that this could rebound against customers if the water company wasted money (and Welsh Water had been demonstrating an ability to waste money on ill-managed private sector ventures) and ran out of cash. Because there wouldn't be an equity shareholder to take the loss on those ill-managed ventures, it would rebound on the customer. So Ofwat devised a ring-fencing trick that provided some protection. And for all that people complain about any money at all being paid out to shareholders in dividends, Welsh Water acts as a nice demonstration that taking shareholders out of the equation doesn't clearly make things better for the customer in the round. Investment capital has to be paid for, short of demanding that the tax-payer gives it to you for free. And high debt arrangements are not necessarily the best way to minimise the cost of it, as people complaining about high debt PE companies demonstrates.
The bolded bit doesn't make sense to me. Loses to equity shareholders is limited to the capital they have put into the business, they aren't obliged to cough up more if the business takes a hit.

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Re: sh.t in Rivers

Post by IvanV » Mon May 22, 2023 4:51 pm

bjn wrote:
Mon May 22, 2023 3:36 pm
IvanV wrote:
Sun May 21, 2023 1:26 pm
On the PE situation

Similarly, when the proposal to turn Welsh Water into a non-profit-making body turned up, Ofwat knew that this could rebound against customers if the water company wasted money (and Welsh Water had been demonstrating an ability to waste money on ill-managed private sector ventures) and ran out of cash. Because there wouldn't be an equity shareholder to take the loss on those ill-managed ventures, it would rebound on the customer. So Ofwat devised a ring-fencing trick that provided some protection. And for all that people complain about any money at all being paid out to shareholders in dividends, Welsh Water acts as a nice demonstration that taking shareholders out of the equation doesn't clearly make things better for the customer in the round. Investment capital has to be paid for, short of demanding that the tax-payer gives it to you for free. And high debt arrangements are not necessarily the best way to minimise the cost of it, as people complaining about high debt PE companies demonstrates.
The bolded bit doesn't make sense to me. Loses to equity shareholders is limited to the capital they have put into the business, they aren't obliged to cough up more if the business takes a hit.
Typically shareholders put capital into a business in an implicit fashion as time goes on. So while you are correct that the loss to equity shareholders is limited to the capital they put into the business, typically this is a much larger amount of money than any explicit subscription for shares. For example, typically not all of the year's profit (after interest and tax, etc) is paid out to shareholders. What is not paid out is more capital put into the business by the shareholders, in an implicit fashion. They didn't explicitly do it, but it happened, and grows what they can lose. This (usually) growing capital amount ultimately owned by the shareholders can be seen in the balance sheet as "shareholders' reserve" or some like term. Although this value is typically not in the form of cash, a lot of it can typically be turned into cash when you need it to cover losses, for example by borrowing.

When we look at a share in the market, often we see a figure quoted called "earnings" which is the profit owned by the shareholder. Normally this is larger than the dividend paid out, though sometimes a company will maintain a dividend despite a poor year. But in general most companies grow in value, this value is owned by shareholders, and represents what shareholders can lose. Often for a share, you will see the P/E ratio (price-earnings ratio) and the "dividend yield" which is D/P. So by inverting the P/E, you can see what is being paid out in comparison to what is being retained as capital growth.

But, for example in the Northumbrian case, the licensed water company instantly stripped out its shareholders reserve by dividending up a large sum of money to the shareholder, the holding company. So there was no longer much money left in the company to lose, the shareholder's got their fingers on it first.

Financial ring-fencing in practice limits how much a water company can pay out in dividends. Ultimately a water company might be put into special measures, and you don't want the miscreant shareholders running off with the cash, to take an extreme example. But if they have high debt and low equity, then you can't really deny them the right to pay the interest on the debt. So the ability to ring-fence a lot of accumulated capital into the company, which acts as ability to pay for stuff, is limited. I would have to ask some friends to find out a bit more about how this happens and if there is any protection against excessive gearing.

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Re: sh.t in Rivers

Post by lpm » Wed May 24, 2023 9:29 am

IvanV wrote:
Sun May 21, 2023 1:26 pm
On the PE situation
When I was seconded to Ofwat in 1990, then newly set up, one of the first things we had to do was respond to Northumbrian Water draining cash out of licensed water company into the holding company. Because we knew that would later enable them to hold us to ransom when they needed to fund and finance the large investments in the network that were as bound to come as tomorrow would arrive, especially since some of the cash plumping up the water companies was, according to the models of the water company, intended to enable them to fund and finance part of those investments. So some financial ring-fencing provisions were brought in to stop that more obvious kind of shenanigans. Because some other water companies had quickly spotted what Northumbrian did, and had proposals to copy them. I don't know if Northumbrian had to put the case back, or if they got away with that. But we did stop the others following suit. And this is not me naming the water company I felt I didn't want to name in an earlier post. This much is a matter of history and I am happy to name Northumbrian in relation to it. The same is true of others I name below.

Similarly, when the proposal to turn Welsh Water into a non-profit-making body turned up, Ofwat knew that this could rebound against customers if the water company wasted money (and Welsh Water had been demonstrating an ability to waste money on ill-managed private sector ventures) and ran out of cash. Because there wouldn't be an equity shareholder to take the loss on those ill-managed ventures, it would rebound on the customer. So Ofwat devised a ring-fencing trick that provided some protection. And for all that people complain about any money at all being paid out to shareholders in dividends, Welsh Water acts as a nice demonstration that taking shareholders out of the equation doesn't clearly make things better for the customer in the round. Investment capital has to be paid for, short of demanding that the tax-payer gives it to you for free. And high debt arrangements are not necessarily the best way to minimise the cost of it, as people complaining about high debt PE companies demonstrates.

Then Yorkshire Water turned up with a proposal to turn itself into a non-profit organisation like Welsh Water. But unlike Welsh Water, it would largely be a shell company that contracted out many of its activities to a company owned by the shareholders of the Yorkshire Water of that moment. When Ofwat explained how the ring-fencing provisions of Welsh Water would have to be modified to protect against the obvious abuses potential in that situation - to protect against the contractor inflating costs and making hay - they abandoned it. They had been rumbled. (Mr Branson had a similar trick in his first proposal to run the National Lottery, likewise quickly sniffed out by the Lottery regulator of the time.)

Essentially the PE takeover of a water company presents some of the risks of the situations like the above, while being sufficiently close to the intended model of water companies that the ring fencing arrangements don't protect against it, nor is there any obvious line that would cross at some point. And that does make it difficult to protect against. But given Ofwat were alert to the issues in the 3 cases above, they arguably ought to have been alert to this general issue. Though it is more difficult and I don't have an obvious solution in my pocket to suggest.

On how private water companies are supposed to work and the (other) risks to it working properly
When the water industry was privatised, it was because the govt knew that it had a very large capital program to fund in the water sector, and the public sector borrowing requirement - a restriction on government borrowing that seemingly evaporated later - couldn't fund it. This system would result in water companies having growing balance sheets for a very long time, and hence a perpetually growing requirement to fund the capital they had invested. Water charges would be going up for a very long time.

So it was always expected that the water companies would have to raise a lot of finance to pay for stuff, which customers would not pay for immediately, but through contributions to the cost of the investment finance. And, once water charges rise faster than inflation, to the extent that growth in investment requirements rose faster than efficiency gains.

A risk is that the water company fails to make the investments the charges are intended to fund. In theory, there is protection against this. The water company makes investments, which are then admitted to the "Regulated Asset Base" of the company (RAB), according to actual spending, with a test to ensure that it is legitimate spending. Very rarely, some spending is identified that is disallowed. Water charges include an allowance for interest on the RAB, at a Weighted Average Cost of Capital (WACC). In theory, if there was some investment that the company was supposed to make, and it didn't make it, then it doesn't get admitted to the RAB, and at the next 5-year review, they get no allowance for investments they didn't make. But there is also an element of pre-funding - there's a growth profile to the RAB during the 5-year period, and the allowed charges include a return on that. In theory, there is supposed to be later taking-away if you didn't make the the full RAB investments anticipated, but I'm not sure how well that works.

The general tendency has been for water companies not to make all the predicted RAB investments. So my suspicion is that the systems for adjustment against them aren't sufficiently rigorous, and it pays them not to make the full investments. Also not making the investments ought to rebound to some extent in prosecutions, but it is evident that system doesn't have the entire desired effect, and some take less notice of it than others. And I'm also concerned about the systems for assessing cash-flow in charge setting. Because that is taken into account, because they can't be made to make investments out of cash they couldn't reasonably be expected to have it. So that gives an incentive to get cash out of the company so as to prejudice the starting position for that - the old Northumbrian problem.

Another issue that got badly out of hand was when the cost of debt came down substantially, and it took quite a long time for all regulators to realise that this was not just a short term fluctuation that would average out over the regulatory cycle, but it was going to be very low for a very long time. Even today that nominal interest rates have gone up, they are still negative in real terms, and water charges have RPI correction (another mistake to use that rather than CPI). So the water companies made money hand over fist when they could borrow very cheaply, and the allowed WACC had been fixed at a constant level for 5 years. There was a lot of arguing about how to address this. But ultimately you have to recognise you can't get the genie back in the bottle, and you have to write off the public loss that was made through making a mistake. All you can hope for is to avoid future losses by avoiding repeating the mistake. I think it is now generally understood that the sensible thing to do is index the WACC to the market cost of debt.

And then there is another problem that debt is generally cheaper than equity, so that gives the companies an incentive to overgear with high dept and low equity, and that is an incentive to the PE outcome which isn't very good either. And it seems that has never really been effectively addressed.

On top of that there has been an insidious tendency, as I referred in a previous post, for Ofwat to keep water charges from exploding in the way always inherent in the way that this was set up, by trying to reduce the extent of the capital program that they should invest in. And the population of this country has grown by over 10% since the water companies were privatised, and by rather more than that in the southern parts of the country. And as people got better off, so wealthier people generate more sewage volume (even if they don't defecate any more than other people). And sewage volume is a major driver of overflows into the sea and watercourses. So the Ofwat-limited investments have been insufficient to deal with the growth in sewage volume.

And that is what I understand as the major points of how we have got into this pickle.
Thanks, that's very interesting.

Something obviously went badly wrong. Reading it, alarm bells rang when you mentioned WACC. Clearly this was incorrectly calculated. A standard WACC, cost of debt and cost of equity, cannot and should not apply to water companies. Cost of equity is high because shareholders need dividends, and this is the central nonsense of privatisation. My instinctive reaction was that CoE should have been set to the risk free rate only, i.e. the govt gilt rate. That is the capital that is being forgone upon privatisation.

Clearly giving these companies a free-ride on externalities is a big part of the current story, but the roots appear to go much deeper to dud financing.

The current crisis is proof that either the cost of inaction was underpriced, or the cost of investment was overpriced, or both. Obviously if fines for sewage leaks had been far higher decades ago, while assumed WACC for sewage investment projects was far lower, then more projects would have gone ahead. Presumably they looked at a WACC of 13% or whatever, compared it to a cost-avoidance return of 8%, and rejected. Ultimately companies that under-invest in preserving their own core business run into serious trouble and shareholder should be punished accordingly with a period of zero dividends or takeover at a low share price.

I must to confess to using obscene language last night. Thames Water paid for a commercial to run on ITV. Why are Thames Water advertising? God knows. To be clear, it wasn't an information advert, telling people how to report leaks or not to flush wet wipes. It was a brand advert featuring a talking otter.

It is a damning indictment of their directors that they spend money on this.
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Re: sh.t in Rivers

Post by IvanV » Wed May 24, 2023 10:26 am

lpm wrote:
Wed May 24, 2023 9:29 am
Thanks, that's very interesting.

Something obviously went badly wrong. Reading it, alarm bells rang when you mentioned WACC. Clearly this was incorrectly calculated. A standard WACC, cost of debt and cost of equity, cannot and should not apply to water companies. Cost of equity is high because shareholders need dividends, and this is the central nonsense of privatisation. My instinctive reaction was that CoE should have been set to the risk free rate only, i.e. the govt gilt rate. That is the capital that is being forgone upon privatisation.

Clearly giving these companies a free-ride on externalities is a big part of the current story, but the roots appear to go much deeper to dud financing.

The current crisis is proof that either the cost of inaction was underpriced, or the cost of investment was overpriced, or both. Obviously if fines for sewage leaks had been far higher decades ago, while assumed WACC for sewage investment projects was far lower, then more projects would have gone ahead. Presumably they looked at a WACC of 13% or whatever, compared it to a cost-avoidance return of 8%, and rejected. Ultimately companies that under-invest in preserving their own core business run into serious trouble and shareholder should be punished accordingly with a period of zero dividends or takeover at a low share price.

I must to confess to using obscene language last night. Thames Water paid for a commercial to run on ITV. Why are Thames Water advertising? God knows. To be clear, it wasn't an information advert, telling people how to report leaks or not to flush wet wipes. It was a brand advert featuring a talking otter.

It is a damning indictment of their directors that they spend money on this.
[Technical stuff]The cost of equity in the WACC set for a regulated company does take account of the equity beta and such other factors that result in a lower cost of equity (and dept) than the market average cost of equity (and debt). Numbers are much lower than numbers you mention.

The most recent determination was 4.98% (nominal), before company-specific adjustments, which is the figure in the third column at the bottom of the table on p 5. And it is adjusted for inflation, hence the numbers in the 4th & 5th columns.[/Technical stuff]

I agree that brand advertising like that is not in service of providing the public with a good service, but looks more like rent-seeking activity.

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Re: sh.t in Rivers

Post by lpm » Thu May 25, 2023 10:33 am

Thanks, that link was interesting. Glad to see they did have a low CoE close to risk free, via a low Beta. Must have taken a lot of incompetence to fail to invest when they only needed to beat a WACC of 5%.

Here is what Thames Water is wasting their money on. Inept advertising on every level.

https://www.youtube.com/watch?v=lvQtJfd31XE
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Re: sh.t in Rivers

Post by bjn » Thu May 25, 2023 12:19 pm

Isn’t it just a case of rent seekers are going to rent seek and f.ck every one else?

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Re: sh.t in Rivers

Post by IvanV » Thu May 25, 2023 3:18 pm

bjn wrote:
Thu May 25, 2023 12:19 pm
Isn’t it just a case of rent seekers are going to rent seek and f.ck every one else?
Certainly there is considerable evidence that private companies maximise their advantage given the rules they are allowed to operate under. Though the level of ethics they are willing to reduce themselves to with that aim does vary.

No one has ever invented a perfectly efficient way to get monopoly public services delivered. Production in the public sector is generally inefficient, although how inefficient depends upon the culture of public sector provision, and corruption levels, in various countries. At some point the Thatcher goverment took a call that private sector provision, with an economic regulator keeping an eye on them, might be no more inefficient, and who knows might even be more efficient. They convinced the public with their RPI-X rules, which showed a price to the customer following a lower trajectory than it would under continuing public ownership. Though after a few years, you lose connection and can't really say that any more. That judgment was convenient, because the Treasury could not, at that time, beholden to the IMF, supply them with the capital they needed.

Jean Tirole won a Nobel Prize for proving, among other things, that private regulated companies could never be forced to be perfectly efficient, in part because they could always earn a rent. But how inefficient it is depends upon how much information of relevance can be concealed from the regulator: it is always a non-zero amount. And how awake the regulator is to how they might be taken advantage of.

It's an empirical question which works out better. We have a number of potential comparators. The Welsh renationalised their water company, but it still operates within the E&W system. No one thinks that Welsh Water is conspicuously better than the English companies, though it is probably less ruthlessly rent-seeking than some of them. The Scots and Northern Irish never privatised their water services. The Scots claim things are better there, but I'm not aware of a rigorous study.

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Re: sh.t in Rivers

Post by Grumble » Thu May 25, 2023 3:41 pm

IvanV wrote:
Thu May 25, 2023 3:18 pm
bjn wrote:
Thu May 25, 2023 12:19 pm
Isn’t it just a case of rent seekers are going to rent seek and f.ck every one else?
Certainly there is considerable evidence that private companies maximise their advantage given the rules they are allowed to operate under. Though the level of ethics they are willing to reduce themselves to with that aim does vary.

No one has ever invented a perfectly efficient way to get monopoly public services delivered. Production in the public sector is generally inefficient, although how inefficient depends upon the culture of public sector provision, and corruption levels, in various countries. At some point the Thatcher goverment took a call that private sector provision, with an economic regulator keeping an eye on them, might be no more inefficient, and who knows might even be more efficient. They convinced the public with their RPI-X rules, which showed a price to the customer following a lower trajectory than it would under continuing public ownership. Though after a few years, you lose connection and can't really say that any more. That judgment was convenient, because the Treasury could not, at that time, beholden to the IMF, supply them with the capital they needed.

Jean Tirole won a Nobel Prize for proving, among other things, that private regulated companies could never be forced to be perfectly efficient, in part because they could always earn a rent. But how inefficient it is depends upon how much information of relevance can be concealed from the regulator: it is always a non-zero amount. And how awake the regulator is to how they might be taken advantage of.

It's an empirical question which works out better. We have a number of potential comparators. The Welsh renationalised their water company, but it still operates within the E&W system. No one thinks that Welsh Water is conspicuously better than the English companies, though it is probably less ruthlessly rent-seeking than some of them. The Scots and Northern Irish never privatised their water services. The Scots claim things are better there, but I'm not aware of a rigorous study.
They would. Fergal Sharkey thinks problems in Scotland are much the same as in England anywhere you get a population centre. The difference in Scotland is that there are more rivers with only a few people near them.
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Re: sh.t in Rivers

Post by IvanV » Thu Jun 08, 2023 9:37 am

I finally had a chat with an expert friend on how things have been going in water regulation. He agreed with all the problems I have mentioned. But in terms of the regulatory response to it, it's actually been worse than I surmised. Also, Ofwat has not been very transparent on how its inadequate enforcement systems have been the cause of some of this. Many of the water companies were bought by profit maximising owners who did what they could legally get away with to maximise their profits, regardless of morality. It's what those kind of companies do. So it's really the regulator's shortcoming when they fail to prevent it.

There has been poor enforcement of investments, that were funded through charges, to improve quality. A proper system of enforcement was not present. Ofwat thought they could do it through some high level monitoring. But the consequence was that the companies did the cheap ones and avoided doing the expensive ones, accepted an inferior output score, and pocketed the difference. Ofwat has now realised that this is what goes on, and has devised a more rigorous investment reporting system. Some things that have, in principle, already been paid for through charges will have to be paid for again, because the requirement to pay for it the first time was not sufficiently enforceable. Even when weak rules present require a company to pay for it itself later, some of the companies haven't got the cash to pay for it and it won't happen unless the regulator makes financial provision.

There is now a recognition of the problems of gearing up water companies with high levels of debt, and thus leaving them with little cash left to pay for stuff they should have done, but didn't. It hasn't been fixed. Obviously the water company owners don't want proper enforcement, so it is being argued about. But at least there is some hope of some kind of a crackdown on it, very belatedly.

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Re: sh.t in Rivers

Post by bjn » Thu Jun 08, 2023 9:44 am

bjn wrote:
Thu May 25, 2023 12:19 pm
Isn’t it just a case of rent seekers are going to rent seek and f.ck every one else?
So, this then?

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Re: sh.t in Rivers

Post by jimbob » Thu Jun 08, 2023 10:03 am

bjn wrote:
Thu Jun 08, 2023 9:44 am
bjn wrote:
Thu May 25, 2023 12:19 pm
Isn’t it just a case of rent seekers are going to rent seek and f.ck every one else?
So, this then?
Yup, and one thing that would discourage that would be for personal liability for those taking the decisions. With the highest person who should know about it, so CEO unless lower management had hidden the legal liability from them.
Have you considered stupidity as an explanation

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Re: sh.t in Rivers

Post by IvanV » Thu Jun 08, 2023 10:23 am

jimbob wrote:
Thu Jun 08, 2023 10:03 am
bjn wrote:
Thu Jun 08, 2023 9:44 am
bjn wrote:
Thu May 25, 2023 12:19 pm
Isn’t it just a case of rent seekers are going to rent seek and f.ck every one else?
So, this then?
Yup, and one thing that would discourage that would be for personal liability for those taking the decisions. With the highest person who should know about it, so CEO unless lower management had hidden the legal liability from them.
Semantic point, but that's not quite what I understand by rent seeking. To me, rent seeking is activity in pursuit of, lobbying for, etc, a situation you can take advantage of.

Here, a situation was created, inadvertently, incompetently, that you could take advantage of. The people who bought into those positions were not necessarily active lobbiers, political financiers, etc, in their general behaviour, they were just mainly seekers after value taking advantage of the situation that already existed. Subsequently, of course, they would seek to avoid changes to prevent that, and to some degree that is rent seeking activity.

There are arguments for giving greater personal liability to senior company managers, but it wouldn't help on this point. Doing what poorly written rules allow you do isn't illegal. It's not like tax law, where the government has given up trying to write tax laws that prevent taking advantage, and instead has general anti-avoidance provisions that leave it to judges to decide what's illegal.

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Re: sh.t in Rivers

Post by bjn » Thu Jun 08, 2023 10:42 am

IvanV wrote:
Thu Jun 08, 2023 10:23 am
jimbob wrote:
Thu Jun 08, 2023 10:03 am
bjn wrote:
Thu Jun 08, 2023 9:44 am

So, this then?
Yup, and one thing that would discourage that would be for personal liability for those taking the decisions. With the highest person who should know about it, so CEO unless lower management had hidden the legal liability from them.
Semantic point, but that's not quite what I understand by rent seeking. To me, rent seeking is activity in pursuit of, lobbying for, etc, a situation you can take advantage of.
Hmm, I've possibly learned a new thing, that rent seeking has a narrower definition than I thought. Looking at the wiki...
Rent-seeking is the act of growing one's existing wealth by manipulating the social or political environment without creating new wealth
Further down is says...
Rent-seeking implies extraction of uncompensated value from others without making any contribution to productivity.
Which is in line with the broader definition I had in mind and probably has another name.

Given the backers of privatisation fund the Tories, you could definitely argue that it was rent seeking to privatise the water companies in the first place.

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Re: sh.t in Rivers

Post by kerrya1 » Thu Jun 08, 2023 10:50 am

Grumble wrote:
Thu May 25, 2023 3:41 pm
IvanV wrote:
Thu May 25, 2023 3:18 pm
bjn wrote:
Thu May 25, 2023 12:19 pm
Isn’t it just a case of rent seekers are going to rent seek and f.ck every one else?
Certainly there is considerable evidence that private companies maximise their advantage given the rules they are allowed to operate under. Though the level of ethics they are willing to reduce themselves to with that aim does vary.

No one has ever invented a perfectly efficient way to get monopoly public services delivered. Production in the public sector is generally inefficient, although how inefficient depends upon the culture of public sector provision, and corruption levels, in various countries. At some point the Thatcher goverment took a call that private sector provision, with an economic regulator keeping an eye on them, might be no more inefficient, and who knows might even be more efficient. They convinced the public with their RPI-X rules, which showed a price to the customer following a lower trajectory than it would under continuing public ownership. Though after a few years, you lose connection and can't really say that any more. That judgment was convenient, because the Treasury could not, at that time, beholden to the IMF, supply them with the capital they needed.

Jean Tirole won a Nobel Prize for proving, among other things, that private regulated companies could never be forced to be perfectly efficient, in part because they could always earn a rent. But how inefficient it is depends upon how much information of relevance can be concealed from the regulator: it is always a non-zero amount. And how awake the regulator is to how they might be taken advantage of.

It's an empirical question which works out better. We have a number of potential comparators. The Welsh renationalised their water company, but it still operates within the E&W system. No one thinks that Welsh Water is conspicuously better than the English companies, though it is probably less ruthlessly rent-seeking than some of them. The Scots and Northern Irish never privatised their water services. The Scots claim things are better there, but I'm not aware of a rigorous study.
They would. Fergal Sharkey thinks problems in Scotland are much the same as in England anywhere you get a population centre. The difference in Scotland is that there are more rivers with only a few people near them.
I've got no reason to believe that Scottish rivers are any cleaner than English ones with similar human populations surrounding them, the woefully inadequate spill data from Scottish water records 14008 spills in 2022, but this is based only on the 4% of outflows that have monitoring (144 out of 3600).

The Forth River Trust has tried to create a useful map of out flows in the Forth River area, but this is limited to indicating the location of outflows based on FOI requests and some limited data gathering as part of a citizen science project rather than any consistent information from either Scottish Water or SEPA.

It's really easy to claim things are fine when you don't collect any data that could prove you wrong.

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