Privatisation in the UK is a long-running soap opera, with more plot twists, scandalous revelations and blood-curdling episodes than a Brazilian telenovela.
But the disgrace of Thames Water is getting to be up there with the fiascos of Railtrack and the London Underground public-private partnerships.
The UK’s largest water company, a regulated monopoly, ought to have been a safe if boring investment.
That was the premise of Thames, like several other UK water utilities, being financed in the 2000s with a whole business securitization — a sophisticated new technique which enabled them to carry higher leverage, by giving lenders extra powers to enforce security and run the company if the shareholders failed.
Fail they have — though how much of the blame attaches to them, to Thames’s previous owners and to the regulator Ofwat will be debated for years.
Washing their hands
In March, Thames’s shareholders refused to put in an expected £750m of fresh equity, having lost confidence they would be able to make a return. They walked away from the company.
Normally, creditors have to fight a business’s owners to repossess it. Not this time. The lenders to Kemble, Thames Water’s unregulated holding company that had about £1.25bn of debt, have not tried to take it over. Nor has the government.
No one wants to own Thames Water, because it is a super-sewer for money, guzzling millions a day.
Unlike an ordinary commercial business, it cannot shut down unprofitable activities — it legally has to provide water service to certain standards and charge a regulated amount, and at the moment it loses money.
Thames’s credit ratings have fallen to Caa1/CC for the senior Class A notes of its securitization and C/C for the junior Class B.
Taking over
As intended under the securitization, the company is now being run for the benefit of its creditors — the A and B noteholders, banks and swap counterparties.
But this is far from the idyllic architect’s drawing foreseen when the structure was conceived.
The WBS did not give the lenders control early enough to avoid a disaster. Perhaps no one powerful enough saw it coming in time, or had the sense to act.
It turns out equity is actually quite vital to running such a business. But by the time the shareholders left the scene — before they were even forced to — the situation was so bad that no one wanted to supply any.
Rothschild is now touring the world trying to find fresh investors. But what could tempt them? Thames needs enormous sums, and public opinion will never let it charge rich prices for water.
Even the bondholders now assume that to get new equity in, there will have to be a debt-for-equity swap in which some of their principal is lost.
Power vacuum
Until then, Thames’s fate is being decided, not by some public authority, but by a tussle between two rival ad hoc groups of bondholders, including activist and special situations hedge funds.
They accept that their existing bonds will lose money, and that they must wait till new equity investors can be found to find out how much — but know, too, that the company needs money to keep going. They want to salvage some return by lending the new money profitably.
Each group wants to take the place of the missing equity by providing a bridge to equity, and is seeking high returns in interest and fees — but with minimal risk, as the £3bn of debt they are offering will be super-senior.
Meanwhile a circus of financial and legal advisers is feasting on the carcase.
The elephant in this case has left the room. Where is the government?
Keir Starmer’s Labour government, in power since July, has made an unpopular start. It has managed to seem boring, austere and venal all at once. Thames Water is an opportunity for it to seize the initiative and do something decisive in the public interest.
It must nationalise the company now by act of Parliament. There is no need to compensate the shareholders as they have already given up. The lenders to Kemble can go whistle.
Scrap the expensive super-senior facilities. Who is going to pay for them — or for the expensive equity that Thames will need — but water customers? The money should be spent on shoring up the company’s creaking infrastructure.
Keep all the Class A and B debt whole, on the original terms. There is only downside in dispossessing institutions that provided senior secured debt in good faith to an investment grade UK utility.
If the UK water industry is so badly run that such lenders must lose money, why should investors supply the vast quantities of debt that are desperately needed to modernise it?
Private equity and debt capital are still working for most UK water companies. The government needs to keep it that way, or it will have a much bigger problem on its hands.
In Thames’s case, the alchemy of privatisation failed. Only its customers or the government can pay to right the ship.
Leaving the private sector to sort out the mess will make the government deeply unpopular and risks failing to solve Thames Water’s problems. Nationalisation is a rational choice and could win it some kudos. It’s a no-brainer.