DivestUSS is a group of members of the Universities Superannuation Scheme (USS), the largest pension scheme in the UK with over £75bn of assets. USS is the biggest UK investor in Thames Water with a 20% stake, and lent them even more of our money last year. We think that USS’ decisions to continue to invest in Thames Water are inexplicable and indefensible.
1. Executive Summary
- USS first bought a major stake in Thames Water in 2017. This was after Thames Water had been bought by the private equity firm MacQuarie, a company described in the financial press as a “vampire”, for its highly profitable practice of buying up nationalised companies, and loading them with debt whilst paying large dividends to their investors instead of investing in basic infrastructure. USS’s purchase was also after Thames Water had been hit with record fines for pollution due to decaying infrastructure.
- In 2021 USS bought a further stake in Thames Water, taking its ownership to 20%, making it the biggest UK investor. Again, this was despite Thames Water’s continuing exceptional levels of environmental pollution. USS described its investment in 2022 as a “long-term, stable, predictable, regulated and inflation-linked” asset.
- By 2023 the utility had debts of £16bn and rapidly rising interest payments. An Environment Agency report stated that with regard to pollution incidents, “Thames Water had their worst performance since 2013”, reflecting a continuing failure of the regulator, Ofwat. In view of Thames Water’s continuing problems, in July their biggest investor, a Canadian pension fund, reduced the value of its 31% holding by almost 30% – around £300m. Meanwhile in March 2023 USS invested a further large sum, undisclosed, as part of a £500m loan to the utility.
- In January 2024 it was revealed that USS had suffered a huge loss of almost £600m in the value of its 20% stake in the utility. Update May 2024: the largest investor in Thames Water, the Canadian pension fund Omers, has totally written off its 31% stake (Financial Times, May 17th 2024), making it highly likely that USS will come to the same conclusion.
- USS has also not received any shareholder dividends or loan interest in the seven years since they first invested in 2017.
- In summary , USS’s investment of around £1bn in Thames Water has in all likelihood lost all of its value, and USS has received zero income since it invested. The utility is seeking further funds to shore up its increasingly unstable finances. And the regulator Ofwat has failed to stop Thames Water’s continuing and widespread pollution of waterways. USS has a seat on the Board of the company so bears shared responsibility for all of this. Incredibly, USS has stated that it backs the utility and is prepared to invest further in it.
- The continuing USS statements of blind confidence in a company that is patently heading for disaster, and their assurances that their “engagement” will eventually make a difference, entirely echo their approach to the fossil fuel industry.
2. Background
Thames Water was bought by the Australian company MacQuarie in 2006, with co-investors. MacQuarie, described in the financial press as a “vampire”[i], has a highly profitable practice of buying into assets like Thames Water, borrowing against them to generate cash and paying out high level of dividends to shareholders instead of investing in essential infrastructure[ii]. Thames Water is now the most indebted UK water company rated by Standard & Poor’s, with leverage exceeding 80%, most of which accrued under Macquarie’s tenure.[iii] The company structure of Thames Water is complex[iv], allowing for internal dividend transfers and meaning that only one company is subject to regulation by the official regulator Ofwat. As for infrastructure, Thames Water has not invested in a new reservoir for almost 50 years.[v] Investment in infrastructure by the ten biggest water companies has declined in each decade since the 1990s. At the same time the companies have borrowed £53bn, and paid out £72bn in dividends[vi]
Shortly after the announcement in March 2017 that MacQuarie was exiting the company, the utility was hit with a then record fine of £20.3m for negligence linked to huge discharges of untreated sewage into rivers, continuing for weeks between 2012 and 2014[vii]. The judge in the case described the conduct of Thames Water as “disgraceful”.
3. USS investments
These facts should have raised serious concerns to any investor about how Thames Water is set up, run and regulated, and the high level of risk to future returns associated with the long-standing lack of basic investment in essential infrastructure, and a debt structure vulnerable to unpredicted interest rate or inflation rises from historically low levels – exactly like those seen recently around the world.
Nevertheless, in July 2017 USS decided to purchase 10.94% of Thames Water. Based on the sale that year by MacQuarie[viii] this would have been valued at about £580m. USS described a “thorough due diligence process” behind this decision, stating that “Our investment case envisaged that, in time, Thames Water could become a top performer in its market”[ix]. No further details on the case for such a huge investment were provided. Despite the record fines, Thames Water’s atrocious record on pollution continued unabated. In 2021 alone the utility dumped raw sewage into rivers 5,028 times.[x]
In the face of this situation, In December 2021 USS announced that it was buying an additional 8.77% of Thames Water, making it their largest investment[xi], with a value of around £1bn (based on the sale price in 2017). USS stated that “Investments in long-term, stable, predictable, regulated and inflation-linked assets are key to fulfilling our primary duty to pay the pensions promised to members. It is for that reason we increased our stake in Thames Water.”[xii] No evidence was provided to support this huge additional investment into a single business.
Following this, things just kept getting worse. In June 2023, it was revealed that Thames Water’s then Chief Executive, Sarah Bentley, had told the government that it had “the highest leakage rate since 2018”[xiii]. In July 2023 the Environment Agency (EA) released a detailed report on water and sewerage companies in England.[xiv] The EA noted that “Thames Water had their worst performance since 2013” (p. 12) with a joint lowest overall rating of two stars. The utility was responsible for 17 out of 44 serious incidents of pollution and half of the six very serious (category one) incidents. The agency concluded that “We are concerned that some companies will not or cannot change. Anglian Water and Thames Water repeatedly dominate serious incident numbers” (p. 34).
DivestUSS had a meeting with senior USS staff in December 2022 to discuss concerns about USS’ climate and responsible investment policies. The agreed summary of the meeting included the statement “when DivestUSS raised concerns about the performance of Thames Water USS reported that they had not been taking any dividends from Thames Water since USS first invested in 2017 and instead the company was reinvesting to drive long-term improvements.”
2022/23 has seen a continuation of serious issues with Thames Water. On the finance front, the utility had sought an additional £1.5bn from investors in 2022, but by March 2023 had received only £500m. Net financing costs had also climbed by 24% in the year to then. The utility subsequently fell short of raising the additional £1bn, with £750m raised but subject to a number of conditions including a new business plan and an apparent reference to raising customer bills[xv]. The utility also warned that they would need a further £2.5bn from investors by 2030 to be “financially resilient” and to lower leverage and reduce leaks.
It was reported in June 2023 that the utility had debts of £16bn[xvi]. Half of this is inflation-linked, increasing the required interest payments as inflation has risen. USS may have additional exposure to these bonds; they did not reply to a query on this. In July 2023 it was reported[xvii] that Thames Water’s biggest investor, a Canadian pension fund Omers, had reduced the value of its 31% holding at the end of 2021 by almost 30% – almost £300m.
USS issued a press release in July 2023 in response to the many questions raised about Thames Water’s future[xviii], stating that they did not expect current events to materially impact their funding position. They did not comment on whether they might be downgrading their valuation of their Thames Water holding as Omers has done, nor state how much additional money they have promised the utility, nor on whether they would make future additional contributions in line with the additional billions that Thames Water have stated that they will need in coming years. USS has however noted that it has received no dividend income whatsoever since it first invested in Thames Water.
The persistent failure of the industry regulator, Ofwat, to improve the performance of the water utilities, and notably Thames Water, has led to scrutiny of the close relationship between the regulator and the industry. Senior level pay in the industry is considerably higher than in the regulator and a significant number of regulator staff have moved to work in the utilities[xix]. In June 2023 the Chief Executive of Thames Water, Sarah Bentley, abruptly resigned. One of the two new joint managers appointed, Cathryn Ross, is a former CEO of Ofwat. Ross, and the new Chair of Thames Water, Adrian Montague, also hold senior positions in large companies owned by consortia led by MacQuarie.[xx] A new CEO was finally found in December 2023 [xxi].
4. Recent events
In October 2023 the regulator Ofwat reported on the financial resilience of the sector, and named Thames Water as a company that needed to take action to shore up their long-term finances[xxii]. Thames Water had submitted a business plan to Ofwat saying that they required a cap on pollution penalties[xxiii], noting a recent £100million fine for performance failures and other court cases and penalties, which could weigh heavily on profitability.
In the business plan, dividends rise from £45mn in the 2022/23 year to £230mn annually by 2029/30. Over the course of the five years, dividends total £936mn in a period where the company has scaled back its plans to invest in ageing assets and stem pollution thanks to “financeability constraints”[xxiv].
Macquarie more than tripled the Thames Water debt during its ownership – from £3.4bn in 2007 to £10.8bn in 2017 when it sold the business[xxv]. The £515mn increase in debt in March 2023 helped pushed the group’s consolidated borrowings to over £18bn, having risen from just over £15bn as of March 31 2022[xxvi].
In January 2024 it was revealed that USS had suffered a huge loss of almost £600m in the value of its 20% stake in Thames Water – a drop from £956m in March 2022 to £364m in March 2023[xxvii]. USS has not received any shareholder dividends or payments of interest on any shareholder loans in the seven years since they first invested in 2017[xxviii]
Thus, this investment has generated precisely zero income for USS over seven years, and has decreased in value by £600m. The regulator has expressed concern that the company has long-term financial problems, and it continues to receive record fines for environmental pollution.
USS’s response noted the massive underinvestment in infrastructure at the company and the significant financial impact of soaring energy prices and other inflationary cost pressures. However they said ”As a long-term investor, we can provide patient capital and be an active, responsible steward of the company” and “the value we place on our Thames investment may go up or down as part of our regular revaluations”[xxix].
5. Summary
USS has justified putting around £1bn of members funds into a business they have described as “stable, predictable, regulated” and “a top performer in its market”. This is the opposite of the truth. What we have seen during the past years is continuing instability and unpredictability, and an appalling and worsening despoilation of the environment. To claim that this industry is well-regulated is absurd. As for being a top performer, this investment has generated precisely zero income for USS over seven years, and has decreased in value by £600m in that time.
Admitting a complete lack of any return from an investment of something like £1bn of members money since 2017, coupled with a £600m valuation loss, without any explanation apart from essentially saying that they think things will improve alongside their involvement, is extraordinary. However, it is in line with the USS approach to another industry where they have invested large sums – fossil fuels. USS’s argument for their continued investment in an industry that in the cause of continuing and worsening environmental damage is that they are “engaging” with the industry to help it change. But any cursory examination of the recent history of fossil fuel companies’ actions to reduce climate damage reveals derisory progress alongside commitments to business as usual.
The policy of USS “engagement” with Thames Water, as with the fossil fuel industry, is in practice a policy of enablement. USS provide no material evidence that their engagement makes any significant difference, and meanwhile issues supportive statements that might as well be written by the press office of the business they are investing in. Financial analysts like to stress that investing can be a highly complex activity. But some things should be simple – like not putting money into an industry that has just been sucked dry by a vampire raider, with a huge backlog of critical infrastructure spending required, a vastly increased debt, and a regulator incapable of doing its job.
DivestUSS
24th July 2023
Updated February 2024
[i] “Water has a private equity, not a private ownership, issue“, Financial Times 3/7/23.
[ii] “Managed by Macquarie: the Australian group with a grip on global infrastructure“, Financial Times 27/6/23.
[iii] “As Thames Water sinks, Macquarie Group continues its unstoppable rise”, Guardian 10/7/23.
[iv] “Thames Water: the murky structure of a utility company”, Financial Times 4/5/17, “UK water company dividends jump to £1.4bn despite criticism over sewage outflows“, Financial Times 8/5/23.
[v] Its most recent is the Queen Mother reservoir, built in 1976.
[vi] “Sewage spills highlight decades of under-investment at England’s water companies“, Financial Times 28/12/21.
[vii] UK Environment Agency, “Thames Water ordered to pay record £20 million for river pollution” Press release 22/3/17.
[viii] “Macquarie sells final stake in Thames Water for £1.35bn”, Financial Times 14/3/17.
[ix] USS Annual Report 2019, Case Study, p. 23.
[x] “Thames Water dumped raw sewage into rivers 5,028 times in 2021”, Guardian 20/4/22.
[xi] “USS increases Thames Water investment”, press release 3/12/21.
[xii] USS Annual Report 2022, p.21.
[xiii] “Thames Water pipe leaks at highest level in five years, FoI reveals”, Guardian 22/6/23.
[xiv] Environment Agency “Water and sewerage companies in England: environmental performance report 2022”, 12/7/23.
[xv] “Thames Water falls short of £1bn goal with £750mn injection” Financial Times 10/7/23
[xvi] “Why TW is under growing strain”, Financial Times 29/6/23.
[xvii] “Thames Water’s biggest investor cut value of its stake by 28%” Financial Times 18/7/23.
[xviii] “Thames Water press speculation”, USS Press release 6/7/23.
[xix] “Exclusive: UK water giants recruit top staff from regulator Ofwat”, Guardian 1/7/23.
[xx] “As Thames Water sinks, Macquarie Group continues its unstoppable rise“, Guardian 10/7/23.
[xxi] Thames Water appoints new chief executive, Financial Times 14/12/23.
[xxii] Ofwat warns over financial health of four water suppliers in England, Guardian 26/10/23.
[xxiii] Thames Water says pollution fine limits needed to win over investors, Financial Times 5/10/23.
[xxiv] Thames Water’s convoluted financial plumbing is part of the problem, Financial Times 11/12/23.
[xxv] Thames Water owners pile group with debt, Financial Times 1/12/23.
[xxvi] Thames Water owners pile group with debt, Financial Times 1/12/23.
[xxvii] Pension fund slashes value of its Thames Water stake by almost two-thirds, Financial Times 3/1/24.
[xxviii] An update on our investment in Thames Water, USS press release, 4/1/24.
[xxix] Thames Water’s second largest investor slashes value of its stake, Guardian 2/1/24.