Time to pull the plug on Thames Water

In what must surely be the slowest-motion financial car crash in history, the crunch is finally here for Thames Water. In a move reminiscent of the famous scene in Blazing Saddles, the company’s management has effectively told its regulator to back off, or they will collapse the business. The money that the shareholders had previously promised to put up is no longer there, unless the management is allowed to hike water prices, escape significant fines and earn a fat return on the new investment.

Thus the endgame that so many of us forecast for so long is here. There is even a suggestion from Thames that it’s somehow the fault of Ofwat for not enforcing the rules on sewage discharges earlier. Never mind the years of public pressure for better behaviour from the company’s successive managements, it’s all the fault of the regulator.

This approach takes some chutzpah. Thames shareholders, a disparate bunch of sovereign wealth funds and pension investors, might have known that if Macquarie was selling its stake, they needed a long spoon before buying it. 

Lots of us pointed out at the time how the Aussie Vampire Squid had sucked the equity from the business to replace it with debt. Look out for plenty of hand-wringing now about scaring off much-needed foreign investment if the owners of Thames are wiped out, but as things stand now, the shares are essentially worthless. 

The harder question is the value of the outstanding debt. Thanks to the byzantine capital structure that Macquarie constructed on top of the operating business, it’s not an easy question to answer (although the market has tried, with some of it changing hands at less than 20p in the pound). 

Had Thames been a listed plc, the recapitalisation, swapping debt for equity, would be well advanced by now, diluting but not quite destroying the value of the existing shares. Thames has strong, guaranteed cash flows. It is on the brink of ruin not because we can do without its product, but because of its £18bn of debt. 

There is a strong case for allowing the business to fail into a Special Administration Regime. Indeed, with a rare example of official forethought, the government has tweaked the rules to make it easier. In that case, the creditors would take a brutal haircut and end up as the owners of a business with a manageable debt burden. 

The new company would then have a chance of meeting its future obligations and (one day) producing distributable profits. The alternative, of a massive rise in water bills, would effectively mean the consumer paying twice – once to enrich the previous shareholders, and once to clean up the mess they left behind.