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Unless like me you are a bit of a regulatory geek, you have probably missed an important Ofwat consultation, on a water market codes change proposal raised by Castle Water last year, designed to protect us and our customers in the event of financial problems at Wholesalers. Ofwat published a consultation on Monday on the (at first glance) arcane subject of Wholesale Retail Code Change Proposal – Ref CPW132. You can read the full consultation here.
This change proposal is aimed at standing down (temporarily) the requirement for Credit Security to be provided by a retailer (Castle Water) to a wholesaler (Thames Water) if the wholesaler’s balance sheet falls below the Credit Rating required by Ofwat in the Wholesaler’s licence – Thames’ credit rating is now below investment grade. This clearly affects the systemic risk of the non-household water market, the support that water retailers and therefore business customers, provide to failing water wholesalers, and how customers should be treated.
To put this in context, Castle Water currently provides c. £45 million of Credit Security against wholesale charges, the largest part of this to Thames Water. This is funded by Castle’s shareholders, but the funding implicitly relies on an expectation of receiving customer payments, and so it relies on a presumption of payments being received from you to provide the facilities which are used to fund Thames.
Credit Security is, in normal circumstances, a good idea. It reduces both systemic risk (the ripple effect) and company specific risk (to a Wholesaler) of the failure of an individual retailer. However, to me it is obvious that if the Wholesaler is at risk of failure, then it actually creates risk (including market wide systemic risk) rather than reducing it – and Ofwat’s position on this has changed over time in key respects. Castle has been pushing since 2019 for changes to Credit Security to protect the market, retailers and customers, from the risk of Wholesaler failure. In 2019, Ofwat’s rejection of our proposed market changes was that a downgrade to a Wholesaler’s credit rating simply would not happen.
Ofwat appears to argue that it is not appropriate to stand down (or reduce) Credit Security, as this could exacerbate financial problems at a Wholesaler:
“We consider that the Proposal risks contributing to, or exacerbating, a decline in the financial position of a Wholesaler” (*.2.3)
At section 8.6 of the consultation, Ofwat looks at “The impact of the Change Proposal on customer outcomes”. Ofwat describes Castle Water’s stance on this as “customers would benefit from improved market stability as a consequence of reduced systemic risk from fragile Wholesaler financing, service degradation or interruption, Retailer failure and interim supply events”
But, Ofwat does not really answer this, instead it concludes:
“We therefore do not consider that the associated risk of one form of Eligible Credit Support warrants the removal of the underlying obligation on Retailers to provide credit support where a Wholesaler’s credit ratings falls below BBB/Baa2”
If you have a view on this, whether you agree with my position or not, it would be very helpful if you could let me know by 28 August, by emailing me at ceo@castlewater.co.uk, and we will include your views in our consultation response. Please let me know if you would like your details redacted from any published information (Ofwat will publish consultation responses). Given that Ofwat’s consultations are relatively complex to answer, can I suggest you answer one or both of the following questions:
- Do you, as a business (or public sector) water customer consider it appropriate that water retailers are required to provide Credit Security to a Wholesaler who is in breach of licence requirements relating to their Credit Rating?
- Where a Wholesaler risks insolvency, do you think Ofwat is adequately prioritising/protecting business customers from the financial risks associated with the risk of Wholesaler insolvency?
Bear in mind that whereas in the current circumstances this directly relates to Thames Water, there are probably at least 5 other water wholesalers with a level of financial stress.
John
