Moody’s Investors Service warned in a report that regulated UK water and energy companies which have locked in expensive debt for long periods face a credit negative exposure to a persistently low interest rate scenario.
“Regulated utilities will benefit from low interest rates over time as they raise new debt. However, companies with higher funding costs and/or debt tenors beyond that assumed by the regulator will underperform,” said Moody’s senior analyst and co-author of the report Fred Barasi.
Water companies will have allowed returns reset in April 2020, while network companies will have regulatory reviews in 2021-23.
Water companies have chosen a range of capital structures: from less than 60 per cent net debt to regulated capital value (RCV) to more than 80 per cent. Cost of debt also varies significantly across the companies, depending on the duration of the debt and when it was raised.
The companies most exposed are Southern Water and Yorkshire Water. On 30 September, Moody’s changed the outlook on their ratings to negative from stable.
Moody’s warned that, if companies’ equity value is eroded as a result of low market yields, it could reduce shareholders’ willingness to provide further funding. In addition, capital market lenders may in future be less supportive of regulated utilities with high embedded debt costs and potentially limited equity value.