Macquarie digs deeper for redemption at Southern Water. There was no alternative
The giant Australian financial outfit's former outing, remember, was at Thames Water from 2006 to 2017, which was when the absurd games of financial leverage began at the UK's biggest water company. The then-chair of Ofwat later told MPs he asked himself the question 'What do we do here, with that reputation?' when Macquarie made the best financial offer to rescue Southern Water.
The deal was done eventually with Ofwat's blessing. Macquarie-managed funds injected £1bn to take control and its infrastructure boss declared in an open letter that the firm would be 'a responsible long-term steward of Southern Water and believes it can help the company deliver the transformation it requires'.
Part of that statement – the bit about being in it for the long term – is clearly true. Macquarie is now rescuing Southern for a third time, in effect. An extra £550m was injected in 2023. Now its consortium (of which it and its managed funds are about 90%) is putting in up to £1.2bn in equity to recapitalise Southern's operating company.
The process is convoluted since only £655m is binding; a further £245m is intended to follow by the end of the year and the balance of £300m depends of the outcome of Southern's appeal to try to secure bigger bill increases than the 53% allowed by Ofwat. But, in the shoes of the regulator or a fearful secretary of state, Steve Reed, you'd be breathing a sigh of relief. Their nightmare was the thought that the current refinancing crisis at Thames would spill over to Southern, the next most stressed operator. Instead, Southern should now have sufficient capital to get it through the current five-year regulatory period.
Unlike at Thames, the fisticuffs with bondholders took place behind closed doors. Lenders are taking a write-down from £865m to £415m across the complicated holding company group structure in what is a mini debt-for-equity swap to supplement the new capital. Macquarie's approach to transparency didn't extend to giving a leverage ratio for the regulated entity in recapitalised form – a critical metric – but the ratio is obviously lower than it was before the deal.
Yet the Australian attempt at watery redemption is not quite the upbeat tale of emerging success presented in Tuesday's announcement. The claimed 'good progress' with Southern's transformation plan requires a large helping of context.
Yes, pollution incidents may be down by 40%, but the top executives are still on Reed's banned list for bonuses on account of spills. Meanwhile, the company got a two-star rating in the Environment Agency's last assessment report – better than the one star Macquarie inherited, but still equal bottom-of-the-table. Ofwat's separate performance scorecard noted that in 2023-24 Southern 'reported the largest percentage net underperformance payment for a fourth consecutive year.'
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Those regulatory reports are almost a year old, so maybe the next annual crop will provide evidence of the 'momentum' behind the turnaround. Until then, however, Macquarie has merely demonstrated it can cough up capital when there is no realistic alternative. On-the-ground operational delivery is what counts. There is a long way to go. If the exercise is costing more than Macquarie expected in 2021, sympathy may be limited.
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