Written evidence from- Gregg McClymont IFM Investors (UK)-(TWW0010)

Please find below evidence from IFM Investors, a pension funds owned infrastructure specialist which manages and advises ‘open-ended’ evergreen infrastructure funds that have been invested in Anglian Water Services since 2006.

1. About us.

IFM Investors (“IFM”) is owned by Australian pension funds, including the funds of nurses, retail, hospitality, and construction workers. One of the world’s largest infrastructure investors with more than £48 billion AUM across equity and debt (at 31 March 2022), IFM pioneered the ‘permanent capital’ approach to infrastructure equity investing – open-ended funds with no requirement to sell assets. Our purpose is to protect and grow the long-term retirement savings of working people. More than 70 UK pension funds across local government and corporate schemes invest in infrastructure via IFM. For more information, visit www.ifminvestors.com.

2. Investors in Anglian Water Services.

IFM’s Global Infrastructure Fund (“GIF”) has been an investor in Anglian since 2006. We believe Anglian has a record of which to be proud:

•        2017: Business in the Community Responsible Business of the Year

•        2017: First utility company in Europe to launch a sterling Green Bond

•        2017: Committed the business to Carbon Neutrality by 2025 then in 2019 accelerated that commitment to 2030

•        2018: International Water Association Gold Award for Innovation

•        2018 Glassdoor (UK) Best Place to Work

•        2019: First company in sector to embed public interest objective into the company’s articles of association

•        2019/20: Shareholders reinvest £165m in the business

•        2020: Queen’s Award for enterprise: Sustainable Development (for a second time)

•        2020/21: Rated by Ofwat as ‘sector leading’ in regulators 2020/21 Service Delivery Report

•        2021: Unveiled route map to achieve net zero by 2030

•        2021: First water company globally to issue a sustainability-linked bond connected directly to achieving emission reduction goals

•        2021: Led the UK water sector at COP26

•        2022: Named as a European Climate Leader by the Financial Times

•        2022: Providing £63m package of support customers facing affordability challenges

•        Today: No dividends paid since 2017

GIF and Anglian’s other investors took no dividends between 2017 and 2021 despite the strong operational performance of the company. This is in line with our ‘permanent capital’ approach, which seeks to enhance the value of assets over decades through reinvestment and sustainable operational improvements, as evidenced above.

Regulation of the UK Water sector.

The guiding principle of water regulation must be that companies have a reasonable expectation of recovering efficiently incurred costs (including a return on capital), regardless of the delivery mechanism. The UK’s water-based infrastructure must have the capacity to withstand an evolving set of economic and environmental threats - including risk preparedness to cope with any potential surges in both the frequency and severity of floods, as well as potential droughts, so incentivizing long-term investment is critical. At least three strategic changes to the current regulatory approach are necessary to meet these long-term challenges:

balancing the interests of current and future generations of water consumers

collaboration between governments, regulators and water companies

recognition that company financial structures are the province of company boards

Balancing the interests of current and future generations of water consumers

Ofwat should re-evaluate the existing balance that favours short-term bills over investment. Ofcom’s approach to fibre offers a model in this respect. In the water sector the Government should define a long-term vision for desired outcomes stretching out to 2050. It could commission a review co-ordinated by the National Infrastructure Commission (“NIC”) that brings together the views of all relevant stakeholders (including consumer groups, operators, civil society members and investors) to ensure that this long-term infrastructure plan represents a set of shared outcomes from across society. The NIC could be given a central role to monitor progress, and to update the long-term infrastructure plan in response to changing circumstances. The Government should also consider whether the NIC’s remit needs to be upgraded or enhanced, and whether it should be put on a statutory footing.

The Strategy Policy Statement for Ofwat (“SPS”) must become much more specific and precise in setting out the government’s expectations of long-term investments now for the benefit of future generations. A formal mechanism for Ofwat to report to Government on its performance against this more precise SPS could also be established. Parliament could also play a role in this formal process. For example, the SPS could provide direction that Ofwat should be required to report to the Environment Food and Rural Affairs Select Committee on an annual basis, where MPs could scrutinize the performance of the regulator against the priorities of the SPS, much in the same way as other public bodies are held to account through the Parliamentary Select Committee process.

Collaboration between governments, regulators and water companies

Climate impacts, in addition to land use planning and activities of other sectors such as farming, are placing greater pressure on water infrastructure, and this will require a new mindset a well as regulatory solutions to solve. Ofwat has evolved a long way since it was set up and now regulates much more than just the economics of the sector. For example, the interplay between Ofwat and the Environment Agency (“EA”) is crucial; there needs to an outcome-focussed alignment between the two regulators and outwards to the industry if public demands on the environment are to be met on a cost-effective basis.

The Regulators Alliance for Progressing Infrastructure Development (“RAPID”) approach on water resources, bringing Ofwat, EA and the Drinking Water Inspectorate together is a useful model and should be replicated more widely. For example, in the approach adopted to Combined Sewer Overflows (“CSOs”), where the  focus on improved river water quality requires a multi-sector approach including agriculture and industry, not just water companies. There will also be a need for a more permissive regulatory stance towards investment, including anticipatory investment. The future shape of the Water Industry National Environment Programme (“WINEP”) offers an illustration. WINEP in its 2019 incarnation is thousands of lines of detailed outputs on a spreadsheet targeted at treatment works. Opportunities for Nature Based Solutions and partnership are likely to be increasingly important – but ‘natural capital’ solutions require a more outcomes-based approach measured well beyond the current 5 year regulatory horizon. With the next 5 year plan (PR 24) coming up fast, there is no time to lose.

3. Recognition that company financial structures are the province of company boards.

As part of the shift to regulating for long-term outcomes, regulators should restate support for the discretion of company boards in making important corporate and financial decisions. One of the fundamental underlying principles of UK water sector regulation since privatisation has been that companies, their shareholders, and their management, are best placed to make decisions about raising finance and designing efficient capital structures. This principle underpins the approach taken by Ofwat to setting financial parameters of its price controls for the notional company i.e., it leaves companies with independence to design their financing structures, thereby ensuring that the risks sit with the shareholders rather than being passed on to customers.  The Competition Commission (and more recently, the CMA)[1], as well as other UK economic regulators such as Ofgem[2], have consistently endorsed the efficacy of this approach. Indeed, Ofwat has itself acknowledged consistently throughout previous price controls[3] that water companies should independently determine their financing structures and has explicitly recognised the benefits to consumers of higher levels of gearing in capital structures.

Reflecting the regulatory tradition in the UK, the burden of proof should therefore rest on the regulator to explain why any constraints, for example, on financial resilience, are necessary to avoid detriment to consumers or citizens. This should allow company boards and executive teams to focus more time on the strategic, operational and commercial decisions needed to achieve superior outcomes for consumers and citizens, and less on mitigating regulatory and policy risk. The need for a collaborative long-term approach between government, regulators and water companies has never been more urgent given the scale of our water infrastructure challenges.

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