Environment Secretary Michael Gove launched a wide-ranging attack on the water companies yesterday warning them they would need to raise their game on financing structures and operational performance, particularly leakage and pollution, or "face the consequences".

Michael Gove was setting out his views on future of the water industry at the Water UK City Conference in London yesterday in a speech which must have made for uncomortable listening for an audience of senior executives and water company chiefs.

He described the water companies customer base as a “captive set of consumers” which was guaranteed income from hundreds of thousands, if not millions of customer and “a commercial dream.” Comparing them to ITV franchises in the 60s and 70s which “were a licence to print money”Gove said an ITV franchise-holders once would have looked with envy at the commercial position of the owner of a water company.

The Environment Secretary acknowledged that privatisation had delivered £140 billion investment overall in infrastructure, with leakage levels down by around a third and two thirds of beaches classed as excellent, up from one third pre-privatisation.

He also praised a number of the water companies for their environmental leadership, including United Utilities, Wessex Water , Yorkshire Water and Anglian Water.

“Public concern about the way the water industry operates is growing”

However, despite acknowledging the contribution made by the utilities, Gove said “public concern about the way the water industry operates is growing” and operational performance remained. concerning.

Commenting on leakage, Gove said three billion litres of water still leak out every day and more than a fifth of the total supply. – a figure which has barely improved in the past four years. Apart from United Utilities, each of the nine large water companies had suffered more mains bursts last year than in the one before, with Thames Water suffering 265 bursts for every 1,000 km of mains pipe.

While £140 billion pounds had been pumped into the network to repair existing assets, there had been no investment in new nationally significant supply infrastructure, such as major reservoirs, since privatisation. The water companies needed to be investing in new infrastructure, increasing water transfers and also working, critically, to bring down leakage, he added.

Improvement on pollution has stalled

Gove described the problem of leakage as “not the only blot on the sector”, saying that improvement had also stalled on pollution. The water companies were responsible for around 60 serious incidents of pollution every year –more than one a week – and notably the tally has barely changed in a decade.

Drawing attention to Thames Water’s record £20.3 million fine for polluting the river Thames with nearly one and a half billion litres of raw sewage in 2013 and 2014, he said this was “just ten days’ worth of Thames’s operating profit.”

“So what does the public see? An industry slow to stop leaks, slow to repair them, slow to stop pollution and slow to say sorry.” Gove asked.

“Some companies have been playing system for the benefit of wealthy managers and owners”

Gove was particularly highly critical of water companies’ financing arrangements, saying that far too often, there was evidence that water companies have not been acting sufficiently in the public interest.

“Some companies have been playing the system for the benefit of wealthy managers and owners, at the expense of consumers and the environment.

“They have shielded themselves from scrutiny, hidden behind complex financial structures, avoided paying taxes, have rewarded the already well-off, kept charges higher than they needed to be and allowed leaks, pollution and other failures to persist for far too long.”

“And when there has been acknowledgement that change is required – following public pressure or actions by regulators – far too often there has been prevarication and procrastination, ducking and diving and dragging of feet.”

He went on to say that in cash terms,while over £18.1billion was paid out to shareholders of the nine large English regional water and sewerage companies between 2007 and 2016, this was actually almost all of the profit made by water companies after tax over the same period. The total profit was £18.8 billion i.e. 95% of the profit went in dividends to shareholders.

The decisions had been made the people at the conference - the chief executives and board members of the privatised water companies. Commenting “you must realise that in the public eye you are very handsomely remunerated”, Gove outlined salaries paid to the water company chief executives, including:

• United Utilities - £2.8 million a year
• Severn Trent - £2.42million a year
• Anglian Water - £1.2million a year.
• Yorkshire Water - £1.2million a year
• Thames Water - £960,000 a year

The Environment Secretary said while it was hoped that “companies making such massive profits, paying out such big dividends and supporting such generous executive salaries, would be big contributors to the Exchequer through their tax bill”, some were but others were very much not.

Some companies set up multi-layered corporate structures of “dizzying complexity”

Last year Anglian, Southern and Thames paid no corporation tax and Thames had paid no corporation tax for a decade.

Four of the water companies – Thames, Southern, Anglian and Yorkshire had made “particularly keen use of sophisticated financial engineering” and set up multi-layered corporate structures of “dizzying complexity” involving multiple subsidiaries, some based offshore. As well as Thames, Southern and Yorkshire – had also set up offshore financial structures in the Cayman Islands.

Companies “have used their complex structures to play the system”

Querying the stated reason of enabling smoother access to global bond markets via the structure, Gove pointed out that the rules were changed, yet the offshore firms continued to exist.

“The companies concerned have maintained the structures that enable them, among other things, to avoid proper scrutiny. ..these companies have used their complex structures to play the system, and – further – they have also used the way they manage debt to arrange matters in their favour.”

While an efficient capital structure for an asset-intensive business like water must always involve a significant amount of debt, He also queried the level of debt some companies were carrying compared to others in the sector and more than most companies outside the sector, saying it was more than they “would think wise”.

“Water companies have been able to minimise their tax obligations, even as many have failed to minimise leaks and pollution, because some of their best brains appear to as be intent on financial engineering just as much as real engineering.” he added.

The banks and funds which own these companies had increased their debt levels to nearly 80% - or 83%, in the case of Thames – Yorkshire’s gearing stood at 75%, while Southern and Anglian were at 78% and 79% respectively. Compared to the other water companies, whose gearing remains around 60%, the companies now have less capacity to cope with risks and shocks, he warned.

With debt levels are higher than those assumed by Ofwat - and repayments cheaper than they would be on equity returns and are paid out before tax - the companies had made “supernormal gains” further boosted by low interest rates in recent years.

Cayman Island arrangements -“excuse-mongering just won’t wash”

According to the Environment Secretary water companies with offshore financial structures had agreed to close them in an effort to rebuild public trust under pressure from the regulator and consumer groups in recent months.

However, he rejected the companies’ stance that it would take up to two years to wind up the Cayman operations, saying “that sort of excuse-mongering just won’t wash, I’m afraid.”

“Unless we see change pressure for renationalisation will only grow”

Gove went on to say “The people in this room – the companies you run – must change”

He warned that he would give Ofwat Chairman Jonson Cox and his team “whatever powers are necessary, and back them in any action they need to take, to get the water companies, all of them, to up their game and further lower consumer bills.”

“Unless we see change, the pressure for renationalisation will only grow. Renationalisation has significant and growing public support. “

However, the Minister said that renationalisation would be a terrible backward step which would cost the taxpayer, reduce investment in the environment and stifle innovation, saying:

“I strongly believe that private markets are the optimum way to meet the ongoing needs of water customers and the environment when backed by strong regulation. And real behaviour change.

“Should companies continue to drag their feet, I have already said I am prepared to consider changes to the regulatory framework to ensure that consumers receive the service they deserve - and the natural world is better protected in line with our 25 Year Environment Plan.”