Water sector regulator Ofwat has outlined new plans intended to ensure customers do not fund executive bonus payments where they have not been sufficiently earned through the company's performance for customers and the environment.

In new proposed guidance on performance related pay (PRP) published today, Ofwat said it expects water company remuneration committees to take full account of performance for customers and the environment, and performance overall, when deciding whether to award bonuses to senior executives.

Company policies and decisions on bonus payments will need to align to the expectations set out in the published guidance.

Ofwat says it will regularly review all executive director bonus payments and where the regulator's expectations have not been met, customers will no longer pick up the bill.

Ofwat: "performance of the sector continues to be called into question, particularly with regard to environmental performance"

The regulator comments in the proposed guidance:

“We recognise the role performance related pay plays in incentivising and rewarding strong performance and driving improvements where needed. Nevertheless, in a context where the performance of the sector continues to be called into question, particularly with regard to environmental performance, we do not consider that all companies are applying PRP in a way that lives up to the standards that we all expect.”

Water companies will remain responsible for setting performance related pay but in their role as a monopoly provider of essential public services, they need to demonstrate greater accountability, Ofwat says. The recovery mechanism will apply new regulatory scrutiny to Boardroom and remuneration committee decision-making.

Ofwat's review of company decisions on pay awards will be based on a wide range of criteria, including environmental performance, delivery for customers, overall financial health, and compliance issues - all factors which Ofwat expect companies to consider themselves. The proposals are the latest step in Ofwat's programme of work to link Board-level financial decision making to company performance.

Earlier this month Ofwat announced new licence conditions prohibiting water companies from paying dividends to investors if their financial resilience is at risk. Those new powers will also allow the regulator to take enforcement action against water companies that do not link dividend payments to performance.

David Black, Ofwat Chief Executive, said:

"In too many cases, bonuses paid do not reflect the reality of company performance. Customer trust is damaged when executive bonuses are not aligned to water company performance for customers and the environment.

"We said that if companies did not address this we would take action, and that is exactly what we are doing. Alongside our new rules on dividend payments, this is part of our ongoing work to make companies more accountable for their actions."

Ofwat is consulting on the new mechanism in proposed guidance to companies. The mechanism will apply both to the remainder of the 2020-25 period with adjustments made at PR24, and for the 2025-30 period.

CCW Chief: “We want chief executives to explain to their customers – who are not able to switch supplier – why their salaries are justified”

Commenting in response to Ofwat’s announcement on the new guidance surrounding pay bonuses for water company executives, Emma Clancy, Chief Executive of the Consumer Council for Water (CCW), said:

“Customers don’t want chief executives to be rewarded for failure, so we look forward to examining the detail of Ofwat’s proposals on bonuses. Customers will want to see this making a clear difference.”

“Our research shows that people want to see evidence bonuses have been earned by companies delivering on commitments to their customers and the environment. People also want far greater transparency on pay. We want chief executives to explain to their customers – who are not able to switch supplier – why their salaries are justified.”

Deadline to submit comments to Ofwat’s consultation on the propsed guidance closes on 1 May 2023 – click here to access the proposed guidance document.