The urgent need for investment in water infrastructure has become a national political issue in the UK, driven by both media and grassroots organisations frustrated by poor water quality in lakes, rivers, and beaches. The UK’s water industry has a unique ownership structure, having been completely privatised in the 1980s and now including a mix of publicly listed and private equity-owned utilities. Most countries typically have a combination of state and private ownership, with Europe and the United States predominantly using government-owned infrastructure. While the original aim of privatisation was to encourage efficiency and increased investment, there is now an ongoing debate in the UK about whether private ownership has led to excessive dividends and executive pay at the expense of capital investment.
The UK water industry operates under five-year regulatory periods known as Asset Management Plans (AMPs). At the end of each AMP cycle, a price review (PR) is conducted to determine the expenditure and billing guidelines for water companies. The regulator, Ofwat, has recently completed the draft determinations for the 2024 Price Review (PR24), which will set the framework for the AMP8 period (2025 – 2030).
If the PR24 draft determinations are approved as proposed, water and wastewater companies in the UK will see a significant increase in required capital expenditure, which is projected to be three times higher than in the AMP7 period. Additionally, the draft determinations include more stringent penalties for service lapses. Overall, spending across the industry is expected to increase by 50% during AMP8 compared to AMP7. This surge is likely to result in customers receiving an average annual bill increase of approximately 5% per year to fund these improvements and enhancements to water services.
It is noteworthy that the anticipated increases in regulated water investment in the UK (~10% CAGR) are somewhat comparable to the projected growth in regulated grid infrastructure investment at approximately +10% per annum. Both publicly listed water and grid companies have announced equity offerings to help fund these investment increases.
The UK is not alone in facing the challenges resulting from underinvestment in water infrastructure amidst rising consumption and urbanisation. Climate change has further stressed the global water system, causing shortages in some areas and increased flooding in others. The UK’s rate of water leakages, investment per capita, and wastewater incidents are roughly comparable to those in the USA and continental Europe. Both regions face significant public pressure to upgrade water infrastructure. In response, the US has enacted the Infrastructure Investment and Jobs Act and American Rescue Act Plan, and the EU has implemented funding mechanisms like the European Regional Development Fund and the Cohesion Fund to address these challenges.
Another key driver of increased water investment in the US and, eventually, Europe is historical water contamination from PFAS (per and polyfluoroalkyl substances). PFAS contamination has garnered significant attention in the US as legal actions against chemical manufacturers have revealed their widespread and long-term health impacts. In response to growing public concern, the Biden administration has allocated billions in federal funding to municipalities for water utilities, including specific provisions for PFAS cleanup. Along with funding, the designation of PFAS as a hazardous substance under the Superfund Act will require water utilities in the US to invest in water infrastructure and filtration systems to meet EPA standards. The US strives to detect and limit PFAS to 4 nanograms per litre, equivalent to roughly one sugar cube in 7 Olympic-sized swimming pools.
In Europe, tackling PFAS contamination is also becoming a significant focus, mirroring US efforts. The ‘Forever Pollution Project’ has identified over 22,000 known and likely contamination sites across the continent. In response, European governments are increasing regulatory measures and funding for cleanup initiatives. The European Commission is working on stricter regulations for PFAS under the EU Chemical Strategy for Sustainability, aiming to phase out all non-essential uses of PFAS. This includes setting maximum allowable levels of PFAS in drinking water and providing financial support for municipalities to improve water treatment infrastructure. The EU’s current allowable PFAS levels are set at the minimum safe threshold, which is much higher than US standards, implying opportunities for improvement and further investment.
In addition to the investment opportunities arising from the specialist equipment and expertise required to detect and remove PFAS, a strong investment case lies in the meters, pipes, filters, pumps, and other equipment that will be installed to improve water infrastructure. There are many listed companies involved across the value chain, with different competitive positions and pricing power. These equipment companies do not have state-regulated returns and thus vary in margins and growth potential.
It should be noted that water infrastructure and safe access are even more stretched in emerging markets, where similar problems of rising urbanisation, volatile rainfall, and more frequent droughts are combined with higher rates of water theft, lack of payment, and increased costs of capital. We expect significant increases in water spending across emerging markets, again, comparable to expected increased investments in the electricity grid.
Although the UK has the highest percentage of water utilities listed on public equity markets, there are also several listed water utilities in the United States, France, Italy, Brazil, Philippines, China, Chile and Singapore, amongst others. Most of these countries have similar challenges, but there is a wide variety of companies and investment cases among these regions.
Overall, we believe water capex will rise faster than GDP in almost every region globally, with investment opportunities across utilities and equipment companies. Given government indebtedness globally, we expect more privatisation and international capital in water over time to fund this growth rather than increasing government ownership.
