Macquarie Group, dubbed the ‘Vampire Kangaroo’ in Britain, played a the key role the privatisation disaster which is Thames Water – now facing a multi-billion pound bailout by the UK Government. Matt Prescott reports from London.
Macquarie Bank was the mastermind behind the financial engineering that has a simple water authority mired in debt, then paid itself and its co-investors billions in dividends and walked away just before the shit (literally) hit the river because of operational failures and neglect.
Now, a major insolvency crisis is brewing in the English water industry, which could soon lead to the UK Government renationalising England’s largest water company, Thames Water, and taking on £15.6B to £18B ($29.6 to 34.1B)* of its corporate debt as part of an emergency rescue deal.
Thames Water, which serves 15.5 million people, is teetering on the brink of collapse. Its parent company, Kemble Water, recently defaulted on a £190 million debt repayment and suffered from investors reneging on a £500 million commitment. Now, Thames Water is claiming that The Water Services Regulation Authority’s (Ofwat) refusal to allow it to raise bills by 40% will make it “uninvestable”.
Macquarie Bank and Thames Water
In 2006, Macquarie Bank bought into Thames Water, leading a consortium of 14 international investors called Kemble Water, including Dutch, Australian and Canadian pension funds.
The consortium paid German energy company RWE £2.3 billion for Thames Water in an overly complex deal that few, if any, independent observers fully understood (see Figures 1 and 2).
According to Macquarie, “The two main funds used to acquire Thames Water were the €1.5B Macquarie European Infrastructure Fund (MEIF) and Macquarie European Infrastructure Fund II (a €4.2B fund) (MEIF II). Together, these funds, along with other Macquarie-managed funds, accounted for £1.1B of the purchase price and constituted around 48% of the ownership of Thames Water in 2006. International funds investing directly in Thames Water provided the remaining equity capital, and some remain owners of Thames Water today.”
Figure 1. Structure of ownership (2007) produced by Martin Blaiklock for the House of Commons Select Committee on Treasury
Macquarie has since stated that “Thames Water was acquired for an enterprise value of £8.5 billion comprising c. £2.3 billion in equity and c. £6.2 billion in third-party debt. The proceeds were paid to RWE by the acquiring consortium upon completion of the sale. At the time of acquisition, the Regulated Asset Base of Thames Water was c. £6.5 billion.”
BBC Investigation
In 2017, a BBC investigation discovered that much of the Macquarie refinancing funding their acquisition of Thames Water ended up on Thames Water’s balance sheet, via a network of linked subsidiaries. The BBC found “transactions which culminated in Thames Water having the additional £2B of debt on its books took place inside a network of companies set up by Macquarie at the time it bought Thames Water.
A consultation paper published by the industry regulator Ofwat in February 2007, showed that Macquarie and their investors paid £5.1B for Thames Water, of which £2.8B was money Macquarie borrowed to help fund the purchase.
What happened subsequently to that £2.8B so-called “acquisition debt” is revealed in a letter, dated October last year, from Thames Water’s then-chairman, Sir Peter Mason, to Martin Blaiklock (a consultant with international experience of privatised utility funding who undertook an analysis for the BBC). It was written in reply to questions arising from Mr Blaiklock’s attempts to understand Thames Water’s offshore financial structure.
In this letter, Sir Peter reveals that, of the £2.8B acquisition debt, £2B had been repaid. Not by Macquarie and its investors who borrowed the money, but from new borrowings raised by Thames Water through a Cayman Islands-based subsidiary. Martin Blaiklock said:
“That letter was a red flag to me because it showed clearly
that the debt which Macquarie funds had used to buy Thames Water had been transferred over to Thames Water.
“So now, it was a responsibility of Thames Water and not of Macquarie.”
Figure 2. Illustration of Thames Water corporate structure, ownership and debt by @JPMorgan published by @FTAlphavilla in 2023
Following the purchase by Macquarie, water bills were securitised with a bond profile extending to 2062.
Meaning water users will still be paying for Macquarie’s financial engineering for the next 38 years, even if the company is re-nationalised.
Macquarie initially sold its MEIF-controlled shares in Thames Water in two stages in 2011 and 2012, and the remaining 26.3% it managed and controlled via MEIF II in 2017.
Debt, dividends and disaster
During Macquarie’s co-ownership, debt jumped from £3.4B at the time of purchase to £10.8B by the time of sale, while Thames Water paid out dividends exceeding £2.5B between 2007 and 2017.
Since privatisation in 1989, over £7.2 billion has been extracted in dividends.
It doesn’t seem like a coincidence that Thames Water is now struggling with £18 billion of debt.
Figure 3. Thames Water Utilities Limited, dividend payouts by year, company reports 1990-2023. Graphics by The Guardian.Thames Water has since stumbled from criminal conviction and pollution calamities to imminent insolvency, partly because it cannot service its outstanding debts (which averaged 28% of annual revenues between 2018 and 2023) and maintain the basic functions expected of a major regulated water utility. Nearly all of Thames’s revenues come from servicing water users.
Water discharge conviction
Days after Macquarie Bank sold its final stake, Thames Water was convicted of discharging 4.2 billion litres of partially and untreated sewage across 6 sites in the River Thames and its tributaries between mid-2012 and early 2014, and sentenced to pay £20M in fines and costs. At Aylesbury Crown Court, Judge Francis Sheridan said there had been
inadequate investment, diabolical maintenance and poor management,
assessing incidents as “reckless” or “borderline deliberate.” Judge Sheridan concluded: “Knowledge of what was going on went very high indeed.”
Thames Water was found guilty of engaging in an illegal practice known as “flow clipping,” which involves discharging sewage via storm tanks during non-storm conditions. Storm tanks are designed to store and eventually discharge overflow effluent only during heavy storms, but instead, they were being used to sidestep the full treatment process.
Ultimately discharging sewage into the rivers and streams anglers fish in, people swim in, children play in and wildlife call home. Furthermore, up to 50% of the sewage the treatment works are designed to treat was bypassing the entire treatment process.
By diverting over 4.2 billion litres of untreated or partially treated sewage to storm tanks and unlicenced discharge points, Thames Water was undermining the data that Ofwat and the Environment Agency use to monitor water companies’ performances and regulate the industry.
It was subsequently revealed the River Thames has been polluted by at least 72 billion litres of sewage discharges since 2020, roughly the equivalent of 29,000 Olympic swimming pools.
Re-nationalisation
Given the mess Thames Water’s sewage-filled rivers and debt-filled finances are in, it will not be a straightforward process to re-nationalise water supplies.
England’s inadequate water infrastructure will require £10s of billions of investment, and existing bondholders are likely to have claims on essential water assets via the covenants and other conditions attached to their bonds.
Depending on the technical details attached to the bonds, we could find that bondholders have the first claim on water assets following an insolvency crisis and the UK Government could be left with few options. Primarily because it needs to continue borrowing from the bond market, and the nation already carries trillions in debt.
The solutions to funding and regulating essential utilities are not just about ownership; of equal importance is how vital public utilities are to be responsibly regulated and adequately financed.
After decades of naïve privatisation, “light touch” oversight, self-regulation and deregulation, it is clear that essential public utilities have not been operated in the public interest and need to be strictly regulated. Ensuring bill-payers are receiving value for money, sufficient financing is available for critical infrastructure, that apolitical and independent regulators specify and enforce service standards, and that the environment is protected must remain consistent priorities.
Since privatisation, corporate structures and accounting tricks are becoming increasingly incomprehensible and hyper-complex debt arrangements are putting outsiders, including regulators, at a significant disadvantage when it comes to protecting the community from the worst excesses of technically legal, yet morally dubious and environmentally damaging, financial dark arts.
The sting in the privatisation tail
Macquarie correctly claims to have helped invest £11B during its ownership of Thames Water. But water users and taxpayers will still need to make up for decades of underinvestment. If the entire industry has to be re-nationalised, this could cost £96B across all of England, according to The Guardian.
The unnecessary complexity and hidden costs associated with privatisation are not in the public, customer or national interest.
The role of debt, and specifically bonds, in the collapse of Thames Water, a large regional monopoly, deserves to be highlighted. The majority of this debt was effectively used to fund unaffordable dividends, and other payments, which would not otherwise have been possible.
Some might view this debt as having enabled a large-scale, multi-decade fraud on the public purse.
The irony is that privatisation has relied upon complex, expensive, opaque and risky forms of debt and investment, displacing far simpler and less risky funding models based on a mix of adequate bill revenues and cheap national debt, yet bill-payers and the nation could soon be forced to pick up the tab for decades of artificially inflated private profits, asset stripping and financial engineering.
All the years of excessive private profits, debt-subsidised shareholder dividends, complex inter-company loan payments and multi-billion under-investment have not achieved any more than good business managers would have achieved, at minimal risk, with adequate water bills and reasonable backing from responsible Governments. Instead, they have jeopardised and “gamed” the entire system.
Somehow, by slowly and steadily piling on debt and risk unchallenged, a succession of investors, including Macquarie, have pushed a relatively simple, vertically integrated regional monopoly, which primarily has to move water and sewage from point A to point B, to the brink of bankruptcy and environmental disaster.
The role of Macquarie in the downfall of Thames Water should act as a cautionary tale for anyone in Australia who still thinks that sophisticated, commission-based financiers will magically and responsibly solve our problems.
In today’s era of weaponised financial engineering and globalised wealth extraction, essential public utilities require proactive and strict regulation in the public and national interests.
The rhetoric associated with “privatisation” and “the market” simply do not match the reality for the community at large, customers or the environment, with water infrastructure falling over, bills skyrocketing and more than just rivers outrageously full of shit.
* Today’s exchange rate of $1.90 to 1 GBP
Dr Matt Prescott is the Director of Research at Lantern Insights, a specialist sustainability thought leadership research agency. He studied the pollination ecology of Australian Acacia for his doctorate at Oxford University and campaigned for the global phasing out and banning of incandescent light bulbs via his Ban The Bulb campaign, which he founded in 2005. In 2017, he investigated the financial and environmental risks within the English water industry and warned that this industry could become the next "too big to fail".