Some thoughts on the role of financeability assessment Nicholas Francis Cost of capital conference (personal views) Thursday 4 May 2017 Trinity House, London 1
Analysis of financial ratios used by credit rating agencies, applied to notional efficient company Cost WACC assessment Indexation Tax allowance Other things Objective that (notional efficient) company could finance its activities under proposed price control 2
Financial ratios for notional company may indicate internal inconsistency in WACC assumptions Notional gearing compatible with assumptions on cost of debt & cost of equity? Some possible responses if there is a concern C A Assume lower notional Change time profile gearing & thereby of revenue increase WACC (e.g. via RAB/RCV) B D Assume higher cost of Reduce risk exposure equity / cost of debt (e.g. incentive calibration) 3
Quality of available information on WACC parameters (uncertainty about “asset beta”) Listed companies mostly comprising UK regulated utilities Companies similar to listed UK regulated utilities Companies less similar to listed UK regulated utilities Worse quality information (increasing uncertainty about asset beta) 4
Alternative view on notional gearing for water companies (illustrative purposes only) 100% 80% 60% 40% 20% 0% Source: illustrative calculations based on Ofwat PR14 FD data 5
Alternatives to lower notional gearing assumption C D Reduce risk Change time profile of exposure revenue RPI indexation excessive Some risk exposure not (use CPI or RPI-1%)? worth the financing costs (e.g. totex incentive RAB/RCV depreciation too rate of 60% plus?) slow / too little PAYG? But only if these changes can be justified as reasonable from long-term customer perspective 6
Recommend
More recommend
