The importance of engagement within water investments

There are few sectors in the UK facing as much scrutiny as water utilities.

News reports of polluted waterways have increasingly led both the public and investors to scrutinise the companies responsible for the UK’s water systems, critiquing how they are run and challenging what they charge during a cost-of-living crisis.

With this sort of controversy, it would be easy to simply shun companies at the centre of such unwanted attention. However, at Royal London Asset Management we are long-term investors, and this means doing what we can, instead of selling at the first sign of trouble.

We invest a great deal of time and effort in our stewardship activity, and this is clear in our work with water utilities. We recognise both the strengths and shortcomings of these companies and appreciate that the latter will take time and resources to resolve. This is why engagement plays such a crucial role.

Making the time to talk

Over the last 7 years, we have been actively engaging with the water sector and bringing environmental concerns to the forefront of our work. More recently we have been concentrating on climate change adaptation, biodiversity, affordability, and antimicrobial resistance. This has seen us engage with 11 water utility companies in the UK across both equity and credit asset classes. Whether we hold shares or debt, this gives us an important platform from which to voice our views and attempt to push through change.

“We have been concentrating on climate change adaptation, biodiversity, affordability, and antimicrobial resistance. This has seen us engage with 11 water utility companies in the UK across both equity and credit asset classes.” – Georgina Chiu, ESG Engagement Manager

Engagement is not simply about writing to the company and gathering information. We work hard to create an ongoing dialogue with these companies and understand their position more effectively. We seek to understand how companies balance the need for infrastructure investment with affordability. The former is a significant cost concern for many water utility companies as they propose a spend of £96bn [1] in the next few years to update ageing infrastructure and improve the network resilience.

Juggling this cost pressure with affordability concerns, while accommodating environmental responsibilities, is no easy task. We are clear with water companies that we want to see comprehensive water and biodiversity management plans in place, considering both climate adaptation and social issues. To continue this dialogue, we have created a coalition of our clients and like-minded asset owners to collaborate with us and help improve the sector. Keeping channels of communication open can allow for effective conversations and help these management teams approach problems with innovative ideas and fresh perspectives.

Matching words with action

 As long-term investors in the sector, we have the benefit of meaningful stakes in several of these companies. Not all water companies in the UK issue public equity, but for those that do, we are prepared to vote at their annual and extraordinary meetings. For listed equity companies this allows us to back, or challenge, resolutions and have a real say in Annual General Meetings. This saw us oppose some resolutions in 2023 whenever these did not align with our best practices and the long-term expectations we have for the sector. And with the entire sector highly reliant on debt markets to fund much of its planned investment, this is an industry where lenders also carry far more influence than typical.

In 2023, we voted against Pennon’s climate-related financial disclosures. Although we supported its net zero ambitions, the details of its climate plans were unclear and there was confusion over its planned over-reliance on offsets. This decision will become a topic of ongoing engagement with the management team and something we will continue to address.

For Severn Trent and United Utilities, we have supported most of their resolutions however we opposed share issuance without pre-emptive rights, for both companies which is in line with our standard position for all UK companies.

There are numerous examples throughout the sector, concerning either equity or bond holdings, where we have exercised our rights and leveraged this control. This is only one part of our ongoing engagement with a sector that still has numerous challenges ahead of it.

Through active engagement, and regular communication with this broad sector, we are aiming to influence positive change in environmental and social practices. The use of strategic voting and ongoing engagement allows us to uphold best practices, while our differentiated active management strategies enable us to navigate the complexities of the sector and take divergent stances when needed. Such an approach is vital to engineer positive change and make the most out of the opportunities apparent in this vital, yet increasingly scrutinised, sector.

Water utilities have a lot of spending to undertake in the coming years, and the impact on customers’ bills will be unpopular. Royal London Asset Management will continue to challenge these companies, in an objective way, so that they can work to improve their financial and  environmental performance. As custodians of our clients’ long-term savings we think engagement is better than shunning a vital area of our infrastructure.

[1] Water UK, Water companies propose largest ever investment 2 October 2023

The views expressed are those of Royal London Asset Management at the date of publication unless otherwise indicated, which are subject to change, and is not investment advice.