Water regulator warns of decade of rising bills for householders

The water regulator Philip Fletcher signalled yesterday that householders could expect bills to continue rising significantly over the next decade to pay for improvements to the network.

Mr Fletcher, the chairman of Ofwat, also denied that he had been hoodwinked by the industry into agreeing a bigger increase in charges than was necessary when prices were last set in 2004.

But he admitted that if Ofwat were setting price limits now, they would be lower than after the 18 per cent increase the regulator has permitted for the 2005-2010 period.

Water companies are currently making bigger profits than expected and attracting huge takeover premiums even though some of them are missing leakage targets and investing less than promised. This has led to claims that Ofwat was too lenient with the industry during the last price review.

However, Mr Fletcher maintained that the surge in profits was due to borrowing costs being lower than Ofwat had assumed while the high prices water companies were fetching was due to the particular type of investors buying them.

"I don't think we had the wool pulled over our eyes at the last price review," he said. "If that had been the case, we would have seen share prices react instantly. We set price limits on the basis of the evidence we had at the time."

The 22 water companies in England and Wales have been permitted to spend £17bn on capital programmes in the five years to 2010. Mr Fletcher indicated that he expected expenditure of a similar magnitude in the following five years, meaning another "significant" increase in bills from 2010.

However, he warned water companies, including those such as Thames and Anglian which are currently being taken over by private infrastructure funds, not to expect to be allowed the same rate of return as they are currently permitted to make. At the last review, this was set at 5.1 per cent. "In setting the cost of capital next time around, acquiring companies should not assume we will take the same approach."

If long-term interest rates remained at their current low levels then that would be a "highly relevant" factor for Ofwat to take into account.

Thames is being bought by the Australian bank Macquarie for £8bn - some £1bn more than it was expected to fetch - while AWG, the owner of Anglian, has agreed a £2.2bn bid from a group of Canadian and Australian pension funds which values it at 127 per cent of its regulated assets.

"Prices are being driven up by a particular class of investor prepared to pay a premium for this particular class of asset," said Mr Fletcher.

Regina Finn, the new chief executive of Ofwat, said that when price limits were next set in 2010 it would again be for a five-year period, but water companies would have to prepare 25-year business plans to enable a long-term regulatory approach to be taken.