13 December 2023
Guest blog by David Whyte
This week’s news that Thames Water is paying out a £37.5m dividend in the midst of an ongoing crisis has left many in disbelief. Yet this seems to be the golden rule of Britains’s broken infrastructure: no matter how bad the sewage crisis gets, shareholders will come out of it smelling of roses.
In September, Ofwat announced Thames Water’s huge £100m performance fine for ‘lagging’ in its efforts to clean up pollution, plug leaks and improve customer service. For 3 weeks, perhaps unsurprisingly, the share price fell, recovering fully by the beginning of November. Just as the share price climbed back to its pre-fine value, a damning BBC report of 'environmental crimes' by the company leading to the dumping of 72 billion litres of sewage in the River Thames in 2 years. But the share price continued to rise, and has done ever since.
£100m is not insignificant: it's roughly 12% of Thames Water’s revenue. Fines of this size are supposed to have an impact on a company’s value – to be ‘priced in’ by the market – and hit the pockets of investors. So what happened?
The first explanation is that we have reached a point in the messy cycle of privatisation where fines have become just another operational expenditure, like paying VAT or an electricity bill. They have become a price worth paying for (oops!) poisoning our waterways or (oops!) ripping us off. Exactly the same regulatory dance is being played out on the rail network and in energy supply: in our privatised industries, the corporate accountants have simply ‘priced in’ fines, no matter how big they are.
The second explanation is more difficult to reckon with. When a company is fined, the effect is not like imposing a fine on an individual. This is because a sentence handed down by a judge is only the first stage in deciding who is punished. The final decision lies with the company itself. Decisions are made to cut staff, to cut wages, or to delay maintenance programmes. This has perverse consequences. Fines tend to lead eventually to a further decline in service quality, pollution control, and so on. Perhaps most perversely, fines have a negligible impact on shareholder value.
Our recent history is littered with examples of this. When Transco, the subsidiary of British Gas, was found to have killed a family of 4 in a gas explosion in Larkhall in Scotland in 1999, it received the highest fine ever for a health and safety offence. The response? It paid for the fine by cutting back on the same maintenance programme that caused the disaster in the first place. A similar pattern has been repeated after every major fine ever since. Fine → service cut → lowered standards → fine → service cut… and on and on this cycle repeats.
So how can we break the cycle? It is doubtful that we can do this by simply imposing bigger fines. As long as company executives are in left charge of deciding who pays the costs of a fine, they will ensure shareholders are protected. This is not a criticism of them. This is their job. Indeed, they are under a legal obligation to protect shareholders; the ‘fiduciary duty’ to act in the interests of shareholders is a sacrosanct first duty of company executives in almost all legal systems.
There is however a smart way to break the cycle. Campaign organisations like We Own It and Ethical Consumer have recently revived an idea that has languished in academic texts for at least 4 decades. The rather dull sounding ‘equity fine’ might be a deceptively exciting solution to the perverse problems thrown up by big fines.
Equity fines allow the courts to bypass the company executive and go straight to those that benefit the most from company wrongdoing. They target shareholders without allowing cuts elsewhere in the organisation. How it works is this: the court orders an offending company to issue a set number of new shares in the firm. This proportion of the shares can be held in a public ‘compensation fund’ or controlled by a local authority-owned regional company. Either way, the process effectively dilutes the value of shares held by the owners of the company without penalising communities, consumers or employees. Funds for investment would not be depleted but merely reallocated to the compensation fund from existing shareholdings.
The major criticism of equity fines is that those who are ultimately penalised, shareholders, are likely to have little knowledge of the misdemeanours and are not in a position to influence the day-to-day decisions made by a company; equity fines therefore target innocent shareholders. Yet in the current system Thames Water's shareholders continue to profit from the offences committed by the company, in their name.
The added value is that equity fines can be used to bring failing companies in privatised industries incrementally back under public control, to be run in the public interest. The hands of judges and of company executives in privatised companies are tied to a tired old system of fines. The ‘equity fine’ might well be an idea that our failing privatised industries have finally made relevant.
Under privatisation it pays to pollute. It's time to hit water companies where it hurts and take shares not fines.
Co-published with the Centre for Climate Crime and Climate Justice
David Whyte is Professor of Climate Justice at Queen Mary University of London.