Case Study - Keep or sell our broadband business? Plus, broadband grant funding opportunities
Keep or sell our broadband system?
This case study involves a municipality that owned and operated a broadband business. The municipal government had reached a decision crossroad - "should we keep the system, expand it, or should we sell it while it still had value?"
This article aims to demonstrate the process that should be done in evaluating any service offering, whether in the public or private sector. After the case study, there is a discussion on broadband grant funding opportunities in the 2021 Infrastructure Investment and Jobs Act.
Key Takeaways
The broadband business is competitive and outside the usual monopoly of municipal government services. Financial performance and strategic planning should be approached with a competitive mindset.
2. To make a decision such as this case study, the numbers need to be evaluated. The numbers must not be arbitrary in driving a decision, but the financial impact of any decision must be known upfront. It's good business.
3. Don't be afraid to walk away from the business when strategy and economics show a clear path in that direction. But also, don't be afraid to commit resources that will benefit the municipality's citizens and businesses.
4. There is an intrinsic value for a municipality that offers broadband services. There are benefits to citizens and businesses in affordability and economic development that may not always be present with a private sector provider.
The Situation
A municipality provided its citizens with broadband services (cable TV, internet, and telephony). The system had been in place for over ten years and had grown to 10,000 customers, but now external providers were providing superior broadband speeds. The municipal system needed an upgrade, which would require outside funding sources and potential rate increases.
The approach to evaluating options
The goal of any municipality in the broadband business should be to ensure that affordable broadband is available to all citizens in the community. Broadband speeds offered should be sufficient at a minimum to keep pace with industry standards and provide businesses with incentives for economic development.
Viewing broadband as a necessary public service and a necessity for robust economic development should be a business decision guide. If the private sector offers fast, affordable broadband in the community, a municipality's goal could be to ensure broadband is widely available. If affordability is an issue, a municipality could consider offering programs to assist those in need, similar to assistance plans offered for other utility services, or the city could consider a build-out of fiber and provide services. The latter case (providing service) brings competition to the market.
Later in this article, we discuss funding programs available under the 2021 Infrastructure Investment and Jobs Act that might assist your community in offering or upgrading broadband services. This case study took place before these funding options were available.
Evaluation considerations
The municipality evaluated options for broadband business planning:
1. Continue offering broadband service using the present infrastructure and business model.
2. Upgrade to fiber to the premise model (FTTP).
3. Sell the current infrastructure to a broadband provider.
4. Develop programs for broadband affordability and economic development.
The municipality also evaluated some of the less quantifiable attributes of having a broadband business, including:
1. Internal communications for city services, police, fire, utility SCADA, and other communications systems.
2. Customer service systems.
3. Cybersecurity comfort by the municipality in controlling city and utility systems.
1. Competitive analysis - Provide service using current business model
The municipality prepared a detailed revenue and expenses forecast for services under the current business model. The forecast consisted of:
1. Customer forecasts and customer churn estimates
2. Operating expenses
3. Staffing costs
4. Content costs
5. Sales and marketing
6. Depreciation and routine capital expenditures
7. Debt service
The municipality performed a market analysis and community survey. The results showed residential customer dissatisfaction with current service levels, i.e., broadband speed options. Commercial and industrial customers also voiced similar concerns and the impact on their business operations. Customers were increasingly moving to competitors offering superior broadband speeds.
2. Competitive analysis - Upgrade to Fiber to the Premise (FTTP)
The municipality forecasted construction costs and staffing options for a FTTP solution. To provide FTTP the municipality would need to build out the middle and "last mile" to each customer. Also, hardware and software upgrades would be needed to provide content and back-office operations.
The goal was designed to be part of the package of showcasing the benefits of economic development - locating businesses and living in the community. Other considerations besides the cost of constructing facilities evaluated were:
1. Pricing of broadband service tiers based on construction costs of a FTTP system
2. Affordability for customers
3. Technical qualifications of staffing needed
4. Competitive analysis
5. Availability of grants
3. Competitive analysis - Sell the current system to a private sector broadband provider
Estimates of the sales price of the system were prepared using traditional business models:
1. Net book value of assets - this is a traditional method and puts a value on the assets being acquired, but it is not a realistic model of acquisition prices for assets that provide a revenue stream (in this case, for broadband services).
2. Market value - this method values the system on a per-subscriber basis based on recent sales of similar systems.
3. Replacement cost - this method values the system based on the cost to replace the existing facilities.
4. Discounted cash flows and return on investment - this method is used to determine the rate of return of future cash flows based on the sales price. The purchaser seeks a rate of return commensurate with the risk of being in a competitive broadband business.
A common approach in the sale of broadband systems is to use a cost per subscriber since strong assumptions can be made as to discounted cash flows from existing and future customers.
Intangible factors were also considered, such as potential buyers' broadband pricing and customer service reputation.
The municipality evaluated the amount the sale of a system would bring and the uses of the potential sales price, including:
1. Payoff of debt incurred to construct the broadband system
2. Severance packages for system employees
3. Additional cash that the municipality could use in other areas
In the evaluation, the "windfall" from the potential sale of the system was measured against the loss of future revenues and profits of continuing to run the broadband business.
4. Develop programs for broadband affordability and economic development
The community's goal was both to make broadband speeds available to any residence or business and to have programs that assisted customers in broadband affordability. Specific affordability programs were part of its plan under any option for the sale of the system to a third party or the municipality maintaining ownership.
The decision
The municipality felt that owning and providing broadband was a necessary community service and tool for economic development and growth. The city also wanted to position itself for enhancements to utility services, smart meters, and smart home devices (the internet of things IoT). It also recognized its current lack of competitiveness in providing broadband service, so it approved the FTTP option. It was a period of lower interest rates, so the municipality used the opportunity to finance construction costs with tax-exempt revenue bonds, building the debt repayment costs into the monthly customer broadband rate.
Fiber for a Fiber to the Premise (FTTP) Solution
Federal broadband funding opportunities
This analysis by the municipality took place before recent broadband grant funding was announced in the 2021 Investment and Jobs Act (the Act). The $65 billion is allocated over five years and some of the high-level programs include:
* $42.5 billion for local and state funding for broadband deployment
* $2 billion for the Tribal Broadband Connectivity Program
* $1 billion for middle-mile broadband
* $14.2 billion for the Affordable Connectivity Program
The Middle Mile Grant Assistance (closes 9 30 22) program would have been helpful in the evaluation process in this case study.
The Act also makes permanent the Affordable Connectivity Program (formerly the Emergency Broadband Benefits Program) established to reimburse broadband providers for costs associated with discounting broadband services for certain households during the COVIC-19 emergency period.
Programs and funding are changing rapidly. A resource of all available programs, due dates, and application requirements can be found here.
About Russ Hissom - Article Author
Russ Hissom, CPA is a principal of Utility Accounting & Rates Specialists a firm that provides power utilities rate, expert witness, and consulting services, and online/on-demand courses on accounting, rates, FERC/RUS construction accounting, financial analysis, and business process improvement services. Russ was a partner in a national accounting and consulting firm for 20 years. He works with electric investor-owned and public power utilities, electric cooperatives, broadband providers, and gas, water, and wastewater utilities. His goal is to share industry best practices to help your business perform effectively and efficiently and meet the challenges of the changing power and utilities industry.
Find out more about Utility Accounting & Rates Specialists here, or you can reach Russ at russ.hissom@utilityeducation.com.
The material in this article is for informational purposes only and should not be taken as legal or accounting advice provided by Utility Accounting & Rates Specialists. You should seek formal advice on this topic from your accounting or legal advisor.