Show Me the Money (Financing) in Broadband

Few people question the need for broadband and the value it can bring to a community. However, for proponents of community broadband networks, the challenges of financing buildouts, generating revenues, and ensuring a network’s long-term financial security are ones not easily resolved. So the question becomes: Who’s going to pay for community broadband networks, and how?

Because the method by which a community pays for its network helps to determine business models for the community network, groups interested in bringing broadband to their home towns — or even those who want to understand the alternative to private ownership of a network — should understand a few methods of financing them. More than 60 communities in the U.S. own their fiber networks outright , some for over 10 years. Many are for government-only use, while others, such as the one in Franklin County, Va., are operated through public/private partnerships.

The following are some of the more common financing options for a network presented in layman’s terms:

Capital Funding and Taxes.

The easiest options to grasp are capital funding and taxes. A local government can decide to take $1 million from the current budget for projects such as public works. The government also could decide to levy a tax specifically for the project or increase an existing tax.

When the economy is good, the capital fund is an easier target politically, particularly if this is to be a government-use only network, or if the government will only use the amount of data it needs and provide the excess capacity to private companies that then sell services to the general public. Using tax money is a hot button issue many local governments and voters will avoid until more people buy into the concept that broadband is critical infrastructure (like roads and water). In addition, the economy needs to improve significantly.

The name is Bond. Muni Bond.

If a town can’t raid the capital fund, it can pay for the network using bonds. Two commonly considered vehicles for financing broadband are municipal bonds and capital leases. Bonds are a large loan divided into small amounts that are then “sold” to individuals and entities. There are two types of bonds. One is a general obligation (GO) bond that is backed by a town’s taxing authority. The town is obligated to make payment even if it means raising taxes. These bonds are considered extremely low risk by investors because they know the money will come back to them one way or another.

The other type of bond is a revenue bond. These are not backed by taxes, but by revenue from whatever the bonds are used to build (e.g. parking garages, sports stadiums, muni networks). The risk for these bonds is considered generally lower than other loans, though higher than GO bonds, because often towns choose to pay the debt if it becomes necessary. In bad economic times such as we’re in now, however, it’s difficult to execute a bond initiative. Communities expect this to change as the economy recovers.

Capital leases and Vermont’s COP out.

The best way to understand a capital lease for broadband is to think about this in terms of financing a car. When someone takes a loan out on a car, she gets title to the car while she pays off the loan. If she defaults, the bank has to work a little harder to get its money back. In the case of a muni network, the community arranges the creation of a capital lease for $1 million, which then gets divided into small increments called Certificates of Participation (COP) that are sold to investors. At the end of the payment period, the city can buy the network for an agreed-upon amount.

In Vermont, 24 cities and towns in the most rural part of the state formed a consortium called EC Fiber to build a muni network. EC Fiber worked with financial services firm Oppenheimer & Co to broker $90 million in COPs. When a broker sells 80 percent of the target amount, they buy the remaining COPs. The greater the return investors expect to get for COPs, the faster a community raises money.

“Oppenheimer raised 70 percent of the amount, but when Lehman Brothers went broke, the deal fell apart in September 2008,” says EC Fiber Project Director Tim Nulty. Even though EC Fiber’s broadband stimulus grant proposal was not accepted, “Oppenheimer came back wanting to revive the original offering. Markets are back and interest rates for low-risk investments such as GO Bonds and COP are back where they were before the crash. Unfortunately the appetite for higher-risk/higher return bonds and COP is still weak, so placing such instruments remains a challenge.” Throughout this process, the community carries no risk at all.

Nulty adds an interesting wrinkle to the picture. To prove the network’s potential for financial sustainability after the buildout (thus giving Oppenheimer greater leverage for selling the COPs), EC Fiber agreed to build and run a pilot network. The pilot was paid for through local private investors, including Nulty. “The people financing our pilot project are doing so via privately placed tax-exempt loans whose rate of interest and maturity are the same as the COPs we plan to issue later on,” he says. “The presumption is that when the COPs are sold, the holders of the privately placed tax-exempt loans will either be bought out, or their investments will convert to the COPs.”

So from capital funds to COPs, municipalities are eying ways to build out their own networks. As an increasing number of constituents understand broadband to be a critical local infrastructure, and as the economy improves, anticipate there to be a greater push from community and government leaders to pursue these avenues.

However, communities must also be prepared for the push back that will come from muni network opponents. An article later this week will examine how opponents to municipal networks are passing or proposing unfavorable local and state laws to quash community networks, by restricting the financing vehicles that communities use.

Editor’s note: This column is the first in a two-part series on financing municipal fiber networks. The second column can be found here.

Craig Settles is an industry analyst, broadband strategy consultant and Co-Director of Communities United for Broadband who often holds webinars & talks on the business of municipal broadband. Follow him on Twitter (@cjsettles).