Memorandum

City of Lawrence

City Manager’s Office

TO:	David L. Corliss, City Manager
FROM:	Diane Stoddard, Assistant City Manager
DATE:	November 5, 2013
CC:	Cynthia Wagner, Assistant City Manager Toni Wheeler, City Attorney Randy Larkin, Senior Assistant City Attorney Britt Crum-Cano, Economic Development Coordinator
RE:	Wicked Fiber Economic Development Request

Background:

In May 2013, the City received an economic development request (cover letter, narrative, application, and April 15, 2013 presentation) from Wicked Fiber. The City did not budget the requested funds for 2014. Wicked Fiber is also known as Wicked Broadband and Community Wireless Communications (CWC). Prior to becoming Community Wireless Communications, a for-profit company, the company operated as Freenet, a not-for-profit organization. The company is requesting assistance regarding a fiber project that would construct a fiber-to-the-home (FTTH) network in a neighborhood that would be determined by Wicked Fiber. Specifically, Wicked Fiber is requesting:

A $500,000 grant from the City for phase 1, the build-out of the network to one neighborhood named by Wicked Fiber.
Waiver of first $20,000 in franchise fees each year for the next 5 years retroactive to Q3 2012
Permission to co-locate splice cases in City of Lawrence hand holes at locations where Wicked Broadband currently leases City of Lawrence fiber, or connects to existing City of Lawrence fiber.

Permission to splice fiber leased from the City using in-house resources. As with the City’s current contractor, this activity would be done under the supervision of City of Lawrence staff.
A 30 year lease of one buffer tube (12 count) of single mode fiber (SMF) in the fiber-optic cable connecting City Hall with the Law Enforcement Center at $10.
A 30 year lease of two buffer tubes (24 count) of SMF on each new fiber-optic cable installed by the City of Lawrence in the next 120 months at $10.

Wicked Fiber has stated that they would privately complete phase 2 and 3 of the project, for a total additional private investment of $30 million, resulting in a full FTTH network in Lawrence. Subsequent to the application, Wicked Fiber released a news release that indicated Precinct 39 (generally the downtown area and portions of east Lawrence and two other small neighborhoods would receive the initial fiber project. These areas have a total of approximately 1000 addresses of the approximate 32,000 households in Lawrence.

Evaluation of Request:

The City has established a benefit-cost model that staff utilizes when completing required benefit-cost analysis related to certain routine economic development incentives- such as tax abatements and targeted neighborhood revitalization projects. This model is not an effective tool for the evaluation of this request. In order to fully analyze this request, an economic impact analysis would be optimal. However, in order to conduct this analysis thoroughly, information about the neighborhood in which it would be deployed would be needed, along with market penetration rates and very involved analysis.

In lieu of economic impact analysis, staff worked with two of its vendors, CTC Technology & Energy and Springsted, Inc. to complete general overviews of the project from a technical and financial perspective. These items will be discussed next.

Technical Evaluation:

CTC Technology & Energy, the technology consulting firm that recently completed a city-wide technology report regarding broadband access, reviewed the request utilizing the context of that wider technology report and its recommendations. CTC Technology & Energy did not evaluate the business or technology plan proposed by Wicked Fiber.

CTC points out in its memorandum that prioritization regarding the funding requested by Wicked Fiber versus other technology projects that the City may undertake is a consideration. Could investment in a more robust institutional network, or continuing to focus resources on the middle mile fiber be more impactful? CTC had recommended pursuit of these options as relatively low cost and low risk strategies in its original April 2013 report on Enhancing Broadband in Lawrence. Also, CTC had specifically recommended that the City proceed with caution when considering municipal fiber-to-the-premises projects as “it is a significant challenge for these networks to pay for themselves. Accordingly, CTC advocates for FTTP buildouts only where the community understands that an ongoing subsidy is possible.”

CTC also commented on Wicked Fiber’s requests relating to co-location or splice cases and splicing. They urge caution regarding co-location of splice locations, noting that it is important for the City, as the owner of the fiber, to manage, control and protect its fiber. They recommend that the City approve any entity conducting splicing on its fiber, that records regarding splicing be maintained, and that any entity splicing the City’s fiber should hold appropriate insurance, licenses and bonding. CTC recommends certain restrictions be imposed because of the sensitive and critical nature of the City’s fiber network. The City’s public safety communications and other critical governmental functions and secure information are transmitted through the network.

Also, if the City were to undertake a project of this type, it may wish to prioritize the area of the pilot project, rather than rely on the self-selection model that Wicked Fiber is proposing.

CTC mentions other considerations, such as the market value of the fiber that Wicked Fiber is requesting to lease at essentially no cost, and the importance of working with a vendor that has appropriate insurance coverage.

Financial Evaluation:

Springsted, Inc., a financial advisor to local governments, reviewed the request in terms of its financial considerations, and also reviewed the firm’s current financial condition. This is important given that the success of the project would depend upon Wicked Fiber’s current financial situation and its ability to execute the initial and future projects. Springsted offered a financial snapshot of the company’s current financial condition after reviewing the Dun & Bradstreet report, the company’s balance sheets and income statements, tax returns and financial projections. The following is a summary directly from the Springsted report:

Cash and Cash Equivalents: Community Wireless keeps very little cash as a percentage of their gross sales. While the company has reduced their cash position from 2010 to 2012, it is showing positive cash growth in the first half of 2013.
Gross Profit: Community Wireless’s gross profit dropped 6% from 2010 to 2012. This decrease in gross profit is due to an increase in the costs of goods sold not a decline in fees or services. Income from fees and services increased approximately 9% over the time period while costs of goods sold increased by approximately 137%.
Net Income: Community Wireless has a negative net income. Although net income has remained negative it has shown positive growth over the past three years. Net income increased 89% from 2010 to 2012. Over this span Community Wireless is showing a 9% growth in revenues while expenses decreased by 27%.
Shareholders’ Equity: Community Wireless is showing negative total equity for all reported years (2010-2012). Community Wireless’s total equity dropped 347% from 2010 to 2012. The negative is being generated from a significant negative retained earnings entry on the balance sheet in addition to negative net income. Retained earnings have decreased 37% from 2010-2012. The applicant contends that this large negative retained earnings entry can be partially explained by legacy costs and recession.
Current ratio (measure of company’s ability to pay short term debt): The ratio of approximately 0.07 for Community Wireless indicates that for approximately every dollar ($1.00) of current liabilities they have approximately 0.07 dollars of current assets. A current ratio of less than one may signal that a company may have a difficulty paying its current debts. Community Wireless’ ratio is below the industry median of 2.2 (industry median provided by Dun & Bradstreet and includes 12 firms that they deem comparable).
Quick Ratio (measure of a company’s ability to pay short term debt with its most liquid assets): Community Wireless is showing an approximate quick ratio of 0.07, meaning that they have 0.07 dollars of liquid assets for each dollar ($1.00) of current liabilities. This ratio is below the industry median of 1.6 (industry median provided by Dun & Bradstreet and includes 12 firms that they deem comparable).
Debt Ratio (measure of company’s debt load relative to assets): The ratio of approximately 5.48 for Community Wireless indicates that for approximately every dollar in assets they have just over five dollars in liabilities (industry median unavailable for this ratio). A debt ratio below one is generally preferred.
Summary of Financial Projections provided by Community Wireless (note- Springsted did not evaluate the reasonableness of the applicant’s projections):

Community Wireless projects that Cash will increase by approximately 4000% for the time period 2013 through 2017. (Note that the current cash position is currently low).
Community Wireless projects that Net Income will increase 7000% from 2013 to 2017. (Note that net income is currently low.)
Community Wireless projects that the Gross Profit will increase 657% from 2013 to 2017.
Community Wireless projects that Total Equity will increase significantly from 2013 to 2017. An approximately 14 million dollar increase.
Community Wireless projects that the Debt Ratio will drop from 5.26 in 2013 to 0.001 in 2017.
Community Wireless projects that the Quick and Current Ratios will increase from 0.07 in 2013 to 7.21 in 2017.

Community Wireless has a Dun & Bradstreet credit score class of 2, indicating the “likelihood this company will not pay on time over the next 12 months” is “low”. The credit score ranges from 105 with 1 being low incidence of delinquent payment and 5 being high incidence of delinquent payment.
Community Wireless has a Dun & Bradstreet financial stress class rating of 2 on its scale 1-5, indicating the “likelihood this company will experience financial stress in the next 12 months” as “low”.
Community Wireless has a Dun & Bradstreet Paydex Score of 80 out of 100. The score of 80 is equal to generally within terms, and per the D&B industry benchmark is considered average for the industry (average score: 80).
According to the applicant, federal taxes have been paid and liens have been released. According to the applicant, the company “has no litigation ongoing”.

Springsted also recommends various risk mitigation strategies should the City wish to move forward with the financial assistance being requested. These strategies include structuring the grant as a full recourse loan, requiring the applicant to first close its loan for 50% of the project costs, and establishment of certain performance benchmarks.

Financing Considerations:

A grant of $500,000 is a substantial cash outlay. This outlay is not budgeted. Additionally, staff would recommend that any outlay would accompany a strict performance agreement and would also include as many measures as possible to secure the City’s investment in the project. These things may include the City retaining ownership in anything purchased with City funds, a full recourse loan as suggested by Springsted, UCC filings against tangible assets of the company, etc. These considerations are outlined in the City’s economic development policy. To staff’s knowledge, a cash outlay of this magnitude has never been provided to a private firm as part of an economic development incentive package, even in cases with significant job creation.

Legal Considerations:

The City is precluded by federal law from regulating telecommunications and cable/video providers. However, the City retains the right to regulate such providers’ use of the public rights-of-way, provided the City does so fairly, non-discriminatorily, and in a competitive neutral manner.

Similarly, the City may enter into franchise agreements with telecommunications and cable/video providers, charging reasonable rates for the use of the public rights-of-way. The City currently has several such agreements with providers. Franchise fee payments are a significant revenue source for the City General Fund- the 2012 cable franchise fee revenue from Knology/WOW was $671,129, the Knology/WOW 2012 telephone franchise fee revenue was $139,852, and the AT&T 2012 franchise fee revenue was $336,816. Generally, to insure that the rights-of-way are regulated in a competitively neutral manner, those agreements permit providers to seek reformation of their respective franchise agreements to make them compatible with the franchise agreements of their competitors.

Finally, there may be Sherman Antritrust implications to the proposal, which bear further exploration.

Google Fiber:

The applicant discusses the Google Fiber projects in the Kansas City metro area. It appears that Google received certain permissions to attach to the participating city’s infrastructure in some cases, which is a similar arrangement to the City of Lawrence’s agreement with Community Wireless presently.

In reviewing the agreement approved in September between Google and the City of Lenexa, for example, it appears that Google agreed to pay the City a 5% video service provider fee on its gross revenues from sales of video service as required by its state franchise. Also, Google agreed to provide free public broadband internet services to an unspecified number of public facilities for a maximum ten year period, pay the City’s standard fees and charges (building permit and right-of-way permit fees) and follow the City’s Code and right-of-way regulations. Google also agreed to pay a fee for renting space in City-owned conduit. Google will pay standard license fees for “Fiber Huts” that would be located on city property and annual attachment fees to the City’s poles, though these license and pole attachment fees (not the conduit rental fee) will be offset as long as Google is providing free service to the public facilities. Google is not required to deploy the wireless or fiber network and is not required to serve any of the areas of the City.

Compliance Concerns with Current Agreements

Community Wireless Communications has several agreements with the City. It should be pointed out that under CWC’s lease and license agreement with the City, CWC is required to pay the City a 5% fee on gross receipts. This payment has not been made by CWC since the second quarter of 2012. When the City has brought this issue to the attention of CWC, the response has been that they have a pending request of the City. The lease and license agreement also designates that CWC can only access the City’s fiber through certain demarcation points and that CWC is financially responsible for making the inter-connection with the City fiber at those demarcation points. This provision has been an ongoing point of discussion between City staff and CWC. CWC has not agreed that there is a need to isolate CWC’s access from the City’s fiber as required in the agreement, nor that splicing of the fiber to make the inter-connections should be done by a City contractor. In making the interconnections at 15^th & Iowa and for the 23^rd Street project, CWC agreed to pay for its splices required to make those interconnections. The splicing work was completed and CWC was billed $3,120 in September 2012. This bill was just paid in October 2013. Additionally, there has been an instance of CWC representatives leaving a hand hole open overnight leaving cable exposed and a recent instance of CWC erecting a pole in the City’s right-of-way without notification, authorization, or utility locates.

Other Considerations:

Access to high speed internet certainly has economic development advantages for Lawrence, as identified in the original CTC report. Should the City wish to encourage a FTTH network in Lawrence, the City may wish to issue a Request for Proposals to see if any companies would have an interest in leasing middle mile fiber from the City (the City’s existing fiber ring) and build out fiber from that point. This potential strategy was mentioned in the CTC memo and the original report. Requests for Information and Requests for Proposals enable the City to gather information from a variety of potential partners in order to weigh the responses and is also very low risk.

The City may wish to structure some modifications to the Wicked Fiber request, such as the City owning the infrastructure installed with its funds as a way to safeguard its investment. This arrangement may also enable the project to be implemented in a competitively neutral fashion if customers within the target area were able to select their own service provider.

Recommendation:

Staff does not recommend that the Wicked Fiber proposal be pursued. CTC Technology & Energy outlined sound recommendations in its report for the City to move Lawrence toward a FTTH network by having the City be involved in assisting with middle mile fiber in the community and letting the private sector build out into the neighborhoods. The City Commission authorized a project that will fill a fiber gap along 6^th Street and will be deployed in 2014. Also, the City Commission authorized an agreement with KU to fill fiber in the City’s conduit that stretches from the far northwest portions of the City, along Wakarusa, along Clinton Parkway/23^rd Street to the eastern City limits near East Hills Business Park. This conduit is presently being installed and will be operational in late fall. The City Commission has also requested staff to investigate the establishment of an internet point of presence (POP) to see if that might lure additional high speed telecommunications competition to the marketplace. Staff recommends that the City utilize its finite resources to continue with the implementation/investigation of these projects.