Q & A – Financial Model
Dated: September 18, 2020
Q: Like any City, Lucas will continue to have a need for other capital projects (e.g. road, water and drainage improvements). A fiber broadband utility has the unique potential to be a source of revenue after the payback period. Are there any restrictions (legal or otherwise) on amounts or purposes of excess cash generated by such a municipal utility? Would the City be forced to reduce subscriber rates, or could any future excess cash flows be returned to other Funds (relieving the taxpayer of other capital project or debt burdens)?
A: The broadband feasibility study (page 60) indicates that the City would eventually generate positive free cash flow stream that could be utilized to buy down the rates of services, or to begin paying a Payment in Lieu of Taxes (PILOT) or General Fund contribution to the City. The City Council has the authority to impose restrictions, limitations, and intentions for funds to be used for specific governmental purposes such as capital projects. On page 128 of the City’s Fiscal and Budgetary Policy, the unassigned fund balance is the excess of total fund balance over non-spendable, restricted, committed, and assigned fund balance. The unassigned amounts are technically available for any purpose. The City’s Fiscal and Budgetary Policy is available at: https://www.lucastexas.us/financial-policy/. (Reference: Broadband Feasibility Study; Fiscal and Budgetary Policy)
Dated: September 4, 2020
Q: How are interfund loans modeled in the broadband feasibility study and financial model?
A: On page 78 of the Broadband Feasibility Study, the study indicates that Series D-Interfund Loan Component was modeled using 10 tranches on a 15-year term. Series D-Interfund Loan Component was modeled into the Series D-Working Capital Component using the same interest rate and term for consistency with the assumed market condition.
(Reference: Broadband Feasibility Study)
Dated: August 28, 2020
Q: Has the City run a sensitivity analysis with market interest rates instead of the conservative 3.25% interest rate that was calculated in the financial model?
A: The City’s Financial Advisors Mark McLiney and Andrew Friedman at SAMCO Capital recommended using a conservative interest rate of 3.25% in the financial model as it is difficult to predict future interest rates. The City’s Financial Advisors have also analyzed a 2.25% interest rate for the project. In comparison to the 3.25% interest rate analysis, the interest savings would be estimated to be $1,888,538. (Reference: Mark McLiney and Andrew Friedman, SAMCO Capital)
Dated: July 2, 2020
Q: What is the definition for the term break even regarding the financial model?
A: Breakeven, in terms of the model, basically means what is the minimum uptake percentage and rate combination that can support a sustainable enterprise. Positive free cash flow would be one metric. In addition, debt payoff, and debt payoff using excess free cash flow can be determined as key break-even factors. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: What is the method and justification for recommending a 55% uptake?
A: The 55% is the required take rate given the model – it’s the breakeven model. We may be able to reduce the take rates and rates a bit, as contingency requirements are resolved, etc., but at this point 55% is the take rate required to minimize City contributions or loan funds. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: How can we determine the best position of where the City could fund a feasible amount from reserves while also balancing the best rate for customers?
A: All dollars contributed to the project will buy down the rates for customers. We need to understand what the City is willing to “put in”, or loan. We’ve provided varied analysis on City funding requirements – we need to understand the “sweet spot” from City leadership at this point. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: What are options for providing other bandwidth options for residential service?
A: Having lower rate tiers will reduce revenue impacting pro forma. For example, adding a 250x250Mb tier at $75.95 with 30% of subscribers taking service, thus reducing the 1G number of subscribers, impacts pro forma in that positive annual cash flow is not achieved until year 20 versus current pro forma at year 6. Also, Mont Belvieu only has the 1G tier and has achieved an uptake of around 70%. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: What is the basis for the amount in the operating reserve fund? How does this work into the cash flow?
A: Fund is adjusted in order to keep at least two months of current year’s operating expenses in reserve. Cash flow is impacted by amount placed into reserve. Less in reserve equates to more in cash balance and vice versa. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: How does new funding fit into the Borrowing Summary?
A: New funding in Pro Forma is directly pulled from the year-to-year totals in the Total to Be Financed section in Borrowing Summary tab. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: What is the source for Working Capital?
A: Working capital can be a line-of-credit or a loan. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: What is the additional working capital? How does this fit into the calculations?
A: Monies added to Pro Forma to try and ensure an End-of-Year positive cash flow. Any amount added to Working Capital is assumed to be a loan with a 15 year term. Pro Forma reduces End-of-Year Cash by amount of Working Capital principal and Interest in the following years. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: The model indicates that there is cash available earlier that could be used to pay off the reserve loan. Can we assume a minimum cash reserve with the excess going to pay back the reserve loan?
A: The City can use its free cash from the Broadband Operation to payoff any series of debt it so chooses. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: How many years and which years into the project will the City have to cover any shortfalls via an interfund loan (including interest) or another resource?
A: Response is based on model (dated June 26, 2020) with Lucas purchasing materials; 55% residential uptake; $115.95 1GB rate. Model contains 1.8M in interfund loans spanning three years.
- $550K year 3
- $900K year 4
- $400K year 5
(Reference: Courtney Violette and Scott Moehnke, Magellan Advisors) [Note: The financial model has since been updated to reflect new changes. Refer to the most recent pro forma in the financial model and broadband feasibility study.]
Q: Terminology in the Cash Flow section of model is confusing, “End of Year Cash Flow Final” – is this end of year cash or the cash flow?
A: Pro forma shows two End of Year cash totals. (1) Running cash balance from year to year PRIOR to any working capital or City contributions applied; (2) Running cash balance from year to year including any City contributions and working capital principal and associated interest. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: Cost of Service, Line 28, Network & Head-end Maintenance – Assumption?
A: Annual Op-Ex costs based on 8% of equipment costs. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: Cost of Service, Line 45, Direct Internet Access and Line 49, 10GB Ethernet Transport –What is this? How determined? Why is there no escalation in the cost?
A: Costs based on discussions between Magellan network expert and vendors for the above services dependent on amount of bandwidth expected. Costs for these services historically remain the same or go down at each new contract. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: What is the geography of the 2 zones?
A: Zones are based on number of subscribers and not physical zones. (Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)
Q: Assumes 55% – do we have metrics we can use in addition to Mont Belvieu?
A: Mont Belvieu TX – 70% within 24 months
Waverly IA – 50% within 18 months
Newport TN – 40% within 24 months
Hudson OH – 40% within 24 months
Indianola IA – 40% within 24 months
(Reference: Courtney Violette and Scott Moehnke, Magellan Advisors)