Lennie Blakeslee: There’s a lot going on. I’ve at this since 2004 and I think this is an unprecedented time in the rural broadband industry.
Jeff Johnston: That was Lennie Blakeslee, vice president of CoBank’s communications banking group, about the current state of the rural broadband funding environment.
Hi, I’m Jeff Johnston and welcome to the All Day Digital podcast, where we talk to industry executives and thought leaders to get their perspective on a wide range of factors shaping the communications industry. This podcast is brought to you by CoBank’s Knowledge Exchange group.
A staggering amount of money is being directed towards rural broadband from private sources, such as commercial banks and investors, and public sources at both federal and state levels. And while this is great as it relates to bridging the digital divide, it does pose challenges for operators as they navigate these various funding options.
Lennie has been financing the rural communications industry for two decades, and his deep knowledge and experience makes him an ideal guest to understand the options — and considerations — operators need to be aware of. So, without any further ado, pitter patter, let’s see what Lennie has to say.
Lennie Blakeslee, welcome to the podcast. It is an absolute pleasure to have you with us here today.
Blakeslee: Thanks, Jeff. Great to be here.
Johnston: Listen, super excited to have you here today, Lennie. I think that you sit in a pretty unique seat in the ecosystem of rural broadband financing, be it public financing or private financing. I think you've got a really good perspective on what's going on out there today. I'm again, super excited to have you here today to talk about all of that. Lennie, maybe to start us off, perhaps you could just give us a very high-level overview of what do you think the main or the core government financing programs that are out there for rural broadband.
Blakeslee: Yes, sure thing, Jeff, happy to help. There’s a lot going on. I’ve at this since 2004 and I think this is an unprecedented time in the rural broadband industry. For instance, you have the legacy rate of return funding mechanisms. You have the recently completed Enhanced A-CAM offering period where a little more than half the companies that received offers accepted those offers.
You've got state grant programs that were born out of some of the ARPA funds that were available. Then probably the 500-pound gorilla that's waiting on the horizon is the BEAD program, which was $42.45 billion that's been directed toward rural broadband that'll be distributed by state broadband offices and a lot of the rule sets are currently being determined. Just a ton of stuff going on right now.
Johnston: Wow, that is a lot to process. A lot of different programs. How do rural operators attack this thing? I would imagine if you do one, maybe you can't do the other. Maybe one program is great for a certain area and then maybe another one is better for a different area. It's great that there's all this money because we've got to bridge the digital divide, but how do you think or what are you hearing or seeing, or what would be your recommendation for operators to strategize and figure out what programs work best for them?
Blakeslee: Yes, it's a great question and one that frankly, operators are going through on a real-time basis right now. Fortunately, a lot of these companies have been in business for a very long time and traditionally have done a great job of deploying services for the benefit of their customers. That's the background they start from for the most part, which is fantastic. The other thing is that they have a lot of highly qualified, very professional industry consultants and they can help make those analytical decisions about which program might be best.
Then in terms of how effective the deployment of these dollars might be, I think that's the next level of question on that. I think for most current operators, the focus is going to be on stewardship of those dollars, so that they can effectively bridge that digital divide versus just the deployment of funds for the sake of the deployment of funds.
Johnston: The devil is always in the detail, I find, with these types of programs. Like you said with BEAD and others, there are some things that I believe are still getting worked out. What are some of the risks you can think about, especially in the context of the environment we're in right now? We've got a very tight labor market that's slowing down in some cases, I think builds. We've got a permitting process in various states that seems to be a bottleneck in getting permits and getting stuff done. There are all sorts of other government programs that are fighting for permits and labor and things like that.
Correct me if I'm wrong, but I think as these operators step up to these programs, they have to hit certain milestones in order to be in compliance, with that program. How do you think about all of that? What are you hearing about operators saying as it relates to all of that stuff?
Blakeslee: Really another really good question. I'm going to step back a little bit to Enhanced A-CAM. In terms of inventory labor supply chain issues, that's been an ongoing problem, and it's exacerbated by the fact that all of these programs are happening at the same time, while companies are racing in a land-grab mentality to deploy broadband. Enhanced A-CAM is a great example because if you elected your Enhanced A-CAM offer, you have a pretty good idea on what your regulatory support will look like for the next 15 years, which is awesome. As bankers, we love predictable cash flows, so that's great. The offset to an Enhanced A-CAM is essentially that you have five years to complete the build for that entire program, which means companies are going to have to scramble for engineers to design those plants. They're going to have to scramble for contractors or their own labor to complete the projects. They're going to have to scramble for fiber, for cabinets, for pedestals. All of those things get exacerbated in the current environment, and then as BEAD funds start to deploy, I think that that probably gets even a little bit more congested.
Johnston: Just real quick, Lennie, so I've got Enhanced A-CAM. You bid on an area or you claim an area to build a network. You've got five years to build it, and once it's built, then is the support for the next 15 years the-- Is it the capital reimbursement? Is it the ongoing op-ex support? I'm just real quick, for listeners that may not be aware of that exact program.
Blakeslee: Enhanced A-CAM is designed to help operators build out their existing networks to specific speed requirements. The support is designed based on what the anticipated cost is to deploy that network over a 15-year period, but they have to complete the build-out requirements in five years. It's a very compressed timeframe and once complete, then they know what the regulatory support mechanisms those dollars will look like going forward, but it's going to be a challenge for a lot of folks to get those networks completed in that timeframe.
Johnston: I get the challenge from a timing standpoint, given the tightness in the labor market and permitting, and I'm sure other things. If we have continued rising costs that are unpredictable, let's say, do you know if that plays a role in all of this? Is that a risk area that operators should be aware of as they plan this thing out over a five-year time horizon?
Blakeslee: Absolutely one of the risks that companies have to consider. We saw that happen on the rip-and-replace requirements that were to replace some non-U.S.-made gear in existing networks where the program was designed to compensate at a certain level, and almost all companies who were eligible for those rip-and-replace funds estimated that their actual costs would be much higher so you've got a real shortfall there from a funding perspective, and that's a potential risk on this side as well.
Johnston: That makes sense. Let's shift around here a little bit and talk about private capital in the context of all this, and I guess when I say private capital, I guess it could be commercial-- It's commercial banks and then infrastructure funds and private equity sponsors. As we talked about it at the outset, there's just an unprecedented amount of money that's being allocated to rural broadband right now, so how should we think about just this massive influx of federal dollars, be it BEAD program or Enhanced A-CAM and then on one side, and then the other side, you've got this influx of private capital coming in. How does all that work together? I don't have anything specific question, but just high level. It just feel like there's just an awful lot of money going at this right now.
Blakeslee: No, I think that's a really keen observation and I think maybe a little bit of historical context helps that. Even on a pre-pandemic basis, you started to see an inflow of capital into the rural communications market. During the pandemic when some traditional sponsor investment targets like public transportation, toll roads, airports et cetera, were not doing as well, those investments were suffering because no one was traveling, everyone was staying home.
The inverse was true in the broadband market. The critical nature of broadband became readily apparent in a work-from-home and remote learning environment. You started to see an even greater inflow of private capital into the markets, and private equity sponsors, infrastructure funds realized that if they acquired what they call platform companies and then used those platform companies to push broadband out as quickly as possible, that they would increase revenues, they would increase EBITDA, and they would enhance the valuation of the assets that they acquired.
At the same time that was going on, you had existing operators pretty quickly recognize that yes, this is a land grab environment that we exist in now. They also, where possible, have started to push fiber to the home and deploy fiber as quickly as they can. Both the current operators and the private equity sponsors, infrastructure funds, all those folks understand the role that all of this non-traditional capital can play in enhancing the ability to deploy broadband, which is why it's become such an interesting market that we're in currently.
Johnston: Maybe just to be clear but do investors look favorably upon companies that have programs in place, whether it's BEAD or Enhanced A-CAM? From an acquisition standpoint, is that an attractive thing to have or an asset to have as a company if you're looking to be acquired?
Blakeslee: Yes, I think it is. We've seen that play out in several circumstances where because there have been large regulatory support or non-traditional capital means available to push that broadband out as quickly as possible, increasing subscribers, increasing revenue, increasing EBITDA, enhancing valuations. It's definitely attractive.
Johnston: We've seen a lot of activity, a lot of money, private money come into the market from investors. Do you think we've hit a high watermark already? If you had to look in your crystal ball over the next five years or so, do you see that same level of enthusiasm that we saw post-COVID, as you mentioned before, those traditional infrastructure investments, be it roads and airports maybe weren't as attractive as digital assets were as everyone was working from home?
Again, all that makes a lot of sense, but over the next several years, do you see that increased level of interest from these investors? Or would you expect that to wane at all?
Blakeslee: Yes, I think the jury is very much still out on how that's going to play out. Ultimately, it will come down to the valuations or the multiples of EBITDA that companies are able to trade for. Let me step back just a little bit. The downside is that because the growth expectations are so high, that labor supply chain inventory costs have stressed some of those business models slightly. Then the question becomes, will you realize the returns that you anticipated as quickly as you expected to get them?
If that turns and people can make those very aggressive build-out plans work, then yes, odds are good that valuations will stay high and the market will stay engaged in the industry. On the other hand, if you see those stresses continue and some of these programs don't play out as planned, or if requirements for BEAD or state broadband office deployment mechanisms differ, that could put a little bit of downward pressure on valuations. I think the jury's still out on what exactly that's going to look like five years from now.
Johnston: No, that makes a lot of sense. Let me ask you to take it maybe one step further. In terms of aggressive growth plans and being able to execute on these plans, given all the challenges in the supply chain that folks are dealing with, I guess maybe not so much on the equipment side anymore. I think that looks better, but certainly on labor and permitting, that still is an issue. What about access to commercial banks? Luckily CoBank we're in a little bit of a unique position where we're insulated from a lot of this credit tightening that we're seeing going on out there. To what extent for those seeking loans from commercial banks to execute on their business plan, where we've got a higher interest rate environment and banks just generally tightening their credit standards? How does that all work into this discussion?
Blakeslee: We saw that play out in the spring with Silicon Valley Banks and regional banks, et cetera, that are depository banks that rely on that capital to have available to lend. CoBank is insulated in that respect because our capital is based on our shareholder stock rather than deposit accounts and so that's been helpful to us. We do see there are certain longtime reputable commercial banks that continue to be very active in the industry. But if you've been a little bit more of a fringe player or just coming into the industry or your liquidity, your capital is challenged because of the environment, that does make it a little bit more difficult. We've seen some downward pressure on structures, on covenants, on leverage, and frankly, a willingness for some of those banks to continue to play in the market. At CoBank, you're exactly right, we don't face those issues. We're a very careful steward of how we manage our capital, but we're in a really good place right now to be able to continue to be active in the communications industry.
Johnston: That's certainly good news. That's great. Look here, Lennie, we've covered a lot of great stuff. This has been incredibly helpful for me and hopefully for the listeners as well to learn a little bit more about what's going on in rural broadband financing but before we wrap it up, I just want to give you an opportunity to share any thoughts or any comments on things that we didn't talk about that you think we should.
Blakeslee: No, I think that that covers a wide gamut of topics and probably some of the key factors that industry participants are looking at as they make their business decisions but as always here at CoBank, if people have specific questions or business plans that they want to talk about or discuss, we're happy to have those conversations.
Johnston: Great. Excellent. Lennie, thanks again for being here. This was a lot of fun and I appreciate you making time for us today.
Blakeslee: Yes, Jeff, thanks for the invitation. I enjoyed it as well.
Johnston: A special thanks goes out to Lennie for being on the podcast today.
There is a clear acknowledgement from private investors and the federal government that broadband access for all Americans is not a nice to have, it’s a must have. That makes for a very exciting time in the rural broadband industry given the unprecedented amount of money that is being directed towards it. But it does come with challenges and risks that operators need to be aware of.
Hey, thanks for joining me today and watch out for the next episode of the All Day Digital podcast.
