White Paper Highlights I Basic Franchise Fee Agreement Provisions 0 Fee 0 Term 0 Exclusive or not 0 Property Tax - Reimbursement of any separation costs I Strategic Considerations 0 Relationship between Electric, Water, Wastewater and Telecom systems Revenue Pledge Inter-utility loans 0 Telecom services provide to LUS and LCG Re-purchase of utility assets Right to re-acquire Pricing methodology (net book value) Other Power supply :3 AMI :3 Data access I Employee Matters 0 Retention 0 Compensation 0 Severance Unfunded liabilities (pension, health care, etc.) I Business Locations and Practices 0 Local presence . Customer service I Rights of way specifics - Underground crossings Street cuttings 0 Licensing requirements 0 Relocations 0 Street lighting Star Bright Analyses, Takeaways, Benefits, and Costs Table 1 Cash Flows to LCG Current Situation ($000) Avg. Annual item 2017 2027 NPV ILOT Electric $18,675 $1,458,929 Water 2,598 214,673 Wastewater 4.289 350.815 Telecom 0 0 Total $25, 562 $2,024,417 Franchise Fee Electric $0 $0 Water 0 0 Wastewater 0 Telecom 13> 398 35,725 Total Franchise Fee $398 $35. 725 Ad Valorem Tax Electric $0 $0 Water 0 0 Wastewater 0 0 Telecom 817 60,337 Total Ad Valorem Tax $817 $60. 337 Total Cash Flow to LCG Electric $18,675 $1,458,929 Water 2.598 214.673 Wastewater 4.289 350,815 Telecom 1.215 96,062 Total Cash Flow to LCG $26,777 $2,120,479 Notes: (1) Cash Flow projection based on LUS ?nancial proforma?s developed for the 2016 CER with certain current updates. (2) PV of perpetuity with 3.2% discount rate and 2.1 growth rate. NPV represents lump sum investment that generates desired cash ?ow. (3) Franchise Fee assumes approximately 3% of CATV Gross Receipts. NewGert . Strategies Solutions Key Takeaway: Of $2.1 Billion in value. electric ILOT 81 telewm imputed tax payments are worth about $1.55 Biltion to LCG. Compared to the current situation, an asset sale with combined value (cash, fee, ad valorem tax} greater than or equai to $1.55 Billion after transaction costs, would have similar value to LCG. Transaction costs include retirement of outstanding debt, stranded Investment. higher utilitv rates, severance costs plus other quaiitattve costs less benefits of sailing the and telecom systems I'Svstems) Qualitative costs of setling the Systems are primarily related to the toss of local coritrot. Rates Resporisweness Reliability Optionaiitv Qualitative benefits of selling the Systems include: Typical business risks of running the Systems Empiovee and public safety liability Storm exposure, costs outages, etc. Page 1 Table 2 Net Debt and LCG Admin Charges Current Situation ($000) Item Total Net Debt as of Nov 2017 ?1 Electric $215.776 Water 1 9,338 Wastewater 31,254 Telecom 105,255 Total Net Debt 3371.624 LCG Annual Admin Charges l2) Electric -- $1,818 Water 1.248 Wastewater 1.817 Telecom 725 Total LCG Annual Admin Charges $5.607 Notes: t1} (2) Net Debt equals total outstanding princi?ma as of November 2017. less bond reserve funds. i i LCG Administration Charges are asmciated with City services and are assessed to utilities Fise?at Year 2016 actual. Page 2 Analyses, Takeaways, Benefits, and Costs Star Bright Table 3 LCG Estimate of Investment Vatue Post Transaction ($000) Avg. Annuat Telecom System Avg. Annual Electric System 2017 - 2027111 NPV ($000) 2017 2027 NPV 12? Sources of Cash Sources of Cash Cash from Sale $9,807 $1,087,076 Cash from Sale $172,532 Franchise Fee ?41 6,365 547,302 Franchise Fee ?91 $398 35,725 Ad Valorem Tax 151 2,503 213,507 Ad Valorem Tax 151 817 60,337 Subtotal Sources of Cash $1 8.6 75 $1.84 7,885 Subtotal Sources of Cash $1,215 3263, 594 Unapproprtated Cash 151 17,960 Unappropriated Cash 151 0 Total Sources of Cash $1,865,845 Total Sources of Cash $268,594 Uses of Cash Uses of Cash Net Debt - Principle 1? $215,782 Net Debt - Principle $105,255 Stranded Cost 131 191,134 Stranded Cost (1?1 67.277 Subtotal Uses of Cash $406,916 SubtotaiUses of Cash 31 72. 532 Net Cash To LCG $18,675 $1,458,929 Hat Cash fence $1,215 $96,062 Notes. (1) 121 (4) (5i (3) (9) (10} (11} Cash Flow projection based on LUS ?nancial proforma' 5 developed for the 201601312 with certain recent updates NPV of perpetuity with 3. 2% discount rate and 2 1 percent growth rate. NPV 'rqtresents lump sum investment that generates desired cash flow Assumes LCG invests cash at 3. 2% to create desired cash ?ow Franchise Fee assumes 5% of Gross Receipts less sales to LCG and. time: C31 summers Ad Valorem Tax assumes a 10 9 mill rate applied to Net Book Vdue Unappropriated cash per LUS ?nancial statements. Net Principle equals outstanding principle as of November2017 lesSbond reserve funds. Stranded cost equai to LCG administrative costs by electnc system {accounting hating etc.) plus a phase out of residual LUS administration and general costs. Franchise Fee assumes approximately 3% of CATV Gross Receipts?._ Net Principle equals outstanding pnnciple as of timber 2017 Excludes interdepartmental loan to the electric system of $28 million. Stranded cost equal to LCG administrative casts paid by system (accounting billing. etc} Key Takeaway: II Total Source of Cash Tiansa?ion Value I Transaction Value provided by buyer represents sum of cash, franchise fee and ad vaioren?r payments to LCG pre?and post?transaction values are equipment. Page 3 Sale of Electric System Benefits to LCG that increase asset value: largest utility operation representing two-thirds of utility revenues (including telecom) I Financially strong and stable. Combined E, W, WW systems can backstop telecom debt with minimal upward rate risk (one time Sale of electric system increases upward rate risk on W, WW systems {one time 15%) I Monopoly transmission and distribution system with captive customers results in reliable revenue stream Local control provides optionality with respect to project financings combined syst?n credit rating, economic development, allocation of LCG A846 costs local jobs local investment generatlein portfolio, rate levels rate class subsidization, rate structures. economic incentive rates etc Costs to LCG that decrease asset value: I Sale of Telecom System Benefits to LCG that increase asset value: - Telecom is a net financial benefit to LCG Local control provides optionality with respec?titgoeconomic d??jyelopme'nt, rates 8: pricing Costs to LCG that decrease asset value: . I Telecom must operate in highly competItive matket . No guarantee of profitable operation I Highly changing financial re investment I Combined electric- telecq??lasset sale adds vaide due to inter? utility loans reduced rate risk etc Page 4 Star Bright Analyses, Takeaways, Benefits, and Costs Table 4 Value Comparison Post Transaction ($000) LCG investment LUS Net Fair Market Value Book Value (FMV) FMV Electric System Estimate Value Estimate Estimate 1'3} Sources of Cash Cash from Sale $1,087,076 $375,300 $511,000 $596,500 Franchise Fee 547,302 547,302 547,302 547,362 Ad Valorem Tax 213,507 213,507 . 213,507 - 213,507 Subtotal Sources of Cash $1.84 7,885 $1,136,109 $1,271,809 -: $1,357,309 Unappropriated Cash 17,960 17,960?? 17,960 17,960 Total Sources of Cash $1,865,845 $1,154,069 $1,239,769 $1,375,269 Uses of Cash Net Debt - Principle $225,782 $215,782 1 $215,782 $215,782 Stranded Cost 191,134 191,134 191,134 191,134 Subtotal Uses of Cash - $406,916 $406,916 $406,916 $406,916 Net Cash To LCG $1,456,929 $747,153 $882,853 $968,359 Values Compared to Investment Value $0 ($711,776) ($576,076) ($490,570) Notes: 1) FMV determined based on 10 year DCF with terminaltralue. Assumed vertically integrated regulated utility with WACC of 8% for the Uansmission and distribution business unit and 10% for generation business unit. (2) Assumes buye'rwi? establish electric rates equal to current LUS rate projections. (3) FMV determined based on comparable sale. Macquarie et al's 2015 acquisition of Cleco. Estimate based on ratio of purchase prices to net plant. Key 1' Offer for purchase will not likely meet or exceed investment value. I A significant contributor to the valuation gap is the difference between and purchaser's cost 01 ttapitai. - Potemiai for added FMV under electric, rate increase scenario. NewGei} Strategies 81 Solutions Page 5 Star Bright Analyses, Takeaways, Benefits, and Costs Table 5 Value Comparison Post Transaction ($000) LCG Investment LUS Net Value Book FMV Telecom System Estimate Value Estimate Sources of Cash Cash from Sale $172,532 $78,000 $133,838 Franchise Fee 35,725 35,725 35,725 Ad Valorem Tax 60,337 69,337- Subtolai Sources of Cash $268,594 3174.062 3229.900 Unappropriated Cash 0 0 0 Total Sources of Cash $268,594 $174;06_2_ $229,900 Uses of Cash . Net Debt - Principle $105,255 $155,255 $105,255 Stranded Cost 157,277 57.277 57,277 Subtotai Uses ofCash 9:72, 532 $172. 532 $172. 532 Net Cash To LCG 5 $96,032 $1,530 $57,368 Values 5 $0 ($94,532) ($38,694) (1) FMV determined based on oneyear cash ?ow wi?it?tminal value. Assumed unregulated telecommuniesttons abatement 10%. (2) FMV assumes one time 996 increase in overall telecom rate revenues. Key Takeaway: - Offer for purchase probably wit! not meet or exceed investment value. . A'Significzmt contributor to the valuation gap is the ditterence between and purchaser?s cost of capital. LCG incentiuized to sale: - Eiectric and telecom systen'ts together, or: The telecom system oniy Sale of electric system oniy is most Costly scenario Strategies Saluttoas Page 6 Star Bright Analyses, Takeaways, Benefits, and Costs Table 6 Value Comparison LCG Investment LUS Net FMV Value FMV Value Value Book Range Range Electric 8 Telecom Systems Estimate Value Low High Sources of Cash Cash from Sate $1,259,602 $453,300 $644,838 $730,388 Franchise Fee 583,027 583,027 583,027 583,027 Ad Valorem Tax 273,844 273,844 273,844 273,844 Subtotal Sources of Cash $2,116,473 $1,310, 1' 71 $1.501. 709 $1,587, 209 Unappropriated Cash 17.960 17.960 17,960 17,960 Total Sources of Cash $2,134,433 $1,328,131 $1,519,669 $1,605,169 Uses of Cash Net Debt - Principle $321,031 $321,031 $321 ,031 $321,031 Stranded Cost 258,411 258,411 258,411 258,411 Subtotal Uses of Cash $579442 $579,442 $5 79, 442 $5 79.442 Net Cash To LCG $1,554,991 $748,689 $940,227 $1,025,727 Values Compared to Investment Value $0 ($806,302) ($614,764) ($529,264) NewGen Key Takeaway: Compared to current situation, transaction value expected to result in a loss of revenue to on the order 01304 Billion to $0.8 Billion overtime. Strategies 8: Solutions July 19, 2017 White Paper on Franchise Agreement Negotiations Prepared by: NewGerr . Strategies Solutions Strategies 8: Solutions White Paper on Franchise Agreement Negotiations NewGen Strategies and Solutions, LLC [NewGenl prepared this White Paper at the request ofthe Lafayette Consolidated Government?s (LCG) Mayor-President. It is intended to identify negotiation points that will inform the City of Lafayette, Louisiana (City) and the Lafayette Parish (the Parish}, collectively the City-Parish, officials with respect to developing a franchise agreement for operating an electric utility within the City limits. The assumption underlying the franchise agreement negotiation is that a third-party utility would purchase the City-owned Lafayette Electric Utility (Electric Utility or System), and operate that Electric Utility within the City under authority, and provisions of, a franchise agreement granted by the City. Typically, in such franchise agreements, privately owned utilities own and operate the electric utility within the city. This White Paper is organized into five areas: 1. Basic Franchise Agreement Provisions 2. Strategic Issues 3. Employee Matters 4. Business Locations and Practices 5. Other Items Certain of the items discussed in this White Paper may more appropriately belong in a Buy-Sell Agreement rather than a Franchise Agreement. They are included here, so that items to be negotiated in a sale are comprehensively presented in a single document. Basic Franchise Agreement Provisions An Electric Utility franchise agreement grants the franchisee the rights to operate and maintain electric service to customers residing within the City. These rights generally include the right to occupy and maintain electric utility facilities in public rights-of-way. The City grants the use of City-owned rights-of-way, and imposes conditions upon the franchisee for such use. Typically, these conditions include the following: I Franchise agreement fee payment to the City I Specification of the term of the franchise agreement I Specification as to whether the franchise agreement is ?exclusive? or "non-exclusive? I Recognition that the utility properties will be subject to property tax treatment consistent with other taxable entities within the City. I Agreement as to reimbursement of any separation costs, or other transaction costs of the sale of utility assets or incurred in establishing and granting a franchise agreement Franchise Agreement Fee The Louisiana Municipal Association (LMA) is a state-wide organization promoting and advocating for its members, Louisiana cites, and parishes. The LMA conducted a survey of its members regarding franchise Economics Strategy Stakeholders Sustainability agreement information in 2010. That survey indicated franchise agreement fees ranged from a low of 2% of utility revenues to a high of 5% of utility revenues. Based upon this information, it would be prudent for LCG to negotiate a franchise agreement fee at the high-end of percentages, perhaps starting at around with the expectation of agreeing on This fee is the single most important component of the franchise agreement. Terms The franchise agreement fee survey also contains information regarding the term of the utility franchise agreement. The terms ranged from a low of 3 to 5 years (mostly communications franchises) to a high of 60 years (for energy service provider, such as Entergy). Electric utility franchise agreement terms were typically in the 25-year range. When negotiating franchise agreement term the utility will generally want a longer-term in order to increase the certainty of the future business. The franchise agreement grantor may want a shorter-term, perhaps 10 to 15 years, so that the franchise agreement can be renegotiated with more contemporary terms as conditions in the electric utility industry and/or municipality evolve. Starting negotiations at the lower end, say 15 years, may be a good strategy for the City, with an expectation that a longer-term agreement may result. Terms longer than 25-years should be accompanied with other attractive features ofthe franchise agreement such as a trade-off, e.g. a higher franchise agreement fee or other City benefit. Exclusiviiy Typically, communications franchises are non-exclusive, recognizing that several communications providers may operate within a municipality. In the case of an Electric Utility, an exclusive franchise agreement is more common, recognizing that a monopoly provider is more efficient than attempting to accommodate competing electric utility providers. Indeed, the Louisiana Public Utility Commission prohibits dually certified utility service territories, so the issue of exclusivity is likely not a negotiation point. Property Tux The issue of property taxes is most likely governed by State of Louisiana (State) statute; however, it is worth acknowledging that there is no special treatment of utility assets sold to a third-party in this regard. Therefore, while property taxes on utility assets may provide revenue for a local municipality, they are typically not included as a negotiated item within a franchise agreement. Separation Costs Separation costs refer to the investment costs required to isolate service either through metering or in electric equipment when an existing system is divested or joined with another. Depending upon the buyer of the Electric Utility and the physical location of its current utility assets that will be used to serve the City, there may be some costs incurred to accommodate the provision of a new utility provider. The City should be held harmless for any such costs. Strategic Considerations There are several strategic considerations that need to be reviewed regarding the potential sale of Electric Utility assets and the development of a franchise agreement. These include the issues related to the existing Communications System, potential repurchase of the Electric Utility assets, and other considerations. Franchise Negotiation White Communimtions System Communications System is a separate business entity from the Utilities System, and its revenues and expenses are generally not comingled with those of the Electric, Water, and Wastewater Systems. However, to finance the building of the Communications System, the Utilities System provided two forms of financial support. One was a provision for the Utilities System to provide direct loans to the Communications System in the amount of $6 million (M). The other form of support is a credit guarantee by the Utilities System that provides a financial ?backstop? to the Communications System revenue bonds of which approximately are outstanding. A review of the Utilities System Bond Ordinance and the Communications System Bond Ordinance does not appear to prohibit the sale of a portion of the Utilities System, so long as the rate covenant is not violated, among other issues. That covenant requires the City to maintain rates for services at a level allowing 100% of debt service to be maintained. The practical effect of this provision is that, without the Electric System, should the Communications System fail, or operate at a loss, Water and Wastewater rates would have to be set high enough to cover the Communications System losses, and pay the Communications System debt service. Under a ?shut down the business? scenario for the Communications System, the Water and Wastewater Systems would have to assume, or defease, of Communications System bonds. While the Utilities System, consisting of all three utilities, provides the financial backstop, as a practical matter, it is the size and strength of the Electric Utility that provides the bulk of the financial support. Should the Electric System be sold, the continued financial backing of the Communications System bonds would not be prudent or practical as the combined Water and Wastewater Systems do not have the financial strength to offer such support. This may jeopardize the financial integrity of LUS. Because such a result would represent a severe financial challenge to the Water and Wastewater Systems, it may be prudent to combine the sale of the Electric Utility with a corresponding sale of the Communications System. A simple approach to this problem could be to negotiate the sale price for the Electric Utility, and then add a premium cash payment of for the outstanding debt. The City could defease the Communications System bonds, and continue to operate the communications business as it desires. This approach may result in a joint bid between electric utility and communications providers, which may be a challenge; however, from perspective it would offer a viable solution to the Communications System issue. Finally, there are many aspects of LCG and the Water and Wastewater Systems that rely on the existing configuration of the Communications System to operate. A future franchise agreement will need to specify the details of how the remaining systems will utilize the Communications System, and if such use would be subject to compensation and certain operational metrics. Re-Purthuse of Electric Utility Assets It is not uncommon for utility franchises to contain a clause specifying franchise agreement renewal provisions or rights of the grantor at the end of the franchise agreement term. The City should consider including a provision that gives the City the right to re-acquire the electric utility at the end ofthe franchise agreement term. This right should also specify the price (or the methodology to determine the price) that would be paid to re-acquire the utility assets. Such a price would typically be based upon net book value of the utility assets, but could be negotiated higher if required. The more detailed the methodology included in the franchise agreement, the easier it will be to evaiuate such re-acquisition years later at the end of the franchise agreement term. Franchise Negotiation White Other Strategic issues There are other strategic issues that LCG should consider before entering into an electric utility franchise agreement. These include items specific to the industry such as pursuit of a renewable portion of power supply, conditions regarding Automated Metering Infrastructure (smart meters), or smart grid accommodations, as well as access to the data provided by such systems. A more thorough review of energy franchise agreements in Louisiana and across the country should be conducted prior to initiation of a franchise agreement with a third-party purchaser of the Electric Utility. Employee Matters A sale of the Electric System necessarily requires negotiations, in detail, of how current Utility System employees will be treated. Retention, salaries, benefits, jobs eliminated, and severance payments are just a few important matters to be resolved before a sale can be consummated. Of particular importance is how current and past employees? retirements will be affected. Assuming LUS is largely operating on a ?pay as you go? basis for retired electric utility employee benefits, how will those payments be managed going forward? Many publicly -owned utilities have Other Post-Employment Benefits (OPEB liabilities), of which pension obligations are typically the largest and are a continuing financial obligation of the utility. We have not researched how the Louisiana Association of Public Employees Retirement System (LAPERS) works in this regard; however, this will need to be included as a consideration. While sale of the electric utility may result in some employees being retained, line crews and other crafts positions), it is expected that sale would result in a direct reduction of some current electric utility employees. We have not studied how likely, or how many positions, may be eliminated, but it is reasonable to assume the reductions would be significant. These reductions would, at a minimum, require severance payments consistent with current LCG termination policies. These severance payments would also apply to Communications System personnel as well, assuming sale of that system. We have not performed a detailed study of these severance costs; however, our knowledge of LUS suggests that severance on the order of SSM is not an unreasonable expectation. Business Locations and Practices The franchise agreement negotiations should include a requirement for the maintenance of business operations within theCity. In particular, negotiations should ensure that the City?s citizens have similar convenience and access to their utility provider as they currently have with the LUS Electric System. Arrangements for bill payments are likely straightforward; however, the matter of access to utility officials for complaints, service outages, service requests, meter changes, and other day-to-day utility matters should be specified in the franchise agreement. Other Items The primary purpose for the City to grant a franchise agreement for utility service is to recognize, and permit, the use of City-owned public rights-of?way to the franchisee. This allows the utility to construct, operate, and maintain facilities in the City?s rights-of-way. The franchise agreement should specify any requirements the City wants to impose on the utility for conditions to occupy the rights-of-way. Considerations such as overhead and underground street crossings, street cutting and repair requirements, permits and license requirements, and accommodation of new street alignments are all items that should be documented. Franchise Negotiation White The Communications System uses space on Electric Utility poles for its communications facilities, and the franchise agreement should specify that such use is anticipated, and how it will be accommodated. A pole attachment fee may apply, or be subject of a separate pole attachment agreement. Even under sale of the Communications System to a third?party, the franchise agreement should anticipate, and provide for, the City?s use of utility poles for internal communications facilities. LCG may also require communications facilities on utility poles. LCG has a contract with the Southwestern Power Administration to purchase 23 megawatts (MW) of federal hydropower. This contract cannot be assigned to a third?party buyer, and that should be clearly noted in any franchise agreement negotiations. The contract is set to terminate in 2018; however, a contract extension is likely. Conclusion This report is intended to address the key features needed for the City to offer a franchise agreement to a third party, electric utility provider. In the course of negotiating a franchise agreement, other items may arise that have not been considered here. Because utility franchises are long-term commitments, the City should take the time to carefully consider each franchise agreement provision, and the associated benefits and commitments. Should the City embark on such an effort, it should enlist the expertise of LUS management, as well as outside expertise as needed so that a favorable, long-term, and beneficial franchise agreement results. Franchise Negotiation White