One North Carolina city borrowed millions from its water and sewer fund to support its municipal broadband service and paid the price with a downgraded bond rating. This spring, Moody’s downgraded Salisbury’s bond rating, citing debts by its Fibrant broadband service.

Moody’s notes that Salisbury borrowed $7.6 million from its water and sewer fund to support the Fibrant fiberoptic network, resulting in “a narrowed but still acceptable cash position for the water and sewer fund.”

The report also notes that while Salisbury is making 1 percent interest payments on the borrowed funds, it isn’t repaying the principal.

Moody’s downgraded Salisbury’s general obligation bond rating to A3 from Aa2, and its certificates of participation rating to Baa3 from A1. Cities with any “Aa” rating are judged to be of high quality and subject to very low credit risk. Any “A” rated cities are judged to be upper-medium grade and subject to low credit risk. A “Baa” rating is judged to be medium grade and subject to moderate credit risk.

“The city reports no plans for principal repayment and does not include repayment in their pro-forma calculations,” Moody’s report says.

Salisbury city clerk Myra Heard confirms that the city has no current plan to pay back money borrowed from the water and sewer reserves.

“The Broadband Communications Fund will start paying back the loan at the point when the fund is making a profit and is fiscally sustainable,” Heard said in a statement.

Money borrowed from the water and sewer reserves was used for both capital and operations expenses, Heard said.

Since the Moody’s credit downgrade occurred, there’s been an upheaval in the administration at Salisbury city hall. After a nearly five-hour closed session June 17, the Salisbury City Council emerged to announce that it had “mutually terminated” the contract of City Manager Doug Paris. The following day, the city’s public information officer, Elaney Hasselmann, resigned.

Salisbury officials did not respond to repeated personal, telephone, and email requests for an interview.

Paris had been city manager for two years. Before that, as assistant city manager, he was seen in Raleigh frequently, lobbying members of the General Assembly who were discussing a law placing limits on city-owned communications providers.

That law, approved in 2011, requires municipalities to get a vote of the people before borrowing money to build municipal broadband systems. It also prohibits the use of non-communications sources to pay for broadband expenses, bans the practice of charging subscribers less than the actual cost of providing the service, and requires muni broadband entities to pay a comparable amount of local property taxes and state income taxes that a private entity would owe.

Paris and representatives from other North Carolina cities with municipal broadband services convinced the General Assembly to exempt existing providers from most of the law’s restrictions.

Subsidizing broadband

David Williams, president of the Alexandria, Va.-based Taxpayers Protection Alliance, says municipal broadband outfits regularly use a mixture of sources to pay their expenses.

“We’ve seen different hybrids of this,” Williams says. “We’ve seed in Chattanooga [Tenn.] how they got their system built through a Department of Energy stimulus grant through the power company. In [Provo] Utah, for Utopia, they’re going to be charging on the utility bill for broadband.”

Salisbury is the largest city involved in Salisbury-Rowan Utilities, which provides water and wastewater services to residential and business customers in Rockwell, Salisbury, Spencer, East Spencer, and Granite Quarry.

“That’s a critical point in this,” Williams said. “It’s not just [Salisbury’s] taxpayers that are on the hook.”

Moody’s report says the city has met other debt obligations related to Fibrant by renegotiating the terms for the debt with lenders, along with borrowing from the water and sewer fund. It suggests that Fibrant is an “over-leveraged asset.”

“The negative outlook reflects Moody’s belief that the city’s broadband system will continue to be challenged to meet its forecasted financials which include customer growth and a rate increase that has not been adopted,” the report says.

“A continued reliance on extraordinary borrowing from the water and sewer fund, rather than paying COP and bank certificate debt service from the broadband enterprise or the general fund budget, could result in additional negative pressure on the credit,” the report says.

Salisbury budget

The budget for the city of Salisbury, approved June 23, shows that in addition to the $7.6 million borrowed from the water and sewer reserves, Fibrant owes nearly $33.9 million in certificates of participation bonds — borrowing that was not approved by a referendum. That adds up to nearly $41.5 million.

Fibrant expects to pay nearly $11.4 million in interest on the certificates of participation bonds between now and 2029, when the city expects to have the bonds paid off.

The city’s outstanding debt for all funds, excluding the money Fibrant owes to the water and sewer reserves, is $79.4 million.

Fibrant offers fiber-optic Internet, video, and phone service. Fibrant’s budget for the 2014-15 fiscal year is $6.2 million. The city anticipates getting $5.4 million in operating revenues, with the remaining coming from other revenue sources.

The budget shows a goal of closing 35 new Fibrant accounts per week over the next fiscal year. Other telecom providers in Fibrant’s service area include AT&T (including U-verse), Windstream, Time Warner Cable, Dish Network, and DirecTV.

Before the 2014-15 budget took effect, cable services ranged from $39.16 for basic service to $161.16 for the highest-level platinum service. Premium channels were $17 a month, and a pay-per-view adult movies ran $9.99. The budget includes a price increase on television service of between $2 to $12 a month, depending on the video package, to repay money borrowed from the water and sewer reserves.

Stand-alone Internet service starts at $45 a month, the same price as stand-alone digital telephone service. Fibrant offers package deals for combining services. Heard said the city offers the adult movies for competitive purposes.

Fibrant officials announced June 30 they had signed up their 3,000th customer. Heard said Fibrant is operating in the black for the 2013-14 fiscal year, and anticipates doing so for the 2014-15 fiscal year also.

A report by the Heartland Institute, a Chicago-based free-market think tank, laments the problems faced by another municipal telecom system in Burlington, Vt.

The Green Mountain State’s largest city has spent nearly $50 million on its system and will ask residents for an additional $10.5 million to settle a defaulted loan debt. The initial loan was $33 million. The city was unable to market the system enough to repay the loan.

Williams said that in some cases, private communications companies come in and purchase struggling communications systems at a discount. “They’re jumping on these muni-broadband systems that aren’t working,” Williams said. “This is kind of back-door corporate welfare.”

Barry Smith (@Barry_Smith) is an associate editor of Carolina Journal.