The Community Reinvestment Act and Broadband

The Community Reinvestment Act (CRA) is a federal law that’s been on the books since 1977. The law encourages banks to reinvest some portion of their portfolio in their local communities. The law specifically wants banks to make loans that benefit low and moderate-income neighborhoods. Over the years banks have met the CRA thresholds by investing in assets like low-income housing.

Recently the Federal Reserve, which monitors CRA lending at member banks has suggested that improving local broadband would qualify as CRA investment as long as the projects benefit the target parts of the community. This decision will make it easier for banks to make loans to local broadband providers in their community.

It’s worth looking at the history of bank lending for infrastructure to put this announcement into perspective. There was a time when banks were a major lender for infrastructure projects. If you look  more than 50 years local banks lent to projects to build community infrastructure like cable TV networks, water systems, electric power grids, city halls, etc. These are considered as infrastructure loans if they have long loan terms of 20 to 30 years, much like home mortgages. Even then banks didn’t loan much for really long-life assets like roads, bridges and dams – but they were still a major lender to things we would consider as basic infrastructure.

But for various reasons banks stopped lending for infrastructure. Part of this was due to the turbulence in interest rates in the early 70s. All interest rates bounced around for a while and at one short period of time home mortgage rates were four times higher than today. While interest rates eventually settled back down, the swings in interest rates scared many banks from tying up high dollar loans for 25 or 30 years.

This same time period also saw requirements from the federal government for banks to hold more cash in reserve. Many local banks before then would loan out most of their cash, with the hope that most of the loans were solid. But there were enough loan failures in the 70s to shake the confidence of the banking system and to dissuade banks from lending most of their cash.

What really put the cap on this kind of lending was the massive bank consolidation that saw a significant portion of local banks get gobbled up by larger banks. Before all of the consolidation there was hardly a town or county in the country that didn’t have a local bank that was interested in making local loans. But as those banks disappeared, borrowing for local businesses of all types became harder.

What might this change by the Federal Reserve mean for broadband projects? At a minimum it means that local banks are a lot likelier to listen to the story of somebody that wants to borrow. Now that loans for broadband infrastructure will meet banks CRA obligations they are going to pay particular attention to such loans.

But this is unlikely to open up the floodgates of bank investment in broadband infrastructure. Even if it’s easier to talk about loans borrowers still need to deal with the fact that most banks have a lending limit for an individual loan, particularly for somebody who hasn’t borrowed from them before. Building fiber is expensive and if the bank’s maximum loan size is something under $1 M (could be a lot less), then such loans won’t go very far if trying to expand a fiber network. This is not to say it’s impossible. I know small ISPs that have a revolving line of credit that they can borrow for expansion as they pay off existing loan amounts. But this is almost the opposite of infrastructure financing since such loans generally are paid off in a few years, at most.

It’s probably going to become a lot easier, though for borrowing for smaller broadband projects. This might be building wireless networks to serve parts of a town. These loans might support public hot spots or broadband to low-income housing, as long as there is a revenue stream sufficient to repay the loans. Such loans might also fund small fiber builds needed to connect to a business park, to cellular towers or to a small segment of the community.

There is another avenue that borrowers ought to consider, which is a bank consortium. This is where a group of banks go together to make a loan that is larger than what any of them would tackle alone. This generally requires a bank that is local to the borrower to act as the broker and leader of the deal. This is a lot of work for the primary local bank, and so it takes a sympathetic and willing local bank partner. But the changes in the CRA rules means that it might now be easier to talk banks into joining a consortium. It’s worth a try for somebody that don’t have another path for borrowing.

Be a little bit leery of anybody that tells you that this a world changing decision. Banks are still incredibly conservative and this won’t change their expectation for the metrics they will want a borrower to meet or the collateral they will expect to support a loan. But it ought to open the doors to have conversations with bankers that might not have been possible a few years ago.

Watching Interest Rates Again

eyeballWe have had an amazing run of stable interest rates. This has meant that I could create a business plan and have good confidence that the interest rate that I used would still be good a year or two later when it’s time to finance a project. That took one big worry off the plate because it hasn’t always been like this.

Historically interest rates have gone up and down and this period of steady rates is the exception in the way that interest rates have bounced during my career. Just within the last decade there were times where the bond markets were in such turmoil that it was nearly impossible to float new bonds. For the past few years we’ve seen nearly the opposite and the bond houses I know have instead been decrying the lack of bond deals wanting to get financed.

It’s not surprising to see interest rates starting to swing a bit again. We are going through a big stock market correction that has investors spooked. And the first thing that spooked investors affect is the bond market. The municipal bond market sells almost entirely to wealthy individuals looking for a safe haven for money. And corporate bonds are sold to both wealthy individuals and big pools of money like pension funds and insurance companies. As those buyers liquidate stock holdings there is a big increase in demand for bonds. Bank rates are the last to change, but they react over time to changes in the corporate bond rates.

Interest rates really matter to fiber projects. A project that might be feasible at a low interest rate might become risky at a higher one. I can remember times in the past when floating a municipal bond deal was dependent on the interest rate that was being offered on the day the bonds went to market. Bond sellers would hire experts who would try choose the right time to sell new bonds. And on the morning when a bond was to go for market I’d be sitting waiting to plug in the interest rate and bond term being offered that day to make sure it was a good deal.

I certainly don’t hope for a return to those kind of crazy times because high or fluctuating interest rates can put the kibosh on many good projects that would have easily been funded in better times. But since the payment term for bonds is so long the interest rate matters a lot – fiber bonds might last for 25 or even 30 years and might not be able to be called and refinanced for 10 or 12 years.

This blog was prompted by reading an article about the widening spread between corporate bonds and US Treasury bills. The spread for the whole corporate bond industry has opened up to 770 points, meaning that the interest rate being charged for issuing corporate bonds is a full 7.7% higher than the rate being paid on T-bills. That different climbed 1.1% just during the month of January. We haven’t seen a full 1% change in interest rates during a month for quite a while. More worry came when I just read that a Federal Reserve survey of banks shows that the majority of banks see a tightening of credit for 2016.

Why do interest rates matter to a fiber project? Consider a $50M fiber project. I just did a calculation of a project of this size for a client. In that project an increase of 1% in interest rate cut long-term cash flows by over $5 million if funded with bank debt. But if funded by municipal bonds the impact was $15 million due to the longer payment term plus the fact that muni bonds usually borrow money to make the first few years of interest payments up front. While a 1% change in interest rates might not kill a project, it’s easy to see that changes of more than 1% can be deadly.

Maybe worse of all is that we have been sitting with interest rates at historic lows for a long time. This means that the only place that rates can go is higher. At least, when rates finally go higher, there is always a chance that they might drop. So I will start keeping my eyes on news of interest rates again. It seems one of our old worries is back on the plate again after a nice hiatus.