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7712 Stanmore Drive

Beltsville, MD 20705 Phone 301-210-5200

June 10, 2013 Tenzin Gyaltsen General Manager Click! Network Tacoma, WA Re: Phase II Report

Tenzin: This report is a follow-up to a report I prepared for Click! in April 2013. The original report looked at several issues. It first looked at the Click! business plan for the next ten years in order to understand how the continuing drop in cable customers and the hopeful increase in wholesale customers will affect the business. It then went on to look at profitability by profit line. This Phase II report builds upon that report and looks at alternate scenarios other than continuing to operate the business on a status quo basis. This report looks at the following scenarios:

1. Operate at Industry Metrics. I referred to this scenario in one of our discussions as operating at bare-bones, but what it means it to look at staffing levels in terms of how companies of a similar size would operate in the private sector.

2. Go Fully Wholesale. In this scenario Click! would exit the retail cable TV business and let it be operated by the ISPs or some outside party. Where Click! loses money incrementally on cable TV today, this scenario will examine whether it would be more profitable to operate by selling network connections to provide cable rather than to offer cable as a retail product. There are other networks that sell wholesale cable service that we can look at as examples of how this might work.

3. Lease the Whole Network. This scenario would have Click! leave the retail and the wholesale business entirely and lease the network to one provider.

4. Walk Away from Click! It is possible that there is no buyer for Click! because of your unusual business of being both retail and wholesale, and so this scenario looks at what happens if you just decide to get out of the business.

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5. Sell the business. This scenario takes a fresh look at the valuation of Click! and the issues associated with selling the business.

Operate at Industry Metrics This scenario asks the question of how Click! is staffed compared to the rest of the industry. There are some pretty standard metrics used in the industry for staffing. And these metrics seem to be valid across type of company and they are pretty good metrics for cable companies, telephone companies and competitive triple play providers, since all of you perform very similar functions for your customers. The industry looks at companies by size generally as follows: Small companies Under 15,000 customers Medium companies 15,000 50,000 customers Mid-sized companies 50,000 to 250,000 customers Large companies Over 250,000 customers Click falls into the medium category. Following are the rough metrics that are used around the industry to define the ideal staffing levels: Small companies 175 customers per employee Medium companies 350 customers per employee Mid-sized companies 400 customers per employee Large companies No idea, but this is only a handful of large companies. In the past I have looked at this metric for hundreds of companies and the companies that are able to meet these metrics are the most profitable and well-run companies, so at least in my experience there is a decent correlation between these metrics and actual performance. Said another way, these metrics seem to be proven out by real life examples and I know a lot of industry people who will quote these metrics as good goals. As would be expected, companies that are near in size to one of the boundaries of their range will fall somewhere between the ideal for their range and the range nearest to them. For example, I would not expect to find a company with 16,000 customers to be staffed at 350 customers per employee, but rather to be somewhere between the small and medium size metric. However, one would expect a company near the mid-point of each range to be close to the cited metric. The first question I asked is where Click! falls in this range? That is not an easy question to answer since you operate two very different product lines with retail cable and wholesale ISP. One cannot just add those two groups of customers together for several reasons. First, close to 12,000 of the ISP customers are also your cable customers. Its also clear to me that from an operational viewpoint that Click! expends a lot more effort to maintain a cable customer than you do for an ISP customer.

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Another fact that could impact how many customers you serve is that there are over 11,000 homes that use the HFC network to read the electric meter and which dont subscribe to cable or ISP services. And so to see where Click! falls into this metrics table I had to make an estimate of what I would call your equivalent customers, which would be to restate the ISP customers such that the amount of work expended per customer would be roughly the same as for a cable customer. I looked at several different ways to arrive at equivalent customers. I began by using the expected 21,000 cable customers at the end of 2013. The question is how to then account for the ISP customers. One way I looked at equivalent ISP customers was to use the analysis I got from the company that looked at how many employees would be required if you were only to be in one business line. That analysis showed that if you were only in the cable business that you would require 85 employees but if you were only in the ISP business you would require 46 employees. One can calculate that those two scenarios would result in a ratio of 219 customers per employee for the cable business and 420 customers per employee for the ISP business, making the cable business 52% less efficient on a per employee basis than the ISP business. I used that ratio for the end of 2013 to calculate that there are 10,000 ISP equivalent customers for the end of 2013 (19,300 X 52%). Added to your cable customers you would have 31,000 equivalent customers at the end of the year (plus a few more for broadband). For this analysis I left out the meter-only customers. I am sure that they contribute some to the work load such as when something knocks down a service drop, but for the most part these should be very low maintenance customers. However, that ratio seems a little high to me for several reasons. Its clear in looking at the kind of employees that are needed for the ISP business that there is not as much of a direct correlation between employees and ISP customers as there is between employees and cable customers. For example, you have 14 customer care employees to serve the cable business line and only three to serve the ISP data line due to the big difference between retail and wholesale. You could add or cut a lot of ISP customers and not need a change in ISP customer care, but the same is not true for cable TV where there is much more of a direct correlation between cable customer care reps and cable customers. My gut tells me that the above ratio produces too many equivalent ISP customers because the ratio basically says that the company expends half as much work on an ISP customer as you do on a cable customer. And in knowing your company I cannot believe that is true. So I arbitrarily picked a different value and postulated that the company puts 1/3 as labor effort into caring for an ISP customer than you do for a cable customer. If we use the same end of 19,300 ISP customers at the end of 2013 this would equate to 6,400 ISP equivalent customers for the end of 2013 (19,300 X 33%). Added to your cable customers you would have 27,400 equivalent customers at the end of the year (plus a few more for broadband).

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Next I applied the metric from the target ratio of 350 customers per employee to these two sets of equivalent customers to see how many employees ought to be allocated to Click! This results in a range between 78 and 89 employees as follows: @ 27,400 equivalent customers = 27,400 / 350 = 78 @ 31,400 equivalent customers = 31,000 / 350 = 89 This is admittedly a very wide range of answers and the right number of employees for Click! probably falls somewhere inside of this range. I can think of ways to devise time studies that would let the company better understand the equivalent amount of labor that is put into the ISP wholesale business and the retail cable business and that you could then come up with Click! specific metric. But I also suspect that management could sit and come up with a pretty good estimate of the ratio of work spent for an ISP versus a cable customer. Next, using those two endpoints of the range of ideal targeted employees I looked to see how much of a dollar savings might be realized if Click! was to reduce manpower to the industry ideal. I started with the manpower that is assigned to Click! after you make the allocations to Power. When you make those allocations to Power you essentially transfer the cost of a lot of the Click! employees to power. So the above metrics would mean that the company would have between 78 and 89 employees left on the Click! budget after you make the allocations to Power. The following table starts with all of the employees that were considered in the Click! allocation study. This includes all of the employees who are in Click! budgetary groups as well as the employees in departments 562700 and 562800. The employees in those two departments were transferred from Click! to Power a few years ago, but the allocation study reports that there is still effort being expended by those groups on behalf of Click. That study began with 110 total employees. The proposed new allocations would charge Click! for 100.2 employees with the rest being allocated to Power. This is much higher than the current allocation where Click! covers only 59 employees.

To Click!

Department

Total Current

Allocations Proposed

Allocations

Administration 551100 2.0 50% 1.0 95% 1.9 Business Ops 552100 1.0 100% 1.0 100% 1.0 Marketing 552200 11.0 100% 11.0 100% 11.0 Customer Care 552500 16.0 100% 16.0 100% 16.0 Business Systems 552600 6.0 50% 3.0 100% 6.0 Tech Ops 553200 2.0 50% 1.0 86% 1.7 Service Installation 553500 24.0 50% 12.0 100% 24.0 Dispatch 553600 5.0 100% 5.0 100% 5.0 Converter Inventory 553700 4.0 100% 4.0 100% 4.0 Network Ops 555300 10.0 50% 5.0 56% 5.6 Interactive Services 555400 7.0 0% 0.0 99% 6.9

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Engineering 555500 3.0 0% 0.0 95% 2.9 Network Service Assurance 555600 9.0 0% 0.0 95% 8.6 HFC Network Construction 562700 7.0 0% 0.0 56% 3.9 HFC Network Engineering 562800 3.0 0% 0.0 56% 1.7

110.0

59.0

100.2

So I started with the 100.2 employees as the starting place of where to look at force reductions. It would require the reduction of 22 equivalent employees to reach the goal of having the business pay for 78 employees. It would require a reduction of 11 employees to reach the goal of 89 equivalent employees. In both cases, Click! could reach part of that goal by not accepting the allocations from HFC engineering and construction, which is 5.5 equivalent positions. In my report three years ago I recommended that Click! not use the services from these groups because they cost significantly more than using external firms to do the same work. I would hope that is still the philosophy if the goal is to get Click! to a sound financial position. So the remaining cuts would have to come from somewhere else. In my report from three years ago I pointed out several places where Click! is staffed differently than a lot of other companies of your size. For example, Click! has a large number of departments with department heads and these functions could be consolidated by expanding the span of control for middle management. For example, I look at some of my other clients in your same size range and they more typically would have around four middle managers and a general manager which might consist of a manager for outside techs, one for inside techs, one for customer service and one for marketing. Any other positions would report directly to the GM. Of course, every company is different, but that is the typical structure I would expect to see. I had also noted in my last report that there are some functions where Click! spends more resources than other cable companies I work with. For example, I dont know any other company in your size range who has a separate department for Network Assurance. In other companies this is just another function handled by the service install techs. I am not making any specific recommendations on what cuts the company ought to make if you were to decide to bring the company more in line with the industry metrics for companies of your size. However, the saving from making these kinds of reductions is substantial. I looked at several options for making these cuts just to see the dollar range of such reductions. In my first look I took the lowest savings approach and trimmed employees with the lowest pay from various departments. I did this knowing that you are largely union and to some extent you would do something of this nature if the cuts were made. I also looked at the other extreme and looked at consolidating department heads as part of the process. Finally, I just looked at a scenario where I used the average wages and benefits of all employees combined. Finally, for HFC construction and engineering I estimated the net savings if you were to use external resources instead of using those two groups. I estimated that the net savings from

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construction would be 30% and for engineering at 20%. Of course, if you actually used less manpower externally than the allocated labor from these groups the savings from outsourcing would be greater than this. One of the downsides to using internal labor for capital projects is that you pay for their down time which would be avoided with external vendors. The potential savings are as follows: Reduce Reduce 11 Positions 22 Positions Bottom up look $1.7 M $3.9 M Consolidate Span of Control $2.1 M $4.2 M Average Savings per Employee $2.1 M $4.3 M And if the right sizing for the company lies somewhere in between these two values, which is likely, then the total savings from a manpower reduction would be between $2.8 M and $3.2 M annually. It is clear to me that the proposed allocations are probably pretty close to the right allocations, although there are other ways to look at allocations that might result in a different answer. I examine one of these alternatives later in this report. But assuming that Click! ought to be paying for 100 employees with the right allocations it is fair to say that Click! is overstaffed by industry standards and ideally staff should be reduced. These kinds of changes are always hard to accept because its fairly easy to get used to the current staffing and the current way of doing things. But I have worked with at least a hundred companies who have made significant staffing reductions to be more competitive and all of them have been able to adjust and do well at the lower staffing levels. When you reduce staff things have to change, and this often incudes cultural changes and process changes. In many cases the best efficiency might be achieved by consolidating departments. I know that there are union issues to consider, but in the long run you have to structure the company in the best manner. What this scenario tells me is that if you make the decision to continue operating the company that you need to give serious consider to these kinds of staff reductions. If you are going to make full allocations then these kinds of cuts are necessary or else Click! goes back to the days of receiving significant annual subsidies from Power. These cuts would not fully cover the cost of making full allocations, but it would cover a significant portion of those new expenses, especially at the lower level of staffing. But even if you dont change the allocations this kind of change would greatly increase profitability to the point where Click could begin to pay back Power for building the network. I would like to point out that I was asked to not look at staffing levels in my study of three years ago. I believe that everybody understood that the business was being charged for fewer positions than actually were used at Click! and that raising this issue would have almost mandated a look at the allocations. But if I had made this kind of analysis then I would have made a similar recommendation to this one. A few years ago you had more cable customers and fewer ISP customers, but the results would not have materially different.

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Go Fully Wholesale Another possible scenario would be to go entirely wholesale. Under this scenario Click! would exit all of the business lines, would somehow distribute or sell the cable customers to the ISPs or to an external provider and would then bill for the cable customers in the same manner that you bill for an ISP data connection today. There are a number of examples of a fully wholesale network and that is a lot more common model than the hybrid retail / wholesale model that Click! currently is engaged in. For example, the pure wholesale model is, or has been used at Provo, Utopia, Chelan PUD, a number of smaller PUDS in Washington state and at Danville Virginia. Interestingly, while each of those businesses was created independently, they all ended up with a similar model and similar rates for access to use their network. This tells me that there is a natural market rate for wholesale access, which makes sense. The rate has to be high enough for the network owner to make a return on the network but low enough for the ISPs to make a profit. Selling a wholesale cable TV connection would function in the same way that Click! sells a wholesale data connection today. A monthly wholesale rate per customer would be established to give an ISP access to use the network to transmit cable signal. But there are a number of issues that would have to be worked out to transition to a fully wholesale business model:

1. Click! owns the cable customers today and youd have to figure out who would own them in the future. There are a number of potential scenarios for ownership:

a. Sell all of the cable customers to one ISP. As has been discussed elsewhere in this report, since cable loses money there is very little cash to be gotten from such a sale, and so its almost more a matter of who is willing to take and service the customers. There is a technical issue to keep in mind, which is that on the HFC network each ISP would have to have the identical basic channel line-up. They might be able to vary in digital channels.

b. Somehow distribute the cable customers among the ISPs. For example, an ISP could get a cable customer for whom they are already selling data.

c. Sell all of the cable customers to an outside party, not an existing ISP. While this sounds attractive, its hard to think who would take the customers since there is very little profit in the business line today.

d. Have the three ISPs establish a new company to take and operate all of the cable customers jointly.

e. Give customers a choice about who serves them. 2. Whatever the resolution of the item above, whoever ends up serving the cable customers

would have to have a franchise agreement and be able to buy programming from NCTC. 3. Somebody still has to operate the headend. There are several scenarios for this that are

separate from the issue of who owns the customers: a. Click! continues to own and operate the headend and charges a fee for doing so to

cover costs. This is the model used at Chelan PUD and was also used in the past at Utopia and Provo.

b. The ISPs jointly take over the headend and divvy up the costs somehow.

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c. One of the ISPs takes over the headend and charges the others for using it. The next question that would have to be answered is how much to charge for access to the network. The answer depends upon the functions that would still be performed by Click! and those that would become the responsibility of the ISP. Any rate would need to cover all of Click!s costs for offering the access plus pay towards the cost of the network. There is a wide range of possible ways that the two parties could split the responsibility for the network. Here are some of the options:

1. The ISPs take over everything at the customer including the drops. The ISPs would also take over the headend. Clicks responsibility would be to keep the backbone and distribution fiber operating.

2. At the other extreme, Click! could continue to take care of the network up to the customer premises. This would mean Click! would still install drops, for example.

3. And there are many variations in between and the network and maintenance functions performed by the parties can be negotiated.

For purposes of my analysis I looked at only one scenario. I looked at the case where Click! would essentially back-out of the cable business and would only offer the wholesale access, in the same manner that you do today for a wholesale data connection. I assumed that the ISPs would take over the following functions:

Billing cable customers. Customer service calls from cable customers. Installing a new customer. Responding to trouble tickets that are in the customer portion of the network (from the

drop to the customer site). Paying for and maintaining customer capex including settop boxes and DTAs. Paying for the programming. Meeting all regulatory requirements except probably for the annual HFC leakage tests.

I then built a forecast that considered the following:

It kept the number of employees that are needed to provide wholesale services. I also assumed that Click! would remain in the broadband business line.

It assumed that the ISPs would somehow take over the cable customers (not specified how).

It assumes that the ISPs would take over the cost of running the cable headend. Even if this did not occur, my assumption is that Click! would charge a rate that would compensate you for keeping this function. However, I didnt want to mix any profitability from this function into the larger question of if pure wholesale is a good business plan.

It assumes that the ISPs take over customer-related capex. It assumes that the ISPs take over installations and repairs at the customer premise. There was new revenue created to represent a monthly access fee for an ISP to transmit

cable TV over the network. In terms of bottom line performance, the three scenarios have the following net cash performance over ten years. These represent total bottom line cash flow after covering operating expenses, capex and internal debt. The first set of numbers is the results of the base retail study

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that was covered in my first report. As you can see, wholesale business does not perform as well as todays hybrid wholesale / retail. Retail Wholesale Status Quo $1.4 M ($16.9 M) Optimistic $7.0 M ($15.2 M) Pessimistic ($4.3 M) ($20.3 M) The main reason that wholesale performs so poorly is that the rate that you can justify charging for access to provide cable TV is low. In this particular model I used a monthly fee of $13 per cable customer per month. That is very close to the rate that is charged today at Chelan PUD. The rates at Provo, when they were last offering wholesale, was $12 per customer per month. I cant see a justification for charging much more than this. Even if you do, the bottom line impact of raising this rate to $15 is not much different than at $13. At the current cable customer count this new wholesale revenue would only produces about $3.4M per year in revenue, and this is not enough to cover all costs of the business. Further, the amount of cable TV access fees will reduce over time as the number of cable customers decreases. There is some possibility that if the ISPs were able to bundle cable customers that they would not lose customers as quickly as is happening to Click!. However, there is the opposite possibility that if Click! announced that were getting out of the cable business there could be a significant exodus of cable customers leaving your network. However, this scenario is not totally without merit since the wholesale revenues cover operating expenses and capex, and just dont cover the internal debt allocation. One can also take a look to see how this might look from an ISP perspective. Certainly it would be a daunting task for any one of the ISPs to fully take over the cable business. And after doing so one has to ask if they would really be that much better off. Click! is losing money on cable TV. It would be possible for an ISP to operate more profitably than Click! mostly through lower salaries and benefits and possibly by using fewer staff. But even run as efficiently as possible it is unlikely that cable could have much of a margin for an ISP. The main benefit to an ISP to pick up cable customers would be the ability to bundle, and one would think that over time this would probably let them get cable modem customers they might otherwise never get. But the downside to making the transition to be a full cable provider is probably that there are more costs than benefits. I looked at what the business might look like if just one ISP was to take over the cable business and pay Click! for wholesale cable access using the 2014 forecast. This estimate is made from the perspective of the books of the ISP. I am obviously making some guesses as to what their current performance is, but since I have many clients like them I think I am in the right range. One ISP Existing Data Revenue $ 3.860 M Existing Payment to Click! $ 1.923 M Other Existing Operating Expenses $ 1.358 M

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Current Margin $ 0.579 M Add Cable Revenue $20.068 M Less Expenses Programming $10.201 M Marketing $ 0.643 M Marketing Admin $ 0.877 M Customer Sales $ 1.029 M Install $ 1.995 M Dispatch $ 0.356 M Converter Inventory $ 0.327 M

Gross Margin $ 5.218 M Less Wholesale Cable Access $ 3.153 M New EBITDA $ 2.065 M Taxes, Interest $ 0.516 M CAPEX $ 2.500 M Cash Flow ($ 0.951 M) The biggest assumption in this analysis is that an ISP would be able to cut operating expenses by 30% compared to Click! due to lower salaries and benefits and due to being able to roll some of the needed functions into their existing business. What is obvious is that there does not seem to be a lot of incentive for an ISP to take over the cable business if they then have to pay for wholesale cable access to use the network. This scenario does not look particularly good for Click! or for the ISPs. Lease the Network I looked at a scenario where we lease the network to an outside party. From an operations standpoint this would look like the following:

Click! would only retain the staff needed to support Power. From the analysis done by the company this would require 27 employees, including the HFC engineering and construction groups.

The company leasing the network would get the existing retail and wholesale business lines. They would take over all of the revenues, but they would also pick up all of the expenses. They may or may not elect to use any of the existing Click! employees.

The lessee would be expected to maintain the arrangements with the ISPs to sell them access on a wholesale basis. I would imagine that there would have to be some cap negotiated that would limit rate increases that could be passed on to the ISPs. Even should the lessee be one of the ISPs they would be expected to sell to the other ISPs.

However, the lessee would be free to buy the customers of any of the ISPs. The lessee would take over responsibility for the customer portion of the network. They

would be expected to do all installations and repairs of the portions of the network that is their responsibility. Obviously since the network is going to be somehow divided

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between Power and the lessee this would have to be very specifically defined. The lessee would be responsible for capital expenditures for their portion of the network, and for all expenditures at customers.

There would be a lot of operational issues to work out due to having two sets of technicians being able to work on the network. However, there are hundreds of examples of companies nationwide who share networks and the processes for defining the roles of the lessee are fairly straightforward. The hardest question to answer is how much would be a reasonable amount to charge for a lease. In this case, the lessee is not just leasing the network, they are also taking on all of the existing Click! business lines and customers. While they will receive all of the revenues from this effort they also take on all of the costs. One way to look at the reasonableness of a lease rate is to look at what the business plan for the lessee might look like. And so I looked at two situations where the lessee is one of the ISPs and where the lessee is some external party. I had to make some assumptions, but the analysis looks like the following: If ISP Non-ISP Is Lessee Lessee Existing Tacoma Data Revenue $ 3.860 M $ 0 M Existing Payment to Click! $ 1.923 M $ 0 M Other Existing Operating Expenses $ 1.358 M $ 0 M Current Margin $ 0.579 M $ 0 M Cable Revenue $20.068 M $20.068 M Broadband Revenue $ 1.474 M $ 1.474 M ISP Wholesale Revenue $ 3.846 M $ 5.769 M New Revenue $25.388 M $27.311 M Less Expenses Not Have to Pay Click! ($ 1.923 M) Programming $10.201 M $10.201 M 70% of Existing Click! Expenses $ 5.228 M $ 5.228 M Net New Expenses $13.507 M $15.430 M Gross Margin $12.460 M $11.881 M Less Annual Lease $ 5.000 M $ 5.000 M New EBITDA $ 7.460 M $ 6.881 M CAPEX $ 2.500 M $ 2.500 M Taxes, Interest, etc. $ 1.865 M $ 1.720 M Cash Flow $ 3.096 M $ 2.661 M

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There are some significant assumptions made in this example that must be explained, but the bottom line is that it is important that whatever is charged for leasing the network makes financial sense for the lessee. When you go back and look at the first Provo sale you can see that the City set the annual debt payments higher than could be afforded by the ISP that bought the system. If you were going to consider leasing the network it would have to be at rates that were affordable to the lessee and that would give them assurance of paying you the lease and still making a profit. Here are the key assumptions in this simple analysis:

In looking at the existing ISPs I divided current customers by 3 to represent a typical ISP since they are all roughly the same size in data customer counts.

I have assumed an average revenue per customer of $50 per month for an existing ISP. I have further assumed that after paying Click! and their other operating expenses that a current ISP would have about a 15% margin. I doubt we are ever going to know this number, but I think we can assume that there is a positive margin.

Probably the biggest assumption is that a lessee could operate the business for less than Click!. In the above calculations I assumed that the lessee could cut non-programming expenses by 30% compared to Click! This might be the combination of a number of factors such as lower wages and benefits, taking advantage of the economy of scale of already having existing employees, etc. If a lessee cant operate the business for less expense than Click! then the leasing idea probably cannot work.

I have assumed that the lessee would pick all customer related and headend related Capex.

Assuming that the estimated numbers used in this illustration are in the right range, this analysis tells me that an annual lease in the range of $5 M might be reasonable. A lease arrangement would be a little less lucrative for a provider who is not an ISP, unless that provider brought an economy of scale and could further reduce expenses. One would ideally wish that the lease amount could be based upon some industry metric, but I cant think of any similar situation that would apply here. The lease needs to be set at a level that a lessee can afford, and that amount is probably going to vary by lessee. There are a number of issues associated with leasing the network instead of selling the customer base and the network, both pros and cons.

The network continues to be owned by Tacoma Power and the lessee is just leasing the ability to use the HFC portion of the network plus share in some fiber pairs on the backbone network.

The biggest hurdles facing a lessee are operational. The lessee would be taking over parts of the network and also taking over servicing and selling to the cable TV customer base. They would also take over selling wholesale to the other ISPs. This would be a daunting task for any company to undertake and require a significant expenditure in terms of vehicles and other capital as well as hiring a lot of new people. I think that this could only work for an existing ISP if there was a lengthy transition period where some Click! staff stayed on board to fulfill the needed functions. This could happen faster with an outside non-ISP buyer, but there would still be a significant transition period needed.

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There are also asset issues to work out including things like ownership of settop boxes and DTAs.

There are also regulatory hurdles such as the lessee having a franchise agreement with the City, being able to buy programming from NCTC, etc.

One might suppose that there would be a one-time drop of customers that would occur when it was announced that the cable TV customers were going to be given from Click! to somebody else.

All of the issues concerning sharing the network between Power and the lessee would have to be worked out.

Youd have to define what happens to the customers, the network and the business should the lessee fail to make the required lease payments (similar to what happened in Provo).

There would be a substantial transition cost for the lessee and a significant cost for Click! to downsize to this business plan.

If the company finds a potential buyer / lessee for the system you can quickly compare the value to the company of leasing versus an outright purchase by looking at the net present value of the lease payments. For instance, this table shows the NPV of lease payments of various annual amounts that also assume a 5% cost of money for Tacoma Power. Lease Amount NPV @ 5% $4,000,000 $30.9 M $4,500,000 $34.8 M $5,000,000 $38.6 M $5,500,000 $42.5 M This table demonstrates that a lease arrangement could generate far more cash flow and value for the company than an outright sale. This looks to me to be a very viable option. Click! gets totally out of the telecom business and continues to use the network to serve Powers needs. And below I show that the ongoing cost to operate the network for Only Power would be over $6 M per year and a lease would cover most of this cost. A lease would let the City monetize the prior investment, would make sure that customers were not stranded or abandoned, and would provide the lowest ongoing net cost for operating the network. Walk Away One scenario I was asked to look at is what would happen if the company was decide to just walk away from Click! This scenario would be basically making the assumption that nobody would want to buy Click! as it exists today with the hybrid business of retail cable and wholesale data. And I will admit that is not an impossible situation. Click! is unique in the country and that might scare away most buyers. However, one would think that somebody might suggest a firesale price, but under this scenario that would be rejected. Click! management made an estimate of the positions that would need to be maintained in order to continue to operate the network on behalf of Power. The cable customers and ISP customers would be disconnected and the entire network used just for Power.

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The estimate showed 27 employees needed. But 9 of those needed are in the HFC Engineering and HFC Construction departments that are already a part of Power. This would mean that only 18 employees would be retained who are today in the Click! budget. Quantifying the remaining cost to Power for operating the network is pretty straightforward. Many of the Click! departments would disappear completely. The only ones left consist of technical employees and the cost of operating those employees. I assumed that half of the cost of Internet bandwidth would still be incurred on Powers behalf. There would also continue to be a capex budget although it would be far lower than today. But the network would still need to be maintained and occasionally updated in the future. I estimated the annual Capex to be those items that are already being done Power as well as 10% of other existing Capex projects. The results of this analysis are as follows: 2014 2015 552400 $0.1 M $0.2 M 555300 $1.4 M $1.4 M 555400 $1.1 M $1.1 M 555500 $0.9 M $0.9 M 555600 $1.0 M $1.0 M 562700 $1.6 M $1.6 M 562800 $0.3 M $0.4 M Total $6.4 M $6.5 M Capex $0.4 M $0.5 M Cost to Power $6.8 M $7.0 M There are obviously a lot of significant issues to face if you were to decide to walk away from the business.

Political Ramifications. There are obvious political ramifications from deciding to exit a business line. Trying to get this approved probably means having to have the conversation about the true cost and losses that are occurring in operating Click!.

Stranding Customers. Its never an easy decision to leave any product line since it inevitably strands some customers. For example, there may be Click! customers in an MDU or other location where Comcast might not quickly pick them up if you turned off service.

Putting the ISPs out of Business. Shutting down would also mean shutting down the ISPs, and I am sure there would be political and other issues associated with that.

Loss of Revenue. Its not unusual that once a company announces that it is closing that a lot of customers no longer make payments. It wouldnt be surprising to see the same thing from the ISPs.

Cost of Winding Down a Business. There is always a significant cost of closing down a business. There are things like employee termination costs, paying for contracted services

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that are no longer used, paying staff to stay on to effectuate the shut-down, etc. With no analysis behind the number, my gut tells me that the one-time costs for ceasing operations might be in the range of $3M - $5M.

Eliminating Employees. Its never an easy decision to eliminate a lot of employees. Sell the Business One of your options is to sell the business to somebody else to operate. And this raises two questions: is there somebody who might buy it, and how much might it be worth? Click! is a unique telecom business and there is nobody else structured like you are. This fact alone means that most potential buyers are not going to be interested in the business. You have flipped the world around compared to the way that most carriers look at the world. Nobody makes money at cable TV and instead they make it with data and voice. And so the normal buyer would probably not be interested in trying to buy a hybrid retail/wholesale business. You are also harder to buy than many companies since the business is so physically entrenched and integrated into the Power network and infrastructure. It is not that unusual for a buyer to purchase a wireline network that is meshed with other providers, but it would be unusual to buy a network that has physical assets inside of Power facilities. But there are several potential buyers for the business:

The ISPs. They would save money by owning the network and not having to pay you to lease access. Further, they could do the things your staff does for less since they will have a lower wage and benefit structure. Of course, these are small companies and probably do not have much access to capital, but I can think of ways where they could buy the business and pay you back over time out of revenues. The ISPs would face many issues like obtaining programming, staffing up, transitioning the billing and customer records, migrating over time out of Power facilities.

Another small or mid-sized cable company. Another potential buyer would be somebody already in the business. Of course, for this to be attractive to a cable buyer they would also probably consider buying one or more of the ISPs.

Comcast. When I looked at your valuation three years ago I said that Comcast was a natural buyer of the system. They have purchased several other municipal systems in the past, but I have also worked with a few systems where they did not want to buy the property. The biggest advantage to Comcast three years ago was that Click! had a 35% discount on cable rates compared to surrounding communities. This gave Comcast an incentive to buy the network since they would then be able to raise rates to market. However, Click! has undertaken those rate increases and by 2014 your rates will be at market, so this incentive has disappeared for Comcast.

However, Comcast still might be interested, but for a different reason. While Comcast has a larger margin that Click! for offering cable TV, if for no other reason than they own a lot of the programming, they still are not very profitable on the cable product. However, they have very high margins in the cable modem business and the voice business and one

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might think that they might be interested in buying your network just to put the ISPs out of business. But frankly, they could do better by buying out the ISPs directly if they just want the customers. So its not as clear to me that Comcast would be interested in buying the network as they would have been three years ago. And even if they do, the price they would be willing to pay will have dropped significantly due to you bringing the cable rates into parity.

Three years ago I estimated the value to a neutral buyer to be in the range of $27 Million. A neutral buyer is one that would buy the customers and the network and that would that compete side-by-side with Comcast. However that valuation was based upon your financial reports based upon current allocations. If I was to evaluate the business based upon a scenario that has full allocations the company would be losing money, which would lower that valuation. Companies that have a positive EBITDA (Earnings Before Interest, Taxes, Depreciation and Amortization) are largely valued based upon a multiple of those margins. Its not quite as simplistic as that since a buyer will always dig to understand if there are items in or left out of the margin that would affect how the company would perform after they buy it. But aside from such adjustments, the process of valuing a company with a positive EBITDA margin is fairly straightforward. But valuing a company that doesnt cover costs is a far different endeavor. Generally, in order for a company in that situation to get a decent valuation they must demonstrate to a buyer that they have undertaken steps that will turn the company back to positive margin. In those cases, if the story is convincing enough a buyer may recognize the turnaround of margin in their offer. If a seller cant make such a case, then any offer they get is either going to be one to get the assets or some sort of a fire sale offer. My valuations of the company in the past were done using both the book allocations and also contained some aspects of telling the story of how you were turning the company around. And in fact, through rate increases and other efforts you have greatly improved the Click! bottom line compared to four years ago. But its a harder story to tell now. You will have brought your cable rates to parity by next year. You have a Plan B with the ISPs to hopefully sell more data, but I doubt a potential buyer would put much faith in that since it is out of your control. I also cannot ignore the allocation issue. Your own internal analysis shows that you should be allocating a lot more employees to Click! than is done in the budgetary process. And once those full allocations are recognized, the business has a significant negative margin each year. It is likely that any buyer who wanted to buy the company and retain the employees would figure out the allocation issue during their due diligence. In the budget you only account for around 60 employees in Click! after allocations to Power, but your allocation study says this should be as

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many as 100. A potential buyer would almost certainly come to understand this discrepancy when they looked to see how many employees they would need to operate the business. And in doing so they would end up ignoring the Click! financial performance and make their own analysis of what you are earning. And so I think Click! is already in a position where a neutral buyer is going to value the business on something different than your margins. And once you are in this position it becomes very difficult to set a value on the business. It basically becomes a buyers market and the typical buyer is going to look to get a fire sale price for the company. The situation gets further complicated by the fact that a commercial buyer would not be likely to take your staff at the current wage and benefit levels. And so they would likely either replace those employees with their own staff at a lower cost or they would offer positions to some of your employees at a lower compensation. And after doing this they would probably be able to make money with your revenue stream where you cannot. But a buyer who is going to do this is not going to reward you for the fact that they can restructure the company to make it more profitable. We can look at similar situations in the industry to see the kinds of sales prices that other companies in the same situation have been able to get. There are a few examples.

Alameda built a network that cost them more than $110 M. It had negative margins and Alameda sold the system to Comcast for $17 M. Alameda was a full retail provider and at the time of the sale the Alameda cable and cable modem rates were about 20% below the Comcast rates.

Provo spent something like $90 M on their FTTH network. Provo had sold the network to one of their IPSs (similar situation to yours) a few years ago for $39 M and the City carried the note. However, the ISP was unable to make the payments and Provo ended up with the network after default. The City just sold the network to Google for $1. This is obviously such a one-off deal that it doesnt say anything about the value of the business. But obviously the City didnt think it was worth much and they have been unable to find a buyer for several years before the Google deal.

Over the last ten years there have been probably thirty competitive overbuilders who have sold networks that were not making money. These networks included long-haul fiber networks, middle-mile networks and last mile networks. But all of the sales were done at asset valuations and the typical sales price was around 5 cents on the dollar of the assets.

What these examples show is that selling a network at asset valuations means taking pennies on the dollar from your original investment. The Alameda example is a little different in that Alameda was losing money, but Comcast seemed to reward them for the fact that Comcast would be able to raise rates after a purchase. The Provo initial sell is also unusual in that the City sold the network to Veracity, one of the wholesale ISPs on their network. And that ISP was undercapitalized like the ISPs on your network and they were unable to make the payments on the debt. This tells me Veracity overpaid, which is easy to judge in hindsight.

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The conclusion of this discussion is that there is no real way to predict what somebody might offer if they perceive that they are just bidding on the assets of the business. One has to imagine that anybody who wants to buy your network would plan to be a retail service provider and they would already understand that its very hard to make any money at cable TV only as a retail product. And so, such a buyer is not going to place much value in buying the retail cable TV data stream, although that comes along with the purchase. But with that also comes a lot of cost. This is why I characterize that kind of sale as an asset sale. The buyer gets the whole business, but they are really just bidding on the assets since there is no margin in the existing revenue stream. In conclusion, I cannot predict the kind of offer you might get from a company who perceives this as an asset sale. But my guess would be something between $5M and $20M, with it being more probable to be at the lower end of that range. Finally, I ask the question of there is anything that the company can do now to increase the value. This is the same question I asked three years ago, and at the time the answer was that you could get to a positive margin by increasing rates, cutting costs, going full retail, etc. Earlier in this report I discussed the impact of reducing the labor force to bring the company in line with the industry ideal metrics for employees. The impact of doing that varies according to how many equivalent customers the company has. But in looking at all of the scenarios it looks like a reasonable approximation of such a change might be a reduction of costs in the range of $3M per year. If the company was to undertake this sort of change then you would be impacting the value of the company by demonstrating to a potential buyer that positive margins are possible with the business, even while structured as a retail/wholesale business model. We can look at how this might create value in the company. The following analysis starts with the revenues and expenses from the analysis I did in the Phase I report that looked at the impact on the company of implementing the proposed allocations. These numbers include those allocations except for the amounts from HFC engineering and construction, with the assumption that you would use external firms for this kind of work. A simple valuation analysis using those numbers is as follows: 2013 2014

Revenue $26.7 M $27.5 M Expense $28.5 M $28.9 M EBITDA ($ 1.8 M) ($ 1.4 M) Adjustments Reduce Labor $ 3.0 M $ 3.1 M Adjusted EBITDA $ 1.2 M $ 1.7 M Low Valuation Multiple 6 6 High Valuation Multiple 7 7

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Low Valuation $ 7.0 M $10.0 M High Valuation $ 8.2 M $11.6 M While these are still not very high valuations, they do establish a higher basement price than an asset valuation. But under any case the company is not worth much more now than these low values. Anybody who would bid more than this would be overbidding per industry norms. A Different Look at Allocations I do have an alternate idea of looking at allocations that is different than the internal study that was recently done. That study looked at allocations on what I would call a fully allocated fully-distributed basis. Each department was allocated between Power and Click! based upon an analysis of the work performed by each group for each entity. And certainly that proposed allocation is accurate for what it is which is a snapshot in time of what the allocations ought to have been at the time that the study was done. However, one of the issues in going to this kind of allocation is that it pretends to be very accurate, but I reality allocations done on a fully distributed basis change over time. And so if you are going to adopt this kind of allocation it almost obligates you to update the allocations fairly often. I am very familiar with the process used to make these allocations because some states require utilities to use this kind of allocation to assign cost between different arms of the utility, be that electric, water or telecom. And cities that use this method of allocation generally recalculate the allocations every year or every second year at most. And so going to a fully allocated allocation implies some kind of obligation to keep the allocation updated. And that means a lot of work and cost every time the allocations are examined. One of the other downsides of this kind of allocation process is that the allocations change over time and it thus impossible to predict from year to year how much overhead will flow to each entity. That is a bit of a nightmare for ratemaking purposes. And so I dont see many utilities adopting that kind of allocation when they are not required to do so by law. Instead they make reasonable allocations periodically and then live with the result for a fairly long period of time. Click!s current allocations are done on that sort of basis. There might have been a time in the past where the current Click! allocations were somewhat accurate for the effort being expended. If so, over time those allocations have strayed from reality as is witnessed by the proposed allocations. I would propose that there is another way to look at doing allocations that can be defended in the same manner as the proposed allocations. And that would be to look at incremental positions required. The company gave me an analysis that showed that there would be 27 employees required to operate the network for Powers purposes if Click! was to go away completely. This consists of 9 employees from HFC construction and engineering as well as 18 people who are currently in the Click! budget.

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I can argue that you should be able to use that kind of analysis for establishing the allocation between Power and Click! I could make a valid cost accounting argument that Power ought to pick up labor that would be allocated to them if the rest of Click! was to go away. This sort of analysis is looking at allocations on an incremental basis rather than on a fully allocated basis. This kind of allocation is somewhat arbitrary and open to abuse if only one of the two parties was to make the allocation. However, if the two parties together were to agree on the amount of labor that ought to be incrementally allocated to Power then this is an allocation method that ought to withstand external review. The equivalent incremental number of needed employees might well be something smaller than the 27 that was given to me, but the idea is the same regardless of the method of doing it. This method can be defended mostly through the argument that if Click! went away that Power would continue to get the same costs afterwards as they had before. On that basis its hard to argue that those are not valid Power costs. Conclusions and Recommendations Selling the business looks like a bad option. If you get an offer in the range that I predict, something under $20 M, then selling the business outright does not look like a very attractive option. I think there would be substantial one-time costs of winding down the business in terms of employee severance and other costs that would lower the net from a sale. It also seems like the public relations downsides are also substantial. However, if you get a high enough offer sale could still be a viable option. Changing to a wholesale model does not look like a good idea. I looked at the idea of Click! exiting the retail cable business and putting it on the same basis as the wholesale data business. This option does not look particularly good for Click! or the ISPs. Leasing the network could be a good option. I also looked at an option where one party would lease the entire network from Click! and would take over all business lines. This option looks like a very decent option compared to selling or going completely to a wholesale model. The cash that could be derived from a lease would largely offset the cost of operating the network for Power purposes. The most likely lessee would be one of the ISPS. This cannot be done with more than one party or it ends up looking like the wholesale scenario. There are substantial operational issues that would have to be overcome to transition from todays model to the lease, but they are not insurmountable. Keep Operating on the Status Quo. My Phase I report looked at the outcome of continuing to operate Click! in the same manner as today. That analysis showed that under a number of different scenarios that the business would be able to continue to operate for around a decade and

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more or less break even during that time. However, that is only true if the company maintains the current allocations. The financial reality of the business is better demonstrated by looking at the results of the recent allocation study that was done to see what allocations probably ought to be. Under those scenarios Click! is still getting a significant subsidy today and it is being done by allocating significant amounts of labor to Power. Should those new allocations be implemented Click! would show significant annual losses. There are steps that the company can take to lower these losses. I have done an analysis that shows that Click! has too much staff compared to the industry ideal compared to other companies of your size. This analysis is not quite as clear as it would be if you were totally in the retail business because one has to make an assumption about how many equivalent customers you have in the wholesale ISP business compared to the cable business. But I have calculated a range of equivalent customers and the business looks to have somewhere between 11 and 22 more employees than would the ideal company of your size. Those figures assume that allocations are being done properly and that Click! was paying for 100 employees in its budget. These kind of reductions would equate to a cost savings in the range of $3 M per year and would bring Click! a lot closer to breakeven, even with full allocations. So my recommendation is that if the company decides to continue with the status quo that you do so with a full recognition that there is still a substantial subsidy for Click!. By making that recognition I would also then recommend that the company undertake steps to reduce the size of the subsidy, and the biggest step towards that goal would be to reduce employees. Reducing employees is never easy, but Click! has more employees than can be justified by your size or your revenue stream. And the situation is even further acerbated by the fact that the salaries and benefits at Click! are very high by industry standards. It is never easy to cut employees, and staff will tell you that they cant function with less people, but I have worked with over 100 companies that have undertaken significant staff reductions to improve profitability and they all were better companies after the reductions. Reducing staff would clearly make you re-examine culture and processes and would force the company to be more efficient moving forward. It would probably prompt you to outsource more functions for a net savings and to streamline processes. So my bottom line recommendation is that if you want to keep operating at the status quo that you undertake an effort to reach breakeven while recognizing the new proposed allocations. My analysis has not been to the detail where I can make a lot of specific recommendations on how to achieve breakeven. I have suggested staff cuts as one way, but there would have to be others that would have to include lower capital budgets and other operational cuts. I firmly believe that Click! ought to be able to find a way to achieve breakeven even with the proposed allocations, although the resultant company is going to look a lot different than the Click! of today. I see two reasonable alteratives for the business. Either lease the whole network to one party, or continue to operate the business but cut staff. Leasing returns the highest amount of cash to the bottom line and under a lease scenario even most of the cost for Power to maintain using the network would be covered. But it looks like continuing to operate, even with staff cuts will result

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in an ongoing subsidy to Click! and the company will need to get comfortable with the permanent subsidy.