There are three primary ways to invest in towers: invest in one of the public tower companies, invest in wireless carriers who might ultimately sell or spin-out their tower portfolio, or buy towers directly. Among the public tower companies, we see the best opportunities in the US (AMT and SBAC), Mexico (Telesites), and Indonesia (Protelindo and TBIG). We think these will be great companies to own for a long time; however, there may be more upside to wireless carriers that have yet to monetise their towers, particularly in China (China Unicom), Indonesia (Indosat), and India (Reliance). Within the private market, we see the greatest returns to building towers in Indonesia, followed closely by Brazil, Chile, and Mexico.
How to value towers across different geographies? Enter the single tower model
As the public tower sector has expanded globally, we needed a framework to compare tower investment opportunities across markets (not all towers are created equally). The return that a tower can offer is primarily a function of two things: the colocation rate and tower economics. Subtle differences in either of these can drastically impact the value of a tower.
New Street Research built a Single Tower Model to compare the colocation growth, economics, and returns of towers across geographies. We analysed data consumption trends, base station density, smartphone penetration, and concentration of carriers to estimate colocation growth. We then analysed differences in leasing rates, escalators, pass-through expenses, and construction costs to compare tower economics. Finally, we factored in country and regulatory risk to build a ranking system of risk-adjusted tower returns. Our model suggests that Indonesia is the most attractive market, followed closely by Brazil, Chile, and Mexico. See exhibit one.
Exhibit one: New Street Research single tower model details
Colocation growth is highest in emerging markets
The best markets tend to be characterised by high colocation rates, with strong demand for base stations and limits on the supply of towers. There is a clearer trend of higher network density in developed markets, where data consumption per sub is high, than in emerging markets, where data consumption and smartphone penetration lags by a wide margin.
Most developed countries (where usage per sub is higher) have a ratio of total subscriber per base station of less than 1,000, whereas most emerging countries have a ratio above 2,000. Over time we would expect data consumption to converge across most markets and drive similar base station density; the bigger driver of differences in colocation rates will be the number of carriers in a market and the factors that drive tower supply. In emerging markets, we expect growth of 0.13-0.20x tenants per tower annually, increasing tenancy ratios by a CAGR of 10-15% over the next 10 years. In developed markets, we expect slower colocation growth of 0.05-0.10x, increasing tenancy ratios by a CAGR of 5-10%. See exhibits two and three.
Exhibit two: New Street Research estimated base station density by market
POPs per base station
Exhibit three: New Street Research estimated growth in towers and colocations by market
A market with three to four carriers is the sweet spot for colocation
A healthy and competitive MNO market ensures that tower companies have pricing power to capture amendment and colocation activity on towers effectively. Additionally, a stable MNO market generally results in lower company credit risk, improving the security on cash.
In markets where there are too many carriers, such as India, there is a high threat of consolidation, which could negatively impact colocation rates or dampen colocation growth. Additionally, markets with very uneven distribution of market share can pose problems for two reasons:
1) the dominant carrier tends to have higher purchasing power and less of an incentive to invest; and
2) the smallest carriers typically struggle to cover their fixed costs and have the potential to consolidate or underinvest in their networks.
High colocation growth doesn’t mean anything if you can’t capture the economics
Tower economics vary greatly across markets. In general terms, markets that developed through the creation of independent tower companies tend to have more profitable financials models and have more favorable regulatory dynamics than those that have been created primarily through telecom companies selling their towers. This is particularly the case in markets where the selling telecom company retains ownership in or control of the tower operator. The difference in market origins are reflected in higher lease rates, better monetisation of new equipment on towers, and higher colocation rates in markets that developed independently.
Market rents and escalators vary by region
New tenant leases differ significantly across regions and so do the rates at which they grow. In general, starting rents (excluding pass-through expenses) tend to be highest in the USA, Europe, and Africa and escalators tend to be highest in markets with high inflation.
Escalators in the US and India are fixed (usually between 2-4%). In some markets, such as Ghana and Nigeria, it is common for a portion of the tenant lease to be denominated in USD and escalated at a fixed rate of 3-4%. Indonesia is mostly fixed with a 0% escalator, with a portion of their rent (20-30%) escalating at CPI. Escalators in most other markets are linked to CPI.
Cost structures vary dramatically by region
The main costs for tower companies are land rent, energy, and other operating expenses such as insurance, property tax, security and lighting. Across the global landscape, the tower operator either bears all of these costs or passes through some of these costs to the tenant. For example, in the US and parts of Europe, the tower company bears all expenses but complexity is minimal due to the reliability of the electricity grid. In LatAm, land costs are typically passed through but the business model remains similar. But in Africa and Asia, many towercos operate the power solutions at cell sites, with variable fuel costs sometimes passed through, sometimes fixed as part of a power-as-a-service proposition. This significantly increases the complexity of the business model and exposes the towerco to greater volatility in their cost structures.
This has huge implications for tower cash flow margins; markets with greater pass-through expenses are much more profitable.
Construction costs are highest in developed countries
Construction costs also differ across geographies, with the US the most expensive (~US$250k/tower), and India the least expensive (~US$40k/tower).
Costs are dependent on tower size and quality, local cost of steel, land value (if purchased rather than rented), energy and fuel capex, and labor costs. Based on our assumptions for tower cash flow and capex requirements, we estimate towers in Indonesia and Thailand generate the highest initial cash flow yields across the global landscape. See exhibit four.
Exhibit four: New Street Research estimated day one Tower Cash Flow yields
%, excluding pass-through expenses
Tax, finance and regulatory considerations
We view the US as the most attractive regulatory market for tower companies, with REIT structures that allow for low taxes without many restrictions, and policies that encourage the development of towers. Other markets either do not have REIT structures which tower companies can utilise, or have REIT structures that do not offer the same tax benefits as those in the US. Korea is an example of a weak REIT environment, with Lotte Shopping Co. choosing to list in Singapore to avoid high acquisition taxes and continued payment of corporate taxes. The one exception outside the US is DIF in Thailand, which operates as an infrastructure fund with similar tax exemptions.
Finally, the cost of capital has a significant impact on the returns of a tower. Across the countries we analysed, ~60% of the value comes from the terminal value, on average, which is very sensitive to the cost of capital. We see the highest costs of capital in Africa and Asia, followed by LatAm, then the US and Europe with the lowest costs of capital.
Putting it all together
Based on our assumptions for colocation rates and tower economics in each market, we believe tower investors can earn the greatest returns in Indonesia, followed by a host of other South American countries, then Turkey and the USA.
Despite the high top line growth rates in African markets, we do not believe they offer more compelling returns due to the high costs of capital and geopolitical risks associated with the countries. We see Europe and China as the least compelling, due in large part to having the slowest revenue growth across the markets we analysed. See exhibit five.
Exhibit five: New Street Research global market ranking by tower returns
%, IRR less WACC
Your guest columnist, Spencer Kurn
Spencer Kurn is a founding partner of New Street Research, LLC, and heads tower company research for the organisation. Prior to starting New Street in 2012, Spencer was a member of the Telecom Services Equity Research Team at Credit Suisse. Prior to joining Credit Suisse, Spencer was a generalist investor on the International Equity Research team at Putnam Investments. Spencer holds a B.A in Economics from the University of Pennsylvania.
