Why CALA is still an attractive investment platform

Moderated by Marco Cordoni, Senior Partner within Analysys Mason, the investor panel at the fourth annual TowerXchange Meetup Americas featured Ariana Batori, Investment Officer at the IFC, Beth Michelson, Senior Managing Director, Cartesian Capital, Sachit Ahuja, VP Business Development at Tillman Global Holdings, Peter Bendall, Senior Vice President, Macquarie Infrastructure and Real Assets (MIRA) and Nick Del Deo, Analyst, MoffettNathanson. Here is a summary of their reflections on the investibility of the Central and South American telecom tower markets.

Investors on stage offered an overview of the pros and cons of doing business in CALA and looked at the specific dynamics of Central America, established markets such as Mexico and Brazil, diversification trends beyond macro towers and the critical factors to achieve successful exits.

The tower model is demand-driven. Towercos need MNOs to believe in the model and release search rings. Therefore any macroeconomic turbulence affecting the level of network investment by MNOs will directly impact the tower build and leasing demand. And forex weakness will directly impact the amount of equipment they are able to buy in U.S. dollars (or in any other strong currency).

Since the tower industry is governed by long term planning and 10-15 year contracts, towercos tend to have some level of protection against forex exposure thanks to contractual escalators, although this doesn’t really help in the short term.

Strong MLAs should include inflation-related clauses that can go as far as including pass-through costs for inflation.

For U.S. equity investors depreciation is an issue, while on the debt side the key factor is the ability of the towerco to actually serve that debt. If a towerco loses 20% of its ability to serve its debt as a result of forex depreciation, and if economic turmoil puts a halt to carriers’ build to suit (BTS) programmes, then investors (and the towerco) could be in a perfect storm. And while this might seem a catastrophic scenario, some towercos in CALA have survived despite being greatly affected by forex over the past couple of years.

When it comes to Central America, the region is often seen as having a business model closest to the U.S. golden standard. And the investments made into local towercos have proven to be very positive.

Central America is a U.S. dollar based market, which is one of the greatest advantages of doing business in the region as opposed to South American countries. In fact, investors stressed that making a successful exit in markets where transactions are denominated in local currencies isn’t easy under the current financial climate.

On the other hand Central America presents limitations to growth due to the size of the markets, the presence of less carriers, and lengthy processes to build scale. Patience is the essence in the less dynamic but investment-proofed Central American region, and the payback is relatively assured given the absence of forex risks.

Some investors noted that up until a few years ago, towercos could build a tower in Central America for half the price than in the United States and generate three quarters of the cash flow. And this explains why Central America has been a target for towercos since the early stages of the expansion of the model beyond the United States.

Cartesian’s Michelson discussed their experience in Nicaragua with NMS, which has enjoyed tremendous growth in the country. In fact, in spite of the country’s notorious instability in other sectors, the telecom infrastructure industry is a very stable and safe one due to the fact that local communities tend to understand the importance of mobile connectivity.

In spite of the many expectations regarding AT&T’s entrance in Mexico, so far the carrier’s entry into the market hasn’t yielded many positive results for towercos. However, ÁLTAN Redes is likely to improve the flow of activity for towercos, and this is particularly true at this stage for entities with sizeable portfolios such as American Tower and Telesites.

Colombia is generally seen as a crowded market and one where most investors don’t feel comfortable at the moment. Panellists noted how there’s a “race to the bottom” in lease rates and construction costs at the moment which isn’t healthy for the tower sector. And since Colombia is still working on its much awaited 700MHz spectrum auction, deployment plans have been stalling and the market hasn’t grown as much as towercos expected upon entering.

Brazil is still seen as a very interesting market in spite of its recent financial crisis - which is just now improving. With three large players (AMT, SBA and GTS) and a long tail of smaller providers, the market is bound to experience consolidation waves in the future. Brazil presents a relatively efficient operating environment and towercos have been able to add new towers to their portfolio at low incremental cost.

Investors noted how Mexico, Colombia and Brazil are extremely competitive markets in which to operate. And the attention of towercos and investors is shifting to less obvious options such as Peru, Argentina, the Dominican Republic and El Salvador, to name a few.

It may be stating the obvious but the quality of assets is crucial when it comes to looking for a successful exit. Sophisticated towercos will walk away from deals rather than overpaying for “bad towers” and this is particularly true in CALA where there’s often a mismatch between the expectations of the seller and the offer price of the buyer.

Investors agreed that the CALA tower sector is moving towards a consolidation phase and expects acquisitive towercos such as AMT, SBA and Phoenix Tower International (PTI) to seize high quality portfolios across the region.

In reality, portfolios aren’t really evaluated in their entirety but literally analysed tower by tower. Investors noted how they won’t buy mediocre, unlicensed sites, and expect each tower to be built with high engineering standards.

Investors and management teams need to work during the course of the life of a towerco to meet all the characteristics that make a portfolio attractive to a buyer. The rule is actually very straightforward. A seller won’t achieve the full expected multiples unless everything is done just right.

On top of the specific requirements of a portfolio, the macroeconomic conditions of the region have forced some investors to rethink about their exit strategy, as the forex crisis in some countries negatively impacted their chances to obtain the desired multiples.

While carriers push for towercos to start offering more than just towers, investors and towercos often conclude that the economics and actual management of small cells, fibre and data centres is fundamentally different from the ‘steel and grass’ tower business model.

The tower industry in CALA is ruled by a straightforward real estate model and most towercos do like to keep things as simple as possible. And opinions on stage couldn’t be more diverse.

In fact, some panellists underlined that they felt there was no synergy between leasing towers and managing a small cell portfolio and therefore no industrial logic behind the diversification, especially in light of the stark economic differences. In order to run small cells, operators need to build a network beforehand, invest to add new tenants and simply accept a riskier model.

On the other hand, some investors agreed that the concept of towercos becoming a one-stop-shop to carriers does make sense. But the question is whether than can be done with just one management team. In fact, towers, small cells and fibre all require a very unique set of skills and know-how. And they went on to note that while the return expectations aren’t the same for towers, small cells and fibre, the diversification could still be attractive if the models are comparatively profitable.

A practical example was offered by Tillman’s Sachit Ahuja who discussed their joint venture with JCDecaux. The partnership is granting Tillman access to over 1.5mn billboards which can be utilised to host small cells. Ahuja noted how the business model is fundamentally different in terms of both revenues and growth expectations but it’s not less interesting for them, especially in light of the needs to add capacity in urban environments.

Operator-led towercos are a relatively new trend and one that investors don’t necessarily appreciate. From a business model standpoint, many of these towercos need to make a considerable transformation to become commercial entities whose core business is leasing and co-locations. And this is particularly crucial and challenging when management teams of operator-led towercos come from an MNO background.

Another challenge this type of towercos have to deal with is the acceptance of other MNOs of their independence. Only when towercos exist as a standalone company - especially from a balance sheet perspective - will co-locating on their sites not be perceived as giving an advantage to their MNO competitors by other operators.

From a financial perspective, investors expect operator-led towercos to generate returns that are less impressive than those of pure-play independent towercos.

Operator-led towercos often look for minority investors because they want to maintain a good degree of control over their operations, which may not be the optimal approach for equity investors used to actively participate in the life of the towerco.

Towercos need considerable capital to grow and prosper and that often comes with a deeper engagement of the investors in the activities of the towerco. Minority positions can be acceptable for some (and a recent example is offered by KKR which has completed the acquisition of 24.8% of Telxius this October) but many equity investors will shy away from them.

To comfortably back up a towerco with a minority stake, investors need to fully believe in the management team and strategy behind the company.

Once again, investors committed to the Central and South American tower market proved that there simply isn’t one successful recipe that fits all. The region is made of many diverse business models and markets and each investor must work to find their own comfortable niche, which might not be as attractive to others. And this is particularly true now that the CALA tower sector has moved beyond the obvious targets of Brazil, Mexico and even Colombia and is eyeing new markets, exploring alternative business avenues and addressing the needs of a more mature industry.

TowerXchange expects the next few months to be driven by consolidation among towercos and pockets of M&A with MNOs. And looks forward to report on the evolutionary tale of the CALA tower industry at the fifth TowerXchange Meetup Americas, 20-21 June 2018, in Boca Raton (Florida).