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Telecom towers: Business analysis
Apr 11, 2007

In the recent past, there has been news of telecom companies in India (specially in the private sector) hiving off their tower business by creating separate subsidiaries to accommodate the same. In this article, we shall try to gauge the rationale behind the companies doing so, as also the valuation aspect of the same. Why to de-merge tower business?

There are a number of benefits that are linked to this strategic move:

Asset light business model: By hiving off of the telecom towers, Cellular Mobile Service Providers (CMSPs) can embrace an asset light model. This will lead to improvement in asset turnover and utilisation ratios.

Expanding services: By demerging a non-core business like tower management, CMSPs can be more focused on marketing and branding of their telecom services that could lead to a faster expansion of the subscriber base translating into increased sales.

Faster expansion of services: With companies not having to worry about the setting up of towers and their maintenance, there will be a faster roll out services to areas that the companies wish to bring under their coverage. Also they will be spared from the burden and costs associated with the set up and maintenance of these towers as currently these (towers) do not generate any independent revenues for these companies.

Understanding the tower business

Currently, there are no major Indian players into the telecom tower management business. As such, we have picked up on the US based American Tower Corporation to get further details on the working of this business.

The tower management business flows like this. The CMSP approaches the tower company with its network requirement in terms of the required height of the equipment for transmitting signals and number of antenna locations. This can be called as the coverage goal. Once the requirements are in place, the next step is to locate the tower or rooftop site that best suits the need of the CMSP. This can again be attained with the aid of tools that help to zero in on the site that best fits the coverage requirements. This is followed by a feasibility study and some other legal and procedural formalities on the satisfactory completion of which the CMSP is successfully able to extend coverage to that area.

Such accelerated coverage is a win-win situation for both the CMSP as also the tower companies. The CMSP can, depending on its financial strength and requirements, launch/extend its services to areas that are currently off-coverage and the telecom tower company is able to leverage its assets better to generate higher return on assets as the incremental costs associated with adding a tenant to a wireless site are minimal.

Financial snapshot of US tower companies
Particulars American
Tower
Corporation
Crown Castle
International
Corporation
SBA
Communications
Corporation
Market Capitalisation (US$ bn) 17 9 3
Employees 995 1,160 615
Revenues (US$ m) 1,320 788 351
Gross profit margin 73.9% 65.4% 55.4%
EBIDTA (US$ m) 854 418 158
EBIDTA margin 22% 16% 5%
Net income (US$ m) 28 -3 -133
Net profit margins 2.1% -0.4% -38.0%
Price to earnings (x) 624.3 NA NA
Price to cash earnings (x) 29.3 40.4 210.7
Price to sales (x) 12.5 11.8 9.0
Source: Yahoo Finance

The companies generate revenue by leasing out the towers and as a result their main source of revenue is on account of lease rentals and management of these towers. While the revenue is recurring in nature owing to the long standing agreements that these companies have with their clients (CMSPs), it is the ability of the company to generate incremental revenues on the towers that matters the most. As stated earlier, the costs associated with adding on an additional customer to the tower are very low and as such their revenues contribute straight to operating profits. However, due to the high depreciation and sales and general expenses, the net profit margins for these companies continue to remain low.

Valuations

As telecom tower companies have huge depreciation, as is visible in the large differences between operating and net profit margins in the table above, it would not be feasible to value such companies on a ‘price to earnings’ multiple. Similarly, the use of ‘price to book value’ is also not very desirable, as the assets will continue to generate income long after they have been written off. In the given scenario, we believe it would be good to use the ‘price to cash earnings’ or ‘price to sales’ ratios for valuing such businesses.

How does it impact us?

Many Indian CMSPs have announced to tread a similar path by spinning off their towers into a separate subsidiary that may be listed subsequently on the Indian bourses. While an understanding of the valuations of American tower companies (as enumerated above) will not give a true picture of the kind of valuations that Indian tower companies will command (as a matter of fact, US telecom tower companies currently trade are premium valuations as compared to telecom companies), it could serve as a good starting point for evaluating the domestic companies in the future – both in terms of financial performance and valuations.

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