AMT Deal Points to More Profitable Cell Tower Consolidation

The real sweet spot in the mobile industry may not be the handsets or even the networks. The real sweet spot may lie in the towers.

The business of owning and running cell phone towers is separate from the business of owning networks. And a small number of companies have been busily consolidating the space in the last few years, to the profit of smart investors.

In the latest deal, American Tower (NYSE: AMT  ) , the second-largest tower owner, has agreed to buy the parent of Global Tower Partners, the fifth-largest player, for about $4.8 billion. Wireless Cost Estimator says that GTP has 5,683 towers, meaning AMT is paying about $845,000 per tower.

In addition to growing through purchases, these companies are also growing through lease buyouts of towers owned by others. 

So, ready to buy into the tower business?

The History
Mobile network providers were the original builders of most cell phone towers, back in the 1980s. They were powered by laws that essentially required zoning authorities to allow the construction. I remember visiting a city council meeting on other business 20 years ago and watching a network operator try to intimidate that council into approving a tower over a transit station near my house.

After building many towers, however, the industry quickly found advantages to renting space rather than owning. Renting let them share the infrastructure, and avoided risks like workers falling off towers and neighbors' claims that the towers cause cancer.

These companies have become especially hot lately due to the roll-out of 4G LTE services across the industry. The Great Recession slowed the development of this technology, but the industry is now going full-speed ahead, and each time they turn on service in an area they not only have to rent more tower space, but gain permission to go up towers and put in new equipment.

The opportunities and risk aversion by network providers have caused a slow, accretive consolidation of the industry around a few major players, whose business it is to own cell towers. Here are three of the best investments:

SBA Communications offers geographic diversity
The best performer in the group is SBA Communications (NASDAQ: SBAC  ) , based in Boca Raton Florida, whose stock is up about 370% since the start of 2009.

SBA doesn't just operate in the U.S., but in Central and South America as well, where cell phone service is even more vital than it is here, there being little wired infrastructure to compete with. The company has about 15,000 towers in the U.S. alone, making it the third largest tower operator here, and bought over 3,000 sites in North and South America in 2012, entering the Brazil market for the first time.

The result has been spectacular top-line growth, with quarterly revenues rising 41%, from $229 million to $324 million, from the second quarter of 2012 to the second quarter of 2013. Getting out ahead of this growth means the company is still losing money, but on an operating basis it had income of almost $44 million for the most recent quarter. The balance sheet shows a very hefty debt-to-assets ratio of almost 87%, but investors are willing to pay for growth. Over the last year the stock is up 27%.

All this makes SBA a great proposition for a growth investor.

Crown Castle remains top dog
Crown Castle International (NYSE: CCI  ) , based in Houston, remains the biggest player in the U.S. tower market, with about 29,400 towers. The company focuses not just on having towers, but linking those towers with fiber infrastructure, providing an additional revenue stream. In addition to its U.S. towers, it owns 77.6% of an Australian tower company.

Financially, Crown Castle is managed more conservatively than SBA, meaning it actually makes some money. For the June quarter, that was $52.3 million in earnings on $735 million in revenues, about 26% higher on the top line than in the same quarter a year earlier, but half the previous June's bottom line because of tax issues.

As with SBA, the balance sheet at Crown Castle shows substantial debt, amounting to about 75% of the equity. But the company is consistently cash flow positive, raking in almost $773 million in cash from operations last year alone. Crown Castle has more than twice the market cap of SBA, almost $21 billion by last count, and does not yet pay a dividend.

Crown Castle is a more volatile stock than SBA, meaning you want to time your purchase to somewhere closer to the lows in the chart pattern. That's where it is now, having been as high as $80 per share earlier this year, up 9% for the last year. The biggest risks here are credit risks, but Moody's says the company's credit is still solid despite a recent $500 million increase in borrowing. 

Crown Castle offers less growth than SBA, but more stability, and if you prefer growth in developed markets to developing ones, there is less political risk in Australia than Central America.

AMT is the safe choice
If you're looking for real earnings and dividends, however, American Tower, based in Boston, should be your choice.

The stock had been going nowhere until the Global Tower deal, but rose almost 20% on the heels of the announcement. As Amir Lalani of Insider Monkey noted last month , hedge funds are loading up on this stock, with 46 of them in long positions.

American Tower is run as a Real Estate Investment Trust, or REIT. The company was even stronger internationally than it is in the U.S., before the Global transaction, with almost 24,000 towers outside the U.S. In addition to owning its towers, AMT also offers "tower services," meaning its own people can install gear for you. In addition to outdoor towers, it also operates indoor towers for malls and casinos.

When you look at the numbers, AMT is a profit machine. For the last quarter it had revenues of $808 million, and while net income looked weak at $100 million, operating income including operations partly owned by others was $310 million, meaning the operating margins are extraordinary. The top line was growing more slowly than the top lines of its rivals, but once Global is added to the totals that should change.

American Tower also has a slightly better balance sheet than its rivals, with debt of just 61% of assets, and the company was already on pace to generate $1.5 billion in cash flow for the year, before adding Global to the mix. Best of all, in part because of the structure, you do get a dividend here. It's fairly small as REITs go, 27 cents or 1.51%, but it's what this fast-growing company can afford.

The Foolish bottom line
If you are looking to invest in the tower business, I think AMT is the choice. It's less speculative than its rivals and it pays a real dividend. If you are of a speculative nature, then SBA Communications is a good place to play. If you're looking for stability and an edge in Latin America, then Crown Castle is the choice.

In any case it's hard to go wrong.

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