2014 has been filled with news of large-scale strategic and financial transactions such as Level 3’s $7 billion acquisition of tw telecom and Zayo’s impending IPO, but a small deal that almost flew beneath the radar has definitely piqued our interest. We sat down with Bank Street Group’s James Henry (JHH), Richard Lukaj (RSL) and Peter Beckett (JPB) to discuss Crown Castle’s acquisition of 24/7 Mid-Atlantic Network and the implications of that transaction for the bandwidth infrastructure sector.
TR: So, what do you make of Crown Castle’s move to acquire 24/7 Mid-Atlantic Network?
JHH: We see fiber networks as a core component of the long-term growth plans for the major tower companies as they look to offer backhaul services and provide connectivity for Distributed Antenna Systems (DAS) and Small Cell deployments. Crown Castle has been actively looking for fiber inventory and capabilities to support their initiatives in certain major metro markets in the U.S., so 24/7 Mid-Atlantic Network is a logical target that will accelerate their time to market in Baltimore with further reach into Washington, DC and Northern Virginia.
TR: Was this deal the first of its kind with a tower company buying a fiber network company?
RSL: We have seen the tower companies looking closely and in some cases participating actively in sale processes for fiber network assets over the past three years, but this deal would mark the first instance of a tower company actually pulling the trigger to buy a pure play fiber network business. That said, it is worth noting that Crown Castle has already amassed a very extensive fiber network inventory with more than 5,000 route miles in markets like Chicago, Dallas, Los Angeles and New York through its acquisitions of DAS companies NewPath and NextG.
TR: What opportunities does bandwidth infrastructure represent for the tower companies?
JPB: There are major market opportunities ranging from tower backhaul to connectivity for DAS and Small Cells. Anecdotally, we estimate in round numbers that for every tower colocation for cellular antenna arrays, mobile carriers will likely spend around $1,000/month on backhaul circuits. So, with more than 300,000 colocations on tower sites in the U.S. per FCC statistics, that would translate into annual revenue opportunity of approximately $3.6 billion for backhaul services before taking into consideration any new growth areas that the tower companies might pursue with fiber.
TR: How are the other tower companies thinking about the Bandwidth Infrastructure?
JHH: Crown Castle has certainly been the most forward looking player when it comes to the pursuit of opportunities in fiber, but we are seeing growing interest by other tower companies. The fact that tower backhaul contracts – especially for dark fiber – are starting to look more like tower colocation contracts in terms of duration and pricing dynamics has been helpful in driving broader-based interest in the asset class by tower companies. As tower companies are converting to REITs, it is also helpful to have network companies getting favorable rulings on REIT status by the IRS.
TR: How do tower sector valuations compare with those in the fiber arena?
RSL: While metro fiber companies have typically traded in the 10x to 12x EBITDA range, tower companies trade in the range of 18x to 20x tower cash flow (TCF) depending on customer quality and capacity for growth. Those robust valuations are a reflection of a market that is treating towers almost like annuity cash flow streams or bonds. When you have an asset base that is essentially viewed as permanent infrastructure with investment grade credit quality customers under 10-20 year contracts with price escalators, that is about as good as it gets from a “certainty of cash flow” perspective.
TR: What are the implications of tower companies getting involved in the fiber network business?
JPB: On the plus side, it’s encouraging to see the universe of buyers for fiber assets continuing to grow. Between Bandwidth Infrastructure pure plays, Cable MSOs, diversified telcos, private equity investors and now tower companies, there is clearly broad-based interest in the asset class. On the negative side, companies like Crown Castle will be competing against existing sector players for new wireless infrastructure contracts, but that is only a relatively small subset of the overall bandwidth infrastructure market opportunity.
TR: Ok, final question on an adjacent topic, network REIT conversions could have positive implications for valuations in the sector, right?
JHH: Yes, we certainly think so. In the current interest rate environment, REITs valued on a cap rate basis have traded at a significant premium to comparable companies not incorporated as REITs. Intuitively, the new Windstream REIT should trade at a premium to classic Windstream, enabling it to be more aggressive on valuation in potential acquisitions. Over time, we would expect fiber network companies to convert to REITs, which could drive higher valuations and open up yet another new universe of potential buyers.
TR: Thank you for talking with Telecom Ramblings!