SBA Is Fortifying Its Financial Position While Maintaining a Tower Portfolio for Long-Term Success

Senior Equity Analyst

Matthew Dolgin

SBA Communications focuses exclusively on towers and has some geographic diversification. We like that it’s now taking a more measured approach to financial leverage and, in our view, a better approach to capital allocation. We like its business and think it will continue to grow at a decent clip without requiring much incremental investment for organic growth.

The tower business is very attractive. We don’t think there will be any change to how critical these assets are to powering wireless networks; annual escalators provide a minimal level of stable revenue growth, and towers have significant operating leverage. As data use continues to grow and networks get more stretched, locating equipment on more towers and upgrading equipment are primary solutions for carriers. 

About 45% of SBA’s towers, and more than 75% of its revenue, are in the US, where mobile data use has been growing 30%-40% per year. Considering that the US is also the most profitable market, the company has been well served by having such a presence there. However, we expect tower sales growth in the US to stay below the levels achieved toward the end of last decade and the beginning of the 2020s. After multiple major US spectrum auctions in that period, we now think carriers have deployed most of the spectrum they won. We don’t anticipate additional auctions for big spectrum blocks in the near term and don’t expect deployment of already-controlled spectrum on additional towers will be a major catalyst. We expect exposure to emerging international markets to be more attractive.

SBA has expanded its international exposure in recent years. In addition to South America and Canada, the firm now has towers in South Africa, the Philippines, and Tanzania. Less mature markets leave carriers with a long runway of investment to improve network quality and coverage, and result in even faster growth in consumers’ data consumption—encouraging for SBA’s tower prospects in those markets. However, the firm’s profits are still dominated by the US business, and its international fortunes continue to be mostly dependent on Brazil.

Business Strategy & Outlook

We assign SBA a narrow economic moat rating due to the efficient scale that underlies the tower industry and switching costs that dissuade tenants from seeking alternative providers once they have installed their equipment on towers. Given the critical nature towers play in allowing the public access to mobile data, the lack of near-term substitutes to towers, and the barriers to alternative tower providers, we expect excess returns to continue for the next decade as well, resulting in our narrow moat rating. 

The efficient scale present for major tower providers is enhanced by the extreme operating leverage associated with individual towers and the limited number of potential customers. Economic returns on towers are typically not good until the tower provider can secure multiple tenants on the tower, and the pool of sizable customers in any area is limited to the number of wireless carriers operating networks. These factors should make it unlikely that new competitors could profitably build a large portfolio of towers in areas that already have quality wireless network coverage.

Costs to the tower provider are mostly fixed per tower, meaning costs to operate a tower are virtually the same whether a tower has one tenant or several tenants. According to SBA, initial tenants on a typical US tower pay about $30,000 per year in rent and yield a 50% gross margin for the company. Industry peer American Tower has disclosed that an average US tower costs about $275,000 to build. Using that construction cost assumption, which we think is reasonable given that both American Tower and SBA have footprints mostly in suburban and rural areas, initial returns on SBA towers would be about 5.5%. Assuming no incremental costs for adding a second tenant (SBA says additional tenants pay similar rents as the anchor tenant and result in virtually no additional monthly expenses), yields on the tower would get into the midteens. 

SBA averaged only 1.8 tenants per tower at the end of 2020, and industry peer Crown Castle has said that it has historically taken about 10 years to add a tenant per tower. Consequently, even before considering other hurdles an upstart competitor would have to overcome to compete on SBA’s turf, it would have to contemplate sinking tremendous amounts of capital into building towers, locking itself into $1,000 per month land lease payments over a term of 5-10 years, and, given a likely need to offer lower average prices to carriers to entice them to switch, would need to average close to two tenants per tower before generating excess returns on its capital, something that might not happen for about a decade.

We think a new competitor undertaking such an endeavor unlikely considering the limited number of potential tenants and switching costs that make taking those tenants away from rivals difficult. Most markets have only three or four major carriers that own wireless networks, and they make up almost all of the spending on towers. In the US, the Big Three wireless service providers make up about 90% of the geographic segment’s revenue. The firm’s top three international customers make up almost 60% of international revenue, which is predominantly in Brazil.

Switching costs make tenants unlikely to vacate towers if they want to maintain a presence in the area. Carriers own and are responsible for the equipment they deploy at and on the towers, and they are responsible for removing it if their leases expire. Crown Castle has said that it costs carriers about $40,000 to remove equipment from a tower in the US. With SBA’s US tenants paying $30,000 per year in rent, it means they would have to recoup over a year's worth of rent payments to break even. A rival would need to undercut SBA’s prices by that much more to make up for the loss carriers would be facing in deciding to switch, further impeding a competitor’s prospects of generating excess returns. Yet direct costs are not the only switching costs carriers face. Carriers’ most valuable assets are their networks, and any disruption to the network, whether temporarily during a tower switch or more permanently as a result of a new setup and location, risks customer dissatisfaction with their service. Given the negligible switching costs to carriers’ customers, we don’t think network risk is one carriers would take lightly or put in jeopardy for minimal cost savings, adding even more to the amount a rival would likely need undercut prices to coax carriers into making the gamble. History suggests that carriers hesitate to leave towers that they are on, as non-consolidation-related churn for SBA has consistently been under 1% for the last several years.

While we think barriers to competition for the existing public tower companies are overwhelming in the near term, a couple of factors reduce our visibility over a 20-year span, keeping us from labeling SBA’s moat as wide. First, the tower companies typically lease significantly more land than they own. Though we think SBA is favorably positioned among the tower companies, with 70% of its land under its control for at least the next 20 years, it still will need to renegotiate leases as they expire and negotiate leases for new sites. We have less confidence that it will retain its leverage over land owners or advantages versus other potential land tenants. We think competitors are unlikely to build competing towers in tower vicinities; their better competitive move, in our view, would be to secure available land where towers already exist. While incumbents may be best positioned to hold on to their land, they may be forced to do it on less favorable terms, which could affect returns.

Narrow

Economic Moat

SBA Communications

SBA Communications Corp. is a real estate investment trust, which engages in the provision of wireless communications infrastructures. It operates through the following business segments: Domestic Site Leasing, International Site Leasing, and Site Development. The Domestic Site Leasing segment includes AT&T, Sprint, T-Mobile, and Verizon Wireless. The International Site Leasing segment acquires and develops towers. The Site Development segment includes consulting and construction activities. The company was founded by Steven E. Bernstein in 1989 and is headquartered in Boca Raton, FL.

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SBA reports robust Q2 results, faces challenges from AT&T activity

SBA reported strong Q2 results, highlighted by increased outlook for site leasing revenue and tower cash flow. The company's financial position remains robust, with a focus on network investment and growth opportunities. However, challenges related to AT&T's activity and debt management require careful consideration.

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SBA Communications Corp. is a real estate investment trust, which engages in the provision of wireless communications infrastructures. It operates through the following business segments: Domestic Site Leasing, International Site Leasing, and Site Development. The Domestic Site Leasing segment includes AT&T, Sprint, T-Mobile, and Verizon Wireless. The International Site Leasing segment acquires and develops towers. The Site Development segment is involved in consulting and construction activities. The company was founded by Steven E. Bernstein in 1989 and is headquartered in Boca Raton, FL.

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