Description
Thesis
I first wrote up Spectrasite (SSI) about one year ago at $38.25/share. In that time, SSI has appreciated over 50% (rated 4.5!), and many of the catalysts and some of the thesis has played out. I am resubmitting SSI at this time, because I believe wireless tower consolidation will follow shortly after wireless carrier consolidation, and SSI will be the first public company to be acquired. Additionally, with its growing free cash flow, SSI will continue its share buyback (over $100mm remaining) and could do a leveraging transaction to return value to shareholders.
Of the public tower companies, Spectrasite is the least levered at 3.75x 05E Debt/EBITDA (read: a deleveraging event in an acquisition) and possesses the most attractive tower portfolio – with the highest percentage of towers in major markets (60% in top 50 markets) and the highest concentration of major telephony carriers. In addition, continued voice traffic growth, and the rollout of 3G and other data services will provide continued growth and demand.
I reiterate taking a long position in Spectrasite Communications (SSI) equity and believe it will provide at a 30-40% return in the next 12 months, and potentially higher in an acquisition scenario (late 2005/early 2006). At $38.25, SSI trades at 17x my 05E EBITDA (15x 06E), and 27x my 05E FCF (20x 06E) estimate and has a 3.7% current FCF yield (5% in 2006). I believe FCF per share to grow at over 20-25% over the next several years.
**For a complete discussion of SSI, its business model, or how the industry has evolved, please see my SSI write-up dated 4/10/04.
Investment Highlights
• Potential Acquisition Target
• Continued Share Buyback
• Potential Leveraging Transaction: Dividend, etc.
• Attractive FCF Yield: +6-8%
• Growing FCF @ +25% Over Next Few Years
• Attractive Tower Portfolio
• Continued Revenue Growth and Tower Capacity Demand
• Highly Predictable Revenue Stream w/ Price Escalators
• High Incremental Gross Margins: +90%
• Low Maintenance CapEx: <10% of Revenues
• Significant Barriers To Entry
• Substantial NOLs: $300+ mm
• Potential REIT Conversion
• Potential Asset-Backed Refinancing (see GSL)
Description
Based in Cary, NC, Spectrasite owns, operates and manages ~7,800 wireless towers and in-building systems in the nation’s top 100 markets. Spectrasite’s customers include: Cingular, Nextel, Sprint, T-Mobile and Verizon Wireless.
Industry Dynamics
• 2x wireless subscribers since 1999
• 3x Minutes Of Use (MOUs) since 1999
• Increased capacity = more cell sites = more tower demand
• Enhanced coverage = more cell sites = more tower demand
• Increasing wireless subscribers
• Rollout of 3G and data services = 2x cell site density + more equipment per cell site = more tower demand
• Wireline substitution = more wireless minutes
Comparables:
• AMT
• CCI
• GSL
• SBAC
• Global Tower Partner (private)
• AAT (private)
Capital Structure
• $550.0mm credit facility
• $200.0mm 8.25% senior notes (rated B2/B+)
• $350mm available revolver
• $35mm cash
Net leverage for the Q4 04 was 3.8x (vs. 6.7x for AMT; 4.8x for CCI; 5.2x GSL). If levered up to 5x, SSI can take on ~$220mm in additional debt/revolver. When combined with current and future cash flows, I see SSI having over $550mm in discretionary capital available for:
• Further stock repurchase
• Special dividend
• Recurring dividend
• Additional tower assets
• Tower acquisitions
Since July 2004, SSI has repurchased ~$200mm (3.7mm shares) and has ~$100mm remaining under its current buyback plan, or ~3% of shares outstanding. SSI’s repurchase window is narrow: opens days after quarterly results and closes two weeks before the quarter ends.
Potential M&A target
Management itself has stated it believe that the tower industry is set for consolidation. While there is little in terms of overhead savings, a would-be acquirer could de-lever by acquiring SSI.
Substantial NOLs
• SSI will most likely not be paying taxes until 2009, at the earliest
• SSI can apply ~$35mm in NOLs/year
• SSI has federal net operating loss carry-forwards of over $300mm (expire beginning 2012)
• SSI has state tax loss carry-forwards of over $300mm (expire beginning 2004)
• Book and tax depreciation differ by ~$40mm – providing additional tax shields and increasing its attractiveness as a M&A target
• Potential conversion to a REIT has the advantage of avoidance of corporate taxes – already accomplished with NOLs
INVESTMENT RISKS
• Execution risk
• Carrier consolidation
• Carrier Spending
• Customer Concentration
Valuation
• Market cap: $2,700mm
• Debt: $750mm
• Cash: $35mm
• EV: $3,415mm
• 17x 05E EBITDA of $200mm
• 15x 06E EBITDA of $230mm
• 27x 05E FCF of $100mm
• 20x 06E FCF of $130mm
While SSI now trades at a premium to its tower peers, it is also growing EBITDA (15%) and FCF faster (30%) – so on a multiple of growth basis, it is only trading of ~1x growth. Pretty compelling.
Conclusion
Yes, SSI has enjoyed a tremendous runup, but I believe late 2005 or early 2006 is the year it gets taken out by one of its public company peers. Ultimately, I believe the industry will follow Global Signal’s (GSL) example and convert to a REIT and pay out most of its free cash flow in the form of a dividend.
Catalyst
• Continued Revenue Growth
• Potential Share Repurchase
• Potential Special Dividend
• Potential Recurring Dividend
• Potential M&A Target
• Ratings Agency Upgrade
• Further Deleveraging
• IPO of Global Signal
• Purchases of Land Rights Near Tower Assets
• Possible conversion to REIT structure