SBAC - SBA Communications: Looking For That Buy Point

2023-07-28 13:28:24 ET

Summary

• Tower REITs have suffered more than the REIT indices.
• A lot of it was a reversal from extreme valuations at the late 2021 peak.
• SBA Communications is coming close to its historical multiples, but the buy point is likely a bit lower.

Our previous coverage on tower REITs included American Tower Corporation ( AMT ) and Crown Castle Inc. ( CCI ). In both cases, we saw valuations as less than appealing, although CCI was definitely close to a buy point based on where we saw multiples headed. Today we look at the third in this trifecta, SBA Communications Corporation ( SBAC ).

The Company

SBAC is a leading owner and operator of wireless communications infrastructure which includes towers, buildings, rooftops, distributed antenna systems and small cells. The company has been around since 1989 and is headquartered in Boca Raton, Florida. Like CCI and AMT, SBAC is also structured as a REIT.

About half of SBAC's towers and 75% of SBAC's revenues are derived from the US. SBAC has expanded its non-US exposure in the past few years. The company now has towers in Canada, South America, South Africa, Tanzania and the Philippines. The combination gives it a steady base of developed market stability with a runway for emerging market growth.

The Journey

SBAC, like the other tower REITS, has produced impressive growth in all relevant metrics. Over the six years spanning 2016-2022, adjusted funds from operations expanded from $6.09 to $12.23. That is about a 12% compounded growth. As with all good things, investors pushed things too far. Peak valuations reached close to 40X trailing 12 months operating cash flow per share.

If you used AFFO numbers, the peak metrics were close to 35X. Good times. What investors failed to see above was half the returns were produced by growth and the other half by valuation expansion.

Outlook

SBAC is still growing, although at a far less torrid pace than what we saw the last six years. AFFO is expected to increase at a 4% compounded rate between 2023 and 2025. That is certainly not the end of the world, and that number is slightly better than what we will likely see for AMT. CCI should produce a flat AFFO over this timeframe. There is a reasonable downside to this outlook for SBAC. The biggest impact comes of course from the capital expenditure allocation policy from the large telecom providers, Verizon Communications ( VZ ) and AT&T ( T ). CFOs are most influenced by how their stock price is doing, and those two possibly could not be worse. The second factor will be where the US Dollar goes. A very strong US Dollar will dampen growth from overseas and vice versa.

Valuation

SBAC is certainly not expensive here on an AFFO basis, trading near 16X numbers for 2024. If you look at the entirety of the available data for SBAC, we see that the lowest value we got was around 15X forward AFFO in February 2016. So 16X is far from unreasonable. One difference from 2016 is that SBAC was far smaller and about to grow at a more torrid pace than what we see today. Of course, one can argue that the market did not know what the growth would be like over the next six years. But that growth difference must be kept in mind. The second difference is that we had risk-free rates of 0%. Today we are inching towards 6%. Anyone applying the same fair values for both timeframes, has no idea how finance works. Sure, we can see investors pushing prices with total disregard for valuations. Certainly the S&P 500 appears indifferent to 0% and 6% as evidenced by the market having retraced almost all of its losses. But that just means the day of reckoning has been pushed out. Adjusting for this, we think investors are likely to see through multiples of at least 14X, and possibly 12X forward AFFO.

There is one additional consideration here for SBAC, when you weigh it relative to AMT and CCI. While CCI and AMT have fantastic balance sheets and both are investment grade issues, SBAC is still in junk territory. It also carries far more leverage than either. It received an upgrade recently, despite operating over 7X debt to EBITDA, a good 2.5-3.0 turns wide of CCI.

New York, March 08, 2023 -- Moody's Investors Service ("Moody's) upgraded SBA Communications Corporation's ("SBA") corporate family rating to Ba2 from Ba3 and its senior unsecured debt ratings to Ba3 from B1. The Speculative Grade Liquidity rating remains unchanged at SGL-1. Moody's also upgraded the senior secured debt ratings of SBA Senior Finance II, LLC to Ba2 from Ba3. The outlook is stable for both entities.

The ratings upgrade reflects strong industry fundamentals and growth prospects for SBA's tower business in addition to robust, internally generated cash flows which help support higher leverage at the current rating level.

The stable outlook reflects our expectation that SBA will continue to generate significant free cash flow while maintaining strong liquidity. It also assumes the company will remain disciplined in managing its future growth without a meaningful increase to leverage.

We expect SBA to continue to operate with a debt-heavy capital structure, with adjusted net debt-to-EBITDA in the mid-7.0x range.

Source: Moody's

SBAC does almost all fixed rate debt and the maturities are very well spaced out. It also has been stingy with the dividends, so cash flow retained is excellent and buffers the higher debt levels. Still, the dialed up levels of leverage make even lower trough multiples possible.

Verdict

SBAC looks good relative to the 2021 highs, and investors are likely to get positive five and 10-year returns from here. That applies even under Draconian assumptions. But we are hesitant to call this a bottom. At the current price, SBAC gets a 5 on our potential pain scale rating.

We are not buying here, but if we were forced to engineer a long position, we would do it using the $200 covered calls for March 14, 2023. With the stock at $221.00, we could probably get $3,700 for the call. $2,100 is intrinsic value and the rest is the real premium.

The return profile is excellent for the buffer and one we think will serve investors well. Even though you are selling the $200 covered calls, your net cash outlay is $184 per share. So you are committing to buy SBAC at a sub 14X 2024 AFFO multiple. That's a great deal.

Please note that this is not financial advice. It may seem like it, sound like it, but surprisingly, it is not. Investors are expected to do their own due diligence and consult with a professional who knows their objectives and constraints.

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