CCI - The Aftermath Of CCI's Q2 2023 Earnings: A Towering Concern?

2023-07-21 15:59:56 ET

Summary

• Crown Castle's Q2 2023 earnings report showed a significant decrease in tower activity and increased interest expenses, leading to a downward revision of its AFFO guidance.
• Despite maintaining its outlook for annual tower organic revenue growth at 5% through 2027, the company's short-term financial expectations have been negatively impacted.
• The company's stock performance has been poor, underperforming the S&P 500 by 49% points and returning -31.5% in absolute return, indicating a cautious outlook for investors.

In the wake of Crown Castle's ( CCI ) Q2 2023 earnings release, the company's stock has faced significant pressure. This report will delve into the key factors behind this downturn, primarily focusing on the company's downward revision of its adjusted funds from operations ((AFFO)) guidance. CCI's revised outlook, driven by decreased service spending, has left a tangible impact on the market's perception of the company's near-term prospects. From a slowdown in tower activity to an increase in interest expenses, we'll examine the contributing elements to this critical turn of events.

Q2 Earnings Analysis

CCI's stock faced pressure following its Q2 2023 earnings release, primarily due to the company's downward revision of its adjusted funds from operations ((AFFO)) guidance. The company lowered its outlook, citing decreased service spending as the primary driver.

Specifically, CCI reported a significant slowdown in tower activity levels during the quarter. This slowdown, which was sharper than the market anticipated, led to decreased tower services margins. The decrease in activity was attributed to the end of the initial surge in 5G investment, resulting in a decline in tower activity of over 50%. This led to a reduction in services gross margin by $90 million. Concurrently, rising interest rates contributed to an increase in interest expenses by $15 million, leading to a total reduction in the outlook by $105 million.

The net impact of these factors resulted in a decrease of $40 million in the company's AFFO. This decline was a key factor in the stock's weakness following the earnings release, as investors adjusted their expectations to align with the revised outlook.

While the company has demonstrated resilience in its annual tower organic revenue growth by maintaining its outlook at 5% through 2027, the lower level of activity has impacted its overall financial performance. The company's strategic focus on long-term agreements with key customers, while beneficial for ensuring economic value and stability in its cash flows, was insufficient to offset the impact of the decreased tower activity.

Furthermore, while the company has diversified its asset portfolio and expects to capitalize on the long-term growth in data demand, the near-term challenges have led to a more cautious outlook. Despite expectations of doubling its on-air nodes over the next few years and driving double-digit small-cell revenue growth from 2024 onwards, the current market dynamics have led to a downward revision of its near-term financial expectations.

Therefore, CCI's lowered 2023 outlook reflects both the challenges in the broader market and the specific impact of decreased tower activity levels. While the company remains confident about its long-term growth prospects, the short-term outlook has been negatively impacted, leading to the stock's weakness post-earnings release.

Financial & Valuation

Note: All historical data in this section comes from the company's 10-K filings, and all consensus numbers come from FactSet.

In terms of financial trends, a 6.6% CAGR in revenue over the past three fiscal years is commendable, but the sell-side consensus is forecasting a slowdown in revenues to 2.8% this fiscal year, reaching $7.2 billion, and a contraction of 1.1% the following fiscal year to $7.1 billion. This is a trend that, in our opinion, warrants careful monitoring. The company's EBIT margin has been on an upward trajectory, increasing by 7.4% points from 27.2% to 34.7% over the past three years, and is expected to expand further to 38.0% this fiscal year. However, a predicted contraction to 37.4% next year is a concerning prospect.

CCI's share dynamics also raise concerns. Over the past three years, the company spent 2.2% of its revenue on share-based compensation ((SBC)), resulting in an increase in outstanding common shares by 3.9%. This, coupled with a forecasted decrease in EPS to $3.76 this fiscal year and $3.45 the following fiscal year, despite a CAGR of 29.0% over the past 3 fiscal years, is a red flag.

The company's capital intensity is very high, with capex as a % of revenue averaging 25.7% over the past four years. This suggests a significant reinvestment of earnings, which can be both a strength and a risk. The company's net debt of $22.1 billion, making CCI 5.0 times levered to its expected current-year EBITDA of $4.5 billion, is a potential area of concern.

CCI's stock performance over the past year has been poor, underperforming the S&P 500 by 49% points and returning -31.5% in absolute return. The stock is currently trading 17.5% below its 200-day moving average and 42% below its 52-week high of $184.92. Short interest is low at 1.1%, indicating a lack of strong bearish sentiment, but this needs to be contextualized against the backdrop of the stock's recent underperformance.

Looking at valuation multiples, CCI is trading at an EV/Sales multiple of 9.7, an EV/EBIT multiple of 25.8, a P/E multiple of 31.1, and a FCF multiple of 20.6. Relative to the S&P 500, CCI is trading at substantial premiums except for a FCF discount of 3.7%.

Historically, the stock's current P/E of 31.6 is notably below its 5-year mean of 65.1 and near the lower end of its 2-standard deviation range of 37.9 to 92.3, indicating a relatively low valuation. Compared to its peers, CCI's forward 12-month P/E is lower than AMT's 41.6.

Conclusion

CCI's Q2 2023 earnings report and subsequent stock decline serve as a reminder of the challenges businesses can face in the rapidly changing telecommunications sector. Despite the company's strategic focus on long-term agreements with key customers and its diversification efforts, the impact of decreased tower activity has led to a significant dent in its financial performance and outlook.

While CCI's long-term growth prospects remain promising - with expectations of doubling its on-air nodes over the next few years and driving double-digit small-cell revenue growth from 2024 onwards - near-term challenges have necessitated a more cautious outlook. This case underscores the importance of considering both immediate financial trends and the broader market landscape when evaluating investment prospects. Given CCI's current financial status and market dynamics, investors should tread carefully, keeping both the company's resiliency and its recent downturn in mind.

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