An introduction to the thriving tower industry in Indonesia

Wellington Capital Advisory CEO, David Burke, takes us on a tour of the Indonesian tower market, which is among the most developed and profitable in the world. Tenancy ratios in many cases exceed 1.7, EBITDA margins reach 60 to 80% and there is the potential for additional transactions through the consolidation of middle market towercos and further operator sale and leaseback arrangements.

What are the prospects for Indonesia’s towercos to export their expertise elsewhere in Southeast Asia, and how do opportunities for the tower industry in Myanmar, Cambodia and The Philippines compare?

TowerXchange: Please introduce yourself and your experience in the telecom tower industry.

I’ve been in TMT since 1995, starting on the banking side of the industry before progressing through C-level positions at M-Web and Kabelvision, Indonesia’s largest cable television provider, eventually becoming EVP for Strategic Investment and Corporate Planning at Telkom Indonesia, where I led the strategy to set up Mitratel, Telkom’s towerco.

Subsequently, I co-founded and currently serve as CEO of PT Wellington Capital Advisory, a strategic advisory firm with extensive experience in helping clients find value through the re-alignment of the TMT value chain. We’ve advised a number of operators and towercos on their tower strategy. Following the creation of our strategy for an Indonesian towerco, we were fortunate enough to find the right investors to bring the towerco strategy to fruition.  I’m also Co-GP of the Ananse TMT South East Asia Fund, and soon to be, on behalf of the investors, the CEO of the towerco, PT Komet Infra Nusantara.

However, Wellington Capital Advisory will continue to provide services to regional towercos, mobile network operators and investment groups looking to invest in the TMT space within SE Asia. We have a strong team of partners led by Geoff Simms, Dave Shuker and Paul Hemming.

TowerXchange: What have been Wellington Capital Advisory’s experiences in the tower industry?

In parallel with advising clients in the tower industry, we had built our own strategy for a towerco in Indonesia.  We have become very excited about the sector over the last three years, having conducted a number of due diligence exercises on prospective tower sale and leaseback arrangements and other tower-related investment opportunities.

We considered raising our own private equity fund, but eventually brought in third party investors, raising US$50mn in our first tranche, with access to a further US$250mn, from equity investors and debt providers.

Komet Infra Nusantara currently owns 500 towers, and is targeting a portfolio of 1200 to 1400 towers by end of 2014 through a combination of organic growth and acquisitions.

TowerXchange: Please introduce us to the Indonesian telecom tower industry.

There are four or five towercos of scale in Indonesia and over forty ‘mom and pop shops’ and middle market towercos in Indonesia, ranging from local community managed assets to substantial regional entities, owning anything from a handful to 1,000 towers each.

Indonesia is a very diverse tower market, comprising dense metropolitan environments and very remote rural areas. There is a population of 28 million in the Greater Jakarta metropolitan area alone at peak, and mobile data demand is accelerating, which in turn is firing demand for towers. 3G will morph into 4G, and smartphone penetration will jump from 15 to 30% in the next year.  To visualize this demand for data, there are over 60 million Facebook users in Indonesia and Twitter recognises Jakarta as the Tweet capital of the world!

GDP per capita has surpassed the US$3,000 threshold, indicating the emergence of a fast-growing middle class. A healthy 60% of GDP goes on local consumption - Indonesia has very little dependence on imports. During the 2008 global financial crisis, Indonesia was one of a handful of countries whose GDP growth remained positive.

TowerXchange: What proportion of Indonesia’s towers has transferred from operator-captive to independent towercos?

Indonesia has around 75,000 towers, most of which are still operator-captive. The towercos own 25,000 to 30,000 towers, and there are still around 10,000 new towers being built every year.  Over the last few years, operators such as Bakrie Telecom, Indosat and Hutchison have sold around 3,000 towers collectively to the independent tower providers.

There is significant cell site densification occurring in Indonesia driven by consumer demand for mobile data services, and the tower industry hasn’t grasped the heterogeneous networks (‘HetNet’) opportunity yet. Rooftop installations make up a significant chunk of the assets of Indonesia’s ‘Big 3’ towercos, namely PT Tower Bersama Infrastructure (‘TBIG’), PT Profesional Telekomunikasi Indonesia (‘Protelindo’) and PT Solusi Tunas Pratama Tbk (STP).

We’ve seen innovations such as ‘BTS Hotels’ running fibre up the street with transmission equipment sited several miles away or hidden away in a basement.

TowerXchange: Do you anticipate further substantial tower sale and leaseback transactions in Indonesia?

Our view is that Indosat, XL Axiata and others may potentially divest more towers, in pursuit of an ‘asset-light’ strategy. Currently, Axiata’s e.co infrastructure business unit does not include XL in Indonesia as part of the plan to mount a cross-border IPO. This is something XL Axiata has been very public about over the last few years. Indosat is also expected to release some towers in the future, but the management have yet to make a formal announcement.

During my tenure at Telkom, I helped set up their towerco, Mitratel. At the time my strategy was to progress towards an IPO.  This may still be the case and is under discussion at the board level in conjunction with the regulators.

TowerXchange: Do you anticipate further consolidation of ‘middle market’ towercos?

Some of the middle market towercos are making good margins and are reluctant to sell. Indonesia is an economy where business is conducted through relationships and many regional towercos have very strong local government and carrier connections.

Other middle market towercos are run on a more entrepreneurial basis, and we’ve done due diligence on five to six towercos looking for exit opportunities. Some are excited by the multiples at which Indonesia’s Big 3 towercos are trading, and if they choose to sell they will want to retain a stake to benefit from any subsequent listing. In our experience, most investors are open to this model.

TowerXchange: How profitable are Indonesian towercos?

The two largest towercos, Tower Bersama and Protelindo are operating at about an 80% EBITDA margin. But profitability isn’t confined to Indonesia’s largest tower providers - the two middle market towercos that came together to form Komet Infra Nusantara generated margins of 60% to 70%, even with relatively modest portfolios of about 200 towers each.

In comparison, following aggressive price wars, most of the mobile network operators are operating at EBITDA margins in the mid-40s range. At the moment, Indonesia has ten operators, but should consolidate to four to five over time. For example the merger of PT Axis and XL Axiata will be completed in 2014.

TowerXchange: Will there be a ‘correction’ to towerco margins in the light of operator consolidation?

There was always going to be rationalisation as technology moves on - much of the operator consolidation is driven by the migration from CDMA to GSM, and I don’t believe operator consolidation will have much impact on towerco profitability because data demand is driving network densification.

RAN sharing is not currently permitted, which is why there is no law governing the formation of MVNOs.  However, there is growing awareness among the regulatory bodies of the benefits of allowing MVNO licenses in the future.

TowerXchange: How would you characterise the investibility of the Asian telecom tower sector?

Indonesia’s mobile network operators have attracted significant international investment, namely Telkom Indonesia is 35% owned by SingTel, Axiata Berhad has a 67% stake in XL and Ooredoo owns 65% of Indosat.

Indonesian towers currently provide better returns than Brazil and India; construction costs are sensible, passive infrastructure sharing is mandated by the regulator, and lease rates are still good - in the US$1,200 to 1,400 range per calendar month. Komet Infra Nusantara has achieved an average tenancy ratio of 1.7 from day one, having acquired portfolios with tenancy ratios of 1.3 and 2.2 respectively.

TowerXchange: How do you foresee the medium term future for the Indonesian tower industry?

Indonesia has the most mature and robust tower industry in Southeast Asia - and it still has ‘legs’ for further growth.  With a high number of smaller players within the tower market, the opportunity for ‘mom and pop’ companies to consolidate is high.

Towers with just a single anchor tenant may yield an EBITDA margin of 40 to 50%. As the tenancy ratio is incrementally built up between 1.4 and 2.0, EBITDA increases to 80%. Tenancy ratios tend to grow in 0.2 to 0.3 increments per year in Indonesia, and we forecast they’ll reach a long term equilibrium between 2.5 and 3.0.

Less than 50% of revenue comes from amendment revenue. 3G rollouts are ongoing, 4G will be concentrated in urban areas, and 2G networks will need to be maintained for ten years for voice and M2M. WiMAX has mostly flamed out. Street furniture is becoming a highly prized asset, as Jakarta begins to evolve as a smart, mobile-enabled city.

Indonesia will support four to five good-sized towercos, each with over 10,000 towers - the regulator is doing a fine job to sustain competition by ensuring an equilibrium between the towercos, which balances consolidation to four or five large mobile network operators, plus the potential for MVNOs.

TowerXchange: What is the quality and extent of the grid in Indonesia? Is power passed through to the anchor tenant? And is pilferage a problem?

Power provision and associated costs are stripped out of Indonesian tower deals and handled by the mobile network operator through power pass-through clauses in most contracts. As such, the towerco has responsibility only for backup power and security. Currently, Indonesian towercos are more of a real estate company than a service provision business.  However, we don’t see this situation enduring in the future.

Around 25% of cell sites are off grid, 15 to 20% are on unreliable grids, with a little over 50% with access to good grid connections. In all emerging markets in Southeast Asia, every tower needs a back-up power source - and in some cases primary power sourced off-grid - typically via diesel generators or solar technology.

It’s the early days for renewables - we see more usage of biomass than other alternative energy sources but at this point, the economics remain marginal.

Security remains an issue and pilferage is probably in double-digit percentages for most tower portfolios. It’s not just an issue of fuel theft - we’ve seen generators, batteries, steel and cables all being stolen. It’s a good idea to engage the heads of local communities to help improve security and in return, providing social benefits such as maintaining a mosque or school, providing additional road access, etc.

Viettel’s ‘Village’ model is a great example; they provide incentives to the local community such that they assume responsibility for the tower, as well as configuring the community’s wellbeing around service continuity.

As a side note, during one recent due diligence exercise, we found a company using wild geese as the ‘security system’ for one of their towers - it was very effective!

TowerXchange: Are build-to-suit (BTS) projects and O&M generally outsourced by Indonesian towercos?

O&M is sometimes managed in-house, sometimes subcontracted. In our case Komet Infra Nusantara has three regional offices, and O&M is outsourced for half of the current tower inventory.

You can tell from the headcount numbers as to which towercos have maintenance in-house and which are using outsourced contractors. In general the market is moving towards an outsourcing model as a more efficient way of managing costs, while avoiding the liabilities of employment.

BTS projects are generally sub-contracted. There are few established turnkey infrastructure and managed service providers, but we often run into regional protectionism. Some contractors have a strong local mindset and have no ambition to cross into new regions. The same companies that execute BTS projects also compete for O&M outsourcing contracts.

TowerXchange: What is your view of the tower industry in Southeast Asia beyond Indonesia - are there any prospects for a pan-Asian towerco?

I doubt whether the idea of a pan-regional towerco in Southeast Asia has any legs. The towerco business is conducted locally in Asia; negotiations are held with individual operators and regional governments, there are local licensing variations from city to city, and domestically-sourced steel is generally used to manufacture towers - I can’t see significant benefits of an aggressive pan-Asian expansion.

It’s the early days for the Southeast Asian tower industry beyond Indonesia. There is a ‘gold rush’ into Myanmar at the moment, and it is a market we continue to look at. However, intensive due diligence is required for opportunities in Myanmar - as the saying goes, ‘the large print giveth, but the small print taketh away!’

Digicel is in a strong position with their towerco proposition, given their close relationship with Yoma Strategic Holdings, a major real estate company in Myanmar. There is no established eco-system of site design, build and maintenance contractors in Myanmar, so foreign towercos like Protelindo have to bring in managed services from Indonesia, Vietnam and China.

The macro network in Singapore is mature, so there are few opportunities for towercos in that lucrative but finite market.

There are no independent towercos yet in The Philippines, and only two dominant prospective anchor tenants, neither of which seems motivated to sell their towers. While The Philippines could be interesting, I don’t foresee that market opening up in the near future.

Political pressure might create an opportunity for towercos in Cambodia, but I wouldn’t anticipate the returns that we can realise from Indonesia.

In Malaysia, as part of the award of the LTE (2.6GHz) licences in December 2012, the regulator (MCMC) included an implicit condition for licensees to share spectrum. This led to a few operators making spectrum sharing agreements e.g. Maxis-Redtone and Celcom-Altel. More recently, DiGi Telecom and Celcom Axiata announced a three-year extension to their existing network collaboration agreement (NCA).

Overall we think that there is limited scope for a new entrant towerco play in Malaysia within the short-to-medium term.  It is a relatively small market with the national population being roughly the equivalent of the Jakarta metropolitan area alone.

As the wireless network infrastructure in Vietnam continues to mature and as competition among the ‘Big 3’ mobile operators (Viettel, MobiFone and Vinaphone) remains intense, we see an opportunity for the development of an independent towerco sector if and when the necessary regulatory change takes place. The Vietnamese market has many similar characteristics to Indonesia and hence is an interesting prospect.

The establishment of the Southeast Asian Economic Community in 2015 will facilitate cross- border trading, but there’s a big enough domestic market growth to keep Indonesian towercos busy. Indonesia is a trillion dollar economy and, as labour costs increase in China, Indonesia is becoming a destination for outsourced low cost manufacturing and accelerating inbound rather than outbound investment.

However, Indonesian tower industry experience and skillsets travel well - we’re in a ‘one of us’ position as far as tower opportunities in Myanmar and Cambodia are concerned, so Indonesian towercos are welcomed as subject matter experts.

All in all we believe that well over half of the Southeast Asian tower market sits in Indonesia, and there is still significant organic growth to come. The balance of the tower market in the rest of Southeast Asia is split between new markets such as Cambodia, Myanmar, Vietnam, maybe Malaysia and, eventually, The Philippines.