An introduction to towerco business models and tower transactions

At EY, we continue to be at the forefront of transactions in the African tower market, successfully completing nine deals on the continent to date and advising on a host of others. We provide our clients the full range of advisory services to ensure a successful transaction from lead M&A advice to commercial, financial and tax due diligence and tax structuring. Our core telecom infrastructure team is based in the UK, drawing on an extensive and specialised network of offices in 33 African countries with 5,500 professionals to ensure that we provide our clients with the best advice possible.

We are delighted to be contributing to TowerXchange, and the emerging market tower industry in general, through a series of articles where we, EY, will share insights gained from our experience on transacting in towers and particularly in Africa.

The first article in the series is intended to be a ‘Tower transactions 101’, focusing on the current towerco business models in the market, types of transactions, towerco economics as well as outlining a glossary of terms and KPIs commonly used in the industry. Subsequent articles will cover areas such as data preparation, diligence, commercial considerations, valuation approaches, structuring transactions, exit considerations and our views on the future of infrastructure sharing.

Broadly speaking there are three types of business models for a towerco, which differ in value proposition to the towerco, and thus impact the entire investment cycle we are currently seeing in the market. Our commentary excludes the building of sites on behalf of an MNO when there is no ongoing role post construction as a towerco model, as this essentially represents a pure construction activity – rather than a true towerco business model. The first model involves managing and maintaining tower sites for an MNO, referred to as ‘Managed Services’. Under this model the towerco has no ownership in the underlying site and generally provides services on a simple cost-plus arrangement. There are ways to structure these agreements to incentivise the towerco to reduce costs, for example the MNO sharing the savings benefit with the towerco, but the Managed Services model is primarily used in markets where operations can be difficult and MNOs would prefer to outsource operations even if costs are slightly higher.

The second model is referred to as a ‘Management and Marketing’ model, which has its roots in the Managed Services model but, where the towerco has the right to market the sites to other MNOs and receive all or part of the co-location revenues generated from such additional tenants. The larger the number of co-locators, and the larger the share of the co-location revenues the towerco receives, the greater the value proposition to the towerco and, thus, the larger cash savings a towerco is able to offer to an MNO. Under this model, there is no transfer of ownership of the sites and hence a towerco does not pay for the site. However it is common for there to be a commitment to invest in the passive network, such as the site power solution.

The third and most common model is the ‘Own and Operate’ model, whereby the towerco owns all (or part) of the infrastructure on a site and leases space on it to an MNO. The towerco either builds the infrastructure for, or acquires it from, an MNO in a sale and lease back transaction. Towercos will generally require a track record of operations before an MNO will be confident to enter into a sale and leaseback transaction with them on a significant number of sites, and as such it is common for towercos to start by building the infrastructure in a particular market before growing through acquisition.

To provide a fuller understanding we focus on the ‘Own and Operate’ towerco business model because it is both the most common business model in the market and creates the most value from a towerco / infrastructure investor point of view (and therefore generally delivers the most value to an MNO via a sale and leaseback transaction).

In Africa, the most common infrastructure sold by MNOs in tower transactions is termed “passive infrastructure”, and represents the land (or land lease), the tower / mast, power solution and the bricks and mortar present on the site. An MNO will retain ownership of its ”active infrastructure”, being the antenna, BTS / node B, BSC / RNC and the connection to the backhaul /core network.

In a typical tower sale and leaseback transaction, the MNO will sell its passive infrastructure (transferring responsibility of the relevant expenses and maintenance capex to the towerco) and agree to a lease back rate, or use fee, for the space on the site that its active equipment occupies. The two most important (inter-related) parameters of any sale and leaseback transaction are therefore: (i) the value paid by the towerco to the MNO for the site; and (ii) the lease back rate paid by the MNO to the towerco - the higher the leaseback rate paid by the MNO, the higher the value of the site. Therefore, seeking to compare sale and leaseback transactions when only one of these parameters is known (usually site value) is not particularly meaningful, and is the reason why we see such a range of per tower valuations in sale and leaseback transactions. This relationship has led to two types of sale and leaseback transactions. The first being where the MNO sets a lease back rate and bidders offer as high a valuation as possible, with the second being where the MNO sets the value it wants to raise and bidders offer as low a lease back rate as possible. Some transactions in the past have not specified either but this leads to difficulty in comparing bids and is now less common.

There are, however, natural limits to both the per tower value and lease back rate in tower transactions, with MNOs generally reluctant to sell below book value to avoid the need to record a loss. Conversely, if the lease back is materially higher than the MNOs total cost of ownership (TCO) of running the site there is a danger that the transaction will be viewed as a financial instrument impacting the MNO’s existing debt and therefore its covenants and gearing. Working within these boundaries, it is understandable that MNOs do not want a tower transaction to be materially dilutive from a future EBITDA / cash flow perspective. As such, the desired lease back rate tends to be the same or less than the operating expenses / TCO per site.

On day 1 of a sale and leaseback transaction, the net cashflow generated on a per site basis can be zero or negative unless there is a significant number (and value) of existing co-location tenants on the portfolio of sites. Consequently, to deliver the returns required by investors, and priced into the business plans underpinning the offers made in the sale and leaseback transactions, towercos will need to focus their time on: (1) increasing revenue through additional tenants; and (2) reducing expenses (primarily power). This is why you see so much emphasis placed on understanding future demand for sites (driven by increasing mobile penetration and technology changes particularly) and alternative solutions to the diesel generators that currently power so many African mobile sites.

In our subsequent articles we will dive deeper into transacting in towers to provide more insight for MNOs, towercos, investors, advisors and other stakeholders in the industry.

Active infrastructure - The antenna, BTS / node B, BSC / RNC, and the connection to the backhaul / core network

Augmentation capex - The capitalised costs associated with adding an additional tenant to a site, most commonly relates to site strengthening, one-off in nature, commonly quoted on a per site basis

BSC - Base Station Controller, GSM network, responsible for assigning frequencies to each call

BTS - Base Transceiver Station, GSM Network, facilitates communication between the antenna and the network, alternatively use to represent Build to suit (see below)

Build to suit (BTS/B2S) - Sites built and owned by a towerco (as opposed to being purchased from an MNO), generally higher value sites because they are built for purpose by the towerco to accommodate multiple tenants (specification and location)

Co-location - The addition of a tenant(s) to a site

EBITDA - Earnings before interest, tax, depreciation, and amortisation

GBT - Ground based tower, represents the most well-known type of site

Lease back rate - The monthly fee paid by the anchor tenant for space on a tower sold to and leased back from a towerco, generally the same or less than the operating expenses / TCO per site

Lease up rate (LUR) - The ratio of tenants to number of sites, generally does not discriminate between the type of tenant (MNO, WIMAX etc.) or level of use fee, same as tenancy ratio

Maintenance capex - The capitalised costs associated with maintaining the passive infrastructure of a site, most commonly relates to generator refurbishment or replacement, ongoing and lumpy in nature, commonly quoted on a per month per site basis

Managed Services - Towerco business model where the towerco has no ownership in the underlying site and generally provides such a service on a simple cost-plus arrangement

Management and Marketing - Towerco business model where the towerco has no ownership in the underlying site but has the right to market space on the site to additional tenants and retain all or a proportion of the use fee paid by those tenants

MNO - Mobile Network Operator

Node B - Similar to BTS, 3G network, facilitates communication between the antenna and the network

Own and Operate - Towerco business model where the towerco owns all (or part) of the infrastructure on a site and leases space on it to an MNO. The towerco either builds the infrastructure for, or acquires it from, an MNO in a sale and lease back transaction

P&L - Profit & Loss Statement

Passive infrastructure - The land (or land lease), tower / mast, power solution and the bricks and mortar present on the site

Refurbishment capex - The capitalised costs associated with upgrading the quality of passive infrastructure, most commonly relates to upgrading the power solution, one-off in nature, commonly quoted on a per site basis

RNC - Radio Network Controller, 3G network,  responsible for assigning frequencies to each call

Rooftop site - Site where the active equipment is attached to a building as opposed to a traditional GBT, common in urban areas

Sale and leaseback - Transaction in which the towerco acquires all (or part) of the infrastructure from an MNO. The two most important (inter-related) parameters of any sale and leaseback transaction are: (i) the value paid by the towerco to the MNO for the site; and (ii) the lease back rate paid by the MNO to the towerco

TCO - Total cost of ownership, refers to the operating expenses and maintenance capex of the passive network assets, commonly quoted on a per month per site basis

Tenancy ratio - The ratio of tenants to number of sites, generally does not discriminate between the type of tenant (MNO, WIMAX etc.) or level of use fee, same as lease up rate (LUR)

Tenant - Pays a use fee to occupy space on the passive infrastructure of a site, generally does not discriminate between the type of tenant (MNO, WIMAX etc.) or level of use fee

Tower - The physical mast that supports antennae at a site, commonly refers to all the passive infrastructure on a site in the industry

Tower Cash Flow (TCF) - EBITDA less maintenance capex

Towerco - Company that owns and/or maintains all or part of the passive and/or active infrastructure of a MNO’s network

Use fee - Payment made by a tenant to occupy space on the passive infrastructure of a site, commonly quoted on a per month per site basis. Same as lease rate

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Information in this publication is intended to provide only a general outline of the subjects covered. It should neither be regarded as comprehensive nor sufficient for making decisions, nor should it be used in place of professional advice. EY accepts no responsibility for any loss arising from any action taken or not taken by anyone using this material.