American Tower: A Compelling Long-Term Investment

Summary

• American Tower maintained respective consolidated AFFO/share and FCF payout ratios of 53.4% and 67.7% in 2020, which are both quite sustainable over the long term.
• Despite what was a challenging operating environment for most businesses, American Tower grew its revenues 6.1% in 2020 and its consolidated AFFO/share advanced 7.5% during the year.
• What's more, American Tower anticipates that 2021 will be an even stronger year, with 8.4% consolidated AFFO/share growth.
• Solidifying the case for an investment in American Tower is the fact that I estimate shares of the stock are trading at a 3% discount to fair value.
• Between its 2.1% yield, 8.0-9.0% annual consolidated AFFO/share growth, and 0.3% annual valuation multiple expansion, I believe shares of American Tower are positioned to meet my 10% annual total return requirement over the next decade.

Photo by grandriver/E+ via Getty Images

As an investor, my investment strategy is to identify and allocate capital to high-quality businesses that provide essential goods and/or services to society at attractive valuations over the long term.

In the current century, few, if any services are as necessary to the functioning of society as those provided by the communications infrastructure REIT, American Tower (NYSE:AMT).

As I'll discuss below, American Tower's consolidated AFFO/share and FCF payout ratios suggest that the dividend is rather safe for the foreseeable future, American Tower's operating fundamentals held up well in 2020 and are poised to remain strong in 2021, and based on my inputs into the DDM and DCF model, shares of American Tower are trading at roughly fair value at this time, which is why I am initiating a buy rating on shares of the stock at this time.

American Tower's Payout Ratios Are Highly Sustainable For The Long Term

While American Tower's 2.07% yield compared to the S&P 500's 1.45% yield suggests that American Tower's dividend is safe for the foreseeable future, I am a firm believer in independent analysis of a stock's payout ratios to confirm or refute the market's sentiment's toward a stock's dividend safety.

Ergo, I will be taking a look at American Tower's consolidated AFFO/share and FCF payout ratios.

American Tower generated $8.49 in consolidated AFFO/share in 2020 against $4.53 in dividends/share paid out during that time, for a consolidated AFFO/share payout ratio of 53.4%.

Based on my analysis of American Tower's consolidated AFFO/share payout ratio during 2020, and the assumptions that American Tower achieves its 2021 consolidated AFFO/share guidance of $9.20 (sourced from slide 10 of American Tower's Fourth Quarter 2020 Financial and Operational Update Presentation) and delivers 15% dividend growth over 2020's dividend/share base, American Tower's consolidated AFFO/share payout ratio is positioned to be around 56.5% for 2021.

Moving to FCF, American Tower generated $3.881 billion in operating cash flows during 2020 against $1.032 billion in capital expenditures during that time (data sourced from page F-9 of American Tower's recent 10-K), for FCF of $2.849 billion.

When measured against the $1.928 billion in dividends paid during that time, American Tower's FCF payout ratio worked out to 67.7%.

Since American Tower's operating cash flow is positioned to improve moderately in 2021 and American Tower's dividends are likely to grow by 15% over 2020's dividends, I believe American Tower's FCF payout ratio will be around the high-60% to low-70% range for the year.

When I take into consideration American Tower's payout ratios are in a position to slightly expand over the long-term, as well as American Tower's target of average annual double-digit consolidated AFFO/share growth through 2027 and the company's 13.7% CAGR in consolidated AFFO/share growth from 2010-2020 (slides 13 and 25 of American Tower's Fourth Quarter 2020 Financial and Operational Update Presentation), I believe that American Tower is capable of delivering a long-term annual dividend growth rate of 8.0%.

American Tower Demonstrated Its Resiliency In 2020

Image Source: American Tower Fourth Quarter 2020 Financial and Operational Update Presentation

American Tower is a large-cap owner, operator, and developer of multitenant communications real estate (page 1 of American Tower's recent 10-K). The company owned and operated roughly 186,000 total communications sites as of 2020.

Image Source: American Tower's recent 10-K

As illustrated above, American Tower separates its business into the following two reporting segments:

Property: American Tower generated the vast majority (99%) of its 2020 revenues from its Property segment, which engages in the leasing of space on communications sites to wireless service providers, radio and television broadcast companies, wireless data providers, etcetera (page 1 of American Tower's recent 10-K). As illustrated above, just over half (57%) of American Tower's Property segment revenues were generated in the United States and Canada, with the remaining 43% being generated outside those geographic areas (page 29 of American Tower's recent 10-K). It's worth noting that this segment benefits from initial 5-10 year lease terms with average annual embedded lease escalators of 3% in the United States, which typically outpaces the rate of inflation. Moreover, lease escalators outside the United States are typically based on local inflation indices (data sourced from slide 16 of American Tower's Fourth Quarter 2020 Financial and Operational Update Presentation), so an investment in American Tower is quite resilient against inflation.

Services: The Services segment operates in the United States, with the segment providing site application, zoning and permitting and structural analysis to customers (page 1 of American Tower's recent 10-K). This segment contributed the remaining 1% of American Tower's revenues in 2020.

Image Source: American Tower Fourth Quarter 2020 Financial and Operational Update Presentation

Now that I have outlined the basic structure of American Tower's business, I will discuss the company's solid operating results during FY 2020.

American Tower generated $8.042 billion in total revenues during 2020, which represents a 6.1% YoY growth rate compared to the $7.580 billion generated in 2019.

This impressive revenue growth was driven by a 6.5% YoY growth rate in American Tower's Property segment (especially in the U.S., Canada, Africa, and Europe, and partially offset by revenue declines in Asia-Pacific and Latin America), and partially offset by a 23.8% YoY decline in Services segment revenue.

When factoring in the $315 million currency translation headwind during 2020, American Tower delivered an even more impressive 10.2% YoY currency neutral total revenue growth rate (slide 36 of American Tower's Fourth Quarter 2020 Financial and Operational Update Presentation).

American Tower's strong revenue growth flowed down the income statement, which along with a 150 basis point improvement in adjusted EBITDA margins from 62.6% in 2019 to 64.1% in 2020 (due to organic growth and cost controls as per CFO Rod Smith's opening remarks during American Tower's Q4 2020 earnings call), helped American Tower to deliver 8.7% YoY growth in adjusted EBITDA, and an even more impressive 12.3% YoY growth in adjusted EBITDA backing out unfavorable currency translations (as illustrated in the above slide).

American Tower also reported $8.49 in consolidated AFFO/share in 2020, which works out to a 7.5% YoY growth rate compared to the $7.90 in consolidated AFFO/share reported during 2019 (as illustrated by the above slide). When revisiting slide 36 of American Tower's Fourth Quarter 2020 Financial and Operational Update Presentation, American Tower reported a $8.82 in currency neutral consolidated AFFO/share, which works out to 11.6% YoY growth from 2019's base of $7.90.

Image Source: American Tower Fourth Quarter 2020 Financial and Operational Update Presentation

While American Tower held up very well in what was a challenging 2020 for most businesses, investors need to concern themselves arguably more so with the future of a business as that is what will drive future shareholder returns.

Fortunately, American Tower is forecasting that continued momentum in organic tenant billings growth of around 3% in the U.S. and Canada, which along with the new build program of 600 sites a year (per CFO Rod Smith's opening remarks in American Tower's Q4 2020 earnings call), will help the company to achieve revenue growth similar to that generated in 2020, as well as consolidated AFFO/share growth of 8.4% in 2021.

Image Source: American Tower Fourth Quarter 2020 Financial and Operational Update Presentation

Aside from American Tower's strong 2020 results and promising 2021 outlook, the company maintains an investment grade balance sheet with minimal maturities until $6.4 billion comes due in 2020.

As a result of American Tower's net leverage ratio that was consistently in the mid to upper 4s during 2020, American Tower's weighted average maturity of nearly 7 years, and the company's $4.9 billion in liquidity as of December 31, 2020, I believe that it is reasonable to conclude that American Tower's balance sheet is well-positioned for the foreseeable future.

When taking American Tower's 2020 operating results, 2021 forecasts, and investment grade balance sheet into consideration, I believe that the company is capable of being a great long-term investment if shares are acquired at or below fair value.

Risks To Consider:

Although American Tower's operating fundamentals appear strong heading into 2021, I believe it is crucial for prospective and current shareholders to stay up to date on American Tower's risk profile to ensure that the investment thesis remains intact.

Therefore, I'll be outlining a few key risks outlined in American Tower's recent 10-K.

The first risk facing American Tower is the concentration of its customer base, especially in the United States and Canada, with Verizon (VZ), AT&T (T), and T-Mobile (TMUS) accounting for 89% of property segment revenue in the aforementioned geographic region (pages 3 and 9-10 of American Tower's recent 10-K).

If these tenants are unwilling or financially unable to meet their obligations under the agreements that they have with American Tower, American Tower could be adversely impacted from both an operating and financial result standpoint.

Another risk to American Tower is from a technological standpoint, which includes the potential for the development and implementation of new technologies that improve the efficiency of wireless networks, thereby reducing the demand for tower space and/or lease rates (page 11 of American Tower's recent 10-K).

If American Tower is unable to appropriately adapt to such shifts in technology, its long-term operating and financial results could be adversely impacted, and potentially even shatter the long-term investment thesis.

A financial risk to American Tower is that although the company currently maintains an investment grade balance sheet and it has no meaningful debt maturities until 2023 (data sourced from slide 15 of American Tower's Fourth Quarter 2020 Financial and Operational Update Presentation), American Tower must adhere to the restrictive covenants outlined in its credit facilities (pages 12-13 of American Tower's recent 10-K).

The adherence to these restrictive covenants could result in a limited ability on the part of American Tower to take on additional debt to execute on its growth strategy, as well make distributions to its stockholders.

If American Tower is limited in its ability to execute on its growth strategy, the company's growth potential could be adversely impacted, which would also weigh negatively on the long-term investment thesis.

The final risk to American Tower is that as a company with a notable international presence, American Tower is exposed to a variety of risks, including unfavorable currency translation or changes in existing regulations (page 14 of American Tower's recent 10-K).

While American Tower delivered strong operating results in 2020, it is worth noting that the company experienced materially adverse currency translations that impacted its consolidated AFFO/share by $0.33 (according to data sourced from slide 36 of American Tower's Fourth Quarter 2020 Financial and Operational Update Presentation).

Fortunately, these types of currency translations tend to even out over the long term.

American Tower's key markets could also enact changes to existing regulations or new regulations, which would require American Tower to dedicate significant resources to compliance spending.

While I have discussed several major risks facing American Tower, I will note that the above doesn't entail a comprehensive discussion of American Tower's risk profile. For a more complete discussion of American Tower's risks, I would refer interested readers to pages 9-17 of American Tower's recent 10-K.

A High-Quality Business Trading Around Fair Value

Regardless of the quality of a business (even in the case of American Tower, which is a fantastic business), it is important for investors to avoid grossly overpaying for a stock to minimize the risks of a lower starting yield, valuation multiple contraction, and lower annual total returns.

It's with this in mind that I'll rely on two valuation models to value shares of American Tower.

Image Source: Investopedia

The first valuation model that I will use to arrive at a fair value for American Tower's shares is the dividend discount model or DDM, which is composed of 3 inputs.

The first input into the DDM is the expected dividend per share, which is the annualized dividend/share. American Tower's current annualized dividend/share is $4.96.

The next input into the DDM is the cost of capital equity, which is simply the annual total return rate that an investor requires on their investments. While this often varies from one investor to the next, I require 10% annual total returns on my investments because I believe such return levels offer plenty of reward for the time and effort that I research investment opportunities and monitor my investments.

The third input into the DDM is the annual dividend growth rate over the long-term or DGR.

While the first two inputs into the DDM require data retrieval to find the annualized dividend/share and subjectivity to set an acceptable annual total return rate, accurately predicting a stock's long-term DGR requires an investor to consider numerous variables, including a stock's payout ratios (and whether those payout ratios are positioned to remain the same, expand, or contract over the long-term), future annual earnings growth, industry fundamentals, and the strength of a stock's balance sheet.

When I consider that American Tower has a bit of leeway with regard to its payout ratios and that the company is positioning itself to generate high-single digit consolidated AFFO/share growth over the next decade, I believe that an 8.0% annual long-term dividend growth rate is a reasonable expectation for shares of American Tower going forward.

Factoring the above inputs into the DDM, I arrive at a fair value of $248.00 a share, which implies that shares of American Tower are trading at a 3.3% discount to fair value and offer 3.4% upside from the current price of $239.80 a share (as of April 3, 2021).

Image Source: Money Chimp

The second valuation model that I'll utilize to assign a fair value to American Tower's shares is the discounted cash flows model or DCF model, which also consists of 3 inputs.

The first input into the DCF model is the TTM earnings figure, which is $8.49 in consolidated AFFO/share in the case of American Tower.

The second input into the DCF model is growth assumptions, which can materially alter the fair value of a stock if the assumptions prove to be too far in the direction of pessimistic or optimistic.

In the case of American Tower, I believe that a 5-year annual consolidated AFFO/share CAGR of 7.0% and a 6.25% rate thereafter is reasonable given the company's long-term growth prospects.

The third input into the DCF model is the discount rate, which is the annual total return rate that an investor requires from their investments. As shown by my inputs into the DCF model above, I require a 10% annual total return rate from my investments.

Factoring the above inputs into the DCF model, I arrive at a fair value of $248.59 a share, which indicates that shares of American Tower are priced at a 3.5% discount to fair value and offer 3.7% capital appreciation from the current share price.

Upon averaging the two fair values together, I compute a fair value of $248.30 a share, which would mean that shares of American Tower are trading at a 3.4% discount to fair value and offer 3.5% upside from the current share price.

Summary: American Tower Offers A Safe Dividend With Hyper Growth Potential At A Fair Price

American Tower's 19.8% 5 year CAGR in its dividend (per Seeking Alpha's Dividend Scorecard on the stock), American Tower's expectation of 15% dividend growth in 2021, and American Tower's safe consolidated AFFO/share and FCF payout ratios lead me to believe that there are many years left to this company's dividend growth story.

This belief is further reinforced by the fact that in the midst of what was a challenging time for most businesses, American Tower plowed through 2020, posting 6.1% revenue growth and 7.5% consolidated AFFO/share growth.

Given American Tower's guidance of 8.4% consolidated AFFO/share growth, there is no reason to expect that 2021 won't also be another strong year for the company.

Solidifying the case for an investment in American Tower is the fact that I estimate shares of the stock are trading at a 3% discount to fair value based on my inputs into the DDM and DCF model.

When I take the above points and the high likelihood that American Tower will deliver 10%+ annual total returns over the next decade into consideration, I believe that I am justified in initiating a buy rating in shares of the stock at this time.

Analyst’s Disclosure: I am/we are long T, VZ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.