Yesterday I did not have enough time to blog on my Biggest Mistake of the Day (BMD) due to some personal issues. But I have made a commitment to make this a daily process - so this is my make up assignment from yesterday's personal leave.
For ten years, I have been studying American Tower (AMT). For years I have been interested in this cellphone tower operator. As cellphone usage increased, cell towers become a "bottleneck" in the business. It has always had the characteristics of a "toll bridge" but I have not been able to get my pricing correct.
Initially, I was concerned about "high debt". My first concern exhibits that I was, again, using the wrong framework from inception. In the case of an "income statement" based company, debt is definitely a four letter word. In the world of an "income statement," debt is a way of bringing future earnings into the present. In our world of fixed costs, a little downturn in revenues has an outsized impact on the bottom line. Since cyclicality is inherent to capitalism, debt sets up a potential total loss to the equity shareholders. One way to analyze debt is to ask how many years of earnings it will take to pay it back. If it's more than seven, look out.
In the case of AMT, my first company review had a number of 100 years to pay it back! To adjust, I added back depreciation which brought the range back to nearly seven. That high level of debt made me apprehensive to start with.
Next I was concerned about the high multiple of earnings. My first P/E analysis was in excess of 100. Again, I adjusted by adding back depreciation which gave me a "cash flow" to earnings multiple in excess of 20. This had all the appearance of a "nose bleed" territory. I noted, at the time, that valuations were more appropriately focused on revenues, set my prices and waited for the stock price to drop to more attractive levels.
The stock price went up. Basically straight up.
Finally, I sat down to study where I got it wrong. It is clear that, once again, I was looking at a "balance sheet" company. This was not hidden. In fact, AMT leads its financial statements with its "balance sheet." AMT was basically borrowing to fund the purchase of assets as a "cellphone" REIT (to which it later converted for tax advantages).
By viewing AMT as a "balance sheet" company, I would have started with the assets of $8.5 bln, compared it to the debt of $4 bln which would give a "leverage ratio" of 2 or 200%. From that, I could have estimated the return on assets (adj for depreciation and capital expenditures) and compared that to the cost of liabilities for a net yield on assets. By studying AMT from that perspective, the extraordinarily high roa assets becomes evident - driving for a higher and more appropriate valuation.
Like PSA, AMT has roughly doubled over the past ten years while the S&P is up 50%.
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