Cell Tower Question

[Jerry Lieb]

Am appraising a multi-story apartment building in the LA region. It has a cell tower on the roof.....one of the big 3 wireless companies is the lessee. The initial lease term was 10 years. There are four 5-year options. The original term expired and the wireless company exercised their first 5- year option period about 4 years ago. This option period runs out in mid-2017.

My dilemma is: Do buyer's give much weight to option periods yet to come? I called several real estate brokers who've sold properties with cell towers and they tell me buyers are very happy to purchase properties with cell towers as the income is there every month and there's nothing to do except deposit the checks. Therefore they felt that many buyers "assume" it will be renewed, especially if it's been there so many years.

I have a bit of trouble with that thinking. It's a gamble in my opinion. With technology changing so fast, there's the chance that the equipment and the location would prove to be useless. Also, with mergers occurring frequently, there's the possibility that one wireless company could merge with another - and suddenly find themselves with too many locations in one region. Under either of these circumstances, they probably wouldn't renew.

So what weight, if any, should be placed on the possibility a future option will be exercised?

As usual, your thoughts and comments will be much appreciated.

Thanks,

Jerry

 

[NachoPerito]

I don't think you can assume that it won't be renewed unless you have specific information.

You are correct that it can be risky. What if technology changes and the tower becomes useless.

All this should be reflected in your cap rate you choose for the tower income. I would separate the tower income from the other income because it is higher risk.

 

[Howard Klahr]

Under either of these circumstances, they probably wouldn't renew.

Isn't that accounted for in the cap rate? If not, then what is the risk component of the cap rate for?

 

[George Hatch]

I've done lots of appraisals of RE w/ cell leases, and there are comparable data out there that indicate to the contributory value.

I generally analyze that portion of the income separately by use of a DCF that shows what happens to the NPV if options do/don't get renewed, and I apply the results as an adjustment to the property rights appraised. I've seen brokers use cap rates and GRMs but IMO those work better when the prevailing assumption is that the leases will continue indefinitely. I've seen a fair number of examples of lease options not being renewed due to being redundant because of mergers/acquisitions, and I've seen others not renewed because the escalation clauses outpaced the prevailing rental structure enough to make it worth the carrier's while to seek alternatives.

Obviously, there are other ways of doing it. I like showing the different possibilities so that even if a reader doesn't agree with my conclusion they can decide on their own what those lease terms mean to them.

Sometimes those leases get sold off to 3rd party investors, generally at pricing that far outstrips their contributory value when bundled with the RE. In my experience, anyway. YMMV

 

[Elliott]

The pattern I've observed is, carriers build big new towers and don't need the original ones. I'd think there is data on renewal rates and my guess is there is significant risk in relying on renewal. "New Technologies, Obsolescence, Fiber Optics"--Larry "The Liquidator" Garfield

 

[Terrel L. Shields]

So what weight, if any, should be placed on the possibility a future option will be exercised?

Run the analysis assuming the income stream is 100% until the end of term. Then the simple metric is that there is a zero / one, Yes/No lease therefore, assume 50% income from the option years until the end of the option. Assume technology would make it obsolete at the end of the options. The is an extraordinary assumption, but seems reasonable. The option means there is an equal chance of renewing / not renewing and in an expected monetary value situation would be typical assumption...and I would assume that the EMV would be a proxy for the Market Value...with those assumptions. 100% income to 2017; 50% thereafter and zero reversionary value. Should be a very conservative value.

 

[Jerry Lieb]

I want to thank all of you who responded with suggestions up to this date. You've provided some very worthwhile comments. I do plan on showing the present value of the cell tower as a separately calculated item, and not including it with the apartment building income. The cap rate will be different - due to the higher risk involved. Will also invoke have the Extraordinary Assumption in my report. Yesterday I contacted the regional manager of the wireless company to see if he can give me an indication of "probability" of their exercising their next option. He will get back to me in a couple of days. I'm hoping that will give me some basis for my analysis.

To George and Terrell: Yes, I had planned to use a DCF spreadsheet to derive present value of the income stream.

- J

 

[Michael S]

I've found that rooftop antennae leases are generally more likely to be renewed than those on towers. A 5-story building isn't much different than a typical tower. But a 10-story building can provide a lot more range and a lot more room for antennas than you would normally see on a tower. Those ones I've found to last a lot longer.

I confirmed a sale of a cell tower a year or two ago where the original lease was ending in less than a year but they buyer still bought it at a 6.52% cap rate. The buyer was a REIT, Landmark Infrastructure Partners LP (Nasdaq: LMRK). I got a hold of a list of about 100 cell towers owned by a company and the average purchase was at a 6.75% cap rate with the typical tower generating $1,800 a month in income. This list was generated a few years ago so cap rates may have even come down since then.

 

[Tim The Enchanter]

with the typical tower generating $1,800 a month in income.

I'd put one in my yard in a hot second if it was legal and would pay me that much.
Give me the metallic palm tree version.

 

[JTip]

Jerry's first like. Good question for a thread starter.