535 Fifth Avenue, 4 th Fl, New York, NY 10017 Tel: +1.646.843.9850 Valuation and Strategic Advisory In the Media and Communications Sectors Introductory Framework for Spectrum Valua6on J. Armand Musey, CFA President/Founder November 9, 2012 See next slide for important disclosures
The presentation outlines a basic framework for analyzing wireless spectrum valuation. Its reviews basic methods of valuation as well as the advantages and disadvantages of each. The presentation also reviews special considerations in comparing spectrum that an appraiser needs to consider. Finally it analyzes issues specifically related to television broadcast and mobile wireless spectrum as they relate to the upcoming incentive auctions.
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535 Fifth Avenue, 4th Fl, New York, NY 10017 Tel: +1.646.843.9850
Valuation and Strategic Advisory In the Media and Communications Sectors
Introductory Framework for Spectrum Valua6on
J. Armand Musey, CFA President/Founder November 9, 2012
See next slide for important disclosures
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Important Disclosures • This report should not be considered a
recommendation to buy or sell securities of any type. Please consult an appropriate professional advisor before making significant business or investment decisions
• This document expresses summary views and therefore do not include all views of Summit Ridge Group, LLC or its professionals
– Views expressed in this report may or may not be applicable to a given situation. Adjustments and/or changes may be needed to reflect the particular circumstances of that situation
• View in this report are subject to change. Summit Ridge Group, LLC does not assume responsibility for updating its contents. Please contact us for our most current views
• Supply is fixed – Innovations allow greater use – Similar to the way new technologies allow greater real
estate use by enabling taller buildings
• Different spectrum ranges have different properties physically limiting its use
• Spectrum is effectively “zoned” legally limiting its use
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Electromagnetic Spectrum Rights • Intangible Asset
• Owned by the Government in most countries – In the US, the FCC. created by the Communications Act of 1934,
manage spectrum use – FCC licenses spectrum to entities to use for limited duration “for
the public good” – Licenses explicitly require licensees to waive ownership claims to
the spectrum – Television Broadcasters received right to use the spectrum at no
charge from the FCC – Most spectrum now allocated via auction process but subject to
same limitations of rights
7
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Spectrum Licenses • FCC License for a terms (5-15 years)
• Explicitly not property, BUT – Normally a strong expectation of renewability – Transferable (with FCC approval) – Zoned for specific uses – Strong administrative barriers to revoking
• Effectively treated as quasi-property for valuation purposes
• FCC has asserted its rights to reallocate spectrum during middle of license period, even if it was paid for at auction
– Not clear if that would withstand judicial review
• FCC NPRM recently indicated that it will not allow low power television license holders (secondary use license holders) to participate in the incentive auction nor will they be eligible for repacking.
– Suggests secondary licenses lack quasi-property rights held by primary licensees
– Unclear if this proposal will stand • Potential to discourage secondary licensees from investing in
spectrum • Potential to put a damper on future spectrum sharing initiatives
• Under this approach, spectrum is worth – the present value of the benefits/cash flow it can
generate in excess of the other costs needed to generate those benefits/cash flows, including
• Equipment; • Labor; and • Normalized cost of capital
• Well accepted methodology by financial analysts
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Income Method/DCF - Process • Project revenue and expenses
• Determine the amount average amount the industry earns in excess of its cost of capital, not including any payments for spectrum
• Allocate that premium between various assets including spectrum
• Calculate the implied value of the spectrum based on the above
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Income/DCF Method - Challenges • Very sensitive to economic cycles where a
company’s earnings premium to its cost of capital can swing widely
• Allocation of premium to spectrum can appear somewhat arbitrary and difficult to defend – extreme care must be taken
• Company may be early stage and not earning a premium to its cost of capital
– Projections of future revenue and expenses are needed
• These can be hard to objectively determine
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Income Method/Discounted Cash Flow (DCF) - Conclusion • Finance 101
– The value of an asset is equal to the net present value of its future benefits/cash flows
• Reality 101 – Such cash flows are very hard to accurately predict –
results in huge variations in results • For this reason, courts tend to be skeptical of such
methods
• Most useful when – Internally (e.g. bidding strategy) or where estimates of
future benefits may be more reliable – Where reliable market comparables are not available
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Market Comparable Method - Background
• Analyze prior transactions and apply relevant metrics to subject asset being valued
• Most common method used – Objective – Easy to apply – Particularly influential in courts
• Under this approach, the value of spectrum is based on the logic that an asset is worth what someone has paid for similar spectrum
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Market Comparable Method - Process • Primary industry standard metrics is: $ per Mhz/PoP
– Price paid/ # megahertz / # of people covered
• Qualifications include – Not all PoPs are equal even in the same country – Not all licenses terms are equal (especially in different countries) – Not all spectrum is equal
• Satellite orbital slots generally don’t use # per Mhz/PoP but just price since size is generally standard (500 Mhz)
– Satellite slots valuation depends on the specific area covered and customers using it – much like commercial real estate
– Satellite slots are usually compared with similar slots that were historically sold
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Market Comparable Method - Process • Other adjustment issues to consider may include:
– Industry • Interim industry developments since comp • Financial resources of bidders • Industry growth and prospects
– Regulatory • Usage rights (zoning, power limits and other encumbrances) • Prospects for additional spectrum availability • Other regulatory issues (harmonization, pairing)
– Technical • Location
– Location in electro-magnetic band (compatibility with existing equipment, interference etc.)
– Geographic location covered • Amount of Spectrum - large blocks are more efficient • Interim technological developments since comp
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Market Comparable Method - Challenges
• Arriving at principled basis for adjustments – Adjustments can be large, causing uncertainty to
significantly increase range of valuation
• Market changes rapidly often rendering use of older comps difficult
• Often few comps available for less commonly traded spectrum
Business Environment Risk • Number of players in industry can change
– Many players maximizes liquidity options, maximizing potential sale price
– Industry consolidation reduces the number of buyers
• Increased barriers to entry for new entrants restricts number of buyers
• General business conditions – General downturn reduced the prospective return on spectrum
and likely limits access to capital
• Strategic issues can increase or decease spectrum value
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Technological Change Risk
• New technologies can improve ability to use spectrum, reducing demand
– Analog to digital conversion – 2g to 3g to 4g
• But new technologies can also create new demand
– Mobile broadband via personal devices such as iPhone and iPads
• Spectrum sharing technology may reduce need to control specific spectrum in the future
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Financial Market Risk
• Markets change rapidly - particularly the cost of and access to capital
– As cost of capital changes, the prospects of earning more or less than one’s cost of capital change
– As access to capital changes, the number of viable bidders change
• Both cost of capital and access to capital for bidder usually improve or deteriorate at the same time compounding the volatility
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Regulatory Risk
• New spectrum to be made available – Upcoming auctions increase supply and reduce value
of existing spectrum
• Terms of spectrum use – Changes in regulatory requirements to maintain
licenses – Changes in enforcement policy – Deployment timelines are particularly important for new
entrants • Violating terms can cause forfeiture of license
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Internal Strategic Issues • Value of spectrum can be specific to individual bidder
due to strategic issues – Incremental value when combined with existing spectrum
• Spectrum, like traditional property, may have greatest value when combined with existing holdings
– Blocking competitor – Avoiding additional site builds – Facilitation of technology migration – Resale value is especially important for investors – Tax considerations – Option value of spectrum for future as of yet undetermined
purposes
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Internal Position Issues
• Value to incumbent buyer likely different than that of new entrant
– Incumbent Has existing infrastructure in place to leverage when buying
• May consider spectrum as infrastructure expenditure avoided
• Incremental revenue/subscribers likely to be higher margin
– New entrant may have higher cost of capital – But incumbent has business risk when selling – likely to
value existing spectrum higher than incremental spectrum
General Conclusions - Buyers • Valuations dependent on the specific
circumstances of the buyer based on their: – Revenue expectations – Expectations of future market conditions – Access to capital – Strategic/Market position (their perception of it) – Position in market
• Incumbent • New Entrant • Buyer • Seller
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General Conclusions - Assumptions • Higher confidence possible when projecting
– Current equipment costs – Regulatory regime
• Medium confidence possible when projecting – Current operations and assets (unique to each buyer) – Strategic position of buyers
• Lower confidence possible when projecting – Market forecasts – Goals and confidence of individual bidders
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General Conclusions - Methods • Each method is valid and should produce the same result
– In reality, information is imperfect or missing, leading to different results
• Where possible, appraisers are expected to use each of the three primary methods (market comparable, income and replacement)
– Should evaluate reasons for choosing one over another
• In general, outsiders should put more emphasis on market comps, whereas industry insiders may derive more information from the income/DCF method
• As television broadcasting use, it has market value of $0.09 to $0.14 per MHz/POP
• Approx 85% of television broadcasting spectrum is unused • Television broadcast market is stable to declining • Market value for Mobile Broadband is above $1.00 per
MHz POP • Demand from mobile broadband is increasing rapidly • Government globally are reallocating this spectrum for
mobile broadband
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Background – Demand for Mobile Wireless Data Growing Fast!
Source: FCC: National Broadband Plan
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Currently 547 MHz for Mobile Broadband
Source: FC: National Broadband Plan, Exhibit 5-F: Spectrum Baseline
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FCC Wants to Add 300 MHz More Band Key Ac6ons and Timing Megahertz Available for
Mobile B-‐band
WCS 2010—Order 20
AWS 2/3 2010—Order; 2011—Auc=on
60
D Block 2010—Order; 2011—Auc=on
10
Mobile Satellite Services (MSS)
2010—L-‐Band & Big LEO Orders; 2011—S-‐Band Order
90
Broadcast TV 2011—Order; 2012/13—Auc=on; 2015—Band trans/clearing
120
Total 300
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Television Broadcast Incentive Auctions • Broadcasters will tender price they would like to
receive to vacate their spectrum • Voluntary process, but:
– FCC may take more aggressive steps if auction fails – FCC’s power tempered by broadcaster’s political power – Many smaller broadcasters seeking exist from unattractive
businesses
• Likely net result: – Broadcasters likely to tender at or slightly above fair market
value based on their current businesses – Net Result: Unspoken eminent domain process for the TV
industry, but with more flexibility for individual broadcasters to accept
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Mobile Spectrum - General
• Fewer substitution options than with fixed spectrum – Increases value – But offloading via Wi-Fi, femtocells and other
technology may become a greater substitute for incremental capacity
• The more cell sites an operator has, the more the spectrum is worth to them since
– Don’t need an many new cell sites to implement new spectrum
– Provides incumbent a large bidding advantage
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Mobile Spectrum – Frequency Quality • Lower frequencies have more coverage areas and
better in building penetration – Incremental frequency is measured against option of
more cell sites – Coverage is important in rural areas – In many urban areas cell sites are already small and
high powered to improve in-building penetration
• Harmonization of bands is important, particularly in smaller countries
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Television Broadcast Incentive Auctions • Authorized by the Spectrum act (Feb 2012)
– Quasi-voluntary process for broadcasters – Very specific, not giving the FCC much leeway
• FCC issued Notice of Rule Making Proposal (Sept12) – Auctions likely in 2014 timeframe absent additional delays
• Likely to impact broadcasters in the top 30-50 markets – Broadcasters in other markets subject to “repacking” to provide
contiguous spectrum for mobile broadband – Weakest broadcasters in each market likely to submit “winning”
low bids
• Unclear how recent industry consolidation will impact auction demand for auctioned spectrum
Industry Background § Unique blend of 16 years of equity research, investment banking and consulting experience including
§ Top Ranked Equity Research Analyst § Three-time Institutional Investor “All American” Ranking § #1 Ranked by Greenwich Association poll of institutional investors § Wall Street Journal “Best on the Street” ranking
§ President of small boutique investment bank § Extensive Consulting Experience
Education/Training § JD/MBA (Northwestern); MA (Columbia); BA (U. Chicago) § Chartered Financial Analyst (CFA)
Other § Member: NY Bar; Federal Comm. Bar Assn.; NY Society of Securities Analysts - Chair of Corporate Governance Committee (2007-2009)
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Selected Publications
• Broadcas6ng Licenses: Ownership Rights and the Spectrum Ra6onaliza6on Challenge. (Forthcoming) Columbia Science and Technology Law Review (2012)
• How the Tradi6onal Property Rights Model Informs the Spectrum Ra6onaliza6on Challenge. Has=ngs Communica=ons and Entertainment Law Journal (2012)
• Law Journal Ar=cles are available for download at: h`p://ssrn.com/author=1736251
Major Law Journals
• From the Ground Up. Wrote monthly ar=cles and oversaw produc=on of a widely read monthly newsle`er with analysis of issues in the satellite communica=ons, media and telecommunica=ons industries. (November 2005 to April 2007)
• Via Satellite. Wrote monthly financial column for leading satellite trade magazine =tled “Dollars and Sense,” from late 1999 un=l early 2003
Industry Periodicals
• Published highly regarded analysis on the satellite communica=ons and cellular tower industry that was instrumental in achieving several research honors and widely cited by industry insiders
• Issued, strategic analysis, valua=on opinions, buy/sell recommenda=ons as well as quarterly earnings es=mates and earnings results analysis
• Published virtually every week, usually mul=ple =mes a week