Broad Run Investment Management commentary for the third quarter ended September 30, 2016.



For the quarter, Broad Run Focus Equity Composite returned 3.1% net of fees1 compared to 4.4% for the Russell 3000 Index. Year to date, the Composite returned 4.8% net of fees compared to 8.2% for the Russell 3000 Index. The results for your account will differ somewhat from the Composite due to variations in account holdings and other client-specific circumstances. Your account’s actual results are presented in an attachment. We remind you that we manage your account for long-term results, so we encourage you to evaluate its performance over a multi-year time frame. Long-term Composite performance is presented at the end of this letter.

Broad Run

[drizzle]There were no notable portfolio transactions during the quarter. This is not unusual for us, as our concentrated, long-term investment approach typically leads us to just three or four new positions per year, with some years higher, and others lower. At the end of the quarter, your portfolio was essentially fully invested in what we believe to be reasonably priced, high quality businesses that will compound their earnings at attractive rates for a long time to come. We continually search for opportunities to upgrade your portfolio, and will take action when circumstances warrant.

To further your understanding of what you own, and why, we will use this letter to describe our thinking behind American Tower (AMT), the largest holding (about 10% of assets) in your portfolio at the end of the quarter. We have a long history with AMT and believe it measures very well against our five investment criteria (high quality business, large growth opportunity, excellent management, low tail risk,

and discount valuation) as explained below.

Broad Run Investment Management – American Tower

AMT is the largest owner and operator of cellular towers in the U.S., with a growing presence in select emerging markets including Mexico, Brazil, India, Nigeria, and South Africa. These towers provide critical infrastructure to the wireless industry. Wireless carriers, such as AT&T, Verizon, T-Mobile, and Sprint, rent space on towers to install communications equipment that transmits and receives wireless signals from mobile phones and other devices.

A cell tower has wonderful economic characteristics. A typical tower has capacity for four tenants. The first tenant covers the cost of tower construction by providing a mid- to high-single digit return on capital. Each subsequent tenant requires virtually no incremental capital or operating cost by the tower owner, so more than 90% of rental revenue flows through to EBITDA. A tower with three or four tenants can have a 25%-plus return on invested capital and an 80%-plus EBITDA margin with de minimis maintenance capital expenditure needs.

So with these economics, what keeps everyone from building a cell tower in their back yard? For one, these are tall unsightly metal structures. So neighbors, preservationists, and zoning boards make it very difficult to get a new cell tower permitted. But equally important, there are only a handful of large wireless carriers in most markets. Tower lease agreements typically include five to 10 year initial terms with multiple five-year renewal options. If an incumbent tower has two or three carriers under contract, a new tower in the same trade area has limited opportunity to win clients. Over the last four years, the number of cell towers in the U.S. has grown at less than 2% per annum.

While owning a cell tower is a good business, owning a nationwide portfolio of towers is an even better business. With over 40,000 towers across the U.S. (about 25% of all cell towers in the country), AMT gets scale efficiencies in purchasing, construction, and management, while also streamlining the administrative cost and time to market for national wireless carriers.

Against this backdrop of attractive tower economics and supply constraints, there is dramatic growth in wireless data demand that is pushing carriers to lease more space on more tower locations to maintain the quality of their signal. Over the last two years, U.S. wireless data demand has doubled as data intensive 4G phones replace less data intensive 3G phones. Continued 4G phone adoption, supplemented by growth in tablets and other devices, is forecast to drive 40-50% annual wireless data growth over the next five years (according to Cisco Systems). Further, we expect the U.S. 5G rollout to begin around 2020, driving another big uplift in data demand and cell tower utilization.

The wireless trends we see in the U.S. are playing out overseas on a lagged basis. We believe the U.S. is in the fifth or sixth inning of 4G adoption, while many emerging markets are still deploying 2G or 3G networks putting them about five or 10 years behind on the wireless technology adoption curve. Most emerging markets lack legacy fixed-line infrastructure for Wi-Fi offload, so the capture rate of data growth on wireless networks and cell towers is significantly higher than it is in the U.S. Today, AMT generates about 40% of its revenue from these faster growing overseas markets. We give credit to AMT management for investing in emerging market cell towers way ahead of competitors, establishing leadership positions that are paying off nicely today.

Unfortunately, a 40-50% annual increase in wireless data demand does not translate into a 40-50% increase in cell tower occupancy. Increased equipment occupancy is one of several solutions carriers have to meet this wireless demand, along with buying / deploying additional wireless spectrum, upgrading transmission equipment, and using non-tower transmission sites (rooftops, water towers, small-cells, DAS). Over the next five years, we expect AMT to grow revenue organically at 6-8% per annum in the U.S. and 10-14% overseas for a 9-10% blended organic revenue growth rate. With operating leverage, this organic revenue growth should translate into 10-12% organic EBITDA growth. In addition, AMT’s 4-5% free cash flow yield, deployed into dividends and select acquisitions, should push total returns to the mid-teens. Today AMT trades at about 18x adjusted funds from operations (AFFO) [a reasonable approximation of owner earnings], a slight premium to the broader market earnings multiple, but with twice the expected growth of the market.

The risks we think are most pertinent to our AMT investment are technological threats / substitutes and financial leverage. Over the years, we have seen many perceived technological threats emerge, only to be proven uneconomic or technically flawed in practice. Today, traditional cell towers (150+ feet tall) are the most cost effective means to provide a strong wireless signal to a wide area. There are supplemental solutions, such as “small-cell” towers (under 30 feet tall), that can make economic sense for dense urban infill (mostly supplementing rooftop antennas, not cell towers), however, with an all-in-cost that is approximately 10x that of a macro tower site, small-cell towers have limited applicability elsewhere. Historically, satellite phones have been viewed as a possible alternative to terrestrial wireless, but billions of dollars of losses, accompanied by four major bankruptcies, have demonstrated satellite phones are only practical in niche situations (ships at sea, deep in jungles). Finally, Wi-Fi hot spots are a long rumored competitor to traditional cellular networks. Wi-Fi works well at a coffee shop or in your

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