Drive Home Over 10% YTM from Hertz Global, Bonds Mature October 2022

  • A 52% increase in in global net income.
  • U.S. adjusted corporate EBITDA increased by 25% year-over-year.
  • Revenues for U.S. operations also increased 10% year-over-year.

This week’s bond review ventures into the auto world, specifically car rentals. Hertz is one of the leading auto rental companies in the U.S. and around the world. The company recently posted its financial results for its third quarter, presenting solid evidence that the 2017 Transformation Plan is continuing to bear fruit. Some of the company’s excellent Q3 results include the following:

 

  • A 52% increase in in global net income.

  • U.S. adjusted corporate EBITDA increased by 25% year-over-year.

  • Revenues for U.S. operations also increased 10% year-over-year.


Hertz third quarter 2018 represents the company’s fourth consecutive quarter of year-over-year revenue and adjusted earnings growth. Third quarter higher volumes were driven by the company’s investments in fleet quality, customer service, marketing initiatives as well as robust travel trends.  The company’s 2022 bonds, with a yield to maturity of over 10%, offer a fantastic opportunity to add diversification into the retail / consumer auto industry and make an ideal addition to Durig Capital’s
FX2 Managed Income Portfolio.


Results for Third Quarter 2018

Hertz recently released its results for its third quarter (three months ending September 30, 2018). The company continues to drive revenue increases both in its U.S. segment as well as globally. This quarter was the company’s fourth consecutive quarter of year-over-year revenue and adjusted earnings growth. Highlights from its Q3 results include:

 

  • Hertz total revenues were nearly $2.8 billion, an increase of 7%.

  • The U.S. rental car business experienced a 10% increase in revenues.

  • Hertz Global net income improved by 52%, to $141 million.

  • Total Adjusted EBITDA increased to $351 million, representing a 9% increase.

  • U.S. adjusted corporate EBITDA for U.S operations was $208 million, a 25% increase versus the prior year.


Kathryn Marinello, Hertz CEO had good things to say about the company’s most recent quarterly results. “
I’m proud of the progress we’re making, which is a clear testament to our leadership strength, our employee’s dedication and accountability and better collaboration across the organization will all focus on actions that act into our unique competitive advantages”.


(Source: Hertz Q3 2018 Investor Presentation)

 

About the Issuer

 

Hertz Global operates its vehicle rental business globally through the Hertz, Dollar and Thrifty brands from approximately 10,200 corporate and franchise locations in North America, Europe, Latin America, Africa, Asia, Australia, The Caribbean, The Middle East and New Zealand. The company is one of the largest worldwide airport general use vehicle rental companies and the Hertz brand name is one of the most recognized in the world, signifying leadership in quality rental services and products. Hertz has an extensive network of rental locations in the U.S. and in all major European markets. The company believes that it maintains one of the leading airport vehicle rental brand market shares, by overall reported revenues, in the U.S. and at major airports in Europe. Hertz is also a leading provider of comprehensive, integrated vehicle leasing and fleet management solutions through its Donlen subsidiary.

 

The Car Rental Market

 

In 2017, the U.S. car rental industry posted record total revenue of $28.6 billion. The increase was the smallest growth increase since revenues decreased at the start of the recession. Notably, this increase was achieved on a smaller overall fleet. This in turn translated to an increase in the revenue per unit per month (RPU) of $1,091, the first RPU growth year-over-year in four years and the highest RPU historically recorded.

 

Smaller fleets indicate that car rental companies are learning how to do more with less. Reducing capacity (Hertz calls it “right-sizing” their fleet) is a must in order for companies to survive at this point. And Hertz appears to be doing it right. The good news here is that there has already been consolidation within the industry, like Hertz’ acquisition of Dollar Thrifty in 2012 and the Enterprise / Alamo merger. Also, the intensive capital requirement of this business presents a very high barrier to new players entering the market.

 

Globally, the car rental market is predicted to grow over the next few years. According to Zion Market Research 2017, the outlook for the next few years in the global car rental industry is bright. In 2016, the market was estimated to be $58.26 billion, and is expected to grow at a CAGR of around 13.55 per cent between 2017 and 2022. By 2022, this market is expected to reach approximately $124.56 billion.
 

Financials
 

Interest coverage is of paramount importance to bondholders as it indicates a company’s ability to service its existing debt. For the most recent quarter, Hertz Global had operating income of $369 million and non-vehicle interest expense of $73 million for an excellent interest coverage ratio of 5x.
 

On the liquidity front, as of September 30, 2018, Hertz had a total corporate liquidity of $1.3 billion. The company has no significant non-vehicle debt due until October 2020, and has recently revealed that it now is forecasting full year 2018 adjusted free cash flow to be positive. This is in comparison to 2017’s negative $336 million in adjusted free cash flow. This is great news for the company as it continues to deleverage its balance sheet. The company measures its leverage by adjusted corporate EBITDA to net corporate debt. This has declined three times to 9.1x from 12.7x at year end 2017. As Hertz’ operating results improve, the company continues its focus on deleveraging.
 

(Source: Hertz Q3 2018 Investor Presentation)

 

Risks
 

The risk for bondholders is whether the company can continue to make progress on its transformation begun in 2017. Third quarter represents the fourth consecutive quarter of growth for the company. U.S. operations are showing a healthy tailwind, in both business and leisure rentals. The company is looking for ways to increase efficiencies through technology and the secondary used vehicle market is improving. All of these factors are working in Hertz’ favor, and the company’s results continue to improve. In light of these factors, the over 10% yield to maturity on the company’s 2022 bonds does appear to outweigh the risks identified.
 

An important part of Hertz’ business is being able to sell the used cars from its fleet that it needs to replace on the open market. Values in this market fluctuate, affecting resale values for used autos. Used vehicle residuals were strong in the first quarter, but even a small decrease in the prices Hertz is able to secure will likely have a significant affect on the bottom line.
 

In general, bond prices rise when interest rates fall and vice versa. This effect tends to be more pronounced for lower couponed, longer-term debt instruments.  Any fixed income security sold or redeemed prior to maturity may be subject to a gain or loss. Higher yielding bonds typically have lower credit ratings, if any, and therefore involve higher degrees of risk and may not be suitable for all investors.
 


Summary and Conclusion

Hertz is one of the biggest car rental companies in the world. It has just logged its fourth consecutive quarter of year-over-year growth, with outstanding increases in revenues, adjusted EBITDA and net income. The company is continuing to invest in technologies to improve its efficiencies as well as improving its balance sheet through deleveraging. The company’s 2022 bonds, couponed at 6.250% are currently trading at a discount resulting in a very competitive yield-to-maturity of over 10%. With the excellent yield and the chance to diversify into the retail auto / auto rental sector, these bonds make an ideal candidate for additional weighting in Durig Capital’s FX2 Managed Income Portfolio.
 

Issuer:  Hertz Global

Ticker: NYSE: HTZ

Coupon: 6.250%

Maturity: 10/15/2022

Ratings: B3 / B-

Pays: Semiannually

Price:  ~ 86.5

Yield to Maturity: ~10.625%

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Disclosure: Durig Capital and certain clients may hold positions in Hertz Global’s 2022 bonds.

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