DBRS Comments on Hertz’s 2Q13 Results, Issuer Rating at BB, Trend Negative

DBRS, Inc. (DBRS) has today commented on the 2Q13 financial results of Hertz Corporation (Hertz or the Company). DBRS rates the Company’s Issuer Rating at BB. The trend on the ratings is Negative, where they were placed on August 28, 2012. The Negative trend reflects the substantial integration risks and other near-term risks associated with the Company’s acquisition of Dollar Thrifty Automotive Group, Inc. (DTAG or Dollar Thrifty), which closed on November 19, 2012.

Hertz reported record second quarter GAAP pre-tax income of $211.9 million. On an adjusted basis, excluding such items as restructuring charges, non-cash debt charges and acquisition related costs, Hertz reported record pre-tax income of $314.5 million, a 34% improvement YoY. Results for the quarter reflect record revenue generation driven by the addition of Dollar Thrifty along with sound volume growth and overall improved pricing in both worldwide rental car and worldwide equipment rental. Moreover, earnings expansion was supported by solid cost control.

For the quarter, Hertz reported second quarter revenues of $2.7 billion, a 22% increase YoY. Revenue growth was underpinned by record revenues in worldwide rental car and revenue expansion at Hertz Equipment Rental Corporation (HERC) that is outpacing industry growth forecasts. Worldwide rental car revenue increased 23% YoY to $2.3 billion underpinned by the addition of Dollar Thrifty, strong volume growth and an improving pricing environment. Meanwhile, revenue generation in the equipment rental business continues to expand reflecting a strong performance in the North America business, which accounts for 93% of the segments revenues. For the quarter, HERC revenues improved 14.7% YoY to $384.3 million. In DBRS’s view the improving performance of HERC reflects the realization of the benefits of recent bolt-on acquisitions that have broadened the segment’s operations into new markets and positioned the business to capitalize on solid opportunities for growth.

Operating expenses were higher in the quarter compared to a year ago primarily reflecting the impact of the DTAG acquisition. However, operating efficiency improved with direct operating expenses and SG&A expenses totaled 61.9% of revenues, an 80 basis point (bps) improvement YoY. The improvement in operating efficiency reflects continued cost reduction initiatives, improved employee productivity and integration synergies that are currently ahead of plan.

U.S. fleet costs were modestly higher YoY reflecting softening in wholesale auction values in April and May. As a result, U.S. vehicle depreciation, excluding Donlen, was 2% higher at $218 per month per unit. DBRS notes that residual values have stabilized since May 2013 and that the Company continues to shift more of its fleet sales to higher-return retail channels. Moreover, Hertz expects the average per unit cost of its 2014 fleet buy to be below that of the 2013 fleet buy, which will benefit fleet costs in the latter parts of 2013 and into 2014. As a result, DBRS expects fleet costs to remain well-controlled.

By operating segment, Worldwide Car Rental’s adjusted pre-tax income was $363.0 million compared to $277.4 million a year ago. The record results were underpinned by another strong performance in U.S. Rental Car which reported revenue growth of 34% YoY and improved operating efficiency partially offset by the aforementioned higher fleet costs. Revenue growth was supported by the inclusion of Dollar Thrifty, a 12% expansion in off-airport revenue on higher volumes and improved pricing, and pricing gains in the on-airport segment. Importantly, after two years of pressured operating results, Hertz’s European operations, excluding Switzerland, reported solid revenue growth of 4%, excluding foreign currency movements. The improvement in revenue generation reflects higher volumes and a slight increase in inbound revenue. Also during the quarter, Hertz continued its expansion in Europe opening 137 co-branded Thrifty locations, 5 additional Firefly (the Company’s deep-value brand, formerly Advantage Europe) locations and the acquisition of CCL Vehicles Rentals to penetrate the U.K.’s $1.5 billion insurance replacement market. DBRS sees these actions by Hertz as positioning the Company to capitalize on growth opportunities when the European economy returns to a growth trajectory. HERC’s financial performance continues to strengthen. For 2Q13, the segment generated adjusted pre-tax income of $74.1 million, a notable 74% increase YoY. As noted above, revenue growth was sound while costs remain well-managed. As a result, adjusted pre-tax margin improved to 19.3%.

From DBRS’s perspective, Hertz’s funding and liquidity profile remain solid and well-managed. The Company continues to proactively take advantage of the favorable rate environment to lower financing costs which will benefit margins and earnings in upcoming quarters. To this end, during 2Q13, Hertz completed the repricing of its senior secured tranche B term loan facility with lower margins and a reduced interest rate floor. DBRS notes at the time of the repricing the Company had $1.4 billion of outstanding borrowings under the facility. Liquidity profile was solid with $840 million of available corporate liquidity at quarter-end.

Notes:
All figures are in U.S. dollars unless otherwise noted.

[Amended on May the 23rd, 2014 to remove unnecessary disclosures.]