Hertz Global Holdings, Inc. — Q3 2018 Form 10-Q
Business and period: The filing covers the quarter and nine months ended September 30, 2018; it was filed November 8, 2018. Hertz operates the Hertz, Dollar and Thrifty rental brands globally and provides fleet leasing and management through Donlen. Hertz Corporation is the principal operating subsidiary; its results comprise nearly all of Hertz Global’s operations.
Financial performance and position
| Metric | Q3 2018 | Nine months 2018 | Comparison |
|---|---|---|---|
| Revenue | $2.758 billion | $7.209 billion | Up 7% in both periods versus 2017 |
| Net income (loss) attributable to Hertz Global | $141 million | $(124) million | Q3: $93 million income; nine months: $(289) million loss in 2017 |
| Diluted earnings (loss) per share | $1.68 | $(1.49) | 2017: $1.12 and $(3.48), respectively |
| Adjusted pre-tax income (non-GAAP) | $240 million | $44 million | 2017: $188 million and $(107) million |
| Net interest expense | $188 million | $554 million | Up 6% and 19% from 2017 |
| Operating cash flow | Not separately presented | $2.017 billion | $1.977 billion in 2017 |
Q3 pre-tax income was $181 million; nine-month pre-tax loss was $137 million. Q3 net income margin was approximately 5.1% (calculated from reported revenue and attributable net income). Net vehicle depreciation and lease charges were $672 million in Q3 and $2.020 billion year to date, down 4% and 6%, respectively. No consolidated gross or operating margin is presented as a headline measure.
At September 30, cash and cash equivalents were $761 million, restricted cash was $265 million, and total debt was $17.158 billion ($12.737 billion vehicle debt and $4.421 billion non-vehicle debt). Corporate liquidity, defined by the company as cash plus Senior RCF availability, was $1.266 billion. Total remaining facility capacity was $1.413 billion, but availability after borrowing-base limits was $512 million. Stockholders’ equity was $1.227 billion, down from $1.520 billion at year-end 2017.
Material changes and operating trends
- U.S. Rental Car revenue rose 10% in Q3 and 8% year to date. Transaction days increased 7% in both periods; total revenue per transaction day rose 3% in Q3 and 1% year to date. U.S. segment adjusted pre-tax income improved to $222 million in Q3 and $200 million year to date.
- International Rental Car revenue rose 1% in Q3 and 6% year to date, but Q3 adjusted pre-tax income fell to $133 million from $147 million. Utilization weakened, and vehicle depreciation per unit increased, partly reflecting declining residual values on European diesel vehicles.
- Net vehicle capital spending (vehicle purchases less disposal proceeds) was $4.698 billion for nine months, versus $3.398 billion in 2017. Management attributed the increase principally to a larger U.S. fleet and a richer fleet mix. Vehicle debt increased by $2.306 billion from year-end.
- SG&A increased 22% in Q3 and 16% year to date, reflecting marketing, transformation program, incentive compensation, litigation and other costs. Information technology and finance transformation costs were $24 million in Q3 and $75 million year to date.
- The 2018 results benefited from lower U.S. vehicle depreciation and the absence of 2017 impairment charges, including an $86 million Dollar Thrifty tradename impairment. Conversely, vehicle interest expense rose substantially, driven by higher rates, margins and average fleet-related debt.
Outlook, risks and unusual items
- Liquidity outlook: Management stated it expects operating cash flow, vehicle disposal proceeds, financing facilities and capital-market refinancing options to fund operations and debt maturities for the next 12 months. The company is highly leveraged and expects to refinance or repay maturing debt. The filing reports approximately $2.3 billion of vehicle debt and $16 million of non-vehicle debt maturing from October 2018 through September 2019 in Note 6; the MD&A separately cites approximately $1.8 billion and $16 million due in the 12 months following the report. These maturity figures use different stated dates and should be reconciled. Management said refinancing was probable and intended, not assured.
- Hertz was compliant with its first-lien net leverage covenant at September 30: 1.50 to 1.00 versus a maximum of 3.00 to 1.00. Management expected continued compliance for at least 12 months.
- No specific earnings or revenue guidance is provided. Management described a seasonal business, with demand typically strongest in spring and summer, and identified rental demand, pricing, fleet costs and residual values as key profitability drivers.
- Adoption of Topic 606 reduced opening accumulated equity by $189 million. At September 30, the reported balance sheet included $192 million more liabilities and $192 million less equity than under prior guidance. The adoption reduced Q3 revenue by $7 million and net income by $6 million versus prior guidance; management said the overall operating-results impact was not significant. Unredeemed loyalty points represented a $271 million contract liability.
- Topic 842 lease accounting was planned for adoption January 1, 2019. Management expected a material increase in lease-related assets and liabilities, primarily for rental locations and other assets, but no material impact on results of operations.
- Tax reform accounting included an estimated $15 million non-cash Q3 tax expense for the transition tax, net of remeasured tax losses; the estimate could change. The company also recorded a $13.6 million accrual for the SEC investigation related to historical accounting matters; a settlement could exceed the accrual and be material. Related U.S. Attorney discussions were ongoing. Brazil-related local-law matters and French road-tax disputes could also result in material losses, though the company said the Brazil reserve was not material.
- Public liability and property damage reserves were $439 million, based on estimates subject to uncertainty. The company disclosed that its disclosure controls were not effective because of continuing material weaknesses in internal controls over financial reporting, including tax-related controls; remediation was ongoing.
- A related-party vehicle leasing and fleet-management arrangement with Icahn-affiliated 767 Auto Leasing was consolidated as a variable interest entity. Hertz sold 1,600 vehicles to 767 for approximately $18 million during the first nine months.
Important facts for investors to verify
- Reconcile the differing vehicle-debt maturity estimates and confirm refinancing progress, borrowing-base availability and the effect of vehicle collateral restrictions.
- Track whether U.S. rental growth and improved residual values persist, and whether international utilization and diesel-vehicle residual pressures worsen.
- Assess the sustainability of adjusted pre-tax improvement against higher SG&A, vehicle interest costs and substantial fleet investment; review the non-GAAP reconciliation.
- Monitor the SEC and other legal or tax matters, including whether losses exceed recorded accruals, and the adequacy of public-liability reserves.
- Confirm remediation and testing of internal-control material weaknesses, and review the eventual effects of lease-standard adoption and loyalty-program estimates.