Hertz Global Holdings, Inc. — Q3 2016 Form 10-Q
Reporting period: Quarter and nine months ended September 30, 2016. Amounts are in U.S. dollars; financial amounts are in millions unless stated otherwise. The filing was signed November 7, 2016.
Business context and reporting period
Hertz operates vehicle rental businesses under the Hertz, Dollar and Thrifty brands and provides leasing and fleet-management services through Donlen. On June 30, 2016, the company completed the spin-off of its equipment-rental business, which is reported as discontinued operations. Hertz is the accounting successor to Old Hertz Holdings, so prior-period comparisons reflect discontinued-operations presentation and the separation affects comparability.
Financial and operating performance
| Metric | Q3 2016 | Q3 2015 | Nine months 2016 | Nine months 2015 |
|---|---|---|---|---|
| Total revenue | $2,542 | $2,575 | $6,794 | $6,991 |
| Income from continuing operations before tax | $108 | $256 | $(3) | $185 |
| Net income (loss) from continuing operations | $44 | $217 | $(36) | $152 |
| Net income (loss), including discontinued operations | $42 | $237 | $(51) | $203 |
| Adjusted pre-tax income, a non-GAAP measure | $212 | $289 | $159 | $368 |
| Operating cash flow from continuing operations | Not presented separately for the quarter | $2,051 | $2,265 |
- Q3 operating drivers: U.S. Rental Car revenue fell 2%; Total Revenue Per Transaction Day (RPD) declined 3%, partly offset by 1% more transaction days. International Rental Car revenue declined 1% as reported; excluding currency effects, it rose 1%.
- Nine-month operating drivers: U.S. Rental Car revenue declined 4%, with Total RPD down 7% and transaction days up 3%. International Rental Car revenue fell 1% as reported but increased 1% excluding currency effects.
- Depreciation and margins: Net vehicle depreciation and lease charges rose 10% to $695 in Q3 and 4% to $1,940 for nine months. U.S. Rental Car net depreciation per unit per month increased 14% in Q3 and 10% for nine months, reflecting declining residual values, a higher non-program fleet mix and higher vehicle acquisition costs.
- Cash flow and fleet investment: Nine-month operating cash flow was $2,051; investing cash outflow was $2,139, including $9,250 of vehicle purchases and $6,960 of vehicle-disposal proceeds. Net vehicle capital expenditures were $2,290.
- Balance sheet and liquidity at September 30: Cash and cash equivalents were $1,430, restricted cash $324, total debt $14,863 ($10,170 vehicle and $4,693 non-vehicle debt), and equity $1,573. The company reported $2,526 of remaining facility capacity, but only $1,117 was available under borrowing-base limitations. It had $614 of outstanding letters of credit, none drawn.
- Leverage and interest: The company described itself as highly leveraged. Nine-month cash interest paid was $183 on vehicle debt and $218 on non-vehicle debt. Its Senior RCF covenant leverage ratio was 4.53x versus a 5.25x maximum for September 30, 2016; management reported covenant compliance.
Material changes versus the prior comparable period
- Q3 revenue declined 1%, while continuing-operations pre-tax income fell from $256 to $108 and adjusted pre-tax income fell from $289 to $212. Nine-month revenue declined 3%; continuing-operations results shifted from $152 net income to a $36 net loss, and adjusted pre-tax income fell from $368 to $159.
- Management attributed weaker U.S. results primarily to lower rental rates and higher vehicle depreciation. U.S. Rental Car adjusted pre-tax income declined 30% in Q3 and 39% for the nine-month period.
- Cost savings were approximately $90 in Q3 and $260 for nine months. However, international public-liability and property-damage expense increased, including a $20 charge in Q2 for U.K. claims development.
- Cash increased by $956 from year-end, primarily reflecting financing cash flows that included $2.1 billion of transfers from discontinued entities in connection with the spin-off. Operating cash flow was $214 lower than in the prior-year period.
- Total debt declined from $15,770 at December 31, 2015, but the debt mix and financing arrangements changed substantially following the spin-off and refinancing transactions.
Outlook, risks, contingencies and unusual items
- Management expected the 2016 full-year effective tax rate to be approximately 16%. The filing does not provide a consolidated earnings or revenue forecast.
- Management expected European travel weakness following terrorist attacks to continue into Q4 and estimated a $10–$15 adverse impact on full-year 2016 European operating results, on a constant-currency basis. It reported no material business impact from the U.K. vote to leave the European Union as of the filing date.
- Approximately $3.2 billion of vehicle debt was due to mature within 12 months. Management said it intended and believed it probable that it could refinance relevant facilities, and expected available cash, operating cash flows, vehicle-sale proceeds and financing access to cover needs. This depends on financing markets and vehicle collateral availability.
- After quarter-end, Hertz redeemed $800 of 6.75% notes due 2019, paying a $14 early-redemption premium and $26 accrued interest. It had issued $800 of 5.50% notes due 2024 in September. The filing also reports that $800 of cash on hand was used for the October redemption.
- Q3 included $28 of impairment charges and asset write-downs, including a $26 impairment tied to restructuring; nine-month restructuring charges were $62. Q3 also included debt-extinguishment and financing charges. The 2016 nine-month results included a $75 gain on sale of CAR Inc. shares and a $9 eminent-domain settlement gain.
- Material weaknesses in internal control over financial reporting remained unremediated; management concluded disclosure controls were not effective at September 30. Remediation efforts, including changes to the Brazilian subsidiary’s financial-reporting controls and the transition of accounts-payable functions to an outside provider, were ongoing.
- Risks include substantial leverage and refinancing requirements, declining used-vehicle residual values, rental pricing and travel demand, foreign exchange and interest rates, claims reserves, and litigation and government investigations. The filing describes SEC and other inquiries concerning prior restatements, Brazil-related matters that may raise Foreign Corrupt Practices Act issues, and securities litigation; potential losses could be material, but ranges were not estimable for several matters.
Important facts for investors to verify
- Track U.S. rental pricing, transaction volume, utilization and used-vehicle residual values, including the effects of fleet mix and depreciation assumptions.
- Confirm refinancing progress and borrowing-base availability for the vehicle debt maturities, and monitor covenant headroom and the use of cash after the October note redemption.
- Assess whether European travel and claims trends, particularly U.K. public-liability claims, develop in line with management’s estimates.
- Monitor remediation and testing of the material weaknesses, and developments in the restatement-related, Brazil/FCPA, securities-litigation and other legal matters.
- Reconcile reported GAAP results with adjusted pre-tax income and consider the effects of spin-off presentation, asset-sale gains, restructuring, impairments and debt-refinancing costs.