McGrath RentCorp — FY2016 Form 10-K
Business context and reporting period. This annual report covers the fiscal year ended December 31, 2016; quarterly figures are also provided, including Q4. McGrath RentCorp is a diversified business-to-business equipment rental company with four segments: Mobile Modular (including portable storage), TRS-RenTelco (electronic test equipment), Adler Tanks (containment tanks and boxes), and Enviroplex (classroom manufacturing). Rental operations are the core business.
Key financial metrics
| Metric | FY2016 | FY2015 |
|---|---|---|
| Total revenue | $424.1 million | $404.5 million |
| Gross profit / margin | $184.2 million / 43.4% | $176.9 million / 43.7% |
| Operating income / margin | $79.3 million / 18.7% | $77.0 million / 19.0% |
| Net income | $38.3 million | $40.5 million |
| Diluted EPS | $1.60 | $1.59 |
| Adjusted EBITDA and margin | $163.4 million / 39% | $164.1 million / 41% |
| Operating cash flow | $141.8 million | $144.6 million |
| Rental equipment purchases | $79.0 million | $131.0 million |
| Debt (notes payable, year-end) | $326.3 million | $381.3 million |
| Cash and shareholders’ equity (year-end) | $0.9 million / $394.3 million | $1.1 million / $379.7 million |
Cash used in investing activities was $60.2 million, versus $114.1 million in 2015; cash used in financing activities was $81.8 million, versus $30.5 million. The company had $186.4 million outstanding on its revolving lines and $245.6 million of additional borrowing capacity under its $432 million combined facilities. It reported compliance with debt covenants: fixed-charge coverage of 3.74x against a 2.50x minimum and leverage of 2.00x against a 2.75x maximum. The company states that variable-rate debt of $186.4 million would add approximately $1.9 million in annual debt service for each 1 percentage-point rate increase.
Material changes versus FY2015
- Revenue increased 5%, largely from higher sales and rental-related services; rental revenue was slightly lower. Sales rose 34% to $74.4 million.
- Net income declined 5%, while diluted EPS was $1.60 versus $1.59. The effective tax rate increased to 42.9% from 39.0%, adding about $2.6 million to tax expense and reducing diluted EPS by approximately $0.11.
- Mobile Modular revenue increased 14% to $209.5 million and pretax income rose 32% to $35.6 million. Average utilization improved to 76.6% from 75.8%.
- TRS-RenTelco revenue fell 6% to $108.6 million and pretax income declined 4% to $21.3 million, mainly from weaker rental revenue and rates.
- Adler Tanks revenue fell 11% to $83.8 million and pretax income declined 62% to $6.6 million. Average utilization fell to 50.1% from 58.3%.
- Debt declined about $55 million. Rental equipment purchases were substantially lower, and the company made no share repurchases in 2016, compared with $64.0 million of repurchases in 2015.
Outlook, commentary, risks and unusual items
- Management provided no specific earnings or revenue guidance in the supplied filing text. It said working capital and capital expenditure needs through 2017 and beyond should be met by operating cash flow, rental-equipment sale proceeds, and bank borrowings. It intends to continue quarterly dividends subject to continued profitability and favorable cash flow; a $0.26 per-share dividend for Q1 2017 was declared after year-end.
- In December 2016, the company decided to wind down its Bangalore, India branch beginning in 2017. A $0.7 million valuation allowance for India deferred tax assets increased FY2016 tax expense and reduced diluted EPS by about $0.03; management did not expect the exit to materially affect consolidated financial statements.
- CEO Dennis Kakures retired effective February 17, 2017; Joseph Hanna became President and CEO effective February 23, 2017. Management identified successful transition as a risk.
- California voters approved a $9 billion statewide education facilities bond and $22.9 billion in local facility bonds in November 2016. Management cautioned that timing of state bond sales and resulting classroom demand is uncertain. K-12 public schools accounted for 23% of consolidated rental and sales revenue in 2016.
- Key business risks include weak school funding or delayed projects, economic and seasonal demand swings, intense competition, rental-fleet utilization and residual-value risk, supplier concentration (one manufacturer supplied 47% of Mobile Modular units purchased in 2016), and regulatory or environmental claims. Adler Tanks remains exposed to oil-and-gas market weakness; that industry generated about 10% of Adler rental revenue for FY2016.
- The company reported no impairment of long-lived assets in 2014–2016, no material off-balance-sheet arrangements, and no pending litigation expected by management to materially affect financial position or results. The financial statement and internal-control audits received unqualified opinions; management and the auditor concluded internal control over financial reporting was effective as of year-end.
Important facts for investors to verify
- Whether Mobile Modular’s rental growth and utilization can offset continuing pressure in electronics and containment rentals.
- Whether Adler Tanks’ average utilization and margins recover, particularly as oil-and-gas activity and project demand change.
- The timing and actual classroom demand arising from California’s approved education bonds, alongside the company’s exposure to public-school funding.
- The drivers and sustainability of the elevated 2016 effective tax rate, including the India exit and state tax adjustments.
- Debt covenant headroom, refinancing needs and exposure to variable interest rates; verify cash, total debt and available revolving capacity in the audited statements and debt notes.
- Execution of the CEO transition and the operational and financial consequences of closing the India branch.