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Avis Budget Group, Inc. (CAR)

March 07, 2013 12:00 pm ET

Executives

David B. Wyshner - Global Chief Financial Officer and Senior Executive Vice President

Analysts

Kevin Milota - JP Morgan Chase & Co, Research Division

Kevin Milota - JP Morgan Chase & Co, Research Division

Good morning, everyone. Kevin Milota here with David Wyshner from Avis Budget Group. Happy to have the -- have you here and talk a little bit about the car rental space.

Question-and-Answer Session

Kevin Milota - JP Morgan Chase & Co, Research Division

Obviously, the industry is, from a pricing perspective, has been a lot more robust than you've seen in recent memory. So maybe you could just kind of walk us through on what you're seeing on the price side of things, whether it be with a business customer or the leisure customer?

David B. Wyshner

Sure. Thanks, Kevin, and thanks, very much for having us here. By the way, we've had a busy morning or busy day already. The -- I should mention the Zipcar shareholder vote was this morning on our merger transaction. And they approved the transaction this morning at that vote, overwhelmingly. So we think we're in position to close that deal probably next week. And I imagine you'll have some questions about that, but I do want to mention it. With respect to pricing, we are seeing a pretty healthy environment in the -- toward the end of the fourth quarter and into the first quarter. And I think there are a few things that are probably driving it. The first is that we've redoubled our own efforts to push for pricing wherever we can. And I think those are having an impact. I think we have an industry that is generally right-fleeted. And then on top of that, I think we're seeing our competitors move for profitability, rather than share or other potential objectives, and that has a positive impact on all of us. The pricing has clearly been stronger on the leisure side and is being driven on the leisure side, that's where the increases have been coming. Small business, tends to track leisure pricing to an extent, and so in that portion of our commercial business, we're seeing an uplift as well. The large contracted commercial business continues to be fairly competitive. And that's continuing to renew at a modest decline year-over-year. But we're going to look for opportunities there as well.

Kevin Milota - JP Morgan Chase & Co, Research Division

Can you maybe talk a little bit -- obviously, the Hertz Dollar Thrifty transaction closed and maybe just talk a little bit -- you spoke a little bit about what you're seeing from your competition standpoint. But who's the price leader and laggard and how that comes to kind of create a more healthy pricing environment?

David B. Wyshner

Sure. We've been very aggressive in initiating price increases over the last 4 months or so, and I think that's had a positive impact. What we watch for is the extent to which our competitors react to that with increases. And we've seen a fairly good matching of increases by both Hertz and the Enterprise. It slowed down a little bit lately, but I think the number of increases we've had puts us in a reasonably good position. Sometimes, people focus a lot on who's initiating the price increases and who's following. And we've generally been the initiator not only over the last 4 months but over the last few years. The real -- in some ways, the real issue becomes whether anyone is taking a very different view on pricing and not moving pricing up when the rest of the industry is, because that clearly can have an impact. I think in an environment where there are 3 competitors rather than 4, there's one -- and there's obviously a little bit less risk of that happening. With that being said, I should also point out that the pricing we're talking about is a few percentage points. It's 2.5% for us works out to $1 a day. And it can have a very large impact on us, but it also continues to keep our product, our core service offering in a position where it's very attractive from a customer standpoint and that's important to us as well.

Kevin Milota - JP Morgan Chase & Co, Research Division

And then you have an interesting strategy where you're targeting international inbound travel, and then maybe separately we can talk about small business. But maybe just go into a little bit what you're doing on the International side of things, how that's helping pricing and demand, maybe just a little bit different than what the competition is going after?

David B. Wyshner

Sure. International travel has a -- international inbound travel has a number of elements that are very attractive about it. Those customers tend to have a longer length of rental, which tends to make transactions more profitable. They're more likely to take a GPS. They're more likely to need an insurance product. And as a result, the international inbound becomes attractive to us. And we're targeting it through our sales efforts, through our marketing efforts, how we position our brands around the world. And we really believe the -- our acquisition of Avis Europe in late 2011 really strengthens our ability to call on multinational accounts and to drive international inbound travel around the world. And as a result, it's been a focus of ours even before that, but we've been able to be even more successful as a result of having control of our brands worldwide now. And I think we'll continue to push in this area. We are making good progress, but I think we're still behind where the strength of our brands globally could have us in that space.

Kevin Milota - JP Morgan Chase & Co, Research Division

Then maybe a little bit on the small business front. Obviously, the commercial part of the business and the larger corporation businesses is under pressure but trying to offset that with what you're doing on the small business front. And maybe just talk about the strategy on that end and how, at the end of the day, that helps the corporate side of the business and the commercial side?

David B. Wyshner

Sure. Whether you work for a company that has a lot of business travelers or a smaller number of business travelers, your business travel pattern tends to be pretty much the same. They tend to go the same -- roughly the same cities, the length of rental tends to be similar. And as a result, small business transactions look a lot like the larger -- the transactions from larger accounts. But we don't have to provide the same volume discounts in order to get small business accounts signed up with us. And we've been very active in using, principally, telemarketing relationships as opposed to in-person calling efforts to drive the signing of small business accounts and to drive volumes there. And it's been a significant win for us because it really helps us have the commercial pricing overall that is stronger than purely the larger commercial contracted accounts would provide.

Kevin Milota - JP Morgan Chase & Co, Research Division

And then kind of switching gears here a bit to the fleet cost -- part of the equation here. Maybe just give us a sense for what your expectations are for car costs going forward through the year again what's implied in guidance? And to an extent talk about what the underlying kind of depreciation assumptions are?

David B. Wyshner

Sure. Our expectation is that our fleet costs in North America are going to increase this year. We're estimating about 15% to 20% on a per unit basis and that's reflected in our guidance. It'll take our monthly depreciation cost or monthly all in-fleet cost up to about $275 to $290 per unit per month here in North America. And so far the used car market has been playing out largely as we expected it to. It's functioning well. Prices are reasonably strong, by historical standards. But they're also down from where they are 1 year ago. The Manheim Index of used car prices came out this morning, I think they're showing the index down about 3% year-over-year. And the comps are going to be tough from February through June for the index and for used car prices, and we've reflected that in our results. As I said, our experience so far has been consistent with our expectations. But we're also seeing good throughput at auctions and in the alternate disposition channels we're using. So we're able to sell cars in the numbers we expected to -- actually sold a few more cars in February that we had initially planned.

Kevin Milota - JP Morgan Chase & Co, Research Division

And just from a monetization standpoint of at the end of the car's life, can you talk a little bit about what you're doing to kind of creatively divest those assets?

David B. Wyshner

Sure. I think our desire is to be mechanically optimal more than creative. We want to optimize more than hit any particular targets for various channels. We want to do what allows us, in a given market, to maximize profitability. It has us using still physical auctions, a fair amount, more than half our sales are still occurring at physical auctions, which continue to operate well. But we're also using online auctions significantly. We're growing our direct-to-dealer activity, and we have a direct-to-consumer program in conjunction with AutoNation that's operating in 6 states currently, is ramping up. And is a really interesting test for us as to whether that represents a good additional opportunity. As we look at the various disposition channels, we're trying to be rigorous in how we analyze them. It's important from our perspective that we back out or identify any cherry-picking elements. Clearly, if you take the best cars in the fleet, the ones that are in the best condition or have the fewest miles, you can get numbers that are skewed in terms of how a given disposition channel looks. And we want to be rigorous in making sure we're adjusting the numbers that are coming from those disposition channels as we seek to optimize.

Kevin Milota - JP Morgan Chase & Co, Research Division

Obviously, I want to keep this interactive so if any questions from the crowd, if not, I'll keep going. Any takers? Okay. I guess timely with the approval by the Zipcar shareholders, maybe we kind of switch gears to Zipcar. And maybe just talk a little bit about the synergies that are coming from the acquisitions. You've talked about $50 million to $70 million in the potential synergies. Just kind of walk us through how you get there and both on the revenue side and on the expense side.

David B. Wyshner

Sure, Kevin. As we went through the diligence process for Zipcar, we spent a lot of time looking at synergies. We cut them at 3 different ways and kept coming back to a similar set of numbers, so it really gives us a significant degree of confidence in our ability to achieve them. Some of them are basic. We buy cars at lower prices. We sell cars more effectively. We take care of them through oil changes, maintenance, and tires and glass repair, and the cleaning of the cars more effective -- more efficiently than Zipcar can. We've financed the cars at less -- at lower rates, and we'll be able to take out some public company costs associated with Zipcar. And that's close to $20 million of savings from those kind of basic cost synergies right there. The second element and the one that's really exciting is the ability to improve fleet utilization. Zipcar's model is one that gives them a lot of demand on the weekends and relatively lighter demand during the week. And as a result, they have a lot of cars sitting idle during the week, when our model tends to have somewhat greater utilization. And what we think we can do during the week is meet all of the existing Zipcar [indiscernible] and that would generate roughly $10 million or more of annual savings. What we need to couple that with is having the same number of cars and then some on the weekends. And we think we can generate incremental revenue as a result of satisfying unmet demand. Along the way, we should significantly improve the member experience. One of the sources of churn that Zipcar has is sometimes people will leave because they can't get cars when they want them on weekends. And if we can supply additional cars and satisfy more of that weekend demand, that will help us reduce member churn and increase membership growth. And then beyond that, we see opportunities to offer additional products and services, whether it's SUVs or making cars available on the airport. Those are significant opportunities as well. As we model through them, the opportunity to be getting $20 million or so from basic cost savings, $20 million or so from fleet utilization and $20 million from incremental revenues -- $20 million of earnings from incremental revenue is really what the models kept pointing to. We feel good about it. And even though the acquisition hasn't closed yet, we've had a very good [indiscernible] Zipcar management team so that we can hit the ground running with respect to achieving synergies.

Kevin Milota - JP Morgan Chase & Co, Research Division

Great. And talked a little bit about -- go to the back, Jack.

Unknown Analyst

[indiscernible]

David B. Wyshner

Sure. For folks on the webcast, the question's about Enterprise and their -- the evolution of their strategy. I'm not the best person to ask, but I think there are some things that are clear. The first is that Enterprise, like us, is in business to, I think, to make money. And the opportunities that they've seen associated with their business, as fleet costs came down and pricing held to an extent, margins expanded. And it was clear -- it was probably as clear to them as it was to us that their margins could be higher than they had been without alienating customers in any way because our industry's product offering still continues to be very attractive from their perspective. And I think as fleet costs are increasing and they've spoken a bit about that, I think it's only natural for them to want to preserve their margins the same way it is for us to do that. And the best way to do that is through some modest price increases that have a very significant impact on price. I think that there's a third element as well, and that is that here in the U.S., there are now 3 companies that have about 98% of the airport market. And in that environment, the costs associated with trying to grow share -- given that I think most competitors are reluctant to give up a share and will be fairly aggressive on price if necessary to maintain share. The costs associated with trying to grow share ends up being relatively great. I know we're seeing significant growth opportunities outside the United States, particularly in Europe and in developing countries, and we're looking to take advantage of those. And having stronger pricing and better margins in North America, I think, it's a better place for any of us to be doing that from.

Kevin Milota - JP Morgan Chase & Co, Research Division

Can we talk a little bit about Avis Europe and kind of what the strategy is for the Budget brand abroad and kind of what the expectations are for growing it?

David B. Wyshner

Sure. And that's actually a great segue. The same way 3 companies have about 98% share of the U.S. airport market, the 3 largest companies are Europe Car, we and Hertz are all roughly the same size. The 3 largest companies together have about a 60% share at European airports. And this creates an opportunity, we think, to grow the Budget brand. Budget has only a 2% share, maybe 2.5% now as we've grown it. And we see the opportunity for Budget to expand in new -- to being a -- having a significantly larger share that has about -- it has about an 11% share here in the U.S., has a 15% to 20% share in some other markets where it's operated for quite a while. And getting Budget up closer to its more natural share is something that we think can be very attractive. It's incremental revenue through much of the existing infrastructure that we have, and it creates the opportunity for it to be incrementally profitable. And the neat part about it is that we can grow Budget very significantly without needing to take a single transaction away from Europe Car or Hertz, and that's a fundamental difference between the European marketplace and what we have in the U.S.

Kevin Milota - JP Morgan Chase & Co, Research Division

Maybe talk just about how you get there? So in terms of getting market share gains, is it more discounting? Is it just a better product than the competition? Or how do you bridge the gap to get you to the more of the normalized market share levels?

David B. Wyshner

Sure. It starts with making fleet available and we saw that last summer. We made the fleet available and had good value-oriented rates available to customers in Europe. The Budget brand resonated there and we're very effective in generating customers through a variety of channels, including both direct channels, which we particularly like, and through intermediary channels, which have some higher costs associated with them. I think we're going to look to continue to grow in both of those areas but we'll look for outsized growth in the direct channels. We're going to invest in our website and in marketing over time to be able to drive more volume through direct channels. And particularly through our website and I think that will have a significant impact. What's very clear though is that the brand works in Europe. It resonates with customers. It is viewed favorably, and in fact, it has a better perception and awareness in Europe than it does a share. And by making vehicles available and making reservations available through a variety of channels, we think we can definitely grow Budget in the value-oriented space there.

Kevin Milota - JP Morgan Chase & Co, Research Division

Anyone? Obviously, the rental car business is pretty integral to just travel. And given that we're here in the Gaming, Lodging and Leisure Conference, maybe talk a little bit about businesses that you look at to get a sense for where the rental car business stands and kind of what correlation do you see between whether it be lodging or other kind of facets of leisure in your business?

David B. Wyshner

Sure. At its core, car rental tends to be a demand taker. There are very few things that we, as a company, or we, as an industry, can do to make someone who didn't need a vehicle need one going forward. And by the way, car sharing is significantly different in that regard, which is part of what makes it attractive. But our core or our traditional -- our traditional car rental business is a demand taker. We tend to see it line up with some of the larger hotel companies in terms of demand. Our volume is split almost 50-50 between leisure and commercial travelers, there seems to be as well. Our customer tends to be the same or maybe a slightly higher demographic on average. Our customers are concentrated in the top 15% of the economy from a household-income and household-wealth perspective. We often see Marriott as an interesting proxy for what we're experiencing. And we watch what they have to say. I think they tend to be very thoughtful in how they describe their business. They have a mix that I think is similar to ours, both in the -- both in terms of the customer types as well as their brand offerings, having a mix of value-oriented and premium-oriented brands. And the reason we watch Marriott, in addition to those things, is that they tend to be able to see some trends before we do. The hotel booking curves tend to be earlier than the car rental booking curves. We get about half -- more than half of our bookings within the 2 weeks prior to a transaction beginning. Marriott tends to have a bit more lead time, and we think that as a result, there have been a number of times when they've been out there talking about trends that they've been experiencing for a couple of months that are beginning to emerge in our business with a later booking curve.

Kevin Milota - JP Morgan Chase & Co, Research Division

Looking at -- just kind of moving to off-airport and what the strategy is for that part of the business, maybe just talk about what you're seeing on off-airport? How you're trying to grow that and kind of differentiate yourselves from some of the competition?

David B. Wyshner

Sure. Off-airport's a significant business for Avis Budget. We generate more than 20% of our revenue in the U.S. off-airport and a higher percentage than that in Europe and other parts of the world. The opportunity we see there is primarily focused -- particularly in North America, primarily focused on general use business and less so on insurance replacement activity. And we focused on general use business. We feel the margins are stronger there. And one of the ways we've grown the business and expect to continue to grow the business is by operating dual-branded locations off-airport. We will -- if there's an Avis location, we'll make Budget rentals available at the same location as well. We'll go with dual signage off-airport. And what that allows us to do is show up on websites and other places, but particularly our own websites as having an Avis location nearby and having a Budget location nearby to folks who are booking. And that's allowed us to essentially leverage our infrastructure to generate incremental volume through the same facility, in some cases through the same fleet, and that ends up being quite attractive as well.

Kevin Milota - JP Morgan Chase & Co, Research Division

Maybe just talk a little bit about China and what kind of the thought is on that piece of business. When you see that turning breakeven if it's not there already, just kind of how you're looking at that market in general?

David B. Wyshner

Sure. China is clearly a need opportunity, and I think we're well positioned to take advantage of it. Our licensee in China is a joint venture with Shanghai Automotive that we own 50% of. So we are actively involved in growing the business there. It generates roughly -- our business generates roughly $100 million of annual revenue. It's not part of our revenue -- our reported revenue because we don't consolidate them, we report them on the equity basis. But it's a business, a joint venture that makes us one of the largest, if not the largest, international player in the Chinese car rental market. It's going to grow pretty rapidly going forward and we want to take advantage of that. We're going to end up with 2 product offerings there, one being for folks traveling into China. Our offering will be a car and driver market. In order to drive in China, you need a Chinese driver's license, and as a result for inbound travelers, it's going to tend to be a car-plus-driver offering that we have. And then for people with Chinese driver's licenses, we'll have a self-drive product offering as well. We've moved up to having more than 100 locations and service delivery points in China. And I think the opportunities for growth are clearly multiples of that number of locations and significant growth in the car fleet as well, and that's going to be our focus. We've been operating profitably in China for several years now. So while we will look to invest there, we're doing so and we're growing in a way that we're actually operating at better than breakeven. And I think that points to the strength of what we've been able to achieve there already. The last thing I've mentioned about China is that it clearly represents a longer-term major opportunity for car sharing. I don't know how that's going to play out for us yet, but it's certainly something we're going to spend a lot of time looking at and thinking about. The nature of urban centers, metropolitan markets in China is such that car-sharing-like solutions are going to have to be part of the answer for how they deal with the ratio of people to space that exists in those markets.

Kevin Milota - JP Morgan Chase & Co, Research Division

Just from an acquisition standpoint and with the brands and the regions that you play in now, is there anything that could kind of fill out the portfolio of brands that you have and maybe strengthen some of your geographic reach? Is there anything whether it be a tuck-in or kind of a larger acquisition that could be of interest?

David B. Wyshner

I think we will continue to look at tuck-in acquisition opportunities. Some of the ones that end up being highest on the list are licensees, folks who are operating either in or adjacent to markets we operate in, can be particularly attractive. There are a couple of small countries in Europe where we operate the Avis brand, but Budget is a licensee. Those jump off the page as being attractive opportunities for us. There's some situations in the Americas as well, where there are licensees -- often long-standing licensees that could be attractive for us. And then in Europe, I think we'll look for opportunities to accelerate the growth of the Budget brand in certain markets through some tuck-in acquisitions. And the opportunity there is clearly to buy something -- to buy an independent, maybe relatively small, but one that has an existing base of business, existing customers and location profile, and to rebrand that as Budget and accelerate growth in that way. To provide a little context for what tuck-in acquisitions could look like, I think the transaction we completed last -- late last year in New Zealand is a really neat example. We bought a company called Apex Car Rentals. It's the leader in the deep discount space in the New Zealand market, and it's expanding into Australia as well. It's about a $28 million, $30 million equity purchase price for us. And it gives us a leading position in a segment of the market we weren't competing in, renting 3 to 7 year-old cars at significantly discounted prices and with significantly lower fleet costs, taking reservations solely through their websites. And that kind of transaction and that size of transaction can really help us expand and at the same time provide a very attractive use of capital. Just along the lines, I think that may beg the question of how we think about use of capital for acquisitions, and I want to highlight the attractiveness of the Zipcar acquisition from that perspective. We're paying about $500 million for the company, getting close to $80 million of cash and marketable securities in the process. And so it's about a $425 million net purchase price. Compared to the 2012 EBITDA, they had of $17 million, it might first look like a hefty multiple. But when you include the synergies that we expect to get at $50 million to $70 million a year, take $60 million at the midpoint, we're looking at creation EBITDA of about $77 million. We're then acquiring a rapidly-growing, category-leading business at an EBITDA multiple of about 5.5x creation EBITDA. And that's the sort of -- that sort of math we find pretty compelling.

Kevin Milota - JP Morgan Chase & Co, Research Division

Okay, great. Any last questions from the crowd? Okay, well that should do it. Appreciate the time.

David B. Wyshner

Thanks, Kevin. Thanks very much.

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