Hertz Global Holdings' CEO Presents at J.P. Morgan Gaming, Lodging, Restaurant & Leisure Management Access Forum (Transcript)

| About: Hertz Global (HTZ)

Hertz Global Holdings, Inc. (NYSE:HTZ)

J.P. Morgan Gaming, Lodging, Restaurant & Leisure Management Access Forum

March 08, 2013 12:00 pm ET

Executives

Mark P. Frissora - Executive Chairman, Chief Executive Officer, Member of Executive Committee, Chairman of Hertz Corp and Chief Executive Officer of Hertz Corp

Elyse Douglas - Chief Financial Officer and Executive Vice President

Analysts

Kevin Milota - JP Morgan Chase & Co, Research Division

Kevin Milota - JP Morgan Chase & Co, Research Division

Okay. Good morning, everyone. Happy to have Mark Frissora, Chairman and CEO; and Elyse Douglas, CFO, for the company and go through the rental cars here. So this is the first time we're having Hertz here, so appreciate you taking the time to come out west and give us your latest and greatest.

Question-and-Answer Session

Kevin Milota - JP Morgan Chase & Co, Research Division

I think like we had yesterday with Avis, I think in the backdrop of positive pricing of late is certainly a welcome change for the business. Maybe just give your views on where you see pricing going and the different pockets looking at commercial and then also leisure and maybe give some thoughts and context in terms of price?

Mark P. Frissora

Okay. Well as I've indicated before, pricing is a function of fleet cost and residuals. If fleet costs go up in the rental car industry, pricing always goes up afterwards. It's got a fairly high R-squared of about 0.86. We've got 40 years of data that support that. The good news about Hertz is that our fleet costs are going down, whereas the industry fleet costs are going up. So it's kind of a nice margin expansion for us. We've indicated to everyone that our fleet costs will go down again next year as well, so the good news is we -- this is not like a short-term trend. In fact, our fleet costs have gone down 4 years in a row. So in terms of pricing, the pricing environment has -- I think will be good this year because of fleet cost, and so the overall year, there's potential for there to be a good robust environment. You should remember that this industry had 8 separate competitors in 2004, 8 competitors. There are now 3 that have 92% of the market. So the new normal may be helpful. Having said all that, I get the question, "Was there any pricing upside?" And I'd tell you right now today, in Hertz, we're down 7% against 2007 levels. So our pricing is actually down, even though we're getting lift this quarter, and we talk about January being up 6%. Having said that, against last year's numbers, we were down 7% since 2007. So we think there's a lot of room, if you will, for upside. I think there's -- it's not like we're reaching some kind of point of no return.

Kevin Milota - JP Morgan Chase & Co, Research Division

And from a commercial perspective, is there anything that you've seen of late to make you feel more confident or have the ability to take up pricing on that piece of the business?

Mark P. Frissora

Well, in commercial, in the small business segment, we've been increasing prices like all throughout 2012, and so that environment's pretty decent. It's the large accounts like the Fortune 100 that are very competitively, heatedly contested. And I've made predictions like last year that in the second half, I thought that would flatten out. That didn't happen. But we're seeing good pricing in contracts this quarter, so we're hopeful that again, that that will continue. But I've learned not to predict pricing because there's too many factors around it on commercial contracts. And -- but in general today, I feel pretty decent about it.

Kevin Milota - JP Morgan Chase & Co, Research Division

And maybe just talk a little bit, moving -- switching gears here to the cost side -- the car cost side of the business. Obviously, the question that comes up is the disparity between your view on car cost and Avis' view on it. So maybe give us a little context on where you see the disparity there and what's driving that. I mean, what you're doing differently to kind of outperform, so to speak.

Mark P. Frissora

Yes, I guess, I don't know what Avis is doing or how they're doing it, so I'm not going to comment on Avis. I mean, I have no clue, I mean. But in terms of what we're doing, we feel very bullish about our car cost going down 4% to 5%. And we're driving that -- probably 1/2 of that is being driven by the fact that we are growing our business in car class segments that are less expensive. So if you look at the off-airport channel. These are compact cars. They can be aged a little bit, and that's very competitive. I mean, so there a little over car. Also, we've gotten a little bit smarter about the way we package our cars. We used to buy trim packages that were fairly exotic for all of our fleet, and now we're isolating it and only buying trim packages for parts of our fleet that need to be segmented for the business segment. So that's helping us. So again, the car -- the actual cap cost of our cars are going down because of this mix shift. The other big piece -- that's 50%. The other big piece is the fact that our channel strategy to shift and sell used cars into more profitable channels is really working. And as we effect a mix shift there, that drives net depreciation per vehicle down. Those 2 things have a couple of years of runway on them, at least 2 years of runway. So we feel really good about fleet costs continuing to go down. And based on only being about 50% of the way deployed on the car channel shift and probably about 50% of it deployed on moving our fleet into what we consider to be the right space on cap cost.

Kevin Milota - JP Morgan Chase & Co, Research Division

I'd like to keep this interactive, so if anyone has questions from the crowd, please feel free to chime in. Just keep going on the used car pricing. Maybe you could provide some context in terms of what your views are on used car pricing through the year and how that plays into your business?

Mark P. Frissora

So I know there's been a fixation on used car pricing, and it should be. I mean, people should worry about it. But in the rental car industry, it's not the same as it is the Manheim Index. And the rental car industry usually is very -- they kind of defy what trends will be because there's so many things we can do in order to adjust, if you will, what cars we sell, when we sell them. We can hold them. We usually buy cars that are the best-selling cars, and we usually sell cars that are 6 months to 2 years old, so that's kind of the sweet spot. The Manheim Index, as you know, is much broader than that. Rental car companies only represent about 4% to 5% of the vehicles sold in the Manheim or in the index numbers, so it's a very small representative sampling. So just to give hardcore evidence of that, in 2012, the Manheim Index versus 2011 was down 130 basis points, down 130. Hertz, our residuals were up 400 basis points in 2012. January, Manheim was down 230 basis points year-over-year in January of '13. We were up 320 basis points. You're going to see this spread forever. I mean, anywhere from 200 to 600 basis points, we will maintain a spread against Manheim Index. And we're likely going to be positive. Now I've got, again, a really good histogram about 40 years through the last probably 4 recessions, and our -- what we call our first cost against on residuals, against first cost, is usually around 72% to 74%, and it maintains that level even through the worst of times. It may dip down for a quarter like after 9/11. We went down to 68% of first cost, from 72% to 68%. But after 9/11, it popped back up, about 4 months later to 72%, 73%. So that was kind of the worst travel industry hiccup known ever. So again, that just shows you the resiliency of the rental car companies and their ability to continue to keep residual values against their cap cost. They have a lot of flexibility to keep those things overperforming the Manheim.

Kevin Milota - JP Morgan Chase & Co, Research Division

Okay. Just kind of switching gears to the Dollar Thifty transaction that finally closed. Now that you've had a little -- some time to integrate the operations, maybe you could give us some color in terms of what gets you most excited about that transaction, if there's anything you've learned through the process that you didn't know about going into it? And kind of where you see the business going from a synergies perspective?

Mark P. Frissora

Well, I think that it's fair to say that we're very excited about the acquisition, that we're definitely -- it's a better acquisition than we ever imagined. We have increased the synergies a couple of times now. We now have $300 million of cost synergies, and we told the Street $160 million originally. We've got -- I think I told the Street maybe $100 million of revenue. Now we're up to $300 million of revenue synergies. So every week it gets better and better. The company was very well run, generates lots of cash flow. It's airport leisure business, perfect business model to complement Hertz. The peak utilization day for them is Saturday, and that's when we have a lot of cars. So we're feeding them cars like crazy on Saturday because we sit idle on the weekends. We have about 40% underutilized cars on the weekends, so it's working out really well. We're growing their business by giving them a lot of cars and driving utilization in the process. Then on Tuesdays, we peak out at 92% and Dollar Thifty sits at about 62%. So they give us cars at those airports on Tuesday through Thursday. So again, it's a very complementary synergistic fit, and we're just -- we're very pumped up about the whole organization because this thing dragging on for 3 years and because Avis entered the fray a couple of different times and the FTC dragged its feet for quite a while, and we had all these hiccups. My organization was anticipating this like your first girlfriend, right, and getting ready to get married and go on your honeymoon. And finally, the honeymoon happened. And so my organization is like a bunch of -- they're crazed. They're crazed. They're excited. They're pumped up. It's a winner-take-all attitude at the airports right now and have got a great -- a lot of energy, a lot of momentum culturally going between the 2 companies.

Kevin Milota - JP Morgan Chase & Co, Research Division

And then going into the off-airport strategy. Obviously, that's a large opportunity for you as well. Maybe give us a little bit of color on where you see that business going, and what you're doing to make that a more robust revenue line for Hertz?

Mark P. Frissora

Well, we keep opening up new locations. About 300 last year, probably another 300 this year, so we'll be up to 2,900, 3,000 locations at least this year. So the location expansion obviously drives growth. I guess just as important is the customers that we have in the insurance replacement segment, another -- one of the biggest customers in the insurance replacement segment just gave us 1/2 of the rest of their business. So we had 1/2 of it about last year and a half. Now we got the other 1/2 we're rolling out this year, and that's going to drive a lot of double-digit growth in insurance replacement. Remember that this is a $11 billion market. About $4 billion of it is insurance replacement, and that piece is drive -- we're growing that about 20% a month right now. The rest of it's local business, consumers and local businesses where we knock on the door. And that's growing also. So it's double-digit growth for the foreseeable future. We've got about 12% share. We're targeting about 24%. And we're adding too a new feature, if you will, this year. We're going to add a 24/7, 24 hours, 7 day a week fleet. There'll be 2 or 3 cars in every single off-airport location. And so people will be able to rent our cars on a 24/7 basis this year. It will be effective probably around June, July. We'll have cars staged in every location. And that's with our new 24/7 Hertz On Demand technology that we'll be putting in all these locations. You'll just be able to go online, get a 4-digit code, punch it into the car and go. Or you can have your key fob activated, and you wave it, you swipe it, and you go. So this will be in about a total of 3,000 locations probably by June or July, then probably about 3,500 locations by the third quarter. So we think that's going to help drive off-airport growth for local business. We've done a lot of consumer studies indicating that people like to rent cars after-hours in neighborhoods, right, like after 6, but most off-airport locations are only open until 6. So we think it will be a big growth driver for us in the local business.

Kevin Milota - JP Morgan Chase & Co, Research Division

How are the video kiosks working for the company? I mean, is that helping the later after-hours rentals and the peak periods?

Mark P. Frissora

Yes, absolutely. You don't even need a kiosk if I've got this Hertz On Demand technology, right? I don't even need the kiosk. I just -- you just go to the car. But in locations where they're remote, and I have to have labor, I can get rid of the people, and I can just put a video kiosk or a live person that can return the car and rent you a car realtime. Where the video kiosk is really helping us is getting all the lines down to 0 at all the major airports. We get peak demand, and you'll get some lines. We're putting a bank of video kiosk and people can go right up to those banks, and they don't have to wait in line anymore. So it's really driving customer satisfaction in a big way. It also helps us if we have partners, like I have a lot of off-airport insurance replacement customers that may have 20 collision repair centers. And instead of putting in a rental car location, I just put the video kiosk in. And that's a lot less expensive, and that drives efficiency for us. It's kind of an asset-light strategy.

Kevin Milota - JP Morgan Chase & Co, Research Division

Any questions from the crowd?

Mark P. Frissora

You guys were gambling too much last night, right?

Kevin Milota - JP Morgan Chase & Co, Research Division

In the back there, yes?

Unknown Analyst

Can just talk to the [indiscernible]

Mark P. Frissora

Okay. So in general, the car rental business is directly tied to GDP growth rate. The R-squared on that is very high, like 0.9. So if GDP grows 2%, we grow 4% organically. So pretty robust model, right, in terms of cyclicality. As long as you're getting GDP growth, it's going to grow. So even 1% growth rate gets us 2% organically. That's without any growth programs that we put in, right? So I think, as you would imagine, I think people think that U.S. is going to have kind of a slow growth environment and may ramp up at some point in time if we ever get rid of the friction that we have in Washington. And when that happens, we'll get big upside. But our growth drivers, we have 4 double-digit growth drivers in the company that are helping us grow much faster than the industry. But the cyclicality nature of it, it's really not that cyclical because it's really driven off of GDP growth. The part of our business that has some cyclicality to it is the equipment rental business. And we're right in the middle now of an upcycle, right? We're about in the third inning of a 9-inning game, maybe some overtime because this has been a very slow beginning. Non-res construction did not start in this cycle very well, and non-res is just starting to pick up. I think it's going to be the end of this year and the beginning of next year when non-res really starts to crank, and that plays to our sweet spot. We are a non-res construction equipment company. That's what we've usually had 40% of our equipment. In peak periods, it's been 35% to 40% of our equipment is construction equipment. So we're waiting for that. When that happens, I mean, we're seeing already Florida growing 30% to 40% right now in non-res SIC codes, right, in Florida. Half -- top half of the state is growing 40% for us, and the bottom half is growing 30%. So we're pretty excited that non-res is starting to percolate right now. California though, not so much, about 10% growth in non-res SIC codes in that state.

Elyse Douglas

If I can just add one thing on the cyclicality of the business, we've done a number of things over the past couple of years to take some of that cyclicality out of the business. So clearly we bought the Donlen Leasing business, and that's a much more stable business. And if you saw their results during the down cycle, they were pretty steady. And the other thing is, on the equipment rental side, which as Mark mentioned, is much more cyclical. We've expanded into some noncyclical sectors like oil and gas and the entertainment services business, so we have taken a lot of cyclicality out of the business.

Mark P. Frissora

And the growth in leisure and off-airport, off-airport's much less cyclical than commercial. And then leisure business is also much less cyclical than commercial. So the fact that we're growing faster in those segments again helps our cyclicality.

Unknown Analyst

Mark, Avis yesterday indicated at the meeting that everybody's [indiscernible] in the meeting to follow, they indicated that leading on leisure pricing, Internet, [indiscernible] is not, and the car cost gives you, that makes sense. Are you seeing -- what you've said is, you're walking away from some unprofitable commercial contracts that you participated. Are you liking what you're seeing so far? Is that an indication that the market in commercial is not -- is also moving up, if you are walking away from some business and so that price discipline is also not the same as on the Internet obviously, right, and is it comparable?

Mark P. Frissora

Yes. I guess, just in general, our commercial contract business improved year-over-year in January for the first time in a long time, so it was a positive sign. Whether or not it will continue or not is -- it's a wildcard because there are so many factors around competitors on that. In terms of the leisure pricing, we take 100 price increases a day, right? So to say you take price increases, I just want to make sure we're clear on that. Read Northcoast Research. Read it. There's -- hopefully JPMorgan soon, and there's a lot of work being done by the analysts, and they're going out to Travelocity and checking who's higher priced and who's actually has a price leadership position on raising prices. A couple of piece of research went out recently said Hertz was there. And so we feel really good that we want to pull price in the industry. We move quickly whenever we can opportunistically. Remember, we're getting 120 million hits a day on our rate engine, 120 million hits a day on our rate engine. And so pricing is changing very rapidly. You could -- I could announce a $5 a day rate increase for next week. By the time you get close in, that thing could have changed 50x, at least. So it's kind of a...

Unknown Analyst

It's impossible.

Mark P. Frissora

Yes.

Unknown Analyst

So it's kind of an algorithm.

Mark P. Frissora

That's right.

Unknown Analyst

If you have 90% rented, you can push pricing on that last car, when you only have 10% of it being available. So everybody's dynamically changing so that if the same cars get rented at Toledo, that market sees pricing go up incrementally faster, and so it's impossible to make a similar pricing dynamic.

Mark P. Frissora

Yes, we all have the old management systems. And we anchor off of Enterprise at the bottom. Enterprise has had fleet cost increases, so they're moving prices up as well. So it's really Enterprise moving off the bottom and increasing price. It's driving this because everyone prices off them at the bottom. And since they had increased fleet costs, that's kind of what's, I think, kind of one of the drivers of the lift that we're getting today.

Unknown Analyst

How convenient do your cars -- you think Hertz has gotten. It's always Enterprise who's the leader or [indiscernible]a lot of pressure. You guys have gotten a lot smarter about buying and getting rid of it [indiscernible] channels, but is there still that big a development?

Mark P. Frissora

Yes. Well, I mean, Enterprise is really good about turning their fleet quickly.

Unknown Analyst

Mark, could you repeat the question.

Mark P. Frissora

Okay, yes. The question was, how good are we at reselling cars? And in some areas, are we as good with Enterprise or better? Is there still upside left? And we've benchmarked them as best in class 5, 6 years ago, and we've been moving to a channel shift of all risk mix and then selling those risk cars ourselves into more profitable channels. And they've been doing that for a long time. It's not anything new. It's just kind of benchmarking them as best in class. Now we're doing some things they are not doing as well, like the Rent2Buy programs growing aggressively for us, and we're using technology a little bit more than they are in the way we sell cars. But we feel like probably we're only about, again 40%, 50% of the way deployed. We've got another 2 or 3 years of gaining a little shift in mix, so we sell more like 40% of our cars, we think, ultimately through retail channels. We think we can get to that mix over the next couple of years. And that drives profitability per car up like by $1,100 roughly per car. So a lot of runway left on that. And it takes a lot of time. We've added salespeople. We used to have 15 salespeople. I've got about 120 now. I set up a separate car sales department now. It's a separate P&L and car sales is a separate organization. They've never existed in Hertz before. So it's kind of -- it's not easy to make your pipe bigger to be able to sell used cars fast. That doesn't happen overnight. We've been working on it for 3 years, and we're getting the fruits of our labor now, but we still have, again, a lot of runway on it.

Kevin Milota - JP Morgan Chase & Co, Research Division

It's a good segue to talk about the profitability of the different channels that you're reselling into, so the Rent2Buy and the dealer locations. If you could just give us a little context in terms of where margins are for the different sales channels?

Mark P. Frissora

Well, I mean, if we sell something at -- on Rent2Buy and at retail, it's around $1,100 to $1,500 a car premium against auction, right? If we sell something Dealer Direct to a dealer, we're making $400, $500 a car more. And so those are the 2 channels we're effecting a share shift in. And again, we think that we can get our auction sales down to 10%, to 20% in that range, and that's kind of our goal right now over the next couple of years.

Kevin Milota - JP Morgan Chase & Co, Research Division

Just on the CapEx front, you had noted that that earnings, you're looking for -- to spend about $200 million this year on a number of technology improvements and productivity improvement programs. Maybe you could give us a little context in exactly what that is, and how that is going to help the business moving forward?

Mark P. Frissora

It comes in a couple of things. I mean, we're upgrading our facilities to kind of a new look, a fresh look, a clean look. That's part of -- that's probably 1/2 of it, not quite 1/2 of it, and the other 1/2 is putting into the cars the new technology that I talked about earlier, the 24/7 capability. And that capital invested in that, that's reusable. It's -- when we put that technology in a car, it's good for 4 cars. That's like a 10-year life. So we're doing that this year and next year. So that cap -- that capital spending, if you will, most of it will be done by the end of next year and allows us to increase after that our cash flow significantly, right? So probably spending around $200 million, $250 million more a year than we will maybe in 2015. So that's why we're more optimistic about our cash flow this year than we forecasted for the first time, $500 million to $600 million this year. And that includes the investments we're making.

Kevin Milota - JP Morgan Chase & Co, Research Division

Just in terms of being here at the Gaming, Lodging, Leisure, Conference, are there any other businesses within travel and hospitality that you look to as kind of a forward indicator for what you think will ultimately transpire in terms of demand for rental cars? Companies or industries that you look to in terms of getting a good feel for the booking window?

Mark P. Frissora

We look at capacities on the airlines. We look at hotel group meeting reservations, that kind of indicates that business travel is picking up. We also -- every month, I have -- we have about 46% share of the Fortune 500 companies' commercial travel business. And so we have a what we call top 25, which every month we go into those purchasing and travel planning groups at those big companies, and they tell us what they plan to do. So every month, I get a good read from them on where business travel is going. And that helps us. But in terms of hotels, again, they also have kind of short booking patterns these days. And we do look at the RevPAR at hotels, so that's something we do look at. But it's just another indicator. There's nothing that we really hook on to.

Kevin Milota - JP Morgan Chase & Co, Research Division

Anything else from the crowd? Okay with that, I appreciate your time. Thanks for coming out. Thank you very much.

Mark P. Frissora

Thanks a lot. Appreciate it. Thank you.

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