Hertz Global Holdings (HTZ) John P. Tague on Q2 2016 Results - Earnings Call Transcript

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Hertz Global Holdings, Inc. (NYSE:HTZ) Q2 2016 Earnings Call August 9, 2016 8:30 AM ET

Executives

Leslie Tolan Hunziker - Senior Vice President, Investor Relations, Hertz Global Holdings, Inc.

John P. Tague - President, Chief Executive Officer & Director

Thomas C. Kennedy - Chief Financial Officer & Senior Executive VP

Jeffrey T. Foland - Chief Revenue Officer & Senior Executive Vice President, Hertz Global Holdings, Inc.

Analysts

Christopher Agnew - MKM Partners LLC

Anjaneya K. Singh - Credit Suisse Securities (NYSE:USA) LLC (Broker)

Chris J. Woronka - Deutsche Bank Securities, Inc.

Dan M. Levy - Barclays Capital, Inc.

Michael Millman - Millman Research Associates

John Healy - Northcoast Research Partners LLC

Ron J. Jewsikow - Wells Fargo Securities LLC

Operator

Ladies and gentlemen, thank you for standing by and welcome to the Hertz Global Holdings Second Quarter 2016 Earnings Call. At this time, all lines are in a listen-only mode. Following the presentation, we will conduct a question-and-answer session. I would like to remind you that today's call is being recorded by the company.

I would now like turn the conference over to our host, Leslie Hunziker. Please go ahead.

Leslie Tolan Hunziker - Senior Vice President, Investor Relations, Hertz Global Holdings, Inc.

Good morning, everyone. By now, you should all have our press release and associated financial information. We've also provided slides to accompany our conference call that can be accessed on our website.

I want to remind you that certain statements made on this call contain forward-looking information within the meaning of the Private Securities Litigation Reform Act of 1995. Forward-looking statements are not guarantees of performance and, by their nature, are subject to inherent uncertainties. Actual results may differ materially. Any forward-looking information relayed on this call speaks only as of this date, and the company undertakes no obligation to update that information to reflect changed circumstances.

Additional information concerning these statements is contained in our earnings press release issued last night and in the Risk Factors and Forward-Looking Statements section of our second quarter 2016 Form 10-Q. Copies of these filings are available from the SEC, and on the company's Investor Relations page on our website.

Today, we'll use certain non-GAAP financial measures, all of which are reconciled with GAAP numbers in our press release, which is posted on our website. We believe that our profitability and performance is better demonstrated using these non-GAAP metrics.

Our call today focuses on Hertz Global Holdings, Inc., the publicly traded company. Results for the Hertz Corporation differed only slightly as explained in our press release.

With regard to the IR calendar, on September 14, we'll be attending Morgan Stanley's Fourth Annual Laguna Conference on the West Coast. We hope to see some of you there. But if you can't make it the fireside chat portion of the presentation will be webcast.

This morning, in addition to John Tague, Hertz's CEO and Tom Kennedy, our Chief Financial Officer, on the call we have Jeff Foland, our Chief Revenue Officer, who will be on-hand for Q&A.

Now, I'll the turn the call over to John.

John P. Tague - President, Chief Executive Officer & Director

Thanks, Leslie. Good morning, everyone, and thanks for joining us. We remain focused on and committed to the performance objectives that we laid out in our full potential plan as presented last November. Most notably enhancing EBITDA margins over 3 years to 5 years to 16% to 18%.

To attain that level of performance, we are building a more robust model through improvements in both quality and sustainable cost reductions. The underperformance of our revenue quality in the quarter matched the progress we're making, it's measurable. 6% lower cost per transaction day in the quarter on a consolidated basis and importantly approaching 8% in the U.S. This performance when combined with improving our fleet management capabilities will ultimately enable us to better manage the future industry cyclicality, including fluctuations in residual values.

Price is, of course, an important lever and is among our biggest opportunities. The U.S. industry pricing trends are clearly improving. Retail published pricing turned positive on a year-over-year basis during the quarter up markedly from the industry low point in first quarter.

RPD trends exiting the quarter were much better and that sharp improvement was versus our April performance. In fact, our year-over-year decline improved by nearly 6 points over that period and we've seen continuing improvement in July.

We are taking specific actions to achieve an outcome of improved performance in our revenue quality. Going forward, we're modestly rebalancing our mix and length of keep. While longer term we are continuing the improvements we are making in our systems as well as customer experience and go-to-market strategy to drive customer preference. As such, we expect to see better outcomes in the second half of 2016 and an accelerated rate of progress in 2017. Improvements in asset management have been encouraging and are seen in every dimension of our fleet management from supply chain to maintain efficiency and improved operations execution.

Our revenue per available car day in the U.S. turned positive in the second quarter as vehicle utilization improved by 700 basis points versus the prior year's quarter reaching 82%. As I noted earlier, cost reduction and efficiency improvements are running in parallel with our greater quality for our customers. Customer service for each of our brands continues to improve, evidenced by a 4% global improvement in the quarter.

The Hertz brand now has had five consecutive quarters of year-over-year improvement and in the second quarter reached a new record level of customer satisfaction. Those overall and importantly with our most frequent customers. Against the backdrop of this improved performance, membership in our Gold Plus Reward program is up 13% year-over-year.

With respect to our Dollar and Thrifty brands, both achieved double-digit improvements in customer satisfaction during this quarter nearing the improvement in the first quarter of this year. Importantly, our focus on speed, convenience, and currency is clearly paying off.

Driving quality up and cost down is not easy work. It requires building real execution muscle. For that, I want to thank our people all across the operations as the team is doing a terrific job on these two fronts.

While Tom will go through our financial results for the quarter in detail, I want to draw your attention to our strong International performance, which was somewhat overshadowed by the unanticipated charges that occurred in the quarter.

From a macro perspective, it doesn't appear that Brexit will have a material impact on 2016 results. However, security concerns emanating from France and elsewhere on the continent will likely soften our European growth expectations for the remainder of 2016. Despite that, we continue to expect year-over-year profitability improvements in our International Group.

Before, I turn the call over to Tom, I want to call out several accomplishments for the quarter. We completed the separation of Herc Rentals in line with our stated timeline and with the leadership and capital structure to successfully compete in their sector. We received $2 billion in proceeds from the transaction, which we used for corporate debt reduction, one of a number of actions we took during the quarter to improve our balance sheet.

Since the beginning of the year and through the course of the separation transaction, we markedly improved our liquidity and debt profile, thanks to strong market reception and great work by our finance and treasury teams. Importantly, our cash interest expense is expected to decline by approximately $90 million in 2017, of which $45 million we will enjoy in the back half of this year.

The work on our technology platforms and systems that we laid out in the full potential plan continues. During the quarter, we began implementation of the new CRM system, and we completed negotiations on a new fleet management system that we'll begin to install in early 2017.

As I mentioned earlier, our revenue management system is receiving significant upgrades now through the end of the year that will lay the foundation for improvements in the competitiveness of our revenue performance.

During the quarter, we also discontinued our Firefly operations in the U.S., exiting the deep-value segment, and we transitioned those customers to our Thrifty brand. We didn't feel Firefly was constructed to overall U.S. pricing. However, it continues to be a very viable brand for us Internationally.

We reached an innovative new payroll supply agreement with both Uber and Lyft. We believe these carve out a way for us to profitably participate in the ride-sharing sector with a unique low cost model that's a win-win for the parties.

Additionally, we made a strategic investment in Luxe, an app-based valet parking company, that will play a critical role in modernizing our urban car rental product.

Now I'll turn the call over to Tom as he discusses the numbers.

Thomas C. Kennedy - Chief Financial Officer & Senior Executive VP

Thank you, John, and good morning, everybody. Today, I would like to provide you additional details on our second quarter financial results and review our newly established guidance for the post-spin Hertz.

On a consolidated basis, total revenues declined 2% to $2.3 billion, primarily as a result of a 6% decline in total revenue per transaction day, partially offset by a 5% increase in transaction days in the worldwide rental car sector. The second quarter revenues included a $6 million unfavorable impact due to currency movements during the quarter. Adjusted earnings per share were $0.41 and include $20 million of unanticipated charges that are largely related to the adverse development of insurance claims in Europe and specifically the UK, which I'll address further in a moment.

We estimate that this unexpected charge had a $0.15 and 1% margin point negative impact on quarterly results. A highlight to the second quarter performance is the continued progress we're making in pulling meaningful cost out of the business, while at the same time building our capabilities to deliver on our full potential commitments. As evidence of that, I'd like to provide a few tangible examples of our work to date.

First, our technology platform continues to be a key pillar in achieving the full potential plan. In addition to approximately $30 million of savings we achieved in 2015 related to the early work of our IT transformation, we expect to realize more than $80 million of additional cost savings in 2016 of which approximately $25 million have been realized to-date. The savings are driven largely by the outsourcing of our legacy IT systems during the second quarter of this year.

We see the investment in technology as a critical component to our full potential plan and believe we'll be able to leverage these investments to drive further improvements in quality and continue to lower cost of delivery throughout the enterprise. A few tangible examples where we're investing are as follows. We expect to roll out a new customer relationship management system in the late third quarter that will provide a 360-degree view of the customer, thereby modernizing our sales tracking and customer care case management. We started rolling out the first phase of our next-generation revenue management system capabilities in June and will continue to roll out components throughout the remainder of this year. And we contracted in second quarter to develop and roll out a new end-to-end global fleet management system that will be delivered in 2017. Once functional, this system will house procurement, maintenance, warranty, vehicle movement, car control hold management and sale de-fleet functionality. The enhancements to the fleet system result in additional opportunities to improve vehicle utilization that will manifest itself in lower depreciation and vehicle holding costs.

A second area of focus and progress is in the U.S. RAC business and I'd like acknowledge the great progress that Alex Marren, our EVP of U.S. RAC operations, and her team have made over the past nine months of significantly improving the overall cost structure of the business, while markedly improving the customer satisfaction and driving cost efficiencies.

In total, we're targeting over $100 million of savings in year 2016 from this team. These initiatives include the rollout of process and policy improvements across the organization. For example, we completed a comprehensive review and implemented improvements to our U.S. RAC vehicle damage collection process. After doing this, combined with our changes to our debit card policies in certain locations, we have experienced nearly 900 basis point improvement in our net damage collections, delivering over $20 million of savings thus far in 2016.

Our second area of focus is around improving productivity and the workforce management. As a result of the work to date, we are seeing a 5% improvement in our labor cost per transaction, which is being driven primarily by upgrading our workforce planning processes that better align labor scheduling with demand.

A final example is the work we are doing in the area of logistics. We are currently executing a project to drive efficiency and service improvement in our external transporters that move cars for us with our on-airport, off-properties. The early results of the restructured bidding process and newly defined service standards for the transporter process result in up to a 25% reduction in cost in certain locations. These are just a few of the examples of a number of projects we have underway to overhaul our cost structure and drive efficiency while improving service and quality.

A third area of focus that we continue to make good progress on is our improvement of our back office productivity and general corporate overhead costs. For the full year, we now expect to reduce these global costs by more than $50 million versus the prior year. The benefits are being realized through reduction of our reliance on external consultants and identifying opportunities to outsource support capabilities such as our accounts payable operations, which went live for International this month, and portions of our vehicle administration operations.

So, in summary, we continue to make measured progress across our cost initiative portfolio and remain confident that we are in a position deliver on our $350 million cost reduction commitment in 2016.

Now turning specifically to U.S. RAC operating performance, overall the second quarter was characterized by modest volume growth, very strong vehicle utilization growth and despite lagging RPD, slightly positive unit revenues.

We remain sharply focused on improving how profitably and efficiently we utilize our fleet assets. The unit revenue turned positive for the quarter increasing by 10 basis points on a year-over-year basis. The 6% increase in transaction days achieved with less than 2% fleet increased our utilization by 700 basis points compared to the same period last year despite the early onset of a significant OEM recall activity during the quarter. In total, second-quarter revenue declined 2% versus the prior year driven by 8% decline in pricing partially offset by 6% increase in transaction days.

As a reminder, similar to last quarter, the impact of transaction days accounting methodology result in the integration of the Dollar and Thrifty to the Hertz's counter systems, as well as non-rental related declines in areas such as fuel-related ancillary revenue had an impact on year-over-year changes to RPD and transaction days. Adjusting for these factors, second quarter days would have increased by approximately 5% versus the reported 6% and pricing would have declined by approximately 6% versus the reported 8% versus prior year.

We saw a meaningful sequential improvement in RPD throughout the second quarter growing from a low point in April. And in fact while it only represents a portion of the customer booking volume, retail published pricing turned positive on a year-over-year basis during the quarter, a marked improvement over what we saw earlier in the year. Still, it goes without saying, the RPD decline in the second quarter remain unacceptably high. The decline was driven by a number of factors, including an increase in average rental length, an unfavorable shift in customer mix, and an increase in the proportion of smaller cars rented. Continuing softness in the corporate contracted volume and a significant boost in off-airport volumes were key contributors to shifting customer mix as well.

We continue to progress our work to improve customer/fleet mix, drive greater customer preference and ultimately execute every facet of our revenue-generating machine better. As an example, as stated earlier, we started rolling out first phase of our next-generation revenue management system capabilities in June and will continue that rollout throughout remainder of this year. The first phase involves the rate management system, which better allows us to monitor and optimize yield across segments, channels, geographies in a much more consistent and automated fashion.

In terms of volume drivers, strong leisure growth of 6% was partially offset by 2% decline in commercial business. The inbound volume to the U.S. increased by 3% driven by healthy demand from EMEA and Asia Pacific regions. Off-airport growth was fueled by OEM recall activity and an increase in insurance replacement business driven by challenging weather across parts of the U.S.

Turning to the U.S. RAC fleet, net depreciation per vehicle per month increased 12% year-over-year in the second quarter as a result of the expected decline in residual values and higher program car depreciation rates.

In the second quarter, we continue to build on our success on improved capacity optimization and management of the total fleet costs as evidenced by our 700 basis point improvement in vehicle utilization, and continued success in the remarketing of our risk vehicles to higher yielding channels such as Dealer Direct and retail as compared to wholesale.

To give a little more detail regarding our retail distribution channel performance, we're not only focused on growing the volume to this channel through our 80 retail store network channel, but we're also focused on improving the efficiency and effectiveness of our sales performance. For example, we have increased our sales per store by 10% and achieved a 25% improvement in (17:40) financing the insurance product income on our retail sales. Overall, we've increased the net benefit from units sold through retail versus those sold via auction by 56% compared to the same period last year.

Another bright spot on the fleet side is related to efforts to improve the cycle times of various components of our deep clean processes that ultimately reduce the number of days from last rent to cash. For example, based on this work, we've taken full seven days out of the time from the last rent to retail sale in the first half of 2016 as compared to the first half of 2015.

As a result of our efforts in fleet management and in parts through the maturing retail car sales networking capabilities we have built, we were able to help offset some of the unfavorable impact to our net depreciation expense line driven by macro factors such as declining residual values. As a result, we are reaffirming our 2016 U.S. RAC depreciation guidance of $290 to $300 per unit per month, which includes and assume 2.5% residual value decline in 2016. So, bringing together the U.S. RAC segment second quarter adjusted corporate EBITDA of $168 million at a margin of 11% was 300 basis points lower than the same period last year.

The International Rental Car segment continued to perform well despite challenges resulting from security concerns due to the recent terrorist attacks and an unanticipated $20 million charge in the quarter to increased insurance reserves, both of which I'll address shortly. Total revenues declined 3% to $540 million inclusive of $6 million unfavorable foreign exchange movement or a 2% decline in FX neutral basis. This decline versus prior year was driven by 2% decline in total revenue per transaction days on roughly flat transaction days.

Net vehicle depreciation per unit decreased 4% from the prior year on improved fleet management processes including strategic procurement and the greater use of high-yielding alternative remarketing channels.

In total, the International segment reported an adjusted corporate EBITDA of $42 million or margin of 8% for the second quarter. As previously indicated, the results include a $20 million unanticipated charge to increase insurance reserves primarily related to the adverse development of insurance claims primarily in the United Kingdom. While we cannot be sure that these will experience additional adverse development of these claims in the future, we have taken the actions necessary to address the root cause of the activities in our operations that contributed to this unanticipated adjustment to the reserves.

Adjusting for the $20 million of unanticipated charge to insurance, the International RAC segment would have delivered an $8 million improvement in the adjusted corporate EBITDA and 15% year-over-year improvement and a margin expansion of 180 basis points to 11.5%.

Lastly, before I move on, let me touch on a couple of macroeconomic items impacting the International segment. First, while still early, we do not anticipate the UK's decision to leave the EU will have material impact on our 2016 performance. Secondly, we're pleased that the core business continues to perform well despite security concerns based on the recent attacks in Europe and while we do continue to see growth in inbound demand in third quarter, it is expected to be at a slower rate than our original expectations prior to these recent terrorist attacks.

Now I would like to provide an update on our balance sheet, financing and cash flow. During the quarter, the company completed 10 financing transactions totaling over $7.4 billion to establish strong and long-term post-spin capital structures for both Hertz and Herc Rentals and to increase vehicle financing capacity for Hertz. This is a significant achievement that demonstrates the ongoing support of relationship banks and access to the capital markets. Two of these transactions totaling nearly $3 billion were to establish a long-term capital structure and appropriate liquidity for Herc Rentals. The remaining 8 transactions were to establish new liquidity facility for Hertz in the form of a five-year $1.7 billion revolving credit facility, refinance the high-coupon bond, issue new Term ABS debt and extend various vehicle financing facilities.

The company also received $2 billion in proceeds from the separation of the Equipment Rental business, which was used to pay down a $2.1 billion term loan and retire our existing ABL facility. The net result of the refinancing of the high coupon bond and pay down the debt will reduce annual cash expense for Hertz by approximately $90 million annually and $45 million will be realized in the second half of 2016.

Further, with these transactions, the company has dramatically improved its corporate debt maturity profile and now has no significant maturities until 2019. Going forward, we will continue to assess market conditions with an eye towards further metering off the 2019 maturities.

From a corporate net leverage perspective, we closed the second quarter with a net corporate debt to adjusted corporate EBITDA leverage of 4.5 times. Pro forma for the redemption of our 7.5% note that occurred on July 8, the net non-vehicle debt was $3.3 billion and corporate liquidity was $1.7 billion. We expect to generate strong second half of the year cash flow consistent with seasonal trends and have increased our full-year free cash flow expectation to $500 million to $600 million from the $400 million to $500 million previously due to lower cash taxes, lower non-vehicle capital spending and continued aggressive vehicle asset management.

I'd like to note that the share repurchases – the debt share repurchases are outside of free cash flow definition. Free cash flow maybe used to repurchase shares, pay down debt or make acquisitions. We continue to expect to end the year at or below our 3.5 time net leverage target, as previously communicated. I would like to remind everyone that our net corporate leverage levels moved seasonally by approximately 0.5% of churn from the peak at the end of the second quarter to the trough at end of the fourth quarter.

As it relates to capital allocation for the balance of the year, we'll use excess free cash flow to opportunistically repurchase shares consistent with our previously stated objective to balance liquidity and invest in these along with achieving our year-end leverage target. The board of New Hertz reauthorized the remaining $395 million of capacity of the originally authorized $1 billion in share repurchase capacity.

Finally, I want to address the proposed methodology changes Moody's is considering for rating the rental fleet securitizations. We have been in active dialogue with Moody's and a number of our ABS investors. While it is too early to know exactly how this will play out, our goal is to ensure Moody's ratings approach and criteria is transparent to the market, ratings volatility minimized and the final ratings criteria is included as soon as practical.

Before I turn the call back over to John, let me provide some additional detail on the guidance we established this morning for the new post-spin Hertz. Prior to the Hertz separation, we had previously discussed the proxy for the New Hertz full year outlook was to take previously issued Hertz consolidated full year 2016 guidance of $1.6 billion to $1.7 billion less the company's Equipment Rental segment's full year 2016 guidance of $600 million to $650 million. Doing that math, one would surmise that the New Hertz guidance midpoint for 2016 would be in the $1.025 billion range.

We also indicated that given the first quarter results, we did not have much headroom in our guidance that could accommodate any material unexpected results and continue to experience sequential rate improvement, heading into the peak earnings season.

Subsequent to our first quarter earnings call on May 10th, we have gained additional clarity on items such as the second quarter results versus our expectations; the impact of Equipment Rental business separation on stranded cost or corporate expenses that were previously operated at HERC segment that now remain with Hertz and an earlier look at third quarter trends and potential impact for full year expectations.

Some of these items included in the second quarter results that adversely impacted our expectations include the following: $20 million second quarter expense related to increase in International insurance reserves; $25 million of stranded corporate expense or expense previously realized with HERC segment that now is being absorbed by RAC; $10 million in additional expense in foregone revenue contribution resulting from storm damage to our vehicles, primarily from hailstorms and a high number of recalls with one OEM that negatively impacted our vehicle capacity available to rent by 1 percentage point in June; $10 million related to our strategic investments in such companies such as Luxe and $5 million unfavorable movement exchange rates. So, in total, since our last discussion back in early May, we have identified approximately $70 million of known factors that will negatively impact our previous expectations.

In addition to what has already happened, when looking forward, we see additional potential risk driven by three factors: first, while we still anticipate that our International RAC segment will continue to deliver strong year-over-year performance, we believe it is prudent for us to lower expectations as a result of the slower growth of inbound visitors as a result of the recent terror attacks in Europe and the corresponding impact to travel demand.

Second, the recalls we experienced in the second half of June in U.S. RAC segment, which reduced our capacity of 1 percentage point in the month, continued in July and will have a correspondingly negative impact.

And lastly, while we expect to see continued sequential improvements in U.S. RAC pricing in the back half of 2016, we do not anticipate it will be at the same rate of improvement that we had expected three months ago or so.

In summary, while we believe all these impacts are transitory in nature or are addressable through management actions, nonetheless, when combined require management to establish a full-year adjusted corporate EBITDA guidance range for New Hertz of $850 million to $950 million.

Looking at the balance sheet, we have raised our full-year expectations for free cash flow from Hertz consolidated of $400 million to $500 to New Hertz of $500 million to $600 million. Contributing to the increase in our free cash flow look is as follows: a reduction to our non-vehicle capital spending from $150 million to $175 million to $125 million to $150 million, excluding the $50 million estimate included in previous guidance for HERC; a reduction in cash taxes from $125 million to $150 million to now $100 million to $125 million; a reduction in corporate cash interest expense from $330 million to $345 million to now $280 million to $290 million and other working capital and financing activities. It should be known that $55 million of the $70 million of the known second quarter earnings items are either non-cash or already been accounted in our prior guidance, i.e., the stranded costs.

To round out the New Hertz guidance, the following items have remained unchanged from our prior guidance: U.S. RAC revenue growth of flat to minus 1.5%, U.S. RAC net vehicle depreciation per unit per month of $290 to $300 per month, and U.S. RAC fleet capacity growth of minus 2% to minus 3%. It should be noted that while the absolute revenue guidance remains unchanged, our expectation of mix between rate and volume has changed, which negatively impacts our prior expectations on contribution of the revenue outlook to earnings.

So, in closing, with the separation of HERC now complete, we're keenly focused on building on the early success of our cost and quality initiatives and continue to improve on our revenue performance in U.S. rental car.

With that, I'd like to turn the call back to John for some closing remarks before opening up to questions.

John P. Tague - President, Chief Executive Officer & Director

Thank you, Tom. Good progress in many critical areas, including very strong free cash flow, underperformance in revenue quality that we exited the quarter in a much better place and that strong trend has continued into the third quarter. As we successfully address the revenue opportunity, we are now configured for improved performance. That momentum needs to be seen on the bottom line in the quarters ahead and I expect it will be.

With that, operator, we will open it up for questions.

Question-and-Answer Session

Operator

Certainly. And our first question will come from the line of Chris Agnew with MKM Partners. Your line is open.

Christopher Agnew - MKM Partners LLC

Thanks very much. Good morning. The first question, I wanted to ask about, I think you mentioned retail turned positive year-over-year. I was wondering, did that refer to the month of June or was it at some point in June and how are you defining retail? And then I also wanted to ask if you could give a little more color on why average rental length and smaller vehicles were headwinds for pricing, particularly relative to what you thought at the start of the year. I'm just trying to understand why smaller vehicles – presumably, you knew your mix going into the year – why those are a headwind? Thank you.

John P. Tague - President, Chief Executive Officer & Director

Well, I think those are headwind as it relates to the year-over-year comp not necessarily our fleet plan in particular. Length of keep in some ways was constructive for sure in terms of the increase and was also driven in part by the strong insurance replacement market on in and off-airport. So we saw that in a number of areas. As it relates to the retail pricing comment I am going to turn that over to Jeff.

Jeffrey T. Foland - Chief Revenue Officer & Senior Executive Vice President, Hertz Global Holdings, Inc.

Good morning, Chris. Retail published pricing is essentially the pricing that customers can find published on online travel agency sites, through hertz.com, dollarthrifty.com and so forth, and also that business that our loyalty program members would be booking directly with us. It represents between 20% and 25% of our business. So there's a lot of bookings that are made that are not published retail pricing that go through areas such as affinity groups, various forms of contracted business and so forth. So the published retail pricing did turn positive during the quarter. It was later in the quarter when we noticed it turning positive and we, of course, scanned this pricing across the marketplace and it turned positive for the marketplace at large during that quarter.

Thomas C. Kennedy - Chief Financial Officer & Senior Executive VP

And Chris, I'd like to add a little bit on the fleet mix. What wasn't unanticipated in late May, we had a significant recall. We had 93,000 cars recalled, a disproportion number of those were with one OEM. So our rotation that we had planned to take our compact cars was therefore put on hold and we held compact cars longer into this through June and then yearend of July to accommodate or trying to make up for the recall capacity. We had over 32,000 cars that were on hold for multiple weeks and we believe that our content of the one manufacturer which we were hit by the recall is a double-digit increase higher as a percentage than our closest comp. So, I think we are also disproportionally negatively impacted by those recall.

Now recalls are a normal part of life as you know in the car rental business. This one was unusually significant unfortunately hit us at a very unfortunate time and had an impact therefore on our fleet mix in the month of June.

Christopher Agnew - MKM Partners LLC

Got you. Thank you. And then if I could one more. Can you break out what some of the stranded costs were? Thank you.

Thomas C. Kennedy - Chief Financial Officer & Senior Executive VP

Yeah, Chris. Examples of that would be general corporate overhead that was allocated to HERC such as Senior Executive Management, some properties locations, some other general overhead. There was corporate overhead that directly – went direct corporate overhead that went with the spin. Clearly, we had expected some corporate overhead. It was very difficult to estimate exact the amount until you got through the transactions. As you can appreciate, these transactions, these separations are complicated. You go through the process to try to estimate, which we did have a very good estimate on direct corporate overhead that would go to indirect, and how that fall out. There was some changes in how intercompany sell and how corporate expenses then got funneled finally when you get the separation done.

We were not pleased with it end up being $25 million, but I would note that when we first announced the spin back in March of 2014, we had estimated that these stranded costs would be somewhere in the neighborhood of $60 million to $70 million for the company that made significant progress. We unfortunately had a little larger number than we had originally expected when we finalized the separation.

Christopher Agnew - MKM Partners LLC

Thank you.

Operator

Thank you. Our next question will come from the line of Anj Singh with Credit Suisse. Your line is open.

Anjaneya K. Singh - Credit Suisse Securities (USA) LLC (Broker)

Hi. Good morning. Thanks for taking my questions. First off, I guess, in light of what you described as meaningful improvements in pricing sequentially, but decline still being unacceptable, could you give us a sense of what your expectations were for pricing improvements at 2Q in the second half?

And as we look at what you think the biggest limiting factors are right now to your revenue performance, is it more systems related or is it more related to the mix and ancillary-related issues that you had in the quarter?

John P. Tague - President, Chief Executive Officer & Director

Yeah. I can't give you the specifics around (35:06) but you know look I think that our expectation in terms of RPD trends improvement was moderately heavier than we experienced.

Having said that, when we talk about remediation, much of it is already underway and the realization of the trend we stepped off within June and the results we are seeing with in July. So we are supported by a strong foundation in terms of industry conduct, a good foundation of the trends we see exiting June and leading into July.

In addition to that, we are getting improvement in systems that's in place now. I don't want to create the impression that you plug it in and the money starts coming down from the tree. It takes data cleaning time and experience but we believe the changes we are making now are going to be very highly leveraged. And I think we're turning the dial a little bit differently in terms of moderately differently in terms of volume, length of keep. And one of the system improvements we're actually putting in place will help us not expect a better inbound mix but will help us manage the same inbound mix a little bit more dynamically to a better outcome. So there is a number of underlying positive trends we saw and we certainly have some executional initiatives to add to that rate of improvement.

Anjaneya K. Singh - Credit Suisse Securities (USA) LLC (Broker)

Okay. Got it. That's helpful. And as my second question, Tom, could you provide us with your outlook for fleet costs in the second half of the year and any early 2017 fleet commentary just in terms of what your perspective is considering the first half seems to be running at the low end of your guide and also any directional sense you could provide on fleet costs of mix as it relates to 2017? Thanks.

Thomas C. Kennedy - Chief Financial Officer & Senior Executive VP

Yeah. Thanks. So, as you know noted, we've been running somewhat favorable. Year-to-date I think we were running around $290 per vehicle per month at the low end of the guidance, $290 to $300 at the quarter, came in a little less than that. As we've said in the first quarter results we had a somewhat unusually high reserve we took for the compact cars in Q1 which bumped it up a little bit. We still believe that $290 to $300 is appropriate. You obviously can do the math roughly in the second half kind of weighted average and understand what our expectation are for the second half the year. And again, consistent with our prior guidance, we are still assuming around 2.5% decline in residuals.

We think it's prudent to keep the guidance of the $290 level even though we came in the second quarter a little bit more favorable because we do rate reviews every quarter and we've got to continue to monitor kind of how the depreciation changes despite what I think has been a favorable market trends with the Manheim Index firming and getting little stronger. So I think that's positive. But nonetheless keeping the guidance, I think is kind of, I think prudent where we are today.

As far as early returns in 2017, we haven't provided any guidance. As far as our expectations, I would say that we've been through about 85% to 90% of our expected buy we have contracted with, with our manufacturer partners.

We are pursuing and have had realized cap cost reductions on the risk components. I would say the model year 2017 characterization of the market has been that it's getting a little bit more favorable early on in discussions. I think there was a little more challenge on expectations on cost increases and particularly in program availability. The program availability has come a little bit more available but I would say the cost still are a little big prohibited from a program versus risk mix standpoint.

Right now, our program risk buy for 2017 is roughly 80/20 risk to program. So we're still getting program content as we like the flexibility for buys particularly in some of the peak seasonal periods. But right now, it's little too early to say what the ultimate expectations are fleet costs. We would like to see how the residual markets are projected in and obviously as we get closer to year end, we will have better visibility, transparency as to what next year looks like from a residual function standpoint. But early on, we've gotten the content we wanted. We've gotten the mix we have wanted. We've got a decent program risk mix and we had achieved cap cost reductions on the risk content to-date.

John P. Tague - President, Chief Executive Officer & Director

Obviously, market conditions are an important element of fleet cost. But I really want to emphasize we're extremely focused on enhancing our capabilities and our execution here. And we really do believe that we can build advantage in how we execute and manage fleet costs. And I think we are seeing some early evidence of that certainly some of which was described by Tom.

Anjaneya K. Singh - Credit Suisse Securities (USA) LLC (Broker)

Okay. Got it. Very helpful. Thank you.

Operator

Thank you. Our next question will come from the line of Chris Woronka with Deutsche Bank. Your line is open.

Chris J. Woronka - Deutsche Bank Securities, Inc.

Hey, good morning, guys. I want to ask you to go back to the back half expectations. You had really great utilization pick up in the U.S. in the second quarter. Do you think – you can, is there a notional maximum utilization that you could get second half if pricing does not pick up as much as you initially thought?

Jeffrey T. Foland - Chief Revenue Officer & Senior Executive Vice President, Hertz Global Holdings, Inc.

Yeah. Hi, Chris, Jeff Foland here. So, as you noted, we've been running reasonably high utilization. A significant focus of ours as we stated for a while now is to make sure that we are very efficient in how we use the assets that we have deployed in the marketplace. Do we think that we – the absolute frontier of what we can achieve in that area? The answer is likely no. At the same time, we don't expect that utilization will have to increase much beyond where it's currently at for us to drive the results that we need to going forward. We understand it's running at high utilization today. Our objective is to keep it high and try to improve it from that point.

John P. Tague - President, Chief Executive Officer & Director

Yeah. We're focused very much, and obviously, our biggest value drive here is when we can increase cars available for rent by decreasing out-of-service and supply chain spend. And that's where much of our ability to improve this has come from.

Chris J. Woronka - Deutsche Bank Securities, Inc.

Okay. That's helpful. And then I just wanted to follow up on the insurance issue you guys found in Europe in the second quarter. Was that – maybe could you give us the genesis of that? Is it something you tend to have more visibility on or could there still be some further adjustments?

Jeffrey T. Foland - Chief Revenue Officer & Senior Executive Vice President, Hertz Global Holdings, Inc.

It is clear. I mean, reserving for insurance claims is a very specific scientific process through actuaries up and actuaries in. And what you do is, we do two times a year, we get an outside actuarial study which it factors all the historical claims and how they may be developing from a settlement standpoint relative to how they may have originally been reserved. And what we identified in this example was in the UK, specific to UK. We had some sectors of business we are in, in prior years for which we reserve for but the claims on those businesses came in, have been developing adversely, and as a result we had to increase the reserve a lot relative to those original reserves we had on books for those.

What it is it's not normal course I would say, the size, the magnitude. Every once in a while I think businesses experience this adverse development have to increase the reserves. We do reserve on a daily or monthly basis based on our daily transactions and assumed accrual rate for this year's activity that will ultimately be used to pay for future claims.

So this goes back to prior periods for which unfortunately the claims have just had developed adversely and it wasn't anticipated adjustment to the reserves required to support those claims that ultimately are developing, getting settled for this line of business which we've now exited, to be clear. So it's not a prospective we believe and perspective issue, but it's essentially increasing the amount of reserves we have for the ultimate settlement of whatever remaining claims we have for this sector business we're no longer participating in.

John P. Tague - President, Chief Executive Officer & Director

Yeah. I think the key from a management perspective going forward is to develop more robust leading indicators on this and that's one of the capabilities we're developing that also led to for example the change in debit card policies on location-specific acceptance within the U.S.

So this is really a key opportunity going forward is to use this more rich data that we have coming in to actually change how we sell and what we sell, and to affect this corrective outcome much earlier in the cycle. But in this case, somewhat counterintuitively, it was a very small revenue line with a very bad outcome, and we simply exited the segment.

Chris J. Woronka - Deutsche Bank Securities, Inc.

Okay. Very good. Thanks, guys.

Operator

Thank you. Our next question comes from the line of Brian Johnson with Barclays. Your line is open.

Dan M. Levy - Barclays Capital, Inc.

Hi, yes, this is Dan Levy on for Brian. Thank you for taking the question. I just wanted to ask on the volume in 2Q – the U.S. volume in 2Q, you had 6% growth, 5% before adjusting for DTG account change and that's quite robust and that's really a lot better than the run rate we've seen in the recent quarters.

It's better than the organic run rate that we've seen in the business. So, can you just provide a little color on that growth and in particular given that the growth happened to coincide with weak pricing and increased utilization, is it possible that some of the incremental volume was taken at lower price? And, I guess, just wondering little color on the interplay between volume and price would be appreciated.

John P. Tague - President, Chief Executive Officer & Director

Yeah. I'll ask Jeff to give you a more detailed background on that. But I think it's important to understand there were some underlying events that drove demand up as we talked about, broad recalls against the Takata airbag, very severe weather that drove insurance replacement. So, strong off-airport growth that was somewhat possibly temporary and event driven. But Jeff can provide more detail.

Jeffrey T. Foland - Chief Revenue Officer & Senior Executive Vice President, Hertz Global Holdings, Inc.

Yeah. I'm (45:44). Look, our objective is to grow with the market in terms of volume in the on-airport environment in particular. That's the goal. We, obviously, want to maximize the efficiency of the revenue that we can generate from that in the form of revenue per available car day.

And as John mentioned, we had quite significant growth. About two-thirds of the same store growth in the quarter off-airport dealt with weather-related and recall-related replacement types of business.

John P. Tague - President, Chief Executive Officer & Director

Which, obviously, have a longer length of keep and was somewhat a contributor to that overall. So we don't have obviously all the comparative data in but we believe our on-airport growth will be very consistent with sort of at or moderately below overall industry growth and that's what we're targeting.

Dan M. Levy - Barclays Capital, Inc.

Okay. So, with that in mind, I mean, could you quantify what percent of the retail pricing in the quarter was due to mix?

Thomas C. Kennedy - Chief Financial Officer & Senior Executive VP

Well, so customer segment mix was between 20% and 30% of the decline in RPD on a year-over-year basis. Now a portion of that is driven by softness in the corporate contracted business sector, of which we need to improve and we certainly have plans to improve moving forward. As we go to drive traffic to compensate for that softness, that contributes to some of the customer mix rate softness that you would see in the RPD results.

Dan M. Levy - Barclays Capital, Inc.

Okay. Thank you.

Operator

Thank you. Our next question will come from the line of Michael Millman with Millman Research. Your line is open.

Michael Millman - Millman Research Associates

Thank you. Following up on that last comment, while there was a negative impact from off-airport, typically we've been told that good LOR is very profitable. So was there some offset here between (48:05) and profit? Also you mentioned that I guess your market price business is about 25% of total. So, to what extent is the flexibility in the remaining business or how often can you change the prices on that? And then, I was wondering if you could give timeline on when you expect and how much improvement do you expect as you implement your technology regarding fleet and pricing? Thank you.

John P. Tague - President, Chief Executive Officer & Director

I think I'd take the first two questions there and drive you to the margin line, which I think is sort of evidence of the comment that you make. If I exclude the charge in the UK, the company's overall EBITDA margin actually would have been very comparable, I think within 10 bps as the public comp. So that sort of validates that at the margin line we're competitive but that's not good enough and it clearly has a remaining opportunity gap in terms of the quality of revenue RPD performance, but even if we closed a moderate amount of it would lead to a strong industry margin performance. So I think that is an indication there.

In terms of the specific rate of progress looking forward, as we said, we closed – 6 points of the decline year-over-year were closed between April and June exit. And we see further improvement in July as we've gone through and early indications around August are positive as well. So that's how we're sort of set up at this stage.

Jeffrey T. Foland - Chief Revenue Officer & Senior Executive Vice President, Hertz Global Holdings, Inc.

If you or someone had mentioned the ancillary revenues and the degradation that we referred to with respect to ancillary is really in fuel-related ancillary products as fuel prices in the marketplace have obviously declined. The overall ancillary portfolio outside of that has performed reasonably well, and we expect it to continue to grow as we go forward.

In terms of initiatives that we have in place, Tom mentioned the technology that we're rolling out in the revenue management space in particular during his earlier comments. The first phase is the rate management system, which allows us to monitor and optimize yields in a much more consistent and automated way across segments, channels, geographies.

We've rolled this out into a few dozen markets already to-date. We expect a much accelerated and complete launch of this portion of the technology in the fourth quarter of this year. And as we enter 2017, we will be following that up with what we call contribution demand modules in a system which deals with linking, the forecasting the fleets and supply and demand characteristics of how we go about revenue managing in a much more automated fashion as well. So we feel good about that. We're progressing as planned and much of that technology goes into place in the fourth quarter of this year.

Michael Millman - Millman Research Associates

Thank you. Just touching back on the non-market pricing piece of the business, can you give us some idea of what extent there is some flexibility there, to what extent there isn't flexibility there?

John P. Tague - President, Chief Executive Officer & Director

Yeah. Look, I think that the improvement in retail pricing year-over-year that we saw in the quarter we'd view as a leading indicator and while there is not a direct correlation in terms of magnitude and timing, there is certainly is a correlation and I think you will see the rest of our pricing obviously ultimately will tend to directionally follow that outcome. I don't think that we are fixed in place and you are going to see a disconnect in that relationship.

Michael Millman - Millman Research Associates

Thank you.

Operator

Thank you. Our next question will come from the line of John Healy with Northcoast Research. Your line is open.

John Healy - Northcoast Research Partners LLC

Thank you. I wanted to talk a little bit more about the pricing in 2Q. I think you said a couple times now that the published retail pricing turned positive in the quarter. I'm still trying to wrap my head around how that happens and your RPD is still down, call it, 8% percent. If retail is only 25%, what's going on with the 75% of the business and how much was that down in the quarter?

John P. Tague - President, Chief Executive Officer & Director

As Jeff indicated, while it turned positive it was relatively late in the quarter when it did turn positive. I would combine that with my comment that said, we exited 6 points better than we started. So, as it was turning positive, it is really not versus the 8 point decline. It is versus a number that's much better than that. So, as I said, I don't think that we see other pricing as necessarily not being related to and this is a directionally indicative leading indicator and we don't expect this – I would say, not a tale of two worlds in the context it did occur very late in the quarter and we expect other pricing on a related basis will move in time.

John Healy - Northcoast Research Partners LLC

And I just wanted to ask about the charge in the UK. Was that an accrual or was there something that was written down? I was really confused on kind of what happened there necessarily that made it a charge?

Thomas C. Kennedy - Chief Financial Officer & Senior Executive VP

Yeah. John, it's an accrual for future expected settlement of claims related to historical claims that have been developing adversely. So it's an accrual increasing the reserves in the balance sheet and charge for the P&L for that increase estimate and ultimate settlement on these claims.

John Healy - Northcoast Research Partners LLC

Okay. Thanks.

Operator

Thank you. We will go to line of Rich Kwas with Wells Fargo Securities. Your line is open.

Ron J. Jewsikow - Wells Fargo Securities LLC

Good morning, this is Ronnie Jewsikow on for Rich Kwas. Just had a quick question on the corporate segment EBITDA line, as it came in a little – I guess, a little lower than we would have expected, given Q1 was down $27 million year-over-year, I mean, down $27 million compared to minus $44 million in 2015? But this quarter was roughly flat with year-over-year. How should we think about that moving forward Q1 relative to Q2?

Thomas C. Kennedy - Chief Financial Officer & Senior Executive VP

I think what you're referring to is the corporate segment and our GAAP financials and recall that we had a gain related to the sale of the car share that flowed through that in Q1. So it's an unusual item in our GAAP that's out of the adjusted earnings to be clear but I think that's what you are referring to.

Ron J. Jewsikow - Wells Fargo Securities LLC

Okay. Actually, it's the adjusted EBITDA line. It was minus $42 million versus minus $47 million last year. But Q1 improvement was much more substantial minus$27 million versus minus $44 million. I was wondering, if there's any other, kind of, drivers of that delta now should we think about in the back half?

Thomas C. Kennedy - Chief Financial Officer & Senior Executive VP

Yeah. I don't know specifically. And I think that'd probably have to be on a follow-up call. I think one item in last year's item on corporate related to an accrual of $9 million for the settlement of a future legal case that was in 2015's 2Q that wasn't in 2016 but I would have to probably look through with you and we could do it off-line and call me, Leslie and take you through the corporate line.

Ron J. Jewsikow - Wells Fargo Securities LLC

Okay. And then I just had one quick question on pricing as well. You guys mentioned that published pricing is probably a reasonable leading indicator. I recall that most of your corporate contracts have been renewed at the same or better rates. Is there a reason that corporate pricing wouldn't have turned positive at the end of the quarter?

Jeffrey T. Foland - Chief Revenue Officer & Senior Executive Vice President, Hertz Global Holdings, Inc.

Well corporate contracted pricing takes many forms and in most cases it takes the form of fixed rates combined with a variety of share commitment. So it's not directly tied to published retail price in the marketplace. In the quarter we renewed 96% of the accounts that were up for renewal during that quarter and 67%, about two-thirds of those accounts were renewed at constant or improved economics during that time period. So that's reasonably consistent with what we've had previously but once again the mechanism with respect to how pricing works for corporate contracted business and published retail business are a little bit different.

Ron J. Jewsikow - Wells Fargo Securities LLC

All right. Thanks for that color and thanks for taking my questions.

Operator

Thank you. And with that Tague, I'd like to turn it over to you for any closing comments.

John P. Tague - President, Chief Executive Officer & Director

Thanks very much for joining us today and as I said trends are improving and we look forward to more positive conversation as there is evidence of that in the third quarter. Thank you.

Operator

Thank you. And ladies and gentlemen, today's conference call will be available for replay after 10:30 A.M. today until midnight September 9.

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That does conclude our conference call for today. Thank you for your participation and for using AT&T Executive Teleconference Service. You may now disconnect.

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