- Bid worth 61c already on the table so the downside is limited.
- Alternative bid worth $4.30 just needs financing so that is the most likely outcome.
- Auction May 10th could have unlimited upside including the stockholders retaining 100% of the stock.
- Rental car prices and utilization are skyrocketing so future prospects are very bright and will likely encourage bidders.
- When compared to Avis, Hertz could be worth $22 per share at the same multiple - only the bankruptcy process is holding it back.
Hertz Global Holdings, Inc. (HTZGQ) ("Hertz", "the Debtor" or "the Company") is an international car rental and leasing company. Hertz declared bankruptcy in May of 2020 and now two different groups are bidding against each other to take Hertz out of bankruptcy in the 3rd quarter of this year. Hertz has operations in North America, Europe, Asia Pacific, Middle East and Africa and Latin America. Their rental fleet at the end of 2020 was 423,992 US vehicles in the US and 116,348 internationally, down from 534,879 and 180,723 respectively at the end of 2019. Hertz had 3,900 US locations comprised of 1,500 airport and 2,400 off-airport which include both corporate-owned and franchise. The Company rejected leases for 359 off airport locations and 66 airport locations during the bankruptcy.
In their First Day Declaration, Hertz outlines what precipitated the bankruptcy. For a company that gets the majority of its revenue at its airport locations, the 96% fall in airport travelers by mid-April crushed their rental business there. Off-airport locations rentals fell 50% as well since ride-share operators were not doing as much business as people stayed home, temporary cars needed as a result of accidents also fell since people were not driving as much and people were just not traveling for work or pleasure due to Covid. By May 24th when they filed Chapter 11, daily air passenger volume was still down 90%.
Hertz controls most of its vehicles through special-purpose entities that sell bonds to raise money to buy the vehicles and then lease them to Hertz. As part of the master lease, Hertz buys some cars under a "program" from the manufacturer that has guaranteed repurchase prices so there is controlled depreciation but from a higher price. Other "non-program" vehicles are bought at lower prices but have no guaranteed depreciation rate. If car values that don't have a guarantee decline according to a pricing service by more than what is outlined in the master lease, then each month Hertz has to contribute the difference and true-up the shortfall at the SPV. So in a perfect storm, no one was buying cars in those early months and used car prices started tumbling. Hertz was looking at a payment of $400mm under that lease which they skipped to preserve liquidity and ending up filing for bankruptcy as a result.
Industry-wide US revenues in 2020 were down 28% and rental vehicles decreased 12% to about 2mm. Revenue per unit per month declined 17% to $975. For Hertz, total revenues fell 47% in the US mainly due to transaction days down 47% and the liquidation of so much of its fleet. Revenue per transaction day only fell 2% to around $43. Utilization fell from 80% in 2019 to 53% in 2020 in the US. Before the pandemic in 2019, things were looking pretty good though - revenue grew 4% and EBITDA margins expanded nearly 300 bps and that growth continued into the first couple months of 2020.
Now Hertz has restructured its operations and taken out a lot of unnecessary costs. The US workforce has been decreased by 42% to 17,000 and the international workers declined by 28% to 7,000. Hertz negotiated rent concessions for its locations which will save about $300mm on a run-rate basis and additionally closed 425 more locations. They also reduced non-vehicle CapEx by $126mm, right-sized their vehicle fleet by selling 308,000 vehicles during the bankruptcy and renegotiated vehicle leases. They have agreed to sell 121,500 more vehicles by the end of September. The Company also sold its fleet management business called Donlen Corp. for ~$900mm or about 10x EBITDA. Adding everything up, Hertz says that expenses and expenditures have been reduced by $2.5B on a go-forward basis, setting Hertz up to be much more profitable in the future.
Hertz had about $14.7B in vehicle debt issued through SPVs going into the bankruptcy (which includes $1.6B from the Donlen business which is now sold). Some of these programs are international but the main US ABS program had $10.9B outstanding. Some of these programs are non-recourse but most are guaranteed. Because of the collateral, most of these ABS programs are completely unimpaired and will just ride through the bankruptcy as non-debtors to be used by Hertz in the future or they have been given true-up payments by Hertz and will continue to serve the Company upon emergence. Others have been paid down and replaced like the main US program which is in the process of selling off cars and will be replaced by a new $7B ABS program. Analysts in general do not count these debt programs when calculating the EV of the business which makes it easier to compare competitors. The plan value also does not take these into account and we use the same methodology in our valuation.
Private Equity groups Centerbridge, Warburg Pincus and Dundon (the "Plan Sponsors") had their proposal adopted by the Company in this 4th amended plan which they have deemed the best and highest and will be voted on in June if there are no other higher bids. It proposes a $1.3B exit term loan, a $1.5B undrawn exit revolver, $385mm in convertible preferred stock paying 4% that can be called at par in 3 years that converts at an equity valuation of $4.826B. The DIP on which $1B is drawn, the $1.3B First Lien Term Loan and Revolver, $360mm in Second Lien Notes, $550mm in GUCs and the $790mm HHN Note Guarantee claim are all being paid in cash. The senior unsecured notes are being given 48.2% of the stock and allowed to participate in the equity subscription for 38.4% of the new equity. The Centerbridge group is putting in $565mm for 13.5% of the new stock. Post-emergence, 5% of the new stock is reserved for management incentive awards. The old equity gets 6 year warrants for 4% of the new Hertz at a $6.1B EV which the Debtor values at $83-107mm at a volatility range of 50-65%, or $0.61 per share at the midpoint.
The first plan in the beginning of March implied an enterprise value of $4.846B and the fourth plan from the end of April implies a value of $5.5B, illustrating how far and fast the bidding has improved as Hertz's fortunes look better and better. The bonds traded from under 10 cents after the filing back to above par, implying that there is equity value and this plan would give bondholders more than a 100% recovery as Knighthead and the Ad Hoc Equity group have argued. Knighthead's bid, which also was the sponsor of the first plan, is at a valuation of $6.2B which is $700mm more than the Centerbridge bid. The Debtors chose to go with Centerbridge because they said their plan had fully committed financing and didn't have enough time to review Knighthead's latest bid because they had improved it the night before the hearing. They did say that if Knighthead could secure financing then theirs would be considered the best and highest bid. There was also some questionable talk about how the Debtors did not allow Knighthead to speak with the banks about financing and therefore they could not get a commitment letter. The Debtors said that the banks thought the Knighthead bid had too much preferred stock which hurt the credit. That sounds like excuse making influenced by the Debtors since Avis has 3.5 turns of debt based on 2019 EBITDA and 7 turns based on 2021 EBITDA. Avis' bonds are all above par and yielding 3.4-4.6% depending on the term. Hertz will be exiting with on 0.4x in net debt based on 2022 EBITDA projections. If Hertz were to sell 3.1x more turns of 2022 EBITDA in debt, they could raise $2,623mm, more than enough to replace the $2,573mm raised from the rights offering cash, purchase of common by the sponsors and the preferred stock. It would be nearly enough to pay off the senior unsecured bonds and thus give that 48.2% in equity and subscription rights for another 38.4% to the shareholders. This is the best market for high yield funding ever with the index trading tighter than it was before the pandemic so there is no doubt that Knighthead will be able to secure financing. It is probably even possible to sell bonds to refinance Hertz's whole capital structure leaving current equity with 100%. The stock would obviously be a home run in that scenario.
The current Knighthead bid would give shareholders $0.50 in cash and warrants struck at an EV of $6.2B for 28% of Hertz's shares. Without having all the details of these warrants and their structure, the total value of that consideration could be $7.86-9.55 per share based on similar details to the Centerbridge plan. At the hearing the lawyer for Knighthead said they would be will to increase that even more if given time. So if Centerbridge tops the Knighthead bid, we would expect Knighthead to come back for another round, further improving equity recoveries. There is also the possibility that another bidder comes in and participates in the auction which they are planning to hold on May 10th. The Debtors have also said they could form a different plan as well but in no case would the treatment of any class be worse than what they are getting in the current plan. So the downside for the stock is around 60 cents and things can only improve as the bidding continues and Hertz continues to capitalize on the recovery. Just as the Ad Hoc Equity group has stated, the stock is the fulcrum security with all the upside going to it since everyone else has been made whole.
Avis (CAR) is currently trading at an EV of $9.8B excluding vehicle debt. This EV is 12.4x 2019 EBITDA 20.4x 2021 EBITDA and 13.1x 2022 EBITDA. Hertz equity is trading at 5.5x 2019 EBITDA, 15.4x the Debtor's estimate for 2021 EBITDA and 8.2x 2022 EBITDA. Management teams and financial advisors of companies in bankruptcy are notoriously very conservative when making their financial projections. This is because they want to make sure the company is conservatively capitalized so they don't end up back in bankruptcy which is an embarrassment. Also, management gets new options usually struck at the plan value so they sandbag the plan value so it is as low as possible. Management is only assuming utilization of 80.8% in 2022 and revenue per transaction day ("RPD") of $46.95 even though their fleets and in fact all rental car fleets are much smaller now and in 2019 utilization was 80% and RPD was $43.73. There are stories all over the news about how rates have been skyrocketing already and there are almost no cars available at many locations. One story mentioned that standard cars were getting $500 per day in some locations or sold out completely in many locations. An economy car at Chicago O'Hare was $117 per day in April according to a Bloomberg story and people were renting U-Hauls to drive around Hawaii according to the local press because there was nothing else available or Toyota Camrys were renting for over $700 per day. Nearly 100% of price increases drop right to the bottom line. While Hertz and others plan to rebuild and refresh their fleets, they likely won't be as big as they once were even though there is a lot of pent up demand for travel with vaccination rates increasing. There are also stories of people avoiding flights and public transportation and renting cars instead at a much higher rate. It seems very likely that those projected RPDs and utilization rates will turn out to be low and Hertz could be much more profitable.
Using Avis' multiples Hertz would be completely solvent and the old equity would be getting 100% of the new equity because it would have an EV of $8.3B. If HTZGQ traded at Avis' 13.1x 2022 EBITDA, the stock would be worth $22. Under the Knighthead plan, the warrants for 28% of the company struck at a $6.2B EV plus 50 cents in cash, would make the current stock worth $4.30. We think that is the minimum expected return since we believe Knighthead will have no problem getting committed financing and the Debtors will have to accept it as the superior bid. However, there could be much more upside if there are multiple rounds of bidding. It is certainly possibly that equity could end up getting 100% of the upside above the enterprise value that would make the bonds whole with maybe a little kicker thrown to them to keep them happy. The equity is very likely to trade up a lot post-emergence so it would be good to hang on to whatever the old stockholders get.
- While it looks like the 4% in warrants is the downside, a deal could always get changed or pulled
- Demand for rental cars/travel does not materialize
- Knighthead does not make a new bid or get financing
- Knighthead or Centerbridge negotiates a deal with the Debtors that is "superior" but hands most of the economics over to them instead of legacy equity holders through a rights offering or other preferential treatment
- New Covid variants force continued shutdowns
- Hertz cannot get enough new cars at acceptable prices
Source: Hertz 10-K
Source: Hertz 10-K
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Analyst’s Disclosure: I am/we are long HTZGQ. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
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