Car Sharing Heats Up

Abir is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Car sharing is a very common phenomenon in the United States. Cool technology followed by a member-driven user experience and an amazing team of hands-on car sharing enthusiasts made Zipcar (UNKNOWN: ZIP.DL2) the world’s leading car sharing network. The company has grown to a $400 million business in the U.S., and is operating a fleet of 10,645 vehicles that generate annual revenues of $65 per day, unchanged compared to last year.

The Cambridge, Massachusetts based company is experiencing a remarkable growth rate, offering a unique investment opportunity for Avis Budget Group (NASDAQ: CAR). Due to ZIP’s relatively short history as a public company (founded in the year 2000), its shares were significantly undervalued based on a number of metrics.

CAR, the Parsippany, New Jersey based company announced that it has agreed to acquire Zipcar in a deal valuing the firm at approximately $500 million, or $12.25 per share. Shareholders in Zipcar stand to receive another 0.6%, if the proposed deal takes place at the proposed price. Despite the seemingly large premium, acquiring ZIP is a good deal. In this article, we will get an overview of why Zipcar is an attractive acquisition as far as growth options are concerned.

Company Growth Rate

Prior to the Avis deal, Zipcar's stock price is down about 70% since going public in April of 2011. ZIP is having impressive results, especially when considering that two major competitors, Hertz Global Holdings (NYSE: HTZ) and Avis, are experiencing declining sales (figures are given below in the chart).

Sales Growth

For the first nine months of 2012, ZIP’s sales were $208.2 million. The company reported  net income of $571,000, or $0.02 per diluted share. Despite of having declining sales, HERTZ and AVIS may be reversing their trends by having a year-to-date sales which were up by 6.3% and 32.6% respectively. From the above figures it can be seen that, Zipcar has the second lowest PEG ratio.

Under Avis' ownership, Zipcar should be able to continue its growth. The company is improving its profitability by refining its business model and adding additional efficiencies, services, and options. For example, ZIP is focusing on offering Zipcar for businesses (Z4B) and governments (Z4G), and Zipvan, limited no annual fee services (tested in Canada). ZIP has expanded its wings into new geographic markets including the U.S. as well as international markets, such as Spain and Austria. The City of Houston partners with Zipcar to launch a municipal electric vehicle (EV) fleet sharing program, called Houston Fleet Share.

Operationally, technology is at the core of Zipcar, and should enable it for a continued and relatively uninterrupted growth. The company is focused on digital, mobile, social, and grass root marketing that utilizes data, the company has gathered from more than ten years of operational history. This together with Avis' own resources (financial and operational), could ensure long-term success.

Company Fundamentals

Despite a nearly 50% premium to Zipcar's prior day closing share price, Avis' acquisition looks like a good deal. Zipcar is a relatively new company that is experiencing significant growth. Importantly, for an acquirer, it is able to maintain strong fundamentals. Zipcar has several valuation ratios (based on pre-deal stock price) that are comparable to the more established (with lower growth rates) car rental companies.

Ratios

From the above table it can be seen that, Zipcar has a better liquidity, as measured by the long-term debt to equity ratios of HERTZ and AVIS. In terms of price to book value ratio, Zipcar has the most attractive valuation than the other two. Low debt levels and price to book value, make Zipcar an excellent acquisition target. Even at a 50% premium, Zipcar's book value is below that of Avis and Hertz.

As the company is still entering into new markets and acquiring customers, it has worse profit margins. But, ZIP has a positive free cash flow, and does not have a significant reliance on outside financing for its growth. In terms of profitability, Zipcar lost $0.24 per share in 2011, and it should earn between $1 and $4 million this year or approximately between $0.01 and $0.10 per share. In 2013, estimates are for $0.20 of earnings per share and in the current stock price, the price to earnings ratio of 2013 is about 40. This valuation is a rich one, but the company expected to double its earnings in 2013 and 2014, which makes this valuation a bit cheap. Following the Avis combination, Zipcar operation margins will be much higher due to synergies.

Competition

The two major competitors of Zipcar are Enterprise (Car Share) and Hertz (On Demand). Zipcar has the advantage of the early entry into the car sharing business, and it also does not have a regular car business that in fact competes with the car sharing service.

It appears that the current competition does not threaten Zipcar, and the major threat to its business model is costs. While there are risks, Zipcar is able to bring in new technology and efficiencies that have been outpacing the rise in inflation. The company competes with taxi cabs and public transportation. Zipcar will become clearly a better choice from a cost perspective if, labor costs continue to rise.

Competitors such as Hertz and Avis are much more focused on business travelers, and holiday rentals, which both thrive in a strong economy.  Zipcar targets sophisticated clients in large cities, which do not own a car, but need one on hourly basis.

Graph from StockCharts.com

To wrap things up

Zipcar is undoubtedly a leader in the car sharing rental market. Consumers, governments, and businesses have learnt to share transportation now, and become more cost conscious. Avis should be able to expand further, and faster Zipcar's business model into new geographic areas, offer additional services, and develop newer technologies. There are always risks and the limited margin of safety in any acquisition. However, Zipcar has been doing the balancing act well between growth and profitability in the meanwhile attending economies of scale. Avis' offer for Zipcar looks like a well-planned acquisition because; people will always need cars for pleasure or work and ZIP is having a strong position in this market. A cold war will likely to continue between Hertz and Avis following Avis’ bid for Zipcar.


abirk has no position in any stocks mentioned. The Motley Fool recommends Zipcar. The Motley Fool owns shares of Hertz Global Holdings, Inc. and Zipcar. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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