Hertz: Is it Time to Buy the Rental?

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Car rental giant Hertz Global Holdings (NYSE: HTZ) recently hit five-year highs, despite posting a loss during its fourth quarter. The second largest car rental company in America reported a strong outlook for 2013, as it regains pricing power against its rivals and puts its recent acquisition of Dollar Thrifty to good use. Should investors consider buying this rental?

<img src="http://media.ycharts.com/charts/c2478d2779d87d46722477c2be1d0408.png" />

HTZ data by YCharts

Fourth Quarter

For its fourth quarter, Park Ridge, New Jersey-based Hertz posted a loss of 9 cents per share, or $36.4 million - which initially looked like a sharp decline from the 11 cents per share, or $52.1 million, it earned in the prior year quarter. However, excluding one-time charges, such as its acquisition of Dollar Thrifty, Hertz earned 33 cents per share, topping the Thomson Reuters’ forecast by two cents.

Hertz’s revenue rose 15% to $2.3 billion, also topping the estimate of $2.27 billion.

2013 Forecast

Hertz also sees clear roads ahead for 2013, and expects to earn $1.82 to $1.92 in adjusted earnings on revenue of $10.85 billion to $10.95 billion.

Both top and bottom line estimates exceed the Thomson Reuters’ forecast of $1.78 per share on revenue of $10.79 billion.

Dollar Thrifty

Hertz has long been locked in a pricing war against Avis Budget Group (NASDAQ: CAR) and privately held Enterprise Holdings at airports worldwide.

To decrease its dependence on low-margin airport rentals, Hertz has tirelessly attempted to acquire Dollar Thrifty -- which serves the leisure car rental market -- over the past two years. The FTC wasn’t too keen on the deal, which it believed would give Hertz an unfair advantage over its competitors.

Hertz finally sealed the deal in November 2012 for $2.6 billion, but with a catch -- it had to give up 29 of Dollar Thrifty’s airport locations and sell its low-cost Advantage brand, which operates at 62 locations. The newly merged company, after reductions, will have 10,400 locations across 150 countries.

Hertz also stated that the synergies from the acquisition would likely exceed its earlier forecasts, but declined to provide exact projections.

Hertz’s acquisition of Dollar Thrifty mirrors Avis’ recent $500 million acquisition of Zipcar (UNKNOWN: ZIP.DL2), the world’s largest car-sharing network, which gave it a competitive edge in college and urban areas. The acquisition also allows Avis to diversify away from its traditional airport rentals model. 

With only two publicly traded players left on the field and the FTC getting involved, the car rental industry is now heavily consolidated - which means that other smaller, overseas businesses, such as German rental company Sixt AG, could be next on their shopping lists.

'A fast start'

Hertz CEO Mark Frissora stated that the company was off to a “fast start” for the new year. The company has been traditionally tied to airline traffic and hotel bookings, since its rentals are often added as part of a package deal by booking services such as Orbitz Worldwide and Priceline.com. A recovery in domestic business and air travel helped boost its January numbers.

Car Rental Revenue Growth at U.S. Airports

<table> <tbody> <tr> <td> </td> <td>December 2012</td> <td>January 2013</td> </tr> <tr> <td><strong>Hertz</strong></td> <td>1.6%</td> <td>6.0%</td> </tr> <tr> <td><strong>Dollar Thrifty</strong></td> <td>4.6%</td> <td>2.6%</td> </tr> </tbody> </table>

Source: Hertz Q4 Reports

The decline in Dollar Thrifty’s numbers was attributed to the aforementioned reduction of the company’s businesses -- a requirement of the Hertz acquisition -- and should not alarm investors.

The Foolish Fundamentals

While all that talk of higher top and bottom line guidance, synergies and growth opportunities sounds exciting, is Hertz worth buying at current prices, despite rallying roughly 45% over the past six months?

First, let’s compare Hertz to its primary competitor, Avis Budget Group, as well as industrial rental peer United Rentals, to see how it measures up.

<table> <tbody> <tr> <td> </td> <td><strong>Forward P/E</strong></td> <td><strong>5-year PEG</strong></td> <td><strong>Price to Sales (ttm)</strong></td> <td><strong>Debt to Equity</strong></td> <td><strong>Return on Equity (ttm)</strong></td> <td><strong>Profit Margin</strong></td> </tr> <tr> <td><strong>Hertz</strong></td> <td>10.70</td> <td>0.36</td> <td>0.90</td> <td>500.37</td> <td>13.79%</td> <td>3.75%</td> </tr> <tr> <td><strong>Avis</strong></td> <td>8.36</td> <td>0.32</td> <td>0.34</td> <td>1372.44</td> <td>48.21%</td> <td>3.94%</td> </tr> <tr> <td><strong>United Rentals</strong></td> <td>8.41</td> <td>0.57</td> <td>1.19</td> <td>477.25</td> <td>9.33%</td> <td>1.82%</td> </tr> <tr> <td><em>Best Value</em></td> <td>Avis</td> <td>Avis</td> <td>Avis</td> <td>United Rentals</td> <td>Avis</td> <td>Avis</td> </tr> </tbody> </table>

Source: Yahoo Finance

As a stock, Avis seems more fundamentally sound than Hertz or United Rentals. However, given Hertz’s strong performance over the past five years, a slight premium in price to earnings and price to sales was expected.

Car rental businesses are also high debt ones, due to the need to initially purchase large quantities of vehicles. The companies then recover their investments through rentals, and eventually sell them through their used car sales locations. It’s a business model that depends more on sales volume -- hence the strategic positioning at high-traffic airport locations -- and less on margins.

Let’s compare the top line growth of these companies.

<img src="http://media.ycharts.com/charts/f088eb2e98d0e496602aed649a364d6a.png" />

HTZ Revenue TTM data by YCharts

Although Hertz’s revenue growth isn’t as steep as its competitors, it nonetheless holds a commanding lead, and the acquisition of Dollar Thrifty will only widen the gap even more.

Lastly, we should look at Hertz’s cash reserves and long-term debt.

<img src="http://media.ycharts.com/charts/d032e9ebbd92fca3ece80d7b8d0eacc6.png" />

HTZ Cash and Equivalents data by YCharts

Judging from those numbers, it doesn’t look like Hertz will make any more big acquisitions soon.

The Foolish Bottom Line

Although Hertz’s stock is slightly overvalued compared to Avis, the company has some bright growth prospects down the road, especially if air travel continues to climb in 2013. The company’s business model is easy to understand, and will remain in constant demand if the economy improves.

However, lingering macro threats could cast a dark cloud over discretionary spending worldwide. That could lead to continued pricing wars down the road, which would crimp the industry’s thin margins and keep shares under pressure.

Leo Sun has no position in any stocks mentioned. The Motley Fool recommends Zipcar. The Motley Fool owns shares of Hertz Global Holdings 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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