Ashtead Group PLC

LSE:AHT

Earnings Call Analysis

Ashtead Reports Robust Q2 Growth

Ashtead Group delivered a record quarter with strong performance reflecting 16% and 13% growth in group and rental revenues, respectively. U.S. revenue rose by 18% and rental revenue by 14%, pushing the group's EBITDA up by 15% to $2.583 billion. Adjusted PBT grew 5%, resulting in earnings per share (EPS) of $2.26. The company continued its expansion, adding 74 locations across North America, and executed 16 bolt-on acquisitions. Ashtead invested $2.5 billion in capital expenditure and returned $411 million to shareholders through dividends and buybacks. Net debt-to-EBITDA leverage remained comfortable at 1.8x. Looking forward, Ashtead provided guidance of 11% to 13% revenue growth for the group, with an expected free cash flow of around $150 million despite lower fleet utilization and heightened interest costs.

Another Record Performance Amidst Strategic Expansion

The company celebrated a remarkable period, marking another record quarter and half driven by a robust 16% group revenue and 13% rental revenue increase. This was underpinned by an impressive 18% uplift in U.S. revenue and a 14% rise in U.S. rental revenue. Simultaneously, the company has been steadily executing its growth plan, Sunbelt 3.0, setting a solid foundation for future strategies. This period also highlighted a commitment to safety with the successful rollout of their safety week initiative.

Full-Year Financial Outlook

The company's full-year guidance anticipates strong revenue growth across all regions, with expectations of 11% to 13% in the U.S., 14% to 16% in Canada, and 6% to 9% in the U.K., combining for 11% to 13% at the group level. Although adjusted for various market factors, the company holds steady in its capital expenditure (CapEx) plans, aiming to achieve a free cash flow of around $150 million.

Robust Margins and Operating Profit

The robust North American markets contributed to a 13% rental revenue growth on a constant currency basis. The efficient operations manifested in a formidable EBITDA margin of 46% and an operating profit margin of 28%, leading to a 12% operating profit increase. This is notwithstanding a 64% spike in interest expense due to higher debt levels combined with an increasing interest rate environment.

Operational Updates: The North American Stronghold

The U.S. business experienced a 14% rental revenue growth, driven by both volume and rate improvements. Despite seeing a depreciation charge increase outstripping rental revenue growth due to lower fleet utilization and elevated used equipment sales, EBITDA margins slightly improved year-over-year. In Canada, rental revenue saw a 12% uplift despite setbacks from strikes in the North American film and TV industry. Meanwhile, the U.K. market displayed resilience with 3% rental revenue growth, or 12% when factoring out certain government contracts, while grappling with the challenge of rate increases lagging behind inflation.

Cash Flow, Capital Allocation, and Leverage

The business showcased strong cash-generative capabilities, strategically investing $2.5 billion in capital expenditure and $676 million in bolt-on acquisitions. The dividend and buyback initiatives returned $368 million to shareholders. The leverage ratio was maintained at 1.8x net debt-to-EBITDA, within the target range of 1.5x to 2x, with an expectation of operating on the lower end of this spectrum. The debt service remains stably committed for an average of 6 years at a weighted average cost of 5%.

Earnings Call Transcript 2024-Q2

[Operator]

Good day, and welcome to the Ashtead Group Q2 Results Analyst Call. Please note, this call is being recorded. At this time, I would like to turn the conference over to your host today, Mr. Brendan Horgan, CEO. Please go ahead, sir.

[Brendan Horgan, executive]

Good morning, everyone. Welcome to our Q2 and first half results presentation. I'm speaking this morning from our London office, where I'm joined, as usual, by Michael Pratt and Will Shaw. Today's update will cover another record performance in the quarter and half and add current detail to our end markets in terms of activity and forecast, we continue to deliver on each of the 5 actionable components of our strategic growth plan, Sunbelt 3.0, the results of which will have delivered a remarkable 3 years of expansion, revenue and profit growth, while importantly forming a foundation for our next growth plan, which we'll be launching April 30 during our capital markets event in Atlanta. Before getting into these items, I'll begin by addressing our Sunbelt team members listening in today.

Beginning with a thank you. A thank you for engaging in our recent safety week with a level of enthusiasm, professionalism, and buy-in that I thought could not be topped in 2022. Throughout the first week of October, each of you practiced the very spirit of Engage for Life by taking in the topics and lessons learned from your team members from across our business, then spending time discussing the takeaways and applying them to your individual branch and market circumstances. For me personally, it was a highlight of the year seeing firsthand our teams in action and the results that followed at an affirmation of the very principles of Engage for Life, as we recorded one of our best ever months from a safety statistics standpoint. So thank you for your efforts and commitment, and please keep living positively and safely out there.

Now let's begin with the highlights on Slide 3. We delivered strong performance in the second quarter, contributing to another record quarter and half. This performance was driven by strength in our North American end markets, the ongoing momentum and execution in our business as we follow our Sunbelt 3.0 playbook, and the very clear structural progression being realized in our industry. For the half, group revenue and rental revenues increased 16% and 13%, respectively, while the U.S. revenue improved by 18% and rental revenue by 14%. Group EBITDA improved 15% to $2.583 billion, while adjusted PBT was $1.312 billion, growing 5%, leading to EPS of $2.26.

From a capital allocation standpoint, and in accordance with our priorities, we invested $2.5 billion in CapEx, which fueled our existing locations and greenfield additions with new rental fleet and delivery vehicles. We expanded our North American footprint by 74 locations, 45 through greenfield openings and 29 via bolt-on. Further investing $705 million on 16 bolt-on acquisitions in the half and returned $411 million to shareholders through dividends and buybacks, and announced today an interim dividend of $0.1575, a 5% increase. Following these investments, our net debt-to-EBITDA leverage is 1.8x, comfortably within our long-term range of 1.5x to 2x. These activities demonstrate our confidence in the ongoing health of our end markets and the fundamental strength in our cash-generating growth model.

Let's move on to our outlook. Slide 4 details our full year guidance for rental revenue, CapEx and free cash flow. Consistent with our November 20 trading update, we're guiding to revenue growth of 11% to 13% in the U.S., 14% to 16% in Canada, 6% to 9% in the U.K., combining for 11% to 13% at the group level. As detailed on the 20th, these adjustments reflect the specific year-over-year effects of extreme weather events, prolonged writers and actor strikes, and slightly lower fleet utilization than planned, however, still at historically strong levels, indicating strength in demand and further supported by healthy end market activity levels and forecast. Consequently, our CapEx guidance is unchanged, and the detailed CapEx slide can be found in the appendix. As a result of the somewhat lower revenue growth and impact to EBITDA and increased interest costs, we now anticipate free cash flow of circa $150 million.

So on that note, I'll hand it over to Michael, who will cover the financials in more detail. Michael?

[Michael Pratt, executive]

Thanks, Brendan, and good morning. The group's results for the 6 months are shown on Slide 6. Robust end markets in North America have enabled the group to increase rental revenue 13% in 6 months on a constant currency basis. This growth was delivered with strong margins, an EBITDA margin of 46% and operating profit margin of 28%, delivering an operating profit 12% higher than last year. After an interest expense of $251 million, 64% higher than this time last year, which reflects both higher absolute debt levels and the significantly higher interest rate environment, adjusted pretax profit increased 5% to $1.3 billion. Adjusted earnings per share were $2.26 for the period.

Turning now to the businesses. Slide 7 shows the performance in the U.S. Rental revenue for the 6 months grew by 14% over last year, which was on top of growth of 28% last year. This has been driven by a combination of volume and rate improvement in strong end markets. The rate piece continues to be an important part of the equation given the increased costs we face, whether the interest costs that you saw on the previous slide or the impact of inflation on our rental fleet and operating cost base. The total revenue increase of 18% reflects higher levels of used equipment sales than last year.

As we've discussed before, fleet landings have become more predictable, enabling us to reduce physical utilization from the record levels we have seen over the last couple of years, although, as Brendan commented earlier, it's lower than we anticipated. We have used the opportunity this provides to take advantage of strong secondhand markets to accelerate the disposal of some of our older fleet planned for later in the year. This lower level of utilization is a principal explanation for the depreciation charge increasing at a faster rate than rental revenue. This factor, combined with the increased level of used equipment sales, is a drag on margins in the near term.

Excluding the impact from lower margin used equipment sales, EBITDA margins increased slightly year-over-year. In line with our 3.0 strategy, we opened 42 greenfields and added a further 22 locations through bolt-on acquisitions, which also affect margins. All these factors contributed to drop-through for the 6 months of 53% and an EBITDA margin of 49%, while operating profit was $1.5 billion at a 31% margin and ROI was a healthy 26%. Looking forward, our revised revenue guidance will result in a lower level of drop-through in the second half, particularly in the third quarter. As a result, we now expect drop-through in the high 40s rather than low 50s for the full year.

Turning now to Canada on Slide 8. Rental revenue was 12% higher than a year ago at $382 million. The major part of our Canadian business is performing well as it takes our balance sheet to its increasing scale and breadth of product offering as we expand our specialty businesses and look to build out our clusters in that market. In contrast, our film and TV business has been impacted significantly by the strikes in the North American film and TV industry, which have persisted for longer than we anticipated. This has also had some impact on the rest of the Canadian business given our success in cross-selling our more traditional rental product into the film and TV space.

There has been a similar knock-on impact in our U.S. and U.K. markets. The disconnect between rental revenue increase and the increased depreciation charge is exaggerated by the film and TV impact, but as in the U.S., physical utilization is lower than we had anticipated. Despite these challenges, Canada delivered an EBITDA margin of 43% and generated an operating profit of $80 million at an 18% margin, while ROI is 14%.

Turning now to Slide 9. U.K. rental revenue was 3% higher than a year ago at GBP 301 million. Excluding the prior year impact of the demobilization of the Department of Health work, rental revenue was up 12%, as we take market share. While we continue to make progress on rental rates, this has not kept pace with the inflation environment in the U.K., which is impacting margins. As a result, the U.K. business delivered an EBITDA margin of 28% and generated an operating profit of GBP 33 million at a 9% margin and ROI was 7%.

Slide 10 sets out the group's cash flows for the 6 months and the last 12 months. This emphasizes strong cash generation capability of the business, and this cash has been deployed in accordance with our capital allocation policy, with capital expenditure of $2.5 billion, funding principally fleet replacement and growth, and $676 million invested in bolt-ons. The significant increase in capital expenditure resulted in a free cash outflow for 6 months of $355 million.

Slide 11 updates our debt and leverage position at the end of October. Our overall debt level increased in the 6 months. In addition to CapEx expenditure and bolt-ons, we returned $368 million to shareholders through our final dividend for 2023 and $43 million through buybacks. As a result, leverage was 1.8x, excluding the impact of IRFS 16 in the middle of our target range. Our expectation continues to be that we'll operate within our target leverage range of 1.5x to 2x net debt-to-EBITDA, but most likely in the lower half of that range as we continue to deploy capital in accordance with our capital allocation policy. Our debt serves are committed for an average of 6 years at a weighted average cost of 5%.

And with that, I'll hand back to Brendan.

[Brendan Horgan, executive]

Thanks, Michael. We'll now move on to some operational color, beginning with the U.S. on Slide 13. The U.S. business delivered strong rental revenue growth in the quarter with General Tool and Specialty growing 13% and 14%, respectively. This growth is on top of very strong growth last year in the quarter of 24%. More specifically, underlying growth in Specialty for the quarter when accounting for lower storm-related revenues in October was 16%. Frankly, either measure is strong when considering its lapping last year's 31% growth in the same quarter.

The strength of this performance remains very broad, extending through virtually all geographic regions and specialty business lines. Consistent with what we said in our Q1 update, and others in the industry have been noting, time utilization is below the record levels we experienced last year, albeit, as I've noted, still historically strong. This reflects a couple of things. First, improvement in supply chain constraints in the sense that OEMs are now making deliveries in line with commitments in terms of timing and quantity; and second, the nature or profile of mega projects, which are making up an increasing portion of the nonres, nonbuilding construction landscape.

With mega projects, there tends to be a longer early phase when utilization is relatively low and can be many months before the projects ramp up to a longer crest than, say, traditional commercial construction, where at that stage the dynamics improve. At the moment, we have a high proportion of these projects in their earlier phases. This is not to be confused with the changing construction market forecast. These remain as they were, which I'll cover in just a moment. A very important thing to understand is that rental rates continue to grow year-on-year throughout Q1 and Q2. Doing so, despite utilization movement I've just covered, reflecting the ongoing positive rate dynamics in the industry, specifically the discipline and structural progress, attributes that we firmly believe are here to stay.

Moving on to Slide 14. We'll cover the nonconstruction end markets. Our Specialty and General Tool businesses service an incredibly large and high-demand nonconstruction end market where there continues to be vast opportunities to drive rental penetration from a low base and increase our addressable market breadth and depth. We commonly refer to a large component of this nonconstruction end market as MRO, the maintenance, repair and operations of the geographic markets we serve, such as facility maintenance, clearly defined as a market in which hundreds of billions of dollars are spent annually running and maintaining facilities that make up the 100 billion square feet under roof and growing of U.S. commercial space.

The scale and growing revenue opportunities for our business within this space are immense. The rental of our broad range of Specialty and General Tool products will increase in what is very much a structural growth arena in the very early stages of a long runway for growth. With other nonconstruction examples being live events, emergency response and municipal spend, these incredibly large addressable markets make up much of our collective specialty business revenues, however, increasingly also benefit our General Tool business as our cross-selling prowess and capabilities continue to improve.

Now that we've touched on nonconstruction markets, let's turn to Slide 15 and cover the latest construction market trends and forecast. With another 3 months of construction starts and project continuations, and despite macroeconomic concerns and the pressures that come with inflationary and interest rate realities, you will see construction activity has proven to be incredibly resilient and the forecast has been notably accurate. We've set out our usual lineup of construction history and forecast and starts and put in place data. These are consistent with those updates shared in conjunction with our full year and Q1 results. There are some puts and takes between non-resi, nonbuilding and resi; however, the year-to-year construction growth trajectory remains virtually identical to the last print.

It's worth noting that the more recently updated starts, which are slightly higher than those shared along with our Q1 results, as illustrated in the top left chart and the second bullet point below, have yet to translate into these put in place data figures on the top right. So these put in place figures will improve directionally in line with the starts. These starts and ongoing projects have been fueled by the clear momentum behind reshoring or USD globalization and federal government spending acts, all contributing to the rise of an era of mega projects.

Let's explore the drivers behind these private and public sector investments on Slide 16. We introduced this slide in June, which now makes for a third print, and considering the level of influence, we thought it would be useful to cover it again. The drivers behind a significant portion of the recent levels of starts and forecast fall into 3 main categories, with many projects being driven by more than just one. To understand the current era of construction in the U.S., it's very important to put into context these drivers in terms of both scale of circumstance and the very likely long duration they exist.

I'll spare you the detail we covered in June and rather ask you to think of the material construction consequence of each. First, reversing the multigeneration globalization of U.S. manufacturing and production to domestic onshoring and reshoring. Second, the role technology now plays in society, business and manufacturing, and by relation, making up a larger portion of the U.S. construction landscape. And third, legislative acts, 3 of them, injecting $2 trillion of direct funding or stimulus amounting to a once-in-a-lifetime trifecta of acts.

Let's now detail one of the outputs of this group of drivers mega projects on Slide 17. Illustrated here is the updated U.S. mega project landscape, which will give you an appreciation for just how significant this market opportunity is. As a reminder, our internal definition of the mega project is one that has a cost of $400 million and above. We've included all projects meeting this definition, where construction is either underway or planned to start by April of '24. When viewed on a map, you can't help but realize the geographic breadth and the sector depth of these projects. There are 499 projects underway or soon to begin. Ranging in size from $400 million to $12 billion, totaling $620 billion of projects funded by private and public sector.

As we've covered and demonstrated consistently, projects of this scale and sophistication require suppliers with relatable scale, but also the expertise, experience, breadth of products and services, and the financial strength to meet the needs of the customer. Make no mistake, Sunbelt is performing well in this sea of mega projects and will continue to do so. As we've indicated previously, we've signaled our confidence in doubling our overall market share on these projects and presently exceeding this with an estimated 30% share of the total combined projects currently underway.

Let's now turn to our business units outside of the U.S., and we'll begin with Canada on Slide 18. Our business in Canada continues to deliver strong growth and expansion as customers recognize the growing breadth of products and services that we offer. This growth is coming from existing General Tool and Specialty businesses, complemented by well-placed additions of greenfield openings and bolt-on acquisitions. The market conditions are not dissimilar to the U.S. in terms of activity and demand, while also demonstrating ongoing strength and discipline in rental rate improvement.

Contributing to the growth this year and positioning us for further success is the June acquisition of Loue Froid, a leading provider of power and HVAC rental solutions with 4 locations across Canada and a base in Montreal. With 6 months now in the fold, I'm happy to report a strong integration into the broader Sunbelt rentals business, and demonstrating thus far, the cross-selling opportunities inherent in this deal and, of course, the start of something more meaningful in Quebec. What appears to finally be the end to the writers and actors strike, which took a prolonged toll on the business, we can finally look forward to a rebound in that end market, which we're now anticipating giving us benefit in our fourth quarter.

Turning to the U.K. on Slide 19. You'll see the business delivered strong first half rental-only revenue growth of 11%. This is driven by market share gains and an end market composition which favors our unique positioning through the industry's broadest offering of General Tool and Specialty products, which are unmatched. The challenge, as Michael would have touched on, has been passing through the necessary rate increases and charges for the services we provide at a level adequately making up for the inflationary cost in the business. Although the business has made progress better than prior years, as it relates to rental rates and charges, we have way to go. The team is focused on this now and will be going forward.

Turning to Slide 20, you'll see our normal Sunbelt 3.0 scorecard. We've covered the primary points on growth, expansion and capital allocation throughout today's update. But I'll briefly draw your attention to the point summarizing our progress in advancing technology. We organize our technology ecosystem advancement into domains, of which, we fully delivered on e-commerce and dynamic pricing, and are presently in later-stage pilots or early rollout phases of the remaining critical domains, specifically sales, logistics, service, point-of-sale and connected.

The completion of this advanced technology actionable component will deliver a more robust ecosystem to enhance order capture and deliver an even higher level of customer experience, while in conjunction, adding efficiencies to the business, which we believe is a key ingredient to progressing margins as we enter Sunbelt 4.0 and throughout. We'll be showcasing these as part of our April CMD.

So to conclude, let's turn to Slide 21. This has been another record period of profitable growth, location expansion and momentum in our business. We're experiencing strong demand for our products and services and gaining improved clarity to the strength of our end markets in '24 and beyond, driven in part by the recent realities of U.S. onshoring, technology and manufacturing modernization and federal legislative acts. These actualities add to what was already a strong underlying level of end market activity, flushed with day-to-day MRO, small to midsize projects and the very present and growing mega project landscape.

Beyond the detail within a month, quarter or half year, what one should take away from this and prior years' results is that the structural progression in our industry is demonstrably clear in the sense that, one, rental will continue to grow versus ownership now that there is a more reliable alternative. And two, the big will get bigger, through leveraging the significant scale advantages, technology, breadth of offering, financial might, consistency in offering, winning on the career front in this skilled trade scarcity reality that we're in and customer experience.

Barriers to enter this business are higher than ever and they're growing. Further, the output of this undeniable structural progress is a business and indeed industry which has progressed secularly and has the hallmarks of larger TAMs, less cyclicality, and pricing discipline. We are positioned to win in the near, medium and long term as we both influence and benefit from the structural advancement and secular outcome for our business and industry.

So for these reasons and coming from a position of ongoing strength and positive outlook, we look to the future with confidence and look forward to sharing more detail on our future plans come April '24 during our capital markets event in Atlanta.

So with that, operator, we'll open up the line for questions.

[Operator]

[Operator Instructions] And our first question comes from Lushanthan Mahendrarajah of JPMorgan.

[Lushanthan Mahendrarajah, analyst]

The first is on, I guess, exit rates, particularly in U.S. Specialty and in Canada, because I guess some of that drop off mostly happened in October. So could you just sort of help us maybe what you've seen in November. And I guess, how to think about the sort of the Q3 run rate, I guess, before it picks up in Q4?

[Brendan Horgan, executive]

Yes. Our exit rate in total, we don't really -- it's 8%, 9% for the month. Obviously, there's an underlying impact of that, that we've flagged. But in general, what you would have heard Michael talk to in terms of revenue and flow-through or fall-through for the full year, it's really centered around Q3. As it relates to the Specialty and General Tool business, it's kind of what we would have flagged there for the quarter overall. But the key to it really is what we would expect would be Q4 to look a lot more like Q2, both in terms of revenue growth, as we won't have that year-on-year comparison, so to speak. So yes, that's how we see the exit rates.

[Lushanthan Mahendrarajah, analyst]

Okay. And then in terms of sales of used equipment or to help explain the sort of the detail there on the sort of prepared comments. But if you look at the sort of year-on-year growth, that's a bit lower now than it was in Q1. Is that beginning to normalize now as we get into Q3, Q4? Or are they still going to be elevated for a while, do you think?

[Michael Pratt, executive]

Well, it depends what you mean about elevated. For the year as a whole, obviously, we will sell more than we sold a year ago just because we are replacing more fleet. But yes, in terms of sort of the cadence, we pulled forward in both Q1 and Q2, but proportionately more was pulled forward into Q1 than into Q2. So yes, it's sort of catching up, if that's the right phrase, because it's all slowing down. The catch-up is slowing down, let's put it that way, because you pulled stuff forward.

[Lushanthan Mahendrarajah, analyst]

Yes. Okay. And then just last one on the buyback, really. I guess in the first half, perhaps not as much as I expected being done is, I guess, are you still sort of confident that you'll sort of get through that program by the end of your financial year?

[Michael Pratt, executive]

Well, if you remember -- I think you've got to go back to our capital allocation, because our capital allocation policy is that waterfall, which says we spend on fleet growth, we spend on bolt-ons, we spend on dividend, and buybacks are the balancing figure. Our program was up to $500 million over the full year. But it is a balancing figure. And as we've often said, we prefer the lower half of our leverage range, so 1.5x to 2x, yes, but we prefer the lower half. So given we're at, we had visibility on what was happening on CapEx, we have a good pipeline of bolt-on acquisitions. So just through capital allocation, there's a lower emphasis on the buybacks.

[Operator]

And we now move on to a question from Annelies Vermeulen from Morgan Stanley.

[Annelies Vermeulen, analyst]

I have a couple of questions as well. So perhaps, firstly, thank you for the update on the mega project pipeline. Based on what you've seen today and that sort of 30% win rate that you've quantified, which fiscal financial years will we see sort of the peak earnings contribution from the mega projects that you've already won or been awarded? And could this actually continue to get pushed further out as you win more of these projects? Or how should we think about that trajectory? That's the first question.

[Brendan Horgan, executive]

Yes, sure, Annelies. I think -- well, first of all, those projects that we're in the early phases of today, we would expect that peak or crest, as I refer to it, to last quite some time. So you're going to see that in FY '25 and FY '26, because really the crest of these projects is about a 2-year time frame in many cases. I think it's worth highlighting to a degree just the state of those 499 projects that we talked about. Just to put it in perspective, I think what's important is how early we really believe we are in this landscape of mega projects. So of the 499 that we would have pointed out, actually only 336 of those are underway. So they are in start or construct, as Dodge would calibrate it.

Of course, we track every single one of these. So that leaves the balance of 163 that are in some form of prestart. Now that would indicate that 163 of those would start by April '24. I can tell you confidently on the call, all 163 probably don't start by April. That doesn't mean in any way, shape or form that they're being deferred or postponed, they're just working on in progress, so to speak, of going.

So yes, there will be another year, there's no question, of another wave of early phase projects in which we'll win, and we'd like to increase that 30%. But nonetheless, we're doing well with that as it is today. But we can see -- I can't really answer the question how long that will go on, because we believe this is still early days. So I hope it's far beyond '25 and '26. And certainly, when it comes to the construction forecast that you've seen we've highlighted or updated on Slide 15 through 2028, it would indicate that, that is very much the case.

[Annelies Vermeulen, analyst]

That's helpful. And actually, that leads quite to my next question, which is on the CapEx spend. I appreciate that your full year '25 guidance is probably more of a conversation for the Q3 in March. But if you think about your CapEx spend this year, and obviously, you're buying equipment for these projects, how should we think about your CapEx -- potential CapEx build for full year '25? Will it be dependent on the further win rate of these projects? Or actually, given the $4 billion or so that you're spending this year, would we expect to see CapEx taper slightly given what you're taking on already this year?

[Brendan Horgan, executive]

Yes. Annelies, I mean, the short answer to that is, we'll cover CapEx in March. That being said, all of the points you made are part of the ingredients as we form our CapEx plans for next year. We'll take very much into consideration the progress we make on project wins between today and April. And we'll also look in terms of those early project bids. But also, there's your key building blocks of just replacement CapEx and what we have for growth and demand in our existing brick-and-mortar network. And obviously, for our expansion plans, as you'll see when we launch 4.0 in terms of our pace and rigor around greenfield additions, et cetera.

I think it's also worth maybe pointing out, as we flagged, utilization, I can't say this without saying, albeit still really strong, we're just trying to find equilibrium. So as we sit here today, we think there's probably just a touch of perhaps year-over-year upside from a time need standpoint. Now that's not across all product categories. We still have very large product categories that are at record levels of highs. So I think we have to put all those things together before we can give you any sort of real good guidance on next year.

[Annelies Vermeulen, analyst]

That's understood. And then just lastly, I appreciate you may be probably unwilling to comment on politics. But perhaps just based on the conversations you're having with your customers, particularly on some of these larger projects. Are you sensing any concern from your customers around what a potential change in the U.S. administration next year could mean? Or do you think that actually a lot of these projects are happening regardless of the federal funding they may or may not get, or if anything changes, as I said, under the new administration?

[Brendan Horgan, executive]

Yes. Well, look, I am far more experienced and in a better position to comment on U.S. politics certainly than U.K. politics. I'll stay off of thought, certainly. But in the end, I guess we're hearing nothing from customers around that. Now if -- maybe I'll be more specific to your question, perhaps it might be in a way which you're getting to. So what's at risk out there? And if we look at the federal piece, which I've got to point out, the vast majority of these mega projects are private funding. Sure there's a degree of stimulus related to tax incentives, et cetera, particularly around some things like semiconductors and energy, but particularly renewables.

So what's at risk? Is infrastructure at risk? Not a chance. Now that is my opinion, but you can take it for what it's worth. Is chips and science at risk? Not a chance. It was one of the fastest moving bipartisan pieces of legislation we saw go through Congress compared to sort of COVID relief, if you will. The one that I would say there is a degree of risk to would be IRA. Now it's not the entire act, but I think there is a degree of risk if there were to be a change from an administration standpoint, particularly when it comes to the energy support around renewables.

But in reality, I think really, it's a bit of a shell game. So if that were to be the case, I think you'd find equal and offset around, let's just say, old-fashioned energy, if you will. And there, I quote, one particular politician running for office, but drill baby drill, I think, is what was said last week alone. So whether it's in wind farms and solar, this is not my own personal preference or opinion, or it is in downstream, upstream or LNG, I think you have to look at the breadth of this overall arena we're talking about.

These mega projects, if you just take the top 20, they are semiconductors, LNG, airports, ethane, rail, refinery, data centers. I mean the top 20 of 157 billion. Not one of those I just mentioned would be impacted by that IRA. But anyway, it's a good 1 to pay attention to and certainly we'll be doing our calculus as we move forward.

[Operator]

And up next, we have Will Kirkness from Societe Generale.

[William Kirkness, analyst]

I have got 3, please. Firstly, just on CapEx, you've landed about 62%. Just wanted to check that's where you expect it to be? Secondly, just wanted to understand the second half guide for drop-through in the high 40s. So that's a pure rental revenue drop-through, so I guess the secondhand sales don't impact. Just wondered if the other moving parts, like greenfields, whether that's an acceleration. Just trying to sort of understand the moving parts.

And then last question is just really on the building blocks for second half and, I suppose, into fiscal '25 in general terms. So I assume you're hoping for expecting some rate progression. And then mega projects look pretty material, whether that's more than 5%, less than 10%. Then you've got greenfields and bolt-on activity. So if we think about our rental revenue growth, less than 10%, whether that's the second half or next year, that feels pretty comfortable, pretty well underpinned, unless there's something moving against you that I'm not factoring in.

[Brendan Horgan, executive]

Great. Thanks, Will. Yes, the CapEx, 62%, as you point out, I would characterize it like this. So as we would have done last fiscal year, we would have been getting our arms around all the supply constraints, et cetera. And if we go back 2 years ago, let's just say OEMs were landing less than 60% on time and quantity. Last year, they were landing more 75%, 80% on average across the full year, improving toward the end. And this year, they've been more 95% plus. So as a result of that, we would have anticipated perhaps not quite that good. So we would have landed a bit more than we would have anticipated in the first half.

However, for the full year, we're going to be just where we would have thought we would have been. And as you can imagine, we pulled the small levers in terms of do we want products landing in February, or do we encourage them more towards March, April? But that's kind of the phenomenon, if you will, that we're in. When it comes to your point on fall-through, as I said, it's really just a Q3 effect, so Q1 and Q2. I think the important thing is, that really reflects our ability, let's call it the early days of leveraging the SG&A that we intentionally invested in throughout 3.0.

We covered from the very beginning, from April 20, 2021. This is where we're going to invest in this business, not just in terms of expansion, but also things like technology, et cetera, throughout 3.0, and we will see the progression and fall-through as we get to the third year. And that's what we demonstrated ordinarily, if you will, in Q1, Q2. Q3, we're going to have this sort of lagging effect of all the things that we've mentioned, and that will be a disproportionately low flow-through we expect, but we also expect Q4 to have an exit rate more like Q2.

So when you just do the math of 53 and then 40s, and you're at the high 40s, whether that's 47, 48, 49, time will tell as we leave. But I think the important thing, which leads into your next question around what next year looks like, is, we would expect to further leverage. So our infrastructure, if you will, investment will in many ways be complete for this phase, which sets us up for our Sunbelt 4.0. Sure we'll still have greenfields and we'll have bolt-ons, and those are never -- those are always a lag. However, we won't have sort of the comparators from prior years where they didn't exist.

So we would fully expect -- you can expect a feature of Sunbelt 4.0 will be how we demonstrate to you a real progression in margin over the course of that next strategic growth plan. So your question about what is rate, I mean, we already had one question about what's CapEx, and we talk about that in Q3. It's probably even a bit more premature to talk about what revenue growth is like next year. But I would not argue any of your points, Will, in terms of something in that range that you described, basically, I think, would be totally reasonable.

[Operator]

And from Bank of America, we have Arnaud Lehmann with our next question.

[Arnaud Lehmann, analyst]

My first question is on utilization. Obviously, it went down. You got more deliveries. And if I understood the comments, you're planning to keep going with the sale of equipment in the secondary market to improve that a little bit. In the meantime, you're giving us a fairly optimistic message on rental rates. They're still moving higher. Can you confirm that there are really, from your point of view, no relinks between you and your peers selling more equipment in the secondary market? And your outlook for rental rates for Ashtead?

[Brendan Horgan, executive]

Sure. Yes. I mean, utilization, again, I can't emphasize it enough. I have a sheet of paper in front of me showing quarter-over-quarter utilization over the last 10 years. And whether we're looking at our General Tool business or our Specialty business, this current fiscal year is remarkably strong, with the exception of comparing it specifically to FY '22 and FY '23. And this is not some big gap between those 2 years, it's just enough, so to speak, overall. However, it's still one of our highest years ever in overall time utilization.

Now I think the key to your next question though is, yes, we do look forward incredibly bullish when it comes to our ability to progress rental rates with a very specific formula surrounding inflationary realities in the markets in which we serve. So whether that be macro inflation, it be combined with wage inflation, it be taken into account for equipment inflation, and there should be some level of margin on that, not to mention the benefit of scale we should get in terms of efficiencies, et cetera, in order to deliver.

But if we've proven anything whatsoever over the last several years now is the actual break, if you will, and the elasticity between or correlation between specifically time utilization and rental rate progression. And that is, as I've said before, sort of a hallmark of a business services company, which is exactly what we are far more like than some wildly cyclical industrial. So we think that, that will stay intact, and we fully expect as part of our planning and ingredients. And therefore, ultimately kind of as we goal post what we think we grow like throughout 4.0, rates will play a primary feature.

[Arnaud Lehmann, analyst]

That's helpful. And my second question is more of a follow-up on the mega projects. You still sound very confident in terms of gaining meaningful share on those projects. What does your strategy of typically target smaller customers' work relative to your larger peer, who is talking a lot more about national accounts, where you would think, okay, it's a very large project, therefore, they're going to hire very large contractors, these contractors would be considered national accounts for United Rental. Are you still confident that you having the strategy of typically smaller customers, smaller contracts, you can still make your way through these mega projects?

[Brendan Horgan, executive]

We can very comfortably do both. We are very comfortably doing both. You have to think about the size of North America. SMEs are still thriving. They're very busy, and we're busy servicing them. Look, I appreciate you mentioning one of our peers, and they are really good at servicing mega projects, as we are. I mean no customer wants to have only one choice. It's a bit like we don't only do banking with Bank of America, we use 1 or 2 others. And I know you know that. But there are lots of them that we just can't use because they're not capable. They don't have the breadth of products and services that Bank of America has.

There are, frankly, 2 in the U.S. that really truly have scale and capabilities. And that's not me talking down about another or another 2, they will find bits and pieces and they'll do well, which is fine. There is a bountiful piece that is out there to be had. We're just saying remarkably confidently, we will get, as you've seen today, 30% share on these projects and we will give brilliant services to our customers, and we will help them complete these projects profitably and successfully, safely and on time with all that we have to bring forward. But that doesn't mean in any way, shape or form, you have to choose that over taking care of the landscaper or the facility maintenance contractor that wants 10 1-ton air conditioners or the contractor that wants 6 sweepers and scrubbers that Adam Camhi and our flooring team will deliver. We can do it all.

[Operator]

And up next we have Allen Wells of Jefferies.

[Allen Wells, analyst]

Just a couple of quick follow-ups from me. I just wanted to dig into the exit rate, the 8% to 9% you talked about. Obviously, it marks kind of a 6-ish percent reduction from the broader 2Q levels. To get that explained by just emergency services in the film business, I basically need to assume pretty much all of the $100 million drop-off in emergency and all of the film. So it feels like there's a little bit of a slowing elsewhere. Is this just the mega project phasing side that gets you down to the 8% to 9%? Or is there just something else in terms of timing? That's my first question.

And then secondly, just on the drop-through, I think you kind of alluded to this already, but I just want to be clear just so we don't get called out. If I just do the math on the kind of 3Q versus 4Q, it looks like 3Q will be more like in the kind of high 30s, maybe 40%, and 4Q is going to be back up in the kind of 2Q levels. I just want to just check whether that's right.

[Brendan Horgan, executive]

Yes, I'll answer your second one first, which is yes, it could be high 30s, low 40s. But again, you'll see Q4 look more like Q1, Q2. When it comes to that, I mean, that is the way that it is when it comes to Q3. The effect of that certainly is the majority of which is Q3. There's a slight effect in October that we would have seen and accounted for, and then you just have a large number on a couple or few months that we'll see throughout the quarter. It's not something to do with the broader demand levels that we're seeing. Certainly, we've touched on time utilization, which before we know, we will be sort of lapping some comps that are more reasonable, if you will. I don't know if, Michael, you have any other color to add to that?

[Michael Pratt, executive]

No, I think -- no, it's just reflective. It's the run rate we saw, which is what led to the trading update in November. We saw it sort of hitting the second half of October, but the majority of it falls into Q3, and that's what we anticipate and that's how we see it falling.

[Operator]

And we're moving on to James Rose of Barclays.

[James Rosenthal, analyst]

Two, on a slightly different track. The first one is on bolt-ons. I think by the year-end, you will have added just under 15% of revenues over the last 3 years. What changes are you having to make in those businesses? I mean is there a lot of sort of replacement CapEx involved or maybe having to take up rate more so than your other incumbent branches. It would be interesting to see what you think there? And then secondly, on the facility maintenance market, it's a $340 billion market you've pulled out. Do you have a sense of what the rental penetration is there versus construction sites?

[Brendan Horgan, executive]

Sure. So James, when it comes to bolt-ons, I think first thing I'd point to is just the integration. And that team, Adam, [ Raby ], and a group of people, about 35 people, that not only kind of do turnkey greenfields, but also do that integration on these bolt-ons, have really gotten to the point where the day that we close, these bolt-on businesses are 100% on our systems. So then it really turns to the really, as we call it, the power of Sunbelt. So how do we, first and foremost, bear hug those customers, bear hug the team, which we brought on by way bolt-on, and from there, you start to work on cross-selling.

Now what you don't do with those customers, to your point there, is very few businesses that we buy, are they charging equal or more than what we're charging to our customers from a rental rate standpoint? So what you don't do is send them a letter and say, Hey, great news. Sunbelt Rentals has now acquired A to Z in Phoenix, Arizona. And effective Monday, not only will we have a bright green shiny sign, but we're going to increase our rental rates by 20%.

So you do have to moderate that and just take that in nice little steps over time, which is just fine because we want to make sure we retain those customers. And then, of course, cross-sell the entire catalog to them, and that's really where we see the experience. And that's why you do have the drag effect, because, first and foremost, you're not buying them at near 50% EBITDA margin to begin with. And then you have to progress that over time. But to your point, we do have a track record of doing that.

[Michael Pratt, executive]

And James, one of the factors that why their margins aren't the same as our margins, in fact, invariably these businesses are underinvested, they're lacking capital. So they don't have the access to capital. So your fleet point is it's a bit of both. It's invariably when we're looking at it, we're saying well, we're going to add x million of extra fleet to that location because it can take it, and then you will end up refreshing the fleet in accordance with our normal replacement pattern. So there's a bit of replacement, but there's also invariably additional capital, which we have the ability to provide, which they haven't been able to do in the past.

[Brendan Horgan, executive]

Yes. And your second question about the FM market, it's just -- the short answer is, James, it's low. When you are walking about in the U.S. or in Canada, or frankly even here in the U.K. over the last week, when you see a ladder in a building, it is most always owned. When you do see an air conditioner or a heater in the corner of a room, it's most usually owned. When you see a sweeper or scrubber in the lobby or in the square, it's most usually owned.

When you see a power generator, a standby generator bolted to a piece of concrete outside of a building, that is putting out emissions every single week just exercising itself, it's always owned. So the opportunity there is massive. It's super low rental penetration. It just takes time to move that curve. And with these Specialty businesses and the cross-selling and collaboration that we have with General Tool, we'll move it. We'll move it over time. We're in no rush, frankly. We'll do that, and that just speaks to the longevity of the growth prospects for this business.

[Operator]

And our next question comes from Mark Howson of Dowgate Capital.

[Mark Howson, analyst]

Just a couple of questions, one on the U.K. and a couple on the U.S. Just looking at that 6.5% return on investment in the U.K., you mentioned rental rates progress, but not enough. You took market share, but rates didn't keep pace with inflation. I mean how confident are you -- to be honest, rates is not what's gaining you market share. I mean, and how are your staff remunerated in terms of revenue gain versus return on invested capital in the U.K. business? Just that's the first question. Then I've got a couple on the U.S.

[Brendan Horgan, executive]

Yes. So the U.K., yes, of course, you look at that ROI, which we stare at. And I guess, in first, you say, well, it's a good thing. It's about 3% of your overall group operating profit. However, it should be more than that. Our position is this, we are comfortable having a smaller, but more profitable U.K. business. And if that's the output of us increasing pricing to the level in which we need to, which I do believe we will be able to, because in a way we can do that. We don't have to have a business that's 15% larger next year in order to have a business that has a great level of service to our customers with the breadth of products that we're talking about and builds what we ought to.

And frankly, I think the rest of the industry at some point in time wakes up a bit and recognizes what has to progress. This is a business that I'm confident will be able to deliver an acceptable level of returns and that's very much part of the incentive. So rates are very much part of the incentive for the whole of the sales force, and return on investment is also part of the incentive for the broader management team, as is free cash flow.

So there's a bit of anomalies here going on just given all the NHS work. I know it seems like ages ago, but they're still lapping up that in the year. So let's get on the next year, a more ordinary year, and see what those returns look like, but we're comfortable that we can progress those to double digits.

[Mark Howson, analyst]

Okay. And secondly, on the U.S., can you just give us a feel for where we are in terms of equipment supply pressures? Have they eased? And where are you with regards to secondhand prices in U.S. auctions, please?

[Brendan Horgan, executive]

Yes. So secondhand pricing is historically strong. It's a bit of a froth that would have been there is coming off, as we all would have expected when there was just no product available. But it is still a perfectly liquid end market that's given us great value secondhand. And that's a range, of course, between retail, wholesale, and auction. When it comes to where we are from a supply constraint, I would characterize it this way, as you've heard me say on the call, OEMs are doing really good today meeting their commitments.

The other part of it is, is just lead time. What we're not seeing yet is a return to pre-COVID levels of lead time. So if we used to be able to order 1,000 Bobcats and get them in 90 days; today, if we want 1,000 Bobcats, we're probably talking 180 to 270 days in terms of foreshadowing that need. But part of that's also structural. As we do, as I've said, recognize the bigger getting bigger, the big, a handful of us are telegraphing their product needs further out. So that also leads to a bit of that lead time piece, because we occupy a far larger part of their overall manufacturing, and that's got a knock-on effect for your ability to sort of just add on, if you will, like it was kind of prepandemic. So that's how we would characterize supply constraints today.

[Operator]

And we're moving on to Karl Green of RBC.

[Karl Green, analyst]

Just a couple of clarity questions from me. Just back to the Q3 drop-through guidance. Just so I understand it correctly, I mean you gave a number of different dynamics there. But has the lower-than-expected emergency response and storms activity been a material driver of that lower expected drop-through? I guess the question behind that is the extent to which you'll see a corresponding rebound in a normal emergency response to a storm year like next year?

And then the second question, just unrelatedly, just in terms of the utilization impact of the growth in mega projects. Are you kind of learning about how best to deploy the equipment in, and also out of the dedicated sites just in terms of how you would anticipate the efficiency of the mega project roll -- ramp-up actually improving over time?

[Michael Pratt, executive]

Yes. On the drop-through point, you're exactly right as to how it will work, because as Brendan referenced earlier, we've invested in the infrastructure of the business and the support for the business. So the cost base, that investment has occurred. As we move forward, we wouldn't expect to see that increase significantly. The fact we've then got depressed levels of revenue compared with what we thought in Q3 negatively affects drop-through, go -- if you add that revenue back on in a year's time, when you compare it against this period, inherently, you will have -- just mathematically, you will have a stronger level of drop-through in a year's time.

As Brendan touched on, we expect, when year-over-year revenue growth is less affected by the comparison in Q4, when that will return to a more normalized level, then you would expect drop-through to being sort of more akin to where we were in Q2 than where we are in Q3.

[Karl Green, analyst]

Okay. I suppose just following up on that. I mean, is it fair to work on the basis that the emergency response work is in a given quarter, not necessarily through the year, but in a given quarter, would be abnormally profitable?

[Brendan Horgan, executive]

That's seasonal.

[Michael Pratt, executive]

I think the way you would look at it is the fact that we've got a sort of relatively fixed cost base as you move through from quarter. And so the piece of that revenue is you've got a lower revenue growth on that same cost base, which adversely affects drop-through. The nature of emergency response work, it goes both ways. And what I mean by that is some of it, there's a lot of transport involved with it, so you incur direct costs, so that hinders sort of -- would give you a lower drop-through. Other stuff, you've got equipment that's out for longer periods of time, which aids drop-through. So it's probably slightly better than normal drop-through, but it's not fundamentally different. It's the fact that you've got fixed level of cost, you've got lower revenue overall.

[Brendan Horgan, executive]

Your second one on mega projects. The short answer is yes. We are learning how to navigate these better. But let me characterize -- just add a bit of color perhaps just for full understanding here, because this is not a bad thing at all when we talk about this timing issue. So whether it be LNG plant in Sabine Pass, Texas; or Blue Oval, which is Ford's EV and battery in Tennessee; or semiconductor in Boise, Idaho; or EV plant in Georgia, outside of Savannah, it is not atypical or I should say it this way, it is very typical for us, in any of those examples, to deliver $20 million, $30 million worth of fleet day one.

And in conjunction with that, we'll have, say, 8 or 9 team members who will be assigned to that project for the duration of 3-plus years and, in some cases, longer, which I'll come on to. So in the early days of that project, not much of that $30 million worth of fleet is on rent. Now one could argue, well, why don't just send 3? Well, that is not exactly the way it works, because when you're working with the general contractor and the subs, they're saying we're going to need this at this point in time. They're always going to say a bit earlier probably than what they really needed, but it's all okay and here is why.

So maybe it takes, and I would have said 4 or 5 quarters, but over that period of time, so day 1, you're low utilization; day 60, let's just say you're 40% utilization; day 120, you're more like 60% utilization. But kind of quarter 4, quarter 5, not only is your $30 million now $100 million, but in that quarter 4, quarter 5, your $100 million is at about 85% to 90% time utilization, and that crest lasts for 2-plus years. And the 8 people that we first put there, we now have only 10, and we will only need 10 people for the duration of that project to give our customers brilliant service.

Then your next question was what do you do with all that fleet when that project is over? In many, many cases, that same general contractor or some of the same subs will be going on to another project. And it doesn't really matter where it is, we just move it. But in as many instances, what we'll find is, and we'll feature this in the CMD in April, these projects are the big, huge plants, and around those are all the Tier 1 component parts suppliers, et cetera.

Very, very many times, I'll quote John Washburn here, one of our exec members of the business in the U.S., we're going to deliver so many assets to a ZIP code that is for a project. And that asset will spend its entire 7 or 8 years either on that project or one of the Tier 1 projects that follow, until such time we dispose it. So overall, it will be utilized at a very high level and generate great returns over that period of time. So probably more color than what you're looking for, but that's how we're managing that.

[Operator]

And up next we have Tom Burlton from BNP Paribas.

[Thomas Burlton, analyst]

I just got a couple. First one is just relating to CapEx. So you have to say what proportion of the growth CapEx is relating to mega projects, apologies if I missed it if it was mentioned earlier on. And then the second one, Brendan, just thinking about your characterization of the secondhand market, with some of the frost coming out of that and used values coming off versus last year. Just thinking compared to sort of the rental market remaining so strong, rental rates remaining so strong and holding the line of rental rates, are you seeing, anywhere across your business, any increased customer appetite to start substituting back in or out towards sort of used equipment?

I appreciate it's different products and different services in the rental proposition. But just wondering whether you're seeing any sort of substitution and we should sort of see any transmission effects between that market and rental?

[Brendan Horgan, executive]

Sure. First one, we don't break down growth CapEx that goes between megas and greenfields existing locations. I don't have it top of mind. If I had some general color, I would give that to you. But I'm afraid...

[Michael Pratt, executive]

Well, also it's just -- it's impossible in reality, because not all mega projects are born equal. So some mega projects, Brendan just referenced Blue Oval, that would have an on-site. But you also have mega projects which are in an urban area and don't have an on-site. And so some of that rental will come from local locations, stores, et cetera. So it's spread around the piece, so you've got different growth rates. So you just cannot segregate it in that manner.

[Brendan Horgan, executive]

When it comes to secondhand market, first, I think it's important to make clear. The primary driver and the stickiest driver, despite what some may think when it comes to secondhand values, and I would even put it -- I mean, certainly, there is supply and demand. We all know that. But the primary driver is really what does it cost to buy a new one. So although we've experienced this inflation, when it comes to new rental assets or new owned assets therefore, to part of your question, that's really what has been the permanent step change that we've realized.

So the froth that was above that was really just that circumstance of having very, very little available in that secondhand channel. So I don't want to mischaracterize it by saying that, yes, that froth is gone, but what's not gone is that step change when for anyone to go buy something new, they would be paying materially more. So therefore, that 7-, 8-, 9- or 6-year-old asset is going to be significantly more expensive.

In terms of us seeing evidence that customers are choosing to supplant rental with 7- or 8-year-old assets that are sold, we're not seeing any evidence of that. What you see is, one, you see a large level of export, whether that be by way of wholesale or it be by way of auction. And then you have a very broad range, otherwise, of buyers. And then from time to time, you will get, given the barriers to entry, I would have mentioned, you'll get some second-tier rental houses out there who will buy some used gear. And as far as we're concerned, that's perfectly fine.

[Michael Pratt, executive]

And the other dynamic that just sort of -- the reality goes the other way, you think of this increasing proportion of larger projects, they're almost totally rental. And then for that type of project and what that customer wants, what their end customer wants, they're not going and buying secondhand fleet, they're buying -- they're renting good quality fleets.

[Operator]

And as there are currently no further questions in the queue, I'd like to hand the call back over to you, Brendan, for any additional or closing remarks.

[Brendan Horgan, executive]

Great. Thank you all for taking the time this morning to join, and we look forward to speaking, of course, in Q3, but more, in particular, seeing many of you in Atlanta in April for our next capital markets event.

[Operator]

Thank you for joining today's call. Ladies and gentlemen, you may now disconnect.