Herc Holdings Inc

NYSE:HRI

Earnings Call Transcript 2019-Q1

[Operator]

Good day and welcome to the Herc Holdings Incorporated First Quarter 2019 Earnings Conference Call. Today's conference is being recorded and after today's presentation, there will be an opportunity to ask questions. [Operator Instructions] I would now like to turn the conference over to Elizabeth Higashi. Please go ahead.

[Elizabeth Higashi, VP, IR]

Thank you, Savanna and good morning, everyone. I would like to welcome you all to our first quarter earnings conference call. Our press release and presentation slides went out this morning and both are posted on the Events page of our IR website at ir.hercrentals.com along with our first quarter 10-Q filings.

Please turn to slide two. This morning, I am joined by Larry Silber, our President and Chief Executive Officer and Mark Irion, Senior Vice President and Chief Financial Officer. They will review the first quarter as well as the industry outlook for 2019. The prepared remarks will be followed by an open Q&A which will also include Bruce Dressel, Senior Vice President and Chief Operating Officer.

Before I turn the call over to Larry, there are a few items I would like to cover. First, today's conference call will include forward-looking statements. These statements are based on the environment as we see it today and therefore involve risks and uncertainties. I would caution you that our actual results could differ materially from the forward-looking statements made on this call. Please refer to slide two through four of the presentation for our complete Safe Harbor statement.

The company's Risk Factors section of our annual report on Form 10-K for the year ended December 31, 2018, which was filed with the Securities and Exchange Commission contains additional information about risks and uncertainties that could impact our business. You can access the copy of our 2018 Form 10-K by visiting the Investors section of our website at ir.hercrentals.com or through the SEC's website at sec.gov.

In addition to the financial results presented on a GAAP basis, we will be discussing non-GAAP information that we believe is useful in evaluating the company's operating performance. Reconciliations for these non-GAAP measures to the closest GAAP equivalent can be found in the conference call material, which were furnished to the SEC with our Form 8-K this morning and are also posted on the Investors section of our website at ir.hercrentals.com.

Finally, a replay of this call can be accessed via dial-in or through webcast on our website. Replay instructions were included in our earnings release this morning. We have not given permission for any other recording of this call and do not approve or sanction any transcribing of the call.

I will now turn the call over to Larry.

[Larry Silber, President and CEO]

Thank you, Elizabeth. If you turn to slide five. And thank you all for joining us this morning. We're very pleased with the continued year-over-year improvement in operating results we reported for the first quarter. Combined with the generally positive industry and economic metrics being forecast, we're confident that 2019 will be another strong year.

Our strategic initiatives continue to improve pricing and contributed to the increase in dollar utilization and rental margins year-over-year. We drove strong flow through by controlling and reducing direct operating expenses and SG&A. And we continue to make progress in our fleet renewal and diversification program in the first quarter. The strong start for the year, particularly in our ability to continue to improve rates and control expenses along with the seasonal ramp up in rental equipment demand we are currently seeing support the profitable growth we expect in 2019.

Now please turn to slide number six. Major initiatives of our long-term strategy guide our day-to-day activities and performance. We rolled out our new culture and people initiatives at our second annual Pro Expo business meeting last month. Pro Expo is an annual gathering of our senior team members made up of operations, sales, and field support staff. We shared our progress on strategic initiatives, held regional strategy discussions, and got a chance to see a broad array of equipment from our major suppliers.

I was thrilled by the enthusiasm and the energy of our people across all of our regions and we heard about positive trends for 2019 regarding our progress, the customer demand from rental equipment we are seeing and the state of the industry.

Now please turn to slide number seven. Safety awareness is a fundamental part of how we operate, how we treat our employees and how we work with our customers. Throughout our locations we focus on a simple concept of a perfect day, which means no OSHA recordable incidence, no at fault motor vehicle accidents, and no DOT violations. In the first quarter of 2019, all of our regions recorded at least 87% perfect days, with many of our locations reporting 100% perfect days in the first quarter.

As part of our perfect day goal and the support of building a robust safety culture, we continue to expand our safety training programs. Driver safety is a major focus for all of our team members, not only for work hours, but also on a personal time basis. Our just drive initiative encourages all team members to eliminate distractions while driving. In particular, we strongly discourage texting and checking email while driving.

We continue to expand training programs for best practices in operations and sales, as well as programs to identify and develop our next generation leaders. Our entire team is excited about the opportunities for continuous learning, as well as meeting other team members from around the company.

Now please turn to slide number eight. Let me summarize a few of our financial results. We're pleased to report strong growth in total revenue in the first quarter, with an increase of 10.3% to $475.7 million, compared to the same period in 2018. Equipment rental revenue grew 2.3% to $377.6 million. The growth was driven by strong improvements in pricing, but offset by strategic reductions in re-rent revenue for improved profitability and margin improvement.

Average fleet increased 2% in the first quarter and pricing improved 3.8% compared with a comparable period last year. We reported improved year-over-year net results in the first quarter of 2019, with a net loss of $6.7 million or $0.23 per diluted share, compared with a net loss of $10.1 million or $0.36 per diluted share in the prior year.

Adjusted EBITDA increased 7.2% to $142.3 million, reflecting the reduction in direct operating expenses, and controlling SG&A expense. Mark, will discuss the specifics of these savings later on in the call. Dollar utilization increased 20 basis points to 35.5% in 2019, primarily from pricing improvement.

On slide number nine illustrates the continuing positive improvement we made in the first quarter of 2019 compared with 2018. Annual pricing improved 3.8% over last year, marking the 12th consecutive quarter of year-over-year improvement. Our 2019 year-over-year first quarter pricing improvement is what is the most seasonally effective quarter of the year bodes well for the rest of 2019. This slide also shows our average fleet at OEC increased 2% in the first quarter of 2019 over last year. Average fleet on rent during the quarter was flat compared to last year strong 7.1% growth in average fleet on rent.

Let me remind you that we increased average OEC by 4.8% for the full year of 2018, and this year's growth is expected to be slightly lower than last year's growth rate, allowing us to focus on improved fleet utilization. Our fleet additions continue to improve the quality of our fleet and enhance fleet efficiency by focusing on select brands in each of our equipment categories.

Now, please turn to slide number 10. The improvement in price continued to contribute to the overall dollar utilization. First quarter dollar utilization reached 35.5%, up from a strong first quarter performance in 2018. Fleet at OEC as of March 31, 2019 was $3.69 billion, with an average age of 46 months compared with 49 months for the same period last year.

Together, ProSolutions and ProContractor equipment, now account for approximately $794 million of OEC fleet, or about 22% of our total fleet as of the end of the first quarter of 2019. That's an increase of 7% in the value of that portion of the OEC fleet year-over-year. While a pie chart on the left hand corner shows the major categories of our fleet, as you can see from the graph on the bottom right, we have changed our emphasis within the categories. The largest percentage of our fleet consists of aerial equipment at about 25.5%.

Earth moving equipment is now about 14.4% of our total fleet and compact earth equipment increased 8.5% of our fleet from 7.9% last year. A detailed breakout of our fleet categories is in our appendix.

Please turn to slide number 11. Through the end of the first quarter, we had 270 locations primarily in North America. We plan on adding four to six greenfield locations in high growth urban markets in 2019. This map shows the growth expectations by state and province over the next five years. The ARA continues to forecast strong growth, particularly in the Southwest and Southeast with annual compound growth rates higher than 6% over the next five years.

Please turn to slide number 12. Our strategy is driving the further diversification of our customers and markets as well as our industry mix. First quarter local rental revenue grew 10% year-over-year and accounted for about 58% of rental revenue in 2019. National account revenue represented about 42% of the total in the first quarter, but declined 4.9% with the last year, primarily due to a decrease in revenue related to various oil and gas process industries. Bruce, will talk more about that later.

Our rental revenue by major customers segment for 2018 is shown in a rental revenue composition chart in the upper right hand corner of the slide. Contractors represented 34% of equipment rental revenue, followed by industrial with 28%. Other customers which includes commercial and retail service, hospitality, healthcare, recreation, entertainment and special events represented 19% of the equipment rental revenue and infrastructure and government posted at 19%. Growth in new customer accounts continued to be quite strong throughout the first quarter. We're focused on maintaining a solid pipeline for future growth opportunities.

Now, please turn to slide number 13. Key economic and industry metrics remain generally positive, while the architecture billing index fell short of 50 in March, the index was most affected by regional declines in the Northeast, West and Midwest regions of the United States. Industry observers expect the index to resume to a 50 plus level later in the spring.

Industrial spending increased 6% in 2018, over 2017 and spending forecast for 2019 are showing a slight increase of nearly 2% over 2018. Our conversations with industrial customers indicate their confidence for continued growth in spending over the next few years. Expectation for U.S. non-residential construction spending for 2019 also continues to be healthy, with expectations of a year-over-year increase of 3%.

Longer term, the North America and American Rental Association forecast for equipment rental revenue growth remains robust, with compound annual growth rate projected at 5.4% through 2022. Our strategy to focus on urban market coverage has further accelerated the rate of growth that we can achieve as urban customers increasingly use rental to offset space and cost constraints. We are making great progress on executing our strategy and driving improvements in our operating performance. Key economic indicators continue to look favorable and we are optimistic about our future growth opportunities in 2019 and beyond.

And now let me turn the call over to Mark Irion, and he'll discuss our quarterly financial results in more detail, and then I'll summarize before we open to questions. Mark?

[Mark Irion, SVP and CFO]

Thank you, Larry and good morning, everyone. We're pleased with the results we reported for the first quarter. The first quarter always represents seasonal challenges and having got off to a good start, sets the stage for us to continue to execute on our goals for 2019.

On slide 15, we can review our first quarter results. Equipment rental revenue grew 2.3% from $369.1 million to $377.6 million in the first quarter of 2019. Year-over-year growth was driven primarily by improved pricing, but was particularly partially offset by a reduction in re-rent revenue. As part of our self-help initiatives for 2019, we're focused on utilizing our own rental fleet and re-renting less fleet. Re-rent revenue was down by $4.9 million, or 28% in Q1.

Total revenues increased 10.3% to $475.7 million, our seventh quarter of year-over-year double-digit growth. Net results improved in the first quarter of 2019 compared with the prior year. We reported a net loss of $6.7 million, or $0.23 per diluted share in this year’s first quarter compared with a net loss of $10.1 million or $0.36 per diluted share in 2018. Net results were impacted by higher depreciation of rental equipment, which increased $6.7 million or 7% in the first quarter compared to the prior year.

First quarter net results also benefited from improved operating results, a reduction of $4.9 million in spin-off related costs and a $2 million tax benefit. More details regarding our net income bridge are included in our Appendix. Adjusted EBITDA in the first quarter of 2019 increased 7.2% to $142.3 million over the same period in 2018.

Adjusted EBITDA margin was 29.9% in the first quarter, a 90 basis points decline year-over-year, impacted primarily by the margin on the sale of used equipment, which is why we continue to focus internally on REBITDA, which measures the contribution from our core rental operation without the impact of sales of rental equipment and parts and supplies.

The first quarter reflects excellent progress in terms of flow-through. We reported REBITDA flow through of 183.1%. Flow-through in Q1 benefited from the reduction in low margin re-rent revenues and our continued focus on cost control. Our REBITDA margin rose to 36.3% during the first quarter of this year, an increase of 280 basis points from the first quarter in 2018. There’s a reconciliation of these measures in the Appendix which I think you will find useful in evaluating our operating progress.

To summarize the operating metrics at the bottom of the slide our average OEC grew 2% in the first quarter over the prior year. Our focus on rate delivered excellent results in the quarter pricing improved 3.8% year-over-year and increased 90 basis points sequentially from the 2.9% rate improvement we reported in Q4 2018. Dollar utilization increased 20 basis points to 35.5% in the first quarter of 2019 compared with the prior year period, benefiting primarily from the 3.8% increase in prices.

Slide 16 focuses on the changes in total revenues for the first quarter. In the first quarter of 2019 total revenues grew 10.3% or $44 million to $475.7 million compared to $431.3 million in the first quarter of 2018.

Equipment rental revenue grew 2.3%, reflecting strong pricing improvements offset by the strategic reduction in re-rent revenue. Own equipment rentals were up by $8 million or 2.5% in the quarter and re-rent revenue was down by $4.9 million or 28%. Re-rent revenue is a low margin business for us. Re-rent represents rentals of equipment we may not have available and in order to satisfy a customer we rent from a competitor and re-rent to our customer.

We have been deliberately reducing re-rent transactions by focusing on acquiring or moving frequently requested equipment unavailable at the time to the requesting branch location, which will help us improve flow-through and margin in the long-term.

In the first quarter of 2019 sales of rental equipment increased 81.4% or $38.5 million as we took advantage of a strong used equipment market to improve fleet mix to maintain the age and the quality of our rental fleet. The largest portion of our sales went through auction channels and accounted for 50% of the total sales volume in the first quarter of 2019 compared with 27% in the prior year. We generated proceeds of approximately 44% of OEC during the quarter.

Please turn to slide 17 to review the Q4 adjusted EBITDA Bridge. Adjusted EBITDA for the fourth quarter was $142.3 million, an increase of 7.2% or $10 million compared to $132.7 million in the first quarter of 2018. The bridge shows that the largest contributor was increased equipment rental revenue, with growth of $10.4 million as compared to the prior year.

Direct operating costs fell $6.8 million compared with the first quarter of 2018, with improved operating efficiencies such as lower re-rent and maintenance expense. Those reductions were partially offset by increased delivery, freight and facilities costs compared with last year.

Selling, general and administrative costs were basically flat in the first quarter compared with the previous year. Our reduction in professional and consulting fees was somewhat offset by increases in payroll and other expenses.

REBITDA measures the contribution from our core rental business without the impact of sales of equipment, parts and supplies. We believe REBITDA provides a better comparison with our industry peers, as it excludes the impact of depreciation policies. First quarter 2019 REBITDA flow-through improved 183.1% and drove margin of 36.3%, an increase of 280 basis points compared with Q1 of 2019.

Turning to slide 18, we have broken out fleet expenditures and disposals on an OEC cost basis and provided a rolling balance of the OEC value of our total fleet. The quarterly breakout of this information is also in the Appendix.

Total fleet at OEC was $3.69 billion as of March 31, 2019. The average OEC of our rental fleet during the quarter increased 2% over the prior year quarter. For the first quarter of 2019 fleet expenditures at OEC were $103 million, with fleet disposals of $193 million. The average age of our disposals in the first quarter was 81 months. We reduced the average age of our fleet to approximately 46 months at the end of the first quarter 2019 from 49 months in the comparable period last year.

Please turn to slide 19. Total debt was $2.1 billion as of March 31, 2019, about the same as the prior year. Net leverage continued to improve to 2.9 times solidly within our targeted range of 2.5 to 3.5 times. We had ample liquidity of $774 million as of March 31, 2019.

Gross rental equipment expenditures were about flat with the previous year, but proceeds from disposals decreased $69.6 million year-over-year, as the company took advantage of a strong used equipment market to improve equipment mix and reduce fleet age.

Net fleet CapEx for the year was $13 million compared with $29.6 million in the prior year, non-fleet capital expenditures for the quarter totaled $11.4 million, down slightly from $14.4 million in 2018.

Free cash flow for 2019 was $107.7 million, a substantial improvement compared with the previous year and a reconciliation of free cash flow is in the Appendix of the deck. We are continuing to focus on a disciplined financial strategy to reduce leverage and fund organic growth opportunities with our operating cash flow.

On slide 20, we can take a look at our continued guidance based on strong demand in our markets and our continued margin improvement focus to improve dollar utilization, entirely manage operating expenses; we're affirming our guidance range for 2019 of adjusted EBITDA of $730 million to $760 million or an increase of 7% to 11% year-over-year. We continue to expect to spend $370 million to $410 million net fleet capital expenditures. The reduction in capital spending over the prior year along with the expectation of improved EBITDA should continue to generate strong free cash flow for the year.

Our overall strategy is expected to continue to provide ample liquidity and financial flexibility to fund our strategic growth, to improve our operating margins, to serve our customers and to create value for our shareholders.

And now, I'll turn it back to Larry.

[Larry Silber, President and CEO]

Thanks, Mark. Before we move to the Q&A portion of the call, let me summarize a few points of where we are in our journey. Please turn to slide 21. We're pleased with the results we reported today and the outlook for the balance of 2019. Our strategic initiatives are expected to continue to drive growth in both revenue and dollar utilization.

We expect to maintain REBITDA flow-through of approximately 60% to 70% throughout 2019. We expect dollar utilization and REBITDA margin to steadily increase year over year. And finally we're affirming our adjusted EBITDA guidance of $730 million to $760 million.

Now we look forward to your questions operator, please open the lines.

[Operator]

[Operator Instructions] And we will take our first question from Steven Ramsay with Thompson Research Group. Please go ahead.

[Steven Ramsay, Thompson Research Group]

Good morning.

[Larry Silber, President and CEO]

Good morning, Steve. How are you?

[Steven Ramsay, Thompson Research Group]

Doing great. Kind of wanted to dig in more on local accounts and local mix, being near 60%, clearly, very high. Is that reflect any seasonality, is that an optimal level, you would like that to be at going forward?

[Bruce Dressel, SVP and COO]

Yes. Hi, Steve. This is Bruce. I would say that's the level we're looking for. And there's probably a little seasonality in that just seeing that, as Larry spoke earlier on our National business, our National business was down a bit year-over-year due to some comps and some timing of some large downstream LNG customers.

[Steven Ramsay, Thompson Research Group]

Excellent. And then thinking more on local mix, can you talk even directionally to the customer type of local accounts. Are they more weighted to contractors, are they more weighted to industrial just trying to figure out how that high local mix reflects in market activity?

[Bruce Dressel, SVP and COO]

Yes, I would tell you that local customer base is broad diverse customer from your kind of contractor base like you're talking about to retail, to facility management, to smaller government. So it's a whole mix of just local customer base within that concentrated large urban market.

[Steven Ramsay, Thompson Research Group]

Great. And last on new customer accounts. Are you winning these from other competitors that are larger or smaller? And is there any way to talk to the fleet mix that is rented to new customers if it's different than in accounts that you have had for some time.

[Bruce Dressel, SVP and COO]

So again, it's a broad range of customers. As you can see with the way kind of where we've been executing on our pricing, it's not really a competitive market out there in that it's just a lot of it is this conversion from ownership to rental and just new rental customers entering in to the marketplace. And just serving a customer base out there in a robust kind of environment.

[Steven Ramsay, Thompson Research Group]

Great, thank you guys.

[Operator]

And our next question will come from Brian Sponheimer from Gabelli. Go ahead.

[Brian Sponheimer, Gabelli]

Hi, good morning, everyone.

[Larry Silber, President and CEO]

Good morning, Brian.

[Brian Sponheimer, Gabelli]

I hoped on a little bit late. I just wanted to talk a little bit about the re-rent decision. Is there a way to quantify the year-over-year impact on revenue and the year-over-year impact on EBITDA?

[Larry Silber, President and CEO]

Yes, it's -- I mean, it's not necessarily meaningful on either it's had more of an impact on margin. So, it's, throughout $5 million in terms of revenue, it's not a huge amount, but it's really just focusing on self-help. It's a low margin business, if we're reaching it something into 20% margin, if we can use our own equipment, then that's a win. Or if we can satisfy that customer or get the new piece of equipment in there to satisfy that customer for a longer term re-rent, then that’s also a win. So it's really just part of focusing on maximizing the utilization of our own fleet, and making sure that we've got optimal fleet on hand to take care of customer needs as they come up.

[Brian Sponheimer, Gabelli]

Right. I think, I get that I guess the question is just relative to the lower volume in the quarter, I guess we've heard from two or three peers so far. You obviously -- you've made a strategic decision to give up some business. I'm just wondering how much of that was re-rent versus just general volumes.

[Larry Silber, President and CEO]

Yes, I'm not sure that's the case. I mean, the -- some of that re-rent can get supplanted with an extra rental of our own fleet. The gap between -- the impact of the re-rents maybe 50 bps of that growth. So it's not a big driver. Our strategy is more focused on organic growth. So I think that's probably why you're seeing a lower growth rate with no acquisition sort of activity in our P&L. Q1 seasonally impacted, it was in line with our expectations. So we're happy with the revenue and the volume and especially the rate that we got in Q1 and it's the tone for a positive year going into 2019.

[Brian Sponheimer, Gabelli]

Now the rate and the profitability look great. All right. Congratulations on the strategy. Take care. Thank you.

[Larry Silber, President and CEO]

Thanks, Brian.

[Operator]

And our next question comes from Kamal Patel with Goldman Sachs. Please go ahead.

[Kamal Patel, Goldman Sachs]

Hi, good morning. Thanks for the time. I wanted to check in on the bonds, both your 2022s and 2024s are callable next month in are trading above their respective call prices. What's the latest thinking on those and the potential for a refi?

[Larry Silber, President and CEO]

No, we're comfortable with the balance sheet as it is. We don't have any immediate needs in terms of refinancing. We continue to analyze the markets and we're in discussion with our finance committee in terms of opportunities. So that's something that we will tackle opportunistically over the next couple of years, but there's no immediate need to do anything and we continue to look for the best opportunity to refinance those notes as they come up.

[Kamal Patel, Goldman Sachs]

Got it, thank you. That's helpful. And then just quickly, as you've put up some good results over the past few quarters and leverage is coming down, have you had conversations with the rating agencies recently, particularly with Moody's on any potential upward momentum on the ratings front?

[Larry Silber, President and CEO]

We have ongoing an annual conversations with the ratings agencies just as part of our normal treasury function, you know as well as I do how rapid they are to adjusting sort of EBITDA, and leverage. So that's something that we look forward to changing it at their leisure based on their analysis and steer conversations internally.

[Kamal Patel, Goldman Sachs]

Appreciate it. Thanks so much.

[Operator]

And our next question will come from Jerry Revich with Goldman Sachs. Please go ahead

[Ben Burud, Goldman Sachs]

Good morning, everyone. This is Ben Burud of for Jerry.

[Larry Silber, President and CEO]

Hey, Ben.

[Ben Burud, Goldman Sachs]

Hey, good morning. Just wanted to touch on rental rates, so you grew pricing 1.6% sequentially, which is well above your normal seasonality. I'm just curious if there was anything we need to keep in mind regarding applying normal seasonality over the balance of the year. So typically 2Q seems to be 1% sequential improvement. And I know Larry on the call mentioned that the strong start to the year implied good things to come. Just wanted to make sure if there was any puts and takes to keep in mind in terms of normal seasonality.

[Larry Silber, President and CEO]

Yes, I think -- I'm not too sure some of my numbers are different I've got 90 bps of sequential rate growth from Q4. And looking last year Q1 to Q2 was like 10 basis points. There's not a real sequential -- there's not really a real seasonal cadence to the rate, I mean, Q1 is definitely the most seasonally impacted quarter. So typically it's the most challenging. Having got 3.8%, where it definitely sets the tone for positive momentum through the course of 2019.

And you can sort of just see the cadence we've been steadily building rate growth that is a metric that once you start getting success, you can continue getting success. There's a bit of a flywheel impact as equipment comes off grid at an old rate and then goes back out on rent at the new rate. So it's a key focus for us. We're having great success, and we sort of continue to look forward to focusing and delivering good results on the rate front through 2019.

[Ben Burud, Goldman Sachs]

Got it. And then, I know it's not the biggest piece of your business, but can you give us an update on what you're seeing on the public construction side of things?

[Bruce Dressel, SVP and COO]

Yes. Hi, this is Bruce. I would say we're seeing kind of stable, good environment in infrastructure in the public side. And then, if in fact additional funds go towards that in the infrastructure than that bodes well for the entire industry overall.

[Ben Burud, Goldman Sachs]

And is there any -- are you cognizant of increasing your exposure there or you kind of just taking business if it comes?

[Larry Silber, President and CEO]

Well, I would tell you it takes the mix the fleet we currently have, and it's in the markets we're in. So, we play in that to begin with, it's not a huge part of our business overall. But, we would benefit from any additional dollars going towards that type of work.

[Ben Burud, Goldman Sachs]

Great, thank you.

[Mark Irion, SVP and CFO]

Yeah. Particularly since we, you know, operate in concentrated highly urbanized markets. If there will be infrastructure spending that we heard about the other day it will certainly impact us.

And we’ll participate in that in our fair share of the way.

[Ben Burud, Goldman Sachs]

Understood, thank you.

[Operator]

And that concludes our question-and-answer session and I would now like to turn the conference back over to Elizabeth Higashi for any closing remarks.

[Elizabeth Higashi, VP, IR]

Thank you. And thank you all for joining us on today’s call. If you have any further questions as always please don’t hesitate to call me. We look forward to seeing you all soon. Take care.

[Operator]

And the conference has now ended. Thank you for attending today’s presentation.