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The Hertz Global Holdings car rental group’s (NYSE:HTZ) acquisition of the Dollar Thrifty Group (NYSE:DTG) has the potential to shake up the US car rental business with its underlying strategy, if it gains regulatory approval and if it can manage its debt load. DTG shares rose 7.5% to $87.08 yesterday setting a new five-year high and the highest intraday increase since mid 2011. Hertz shares jumped 11% to $14.65 following the announcement of the $2.6 billion acquisition. The Hertz offer, based on a premium on DTG share price at the close of business on 08 August, is $87.50 per share.
Regulatory Approval Pending
Given that the acquisition has the potential to propel Hertz from number three to number one in US airport rentals, the proposed merger will require US regulatory approval. Given the consolidations that have taken place in that sector over the last decade, some observers feel that approval may be hard to obtain. Nonetheless, other experts feel that the approval will come rather easily since it is viewed as the last likely, viable acquisition in the highly competitive car rental business.
Debt Burden
Having raised $1.95 billion to help finance the buyout, Hertz will also assume an additional $1.6 billion of DTG debt as part of the deal. The acquisition will increase Hertz’ debt load to 400% of its earnings (EBITDA). S&P has placed Hertz’ B+ rating on watch as a result of the debt increase, however, they do not expect more than a one notch downgrade, if any. The major problem with the debt load, which will make Hertz the second most leveraged US car rental company, is that one of Hertz’ objectives has been to “achieve ratios consistent with an investment grade rating.” The acquisition will necessitate a delay in reaching that goal.
The Strategy & the Cost Savings
One of the amazing things that nearly every report has either overlooked or kept to within a single sentence is that Hertz projects an annual cost savings of $160 million. That may be a conservative estimate when figured into the operational strategy of bringing the Dollar and Thrifty brands under the Hertz umbrella.
The acquisition will position Hertz to compete on the same playing field, at least at airport locations, with Enterprise, which also owns National and Alamo, by playing to three distinctly different types of customers, something Hertz has wanted to do for several years. Although Hertz has tried several other interim tactics, the DTG acquisition is undoubtedly the home-run. And it is the last chance in the industry to get to this position. Enterprise is the elite, flagship of its corporate brands, offering a first-class experience. National is specifically marketed to the business traveler, with convenience and contracted options built into the reservation systems to keep business people on time. Alamo is marketed as the low-priced brand, typically catering to vacationers and families. Expect Hertz to aggressively follow the same pattern, retaining the current branding and de-emphasizing the group association.
Behind the scenes, however, is where the money will be made. There will certainly be back office redundancies to deal with. And there will be consolidation where the rubber meets the road. Fleet control and maintenance operations will be consolidated. Rental agent staff will be reduced and cross-trained. Overall fleet size may be reduced, not only meaning fewer cars purchased, but less space required at rental locations for inventory. The premium rental aisle space can be reduced while maintaining adequate inventory on the back lot. The average renter will never realize that the car they just rented at Hertz for $100 a day was just moved – while they were at the rental counter – to the Hertz aisle from the Thrifty rental aisle where they would have paid $75 per day for the same car.
Consumers don’t understand that rental cars don’t have a rental price attached to them. It is a supply and demand issue. On a Monday you might rent a Camry for $40 a day. On a Friday it may be $150 a day. The object is to get the inventory off the lot and onto the road. It’s all about inventory and brand management. There is also the ability to handle price shoppers by referring them to another corporate brand where they might save 10% and end up renting the same car, rather than losing the customer altogether. Whilst Hertz, for example, could have offered a “deal,” it would keep its pricing structure for the day intact. That concept also works in reverse. Say a customer asks for a convertible at the Dollar counter, but Dollar doesn’t have one on the lot. Post acquisition, a quick look at the Hertz inventory on the Dollar computer shows that Hertz has one. The agent tells the customer, “Yes, I do. And it’s only $60 (or $75 or $100) more per day.” The rental is done, the inventory is transferred (on the books and on the lot) and the customer is none the wiser.
The flexibility that DTG brings to Hertz will be a huge factor in the both the competitive nature of the brand and the cost savings. The strategy is more than likely strong enough to accomplish all of Hertz’s goals.
