Herc Holdings Inc. (HRI) Earnings Call Transcript & Summary

Great. I think we could begin here. So thanks, everyone, for joining us in the afternoon session on day 2 of the Industrial Select Conference. We appreciate you being here and powering through past lunch. So for this session, first, my name is Adam Seiden. I'm the U.S. machinery and construction analyst. Joining us, we have the team from Herc Rentals led by Larry Silber, CEO; as well as Mark Irion, the Chief Financial Officer; and Leslie is in the crowd from the Investor Relations team as well. So the format of this session here is we'll pass it to Larry to give a quick introduction about Herc Rentals, then we'll be having a conversation ourselves here. We'll open it up for audience questions as well as our audience response system a bit later if time allows for that. So without further ado, let's jump into it. Larry, thanks so much for being here.

Well Thanks, Adam. And good afternoon, everyone. Glad you can make it to the second day of the conference and joining us here. We're happy to be here with you this morning. Also, let me point out Mark Humphrey is here, our Chief Accounting Officer of the company in the front in front of Leslie Hunziker. Before I begin, I'd like to point out our safe harbor statement and information regarding non-GAAP financial measures that we might mention during our discussion today, make you aware of that. Our company today, a little background on Herc. We're one of the leading full-line equipment rental suppliers in North America. We're primarily based in the U.S. and Canada. We're in 38 states and 5 Canadian provinces. We have a very focused vision, mission and value statement driven by a purpose statement of the company, where we pledge to equip our customers and our communities to build a brighter future. A little bit about Herc. We've been servicing customers for more than 57 years across North America and around the world. But in the last 7 years, primarily focused in North America. We have over 6,600 team members today, and we operate from over 350 locations, as I mentioned, primarily in the U.S. and Canada. We serve an addressable equipment market in North America of approximately $63 billion today. Our strategies, we're making great progress in executing on the strategy that we set out in 2016 when we became an independent public company. And as we've shifted into high gear and we presented at our Investor Day a couple of years ago. We've been growing our core business and expanding our specialty businesses through an investment in a combination of fleet, strategic M&A, new greenfield locations in a very healthy demand and positive rate environment that we've been experiencing. At the same time, we've continued to invest in technology which we just announced at our most recent earnings call that we've rolled out. It's called ProControl next generation and to improve the customer experience as well as the operating effectiveness of our business and our customers' businesses as well. And we've expanded our sustainability program, and we've set very specific goals to reduce greenhouse gas emissions intensity by 25% and by the year 2030 using 2019 as a base year for that. We're at best-in-class safety levels for our business. And we were recently awarded a gold medal military-friendly employer recipient from the services of the -- armed services of the United States. So very important to us as veterans make up more and more a part of our organization as we recruit from that workforce. Importantly, we've also invested in growth. We've focused on allocating capital combination through M&A, new greenfield locations. We've also increased our annual dividend which you've just heard about. And we've executed last year on opportunistic share repurchases. As you can see, we recently reported our financials, our '22 results for the year, and we've made exceptional progress over the last several years in our business, and we delivered record level financial performance across the board, actually. Equipment rental revenue growth grew at 34%, and that was on top of 24% growth in 2021. And it support a rising demand. We invested $1 billion in net fleet CapEx last year in our purchases while improving fleet productivity as evidenced by our increase in dollar utilization on a year-over-year basis. We've also invested in expanding our branch network by completing 18 strategic acquisitions last year and opening 21 greenfield locations in key markets in 2022. And by focusing on our rate growth and operating efficiencies, we've more than offset the inflationary pressures of the marketplace and delivered 160 basis points of adjusted EBITDA margin improvement and 120 basis points of higher ROIC. Looking at the outlook, we're operating from a much stronger, in fact, our strongest position that this company has been in have done at any time in the history of the company. Our recently announced financial guidance highlights the plans for outsized growth in 2023. Our plan for net fleet CapEx is in the $1 billion to $1.2 billion range and allows us to maintain double-digit growth in our fleet on rent going forward. With expectations for stronger operating leverage as we roll over some of the 2022 inflationary pressures and challenges we estimate adjusted EBITDA will be in the range of $1.45 billion to $1.55 billion, representing another year of profitable double-digit growth. We're experiencing all of the trends consistent with an industry up cycle and intend to continue to drive excellent outsized performance as our growth strategy remains in high gear in 2023 and beyond. Before we move into our Q&A with Adam, we'd like to point out why we believe so strongly in our company and in the future growth of our company. And it's really based around these 5 areas. We're a market share leader. We continue to gain share in a growing market where scale and capability matters. And we are one of those companies, few companies of scale, and it really helps when it comes to capturing new business, attracting talent to the company and driving profitability as your scale continues to improve. The industry has attractive long-term dynamic secular and structural growth from industrial and infrastructure megaprojects provides substantial opportunities for large national players with strong capabilities and we are certainly one of those large strong national players. Nonresidential construction recovery is on the upswing validated by the latest Dodge data and other industry data that we measure in our business. We continue to invest in our business. We've been an opportunistic consolidator creating high-performing branch network to achieve maximum returns in our investment and improve our efficiency in the business. Our expanded capabilities, solution-based services, technology innovations and a broad range of specialty equipment offer and provide incremental growth opportunities for us. Our strong balance sheet ensures fleet availability to meet the continued demand, robust demand that we're seeing in the marketplace. We have a diverse and flexible business model, which provides resiliency. We're reducing risk, balancing revenue streams, driving efficiencies with a much more diverse customer set, both at the national and the local level, small businesses, large businesses, public projects, private projects across multiple verticals that we operate in today. Our flexible asset management provides for organic growth and a macroeconomic resiliency in the marketplace. I always say we're not recession proof, but we are recession resistant with the type of business that we operate today. We have very disciplined capital management, underpinned by a strong balance sheet and we're investing to sustain and profitable growth while returning shareholder -- to shareholders through dividends as well as through opportunistic share purchases. So with that sort of brief quick overview of our business, I'll turn it back to Adam to ask us some questions that he's prepared for us. So thank you very much.

Thanks, Larry, for that. I appreciate the overview. And there's a lot of charts with columns moving progressively up and to the right. So that's always a good sign there. You mentioned one of the tenants of the investment thesis is your exposure to mega projects. And certainly, mega projects, how that benefits both with the national footprint like yourself. I think everyone in this room in the audience as a whole has probably heard about mega projects and so forth. But I was hoping you could maybe dive in and talk a little bit about what does that actually mean? Like how much -- what percentage of a mega project tends to be equipment. And then more so of that how much do those contractors tend to rent from folks like yourselves.

Yes. No, great question. Well, first of all, let me start by saying, look, sort of the background of Herc's business in that national account business and actually, we're the innovators and the leaders in that back to the early roots of Herc. So it's not foreign to us to be able to participate in that type of business and to be very good at it. So these mega projects, as we keep hearing about them are growing. And really, it's going to be the business that's going to go to only the very large players. So we will get an outsized proportion of that business versus what we'd see on a normal everyday basis in and out. Typical for a mega project or any kind of big project or big whether it's a mega project or an EV plant or a data center or something like that, is somewhere in that range of 2% to 3% of the cost of that project, the spend on that project would slow down, trickle down, if you will, to rental. And we'll see that. So if you have a $1 billion [indiscernible] $20 million to $30 million of rental opportunity in that project, and we'll participate along with perhaps our larger peers in an outsized proportion of that.

Got it. And does the scale of the project and the size of the project have any bearing on what the margin benefit is to you guys?

I'll let Mark.

So yes, I mean, you've got a lot of gear concentrated in a small space. So the rates are negotiated and might not be as favorable as some of the spot market rates, but the profitability and margin potential are the same because you're not moving as much here in and out, attaching it as often and you've got a sort of concentrated maintenance work scheduled to work around rather than sort of moving around town, having to touch that [ gear ].

Got it. And like you said, there's a lot of gear in a concentrated location. And if I've learned anything over the last year, it feels like it's been hard to get gear. So how are you thinking about from the supply side of the market where gear is the ability to get gear today?

Yes. Look, I don't think much has remained -- much has changed. It remains unchanged sort of from a year ago. We are seeing some marginal improvements on the part of our OEM's to be able to get and deliver product to us. But we still think 2023 is going to be much similar to what it was last year with maybe some improvements coming in the back end of the year. So we've been fortunate to get what we need because we've done really good planning and planning over a long period of time. So the equipment that we're getting now, we placed those orders over a year ago, right? We're getting it in and we're taking equipment when it's available. So we have it when the marketplace heats up for the season. So we're in pretty good shape, better than most. And -- but the general conditions around the OEMs is only marginally improved.

That's fair. And within the rental channel, do you get the sense that the large national players like yourselves and some of those large peers that you were telling -- talking to us about earlier. Do you get a sense that you guys have got a disproportionate amount of the gear that has been available? Or has it been spread amongst the broader?

Yes. Look, I would think that because we are large players that have the capital and the ability to forecast and the ability to take that equipment even in the off-season, as we did this past year in Q4 and into Q1, we are probably getting a disproportionate share of the gear that becomes available. And we have the wherewithal to take it, right, and utilize it. So yes, to answer your question.

Fair. So you guys have the gear, other folks a bit less so, particularly the smaller folks. Now I'd assume that you can see your rate growth certainly shows that you're able to price for it. Play doubles advocate on that for a second. I would say a long-term thesis in the -- for the rental industry has always been that the rental channel can probably get more pricing. So curious, do you think that the rental industry has been received the right rate growth based off of what you've been able to provide when other folks can. And then longer-term, the question is, -- is there room for that gap to narrow between the OEMs and the rental channel on pricing?

Yes. No, I mean I think the industry is coming off one of the best rate years that it's ever had. So it's definitely responded rationally and I think, proportionately to the sort of supply and demand and balance out there and the inflationary input costs to the fleet. We've been rational in terms of going to get -- recover that from the customers. We're holding that fleet for like 8 years. So there's no need to go and get it all in 1 year. There's plenty of time to sort of adjust and that's what the industry tends to do. It's not usually a direct correlation between the pricing we pay for our equipment and the rates we charge to our customers. But in this sort of environment, there has been and I think there will continue to be a sort of modest move up in rates over the next couple of years. We went out and said that we're not really going to try and grab all of this back in one year, we'd be much happier with 3 or 4, 5 years of mid-single-digit rate growth rather than getting a big increase in '22 and then having to get some of that back, and we're on track for that. We did 6.6% in Q4, and we're on track for a mid-single rate digit -- mid-single digit rate growth in 2023.

Yes. And the other thing that gives us confidence is we're in a much more rational environment today with professional operators today that really understand the puts and takes in the market, understand the cost of running businesses, and we think that that's sustainable with the level of expertise and professionalism today that exists.

And that's a good segue, Larry, because you're talking about you're in a more rational market, and you mentioned earlier about recession and resilience and so forth down to resilience. So just because there are some naysayers out there, unfortunately, I hear for a little lot about the broader market. If we were to hit a bit of a softer patch like could you talk a little bit or maybe Mark, can you talk a little bit about how we should think about what a more typical garden variety slowdown would be for the rental industry and how that affects our sales?

Right. Well, we ran the playbook in 2020, so some of it will happen in real time. That was a pretty significant slowdown and our revenues were down 9%. EBITDA was down 6%, and we actually improved our margins in 2020 and generated $400 million worth of free cash flow. So the cash flows are countercyclical in this business when we're investing in the fleet -- we are increasing our debt or nominally free cash flow neutral, and we pay it down when we're shrinking the fleet or not investing in the fleet as heavily. So we've been through multiple recessions, the industry gets better and better, I think, with each one in terms of how they respond, and we certainly came through 2020 with flying colors and able to respond to the changing demand environment and switch to 35%-plus growth in 2022.

Yes. And maybe, Mark, to piggyback on that just from a free cash flow perspective because when you're a company like yours that's buying a lot of CapEx, sometimes the free cash flow profile on a Bloomberg screen could get obviously gated pretty fast. So just when you think about into a -- if there were to be a slowdown at any point, cycle over cycle, your free cash flow growth would be better today than it was?

Yes. No, we're investing in our company right now and growing revenues and growing fleet 30%, growing EBITDA, almost 40% margins, ROIC. So it's the right investment decision for us as managers of the capital. But if we were to grow at 10%, we would throw off $300 million worth of free cash flow. If we were to stop growing altogether, there's a significant amount of free cash flow. So it's really the pace of growth that has us free cash flow neutral if we're on a steady state petri dish sort of growth curve there would be free cash flow available.

There you go. So one way to get cash in the door to is by selling fleet. Just curious when you think about the used market today has been healthy. Curious if you would still characterize it similarly. And then from your ability to dispose equipment, how you sit today and what the -- if there's a path to improving those disposal [indiscernible].

Yes. No, great question. Look, over the last couple of years, because of the pandemic and because of a constrained supply base, we elected to age our equipment and hold on to it a little longer. And the only equipment that we really sold or disposed of was primarily through the auction channels. And -- but fortunately, we were in the sort of the highest rate or rate environment for the sale of used equipment. We still are -- even though it might have come a little bit down off the peak, but we're still the highest it's been in history. We still see a very good market out there. As we return to some more normalized supply markets, we'll dispose of more equipment, and we'll shift our channel more to a retail sale, which will enable us to improve margins as well as dispose of fleet that we believe is the right aged fleet to start putting out into the market. So we expect to do more of that in '23 and continue that as we go forward. And certainly, as the supply chain improves, we'll be able to continue to grow along the retail disposal channels.

Excellent. Thank you. We'll shift to the audience response questions here for a second. So the first question is, do you currently own the stock? One, yes, overweight to the market wave yes, underweight or for no and when the timer comes up, if you can respond. Okay. Talking to the right people. Next question, please. What is your general bias towards the stock right now, positive, negative or neutral. All right. 55% positive. 55% positive with a whole lot of nonowners. There you go.

It's good.

Next question? In your opinion, through cycle EPS growth for Herc will be one above peers in line with peers or below peers. All right. 67% above peers. Next question, please? In your opinion, what should Herc holdings do with excess cash, bolt-on M&A, large M&A, repos of these debt pay down or internal investment? Mark, any guess? All right. Kind of split actually across the board, so bolt-on M&A and then repos and debt pay down. That is an interesting one. Maybe we'll stop there for a half a second. Just to talk about some of the M&A that you've done. So you have a target right of $500 million on an annual basis. Just curious, first on that, like how hard is it to find $500 million of assets on a year basis and get that through? And then more so, how long can you sustain that momentum?

I'll take the first part, and I'll let Mark handle the second part, so he's my banker. First part, look, it is not easy. M&A is sort of opportunistic, but we are in a very favorable environment, right? As the big keep getting bigger, and I think that's recognized in the marketplace, certainly by the 5,000 or so mom and pops that are out there. We've been afforded some really good favorable press, if you will, in the market, where if someone has either reached a point where they don't want to make further capital investments in the business. They've reached a [ point ] where they don't have a succession plan for their business and they're looking for [ viable suitor ]. We fall squarely into that because we are a growth company. We're going to give their employees an opportunity for a further career and a good career. In fact, we've retained 93% of the people [indiscernible] 35 or so acquisitions we've done over the last 2 years and it's really been a good climate. So while it's hard, there's ample opportunity out there for us to do that. As far as the future sustainability, I'll let Mark pick that up.

Yes. No. I mean, there's plenty of opportunities out there. So we see maintaining a $500 million cadence for the long-term as being achievable and we'll keep working towards that. We've got the team built up. We've been at it for 2 years, so it's becoming part of the core competency internally and there's plenty of candidates out there for acquisitions.

Got it. Maybe we'll move to the next question here. In your opinion, on multiple of '23 earnings should Herc Holdings traded. So less than 10x and then bands up to higher than 21x. These are standardized questions.

Six is the right answer.

Not 6x for the audience. Opposite number, yes. All right. Perfect. So 13, 15 and the audience tests. Next question, please. What do you see as the most significant share price headwind facing Herc today. Core growth, margin performance, capital deployment or execution strategy. All right. So it's about split between core growth and capital deployment. And earlier on, we were just touching on the M&A side there. And core growth probably gets a little bit to the cycle. So margin performance is not on that list. And what's very interesting, though, and you guys can speak to it even more so. But if you go back a couple of years, probably margin performance would have been towards the top with the gap between yourself and peers. So I guess when we think about on the margin side, as we look into 2023, you had some assumptions on your slides there, you were talking about 50%, 60% EBITDA incrementals. How do you see the pacing of that playing out through the year?

So Q1 is always the most challenging in terms of operating leverage and fixed cost absorption, which flows into the flow-through. You saw it last year dramatically with a big sort of inflationary impulse that challenged the flow through is not going to be as dramatic this year, but flow-through does build. So we closed Q4 at 54%. We've got a good sort of run rate into Q1 that will slow from there and then sort of build to the mid-50s again, similarly to what we saw last year.

Excellent. Moving to the last question here. Does ESG play an active role in your investment decision relating to the company? Yes, ESG is a positive. Second is, yes, it's negative. Third is no, it doesn't. And then fourth is just no. No, but the future. All right. [ Survey ] says 3. So no, it doesn't play a role in our assessment of the company. I've been telling corporates this all conference that this result is almost standard now. It feels like everybody is getting the exact same thing, which is interesting because I think we all have to do a little bit of an introspective look based off of where things are headed. So with a couple of seconds that we have remaining here, I guess, Larry, if I have you, and we were talking a little bit about the past. You think about what the company has done. It's grown obviously in revenue and EBITDA and your fleet. I mean where do you think you still have the most work that you need to address?

Great question. The company has come a long way, and we've done so many wonderful things over the past 7 years to really improve the company. I'd say everything that we wanted to do is more or less up to par and achieved from that standpoint. I think the main area that we're focused on 2 areas, I would say, is, number one is employee development, making sure we continue to train, educate and retain our employees. The industry has historically been known as a high turnover industry. We've been able to make some significant improvements there. And we're doing that by growing our own from within, filling our ranks with folks, giving them training education and career pathing to prevent or minimize that turnover. So that's one area that we continue to be focused on. And then the second area I mentioned earlier, we rolled out our next our ProControl next-gen platform. So a continued focus on innovative technology, even though I think we're at this point above our peers in terms of what we've introduced recently, we'll need to continue to invest in there, stay ahead of that in order to make sure that we're providing our customers with the type of tools and resources that they need to become the asset manager that we want to be in the business forum.

Excellent. So with that, please join me in thanking the Herc team for coming out and thank you all for attending the session.

Thank you all.

Thank you. Thank you.