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

Good morning, good afternoon. I'm joined here by Larry Silber, President and CEO of Herc Rentals; Mark Humphrey, Chief Financial Officer of the company. Welcome. Thanks for being here. A lot of things to talk about. Larry, why don't we kick it off if you want to make a few prepared remarks on Herc.

Thank you. Appreciate it. Thank you for everybody being out here and listening to us. I'm Larry Silber, President and CEO of Herc Rentals. Give you a little bit of an idea of who we are and how we're doing. We are one of the leading full-line equipment rental suppliers that is focused only on North America. We're a North American-based company, and we operate in 42 states and the 5 Western Canadian provinces. As many of you may know, we were a spinout from Hertz 8 years ago. We just had our 8th anniversary as an independent public company, but the company has been in business for nearly 60 years. So this is perhaps one of the oldest companies in the North American rental market. We have about 7,600 team members today, and we have an addressable market that we operate in of about $85 billion. Today, there are very attractive long-term dynamics for growth in the market, both on a secular basis as well as an overall industry basis. You have the infrastructure projects that are federally funded, the mega projects that we hear about every day and the secular change of rental -- of ownership to rental in the industry that is continuing at a very good pace, and we're seeing more and more of that on a daily basis. We've been investing in the business for the last 8 years to sustain a very profitable growth model, and we've been very diligent in executing our strategy. We've had above-market growth throughout the last 8 years through investments in fleet as well as in new locations that we've either opened on a greenfield basis, a brownfield basis or through M&A activity. Our investments of fleet have been both in core fleet where we focused on generally 2 or 3 primary manufacturers in our core fleets, products as well as investments in specialty businesses, and we've been growing that specialty portion of our business, which now amounts to about 23% of our overall fleet. We have been recently in the last 3 years, a market consolidator through M&A. We've completed over 50 transactions and over 113 locations in the top 100 MSAs in North America. We've also been investing heavily in technology to really create a differentiation in the marketplace and improve our customer productivity as well as improve our own capability for data analytics and management of the fleet and management of our own productivity from the product standpoint and making sure that everything is reliable and it goes to a customer. We have a diverse and flexible business model that provides resiliency in the marketplace. End markets today are a broad range of end markets. We have no 1 market that provides more than 10% of our revenue and no single customer that provides more than 3% of our revenue. Our fleet is very flexible, it's fungible. We can move our fleet and have tremendous capability to have great utilization of the fleet across all of our geographies that we operate in. And the specialty fleet that we've gotten into is tied less to the macro environment and more to MRO emergency response and other things that provide a near engineering capability of the fleet and provides a greater opportunity to improve margins from a specialty fleet. And to finish, we have a very strong and disciplined capital management structure. Our balance sheet is very strong, and we've been investing only for profitable growth and for a return to our shareholders. And a couple of years ago, we initiated a dividend and we continue to pay a dividend to our shareholders. So with that, I'll come back.

Excellent. Thanks for that, Larry. Very helpful. Maybe we'll start a bit on the macro side of things. Obviously, the operating environment over the last few years has been anything, but ordinary. From -- starting with the COVID lockdowns, the ensuing construction boom, we've been in since then, obviously, followed by some areas of weakness of late as rates have gone up. How would you guys describe the current market backdrop in the outlook? Are we in a normalized environment at this point?

Well, I would say we are normalizing still. There's still some residual obviously left over from COVID that is some outsized opportunity in certain areas. And certainly, the federal spending that we're seeing around infrastructure projects, whether it's roads, bridges, tunnels, airports and things like that is not normal, but it's a new normal, if you will. And then of course, the mega projects is something that's been totally new over the last several years, starting with EV and going through data centers, LNG plants and the like, that is sort of a new normal as well. But I would say the market from a standpoint of a local marketplace is normalizing post COVID period. And it's probably below where we'd like it to see in the local market primarily impacted by the interest rate environment. Certainly, that can come back with some changes with Fed policy that we all expect to see in the coming months and -- but that will still have a lag until we see that sort of play out in terms of increased demand as a result of investments -- private investments in local markets.

Yes. Can you talk a little bit more about the mega projects? Obviously, things benefited from the IRA, the CHIPS Act. What is the duration of those projects? Obviously, we're on the front end of many of them right now. How do you think about them in the context of years? Is it 3 years, 5 years, and how will that affect and change your business during that time period?

Yes. No, great question. Look, I think we're still in the early stages of the mega projects. Certainly, EV is ahead of probably most of the big projects. The funding is just coming out for chip plants and for LNG plants just getting approval in terms of regulatory approval and government approval on permits and things like that. So we're still in the very early stages. I think we're probably going to see a minimum of a 5-year runway on these projects, and some of them like the LNG plants, that's going to be multiple 5-year periods with extensions and new activity going on there. So I think certainly, the next 5 years is going to be very strong and could go on for that. But what's even more important is we're only looking to participate in 10% to 15%, maybe 45 to 50 of those projects, if you will, but it's really about the new relationships we're building with customers that are performing on those projects and building those new long-term relationships that they're going to take to future activity and future projects that they have. So I think it's going to have a big impact on our business as long as we continue to perform well, and we don't bite off more than we could chew.

Sure. There hasn't been a lot of cyclicality in the equipment rental sector over the last decade plus. It's been a really great secular growth story. You talked about the transition from ownership to rental and sort of how that's accelerated. When you think about what could cause the next downturn in the sector, what do you think it could be? What gives you concern as you just think broadly about the business, the industry?

Well, I think trying to analyze a downturn tomorrow with -- and how the industry performed through downturns, whether it's '08 or '15, I think that the consolidation inside of the industry has almost made it where they're not analogous. You can't sort of evaluate what happened then and try to lay that on to what could happen tomorrow. And I think the primary reason there is just the industry consolidation that has taken place over the last 10 years or so. And then I think on top of that, the professionalization inside of the industry with the consolidation has sort of led us to a place where we can now utilize data and analytics to make everyone smarter about the decisions they're making today and how that's going to impact them tomorrow.

Yes. Terrific. Maybe a bit on the financials, Mark. Obviously, you guys had a record second quarter. Clear indication of strength in your franchise, but I'd say the leadership in the market because I do think there's some bifurcation happening amongst the top 3 and everyone else. Can you talk a little bit about what has changed operationally during your guys' tenure and time? Maybe Larry, if you want to kick it off as you've been CEO and then how that's going to continue to evolve over the next few years as well?

Yes, there's been -- since I've been there, it's sort of been an unbelievable change over 9 years there now, 8 years since the spin, since we became an independent public company. But starting with making sure we had to first get a hold of our business, build up the back end, make sure we were operationally strong and separate from our former parent company. We also had a -- we focused on North America. This company was a global company when I got here, had operations around the world in China and Saudi Arabia, other places in Qatar, other places in the Middle East, had big operations in France and Spain and Portugal, had operations in China and Latin America. And what we did was we said, look, there's plenty of opportunity in North America, let's focus only on North America. So that was sort of the first thing, get focused. We then had to take a look at the fleet. We had to not only diversify the fleet and get into specialty equipment and look at new products that we're going to bring in incremental margin opportunities, we had to clean up the fleet that was here. When we first got here, it was about $3.5 billion worth of fleet, and it was about $700 million of that fleet that was dead. We had to clean that fleet up and we had organized our brands. We were buying from too many vendors, and we didn't have the economies of scale to be able to get good pricing on products. And we didn't really have all premium products in the fleet. So we had to change the fleet. We had to turn it over, and we had a focus only on 2 or 3 brands per fleet, per category and make sure that we were able to sort of get our sale relative to our purchasing capability. So consolidating the supply base was pretty important. We then began to look at -- once we got that under control, we got our back end, we upgraded our systems. We really turned over our organization. We had about 600 salespeople back when I got here. We turned over more than half of that and started building the team from within. We now have over 800 salespeople in the organization. So we had to develop a sales culture in the business rather than just an operations culture. Once all that was stable, we began to look at how we're going to grow outside of those markets that we're in. We started doing some brownfields turning into greenfields, and looking at expanding in the top 50 markets. And we've since now focused on the top 100 MSAs in North America. We then began a pretty [Audio Gap]

There's been a lot of cautiousness out of the OEMs around what they're seeing in their business. Talk a little bit about what's driving performance in the second half of '24, and then maybe if you're comfortable giving a little bit of insight into '25?

I will take the '24 part first. I think we've been fairly consistent around the mega project activity that Larry was speaking of, we're not trying to bite off more than we can chew here, right? And so we've sort of outlined a 10% to 15% strategy of mega project starts, which for us is sort of 45 to 50 projects. And so our visibility into those projects as we worked our way through the year has led us to believe that the back half of 2024 is more heavily weighted than the front half was. And so I think when you take that in context of mega projects activity sort of rolling through the back half of the year, coupled with the infrastructure increases and certain pieces of the local market, that's sort of the impetus for sort of the reaffirm on the guide.

Anything on '25?

Nothing.

Too early? The whole sector has deleveraged significantly to include you guys post the spin. Talk a little bit about capital allocation. You talked about the dividend. Obviously, that's been sort of a topical way to return capital amongst some of the peers. Talk about how you think about your capital base and what is a lower leverage environment across the sector?

Yes. I mean I think as a reminder, right, we're sort of a 2x to 3x, and we're sort of comfortable inside of that range or the midpoint of that range now. I think from a capital allocation perspective, right, I mean, first and foremost, we would -- we always look to layer more gear into our existing infrastructure, right? Into that same fixed cost base. So that's always Priority 1. Priority 2 is greenfields and where greenfields aren't possible, you've got an M&A pipeline that Larry mentioned earlier, right? We've done 50 of these over the last 3-plus years. And so really, that is sort of even the hierarchy in terms of sort of how the capital is allocated and then lastly, a dividend back to the shareholders to return some value that way.

Larry, fleet's about 23% specialty. How do you think about that segment growing in -- growing the mix?

Yes. No, great question. Look, specialty is a critical part of we're looking at from a growth standpoint in terms of improving our margin performance and our operating performance of the business. Currently, as you said, specialty is around 23%. It will float back to 20% once we complete transactions that we're attempting to get done on the Cinelease side of the business. But our plan would be to grow that to the 25% to 30% of our fleet and continue to look for new opportunities, new investments in specialty products and portfolios and capabilities. Remember, we are a service company. So we continually ask our customers what other services would they like us to perform for them that will lead us to specialty gear and specialty type of applications. Most recently, we've acquired several companies in the trench sector, which we view as a specialty business, because it's a near engineered type of a product and application where someone just doesn't say send me a slide rail, send me a trench box, we have to go out and understand what they're going to be digging, what the hole is going to look like and what kind of an application because there's different applications for that product. Other areas is power generation and pumping systems and capabilities like that. So we're looking for new specialty areas to enter, and we expect over the next 3 years or so to grow that fleet to that 25% to 30% of our fleet being specialty business, which will improve our margins as well, our overall margins in the business.

You talked about 50 M&A transactions sort of from my perspective, more focused, smaller type deals. How do you think about the pipeline as you guys have gotten bigger as you've deleveraged, do you think about something more substantial? And maybe as I think about the sector, it's diverging. You've got the top 3 and then you've got sort of the long tail beyond you guys. Is there ever logic in becoming a bigger #3 moving towards the #2 position from a share standpoint?

Well, look, I don't know that either becoming #2 or #1 is really that important to us. I think what's really important to us is servicing our customers and continuing to build that capability for our customer base and having them rely on us for the future. I think at least under my watch, we'll remain a North American-focused company. So we're not going to look outside to Europe or outside to Australia or any other location to sort of -- I think that takes away the focus of what we want to be and what we want to come. We'll continue to evaluate M&A opportunities as they come up. We just completed here in California, the largest deal that we've done so far to date. And we think that opportunity was great, and we'll continue to look at that. So we're not afraid of larger deals. It just has to make sense. The multiples have to make sense in terms of what we're looking at. Certainly, the specialty business area is an area of opportunity for more M&A-type transactions and more opportunities. But again, the multiples need to make sense relative to our overall business. So we're not afraid of that, but growing to be #2 or #1, isn't sort of our charter. Our charter is just to be the best company in the industry, be the supplier of choice, be the employer of choice and be the investment of choice in our industry. That's really our goal.

You guys obviously have broadened the spectrum of the portfolio. We talked about specialty, talked about some services. What is the one thing your customers are asking for today from an offering standpoint, service standpoint that you don't have or maybe you're underweight where you sit at the moment?

Yes. I think what we're seeing more and more as the mega projects continue to ramp up as customers want to utilize the capability that we have in our ProControl next-gen offering of capability around telematics and information and data analytics and to help them improve their productivity in their business. So that's becoming more of the norm and rolling that out to more and more customers is really what they're asking for today and what we're seeing. I don't think we're getting any sort of request for either products or capabilities that are far beyond what our current capability is today and what we can do. We're pretty good across the board, and we can participate at any real level and compared to our competitors. So that really sort of isn't out of our realm, but I think as we go down the road, we'll identify what those needs are because some of these mega projects, the customers don't even know what their needs are going to be as they're getting into it. I foresee more things around power generation being sort of the order of the day in the future. And more of our capabilities around power sources and what we can provide as alternative energy. And as the sustainability issue of the day becomes more important. I think we're going to be asked to participate more in that sustainability effort with our customers down the road.

You talked a lot about technology. I know you guys have invested a lot in your technology back end and your interface to your customers. What percentage of your customers are focused on that? And how is that a point of differentiation for you certainly versus what I'd say the mom-and-pop long tail of rental doesn't have that capability. How are customers using that technology backbone today to sort of drive efficiency in their own business.

Do you want to get that?

Yes. I mean I think what you really have is that it provides the seat at the table. When you think about these mega projects and the large project activity, right, if you don't have that, you don't have the key to enter the door to sit at the table to have the discussions as to whether it's going to be primary, secondary, and play inside of that arena. And so I think it is more heavily weighted today significantly to the more sophisticated GCs across the board. When you think about more of the local general contractor space, not so much today. I think as we continue to evolve from a customer base perspective, right? I think that there are huge benefits to even that local GC that we can provide them in terms of fleet management and the like and the back-end simplicity that it provides. I think it will continue to evolve as we walk forward. But today, it's definitely more heavily weighted toward the more sophisticated GCs.

So you talked about -- you rationalized your vendor spend, focusing on a handful of providers. Can you talk a little bit about what that relationship is like as one of the largest equipment rental franchises with the OEs. You hear a lot from the OEs on pricing pressure, their inability to drive margin on their product offering. And I think a lot of it is because their biggest customers have a lot of power on their side as well. Obviously, being one of those. What's that relationship like? What's that discussion like because they're a partner, but you're also a customer?

Right. Yes. No, look, I think we have very strong relationships with our primary vendors. And we understand the pressures that they're under. We want them to be profitable. We need them to be profitable because we want them to be around for a long time, right? We're going to own their equipment for 7 or 8 years and some equipment we might own for longer, depending upon the type of equipment it is. So we understand the pressures that they're under. And I think they understand the pressures that we're under in terms of the type of return that we have to be able to generate a reasonable return on that product when we rent it. They have to price to really what the market is versus what their cost structure is, and I have to learn how to do that. Having spent 30 years on that side of the fence being a manufacturer with Ingersoll-Rand selling to this industry, I probably have a better perspective on what they're up against and what their challenges are. So we work very closely with them. We work on ways to differentiate the product, maybe to take cost out of the product. Our fleet team comes from -- most of our fleet team come from a manufacturing background. So we are able to work with them on how to modify that equipment or how to either despec that equipment so that it works in our market that can take cost out of that equipment so that can help us meet some margin requirements, but still perform at the very highest levels and maybe some things that if you were an owner or a contractor that owned equipment, you might want something in a piece of equipment because you really like the chrome and the flash, right? Where as a customer that's renting that equipment, we might not need that chrome and flash on that machine to take some cost out of it. So we know how to work with them because our fleet team comes from a manufacturing background, and they understand what manufacturers are up against and how we can drive improvements in that machine and at the same time, take cost out, so.

Yes. Thank you. Maybe one more, Mark, for you. It's been for you guys a positive pricing environment, even though it's been a pretty choppy market. How do you think about price and how much opportunity is left in the rental sector?

Yes. I mean, look, I mean, the last 3-plus years have been choppy, right? And I think as we sort of walk into this more normalized environment, going forward, right? The way that we think about that is actually pretty simplistic, right? We know or at least we think we know sort of what our inflationary hurdle is. And because we are a premium provider and a service company, right, we want to sort of upcharge that inflationary impact with some sort of premium for the service that we're providing. And so that's the goal, and that's sort of what we're striving for.

Terrific. Brings us at the top of the hour. Thank you. Congrats on the company and the success and appreciate you being here.

Thanks for having us here. Glad to be here. Wonderful location. Thank you, everybody.