Last week Hertz Car Hire, whose official corporate name these days is the slightly more pretentious Hertz Global Holdings Inc., a public company listed on the New York Stock Exchange, announced its Directors had approved a plan to put in place for one year a shareholder rights plan, a.k.a. a poison pill.
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The plan is similar to many other such plans employed by public companies, and under its terms shareholders, other than those who indeed initiate a raid on the company, may be entitled to purchase additional shares at a discount in the event any single party, or parties acting in concert, exceeds a ten percent threshold holding in the company.
In their announcement Hertz confirmed there had been recent “unusual and substantial activity” in the company’s shares leading them to suspect accumulation by one or more “activist” investors.
Not all such activist investors are bad, it depends who they are, what their views are at the time and whether they are aligned with management, the board and other shareholders, or instead just wish to rock the corporate boat. In the latter case this can be for sensible reasons, and deserve listening to carefully; in some cases it can be just about making a quick buck at the expense of other, longer term, shareholders.
A couple of days ago CNBC News ran a story, citing knowledgeable unnamed sources, claiming that corporate raider Carl Icahn had indeed purchased between 30 and 40 million shares of the company, and had partially used derivative transactions to avoid immediate SEC disclosure requirements, which would otherwise be necessary once over a 5% reporting threshold. With about 449 million Hertz shares currently outstanding that implies a purchase by Mr. Icahn, if the reports are indeed ultimately verified, of between 6% and 9% of the company.
Reports of the likely purchase then pushed Hertz’s shares up by about ten percent to US$28.50 per share giving the company a market capitalization of around US$12.8 billion, and puts the cost of Mr. Icahn’s stake, if he indeed bought as much as 9% of the company, at somewhere around US$1 billion – which is a fair chunk of change even for him.
With over US$17 billion of debt in its corporate balance sheet the Hertz combined enterprise value therefore (i.e. debt plus market capitalisation) stands currently at around the very elevated sum of US$29.8 billion. The market capitalisation of the shares however compares to an equity base, at recorded book values in the balance sheet, of just US$2.8 billion so they are already trading at a very big premium to book.
In law there is no distinction between a long term and a short term shareholder; there are only shareholders. Each holder of any such class of shares has the same voting and other legal rights as any other shareholder, regardless of his/her intentions.
In the practical world short term buyers such as the Icahn’s of the world intervene to seek quick cash distributions, and encourage asset stripping if necessary to make payouts. In contrast, longer term investors generally seek well-founded long term growth for the business. These are two aims which can at times be completely antithetical and put different shareholder groups at loggerheads with each other, and offer the management and board a Hobson’s choice of for sure having to displease somebody.
The marketplace is where such forces play out, and where poison pill plans can come into play. At their best they are a tool with which managements and boards of directors can buy some time either to explain themselves better to their shareholders, or to perform better and deliver results at the bottom line, or even sometimes to find M&A white knights who then bring even greater returns to shareholders, offering a takeover premium that asset stripping itself does not.
Car rental companies are popular forms of investment for hedge fund investors at the early-to-mid stage of a business cycle where we are now as they can quickly throw off a lot of cash. For example, today Hertz is valued at a P/E ratio of almost 41times its trailing twelve months earnings. However the same capitalisation against its forward twelve months earnings, as estimated by Reuters, falls to just 13.6 times implying the market seems to expect a really solid financial year for the group in 2014.
Car manufacturers also like the car rental agencies, as they buy a lot of their cars through their fleet sales programmes. In the bad old days of the US domestic car industry, indeed not so long ago, car rental companies seemed for a while even to be their primary customers; and for a number of years the US manufacturers owned the biggest ones themselves to make sure of it.
In recent years, the American domestic car industry then pulled up its socks and became much more competitive with foreign cars. Now GM, Ford and Chrysler can sell to general consumers as well much more easily than before so the need to own rental companies disappeared again.
Accordingly Hertz was indeed itself acquired from the Ford Motor Company in 2006, by a group of hedge fund investors. The original sponsorship group for the purchase was Merrill Lynch, the Carlyle Group and Clayton Dubilier and Rice. They then took the company public with an IPO in 2007.
Today those original sponsors seem to be gone as major stock holders, having sold out over a period of time since, but a fairly large group of longer term institutional players are significant holders instead, with the company’s top ten institutional holders controlling around 35% of the stock as at September 30th, 2013.
Indeed that is probably what makes Hertz management nervous once a corporate raider such as Mr. Icahn comes knocking on their door as, if his intentions were seriously hostile and he made a good case, some of these institutional holders would likely be quite willing to listen to him. The current sacrificial lamb on the potential Hertz chopping block, spoken of by the street for divestiture, might be its stand-alone equipment rental division.
It is the very high current trailing twelve month P/E, and the very large premium to book that makes Hertz so vulnerable – the company really does need a very strong financial year ahead in 2014 now to ensure everyone stays comfortable.
The shareholder rights plan may help Hertz gain that time; we will no doubt see. The power of the Icahn name, and the force of his brand of populist investing is such that even without actually yet confirming an investment he has already got a lot of people excited.