Hertz Case Questions only

Group 8 (Lin Hong, Lili Liu, Fengbin Sun, Yebo Zhang)

1. The strategy will result in a Hertz IPO if other sale prospects fall. In fact, it is a strategy to regard IPO as a base for the value of company. If other options succeed, Hertz will raise more capital, if not, they can still receive the IPO value. This method will ensure a good portion of revenue while lowering the risk.

2. Hertz conforms to an “ideal LBO target” in the following aspects. First, Hertz has a proven financial ability. The company had produced a pretax profit each year since 1967. Also, Hertz has abundant management experiences.  The company used to sell properties in 1953 and went through the public stock offerings at the same year. The management also participated in buyout in 1987. These events can give Hertz plenty of management experiences. Therefore, we believe Hertz is an appropriate buyout target.

3. The sponsors can exploit operating synergies and financial synergies in this transaction. Under operating synergies, bidding group identify following operational savings:

- Current adjusted EBITDA margins were approximately 400 basis points (bps) below 2000 levels and were 100 to 200 bps below those of Avis.

-  From 2002 to 2005E non-fleet-related operating expenses had increased by 38% and had outpaced revenue growth by 6%.

In addition to operational savings, the Bidding Group had identified several sources of financing value.  Most notably debt could be backed by Hertz’s fleet of rental cars (asset-backed securitized debt). The Asset backed securitized debt was relatively cheap, and it can provide a flexible financing arrangement that allowed debt to increase and decrease with fleet size.

4. First, the Bidding Group assumed by 2009, car-rental growth was estimated to slow down to 4.5%, and stabilize to it since then. The assumption is reasonable because car-rentals cannot always increase in a very high rate. Second, the group analyzed even the equipment rental market started to rebound from the slowdown, equipment rental growth was eventually expected to decline and to stabilize at 3% by 2010. Third, the Bidding Group estimated the beta was 1.5 through the industry companies. This number might be right, but there was a wide range to these estimates. The beta will have the largest impact on returns.

5. For the terminal value, we use the FCFF model. The number of FCFF is from Exhibit 11, and we assume the growth rate will be stable at 3.5% after 2010 (weighted average growth rate from the two divisions is 4.215%, but U.S. GDP at 3%, so 4.215% is too high). Then we use the 2010 WACC as the discount rate at 6.33%, because the D/E ratio became stable after 2009 and there is no change for WACC from 2009 to 2010. In the end, we use 546.3* (1+3.5%)/ (6.33%-3.5%) = 19979.52 to get terminal value. By subtracting from debt value, the equity value is 5210.45 at 2010. Therefore the expected rate is 17.77%. [(5210.45/2300)1/5-1]