By Murray Pollok22 April 2008
Since the summer and the credit crisis began, nearly all the publicly traded rental companies in the IRN 100 have seen repeated healthy increases in earnings. The response from the stock markets has been a surprising fall in share prices. A share price fall for some of the US rental companies with exposure to construction markets may be understandable, but economic forecasts for Scandinavia, the UK and Spain are not nearly as gloomy. Certainly not gloomy enough to justify two thirds of Cramo’s share price disappearing, or Ramirent, both of which continue to report record earnings and cash flow numbers.
The Dow Jones Industrial Average, which includes 30 of the largest and most widely held US publicly traded companies, including Caterpillar, has seen a decline of a much more modest 8% (on February 14), much less than any of the top rental companies, with the exception of Aggreko. See Table 1.
TABLE 1 (PLEASE USE ON THE FIRST PAGE)
Last Earnings News
July 07 to Feb 08
Cramo (Finland, Europe )
3rd Q 07
Ashtead Group (UK/US)
2nd Q 07
United Rentals (US)
H & E (US)
Return to profit
Ramirent (Northern Europe)
Aggreko (UK, worldwide)
Dow Jones Average
What makes rental company shares rise and fall anyway? It’s not a reflection of the company’s earnings, but rather the expectation of future earnings. Investors like to think they buy and sell shares at the right moment. Baron Rothschild famously said “I made my fortune by selling too early”.
Even if a recession never comes, the fear that it might happen is enough for most investors to “take profits” from the last few years’ share price growth by selling. Will the US housing market really affect equipment rental in Spain and Scandinavia anyway? Remember, most of the major stock markets have not seen falls anything like 40% to 60%+ like the rental companies listed in the chart.
Plans for interesting acquisitions
Ashtead Group raised £150m by issuing new shares in August 06 to help in its US$ 1bn acquisition of NationsRent in the US, plus the issue of £550m of new senior debt. It may be a while before we see another consolidation of this size in Europe or the US, although Australia is another matter entirely (see below).
Lavendon Group acquired DK Rentals operations in Belgium, France and Spain in November 2007 for €87.8m (plus debt) which included €18.7m in Lavendon shares. Did anyone expect that four months later those shares would be worth only about €10m?
In the cases of Ashtead and Lavendon, it will now be difficult to convince the same investors to invest more cash, whatever the quality of the company to be acquired, after their last medium term share price decline.
Any good news?
To find publicly traded companies that have seen solid share price growth, and are still raising money on the stock markets, you only have to look at the other side of the world.
Publicly traded National Hire Group of Australia has successfully acquired its publicly traded competitor Coates Hire for A$2.2bn, partly with cash from US based Carlyle private equity group. National’s share price is up 48% since July 2007. The Australian rental industry is hearing more excited noises from Asian-based growth than it is uneasy murmurs of recession from the US and Europe.
The two publicly traded Indian equipment rental companies, Sangvhi Cranes and Gremach Infrastructure, have both seen their share prices increase, by 56% and 41% respectively since July. Gremach successfully raised US$50m in convertible bonds in December, which have their return linked to the company’s future share price.
Aggreko’s share price has suffered less than most, partially because they are less dependent on new build construction. Their exposure to Asia also helps, as they will be making lots of electricity in China for the Olympic games.
Reaction from the companies with low share prices
As the US rental industry may be talking itself into recession, we will see companies keeping a close eye on their cash flow. This will nearly always mean reducing capital expenditure. Not necessarily for the right reasons – that is, based on market requirements for equipment - but rather that fear of taking on extra debt will cause extra pressure on already low share prices.
For a while this may not hurt the manufacturers, since they will take many, many months to catch up from order backlogs produced by recent years’ demand, as well as demand from still buoyant markets, such as in Asia. In fact, if a slowdown, real or imagined, doesn’t last very long, some manufacturers may not feel a thing.
Low share prices will certainly make it more difficult for rental companies to raise large amounts of debt. There are three main reasons for this. The first is that large amounts of debt, outside the “normal” parameters of “healthy” debt to equity ratios, are often available, and priced, in risk-related tranches. The secured (on assets) portions of debt are cheaper than senior notes, mezzanine, or subordinated debt, which have part of their return linked to the share price, or indeed may be convertible into shares. This more expensive debt portion is exciting for the debt investors only where they can see the share price increasing in the near future. So, the most expensive tranches of debt may simply not be available at any price.
The second reason is that in a market with buoyant share prices, there is an implied ability for companies to sell more shares to investors to raise cash if they need to lower debt levels, now or later. Or, competitors with high share valuations could acquire companies with large debt levels more easily in the event of mild trouble.
The third reason is that the debt providers are easily worried about the ability for companies with large levels of debt to make repayments in the event of economic downturn, which is made worse by the current “credit crunch”. This is as much a reflection of the underlying economic forecasts as low share prices; the latter being caused primarily by the former.
Implications for private companies
The good news is that your publicly traded competitors will probably slow down their growth plans, or at least be seen to do so. So if you’re private, this may be a good time to expand, if you can raise the debt; don’t forget to ask the manufacturers to help you finance (they may be hungrier for business than last year anyway). The bad news is your exit strategy may be postponed if it involves going public or selling to someone who is publicly traded.
In conclusion, I predict optimistically that many of these share prices are lower than they should be, and will rebound, probably in less than a year. Until they do, however, expect that in Europe and the US big acquisitions by rental companies (not necessarily of rental companies by private equity groups) and mergers may have to wait. Capital expenditure will be kept under control, and larger amounts of debt will be a bit more scarce and expensive. For the short and mid term, for growth, mergers and acquisitions, the most exciting prospects seem to be in Asia and Australia.