Avis Europe - try smarter not harder

Avis Europe - we try harder - but it's a dumb business model
I inherited a few shares in Avis some 8 years ago. Since then (FY 2000) Avis has managed to destroy value in spectacular fashion. Revenues have grown at 1.1% pa over this time, wage costs at 3.2% pa, staff numbers are now 2.3% higher and dividends declined prior to cessation in 2004. Debt continues to climb.
It's a relatively straightforward business which is why small, independent operators with a few cars and vans in their fleets can compete with the vast 100,000+ fleets of the big players - Avis, Hertz and Europcar.
In essence, Avis buys new cars and sells them a few months later at a loss. As all motorists know, you lose thousands of pounds the moment the car leaves the showroom, although one would expect Avis to get much larger discounts than most buyers, to mitigate the impact. In between it hires out the vehicles and seeks to make enough money to offset the asset depreciation, to cover the cost of finance and to cover staff and vehicle maintenance costs. It is the classic perishable goods business - so the ability to maximise revenue is crucial and yield management (charge out rates x utilisation) is key.
As part of its marketing, Avis has coat-tailed the major flag carrier airlines such as BA. Indeed almost one half of Avis’s business is derived from airports. However, the national, full-service airlines are being slowly massacred by the low-cost carriers, such as Ryanair and Easy Jet. Avis is unlikely to find a suitable way to work with these more aggressive airlines, so the slow death will continue.
Similarly its purchasing policy has been linked to the walking dead for much of this period. GM has now entered Chapter 11. Hopefully Avis is not too heavily exposed as a creditor of GM in terms of the residual value guarantees or vehicle buy-backs the manufacturer undertakes. Even if there is no monetary loss now, the depreciation costs on discontinued vehicles will need watching in the future.
Avis is broadly stuck with its 6 to 9 month holding period. Its customers want the new car smell, and beyond 9 months the pre-resale rectification work on the vehicles becomes more material in nature and cost. Furthermore, Avis may well need to pay extra mileage costs if the agreed limit with the manufacturer has been exceeded.
Meanwhile, our small operator with a dozen cars or so has flexibility on his car holding period and indeed on the marques he buys. If the local Nissan dealer has some sales targets to meet and wants to sell a few cars at a keen price, the independent operator can take quick advantage.
Similarly, in day to day operation, the small independent probably has a white board or production ticket arrangement to show him his vehicle status. Other than the accounts system and the website, there is no massive investment in IT.
In Avis’s annual report there are some data on market shares albeit untimely. In 2006, the share were Europcar group 23.7%, Avis 18.3% and Hertz 15.2%. In 2007, the figures were 25.6%, 17.7% and 15.3%, respectively. In the current year it claims to be maintaining market share. Let’s hope so.
So what works for Avis? The licensing income is small but growing. This are the fees paid by third party operators for using the Avis name and charged on top of any fees for using the Avis marketing system. Should the whole business go to an "asset-lite" brand management operation like a hotel? Do these licencees have the fire in the belly that the agent or corporate outlets perhaps lack?
Looking at the finances, the deterioration in the Parent Company P&L follows an impairment charge of GBP113m. This has reduced the P&L reserve to GBP11m as at FYE 2008 and we are almost headed for a re-run of mid-2005. In June 2005, a 4 for 7 rights issue at 35p raising GBP117m gross and a share premium release were needed to patch up the GBP335m deficit in the Parent P&L reserve following a GBP396m writedown in 2004 of Avis Parent’s investment in its subsidiaries.
The rights issue may not happen this time as the writedown is based on a discount factor applied to future cashflows. It’s great what you can do with discount factors to come up with the answer you want!
Debt-wise, there is nothing major to pay back until next year when the first USD48m tranche of US private placements fall due. The last four years have seen an increase in net debt from operating activities. In 2005, the reported EUR35m decrease in net debt was after tapping shareholders for EUR175m while in 2007, the sale of the Greek business released EUR196.7m, leading to an overall EUR27m improvement in net debt that year. Therefore, the only strategy for now is to reduce the fleet size in order to release cash, and to raise prices to maximise contribution.
Interestingly the covenants on the debt facilities are based on EBITDA interest cover and net debt to EBITDA. Given the high level of operating leases in the business and the scope for large variations in the level of profits on disposal of the vehicles, the ratios don’t seem to catch much at all. Some measure of fixed charge coverage to include the usual financial expenses plus the cash operating lease payments would seem more appropriate accompanied by some debt to total assets calculation.
What next? For the business, a healthy dose of inflation would help it reduce the nominal loss of value on its fleet transactions. As a shareholder, my hope is for the D’leteran group, the 60% shareholder, to put me out of my misery. Dealing charges would consume a large slug of my holding’s current value! It’s good to see Odey asset management taking an interest but with 3+% (as of March 2009) they cannot do much. Avis may be a global brand in some people’s eyes, but flipping a penny stock is probably the main route to a half-decent return for investors such as Odey.