(This is a highly-abbreviated version of a full SumZero report republished with the author's consent)
Contributor: Dennis Hong
Source: Hedge Fund. Boston, MA.
Recommendation: Long Avis Budget Group (NYSE: CAR)
Timeframe: 6 Months to 1 Year
Recent Price: $16.35
Target Price: $26.00
CAR and the rest of the car rental industry have come a long way since coming close to death in 2009 when the sector faced rapidly declining volumes driven by the recession, a closed asset-backed financing market, and the eventual bankruptcies of GM and Chrysler (two key OEMs for the industry).
This perfect storm of events drove CAR shares to a historic low of $0.34. That brush with death proved a wake-up call for not only CAR, but for all the participants in the industry; that backdrop was the catalyst for widespread cost cutting, diversified manufacturer relationships, and a belief in smaller fleets and higher yields and utilization.
Today, economic and Avis Europe integration uncertainty have depressed multiples, creating a disconnect between fundamentals and valuation. With CAR shares trading at just under 6x 2012 EBITDA, a discount to historic forward multiples of 6-8x, current levels have historically been an attractive entry point for CAR shares. The shares are also trading at just under 7x 2012 P/E.
It should be noted that few buyers and sellers are informed participants of these names - and given the operating and financial leverage embedded in the business models - the names can become both undervalued and overvalued fairly quickly.
Business conditions have since improved, particularly in the United States, with volumes coming in better than expected as well as strong residual values in the used car market acting as a tailwind on the vehicle depreciation line (a 20% operating cost block). The European subsidiary integration is going well (and will likely prove to be more accretive than expected).
Sentiment could not be poorer on the name with most traders piling out of the name due to the botched Q4 call. As management executes against its business plan this year, shares could potentially trade up significantly versus its present levels (still implying a more reasonable mid-cycle 7x EBITDA multiple and an 10x P/E).
Lingering economic worries, concerns regarding the integration of their newly-acquired European business, as well as a poorly executed Q4 earnings call have driven Avis Budget shares to a trough valuation of just under 6x EBITDA or 7x earnings. At present trough multiple levels, the downside is limited unless we see dramatic declines in industry pricing and volumes as well as weakening used car residual values. By almost any standard measure, the shares are cheap going forward.