Christopher Langner is a markets columnist for Bloomberg Gadfly. He previously covered corporate finance for Bloomberg News, and has written for Reuters/IFR, Forbes, the Wall Street Journal and Mergermarket.

Tim Culpan is a technology columnist for Bloomberg Gadfly. He previously covered technology for Bloomberg News.

Bond and stock investors in Car Inc. celebrated this week when the former China Auto Rental won approval to sell notes at home, potentially reducing exposure to a depreciating yuan. But currency risk isn't the exposure they should worry about.

Instead, investors should be concerned about the expansion the new debt will fund. Car's total fleet has almost doubled in two years, driven by purchases of long-term rental cars mainly to serve one client: UCAR.

Car Rally
Shares in Car Inc. rallied following approval to sell yuan bonds, before easing back again
Source: Bloomberg

UCAR is a relatively new chauffeured car business in Greater China. Unlike the ride-hailing companies with which it competes, such as Didi Chuxing and Uber, UCAR employs its own drivers and rents the vehicles in its fleet from third parties -- mainly Car.

Car's own long-term rental fleet increased almost fourfold in just 24 months. Chief Financial Officer Wilson Li told Bloomberg Gadfly that leasing to UCAR is the primary reason for that jump. The company's financial filings show that 92 percent of Car's long-term fleet was rented to UCAR at the end of the first quarter.

Flying Cars
Car Inc. boosted its long-term fleet more than threefold and almost doubled its total fleet after it started renting to UCAR
Source: Company filings

This increasingly tangled relationship already prompted Fitch Ratings to downgrade the company to BB, two notches below investment grade, while leaving the outlook negative. In the credit company's words:

The downgrade reflects the substantial and growing related-party transactions with Car's affiliate UCAR Inc., which has a weak credit profile.

It gets more complicated: UCAR is simultaneously an affiliate of Car, and its parent.

UCAR became Car's biggest shareholder in March, when it bought a 29.2 percent stake from the company's chairman, Zhengyao Lu, and Hertz Holdings. Meanwhile, Car owns about 8 percent of UCAR, with another 40 percent held by Lu and the management, 10 percent by Alibaba, and 5 percent by Warburg Pincus, Li said. Lu retired from his position as CEO of Car -- while remaining chairman -- in March, to become chief executive at UCAR. Both companies are based in Beijing.

The fates of the two have become even more intertwined. Including short-term leases, UCAR took about 36 percent of Car's rentals at the end of 2015, Li said. The subsidiary-turned-parent is thus Car's biggest client.

The idea of a captive client is attractive, except for the profit issue. UCAR lost 3.7 billion yuan ($553 million) in 2015, according to a listing prospectus it filed earlier this year. Given that the company has high fixed costs that Uber and Didi don't face, while competing in a similar market, turning a profit may be a challenge. (Li said the company has reduced losses per ride since last year.)

If it doesn't become profitable, Car and its shareholders are left with more than 20,000 vehicles that were being rented to UCAR sitting in parking lots. The company already has too many cars, judging by its utilization rate -- a measure of how much of its fleet is on the road throughout the month -- of 64 percent. By comparison, Hertz Global reported a 78 percent fleet efficiency rate in 2015, while Brazil's Localiza had a 73.4 percent utilization rate at the end of the first quarter. 

Boosting the fleet by almost 37,000 cars in two years may have another advantage, Li said. Some time in the next few years, Car predicts, local governments will start restricting the number of license plates being issued and the company wants to get out ahead of that move. But that's a big bet to make on regulators.

In the end, were it not for that UCAR demand, Car need not have spent a net 5 billion yuan on its fleet in 2015, almost three times the amount in the previous year.

Uber Spender
As Car almost tripled its expenses with new cars to serve UCAR, its operating cash flow sank
Source: Bloomberg

There's nothing wrong with taking on debt to grow. The issue here is that Car is funding UCAR's expansion. If UCAR suffers, Car shareholders suffer. If the parent becomes a surprise hit, they get only a small percentage of the upside. This relationship calls for some therapy.

This column does not necessarily reflect the opinion of Bloomberg LP and its owners.

To contact the authors of this story:
Christopher Langner in Singapore at
Tim Culpan in Taipei at

To contact the editor responsible for this story:
Paul Sillitoe at