Test-Driving A Hertz IPO

Like so many people pushing or past 50, I've found my memory has turned into an alarmingly casual companion. Yet in June, when Ford Motor (F ) announced plans to sell stock in its wholly owned rental car unit, Hertz, the memory of Ford's earlier dealings with Hertz grabbed my head in a hammerlock. It's not letting go.

If this strikes you as oddly obsessive, perhaps you are right. Please bear with me, though, as I try to explain why Ford's handling of Hertz arrests me so. Long the No. 1 auto-rental agency, Hertz today boasts some 7,400 outlets in 150 countries. Cendant (CD ) owns the rival Avis and Budget brands, which together take a larger total share of the key U.S. airport market. Yet the Hertz brand has kept its preeminent standing. Revenues last year rose 12.5%, to $6.7 billion, powering a 130% advance in net income, to $366 million. All in all, it's a great business, and one that's been on a roll.

Ford took its first Hertz stake in 1987 and by 1994 owned the company outright. Three years later, it sold a minority interest in an initial public offering. Three years after that, Ford declared it wanted to buy the stock back. It did so in 2001. Now it's moving once again to sell a minority stake in an IPO, a prelude to eventually divesting Hertz entirely. If all of this strikes you as bizarrely ambivalent corporate behavior, you may be right again.

IT'S POSSIBLE THAT A BUYER, perhaps a private-equity firm, will bid for Hertz and win it before an IPO is cleared by regulators. But assuming the stock does come to market, it's worth recalling the terms of Ford's earlier Hertz deals. In the first IPO, Hertz had just come off a booming 1996, when net income surged 51%. Underwriters had little trouble selling 19% of the equity at $24 a share. The deal gave Hertz a stock-market capitalization of $2.6 billion, or 0.7 times sales and 16 times earnings.

With the millennium's roaring finish, Hertz kept prospering, as did public shareholders, who saw the stock top $64. Then, in 2000, the market rolled over, the economy followed, and that August, Hertz warned its outlook was dimming. The stock soon sank to $24.25, nearly back to where it started. Ford quickly offered to buy out public investors at $30 a share. That valued Hertz at 0.6 times sales and nine times earnings. Long negotiations with Hertz's outside directors raised the ultimate buyout price to $35.50, an equity value of $3.8 billion, or 0.8 times sales and 11 times earnings.

So, anyone interested in buying stock in Hertz now has three excellent guideposts: multiples where Ford was willing to sell; multiples where it was willing to buy; plus the low-ball multiples it once deemed fair. Ford did not respond to my questions about how the pending deal may value Hertz, and it has yet to declare the number of shares or estimated price in an IPO. The company may be hoping to sell stock again near 16 times earnings, as in 1997. On Hertz's $390 million in profit over the 12 months ended Mar. 31, 16 times earnings indicates an equity value of more than $6.2 billion. If instead we use multiples from 2001, when Ford was a buyer, the math implies an equity value for Hertz of much less -- somewhere in a range of $4.2 billion to $5.1 billion. To get a real steal, a buyer wouldn't pay over the nine times earnings Ford initially bid in 2000. That would put the value of Hertz's equity today at $3.5 billion. Remember this.

By Robert Barker

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