The financial structure options and the diligence approach

Private Equity Achieves Returns through Operating Improvements:

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say that that they took us seriously at all might be an overstatement.”

David Wasserman, Clayton, Dubilier & Rice

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2
3	Clayton, Dubilier and Rice, ‘Hertz Corporation Overview’
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	company opened the first rental car facility at Chicago’s Midway Airport and launched its first
	Fly/Drive car rental programme. In 1950, Hertz opened its first European location in Paris,




	Computerized Driving Directions, Hertz Instant Return, and the #1 Gold Club were introduced
	and expanded.6 Since 2001, Hertz has been listed as one of BusinessWeek’s Top 100 Global




	business line, Hertz RAC accounted for 84% of the company’s 2004 revenues of $6.7 billion,
	and 87% of its adjusted EBITA of $504 million. HERC accounted for the balance. Globally, the




	$17.9 billion in 2004,10 or over half of the $30 billion global industry. The top five auto rental
	companies in 2004 accounted for over 90% of the US market: Enterprise (33.4%), Hertz

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Insurance Replacement: This category—an offshoot of off-airport locations—included consumers who were referred by, or whose rental costs were reimbursed by, insurance companies because their cars had been damaged. Auto rental companies often established agreements with insurers to cover billing and payment arrangements.23 In 2004, US revenues were estimated to be $5 billion.24

Hertz’s Competitive Position

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30	Ibid.	6
31
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Planning the Investment Committee Meeting

To structure the initial investment committee discussion, Wasserman would have to provide a high-level evaluation of opportunities for operational improvements, a draft investment thesis identifying key issues for due diligence, a recommendation on whether to pursue an aggressive financing structure, and a plan to give the company an edge in the auction process. He would call on the operating partners for insight as to what was required to pull this off operationally and address the crucial question of the underperforming leadership team.


	The investment thesis would, as always, rely on an aggressive but achievable operational
	improvement plan. CD&R was capable of transforming complex process businesses and had




	each initiative by exit value contribution and likelihood of success, as well as identify
	controllable and non-controllable risks in the business – according to the following diagnosis




	deployed more capital. EBITDA/average fleet value was 19.8% in 2005 (compared to 23.8%
	and 21% for its main competitors). ROIC was not a priority – Ford was seen as an ‘ATM’ and



	incentives, an annual reduction of $275- $350 million in capital deployed seemed possible.

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	off-airport segment (dominated by Enterprise with 80%), Hertz had launched an ambitious
	rollout plan to develop national coverage. This had resulted in significant operating losses




	sufficient volume to offset operating expenses and its SG&A cost structure. It was a capital
	sinkhole. In Wasserman’s view, the company should focus on slower growth, improving




	and levelling regional hierarchies were abundant. Although Hertz Europe enjoyed higher
	prices and lower fleet costs than the US business, duplicated corporate overheads bloated




	Over $1 billion had been invested in IT systems, with marginal benefit to date. Execution and
	discipline were his watchwords. There was an opportunity not only to cut spending but also




	While the economics of Hertz looked promising to CD&R, its management did not. Led by
	chairman and CEO Craig R. Koch, the management team had been with Hertz for over 20

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	of the fleet to reflect market demand. Equity financing was the easiest way to achieve this.




	size in a downturn (like the one after 9/11) but also provide liquidity to exploit opportunities
	for future growth and expansion without having to refinance, and reduce cost of capital. The




	In recent years, RAC companies had issued limited amounts of asset-backed securities (ABS)
	that were secured by the fleet rather than by specific cars, usage of which was designed to




	and Deutsche Bank, who together held 80% of the car securitization market.
	Wasserman had already summarized the options for fleet financing (Exhibit 4). He now had




	earnings. Other car rental companies were currently trading at around 14x 2005 earnings.
	Historically, many car rental companies had been owned by OEMs (as Hertz was). Given the

5. Planning the due diligence approach

With bids due in three months’ time, the partners would need to focus due diligence on a few key areas. Wasserman expected them to push him to identify the most critical aspects of his investment thesis. They would require absolute clarity in these areas for CD&R to bid confidently. He needed to determine what these areas were.

leading consultant in the car rental space, and Deutsche Bank and Lehman Brothers led the

ABS financing sector. Wasserman wondered if CD&R should look to partner with these

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	he was excited about the Hertz deal because of its complexity, seeing an opportunity for a




	that Hertz, upon exit, would be a winner for investors.
	Scanning an email exchange with CD&R Chairman Don Gogel and Investment Committee




	He took a deep breath as he walked to the conference room to start the meeting.
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	2005E

Revenue

Source: CD&R

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	*Refers to one-off CapEx savings, not EBITDA savings
	Exhibit 3
	Hertz Balance Sheet

	Cash, equivalents and short-term investments

	Notes payable, including commercial paper
	Interim credit facility (1)	1,619.8
	Holdings note (2)	1,185.0
	Senior notes
	Asset-backed securities	600.0
	Foreign subsidiaries debt
	Total debt, including current portion
	Total stockholder’s equity
	Total capitalization	$11,670.5

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Options for Fleet Financing

could be recalled and reissued as
fleet needs demanded

and liquid historically, but Hertz’s contemplated issues were larger

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In preparation for our Monday morning discussion on Hertz, Jack Walsh, senior operating partner at CD&R and the former chairman and CEO of Great Enterprise, has prepared the attached letter summarizing his opposition to the deal. As you all know, Jack has provided CD&R with great business insight on many past deals -- those that we have consummated and those that we have walked away from.

Jack has asked me to share his memo with all the partners prior to our Monday meeting.

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Exhibit 6

Letter from CD&R Investment Committee Member Jack Walsh to CD&R Partners

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