China Auto Rental Inc. (699.HK, Not Rated): IPO Express Independent IPO Research 11 September 2014

Transcription

1 INSTITUTIONAL RESEARCH China Auto Rental Inc. (699.HK, Not Rated): IPO Express Independent IPO Research 11 September 2014 Recognized in China as ZuChe (CAR), the company provides short and long term vehicle rentals as well as vehicle leasing services. CAR operates 717 rental locations across China. It is the largest car rental firm in China in terms of fleet size. At the time of publication, CAR is expected to list on the Hong Kong exchange on 19 September. Current retail subscription for the IPO is strong. The private equity guys backing the IPO (Warburg Pincus, Hertz) provide some confidence on due diligence and corporate governance for the IPO. We like the macro story but the requirement for significant future funding for growth and expansion risks are reasons why we do not recommend participating in this IPO. Recommendation & Valuation HK$7.50-HK$8.50/share, implying market cap of HK$18.5bn or US$2.4bn at the lower end of the range. EV/EBITDA of 20X on trailing EBITDA is the mid-point between Hertz and Avis and significantly above peer averages. The IPO price is assuming significant growth over the next year and beyond. The firm is expected to achieve these growth targets through expansion of the fleet from IPO proceeds. Assuming 2014 growth of 50% and 25% for 2015 top line with EBITDA margins at ~35% we arrive at a back-of-the-envelope EBITDA of RMB1.75bn for This implies a valuation multiple of 12.8X, a slight premium to Hertz and the market but significantly below AVIS. The valuations are reasonable given expected growth. Key Negatives Non-Self Sustaining Business Model The rental fleet needs to be replaced every three years. The business has high capital costs and low ROA (3% 1H14, negative before 2014). The firm requires RMB2.6bn for vehicle acquisitions over the next 12 months. 65% of IPO proceeds will be used to double its current fleet (+44K-59K vehicles) over the next two years (half in 2015, half in 2016). The firm indicated 30%-70% equity to debt financing for the vehicles. Based on the prospectus, the firm is technically in breach of its debt covenants. RMB2.5bn of outstanding debt is on demand by banks. The IPO should help it recapitalise but the risks place a cap on growth without adequate access to future funding. Dependent on Resale Market Cash flows and investment returns depend on CAR s ability to resell vehicles at reasonable values after three years of operations. We assume some of these cars are sold to franchisees but the resale market is immature and lacks national distribution. Expansion Risks Current utilisation rates are 61.7%, below the industry average of 70%-80%. Management noted that utilisation rates have been intentionally kept low by expanding the fleet ahead of market growth or in line with the market to maintain market share and vehicle licensing. Big fleet expansions could reduce fleet utilisation and margins in the short term for CAR. Substitution, Upstarts and Intense Competition The rental market in China is very immature and highly fragmented. There are more than 10K car rental companies in China. We see this translating into new business models that could increase the level of competition in the space for an extended period of time. Additionally, internet business models and on-demand vehicle services could pose a short-term threat. Figure 1: Earnings Summary Year end 31 Dec FY11 FY12 FY13 1H13 1H14 Revenue (RMBm) 819 1,609 2,703 1,150 1,862 Gross margin 29.8% 30.6% 23.3% 27.4% 31.1% Adj. EBITDA margin 32.4% 45.3% 34.0% 40.3% 42.8% Net profit (RMBm) Net profit growth n/a 12.5% -68.8% nmf nmf Sources: The Company and Sun Hung Kai Financial Key Data Issuer: Type: Exchange: Ticker: Offer Price: Offer Size: Over-allotment Option: % of Enlarged Issued Share Capital: Enlarged Issued Share Capital: Tranches: Sponsor Coordinators and Lead Managers Auditor Major shareholders Hertz Holdings Haode Group Grand Union Amber Gem Sources: The Company China Auto Rental Inc IPO SEHK 699.HK HK$ m shares (100% primary) m shares (100% primary) 17.2% (pre-shoe) / 19.3% (post-shoe) 18.59bn (pre-shoe) / 19.07bn (post-shoe) Int l offer: 90% HK public offer:10% Morgan Stanley Credit Suisse Morgan Stanley Credit Suisse CICC China Renaissance EY (% ownership pre-ipo) 19.0% 15.8% 36.8% 23.1% FY13 Revenues: RMB2,702.71m Leasing & others 1.6% LT car rental 16.6% Used car sales 18.3% Stephen Yang, CFA (852) stephen.yang@shkf.com ST car rental 63.4% Reports available at: Bloomberg Code: <shkr> Sun Hung Kai Financial Institutional Research

2 Investment Positives Powerful Industry Growth Drivers - Strong growth trends for the China car rental business with the industry expected to grow at a 27% CAGR through 2018 according to research firm Roland Berger. a. Increased China consumer spending on leisure to benefit the auto rental business. b. China reforms limiting individual vehicle licenses. This encourages rentals. c. Increased corporate use of rental vehicles in China. China Rental Dominance and National Scale High capital costs and scale economies are significant barriers to entry, favouring the market leaders and industry consolidation. CAR has a dominant market share at 31% and a strong domestic brand. The next biggest competitor has 8%. The firm has an extensive network with 717 service locations in 70 cities and 202 franchisee service locations in 162 smaller cities. Its size and network coverage provide costs savings. Scale increases negotiating power for vehicle procurement and reduces average corporate overheads. Fleet utilisation can be increased by shuffling vehicles across its wider network. Improving Company Profitability The firm is expected to turn a profit in FY14 from improving operational efficiency, larger fleet and higher average daily rental revenue per short term rental vehicle. 1H14 net profit was RMB218m compared with RMB1.65m in 1H13. GPM improved by 3.7 ppts, from 27.4% in 1H13 to 31.1% in 1H14, and EBIT margin increased by 7 ppts from 13.5% to 20.5% in 1H14. Valuation Figure 2: Peer Valuation Table Ticker Company Market Cap YTD chg P/E EV/Sales EV/EBITDA (HK$ mm) (%) Car Rental HTZ.us HERTZ GLOBAL HOL 97, CAR.us AVIS BUDGET GROUP 51, RENT3.bz LOCALIZA 26, SIX2.gr SIXT SE 12, Average Sources: Bloomberg and Sun Hung Kai Financial Figure 3: Company Comps Ticker Company 2013 ROE 2014 Div Gross Operating EBITDA Profit CAGR Yield Margin Margin Margin Margin Sales EBITDA EPS (%) D/E Car Rental HTZ.us HERTZ GLOBAL HOL % 8% 53% na CAR.us AVIS BUDGET GROUP % 21% 403% na RENT3.bz LOCALIZA % 11% 1% SIX2.gr SIXT SE 14.5 na % 5% 10% Average % 11% 117% Sources: Bloomberg and Sun Hung Kai Financial Sun Hung Kai Financial Institutional Research 2

3 Investment Highlights Use of proceeds 65% of the IPO proceeds will be used to grow the fleet. The firm expects to use 30%-40% equity and 60%-70% debt to finance the procurement of 44K-59K vehicles. Approximately 10% of the proceeds will be used to develop new products and services. The remainder of the IPO proceeds will be used to repay maturing bank debt in 2015 and for general corporate use. Figure 4: IPO Proceeds Use of IPO Proceeds Proceeds Comment Fleet Procurement 65% 30-40% Equity and 60-70% Debt financing to procure 44-59K new vehicles Repay Existing Bank Loans 19% Loans expiring March and April 2015 Develop New Products and Services 10% Working Capital, General Corporate 6% Source: The Company The Company Mr. Lu, Chairman & CEO, founded CAR Beijing in The firm is China s largest car rental service provider. CAR offers short-term rentals, rentals of less than 90 days and long-term rentals of 90 days or more. Leasing is another service. The firm operates a fleet of 53K vehicles in 70 cities across China. Its network is supplemented by 202 service locations in 162 small cities operated by franchisees. The firm had two rounds of pre-ipo investment. Amber Gem, an affiliate of Warburg Pincus, acquired 86.1m Series A Preferred shares of CARH for US$200m. Amber Gem will own 18.8% of the issued shares post IPO. The second round of pre-ipo investment was undertaken by Hertz in Hertz will hold 16.8% of the firm post IPO. Figure 5: Post-IPO Shareholding Structure Shareholder % Interest Post IPO Grand Union 30.0% Amber Gem 18.8% Hertz Holdings 16.8% The Lu's Family 15.1% Amplewood 1.1% Grandsun 0.5% Grand Joy 0.4% Public 17.2% Source: The Company Sun Hung Kai Financial Institutional Research 3

4 Financials Income statement (RMB mn) Cashflow statement (RMB mn) Year end: 31 Dec FY11 FY12 FY13 1H13 1H14 Year end: 31 Dec FY11 FY12 FY13 1H13 1H14 Sales 819 1,609 2,703 1,150 1,862 Profit before tax (151) (132) (216) Cost of Sales (575) (1,116) (2,074) (835.3) (1,283.2) Adjustment (1,321) (872) 82 (313) 153 GP Chg in WC (13) 84 (453) (221) (208) Other income 2 (8) (7) Tax paid (1) (3) (3) (2) (8) Selling and distribution (107) (140) (153) (66) (41) Cash Flow From Operation (1,485) (924) (590) (533) 165 Admin Exp (149) (207) (378) (107) (149) Capex (41) (31) (32) (13) (70) Purchases of other intangible (12) (21) (28) (17) (10) EBIT (10) Acquisition of subsidiaries, ne (52) (4) (1) Finance cost (141) (270) (335) (152) (154) Other Investing Cash Flow (142) PBT (151) (132) (216) Cash Flow From Investing (103) (53) (224) Taxes (1) 0 (7) (1) (10) MI 0 0 (0) 0 0 Dividends (1) 0 Net income to shareholders (151) (132) (223) Chg. In Debt 1, , Change in fair value, net of tax (0) Chg. In Equity Total comprehensive income (151) (132) (223) Other Financing Cash Flow (155) (713) (140) Attributable to: Cash Flow From Financing 2,145 1, Owners (151) (132) (223) MI (1) 0 FX 0 (8) (9) 1 1 Net chg. in cash (59) FCF (1,538) (976) (650) (563) 84 Balance Sheet (RMB mn) Ratios (%) Year end: 31 Dec FY11 FY12 FY13 1H14 Year end: 31 Dec FY11 FY12 FY13 1H13 1H14 Cash and Equivalents ,064 Growth Restricted cash Sales na 96% 68% na 62% Trade Receivable EBIT na 1284% -14% na 146% Prepayments, deposits & other rece Net Income na 13% -69% na 13132% Others Inventories Total Current Assets 1,069 1,269 1,765 2,380 Margins GP 29.8% 30.6% 23.3% 27.4% 31.1% Other PPE EBITDA 32.4% 45.3% 34.0% 40.3% 42.8% Rental vehicles 2,414 3,541 4,024 3,958 Net Income -18.5% -8.2% -8.3% 0.1% 11.7% Intangible assets Others Returns Total LT Assets 2,699 3,790 4,402 4,607 ROE % % % 0.0% 10.2% Total Assets 3,768 5,058 6,167 6,987 ROA -4.0% -3.0% -4.0% 0.0% 3.1% ROCE -0.3% 2.7% 2.0% na 5.2% Interest-bearing bank & other borrow 1,542 2,496 2,248 2,530 Trade payables Leverage Other payables and accruals Debt/Equity 1574% 19291% 5225% na 198% Due to related parties Net Debt/Equity 1143% 13378% 4071% na 148% Due to shareholders ,598 - Current ratio na 0.8 Others Total Current Liabilities 2,819 4,519 4,491 3,111 Working Capital AR Days na 40.4 Interest-bearing bank and other borro ,563 1,701 AP Days na 2.6 Deposits received for vehicle rental Inventory Days na 26.7 Deferred tax liabilities Cash Cycle na 64.5 Total LT Liabilities , ,736.1 Shareholders' Equity ,140.0 Minority interests Total Liabilities & Total Equity 3, , , ,986.7 Source: The Company and Sun Hung Kai Financial Sun Hung Kai Financial Institutional Research 4

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Institutional Equities Contacts Address: 42/F, The Lee Gardens, 33 Hysan Avenue, Causeway Bay, Hong Kong Phone: Research (852) Sales (852) Web: Fax: (852) Research Stephen Yang, CFA stephen.yang@shkf.com (852) Nicholas Studholme-Wilson nicholas.studholme@shkf.com (852) Liang Zhang liang.zhang@shkf.com (852) Stuwart Chen stuwart.chen@shkf.com (852) Edward Chung edward.chung@shkf.com (852) Doris Ma doris.ma@shkf.com (852) Sales Richard Seaward richard.seaward@shkf.com (852) Andrew Scott andrew.scott@shkf.com (852) Charles Streeter charles.streeter@shkf.com (852) Katya Cheng katya.cheng@shkf.com (852) Katina Wong katina.wong@shkf.com (852) Kiki Wang kiki.wang@shkf.com (852) Dave Yin dave.yin@shkf.com (852) Sun Hung Kai Financial Institutional Research 5