It's Different This Time

April 1, 2001
Blair Brumley has covered the rental industry for several years as vice president, equity research, for Credit Suisse First Boston's Chicago office. Last

Blair Brumley has covered the rental industry for several years as vice president, equity research, for Credit Suisse First Boston's Chicago office. Last year Brumley co-moderated a roundtable — with RER — on current changing economic conditions and their impact on the rental industry. He recently sat down with RER's Michael Roth for this interview.

RER: Many economists and rental industry participants think a major slowdown is on the horizon. Roundtable participants seemed to believe that the best strategy in a slowdown is to expand the business — add product lines and seek new markets and geographic areas. What about rental companies that lack the capital?

Brumley: This is an area where the words most dreaded on Wall Street — “It's different this time” — may in fact hold true. So much consolidation has already taken place that the aims of growing through a recession — increased geographic and served market diversity — have already been addressed in a number of cases. Also, this downturn doesn't appear likely to drive down valuations of properties that might become available for purchase to any great degree. Thus, the economics of acquisitions aren't likely to stimulate more M&A activity this time around.

Might valuations of rental companies rebound?

I would hope things could only get better from here, but I would not anticipate a return to the eight to 10 times trailing 12 months' EBITDA multiples we saw a few years back. We now refer to that period as the “land grab” phase, with multiple players looking to establish themselves in key geographic markets and bidding up prices as a result. We do not foresee those conditions returning.

Do you expect to see an increase in consolidation among equipment manufacturers? And if so, what will drive this trend?

No question. There already are clear distinctions being made between winners and losers among the OEMs, and the pressures will only intensify during an economic slowdown. The rental channel is providing the marginal driver of unit demand. Manufacturers that are unable to effectively address the channel will face significant issues.

There has been much discussion of manufacturers' directly entering the rental channel, i.e., Atlas Copco buying rental companies, Caterpillar and Komatsu developing their own networks. Do you expect to see more of this during the next few years and why?

We expect some of the major rental chains to eventually be owned by major OEMs. As noted, the industry is clearly here to stay, and its growth is being driven by pure economics. Because of the complication posed by trying to satisfy the needs, wants and desires of both the traditional dealership system and the rental channel, it may be much easier to own one or both outright.

After a brief flirtation, most Wall Street investors lost interest in the rental industry? Why did that occur, and what might it take to demonstrate the industry's legitimacy and viability?

For a time, the process of consolidating the industry drove significantly better-than-average earnings growth for the public rental companies. When concerns about the availability — both in absolute terms and the relative cost of capital to continue driving the process — arose, valuations were compressed. The embedded assumption in that behavior on the part of investors is that consolidators are one-trick ponies, unable to effectively implement the operating business model once they build a sizable network. We believe that to be true only in situations where the consolidator makes a conscious choice to focus only on building a network and flipping it and not on running the business.

We're seeing several alliances between rental companies and home-improvement centers. What potential for success do you see in these efforts, and is the rental department within a home-improvement center really a viable model for both the rental company and the home-improvement store?

RER readers know well that these concepts are not new, and to date, successes have been few and far between. The key today is still what it has always been — maintaining the equipment made available for rent from these locations. If an effective means of doing that is an afterthought rather than an integral thought in pursuing this kind of arrangement, it will almost certainly fail.