Avis Budget Group Inc (CAR) 2006 Q3 法說會逐字稿

Welcome to the Avis Budget Third Quarter Conference Call. Today's conference is being recorded. At this time, for opening remarks and introductions, I would like to turn the conference over to Mr. David Crowther, Vice President of Investor Relations. Please go ahead, sir.

Thank you, Irving. Good morning, everyone, and thank you all for joining the first Avis Budget Group earnings call. On the call with me today are our Chairman and Chief Executive Officer, Ron Nelson, our President and Chief Operating Officer, Bob Salerno, and our Executive Vice President and Chief Financial Officer, David Wyshner.

Before we discuss our results for the quarter, I would like to remind everyone of four things. First, the rebroadcast, reproduction and retransmission of this conference call and webcast without the express written consent of Avis Budget Group are strictly prohibited. Second, if you did not receive a copy of our press release, it is available on our website at www.avisbudgetgroup.com, or on the First Call system.

Third, the company will be making statements about its future results and other forward-looking statements during this call. Statements about future results made during the call constitute forward-looking statements within the meaning of the Private Securities Litigation Reform Act of 1995. These statements are based on current expectations in the current economic environment. Forward-looking statements and projections are inherently subject to significant economic, competitive and other uncertainties and contingencies which are beyond the control of management.

The company cautions that these statements are not guarantees of future performance. Actual results may differ materially from those expressed or implied in the forward-looking statements. Important assumptions and other important factors that could cause actual results to differ materially from those in the forward-looking statements and projections are specified in the company's quarterly report dated June 30, 2006 on Form 10-Q, included under headings such as "Risk Factors," and in our earnings release issued last night and filed on Form 8-K.

Finally, during the call, the company will be using certain non-GAAP financial measures as defined under SEC rules. Where required, we have provided a reconciliation of those measures to the most directly comparable GAAP measures in the tables in the press release and on our website.

Before I turn the call over to our CEO, let me briefly review the headlines of yesterday's press release. Our revenue from vehicle rental operations increased to a record $1.55 billion for the third quarter. EBITDA from our three operating segments was $141 million, excluding separation-related costs. And we updated our full year 2006 financial projections that we announced in July and reiterated in August.

Now I'd like to turn the call over to Avis Budget Group's Chairman and CEO, Ron Nelson.

Thanks, Dave, and good morning to everyone. Maybe a good place to begin is to quickly state the obvious. The separation of Cendant into four companies has been completed, with Avis Budget Group, Realogy and Wyndham now trading as separate public companies, and the sale of Travelport having closed in August.

As a legacy Cendant entity, we formally adopted our new name, Avis Budget Group, and effected a reverse stock split, which leaves us with just over 100 million shares outstanding. As expected, there was some heavy trading and stock price volatility in the first few weeks of August, although our volumes and volatility appear to have now settled into a trading range. As a result of being a legacy entity, however, our GAAP financial results this quarter reflect the various one-time expenses associated with the split-up, and that makes it somewhat difficult to discern how our core car and truck rental operations performed. We will try to provide some clarity on that front.

I should also note that we do expect to file our Form 10-Q next Tuesday, largely because the complexity of the tax calculations associated with the reclassification of former businesses as discontinued operations and the one-time items associated with the separation plan have caused our quarter close process to take longer than is usual for us. Amid this corporate activity, we believe that Avis Budget maintained its position as the leading car rental company at U.S. airports and the largest general-use car rental company in North America.

Our share of airport revenues remains near 32%. In the local rental, the off-airport segment, we opened 57 stores in the third quarter, bringing our year-to-date total to 131, and we remain on track to achieve our target of 200 new locations this year. In the quarter, our local market revenue grew 13% year over year, including 9% on a same-store basis, and the capital investment for this expansion continues to be quite manageable, even small relative to the growth opportunity we're capturing.

For the quarter, our insurance replacement revenue growth was greater than 60% year over year, albeit off a small base. More importantly, we entered into and significantly expanded insurance replacement account relationships and further expect to double our insurance replacement revenue year over year. We will end the year with about $750 million in local market revenue, up some 20% overall.

Before I turn the call over to Bob and David, let me spend a few minutes sharing some observations about the current climate that we find ourselves in. Clearly, this is an interesting time, to say the least. In the span of three or four months, our industry will have gone from being one which has been substantially private to one which will become substantially public. The amount of public equity capital invested in this industry will have grown at least three or fourfold, and industry dynamics and competitive results will become more transparent than ever before.

The irony of this is that it is occurring at a time when industry economics are being significantly challenged, a time when all three of the principal suppliers to our industry are losing vast amounts of money, cutting production and, in certain cases, grappling with deteriorating credit, and, at least for us, a time when we are completing one of the larger restructurings in corporate history. In short, this transitional time is a curious one for an industry to attract as much capital as fast as it seems to be.

So to paraphrase one of our suppliers, it makes identifying and successfully pursuing the way forward a lot more critical. For us, I see the way forward as having far more opportunity than it has problems. There is no question 2007 will be a transitional year, but the elements that are affecting us now actually are laying the foundation for a more vibrant future.

First, the simple notion that the majority of the industry is going to be publicly held is not new. As many of you know, the history of this industry over the last 30 years has been defined by industry players flipping between public and private. But in the category of timing is everything, the industry's move now into the public phase of its ownership cycle is particularly beneficial, as we believe it will result in greater discipline in many areas, and, in particular, pricing, something the industry has lacked over the last few years, and something the industry needs in the near term to overcome fleet and other cost pressures.

Second, within limits, I think it's a good thing that our suppliers are cutting back production. That may seem like a contrarian thought, but industry fleet levels, fleet mix and fleet cost have historically been driven more by the auto companies' need to keep plants producing because of guaranteed labor agreements than it has been by intrinsic demand in the car rental sector. That need to produce gave rise to higher fleet levels, lower fleet costs and more repurchase programs, all of which stagnated, if not impaired, realistic market pricing in our business.

Third, and finally, increased fleet costs are driving us to acquire more risk fleet, which clearly provide a cost advantage, but, just as important, it also means we are getting more control over the fleet decisions in terms of mix, hold periods and numbers of cars. I don't think any of these observations are, of course, without limits, and it is important to wrap them in some context. And the most important part of that context is the view that our industry still has a fair amount of pricing elasticity. We are almost always the most convenient and cheapest way to get to a destination for travelers having arrived at an airport.

The other part of the context is that we also believe that the used car market is highly dependent on market factors such as fuel prices, styling, the economy and consumer confidence. As a result, while we plan to be more aggressive in acquiring risk vehicles, we will likely be somewhat more measured than our competitors. This will result in us having somewhat greater forecasted fleet costs than others who are taking on more risk vehicles if their forecast of residual values actually proves to be correct.

I do think that, assuming a decent economy and more reasonable fleet cost increases for model year 2008, we will get to the necessary equilibrium between pricing and fleet cost over the course of 2007, which will put us on the road to restoring margins to normal levels. I also believe that some of the initiatives we are undertaking, some of which we'll talk about today and some we won't, will allow us to drive our top line and grow margins beyond traditional levels.

But make no mistake, financial results in 2007 are highly dependent on our ability to get pricing in both the commercial and leisure arena. While we continuously manage our costs as carefully as anyone, we cannot cut our way into growth. The full year impact of higher fleet and financing costs simply cannot be overcome with cost reductions.

So why am I optimistic? I think when you look at the core driver of our business, enplanements, while it has been soft this year for a variety of reasons, longer term it presages growth for our company. Overlay that with the fact that we are the largest on-airport rental car company, and it suggests that we will leverage that growth to a greater extent than all of our competitors.

Second, our margins are at a cyclical low. I do believe that fleet costs and pricing ultimately will come into equilibrium, and that will drive at least a return to normalcy. Third, I think coming out of a private phase in our life cycle, our businesses are underinvested. The early results of some of our new marketing initiatives, Cool Cars, Where2 and iTunes, are very encouraging. Moreover, other brand extension opportunities that take advantage of the strength of our brands and their position in the marketplace will ultimately drive incremental revenues.

.Fourth is the loyalty quotient. On the corporate side, we have had a 98% renewal rate among our corporate customers. As I have been getting around to talk to our largest customers, the dialog is rarely about rates, but rather about our longstanding and well-deserved reputation for service excellence. And then, finally, it's about new markets. For years we have left the local market, including insurance replacement, on the table, and allowed a competitor to dominate the space. I do not believe you can define yourself to be a leader in the vehicle rental market and leave half the market on the table.

I am mindful that others are pursuing this opportunity as well. It is a $10 billion market, and I suspect there is room for all of us. After all, given our leading on-airport presence, we're used to competing head to head and side by side with car rental companies of all sizes. My optimism principally relates to a longer-term look at our business, the way forward, if you will. We do recognize that we have a business to run one year at a time. And, having talked to several investors over the last few weeks, I'd like to ask Bob Salerno, our President and COO, to address the three issues that are uppermost on their minds -- fleet costs, pricing and margins. Bob?

Thanks, Ron. Beginning with the issue of fleet costs, three points. First, fleet costs continue to escalate in model year 2007. Two, we are confident this is an industry-wide issue. And, three, we are taking significant steps to mitigate the effects of rising fleet costs. For our model year 2006 fleet, our principal vehicle suppliers proposed year-over-year cost increases for program cars of over 20%, as measured on a per vehicle basis. Through various measures, we reduced the impact of that increase so that our overall cost per unit is averaging in the 10% area.

For model year 2007, our vehicle suppliers again proposed increases of approximately 20% on program cars, and we've taken the following actions. First, we are increasing the risk car portion of our model year 2007 fleet buy from 6% this year to approximately 22% next year. That's on an available car months basis, which is how we manage the fleet. This will result in a somewhat lower risk component in the calendar year because of averaging.

Second, we are modifying the mix of our fleet to reduce the number of specialty cars. Our purchases of SUVs and other premium vehicles are down 29% and 15%, respectively, and almost 50% of our risk buy has 4-cylinder engines. We've tried to be smart about our risk buy and manage the residual exposure by what we buy rather than what we have to sell.

Thirdly, we are holding cars longer. We hope to extend the average life across our fleet to approximately 10 months, or more than a month longer than 2006. This has the very real impact of reducing the need to purchase as many vehicles, and we expect through all of these actions, plus a modest increase in utilization, our 2007 fleet buy will be about 19% below 2006. Remember, this is our purchases that we plan to shrink, not our average fleet size.

Taken together, we estimate that these steps will permit us to bring our calendar year 2007 fleet costs, on a per vehicle basis, down to around 10%. We do have the opportunity to increase the risk portion of our fleet as time goes by, and our model year 2006 experience with risk vehicles has been very good. But, as Ron noted, we are probably not going to be as aggressive as other players in the market unless and until we have good clarity on the distribution of used cars.

Let me spend a minute on recent pricing trends. For the quarter, domestic time and mileage revenue per day was up 5% year over year, reflecting a sizable gain in leisure pricing but only a modest improvement in commercial rates. We continue to believe that, generally speaking, pricing is too low for the service we provide and for the cost of the assets required to provide that service and are taking every opportunity to maximize pricing.

On the commercial side, while we have been able to achieve modest price increases in commercial contracts renewed so far, they are below what we would've liked to achieve, as this sector has remained very competitive. We are frankly surprised that in the face of the higher industry wide fleet costs and the changing ownership structure of the industry commercial prices have not increased at a faster pace.

Based on historical patterns in the industry, we remain confident that conditions will normalize over time and that price increases will occur. However, the timing of those increases has been delayed compared to our 2006 business plan. Rest assured, the entire management team is keenly aware of the importance of maximizing pricing opportunities. We are taking all the appropriate actions to raise rates, while balancing this with the competitive nature of the industry.

Finally, let me spend a moment discussing our car rental EBITDA margins, where they are, have been, and also where they could go. Historical margins I'm going to refer to will be on a pro forma basis, incorporating our current capital structure and excluding transaction-related items. In 2006, our EBITDA margin for car rental was about 7%, which is down from over 8% in 2005, nearly 11% in '04 and 8% in '03. We see no reason why margins cannot return to the '03-'04 levels. We are aggressively managing costs, pricing, yield, revenue generation, commercial and affinity relationships and our infrastructure to get there.

Each of these earlier years had one thing in common. Pricing and fleet costs were moving in tandem. Unfortunately, there are a variety of trends in addition to fleet costs that are uniquely impacting our margins to varying degrees. Over the past 12 to 18 months, having a large commercial account base, a low risk fleet percentage and higher reliance on GM have all been negatives versus the overall industry.

The combination of these factors has caused our margins to come under greater pressure than the industry, as we unfortunately have been on the short side of all these. And, at the risk of repeating ourselves, we are taking steps to address all these. We are nearly tripling our risk fleet and reducing the GM component of our fleet by about 10 points. This will result in the GM portion of our fleet declining from 2006 levels by some 50,000 vehicles and by 100,000 units from our '05 levels. Finally, we are aggressively seeking price increases in both the leisure and commercial segments.

The one attribute that we don't want to change is our large commercial account base. We like having a balanced portfolio of commercial and leisure business, and, over time, feel that the commercial segment can and will support premium pricing for the services we provide. In addition, we believe the demand from this segment offers better visibility and less variability throughout a cycle than does the leisure segment. So, while the leisure activity has become relatively more attractive over the last year, we like our balance between commercial and leisure business over the long haul.

Going forward, what is going to increase margins, and why do we feel this can happen? Clearly we have to achieve equilibrium between pricing and fleet costs. The industry has displayed rational behavior on leisure pricing, and we expect the same to occur on the commercial side. While this has taken longer than we expected, we believe it will happen. As the fleet cost increases are an industry wide issue, and with all of us heading towards being public companies, we will all have to answer to our investors on a quarterly basis. David will review with you the earnings impact of pricing sensitivity, but I would just point out that, on an incremental basis, a 1% increase in price is almost a point of EBITDA margin.

While price is certainly a key focus, we have to look at other areas in which to either drive revenue growth or reduce cost, and one of the most obvious is improving higher margin with ancillary revenue streams. Our new Garmin Where2 GPS unit is a great example. It is a product that customers desire, are willing to pay for, and the incremental margins are substantial. Better serving consumer demand for our optional insurance product is another, and, frankly, perfecting counter upsells is a huge opportunity as well.

On the expense front, we are also looking for opportunities to continue to increase productivity and reduce costs. From 2002 to 2005, our operating and SGA costs per rental day, excluding fleet and interest cost, essentially remained flat. In 2006 we saw increases which outstripped revenue and productivity. Clearly, gas was one of the items driving the increase. But most of the unfavorability relates to maintenance and damage.

In late 2005, we returned to accepting debit cards and concurrently stepped up our leisure volume. This drove much higher levels of maintenance and damage than we were historically seeing. We implemented actions to control this in the back half of the year. Additionally, the further integration of Budget Trucks that we are implementing right now is another example of reducing costs in the back office area that do not impact our customer experience.

So, while 2007 will be a challenging year as we look to find equilibrium between fleet costs and pricing, we believe that, over the course of the cycle, that the EBITDA margins in the car business should certainly average in the high single digits and can easily reach the low double digits during better times.

With that, I'll turn the call over to David Wyshner.

Thanks, Bob. This morning, I would like to discuss our recent results, the steps we're taking to turn around our truck rental business and our outlook. As Ron mentioned, there are a number of nonrecurring items related to our recently completed separation that make year-over-year P&L comparisons difficult. As a result, I will focus on the results of our vehicle rental business and its three operating segments, in which the separation-related items are more easily understood. We've also provided year-over-year comparisons on a pro forma basis in Table 4 of our earnings release.

In the first nine months of 2006, we've grown Avis Budget car rental revenue by 8%, to $4.3 billion, generated pro forma EBITDA of $315 million and generated pro forma pretax income of $136 million. In the third quarter, we grew revenue 2%, while EBITDA, excluding separation expenses, was $141 million and pretax income, excluding separation costs, was $85 million.

Our revenue growth was driven by a 5% increase in car time and mileage revenue per day and a 1% decline in car rental days versus the prior year. Pro forma EBITDA declined 24% due to the double-digit fleet cost increases Ron and Bob discussed, and due to weaker results from truck rental.

Turning to our domestic car rental operations, revenue increased 2%, reflecting a 5% increase in T&M revenue per day, offset by a 3% decline in rental days. The decline in rental days mirrors a 4% decline in domestic enplanements, according to the preliminary airline data. Year-over-year drop in enplanements was particularly sharp in August, which is typically our busiest and most profitable month, and unfortunately it was impacted by a significant terrorism scare and disruptive changes in airport security rules. Interestingly, if you break out our 3% decline in third quarter rental days as to its components, you will see a 7% decline in leisure volume, but a 2% increase in commercial activity. As a result, domestic EBITDA, excluding separation costs, declined 20% in the quarter, to $73 million.

Our average fleet size decreased 3%, in line with our volume decline, but we still experienced a 9% increase in fleet costs due to the model year 2006 cost increases and the introduction of model year 2007 cars. Our operating expenses excluding fleet-related costs remained flat with last year as a percentage of revenue. Our largely variable cost structure and our cost saving initiatives allowed us to offset increased maintenance and damage costs. Nonetheless, the margins and returns we're generating domestically are below what we have reported in the past and what we believe we can achieve in the future.

Moving to international car operations, revenue increased 16%, driven by a 12% increase in rental days and a 3% increase in rates. The increase in rental days was driven primarily by our acquisition of the Budget Toronto and Melbourne licensees during the last year. On an organic basis, rental days increased 1% for the quarter. Reported EBITDA increased 7% in the third quarter, and EBITDA excluding separation costs grew 6% organically and 10% overall.

Finally, turning to truck rental, while the silver lining may be that truck rental represents less than 15% of our company, the cloud is that this business is underperforming. Revenue declined due to a 16% decline in rental days and 4% decline in time and mileage revenue per day. The rental day decline was driven by a planned 6% reduction in fleet and an unplanned decline in local commercial volumes. The decline in T&M per day reflected a decrease in one-way rental rates, which we believe is consistent with market trends.

Turning to earnings, EBITDA declined by $8 million due to the impact of higher fleet costs as we cycle out of very low cost legacy fleet and the effects on revenue of having a smaller fleet. These two issues were anticipated and were part of the projections we made in March and July. The remaining $10 million decrease, excluding separation costs, represents the underperformance of this business, which we are taking some significant steps to address.

We are adjusting our fleet mix, restructuring and streamlining our centralized truck rental operations, creating a separate local rental sales force and evaluating ways to reduce our reliance on third-party dealers. As a result, we will be closing the Denver truck headquarters and merging truck administrative operations into the existing back office of our car rental operations. Most of these functions will be merged into our existing sites in New Jersey, Virginia and Texas, to take advantage of the infrastructure and scale efficiencies of our car rental business.

This will result in the reduction of approximately 50 positions, equal to about 20% of current staffing levels in Denver. We've named a new head of truck rental operations, Joe Ferraro, who has 27 years of experience with Avis. We are purchasing more 24-foot trucks with lift gates to capture more midweek commercial business. We have established a new sales force focused exclusively on the commercial truck, insurance replacement and local market opportunities.

Lastly, we are undertaking a comprehensive review of our dealer network. We will identify and either fix or eliminate unprofitable locations. More importantly, we need to identify and rectify situations where our dealer network is not taking advantage of the market opportunity that is available. Strategically, along those lines, we believe it will make more -- it will make sense for us to operate more locations ourselves and have more combined truck and car rental operations in local markets.

The restructuring of the Denver headquarters is expected to be largely completed by the end of the first quarter of 2007, and we expect to incur a restructuring charge of $10 to $12 million in the fourth quarter of this year. These moves are expected to provide some savings in 2007 and costs savings of $5 million a year beginning in 2008. Though some of the restructuring actions can be completed quickly, others will take time to implement, especially the dealer network review and the expected strategic refocusing of this business. We believe we have the right team to turn around this operation. We continue to view Budget Truck as a core business with a meaningful number two position in its industry and significant growth potential.

So, within our Avis Budget car rental subsidiary in Q3, we had total EBITDA, excluding separation costs, of $141 million, depreciation and amortization of $23 million and net corporate interest expense of $33 million. This gives us $85 million of adjusted pretax income. On an ongoing basis, we expect our GAAP tax rate should be in the 38 to 40% range. Our cash tax rate will be substantially lower, as we're not a federal or cash taxpayer but do pay some state and international cash taxes. Our diluted share count is approximately 101 million.

We continue to invest in our brands and our infrastructure. Our Avis Budget car rental capital spending totaled $18 million in the third quarter, primarily for rental site renovations and information technology assets, and we remain on track to invest $70 to $80 million for the year. This investment includes an insurance replacement IT system that will seamlessly integrate rental information among insurance carriers, customers and us. We're also developing a new claims billing and management system that should reduce our damage expense through more rapid billing and increased collection.

Turning to our outlook, when we review the pro forma projections we provided in late July, we feel we are definitely trending toward the lower end of the ranges for the full year. This translates into revenue of approximately $5.6 billion, pro forma EBITDA of around $400 million, pro forma EBITDA less corporate interest expense of approximately $260 million and pro form pretax income near $165 million.

To try to avoid any confusion about how the math works, this translates into fourth quarter revenue of $1.3 billion, EBITDA of $85 million, EBITDA less corporate interest expense of $50 million and pretax income of $25 million, all excluding separation and restructuring costs. It is not currently our intent to issue specific quarterly earnings projections, but, since we felt it important to update investors on our full year projections, and we have three quarters in the books, we are, by definition, pinning down Q4.

Most of the trends we saw in our business in the third quarter are expected to continue in the fourth quarter. We did, however, have some long length of rental business in the fourth quarter of 2005 related to Hurricane Katrina that won't be there this year, and experience in areas where we self-insure for potential losses continues to be quite favorable.

I would like to highlight our projection of 2006 EBITDA less corporate interest expense of approximately $260 million. We think EBITDA less corporate interest expense, which is equivalent to pretax income plus non-vehicle depreciation and amortization, is an important metric for two reasons. First, among vehicle rental companies with different capital structures, this measure can be used to compare the companies' equity multiples. And, second, because we are not a federal cash taxpayer, we believe that this metric, over time, should correlate to free cash flow before capital spending.

Turning to 2007, we have completed most of our model year 2007 fleet negotiations, and we are nearing the end of our annual budgeting process. When we look at the actions outlined by Bob regarding fleet cost mitigation and pricing, the restructuring of our truck rental operation and an expectation that domestic enplanements will grow by a few points next year, we expect to grow our revenues, EBITDA and pretax income in 2007 compared to our 2006 pro forma results.

The extent of our growth is highly dependent on price increases. We believe price increases in the 4% range are necessary to overcome the impact of higher fleet costs as well as inflation in our normal operating expenses. This is comprised of about 2.5 points to address fleet cost increases and close to 2 points to offset other cost inflation. We are cautiously optimistic about our ability to achieve these increases, for the reasons Ron discussed. To assist you in your model building, I should note that each 1% change in total car pricing equates to about $40 million of EBITDA, and each 1% change in total car volume is worth about $14 million of EBITDA. As you can see, a little pricing can go a long way.

Nonetheless, our margins and our return on capital are not where they have been or where we would like them to be in either 2006 or 2007. Finding equilibrium between pricing and fleet cost has taken longer than we expected. But the history of this industry indicates that we should find a balance that is north of our current margins and returns, and we are excited about the positioning of our two brands as this occurs.

With that, Ron, Bob and I would be pleased to take your questions.

Thank you.

[OPERATOR INSTRUCTIONS]

We'll take our first question from Jeff Kessler, with Lehman Brothers.

Thank you. First, with regard to the truck rental business, it's a question that's probably been asked to you before, but when you folks originally bought Budget, when Avis, and Cendant, essentially, bought Budget, I guess I asked the question then and I'll ask it again, and I guess I got the same answer back then, is that why are you keeping the truck business? And the answer was, well, it's number two, the number two brand in the industry and that we have a lot of expectation for where that business is going. And I guess I have to ask you the same question, because I hopefully will get more than just the answer of why are you hanging on to a business that's been returning a lot less than the rest of your business is doing?

Well, I think there's a few reasons, Jeff. I mean, first of all, over the last two or three years, the truck rental business hasn't been returning a lot less than our other business. It's been doing well. And it actually has been improving, even when you take out the impact of the purchase price accounting on the legacy fleet.

Secondly, you know, I think that this is $500 million of revenue. It is in the vehicle rental business. It's underperforming, and I think that we can improve this business and get the margins up north of where car rental are. Thirdly, when Cendant owned this, we did look to sell it over -- at various points and times, and the truth of the matter was, we couldn't get enough money to justify selling it. So I think on an economic basis, it made sense, and, frankly, given its poor performance this year, would make even less sense to sell it.

I think the other thing, too, that you've got to keep in mind is that brand control is important. And it doesn't make you comfortable and warm and fuzzy if somebody else is out there with 30,000 trucks with your brand on them. So I think for all those reasons, we're committed to this business, we're committed to improving it, and we think we can.

Okay. On the commercial pricing area, where you folks are a little bit discontented with what you're getting, I kind of know what our business has given you and your major competitor in terms of pricing, and I kind of know where the largest companies are pricing. But there are three companies in this business, essentially the major commercial players. And if you're talking about there being significant price competition after you get over a certain point in terms of price increases, is that implying that one of the players is underpricing the industry to keep you from being able to get more than 4 or 5% commercial pricing?

I don't think that's the motivation. You know, look, I'll -- yes, the answer to your question is partially yes. I think one of the three players is being very aggressive on the pricing side. And I can only speculate on their motives. It may well be to turn around share declines that they've had over the last couple of years in preparation for an IPO, and I don't think that that -- although we have been able to get some price increases, I don't think that has abated to the extent that we would like it.

But we do feel reasonably confident that, look, at the end of the day I think these are all rational, smart people, and they know that their fleet costs are going up, and they're going to need to get pricing in a big chunk of their business in order to come to some equilibrium and build the margins and return on capital. So I think we're hopeful that it will turn around. But through the first 10 months of the year, it's been pretty competitive.

Okay. One of the longer-term projects of combining Budget and Avis has been to combine the physical plants, the actual lots and the people and the service areas at the airports. And I realize that it rolls over, over a period of time because of lease restrictions and things like that from the airports. I'm just wondering if you -- if I can get some idea of where you are in combining those -- combining the physical lots to basically gain cost and gain synergies from what you've gotten from your, let's just say, the front kiosks at the airports.

Hi, Jeff, how you doing?

Hey, Bob.

It's substantially done. There are, as you said, opportunities over time that continue to come up as the airports change configuration, logistical configuration. And as those arise, we are taking -- trying to take advantage of those. We're very still focused on keeping the customer-facing portions of our brand separate. We think that's healthier for our two brands. We like having the two brands so don't wish to combine them from a customer-facing standpoint. But as the logistical components of the airport change, we are attempting to take advantage of combining things behind the curtain, so to speak, to pick up further synergies.

All right. Your major competitor on the on-airport side has obviously made a concerted effort to get into the off-airport business, the auto replacement business, and they have a -- they're exhibiting a specific strategy to do that, which might be a little bit different than where Enterprise has gone in terms of trying to hold down its share of the business. Could you talk a little bit about the strategy that you're using? Because Avis talked years and years and years ago about getting into off-airport, and now I suspect that you're talking more about using the Budget brand to get into off-airport.

Well, I'm not -- I won't claim to be expert in what Hertz's strategy is in the off-airport market, but I can tell you that our strategy has two or three tenets to it. One is that we had to build our geographic distribution of sites. And, as you know, -- we'll add 200 this year, we'll add 200 next year. I think we'll cover somewhere between 80 and 85% of the population areas in the major urban areas with that distribution. But by the way, I don't think we'll ever get to the 5,000 or so that Enterprise has, but I don't think we need it for the insurance replacement business. So that's one.

Where are you now in number of sites?

We're at about -- we'll be at about 1,400 at the end of this year.

Okay.

With 200. Two, I think the insurance replacement business, and I think Enterprise's advantage over all of us is that they had an IT system that integrated with the insurance companies and the rental car agencies to make billing and notification seamless. We actually have spent the last two years building that system, and it went live two weeks ago. We're in the process of -- we've done demos for our existing customers. We're in the process of doing demos for our prospective customers, and it's very well received. But until that system got developed, we were not going to get an enormous amount of traction in the insurance replacement business.

Three, this is not just an insurance company sell. At the end of the day, not only do you have to sell the insurance company, but you've got to have feet on the street selling the local body shops and car rental, or car repair stores, and, if you recall, in our text and in our release, we've put a local sales force on the street that is specifically going after insurance replacement at the local level with the body shops, as well as going after commercial truck rental at the body shops, so we're getting a twofer, if you will.

Fourth, we're doing reasonably well in this. I mean, we're going to double our revenue this year. We'll probably double our insurance replacement revenue next year. And, as I said, it's a big market. I think there's plenty of room for all of us.

Okay. The final question, and that is, before the auto manufacturers bought up all the rental car companies back in the early '90s and basically got into this whole guaranteed buyback program thing, the companies that were involved in auto rental were effectively basically nearly 100% at risk at the time. There was a lot of discipline that was forced on these companies because of the need to monitor residual value versus the debt against those cars.

Are you stating, and did you imply at the beginning that by getting more heavily involved in an at-risk business, there would be more discipline that would be forced upon the industry overall in essentially maintaining fleet utilization as well as where your -- just basically maintaining where your -- monitoring where your fleet would be?

Yes, I think that's correct, Jeff. I mean, as we said in our release, we're probably getting into it a little softer than some others. We do know how to manage a risk fleet, as you stated. We used to do it, and all the people that used to do it are still here. But I think we want to see how it shakes out this year and how it goes before we get into it much heavier than we are already. I do believe, however, that the amount of risk fleet that is out there will force all car rental companies to think about their utilization and how they dispose of units and be very judicious about that. I do believe that.

Okay. What you're saying is that the people who were doing your at-risk business, they're still around at Avis?

That's correct, Jeff.

Because that is a concern of some people, that you guys have been on program cars for so long that you've -- you may have lost some of these at-risk experts.

We're all still here, Jeff. And, as a matter of fact, you know, we haven't totally been out of the risk business. While we've been heavily into the buybacks, we still sell quite a few cars over the docket at auctions, and, quite honestly, this year we've had pretty good success with it.

All right. Well, thank you very much.

Thank you. Moving on, we'll hear from Chris Gutek, with Morgan Stanley.

Thanks. Good morning. A couple questions. To start, I'd like to dig a little bit deeper into the profitability of the domestic car rental business, and first it's in terms of making sure we're talking apples to apples. If you take what you reported for EBITDA, add back the separation costs but then allocate most of what you're calling the corporate interest expense to the U.S. segment, you get an EBITDA margin of 3.5 to 4%, which is roughly half of what the other public company has recently reported and well less than half of what one of the other major competitors is looking at, and even though that other major competitor is talking about significant further margin expansion. So, first, would you agree with the definition, and, secondly, could you help us understand kind of issue by issue where those margin differences lie?

Sure. I think the analysis and the allocation of the debt that you've done does make sense. At the same time, I think that the top-line or that sort of analysis is awfully challenging from one business to another. I think there are some differences between -- that you can see in our margins domestically and internationally, and we expect that that's an issue among other folks. So, to the extent our mix is different from other folks, you'll see some changes there.

And the other key issues are the ones that Bob was talking about, where we are on the short side of commercial versus leisure compared to the more leisure-oriented public company that's out there, we do have a larger GM portion to our fleet, and that has been a negative place to be, and we also have had a smaller risk component this year than a number of other folks, and that has been a negative.

So we do think that is creating some near-term pressures on our margins compared to other folks. But, at the same time, I do think some of the comparisons to -- that are out there are very challenging because of combinations of domestic and international businesses, as well as adjustments and purchase accounting and other items that folks appear to have impacting their numbers.

David, could you elaborate maybe a little bit more specifically on the cost structure? We'd heard some suggestion that under Cendant the business had gotten maybe a little bit fat in terms of the corporate cost, in particular. It's kind of hard to imagine a lot of excess cost. But could you talk about to the extent there might be some low hanging fruit, and then to what extent, if there's not low hanging fruit, that management might have an appetite to take a much more aggressive look at the cost structure and consider some more radical actions to improve profitability?

Chris, we've heard a couple of rumblings along those lines, and, frankly, we think they're completely unfair. I saw all of our other businesses at Cendant, and the Avis management team, the team that's responsible for running the operations of Avis Budget now, has for a long time been one of the most cost-conscious and cost-aggressive that we have seen and I think is very effective in managing those costs.

We are aggressive in looking at our operating cost by region and by site on a daily basis. That's going to continue. It probably will become even more aggressive. But I think it is a part of the culture here that is continuing. And, as Ron said, our opportunities are on pricing and expansion. Trying to cut our way into growth is not likely to be the solution for us given the historical ability and focus on doing that. I think there are always some opportunities, but it is not a green field or untapped area for us. Rather, it's one that's pretty thoroughly mined, but that's not going to stop us from going through it again.

Let me just add three things that you shouldn't overlook in your analysis. I think with respect to two of our smaller competitors, they have a fair amount more franchise income than we do. And, as you know, that all drops to the bottom line and adds, at least by my calculation, a point or so to their incremental margins. Second, you know, as Bob pointed out, one of the expenses that is out of line with our revenue growth this year is M&D. And M&D went up because we returned to taking debit cards and we changed our leisure mix in this past year, and it reflected itself in the first half of this year with fairly substantial increases in M&D. We think we've gotten our arms around it now. We've got a much better system where we're doing credit checking on debit card renters. And we're going to bring M&D back in line.

And then, thirdly, and this is really not unique to us, but it may impact us more than the rest of the industry, is gas. You know, we all make gas revenue, because we charge, I don't know, $6.00 or $7.00 a gallon to refill it when somebody doesn't come in. When gas went up $1.00 a gallon over the course of this year, we didn't really feel like we could move that pricing. So what you had was, where you were making some margin on gas,that basically got eliminated in the first half of this year. It'll start to come back as gas goes down in the back half, and, assuming gas stays constant, we'll have some margin going into next year. So I think those are three things you need to [expense].

Okay, thanks. Two more quick ones, if I could. So to dig a bit deeper into the price increase, the revenue per rental day was down sequentially Q3 versus Q2, and the year over year growth rate decelerated because of easier comps in Q2 versus Q3, but, still, could you help us better understand what's happening with pricing, both on the leisure side as well as the corporate side? And what is the underlying price increase, for example, of this quarter versus last quarter, and what are you seeing so far into Q4?

Well, Chris, let me start off by telling you what's going on in pricing. I mean, on the leisure side, we do see, as we said, good movement, and pretty much across the industry. And this is kind of a continuation of what's been going on since last year. And it's been heartening, and we've had good increases on the leisure side. On the commercial side, I don't want anybody to leave thinking there are no commercial pricing increases. There certainly are.

And in a normal year, a year where fleet costs aren't going up to the extent that they are, we'd be actually quite pleased. The issue is that it's just not enough, in our opinion, to overcome the fleet costs increase. So we continue to push on that. And I think that we will be more aggressive on our own in commercial pricing. And then we also do believe that, as the industry really has to report in and show numbers, that it will allow further commercial price increases, and we will move very aggressively when that happens.

Okay. Ron, final question for you, kind of big picture question. Hypothetically, of course, given the current capital structure, would it be feasible or possible for the company to pursue a leveraged recap or potentially an LBO, and, secondly, to what extent would you have an appetite to move in that direction?

Well, you know, I think in terms of a leveraged recap, I think that's -- you might as well take the gun and point it at your head and shoot it, quite honestly. Because so much of our cost structure is dictated by the ability to finance and acquire fleet, and credit rating is important. And I think doing a leveraged recap is going to hurt your competitiveness in terms of your ability to price and [inaudible]the kind of margins you want. I actually think, within -- if you're talking about substantial leveraged recap, that's a zero sum game.

In terms of an LBO, look, that's not within our control. We certainly are running this company for the long term. All the actions we're taking are ones which are going to benefit the company on a long-term, ongoing basis. But, as we have said consistently, when somebody makes an offer, the board has a fiduciary obligation to consider it. And that's certainly not our -- not the direction we're moving in.,

Great. Thanks.

Thank you. We'll now hear from Zafar Nazim, with JPMorgan.

Yes, thank you. A few questions. I guess that's an extension of the previous question that was asked. On the commercial side of the business, you mentioned that you got some increases but not enough, but was your experience in getting commercial price increases during the third quarter similar to what you had in the second quarter, or was it better or worse?

Yes, I would think that in the third quarter it was pretty much along the same lines. I mean, I think our frustration here is an issue that there is a need for further and greater price increases and a lag in the industry, in the competitive nature of the industry, in allowing that. But it hasn't gotten any worse, so I would not characterize that at all. And you might say there are, late in the quarter, and as we are moving along now, you might see glimmers of hope, but it's a little too early to tell.

Spread fairly evenly through the year, or is there one quarter in which you have a spike?

No, I wouldn't say that there's any big spike. I would say that our increases have been fairly even throughout the year as the renewals have rolled up.

Okay. In terms of deliveries of the 2007 model cars, when do these start hitting you, and in fourth quarter, what will be the mix between '07 model cars and '06 model cars?

Well, we actually -- we started taking in '07 model year cars in July of this year. And I don't quite have in front of me the mix of what it's going to be in the fourth quarter yet. But we can -- we'll get that for you.

Okay. In terms of guidance for the rest of the year, you're looking for an EBITDA of 85, which is a small increase over last year's EBITDA. I guess I'm kind of struggling with getting to that number, given that EBITDA in the first three quarters has been down I think 25% and you've got higher fleet costs to contend with because now you have the '07 price increases, as well, in addition to '06, that have still not been passed through. So how can you give us more comfort as to whether you can hit an EBITDA number which is actually slightly higher than what you did in the fourth quarter of last year?

I think an important part of the issue is anniversarying the fleet cost increases last year. The price increases that we've seen in the third quarter were fairly significant, in the 5% range. And a big part of the issue is that we had not yet anniversaried the significant roll-in of model year 2006 vehicles. And, as a result, I think the fourth quarter dynamic on a comparable basis changes a bit. And that's why we're comfortable with the projections we have for Q4.

Okay. And, finally, on the truck rental side, any estimate as to when this business is likely to stabilize in terms of the top line [as well as] margins?

Well, I think you know, we've just started our restructuring plan. I think that we're thinking about over the course of next year it will see continued improvement, and by the time we turn into '08, we're hoping that we can have a normalized business.

I wouldn't underestimate one of the points that David made about looking at our dealer network and moving strategically to open our own locations. One of the things that U-Haul does very well that we don't do particularly well is sell boxes and related ancillary goods. Those are very high-margin items. That's very difficult to sell and get the margin from them when you're dealing exclusively with an independent dealer network.

And so the move to open up corporate locations where we can control that process and get a better volume on those high-margin items I think is very significant in getting the margins back to where they belong. And that is not a quick process. As you know, opening locations and establishing them can take anywhere from 12 to 18 months. But this is something that we're starting in earnest, and we're going to move as quickly as we can, because the bottom line is, it can't return fast enough, normal margins.

So, and how many locations do you think you'll have, corporate locations, by the end of next year?

You know, I don't want to speculate on it. We just hired a new guy to run it, and this has been his marching orders, and we're going to see his plan over the course of the next few weeks. We need to give him some time to get his sea legs, so -- but we can update you as time goes on that.

Okay. Thank you.

Thank you. We'll now move on to Michael Millman, with Soleil Securities.

Thank you. Also a couple of questions. Can you talk about the possibility of off-airport sites and how it differs in the U.S. and international?

Michael, I think in the U.S., when you -- when we look at our off-airport sites, different cost structure than the airport, but, all in all -- and different pricing than the airport, so, all in all, the actual profitability is quite similar to the airport, is what we see. Internationally, it's a smaller component of our business internationally except in Canada, where we have a pretty large off-airport infrastructure. But, again, there, it actually is quite similar to the Canadian airports and the Canadian operations.

I was asking that because Hertz seems to be suggesting that there's a long period before it's profitable, and that they have to look very carefully at their sites and weed out a lot of them. Do you see that as well? Does it take a long time to get these up to profit?

It takes for us somewhere between six and nine months to get it to the normalized profit we think it's going to operate at. The real key, we find, is that you have to spend time in where you're going to put it, and we do a lot of demographic research before we open a store, and it's reflected in the amount of closures we have, which are really almost nil. So, I mean, if you put it in there right the first time and give it a little time and effort, we generally find within six or nine months we're where we need to be.

Given that it has similar profitability and it has faster growth, are the earnings there growing faster than on the airport?

I think that's a fair way of looking at things. It's still a relatively small portion of the business, though, so it's hard to draw a lot of conclusions from that.

Because you seem to be focusing, or a lot of focus is on the profitability of that business going forward, so I'm trying to get some idea of where it goes. Also, I think you said that same-store sales growth was 9%. Was that correct?

Yes.

Is part of that basically a tenuring benefit?

There would be some in there, to the extent that there is some continued growth for a second-year site compared to a first-year site. But, as Bob was mentioning, the new locations do come up to speed relatively quickly. But there is layering, or tenuring, in fact, in there as well. And that should continue, with us having opened about 200 sites this year.

Well, just to beat a dead horse, we should assume that about 20% of car rental profit comes off airport?

I don't think we're going to get into profitability breakdowns between the on-airport and off-airport. Our disclosures are going to be based on the domestic business as a whole.

Moving to the risk cars, can you talk about what risk cars -- how they affect your debt expense?

Sure. The cap costs for risk cars tend to be a little bit less than they are for the program cars, and so there will be a little bit of a reduction associated with the debt expense with an average risk car compared to a typical program car. In the scheme of things, I think that effect will be relatively small. But it is a positive that we're factoring into our 2007 thinking.

Is there a negative that you might have to put up more equity?

No, there's really not, Mike. The issue in terms of how the rating agencies are looking at our program vehicles is that the amount of enhancement we're required to put up on program vehicles is very similar, if not identical now, between GM and Ford program cars and risk vehicles. So one of the reasons that risk vehicles have become relatively more attractive over the last 12 to 18 months is that there is no longer a credit enhancement difference between Ford and GM program vehicles and repurchase vehicles -- and risk vehicles.

And can you give some idea of how -- what, in fact, is the saving between the two?

The principal savings relates to depreciation costs, the slightly lower cap costs, and then where we can dispose of the cars in the market. And I think the opportunity that we've had this year and that we see ourselves having next year as well with the relatively small risk percentages in our fleet are that we can decide which models and which markets and which times of year we're disposing of risk vehicles, and that gives us an opportunity to reduce the aggregate cost, the aggregate depreciation cost, associated with the risk vehicles.

Can you quantify that?

I think we're reluctant to do that, but suffice it to say we do think that risk vehicles are going to -- they certainly have been less expensive this year, and we expect that they will be again next year, but we don't want to go into details about that.

And your third quarter 5% price increase, could you give us some idea of how mix affected that?

I'll have to follow up with you on that.

Okay. you had mentioned I guess to Chris's question about some of those additional costs. Can you quantify those impacts and where you -- and how you -- and --

I don't think we're going to get into any line item detail on our income statement, Mike. I mean, we're trying to give some guidance for things that explain the difference between our third quarter margin and others' third quarter margins, but I think we're not going to get into line item detail.

And talking about, following up on what you just said, Ron, Hertz seemed to be particularly optimistic about '07. Are they drinking out of a different fountain than you are?

No. Look, I hope everything that they say on their road show comes true, because by and large we have the same mix of business. We're both premium players. And if the market is good, then we'll both benefit similarly. What -- it does appear that they have more risk fleet than we do, so if the used car market holds up, then they'll enjoy a slight advantage on that. But, you know, I think we're just cautious about going forward into '07, and, believe me, I hope everything that they say is correct.

Great. Thank you.

And we'll take our final question from Emily Shanks, with Lehman Brothers.

Thank you. Just a quick question around the vehicle debt, is there a reason, or could you give a little bit of color as to why it's down sequentially quarter over quarter?

Sure, Emily. It principally relates to seasonality, I think. There's no significant change in how we're financing the fleet. The issue is that, at the end of June, we're pretty close to our -- we're much closer to our seasonal peak to support July and August summer leisure volumes, and over the course of September we reduce our fleet fairly significantly, and that causes the debt to decline, typically, from June to September.

Okay. Great. That's helpful. And then just one quick follow-up, because most of my questions have been answered. Will you be providing the supplemental data for Avis Budget, LLC as you did for the second quarter with full balance sheets, etc.?

Yes. That's a great question. We do expect to post the Avis Budget Car Rental, LLC financials next week.

Next week? Okay. Thank you.

And that's all the time we have for questions. I'll turn it back over to our speakers for any additional or closing comments.

No, I think that's it. I thank you all for joining our first call, and we look forward to talking to you at the end of the year. Thank you.

Thank you. That does conclude today's conference call. We thank you for your participation. Have a great day.