聯合設備租賃 (URI) 2006 Q4 法說會逐字稿

Good morning, ladies and gentlemen, welcome to the United Rentals fourth quarter and full year 2006 investor conference call. Please be advised that this conference call is being recorded and is copyrighted by United Rentals Inc.

Before we begin, the company has asked me to remind you that some of the comments made on today's call and some of the responses to your questions may contain forward-looking statements. United Rentals' businesses and operations are subject to a variety of risks and uncertainties, many of which are beyond its control. And consequently, actual results may differ materially from those projected by any such forward-looking statements. A summary of these uncertainties is included in the safe Harbor statement contained in the Company's fourth quarter and full-year 2006 earnings release.

For a fuller description of these and other possible uncertainties, please refer to the Company's annual report on Form 10-K for the year ended December 31, 2006, as well as to its subsequent filings with the SEC. You can access the Company's earnings releases as well as its SEC filings on the Company's website at www.unitedrentals.com, using the link captioned access investor relations. Please note that United Rentals has no obligation and makes no commitment to update or publicly release any revisions to forward-looking statements in order to reflect new information or subsequent events, circumstances, or changes in expectations.

During the conference call, references will be made to free cash flow and to EBITDA, each of which is a non-GAAP term. United Rentals' third-quarter 2006 earnings release explains these non-GAAP terms and includes a historical GAAP reconciliation for each.

Speaking today in Greenwich for United Rentals is Wayland Hicks, Chief Executive Officer, Martin Welch, Chief Financial Officer, Michael Kneeland, Executive Vice President of Operations, and Chuck Wessendorf, Vice President Investor Relations and Corporate Communications. I will now turn the call over to Mr. Hicks. Mr. Hicks, you may begin.

Thanks, Chris, and good morning, everyone. Thank you for joining us today. I am going to open the call by covering the highlights of the quarter and our full-year results. I will also touch on our 2007 outlook and how we see the year in front of us shaping up. Marty Welch will then review our 2006 financial performance and provide additional details for 2007. Michael Kneeland will follow Marty. He will talk about our current business environment and more about what we see for 2007.

Now as for 2006, our business performed extremely well in both the fourth quarter and the full year. For continuing operations without Traffic Control, which we serve sold earlier this month, revenue of $939 million for the fourth quarter was up 5.5%. Operating margins of 18.5% improved by 2.3 percentage points. Our diluted earnings per share for the quarter of $0.71 grew by 34%. Our strong earnings were driven by improved flowthrough on the gross margin line and a significant reduction in SG&A as a percent of revenue.

Now, I will talk more about this in a moment, but actions that we have been taking should help us achieve continued improvement in our SG&A ratio throughout 2007. Operating income for the fourth quarter of $174 million was 21% higher than the fourth quarter of 2005, reflecting the continuing strength of our core business. EBITDA for the quarter rose 15% to $291 million, up from $253 million a year ago.

Now, turning to our full-year results. Our total revenue of $3.64 billion was up 10.7%, including rental revenue growth of 8.2% and Contractor Supplies sales growing at a pace of 28%. Contractor Supplies is our fastest-growing revenue stream and one that has very significant market potential. As we continue to improve our gross margins and inventory turns with our new regional distribution system, the attractive return on invested capital this business already has will continue to get even better.

2006 diluted earnings per share of $2.28 represented a year-over-year growth of 18% and were a record for the Company. We generated $249 million of free cash flow, while at the same time, making major capital investments in the business. As a reminder, our free cash flow included buying out a total of $59 million of equipment operating leases, which is effectively the equivalent of reducing debt by a corresponding amount. Our strong focus on return on invested capital resulted in an improvement of 1.8 percentage points to 14.7%. As I said before, we are committed to significantly improving this metric as we go forward.

Although we expect to see a somewhat slower pace of growth in private nonresidential construction in 2007, we feel more positive about the economic environment we will be operating in than we did at the time of our third quarter call. However, our plan for growth capital will be about what we thought at that time, and our focus will continue to be on improving return on invested capital. Marty will provide some additional details on this in a few minutes.

Now turning to 2007, our outlook for earnings per share is a range of $2.65 to $2.75, compared to $2.28 in 2006, on revenue of $3.85 billion. We also plan to generate $150 million to $200 million in free cash flow, while investing a total of $900 million to $950 million of capital, including $125 million in growth CapEx. We are planning to open 30 to 35 new branches in 2007, which is similar to what we have done over each of the past two years.

Finally, we have consistently talked about a number of important Company goals. Driving profitable revenue growth, increasing our operating margins, generating free cash flow, and I would add in any environment, and improving our return on invested capital. During the last three years, we have improved our operating margins from 15.8% to 17.2%. During that same three-year period, we generated free cash flow of more than three quarters of $1 billion. We did this at the same time that we were making very significant investments in growth opportunities.

As I mentioned earlier, we improved our return on invested capital last year from 12.9% to 14.7%, and our outlook for 2007 includes improving our return on invested capital by another percentage point to 15.7%. Our actual performance, as well as our outlook, are consistent with our basic business strategy, which is to balance growth with improvement in return on invested capital, while at the same time, generating substantial free cash flow. We believe this approach maximizes long-term shareholder value.

With that, I will turn the call over to Marty Welch. Marty?

Thank you, Wayland, and good morning, everyone. Wayland has given you some of the highlights of the quarter and has covered our progress on several of our key initiatives. Now, I will discuss our results for the quarter and full year, and review our outlook for 2007.

As you know, we recently completed the sale of our Traffic Control business and our fourth quarter and full-year 2006 results reflect Traffic Control as a discontinued operation. Unless otherwise indicated, my remarks this morning relate to the performance of our continuing operations and exclude any impact associated with our Traffic Control business. In particular, I continue to be pleased with our progress on three fronts, which we have been tracking, as you know, as focus areas for our business.

First, growing overall revenues. Total revenue for the fourth quarter increased 5.5% to a record $939 million. On the year, revenues grew 10.7% to $3.6 million. We expect to see revenue growth moderating in fiscal 2007, as we pursue balanced growth opportunities on a market-by-market basis.

Second, improving gross margins. Overall profitability improved year-over-year as well, with gross margins in the fourth quarter reaching 37%, up 1.6 percentage points from 2005. This reflects improvements in both equipment rental and Contractor Supplies. Gross margins for the year were a record 35.4%. Additionally, our operating margin improved 2.3 percentage points to 18.5%, as compared to 16.2% in the fourth quarter of 2005.

Third, improving return on invested capital. Last year, we initiated reporting of ROIC as the best indicator of how efficiently and effectively we are employing capital, and as a metric that is central to increasing shareholder value long-term. As I noted, we use ROIC internally to measure our progress. This critical metric was 14.7% for the 12 months ended December 31, 2006, an improvement of 180 basis points from 2005, reflecting our efforts to pursue profitable growth. We will continue to work on ROIC in the coming year, with a goal of an additional 100 basis points in 2007.

Now, let me turn to the quarterly P&L on a segment basis. In our largest segment, General Rentals, we continue to see strong overall performance. Revenues were up 6% to $888 million. This growth reflects improvements in our rental rates, which were up 4.2% in the quarter on a larger rental fleet, and a 0.7% increase in same-store rental revenues, as compared to a 10.3% increase in the very-strong fourth quarter of 2005.

During the quarter, or dollar utilization of 63.6% was essentially flat versus the prior year. Overall, we were pleased with our total revenue growth. In a moment, Michael will give you some details on how we performed in various geographies. In addition to seeing overall top line improvement, the profitability of General Rentals also improved. Operating income increased 21% to $159 million, as compared to $131 million in the prior year.

Turning to our Trench Safety Pump and Power segment, revenues for the quarter was $51 million, which represents an increase of $1 million year-over-year. This modest performance reflects softness in the housing market and the absence of the benefit we received in the prior year in the pump and power business from Hurricane Katrina. Our operating income improved $2 million, or 15%, to $15 million.

Returning to consolidated profitability, full-year equipment rental gross margins were a record 38.9%, an increase of 2.2 percentage points. For the quarter, equipment rental gross margins were 40.4%, an increase of 1.4% over the prior year. Contractor Supplies gross margins were 21.6% on the year, reflecting a fourth quarter performance of 29.9%. The quarterly improvement in Contractor Supplies gross margins was largely the result of a $7 million reduction in our inventory reserve. However, even absent this adjustment, our Contractor Supplies gross margin would have been 22.7% on the quarter. While this is essentially flat with prior year, it would represent a recovery of 310 basis points from the third quarter's performance.

The quarterly sequential margin improvement in Contractor Supply represents -- reflects improved inventory turns. As this business continues to grow in fiscal 2007, we expect to leverage these turns to further improve our return on capital.

SG&A of $613 million was 16.8% of revenue on the year. During the quarter, on a dollar basis, expenses were flat compared with 2005, but decreased 1.1 points as a percent of revenue to 17%. We achieved this SG&A improvement as we were able to effectively offset increased selling and benefit costs with reduced professional fees and lower bad debt provisions.

We achieved an $8 million quarterly reduction in the level of professional fees for restatement matters. Also, we reduced our days sales outstanding from 53 to 51 days year-over-year through better credit management and improved collection efforts.

As Michael will discuss shortly, we are moving forward on several initiatives, which we believe will further reduce expenses and enable us to gain additional SG&A leverage. Our expectation is that we will see further year-over-year improvement. Our continuing operations diluted EPS for the year was $2.28 on a share count of 114 million shares, compared with $1.93 on a share count of 110 million shares in the 2005.

Looking at are consolidated cash flow for the year, our cash flow from operations was $858 million compared with $629 million in the 2005 period, largely resulting from improved profitability in working capital. As noted, we improved our cash generation by reducing our days sales outstanding and improving our Contractor Supply inventory turns from two times in 2005 to 2.8 times in 2000.

Turning to capital expenditures for the year, we invested $879 million in our rental fleet compared with $757 million last year, an increase of $122 million. Our non-rental CapEx for the year was $86 million, a $20 million increase versus last year. During the quarter, we opened eight new branches and achieved our target of 36 new branches for the year. Our outlook for store openings in the coming year is 30 to 35 stores.

Free cash flow for the year was $249 million, as compared to $128 million last year. The improvement in free cash flow reflects the improved profitability of our business, as well as working capital improvements. In addition to achieving strong free cash flow during the year, our EBITDA margins also improved. Our EBITDA margin of 31% for the fourth quarter represents a 2.6 percentage point improvement versus 2005.

Now, let's take a moment to review the balance sheet. Total assets were $5.4 billion, including the net book value of our rental equipment of $2.6 billion. Our total debt, including subordinated convertible debentures, at December 31, 2006 was $2.7 billion, down $450 million from December 31, 2005. As of February 26, we had borrowing capacity under our revolver and accounts receivable securitization facility of approximately $793 million.

Before turning things over to Michael, let me discuss our expectations for 2007. Our EPS range is $2.65 to $2.75 per share. This is based on an anticipated full-year diluted share count of approximately 113 million shares. This range does not reflect any provision related to regulatory issues and related matters.

Our revenue, EBITDA, and free cash flow guidance is as follows. Total revenue of $3.85 billion in 2007, EBITDA of $1.2 billion, and approximately $150 to $200 million of free cash flow after investing between $900 million and $950 million in CapEx. Our free cash flow expectation excludes the $68 million of proceeds we received on the sale of our Traffic Control business. Our free cash flow forecast also reflects the fact that we expect to pay approximately $131 million of cash taxes in 2007, as compared to $18 million in 2006, as we burn through our NOL carryforwards. We are forecasting a tax rate of 38.8% and ROIC of 15.7% for 2007.

That summarizes our outlook, and now I would like to turn it over to Michael Kneeland, who will provide some color on the operational aspects of our business. Michael?

Thanks, Marty. Good morning, everyone. As we announced yesterday, we continue to drive profitable, disciplined growth, as reflected by our record results and higher return on invested capital. We had a positive operating environment to work with last year, and, in fact, we are now entering the fourth straight year of positive market conditions. Although our primary end market is projected to expand at a somewhat-slower pace in 2007, we see continued opportunities to drive our top and bottom lines, not just with equipment rentals, but with cross-selling Contractor Supplies, new equipment, and third-party equipment service.

In 2006, the strongest demand for equipment came from the commercial, retail, manufacturing, and healthcare sectors. That is a healthy mix and from what I have been able to see so far this year in 2007, it is pretty much the same. Now turning to specific market conditions by region, we saw year-over-year growth in all areas of the U.S. and Canada last year, with the exception of the Midwest and Northeast regions. However, as we went through the fourth quarter, we began to see slight improvements in both of these markets. I will talk about them a little more in detail in a minute.

The Southwest region continues to be an area of growth for us. Arizona, Las Vegas, and Southern California in particular have a number of large commercial and retail projects under construction. Although residential construction is not our primary end-market, a slowdown in residential construction has had some impact on our General Rental locations in California due to the high concentration of branches that serve the homebuilder market. Our trench pump and power segment experienced slower growth in the fourth quarter, again, due in part to the decline in residential construction, but we also had a very quiet hurricane season in 2006, which impacted the year-over-year comparisons for the segment of this business.

The three best performing regions in the Company in 2006 were the Gulf, the Southeast, and Northwest. Demand for equipment in the Gulf region, Gulf Coast region continues to be very positive, particularly in the oil refinery and manufacturing sectors, such as the Barnett Shale exploration in northern Texas. Also, the Dallas market was a growth area for us all year and is still going strong in the first quarter.

Now shifting to the Southeast, Florida continues to show growth, as it did throughout 2006. Some of this is driven by the reconstruction of storm damage, but there is also sustained growth in commercial construction, particularly in South Florida. Canada, as a whole, remains strong in 2006, led by the provinces of Alberta and British Columbia. The market economy in Western Canada is being driven by the giant tar sands project in Alberta, and the construction of the 2010 Winter Olympics in British Columbia, both of which are big projects for us.

Now turning to the Midwest and Northeast regions, as I mentioned earlier, these areas were sluggish in 2006 and we only began to see modest growth in the last half of the year. However, as previously noted on our calls, business conditions in both regions appear to be improving. In the Midwest, several large projects are now underway, such as the Honda car plant in Greensburg, Indiana and the Indianapolis Colts stadium.

Conditions in the Northeast were frankly a disappointment in the first half of 2006, but we saw improvement in construction activity during the back half of the year in markets such as Philadelphia, New Jersey, and New York City. Current high-profile projects include Yankee Stadium, the New Jersey Devils hockey stadium, and the early stages of the new World Trade Center to name a few.

Now considering the market -- the favorable market conditions, we are project in certain markets we will continue to build our branch network through cold starts, as well as expanding the size of our sales force to increase our market penetration. In 2006, we opened 36 new rental branches. Since 2005, we have opened a total of 72 cold-start locations. We have also closed or consolidated 39 underperforming branches, but our overall footprint has been one of growth.

Our plan for 2007 calls for the opening between 30 and 35 new locations in North America and improving or consolidating four additional locations. Cold starts continue to be a key part of our growth strategy. We have made a substantial investments in branch openings over the past several years not just to capitalize on current demand, but to position our Company for future growth. For example, the cold starts we opened in 2005 brought in $85 million of revenue, with a 17% operating margin in 2006.

Shifting now to Contractor Supplies, we became more efficient at this business in 2006. We reduced our overall inventory levels by 13% and increased our turns 2.8 times in part because of the progress we have made at improving the efficiencies of our distribution centers. We have made great strides in penetrating the market opportunity for Contractor Supplies over the past several years. And in 2007, we plan to grow the top line by another 20% by improving our gross margins.

The last item I want to touch on is our focus on reducing costs through our strategic sourcing initiative. As we said on our third quarter call, we estimate we currently spend $1.1 billion of non-equipment purchases. We believe that we can cut this indirect spend by $60 million to $100 million when a strategic sourcing program is fully implemented by 2009. We have already made a lot of progress in rationalizing our vendor base and using our purchasing power to negotiate savings on volume purchases. Items such as carrier services, office supplies, tires, and travel to name a few.

In 2006, we realized a savings of $5 million through early strategic sourcing agreements. Based on our negotiations, we estimate our cost savings will be between $15 million and $20 million in 2007. In conclusion, looking at 2007, we will continue to drive improvements in our return on invested capital by optimizing our fleet and by balancing time utilization with the rates through fleet management.

Last month, we had an excellent annual management meeting with nearly 700 branch managers, where we brought everyone on board to reinforce these objectives. We also anticipate another strong year for Contractor Supplies. This business continues to be very complementary to our rental business. Virtually every type of customer we serve is a prospect for Contractor Supplies. At this stage, we have only scratched the surface of what a Contractor Supply business can grow.

As I mentioned earlier, we also see room for further improvement in our operational efficiencies. And we plan to continue our focus on customer service. The quality of our service continues to be the single most important way we differentiate ourselves from our competition.

With that, I will now pass the call over to the operator for Q&A. Thank you.

(OPERATOR INSTRUCTIONS). Karru Martinson, CIBC World Markets.

With the strike that you are seeing in non-residential construction, I was wondering about the lag effect that normally follows a residential construction. Slowdowns in commercial and retail construction, if you are seeing any signs of that?

We are not seeing any signs of that. By the way, this is Wayland. We have done a fair amount of research on that, and there doesn't seem to be a consistent pattern between the time you see a slowdown in residential construction and then when you see a follow-on slowdown in private nonresidential construction. And the width of that can be anywhere from 9, 12 months up to 24, 30 months. So it is just really hard to see. We watch it very carefully and I would say at this point, we are not seeing leading indicators suggesting a slowdown.

And in terms of you said you were more comfortable, kind of, with the outlook today on non-res than you were in the third quarter, what have you seen that has truly changed in the market?

I think the thing that probably was most impressive to us -- we go through kind of a bottoms-up planning. And we go out -- Marty and myself and Mike go out and spent a day with each of our regions looking at how they are looking at the business and cementing plans that they have for the year in front of them, reviewing and cementing plans that they have. They were overwhelmingly positive this year about where the business is.

I think they would suggest that we may have taken rates about as far as we want to take them, although I would say we will probably still get a little bit of improvement on rates. They are basically saying there is an opportunity to get volume, and given that we have gotten our rates up to levels that are higher than we have ever seen before in the history of the Company, shifting some emphasis to volume probably makes a lot of sense.

And that was the clear takeaway. We did not hear the kind of doom and gloom that you frequently hear about, you know, the world is coming to an end, or Alan Greenspan this morning saying that we are going to have a recession, maybe even by the end of this year. Quite the contrary. They are telling us that their customers' backlogs are very strong and that we ought to be taking advantage of that.

And just lastly, in terms of a housekeeping, what is the availability under your restricted payments basket at this time?

It is approximately $800 million.

David Bleustein, UBS.

I got a quick, quick question, and forgive me if I missed it, did you go through your pricing expectation by quarter for next year.

We did not. In fact, I'll just give you some general guidelines. We expect to have about 1% price improvement year-over-year. And as we said, we will put a little bit more emphasis on trying to drive volume.

Okay. Where -- should we expect two percent in Q1, going down to zero? Are you thinking more start with a plus three and then into something slightly negative by year-end?

I think if you started with about 1.5 and then spread it down to zero by year-end, you would be pretty close.

And then, Wayland, here we go again, and forgive this question --

That sounds like Ronald Reagan.

We're not going to touch that. Even spending $900 million to $950 million on capital spend, you are going to be left with $150 million to $200 million of free cash, according to your own forecasts. Have you given any further thought to share repurchase dividends, or any other form of return of capital to shareholders?

David, let me first of all point out that $150 million to $200 million will be after we pay cash taxes of about $131 million, which is up from $18 million that we paid this year. So, our cash flow generation is really very strong.

Wayland, that is my point. Your cash flow generation is so strong --

Let me finish, David. Just as you say, this is not a new conversation. We constantly look at the use of cash flow in this business, and including what you talked about, share buyback and dividend payments. We have had regular conversations with our Board to include that plus a number of other items. You noticed, I think, this past year, we reduced our debt by $450 million. That was debt combination and quips, but $450 million.

We don't have the flexibility to reduce that a lot further without significant breaking fees, so it is unlikely you will see us continue to pay down debt a lot more. There may be some pick-ups that we will have in that area. Another area, and depending on how the year unfolds in front of us, we have the opportunity to put more growth capital into the fleet. And I think you know the highest possible return you can get, EBITDA margin return, is by adding incremental fleet to the -- or incremental capital to the existing fleet.

And then, of course, you have acquisitions, and the plan that we are reviewing with you this morning is free of acquisitions. And we have talked about adding maybe $100 million of revenue by way of acquisitions, all of which are used for capital.

Now, let me just point out, and I think everybody on the call or most people on the call that follow us know that. Our free cash flow generation largely comes in the fourth quarter of the year. We had $249 million in free cash flow this past year, of which $230 million came in the fourth quarter. So we have got several months to think about how we will spend that money as we bring it in. But we will consider all of the options we just talked about.

Terrific. Thank you.

Lionel Jolivot, Barclays.

Can you go back a little bit to the pricing for next year? The 1% price improvement, can you elaborate a little bit on market conditions, in terms of what we are seeing in terms of rental rates with your main competitors. And where you think -- I mean, basically, you have clearly said that you will focus a little bit more on volume next year. Do you feel that pretty much all of your competitors are doing the same, or do you think that the market itself will come down a little bit on pricing next year?

Lionel, this is Mike Kneeland. Let me just go back and just say -- just give you a little history. We have had 15 consecutive quarters of rate improvement and as Wayland mentioned, we go through the regional reviews with all of our regional vice presidents, as well as the district managers. And it is throughout North America. We don't dive into our competitors in any one given market.

It has been noted to us that some of our competitors are more focused on volume. And as Wayland mentioned, there is opportunities for us in areas that we are already getting a high-yield, high-yield markets, where it is beneficial for us to go after and expand our penetration in those markets. We don't really break it down by market segment by competitors.

Okay. And then maybe I missed it, but could you give the time utilization for the quarter and what it was a year ago? And I mean it seems to me, given that rates were up and the dollar utilization was kind of flattish, it seems to me that time utilization is coming in a little bit under pressure. And I am just wondering is it just a result of the growth in your fleet, or is it more the reflection of the slightly weaker market conditions that you are experiencing?

This is Mike again. Our time utilization was 62.7 in the fourth quarter, and what you have to do is go back and take a look at the fourth quarter of 2005. Realistically, the market conditions back then when you look at it, it is a very tough comparison because of the extensive hurricane activity that we had not only with Katrina, but throughout all of the season. I think it was, as a matter of record, it was one of the most active hurricane seasons on record in North America. And that had an impact to our overall business. When you take a look at it and you take a look at it for a full year, we are down just slightly, 0.3% on a year-over-year basis. And that is how I would look at it.

Okay. And last thing, in terms of your '07 guidance and the $900 million to $950 million of CapEx, what are your assumptions in terms of time utilization for '07, given that you will continue to grow the fleet? Do you expect to continue to see a slight erosion, or a slight slowdown in time utilization?

Lionel, this is Wayland. What we actually expect to see is a slight pickup in time utilization. In fact, we are beginning to see that already during the first couple of months of this year. Our total revenue growth has been up a little over 6%, or just about 6%, which is very consistent with our expectation for the full year. And time utilization has been inching up and we are at a point right now where we are roughly flat with time utilization this time a year ago.

Philip Volpicelli, Goldman Sachs.

With regard to pricing, are there big regional differences in pricing, the 1%? Could you say that some regions are going to grow faster than others and be possibly negative during 2007?

I think that is the point that Michael was trying to make earlier, that we do expect to see differences. We have some areas of the country where we are getting very high returns and it makes more sense for us to shift to volume. There are other areas where we are getting lower returns. And we will continue to starve those areas with capital and ask them to work on getting prices up and getting a return on capital up. And that is a delicate balancing act. We will continue to put emphasis on raising rates, just not at the same level -- shifting a little bit of attention more towards balancing that with volume growth.

Got you. So maybe in the Midwest and the Northeast, we might actually see negative pricing if you are not able to move that equipment out of there fast enough?

A lot of that equipment has been moved out and will continue. I think where you might see negative pricing is on the West Coast, where we are -- our return on capital is very strong. And as we have talked about on previous calls, we are seeing more softness in that area because of the housing market. Just a reminder, we have historically said that our housing market represents maybe 5% to 10% of our revenue.

We have done some research recently that would suggest -- it is kind of a refinement of our [cyclical] analysis -- would suggest that housing may be a little more important, so as it could be 10 maybe even 12% of our revenue. And we are feeling that in California, so we are looking at ways of trying to rebalance equipment that we have there, move some equipment out, and we will also look at rates as a way to stimulate more activity.

Great. And then could you just give us the balance of the original cost for the fleet for the fourth quarter 2005 and at the year end 2006? I think you give us 3.9 and 3.8, but could you give us some more decimal points?

Can -- maybe Chuck can call you back with that later?

Okay. Sure.

Thank you.

And then in terms of the proceeds from the traffic safety business, that has been received and with the free cash in the fourth quarter, it looks like you have only about $50 million some odd of operating leases. Is probably the first thing that you do with the free cash flow you generated?

Yes, to the extent that they don't have prepayment penalties built into them. We would look to extinguish them early and we have been kind of scouring the portfolio for those opportunities.

Okay. Great. Thanks guys.

Scott Schneeberger, CIBC World Markets.

Congratulations on a nice year.

Thanks Scott.

First question, could you speak a little bit about Contractor Supply sales? Where do you see that margin going as you start to scale back business and you have the distribution center costs behind you?

As Michael pointed out, in the fourth quarter we were at 22.6%. We believe that each year for the next several years, we should be able to raise our gross margins by at least a percentage point a year. So we will in a few years be up in the mid 20s. At the same time, we are working on improving our asset turns. We started the year with 2.1 turns. We came out of the year at 2.8 turns, and when you take gross margins of even 22% and combine it with 2.8 times turns, you start getting really attractive return on invested capital. If we can get our turns out to 4, or even 4.5, or 5 and get our gross margins up 25, 26%, that business starts looking extremely attractive.

Thanks.

I should say it looks extremely attractive now. It looks even more attractive.

An overall question about customer retention. I think I was looking in the K that you said about 90% of customers served this year are back from last year. How do you measure that and could you speak a little bit more on it?

Hi Scott. This is Michael. We track all of our customer base all the way down to the branch level. And we track our turn over and we track -- even when a customer would go from one point of one branch over to another branch, or even for that matter, across the regions. We track all of our customer base throughout North America.

Thanks. A clarification question real quick. Is the growth CapEx guidance for '07 110 or 125 million?

125.

Thanks. And one more quick one, if I could. Up in Canada, what is the size of the operations up in the oil sands? How fast is that going? Are you getting outsized margins and that? Just a little color, if you could. Thank you.

Well, just to give you kind of an example, we had substantial growth in the western portion of Canada. It was one of the highest for the Company that we had on a year-over-year basis. As I stated earlier, it is really driven by those two projects, those two areas, those two provinces. And we are currently, right now, hope to have our new facility opened by June of this year, that we can substantially improve our penetration in that marketplace, as far as penetrating that market. And again, the growth there, the growth opportunity in Western Canada is going to be for years to come.

Just in the tar sands alone, I think we have close to $30 million worth of fleet.

Joel Tiss, Lehman Brothers.

I wonder if you could talk a little bit about what the maintenance CapEx on your Company looks like? You know, for maybe what it was in '06 and what it looks like in the next couple of years, and if you have a target on fleet age going forward?

Hi Joel, this is Michael. Let me just start out with our fleet age. One, I think we have it right. We have stated on numerous calls that we were very comfortable in the range of between 35 and 45 months, obviously, with our General Rental assets towards the 35. Currently, right now they are at 34. And then you have got the aerial portion towards the 45 range. Right now, we are pushing that towards 47.

And if you take a look at some of the industry data that came out through AEM, it suggests that the overall industry is selling on an average age of around 41.4 months. And we really track it, it is really driven by customer demand, a reliability of breakdown, and our returns on OEC. So we are very comfortable with that.

Insofar as what our replacement CapEx will be, because I look at it from that standpoint as opposed to maintenance CapEx. It is really driven by our sales. And for next year, with sales of around $340 million, you can assume around $680 million will go towards our replacement CapEx. Inside of that number, we will also add about $20 million for our refurbishment. We are looking at refurbing some of our larger booms, extending the life out, and we are going to take a look at it. By the way, that $20 million equates to about $60 million of OEC that we will refurb through the manufacturers and bring back in.

And we will account for that exactly, as it stands. If it is a 45-year-old -- 45-month machine, we will continue to age it out. We won't re-clock it back as a new asset. We will break that out so that we will be able to report those numbers separately for you. But currently, we are going to go through and put $20 million through, take a look at it and analyze it, and see what kind of return we can generate from it.

And just a quick follow-up, can you talk a little bit about the acquisition environment and the price or the valuation versus adding cold starts? Thank you.

You know, we are constantly, Joel, looking at both. Last year, I want to say we probably added about $30 million, $35 million worth of revenue by way of acquisitions. We did that to fill in some areas that we wanted presence in, that made more sense for us to go after that, rather than starting a cold start. On the other hand, we've been pretty aggressive with cold starts, as Michael was talking about earlier. We will continue to go back and forth on that.

I think the market for acquisition remains good. You are not going to see us give crazy multiples of EBITDA for property we want to purchase. We don't have to do that, because we don't have to do acquisitions to grow the business. Unlike the very early days of the Company, where that was the primary method of growth. But I think you will see us hopefully this year do maybe $100 million worth of revenue by way of acquisitions, which is pretty consistent with the path we have been on for some time.

Yvonne Varano, Jefferies & Co.

You talked about pricing being up about 1% and your expectations seem to imply about 6% revenue growth next year. How much of that is expected to come from market versus internal?

We think we will see private nonresidential construction up. And by the way, there are a lot of different views on this subject. The people that we follow would suggest with one outlier that the range it should be someplace between 6% and 10%. We have got FW Dodge, actually, as an outlier and we feel more comfortable with something in between the 6% and 10%. So our internal plans suggest we would see 7% to 8% private nonresidential construction growth. So our growth is a little bit lower than that and that, basically, is back to balancing our drive for growth along with our drive for improving return on invested capital.

And then on the tax rate in the quarter, it seemed a little lower than it has been running. Was there something specific?

The tax rate for the quarter, Yvonne, is -- the tax provision is actually split between the continuing ops and the discontinued ops. And there was a lot of work done to make sure that split was correct. I think the right way to look at that is to take a look at the annual rate, which is fine.

And you said you are looking for 38.8, I think, next year?

38.8 for next year, correct.

On the $125 million of growth cap, how much is that for new branches and how much is for equipment?

About $70 million would go into opening new branches, about $2 million of branch, and then we also feed branches that we opened at last year with another $25 million, $30 million.

Okay. And then for '07, what are you seeing in terms of equipment pricing?

Yvonne, this is Michael. We are seeing small single digits, anywhere between 1% to 2% to 3%, but it is probably going to be right around 2%.

John Hecht, JMP Securities.

Actually, most of my questions have been asked. One question I do have, though, is in evaluating your priorities for free cash flow. You have taken your leverage ratio, sort of long-term debt to equity, down from, you know, the mid-to-high twos to the, we'll call it around two right now. Where do you kind of from a corporate priority perspective, where do you see that going and at what point does that become too low, where you have to begin thinking about putting your cash flow elsewhere?

Well, thank you, I think we have done a great job of finding opportunities to pay down debt and we have in this year paid down $450 million, as we have noted. My personal target is around the 2.5 times, which we have achieved. I don't see a corporate imperative to pay it down a lot lower than that. I think if we can de-lever, we will because it is a good use of cash and improves the strength of the balance sheet.

But I am not also going to incur a lot of breakage costs or recommend that we incur a lot of breakage costs in order to pay off debt that would be extensive -- expensive to extinguish. So as Wayland outlined, we have de-leverage as a priority, we have investing in the fleet as the highest priority, to the extent we see growth opportunities and to the extent we can do that while maintaining and improving our ROIC. And of course, we have our ongoing acquisition program, trying to achieve at least $100 million a year of acquisitions.

On that front, does your guidance incorporate the expected acquisitions?

No, it does not. Those would be additive to our guidance to the extent they occur. We have actually a pretty robust pipeline of rental companies that we target that are interesting to us. And the trigger for the transaction is usually some kind of a life event for the current owner. And perhaps he or she is at retirement age, or has another desire to sell the business. And we have dialogue with people with whom we are interested in their business, and sometimes we will track these for multiple years before the transaction actually occurs.

Thanks. And last question is can you comment on any trends you are seeing with average rental durations or the average rental tickets, or have those been pretty consistent over the last couple of quarters.

They are reasonably consistent over the last couple of quarters, but they are actually -- they have been trending up. Time wise, not so much, but the average dollar value. If you look at -- and I am going to make up the numbers, because I don't have the right in front of me -- But if you look at transactional value, it is now north of $300. And if you look at the average ticket price, it is running someplace around 400 -- around $550, $545. And that is up quite considerably. The average day runs a little over six days in length, I think about 6.5 days in length. That has been more or less consistent for the past several years.

I appreciate you taking all my questions. Thanks.

(OPERATOR INSTRUCTIONS). Seth Weber, Bank of America.

A couple of questions. Can you give us any color on the used equipment market, what you are seeing for pricing there or any kind off trends by equipment type? And then a follow-up question would be your spending plans for '07. Can you give us any detail on how the buildout of your service initiative kind of plays into those numbers? Thank you.

Seth, this is Michael. Just to step back and take a look at our spending plans for next year based on our service, again, we built this in at our regional platform, we take a look at it through our lifecycle. We don't really see any significant changes with what we have done in the past, as far as what types of equipment we are bringing in.

In so far as your other question with regards to pricing, pricing actually dipped a little bit in the third quarter and came down a couple of percentage points. However, as we went through the fourth quarter, we started to see prices actually firm up and come up slightly in areas -- even with regards to dirt equipment. We saw some improvement in some of the dirt equipment come up ever so slightly, specifically in backhoes and some of the compaction equipment. Right now, it is basically flat from a year-over-year basis, but we haven't seen a decline.

Okay. Just to -- so the first part of your answer, the spending on the service initiative, you're not really ratcheting up any specific programs there currently?

We are in our service program with regards to two areas, one of which is internal, servicing our equipment and maintaining it and expanding our warranty. We have seen some increased revenues come in in the form of warranty reclaims. With regards to our service initiative going out for third-party, we have got several pilots underway. We are seeing success in specific markets. Some of our other pilots we are still working through. But still, our growth that we saw on a year-over-year basis around 15%, and we are going to continue to focus on that this year.

Seth, this is Marty. The service initiative, one of the great things about it is that we are already facilitized in all of our branches to do a full range of service work. So to the extent that we can take in more work and, perhaps, run the service department more hours, we can do that with limited or no additional CapEx.

Okay. We will take one more question.

Vlad Artamonov, Greenlight Capital.

I have two questions. First one is if you could comment on the leadtimes on buying new equipment that you see nowadays. And the second is if you could remind me what the replacement CapEx is for 2007?

This is Michael. Can you hear me, Vlad, I have got a little bit of an echo?

Yes, I can hear you well.

As far as the leadtimes on buying new equipment, it is down substantially on a year-over-year basis. And typically, we are seeing anything -- we have already done a pre-order in for slots to facilitate the assets coming in in the first four or five months of this year. But we saw them come down. Last year we saw extensive leadtimes that were out several months, if not a year, on certain products. And we have seen that dramatically come down in specific categories, with dirt equipment, with regards to some aerial equipment.

Some areas that we are still seeing some leadtimes is on some booms, straight booms, but again, to our preplanning with our vendors, we have no issue with regards to getting assets. And typically, it is anywhere between four to eight weeks is our typical leadtime we are seeing now.

With regards to replacement CapEx for next year, as I said, we will sell about $340 million. Replacement CapEx will come in about two times that number, about 680 in round numbers, give or take $10 million here or there. And then we are going to also do $20 million on top of that for refurbishment.

Got it. So going back to the leadtimes, do you see do you see your competitors, given the market conditions here, ramping up the fleet sizes? For your customers buying equipment at this point, while they couldn't a year ago, for example?

I think it is really two questions. First and foremost, we are focused on return on invested capital. This is a conscious effort on our part on what capital we wanted to put out there. And we do believe we have -- within our fleet, we can optimize our fleet and expand and increase our return on invested capital. With regards to what our competitors are doing, they have bought an awful lot of equipment and I really can't comment on what their method is.

I see. And as far as replacement CapEx goes, just to make sure I understand. While you said you are going to offload north of $300 million of equipment and that -- which usually runs at about, from what I remember, when you sell it at 50% off original equipment cost on average, which kind of brings you to $700 million. But what about the equipment that remains in the fleet and ages over the course of a year? With your fleet size being about $4 billion and it is unclear what the useful life is, but call it 8. Shouldn't there be something on top of that? In terms of $500 million --

No.

Given the fleet size --

The one thing you are missing is that we are going to be adding $125 million of growth capital all in. So that brings your average age down. And we go through a lifecycle, which is a rigorous process, and we take a look and it is really driven by reliability, demand, returns that we see in the market place. And we do it all the way down at a category level. We are very comfortable with our age of our fleet at 39 months. With regards to -- the range we have given is between 35 and 45 months, and I don't see that really changing.

So where do you think your age is going to be at the end of '07?

At the end of '07, it should be slightly flat.

Right around 39 months.

Great.

Operator, I am going to wrap the call up now. First of all, let me thank everybody for joining us on the conference call this morning and your continued interest in the Company. I will just kind of close off by saying we really had a very strong fourth order and a full year. We were pleased with the $0.71 that we reported in the fourth quarter, representing a record for the Company, as did the $2.28 that we posted for the full year.

Operating margins, in particular, are up 2.3% to 18.5 in the quarter and then 17.2% for the full year, also speaks to the strength of this business. In particular, our free cash flow -- and that is a very conscious part of our business strategy, is to generate free cash flow in any operating environment that we are in -- came in at $249 million. And we felt very good about that. And in front of the ROIC at 14.7%, up substantially from the previous year and moving very much in line with the direction that we have established for ourselves. We would like to see our ROIC up two to three points as we go through the next three years. And we think we are well on our path to do that.

So I will close out the call by saying thank you, again, for joining us on the conference call this morning. We will look forward to catching up with you when we get together for the first quarter review. Thank you and have a great day.

Ladies and gentlemen, this does conclude the conference for today. We do thank you for your participation. You may all disconnect. Good day.