When one thinks of rentals, what usually comes to mind are summer rentals in Nantucket or the Hamptons (or, God forbid, the Jersey shore). But when I think of rentals, I think of United Rentals (URI), America's largest tool-rental company. The name caught my eye recently, as it has absolutely crushed guidance for two quarters in a row. With the stock up 46% year to date, the momentum hounds have latched onto the shares and are desperately trying to ride it higher. Can the stock bust through its all-time high or are investors putting too much faith in a tool-rental company that is highly dependent on the construction industry?
In the first quarter of 2007, the tool rental business fell into a major funk. Demand started to slide and rental rates began to fall. Those rates kept sliding throughout 2008 and 2009 as equipment rentals from construction companies evaporated. The company was stuck with more than 230,000 pieces of equipment to rent and nobody to rent them. But, by the fourth quarter of 2010, the company began to see a slight pick-up in rentals. As utilization rates crept higher, the company became more confident about its business and launched a series of price hikes.
A fragile recovery has taken hold in the construction industry, and United Rentals is taking advantage of it. In 2011, approximately 54% of the company's revenue came from commercial construction, 22% was generated by industrial-equipment rentals and 18% came from what the company calls "infrastructure" rentals.
That latter category, infrastructure, includes equipment for the safe construction of trenches. If you are digging a trench greater than five feet in depth, the Occupational Safety and Health Administration requires safety equipment to prevent a collapse. (Bet you didn't know that!) United Rentals is North America's largest trench-safety rental company, with a 48% surge in revenue from trench equipment last year.
In addition to new construction projects, the company has seen increased demand by customers who, unsure about the large capital outlay in a tight credit environment, would rather rent rather than buy. A corporate restructuring in United Rentals, which took place in 2008 and 2009, is beginning to pay off. Large customers now get a dedicated salesperson, instead of some random representative who is unfamiliar with their account. Today, 55% of revenue is covered by a single point of contact.
The company also pushed decision-making down the ranks, giving managers the room to negotiate rental rates with large customers. The increased flexibility has brought about more stable customer relationships, allowing United Rentals to rent for longer periods of time and get back equipment with less damage.
In the last six months, these changes have led to blow-out revenue and earnings. In the third quarter of last year, the company reported sales of $713 million vs. a mean estimate of $686 million, or 3.4% better than consensus. The company was able to follow through in the December quarter with $746 million in revenue, 8.45% better than consensus.
Now, for the current quarter, the Street is expecting revenue to grow 16% year over year to $607 million. For the all of 2012, the Street is looking for 13% revenue growth (vs. 6.7% last year) and another rise of 9.3% next year. All this translates to a 13% climb in earnings per share in 2012 and 36% growth in 2013.
Bullish investors think the mean Street estimates are much too conservative. For example, the high estimate figures the company could grow revenue 18% this year, as opposed to the 13% average. If that were to happen, 2012 EPS would jump to $3.43 from last year's $1.38. Under that scenario, at the midpoint of the company's historical valuation, the shares could reach $60 a share. (These are the dreams of momentum investors.) That would mean another 42% run in the stock from here.
So, these are pretty heady times for a company that sees 39.7% of its rental revenue coming from buckets and aerial lifts. (Aerial lifts are 47% of its rental fleet.) Obviously, the shares have moved a lot and have taken into account much of growth ahead. But if you're bullish on the construction industry -- especially commercial construction, as in offices, apartments and malls -- you just might want to look into renting some shares.