SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D.C. 20549
For the quarterly period ended September 30, 2009
For the transition period from to
Commission File No. 1-10308
Avis Budget Group, Inc.
(Exact name of registrant as specified in its charter)
(Registrants telephone number, including area code)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days. Yes x No ¨
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes ¨ No ¨
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See the definitions of large accelerated filer, accelerated filer, and smaller reporting company in Rule 12b-2 of the Exchange Act.
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes ¨ No x
The number of shares outstanding of the issuers common stock was 101,988,727 shares as of October 31, 2009.
The forward-looking statements contained herein are subject to known and unknown risks, uncertainties and other factors which may cause our actual results, performance or achievements to be materially different from any future results, performance or achievements expressed or implied by such forward-looking statements. These forward-looking statements are based on various facts and were derived utilizing numerous important assumptions and other important factors that could cause actual results to differ materially from those in the forward-looking statements. Forward-looking statements include the information concerning our future financial performance, business strategy, projected plans and objectives. Statements preceded by, followed by or that otherwise include the words believes, expects, anticipates, intends, projects, estimates, plans, may increase, may fluctuate and similar expressions or future or conditional verbs such as will, should, would, may and could are generally forward-looking in nature and not historical facts. You should understand that the following important factors and assumptions could affect our future results and could cause actual results to differ materially from those expressed in such forward-looking statements:
Other factors and assumptions not identified above, including those described under headings such as Risk Factors and Managements Discussion and Analysis of Financial Condition and Results of Operations in our 2008 Annual Report on Form 10-K and this Quarterly Report on Form 10-Q were also involved in the derivation of these forward-looking statements, and the failure of such other assumptions to be realized, as well as other factors, may also cause actual results to differ materially from those projected. Most of these factors are difficult to predict accurately and are generally beyond our control.
You should consider the areas of risk described above, as well as those described under headings such as Risk Factors and Managements Discussion and Analysis of Financial Condition and Results of Operations in our 2008 Annual Report on Form 10-K and this Quarterly Report on Form 10-Q and those that may be disclosed from time to time in filings and furnishings with the Securities and Exchange Commission, in connection with any forward-looking statements that may be made by us and our businesses generally. Except for our ongoing obligations to disclose material information under the federal securities laws, we undertake no obligation to release any revisions to any forward-looking statements, to report events or to report the occurrence of unanticipated events unless required by law. For any forward-looking statements contained in any document, we claim the protection of the safe harbor for forward-looking statements contained in the Private Securities Litigation Reform Act of 1995.
CONSOLIDATED CONDENSED STATEMENTS OF OPERATIONS
(In millions, except per share data)
See Notes to Consolidated Condensed Financial Statements (Unaudited).
CONSOLIDATED CONDENSED BALANCE SHEETS
(In millions, except share data)
See Notes to Consolidated Condensed Financial Statements (Unaudited).
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS
Avis Budget Group, Inc.
CONSOLIDATED CONDENSED STATEMENTS OF CASH FLOWS (Continued)
See Notes to Consolidated Condensed Financial Statements (Unaudited).
NOTES TO CONSOLIDATED CONDENSED FINANCIAL STATEMENTS (Unaudited)
(Unless otherwise noted, all amounts in tables are in millions, except per share amounts)
Basis of Presentation
Avis Budget Group, Inc. provides car and truck rentals and ancillary services to businesses and consumers in the United States and internationally. The accompanying unaudited Consolidated Condensed Financial Statements include the accounts and transactions of Avis Budget Group, Inc. and its subsidiaries (Avis Budget), as well as entities in which Avis Budget directly or indirectly has a controlling financial interest (collectively, the Company), and have been prepared pursuant to the rules and regulations of the U.S. Securities and Exchange Commission (SEC) for interim financial reporting.
The Company operates in the following business segments:
In presenting the Consolidated Condensed Financial Statements in accordance with accounting principles generally accepted in the United States of America (U.S. GAAP), management makes estimates and assumptions that affect the amounts reported and related disclosures. Estimates, by their nature, are based on judgments and available information. Accordingly, actual results could differ from those estimates. In managements opinion, the Consolidated Condensed Financial Statements contain all normal recurring adjustments necessary for a fair presentation of interim results reported. The results of operations reported for interim periods are not necessarily indicative of the results of operations for the entire year or any subsequent interim period. These financial statements should be read in conjunction with the Companys 2008 Annual Report on Form 10-K filed on February 26, 2009.
Vehicle Programs. The Company presents separately the financial data of its vehicle programs. These programs are distinct from the Companys other activities since the assets under vehicle programs are generally funded through the issuance of debt, asset-backed funding or other similar arrangements which are collateralized by such assets. The income generated by these assets is used, in part, to repay the principal and interest associated with the debt. Cash inflows and outflows relating to the generation or acquisition of such assets and the principal debt repayment or financing of such assets are classified as activities of the Companys vehicle programs. The Company believes it is appropriate to segregate the financial data of its vehicle programs because, ultimately, the source of repayment of such debt is the realization of such assets.
Separation. In connection with the separation of Cendant Corporation (as the Company was formerly known) into four independent companies (the Separation), the Company completed the spin-offs of Realogy Corporation (Realogy) and Wyndham Worldwide Corporation (Wyndham) on July 31, 2006 and completed the sale of Travelport, Inc. (Travelport) on August 23, 2006.
Compliance with Debt Covenants, Business Risks and Managements Plans
Compliance with Debt Covenants. Many of the Companys debt instruments, including its senior credit facilities, contain financial and other covenants that impose significant requirements on the Company and limit its ability to engage in certain transactions or activities. The Companys financial covenants require it to maintain minimum trailing twelve month EBITDA (as defined in the Companys senior credit facilities) amounts on a quarterly basis. Commencing with the Companys fiscal quarter ending June 30, 2010, the requirement to maintain a quarterly minimum trailing twelve month EBITDA under the financial covenants of its amended senior credit facilities will be replaced by the maximum leverage ratio that was in place prior to the December 2008 amendment to the senior credit facilities.
The U.S. economy appears to have been in recession throughout 2008 and for at least a portion of 2009. Historically, the Companys results of operations have declined during periods of general economic weakness. The effects of the recession contributed to the significant year-over-year decline in the results of the Companys operations for the nine months ended September 30, 2009 compared to the nine months ended September 30, 2008, excluding the 2008
impairment charge. If economic conditions in the United States worsen, the Companys results of operations could be materially and adversely impacted.
The Company relies upon financing for its operations, particularly asset-backed financing, through asset-backed securities and the lending market, for its vehicle fleet. In fourth quarter 2008, the Company amended and renewed its two asset-backed domestic rental car conduit facilities and as a result of these amendments and renewals, the Companys borrowing costs and collateral requirements for 2009 have increased compared to 2008. In October 2009, the Company combined these facilities into one facility, renewed such facility for $1.9 billion and reduced the associated borrowing costs; such facility now matures in October 2010. During July and October 2009, the Company issued a total of $900 million in asset-backed notes for rental car financing. The existing availability under the asset-backed vehicle financing programs including the asset-backed conduit facility should be sufficient to fund the Companys Domestic Car Rental fleet for 2010. Approximately $42 million and $1.1 billion of term asset-backed financings for the Companys car rental operations will mature before the end of 2009 and in 2010, respectively. A default by, or insolvency of, any of the financial-guaranty firms that have insured a portion of the Companys outstanding vehicle-backed debt could affect the timing for repayment of such debt.
Dependence on Vehicle Manufacturers. The Company is dependent on vehicle manufacturers for its fleet purchases and related incentive payments, and a substantial portion of the rental cars that comprise its domestic car fleet (program cars) are subject to manufacturer repurchase or guaranteed depreciation programs. A default on any repurchase or guaranteed depreciation agreement or incentive payment could leave the Company with a substantial unpaid claim against the manufacturer particularly with respect to program cars that were either (i) resold at an amount less than the amount guaranteed under the applicable agreement, and therefore subject to a true-up payment obligation from the manufacturer or (ii) returned to the manufacturer but for which the Company was not paid. In addition, the Company could incur additional expenses if, following a manufacturer default, the prices at which it were able to dispose of program cars were less than the specified prices under the repurchase or guaranteed depreciation program and/or if the prices at which the Company were able to dispose of non-program cars were less than previously assumed.
Cost Reduction Initiatives. In light of the challenging conditions facing its business as well as for competitive reasons, the Company has taken numerous actions to reduce expenses, including implementing a five-point plan designed to reduce costs and improve efficiency. This plan includes (i) significant reductions in operating costs, fleet costs, selling, general and administrative expenses, headcount, discretionary spending and other variable costs, (ii) improving station, channel and customer profitability, (iii) strengthening the Companys pricing strategies and marketing, selling and affinity efforts, (iv) consolidation of both customer facing and non-customer facing activities and locations to reduce costs and provide synergies, and (v) consolidation of purchasing and procurement programs and practices. The Company closed and consolidated certain facilities and terminated employees in fourth quarter 2008 and the nine months ended September 30, 2009 in conjunction with this initiative (see Note 2Restructuring Charges). The Company has also generated and expects to generate additional cost savings in 2009 through implementation of its Performance Excellence process improvement initiative, which began in late 2007. The Company has also identified a number of additional cost reduction measures that it could implement, if necessary, to offset additional costs.
Notwithstanding the December 2008 amendments to the Companys senior credit facilities and its cost reduction initiatives, due to reduced demand for travel services, disruption in the credit markets, rising borrowing costs, the Companys dependence on vehicle manufacturers, and other factors, there can be no assurance that the Company will be able to generate sufficient earnings to enable it to satisfy the minimum EBITDA requirement or other covenants included in its senior credit facilities, the asset-backed conduit facilities used to finance a portion of its domestic car rental operations or other borrowing agreements. The Companys failure to comply with these covenants, if not waived, would cause a default under the senior credit facilities and could result in principal under the conduit facilities being required to be repaid from a portion of vehicle disposition proceeds and lease payments the Company makes to its vehicle program subsidiaries and adversely affect the Companys liquidity position. If such a failure were to occur, there can be no assurance that the Company would be able to refinance or obtain a replacement for such facilities and in certain circumstances such failure could also give rise to a default under the instruments that govern its other indebtedness. As of September 30, 2009, the Company was in compliance with the financial covenants of its senior credit facilities.
Adoption of New Accounting Standards during 2009
In April 2009, the Financial Accounting Standards Board (FASB) issued FASB Staff Position (FSP) No. FAS 141(R)-1, Accounting for Assets Acquired and Liabilities Assumed in a Business Combination That Arise from Contingencies (FSP FAS 141(R)-1), as codified in FASB Accounting Standards Codification (ASC) topic 805, Business Combinations. The Company adopted FSP FAS 141(R)-1 on January 1, 2009, as required, and it had no impact on its financial statements at the time of adoption.
In April 2009, the FASB issued FSP No. FAS 115-2 and FAS 124-2, Recognition and Presentation of Other-Than-Temporary Impairments (FSP FAS 115-2 and FAS 124-2), as codified in FASB ASC topic 320, InvestmentsDebt
and Equity Securities. FSP FAS 115-2 and FAS 124-2 provides additional guidance on how to evaluate whether an impairment of a debt security is other than temporary and for recognition of any such impairment in the financial statements. The Company adopted FSP FAS 115-2 and FAS 124-2 on June 30, 2009, as required, and it had no impact on its financial statements.
In April 2009, FASB issued FSP No. FAS 157-4, Determining Fair Value When the Volume and Level of Activity for the Asset or Liability Have Significantly Decreased and Identifying Transactions That Are Not Orderly (FSP FAS 157-4), as codified in FASB ASC topic 820, Fair Value Measurements and Disclosures. FSP FAS 157-4 provides additional guidance for estimating fair value in accordance with FASB Statement No. 157, Fair Value Measurements, when the volume and level of activity for the asset or liability have significantly decreased. FSP FAS 157-4 applies prospectively for interim and annual reporting periods ending after June 15, 2009. The Company adopted FSP FAS 157-4 on June 30, 2009, as required, and it had no impact on its financial statements.
In April 2009, FASB issued FSP No. FAS 107-1 and APB 28-1, Interim Disclosures about Fair Value of Financial Instruments (FSP FAS 107-1 and APB 28-1), as codified in FASB ASC topic 825, Financial Instruments. FSP FAS 107-1 and APB 28-1 amends FASB Statement No. 107, Disclosures about Fair Values of Financial Instruments, as codified in ASC topic 825, and requires a publicly traded entity to include disclosures about the fair value of its financial instruments for its interim reporting periods as well as its annual financial statements. FSP FAS 107-1 and APB 28-1 is effective for interim periods ending after June 15, 2009. The Company adopted FSP FAS 107-1 and APB 28-1 on June 30, 2009, as required, and it did not have a significant impact on its financial statements; however, it did result in enhanced disclosure about the fair value of financial instruments in the Companys interim financial statements.
In May 2009, the FASB issued Statement of Financial Accounting Standard (SFAS) No. 165, Subsequent Events (SFAS No. 165), as codified in FASB ASC topic 855, Subsequent Events. SFAS No. 165 establishes general standards of accounting for and disclosure of events that occur after the balance sheet date but before financial statements are issued or are available to be issued. The Company adopted SFAS No. 165 on June 30, 2009, as required, and it did not have a significant impact on its financial statements.
In June 2009, the FASB issued SFAS No. 168, The FASB Accounting Standards Codification and the Hierarchy of Generally Accepted Accounting Principlesa replacement of FASB Statement No. 162 (SFAS No. 168), as codified in FASB ASC topic 105, Generally Accepted Accounting Principles. SFAS No. 168 replaces FASB Statement No. 162 to allow the FASB Accounting Standards Codification to become the single source of authoritative U.S. accounting and reporting standards, other than guidance issued by the SEC. The Company adopted SFAS No. 168 on July 1, 2009, as required, and it did not have a significant impact on its financial statements.
In August 2009, the FASB issued Accounting Standards Update (ASU) No. 2009-05, Measuring Liabilities at Fair Value (ASU No. 2009-05). ASU No. 2009-5 clarifies, among other things, that when a quoted price in an active market for the identical liability is not available, an entity must measure fair value using one or more specified techniques. The Company adopted ASU No. 2009-05 on July 1, 2009, as required, and it had no impact on its financial statements.
Recently Issued Accounting Pronouncements
In June 2009, the FASB issued SFAS No. 166, Accounting for Transfers of Financial Assetsan amendment of FASB Statement No. 140 (SFAS No. 166), as codified in FASB ASC topic 860, Transfers and Servicing. SFAS No. 166 (i) removes the concept of a Qualifying Special Purpose Entity (QSPE) from FASB No. 140, as codified in FASB ASC topic 860, Transfers and Servicing, and eliminates the exception from applying FIN 46(R), as codified in FASB ASC topic 810, Consolidation, to variable interest entities that are QSPEs, (ii) amends the accounting for transfers of financial assets and (iii) increases the related disclosures about transfers of financial assets. SFAS No. 166 applies to fiscal years beginning on or after November 15, 2009 and transfers that occurred both before and after its effective date. The Company will adopt SFAS No. 166 on January 1, 2010, as required, and does not believe it will have a significant impact on its financial statements.
In June 2009, the FASB issued SFAS No. 167, Amendments to FASB Interpretation No. 46(R) (SFAS No. 167), as codified in FASB ASC topic 810, Consolidation. SFAS No. 167 changes the method for determining the primary beneficiary of a variable interest entity (VIE) from a quantitative-based risks and rewards calculation to a qualitative approach to identify which entity has the power to direct the activities of a VIE that most significantly impact the entitys economic performance, subject to certain exceptions. SFAS No. 167 applies prospectively for fiscal years beginning on or after November 15, 2009. The Company will adopt SFAS No. 167 on January 1, 2010, as required, and does not believe it will have a significant impact on its financial statements.
During 2008 and 2009, the Company implemented various strategic initiatives within the Companys Domestic Car Rental, International Car Rental and Truck Rental segments as part of its five-point plan announced in November 2008. These initiatives are targeted principally at reducing costs, enhancing organizational efficiency and consolidating and rationalizing existing processes and facilities. During the nine months ended September 30, 2009, as part of the five-point plan, the Company eliminated approximately 1,700 positions, resulting in the termination of approximately 1,200 employees within its Domestic Car Rental, International Car Rental and Truck Rental segments and the closure and consolidation of certain facilities, including data center, back-office administrative locations and local market vehicle rental locations. As a result of these actions, the Company incurred $1 million and $14 million in restructuring-related charges for the three and nine months ended September 30, 2009, respectively.
At September 30, 2009, the remaining liability relating to restructuring actions amounted to $5 million, primarily for lease obligation costs. As part of the five-point plan, the Company continues to implement steps to reduce costs and consolidate certain customer facing and non-customer facing activities and locations. The Company expects further restructuring costs of approximately $3 million to be incurred through December 31, 2009 and is continuing to look at other initiatives expected to reduce costs and may incur further restructuring costs.
The restructuring charges and corresponding utilization are recorded within the Companys segments as follows:
The initial recognition of the restructuring charges and the corresponding utilization from inception are summarized by category as follows:
The following table sets forth the computation of basic and diluted earnings per share (EPS):
The following table summarizes the Companys outstanding common stock equivalents that were anti-dilutive and therefore excluded from the computation of diluted EPS:
Assets acquired and liabilities assumed in business combinations were recorded on the Companys Consolidated Condensed Balance Sheets as of the respective acquisition dates based upon their estimated fair values at such dates. The results of operations of businesses acquired by the Company have been included in the Companys Consolidated Condensed Statements of Operations since their respective dates of acquisition. The excess of the purchase price over the estimated fair values of the underlying assets acquired, including trademark assets related to franchisees, and liabilities assumed is allocated to goodwill. In certain circumstances, the allocations of the excess purchase price are based upon preliminary estimates and assumptions. Accordingly, the allocations may be subject to revision when the Company receives final information, including appraisals and other analyses. Any revisions to the fair values, within the allocation period, will be recorded by the Company as further adjustments to the purchase price allocations.
During the nine months ended September 30, 2009, the Company acquired the exclusive rights to certain Domestic Car Rental franchise territories, primarily due to a legal settlement, resulting in trademark intangible assets of $1 million. These acquisitions were not significant individually or in the aggregate to the Companys results of operations, financial position or cash flows.
During the nine months ended September 30, 2008, the Company acquired the exclusive rights to certain vehicle rental franchise territories and related assets, which included $36 million of associated vehicles, for $87 million in cash, resulting in trademark intangible assets of $50 million. These acquisitions for 2008 relate primarily to the Companys Domestic Car Rental segment and were not significant individually or in the aggregate to the Companys results of operations, financial position or cash flows.
Intangible assets consisted of:
Amortization expense relating to all intangible assets was approximately $1 million during the third quarter of 2009 and 2008. For the nine months ended September 30, 2009 and 2008, amortization expense was approximately $2 million.
Based on the Companys amortizable intangible assets at September 30, 2009, the Company expects amortization expense of approximately $1 million for the remainder of 2009 and approximately $3 million for each of the five fiscal years thereafter.
The fair value of the Companys debt instruments is generally determined by reference to market values resulting from trading on a national securities exchange or in an over-the-counter market. In some cases where quoted market prices are not available, prices are derived by considering the yield of the benchmark security that was issued to initially price the instruments and adjusting this rate by the estimated credit spread that market participants would demand for the instruments as of the measurement date. In situations where long-term borrowings are part of a conduit facility backed by short-term floating rate debt, the Company has determined that its carrying value approximates the fair value of this debt. The carrying amounts of cash and cash equivalents, accounts receivable, program cash and accounts payable and accrued liabilities approximate fair value due to the short-term maturities of these assets and liabilities.
The carrying amounts and estimated fair values of debt instruments are as follows:
Derivative instruments and hedging activities
The Company uses foreign exchange forward contracts to manage its exposure to changes in foreign currency exchange rates associated with its foreign currency denominated receivables and forecasted royalties, forecasted earnings of foreign subsidiaries and forecasted foreign currency denominated acquisitions. The Company primarily hedges its foreign currency exposure to the Australian dollar, British pound, Canadian dollar and the New Zealand dollar. The majority of forward contracts do not qualify for hedge accounting treatment. The fluctuations in the fair value of these forward contracts do, however, largely offset the impact of changes in the value of the underlying risk they economically
hedge. Forward contracts used to hedge forecasted third party receipts and disbursements up to twelve months are designated and do qualify as cash flow hedges. The amount of gains or losses reclassified from other comprehensive income to earnings resulting from ineffectiveness during the three and nine months ended September 30, 2009 and 2008 was not material.
The Company uses various hedging strategies including interest rate swaps and interest rate caps to manage its exposure to changes in interest rates. The Company uses interest rate swaps, designated as cash flow hedges, to manage the risk related to its floating rate corporate debt. In connection with such cash flow hedges, the Company records net unrealized losses to other comprehensive income. To manage the risk associated with its floating rate vehicle-backed debt, the Company uses both interest rate swaps and caps. These derivatives include derivatives not designated as a hedge for accounting purposes and derivatives designated as cash flow hedges. In connection with such cash flow hedges, the Company records the effective portion of the change in fair value in other comprehensive income, net of tax. The Company records the change in fair value gains or losses related to derivatives not designated as a hedge in its consolidated results of operations.
The Company periodically enters into derivative commodity contracts to manage its exposure to changes in the price of unleaded gasoline. These instruments are not designated as hedges for accounting purposes and the changes in fair value are recorded in the Companys consolidated results of operations.
Certain of the Companys derivative instruments contain collateral support provisions that require the Company to post cash collateral to the extent that these derivatives are in a liability position. The aggregate fair value of all derivative instruments with credit-risk-related contingent features that are in a liability position and the aggregate fair value of assets needed to settle these derivatives on September 30, 2009 was approximately $6 million, for which the Company has posted cash collateral of $7 million in the normal course of business.
As of September 30, 2009, the Company held derivative instruments with absolute notional values as follows: interest rate caps of $5.5 billion, interest rate swaps of $1.6 billion, foreign exchange forward contracts of $29 million and commodity contracts for the purchase of 3 million gallons of unleaded gasoline.
The Company used significant observable inputs (Level 2 inputs) to determine the fair value of its derivative assets and liabilities. Derivatives entered into by the Company are typically executed over-the-counter and are valued using internal valuation techniques, as no quoted market prices exist for such instruments. The valuation technique and inputs depend on the type of derivative and the nature of the underlying exposure. The principal techniques used to value these instruments are discounted cash flows and Black-Scholes option valuation models. These models take into account a variety of factors including, where applicable, maturity, commodity prices, interest rate yield curves, credit curves of the Company and counterparties, counterparty creditworthiness and forward and spot currency exchange rates. These factors are applied on a consistent basis and are based upon observable inputs where available.
Fair values of derivative instruments as of September 30, 2009 were as follows:
The effect of derivative instruments on the Consolidated Condensed Statement of Operations for the three months ended September 30, 2009 was (i) a loss of $1 million recognized as a component of operating expenses related to foreign
exchange forward contracts, (ii) an insignificant loss recognized as a component of operating expenses related to our commodity contracts and (iii) a $2 million loss recognized as a component of interest expense related to interest rate swaps not designated as hedging instruments. The loss on the interest rate swaps had no impact on net interest expense as it was offset by reduced interest expense on the underlying floating rate debt which it hedges.
The effect of derivative instruments on the Consolidated Condensed Statement of Operations for the nine months ended September 30, 2009, was (i) a loss of $5 million recognized as a component of operating expenses related to foreign exchange forward contracts, (ii) a gain of $3 million recognized as a component of operating expenses related to our commodity contracts and (iii) a loss of $4 million recognized as a component of interest expense related to interest rate swaps not designated as hedging instruments. The loss on the interest rate swaps had no impact on net interest expense as it was offset by reduced interest expense on the underlying floating rate debt which it hedges.
The Company also recognized a gain of $2 million and $26 million, as a component of other comprehensive income, net of tax, for the three and nine months ended September 30, 2009, respectively, which relates to interest rate swaps designated as cash flow hedges.
The components of the Companys vehicles, net within assets under vehicle programs are as follows:
The components of vehicle depreciation and lease charges, net are summarized below:
For the three months ended September 30, 2009 and 2008, vehicle interest, net on the accompanying Consolidated Condensed Statements of Operations excludes $38 million and $33 million, respectively, and for the nine months ended September 30, 2009 and 2008, excludes $116 million and $99 million, respectively, of interest expense related to the fixed and floating rate borrowings of the Companys Avis Budget Car Rental, LLC (Avis Budget Car Rental) subsidiary. Such interest is recorded within interest expense related to corporate debt, net on the accompanying Consolidated Condensed Statements of Operations.
The Companys effective tax rate from continuing operations for the nine months ended September 30, 2009 is a provision of 81.8%. Such rate differs from the Federal statutory rate of 35.0% primarily due to foreign withholding taxes and the differences in the amount of stock-based compensation recorded for book and tax purposes.
The Companys effective tax rate from continuing operations for the nine months ended September 30, 2008 is a benefit of 14.9%. Such rate differs from the Federal statutory rate of 35.0% primarily due to the impact of the non-deductible portion of the impairment charges, state taxes and differences in the amount of stock-based compensation recorded for book and tax purposes.
At September 30, 2009, the Companys equity-method investee and approximate ownership interest, based on outstanding shares, are as follows:
The Companys investment in Carey Holdings, Inc. (Carey) is recorded within other non-current assets on the Consolidated Condensed Balance Sheets and the Companys share of Careys operating results is reported within operating expenses on the Consolidated Condensed Statements of Operations. At September 30, 2009, the Companys investment totaled $34 million, including a net loss of $9 million, representing the Companys share of Careys operating results for the nine months ended September 30, 2009. As of September 30, 2009, Carey has not met the financial covenants in certain of its debt agreements and is currently in discussions with its lenders. At December 31, 2008, the Companys investment totaled $43 million.
Other current assets consisted of:
Other non-current liabilities consisted of:
Long-term debt consisted of:
In February 2007, the Company agreed to guarantee (the Guarantee) the payment of principal, premium, if any, and interest on the $1.0 billion aggregate principal amount of senior notes issued by Avis Budget Car Rental in April 2006 (the Notes). The Notes consist of Avis Budget Car Rentals 7 5/8% Senior Notes due 2014, 7 3/4% Senior Notes due 2016 and Floating Rate Senior Notes due 2014. In consideration for providing the Guarantee, the Company received $14 million, before fees and expenses, from certain institutional investors. The $14 million consideration is being treated as deferred income and being amortized over the life of the debt. As of September 30, 2009, the deferred consideration remaining to be amortized amounted to $9 million.
Committed Credit Facilities and Available Funding Arrangements
At September 30, 2009, the committed credit facilities available to the Company and/or its subsidiaries at the corporate or Avis Budget Car Rental level were as follows:
The Companys debt agreements contain restrictive covenants, including restrictions on dividends paid to the Company by certain of its subsidiaries, the incurrence of indebtedness by the Company and certain of its subsidiaries, acquisitions, mergers, liquidations, and sale and leaseback transactions. The senior credit facilities also contain a minimum EBITDA requirement (as defined in the senior credit facilities). As of September 30, 2009, the Company was in compliance with the financial covenants in its senior credit facilities.
Debt under vehicle programs (including related party debt due to Avis Budget Rental Car Funding (AESOP) LLC (Avis Budget Rental Car Funding)) consisted of:
The following table provides the contractual maturities of the Companys debt under vehicle programs (including related party debt due to Avis Budget Rental Car Funding) at September 30, 2009:
As of September 30, 2009, available funding under the Companys vehicle programs (including related party debt due to Avis Budget Rental Car Funding) consisted of:
Debt agreements under the Companys vehicle-backed funding programs contain restrictive covenants, including restrictions on dividends paid to the Company by certain of its subsidiaries and restrictions on indebtedness, mergers, liens, liquidations, and sale and leaseback transactions. As of September 30, 2009, the Company was not aware of any instances of non-compliance with such covenants.
The Internal Revenue Service (IRS) has commenced an audit of the Companys taxable years 2003 through 2006, the year of the Separation. The Company has recorded a $476 million liability in respect of such taxable years, reflecting the Companys current best estimates of the probable outcome with respect to certain tax positions. The Company believes that its accruals for tax liabilities, including the liabilities for which it is entitled to indemnification from Realogy and
Wyndham, are adequate for all remaining open years based on its assessment of many factors, including past experience and interpretations of tax law applied to the facts of each matter.
The rules governing taxation are complex and subject to varying interpretations. Therefore, the Companys tax accruals reflect a series of complex judgments about future events and rely heavily on estimates and assumptions. Although the Company believes the estimates and assumptions supporting its tax accruals are reasonable, the potential result of an audit or litigation related to tax could include a range of outcomes, and could result in tax liabilities for the Company that are materially different from those reflected in the Consolidated Condensed Financial Statements. Notwithstanding this, as discussed above, the Company is entitled to indemnification by Realogy and Wyndham for substantially all of its recorded liabilities for open tax matters and therefore does not expect such resolution to have a material impact on its earnings, financial position or cash flows. As further discussed below, Realogy posted a letter of credit in April 2007 for the benefit of the Company related to its indemnification obligations to the Company.
As a result of payments made by Realogy and Wyndham in July 2009, the judgment in respect of the litigation alleging breach of contract and fraud arising out of the acquisition of a business in 1998 which occurred just prior to Cendants announcement of the discovery of accounting irregularities at its former CUC business units was satisfied. Plaintiffs have petitioned the court for attorneys fees in the amount of $33 million and the Company has accrued liabilities of approximately $12 million in respect of this petition based on its assessment of amounts that plaintiffs are likely to recover. Regardless of the ultimate outcome of the petition for attorneys fees, pursuant to the Separation Agreement (described below), Realogy and Wyndham have assumed all liabilities related to this litigation, as discussed below, and therefore a corresponding receivable has been established for such amount. Additionally, a letter of credit, as discussed below, has been posted by Realogy to cover its share of the estimated liabilities it has assumed related to this litigation. Changes in liabilities related to such legal matters for which the Company is entitled to indemnification, and corresponding changes in the Companys indemnification assets, are shown net on the Consolidated Condensed Statements of Operations. There was no net impact to the Companys financial statements or cash balances as a result of the satisfaction of this judgment or the petition for attorneys fees.
In connection with the spin-offs of Realogy and Wyndham, the Company entered into the Separation Agreement, pursuant to which Realogy assumed 62.5% and Wyndham assumed 37.5% of certain contingent and other corporate liabilities of the Company or its subsidiaries, which are not primarily related to any of the respective businesses of Realogy, Wyndham, Travelport and/or the Companys vehicle rental operations, in each case incurred or allegedly incurred on or prior to the separation of Travelport from the Company (Assumed Liabilities). Realogy is entitled to receive 62.5% and Wyndham is entitled to receive 37.5% of the proceeds from certain contingent corporate assets of the Company, which are not primarily related to any of the respective businesses of Realogy, Wyndham, Travelport and/or the Companys vehicle rental operations, arising or accrued on or prior to the separation of Travelport from the Company (Assumed Assets). Additionally, if Realogy or Wyndham were to default on its payment of costs or expenses to the Company related to any Assumed Liabilities, the Company would be responsible for 50% of the defaulting partys obligation. In such event, the Company would be allowed to use the defaulting partys share of the proceeds of any Assumed Assets as a right of offset.
The Company does not believe that the impact of any unresolved proceedings constituting Assumed Liabilities related to the litigation described above or other pre-Separation activities should result in a material liability to the Company in relation to its consolidated financial position or liquidity, as Realogy and Wyndham each have agreed to assume responsibility for these liabilities, which include liabilities associated with litigation which was retained by the Company in connection with the sale of its former Marketing Services division.
In April 2007, Realogy was acquired by an affiliate of Apollo Management VI, L.P. The acquisition does not affect Realogys obligation to satisfy 62.5% of the contingent and other corporate liabilities of the Company or its subsidiaries pursuant to the terms of the Separation Agreement. As a result of the acquisition, Realogy has greater debt obligations and its ability to satisfy its portion of the contingent and other corporate liabilities may be adversely impacted. In accordance with the terms of the Separation Agreement, Realogy posted a letter of credit in April 2007 for the benefit of the Company to cover its estimated share of the Assumed Liabilities discussed above, subject to adjustment, although there can be no assurance that such letter of credit will be sufficient or effective to cover Realogys actual obligations if and when they arise.
In October 2009, a jury rendered a verdict against the Company regarding an action filed in 2003 by one of the Companys licensees for breach of contract and other claims related to the Companys acquisition of its Budget vehicle rental business in 2002. The Company plans to file a motion to set aside the jurys decision or grant a new trial. The Company has accrued liabilities of $18 million related to this litigation.
In addition to the matters discussed above, the Company is also involved in claims, legal proceedings and governmental inquiries related to its vehicle rental operations, including contract disputes, business practices issues, insurance claims, intellectual property claims, environmental issues and other commercial, tax and employment matters, including wage and hour claims. The Company believes that it has adequately accrued for such matters as appropriate or, for matters not requiring accrual, believes that they will not have a material adverse impact on its results of operations, financial position or cash flows based on information currently available. However, litigation is inherently unpredictable and, although the Company believes that its accruals are adequate and/or that it has valid defenses in these matters, unfavorable resolutions could occur, which could adversely impact the Companys results of operations or cash flows in a particular reporting period.
Commitments to Purchase Vehicles
The Company maintains agreements with vehicle manufacturers which require the Company to purchase approximately $4.4 billion of vehicles from manufacturers over the next twelve months. The majority of these commitments are subject to the vehicle manufacturers satisfying their obligations under the repurchase and guaranteed depreciation agreements. The Companys featured suppliers for the Avis and Budget brands are General Motors Company and Ford Motor Company, respectively, although the Company purchases vehicles produced by numerous other manufacturers. The purchase of such vehicles is financed primarily through the issuance of vehicle-backed debt in addition to cash received upon the sale of vehicles in the used car market and under repurchase or guaranteed depreciation programs.
Concentrations of credit risk at September 30, 2009 include (i) risks related to the Companys repurchase or guaranteed depreciation agreements with domestic and foreign car manufacturers, including Chrysler Group LLC, General Motors Company, Hyundai Motor America, Kia Motors America and Ford Motor Company primarily with respect to receivables for program cars that have been returned to the car manufacturers and (ii) risks related to receivables from Realogy and Wyndham of $506 million and $310 million, respectively, related to certain contingent, income tax and other corporate liabilities assumed by Realogy and Wyndham in connection with the Separation.
The Company has provided certain guarantees to, or for the benefit of, subsidiaries of Realogy, Wyndham and Travelport which, as previously discussed, were disposed of during third quarter 2006. These guarantees relate to various real estate operating leases. The maximum potential amount of future payments that the Company may be required to make under the guarantees relating to the various real estate operating leases is estimated to be approximately $253 million. At September 30, 2009, the liability recorded by the Company in connection with these guarantees was approximately $5 million. To the extent that the Company would be required to perform under any of these guarantees, the Company is entitled to indemnification by Realogy, Wyndham and Travelport. The Company monitors the credit ratings and other relevant information for Realogy, Wyndham and Travelports parent company in order to assess the status of the payment/performance risk of these guarantees.
For the nine months ended September 30, 2009 and 2008, the Company did not pay cash dividends.
During the nine months ended September 30, 2009, the Company did not repurchase any of its common stock. The Company used approximately $33 million of available cash to repurchase approximately 2.9 million shares of Avis Budget Group, Inc. common stock under its common stock repurchase program during the nine months ended September 30, 2008.
Accumulated Other Comprehensive Income (Loss)
The components of accumulated other comprehensive income (loss) were as follows:
Total Comprehensive Income
Comprehensive income consists of net income (loss) and other gains and losses affecting stockholders equity that, under U.S. GAAP, are excluded from net income.
The components of other comprehensive income (loss) were as follows:
During the nine months ended September 30, 2009 and 2008, the Company recorded unrealized gains on cash flow hedges of $42 million ($26 million, net of tax) and unrealized losses on cash flow hedges of $4 million, net of tax, respectively, in accumulated other comprehensive income (loss), which primarily related to the derivatives used to manage the interest-rate risk associated with the Companys vehicle-backed debt and the Companys floating rate debt. Such amount in the nine months ended September 30, 2009 and 2008, included $54 million of unrealized gains and $11 million of unrealized losses, excluding tax, respectively, on cash flow hedges related to the Companys vehicle-backed debt and is offset by a corresponding change in the Companys Investment in Avis Budget Rental Car Funding on the Consolidated Condensed Balance Sheets.
The Company records compensation expense for all outstanding employee stock awards based on the estimated fair value of the award at the grant date and is recognized as an expense in the Consolidated Condensed Statement of Operations over the requisite service period. The Company recorded stock-based compensation expense of $4 million and $4 million ($2 million and $2 million, after tax) during third quarter 2009 and 2008, respectively, and $10 million and $11 million ($6 million and $6 million, after tax) during the nine months ended September 30, 2009 and 2008, respectively, related to employee stock awards that were granted by the Company.
The Company applies the direct method and tax law ordering approach to calculate the tax effects of stock-based compensation. In jurisdictions with net operating loss carryforwards, tax deductions for 2009 and 2008 exercises of stock-based awards did not generate a cash benefit. Approximately $30 million of tax benefits will be recorded in additional paid-in capital when realized in these jurisdictions.
In first quarter 2009, the Company granted approximately 4 million stock options to its employees under the Companys 2007 Equity and Incentive Plan. The grant consisted of approximately 2.7 million time-vesting stock options, approximately 0.9 million performance-vesting stock options and approximately 0.4 million market-vesting stock options. The performance-vesting and market-vesting stock options also contain a time-vesting component.
The time-based awards cliff vest on the two-year anniversary of the date of grant while the performance-based awards vest on the one-year anniversary of the date of grant provided certain minimum EBITDA levels are attained. The market-based awards were granted to the Companys CEO and President and vest on the two-year anniversary of the date of grant. The vesting of the market-based awards is conditional on the average closing stock price of the Companys common stock equaling or exceeding $5 for a 20 consecutive trading day period. This criterion has been met. The option exercise price was set at the closing price of the Companys common stock on the date of the grant and the options expire 10 years from the date of the grant. The performance-vesting stock options expire immediately if vesting criteria are not met by the deadline of such criteria.
The Company used the Black-Scholes option pricing model to calculate the fair value of the time-vesting and performance-vesting stock option awards granted in first quarter 2009. The Company determined the fair value of its market-vesting awards using a Monte Carlo simulation model with assumptions including, but not limited to, the options expected life and the price volatility of the underlying stock. Based on facts and circumstances at the time of the grant, the Company used a blended volatility rate that combines market-based measures of implied volatility with historical volatility as the most appropriate indicator of the Companys expected volatility. The Company considered several factors in estimating the life of the options granted, including the historical option exercise behavior of employees and the option vesting periods. The risk-free interest rate is derived from the U.S. Treasury yield curve in effect at the time of grant and, since the Company does not currently pay or plan to pay a dividend on its common stock, the expected dividend yield was zero. Based on these assumptions, the fair value of each of the Companys time-vesting, performance-vesting and market-vesting stock options issued in first quarter 2009 was estimated to be approximately $0.64, $0.59 and $0.45, respectively.
The following table presents the assumptions used to estimate the fair value of stock options at the time of the grant using the Black-Scholes and Monte Carlo simulation option pricing models:
The activity related to the Companys restricted stock units (RSUs) and stock option plans consisted of (in thousands of shares):
The table below summarizes information regarding the Companys outstanding stock options as of September 30, 2009 (in thousands of shares):
As of September 30, 2009, the Company also had approximately 0.5 million outstanding stock appreciation rights with a weighted average exercise price of $24.40, a weighted average remaining contractual life of 3.8 years and unrecognized compensation expense of $1 million.
The reportable segments presented below represent the Companys operating segments for which separate financial information is available and is utilized on a regular basis by its chief operating decision maker to assess performance and to allocate resources. In identifying its reportable segments, the Company also considers the nature of services provided by its operating segments. Management evaluates the operating results of each of its reportable segments based upon revenue and EBITDA, which is defined as income from continuing operations before non-vehicle related depreciation and amortization, any impairment of goodwill, other intangible asset or equity investment, non-vehicle related interest and income taxes. The Companys presentation of EBITDA may not be comparable to similarly-titled measures used by other companies.
Since December 31, 2008, there have been no significant changes in segment assets with the exception of the Companys Domestic Car Rental and International Car Rental segments assets under vehicle programs. At September 30, 2009,
segment assets under vehicle programs amounted to approximately $5.0 billion and $956 million for Domestic Car Rental and International Car Rental, respectively, and at December 31, 2008, $6.5 billion and $780 million, for Domestic Car Rental and International Car Rental, respectively.
The following consolidating financial information presents Consolidating Condensed Statements of Operations for the three months and nine months ended September 30, 2009 and 2008, Consolidating Condensed Balance Sheets as of September 30, 2009 and December 31, 2008, and Consolidating Condensed Statements of Cash Flows for the nine months ended September 30, 2009 and 2008 for: (i) Avis Budget Group, Inc. (the Parent); (ii) Avis Budget Car Rental and Avis Budget Finance, Inc. (the Subsidiary Issuers); (iii) the guarantor subsidiaries; (iv) the non-guarantor subsidiaries; (v) elimination entries necessary to consolidate the Parent with the Subsidiary Issuers, the guarantor and non-guarantor subsidiaries; and (vi) the Company on a consolidated basis. The Subsidiary Issuers and the guarantor and non-guarantor subsidiaries are 100% owned by the Parent, either directly or indirectly. All guarantees are full and unconditional and joint and several. This financial information is being presented in relation to the Companys Guarantee of the Notes issued by Avis Budget Car Rental. See Note 12Long-term Debt and Borrowing Arrangements for additional description of these Notes. The Notes have separate investors than the equity investors of the Company and the Notes are guaranteed by certain subsidiaries.
Investments in subsidiaries are accounted for using the equity method of accounting for purposes of the consolidating presentation. The principal elimination entries relate to investments in subsidiaries and intercompany balances and transactions. For purposes of the accompanying Consolidating Condensed Statements of Operations, certain expenses incurred by the Subsidiary Issuers are allocated to the guarantor and non-guarantor subsidiaries.
In September 2007, Avis Budget Car Rental transferred certain assets and liabilities to Wizard Services, Inc. (Wizard Services, a newly created subsidiary. Wizard Services executed a Supplemental Indenture in January 2009 to become a subsidiary guarantor under the Indenture governing the Notes. Accordingly, financial information for Wizard Services for the three and nine months ended September 30, 2009 and as of September 30, 2009, is presented in the Guarantor Subsidiaries column. Previously, such information was included in the Subsidiary Issuers column. Financial information for the three and nine months ended September 30, 2008 and as of December 31, 2008 for Wizard Services has been recast to reflect Wizard Services as a Guarantor for comparability purposes.
Consolidating Condensed Statements of Operations
Three Months Ended September 30, 2009
Nine Months Ended September 30, 2009
Three Months Ended September 30, 2008
Nine Months Ended September 30, 2008
Consolidating Condensed Balance Sheets
As of September 30, 2009
As of December 31, 2008
Consolidating Condensed Statements of Cash Flows
Nine Months Ended September 30, 2009
Nine Months Ended September 30, 2008
The Company evaluated events through November 3, 2009 for consideration as a subsequent event to be included in its September 30, 2009 Condensed Consolidated Financial Statements issued November 3, 2009. Other than the item discussed in Note 14Commitments and Contingencies, the following represent the Companys subsequent events.
On October 1, 2009, the Companys Avis Budget Rental Car Funding (AESOP) LLC subsidiary issued $450 million in asset-backed notes to provide funds for repayment of maturing vehicle-backed debt and the acquisition of rental cars in the United States. The expected final payment date for these notes is in February 2013.
On October 13, 2009, the Company completed an offering of $345 million of its 3.50% Senior Convertible Notes due 2014. The initial conversion rate for the notes is 61.5385 shares of common stock per $1,000 principal amount of the notes, which is equal to an initial conversion price of approximately $16.25 per share. The notes mature October 1, 2014. The Company simultaneously entered into a warrant transaction and purchased a convertible note hedge, which effectively increased the conversion premium of the notes, from the Companys perspective, to $22.50 per share.
On October 29, 2009, the Companys Avis Budget Rental Car Funding (AESOP) LLC subsidiary completed the annual renewal of its asset-backed conduit financing, which provides a portion of the financing for the Companys car rental fleet in the United States. This financing was previously comprised of two facilities, with an aggregate maximum available amount of $1.35 billion and $1.1 billion, respectively. At the Companys request, the two facilities were combined into one facility, with a maximum available amount of $1.95 billion and an expiration date of October 28, 2010. In connection with such renewal, the Company reduced its borrowing costs associated with this asset-backed conduit financing.
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The following discussion should be read in conjunction with our Consolidated Condensed Financial Statements and accompanying Notes thereto included elsewhere herein and with our 2008 Annual Report on Form 10-K filed with the Securities and Exchange Commission on February 26, 2009 (the 2008 Form 10-K). Unless otherwise noted, all dollar amounts in tables are in millions and those relating to our results of operations are presented before taxes.
We operate two of the most recognized brands in the global vehicle rental industry through Avis Rent A Car System, LLC and Budget Rent A Car System, Inc. We provide car and truck rentals and ancillary services to businesses and consumers in the United States and internationally.
We operate in the following business segments:
Our revenues are derived principally from car and truck rentals in our Company-owned operations and include (i) time and mileage (T&M) fees charged to our customers for vehicle rentals, (ii) reimbursement from our customers for certain operating expenses we incur, including gasoline and vehicle licensing fees, as well as airport concession fees, which we pay in exchange for the right to operate at airports and other locations, and (iii) sales of loss damage waivers and insurance and rentals of navigation units and other items in conjunction with vehicle rentals. We also earn royalty revenue from our franchisees in conjunction with their vehicle rental transactions.
Car rental volumes are closely associated with the travel industry, particularly airline passenger volumes, or enplanements. Because we operate primarily in the United States and generate a significant portion of our revenue from our on-airport operations, we expect that our ability to generate revenue growth will be somewhat dependent on increases in domestic enplanements. We have also experienced significant per-unit fleet cost increases over the last four years, which have negatively impacted our margins. Accordingly, our ability to achieve profit margins consistent with prior periods remains dependent on our ability to successfully manage our costs and to implement changes in our pricing programs. Our vehicle rental operations are seasonal. Historically, the third quarter of the year has been our strongest quarter due to the increased level of leisure travel and household moving activity. Any occurrence that disrupts rental activity during the third quarter could have a disproportionate adverse effect on our results of operations. We have a partially variable cost structure and routinely adjust the size and, therefore, the cost of our rental fleet in response to fluctuations in demand. However, certain expenses, such as rent, are fixed and cannot be reduced in response to seasonal fluctuations in our operations.
We believe that the following factors, among others, may affect and/or have impacted our financial condition and results of operations: