Maybe They Should Have Quick-Flipped It

Nearly two years ago, I moderated a debate of sorts between Kevin Conway, managing partner of Clayton Dubilier & Rice, and Andrew Ross Sorkin, ubiquitous M&A reporter for the NY Times. It was mostly about the behavior of private equity firms, with lots of talk about CD&R’s involvement with car rental company Hertz.

Specifically, Sorkin and others had essentially accused Hertz’s private equity owners of doing little more than a quick flip ($15b acquisition to IPO in a year). Them’s fighting words in LBO land, where most investors fancy themselves operational savants — able to add value to a company with a touch of their finger (and then, and only then, profit from the improvements).

Conway bristled at the overall criticism, in part because CD&R and Hertz’s other PE backers still owned most of Hertz, post-IPO. This was an important point emphasized over and over again. In fact, the PE firms still control Hertz today, with 55% of the company’s outstanding stock.

Well, I’m now thinking that a quick flip might not have been such a terrible idea. Hertz has just dropped below $3 per share, on General Motors’ warning that it may go bankrupt. DealBook explains:

About 28 percent of Hertz’s rental fleet is G.M. cars, according to regulatory filings. For some of those cars, Hertz has agreements with G.M. that allow it to sell them back to the automaker, as well as “guaranteed depreciation” schedules that put a floor on the resale price.

But if G.M. were in Chapter 11, it could use bankruptcy law to break those agreements. The residual value of cars not subject to the agreements would also take a hit. What’s more, Hertz could find itself in line with other creditors for money G.M. owed it for cars already sold.

It obviously would have been impossible for Hertz’s PE backers to complete a pure quick-flip, because they couldn’t have found public market buyers for all of their shares (particularly given that the IPO prices low). But the firms did manage to unload 45 million shares one year later in a secondary sale, which priced at $22.25 per share. I’ll bet they’re now wishing they’d tried unloading even more. Quick flips might have been unpopular, but at least they were profitable…