Rental Car ABS Outlooks Revised to Negative On Coronavirus Impact
Tue 31 Mar, 2020
Fitch Ratings-New York-31 March 2020: Rental Car (RC) asset-backed securities (ABS) trust performance is facing heightened risks as the coronavirus hit the travel and RC industries head-on, and Fitch Ratings has revised its sector outlook to Negative from Stable. Despite mounting risks, Fitch's Rating Outlook remains Stable driven by current trust performance metrics, the ability of RC companies to manage their fleet and service ABS, and structural features in ABS transactions to protect noteholders.
RC companies are trying fast to address and enact funding and operational measures to weather the massive decline in leisure and business travel and huge hit to vehicle rentals. Amid major cities locking down citizens impacting travel and car rental demand, RC companies need to de-fleet to right-size their fleets and address funding needs, while anchoring their corporate credit profiles to withstand and survive through this crisis.
When de-fleeting, RC fleet values face asset risks from the potential hit to vehicle values across the wholesale used vehicle market, and need to manage this to avoid losses from non-program vehicle (NPV) dispositions and contain any potential jump in depreciation. RC companies are turning back auto manufacturer program vehicles (PV) to reduce fleets, and try to manage down upcoming original equipment manufacturer (OEM) deliveries, and this does offer them some form of downside support as OEMs take back vehicles as per agreed terms. Further, dislocation in the wholesale auction market and operational challenges will further complicate fleet management. These risks combined will pressure ABS asset performance and test fleet servicing capabilities.
Fitch currently rates 19 series totaling $10.7 billion in outstanding notes composed of nearly 70 note tranches issued from the Avis Budget Rental Car Funding (AESOP) LLC ($4.65 billion from eight series) serviced by Avis Budget Group, Inc. (Avis), and Hertz Vehicle Financing II LP (HVF II) ($6.04 billion from 11 series) serviced by The Hertz Corporation (Hertz). Fitch does not rate (NR) Avis or Hertz.
While we apply criteria rating 'through the cycle' and RC ABS transaction structures offer protections, the ongoing virus spread/scale and impact, and policy measures instituted are unprecedented and beyond prior travel industry and business cycle downturns. Although remote at this point, this action considers the potential negative impact on ABS trust performance metrics beyond Fitch's stressed levels and outside of our derived base case ABS series Expected Loss (EL) levels, including higher, faster depreciation and NPV disposition losses as servicers shrink their fleets down. Material auto wholesale market operational challenges will be challenging and complicate de-fleeting given closure and disruptions to disposition channels. Fitch has started to observe declines in wholesale auction activity and used values as of the end of March.
Further, as travel demand has collapsed along with rental volumes, RC company credit profiles are under pressure given massive declines in rental volumes, revenues and profits. Fitch does not publicly rate RCs, but view their operational capabilities and ability to pay-down and service ABS adequately, and manage through the market volatility over the next three to six months. Both Avis and Hertz do not appear to need further fleet vehicle financing for the rest of 2020 as they continue defleeting, and are actively accessing surplus equity in its car-rental fleets/facilities to provide incremental liquidity.
Importantly, Fitch's ABS criteria delinks the credit profile of the sponsors and assumes an immediate RC company bankruptcy and liquidation of the fleet over several months under stressed wholesale market conditions and values, which we discuss further below.
Structural Features Provide Protection to ABS
Trust performance metrics such as vehicle depreciation and disposition losses outside of our existing criteria assumptions are key risks Fitch is monitoring, although it will take a few months for the current environment to present itself in trust metrics. Supportive trust features to address these risks include monthly vehicle mark-to-market (MTM) and disposition proceeds tests, where to date both AESOP and HVF II trusts have not breached in recent years. Further, minimum depreciation rates applied to each trust ensure further minimum marks to ongoing vehicle depreciation, and for AESOP and HVF II the minimum is around 1.65%. MTM tests verify that the book value of the vehicles in the RC fleet do not exceed the current market value of the vehicles in the secondary market, and disposition proceeds tests are in place to compare vehicle sales proceeds to market values.
On a three-month average basis, both issuers have maintained these trust marks and parameters for MTM/disposition tests in excess of 100% in recent years. If these tests see sustained results below 100% for three or more months wherein either the book value of the vehicle exceeds the market values, or market value of vehicles exceed sales proceeds, both trusts are required to add additional enhancement to support the outstanding notes. In addition to these performance tests, each transaction can benefit from available liquidity facilities, often in the form of letters of credit, which support at least six months of interest payments on the notes if needed.
Trust concentration limits in place aim to diversify RC fleets by vehicle make/brand and type (trucks/SUVs/cars etc.). Further, trust OEM limits in place, by investment grade (IG) versus non-IG brand vehicles, link vehicle compositions to the ultimate strength of OEMs. However, Fitch does not link such concentration features to our EL analysis, and at the highest derived EL assumes a worst case fleet for a trust.
Fitch's base case coronavirus scenario assumes a sharp contraction through mid-year, then stabilization in 3Q20 and a recovery in 4Q20 into 2021. Further, the wholesale vehicle market is starting to come under pressure along with used values; this disposition channel is relied on heavily by RC companies. In coming months, this will pressure efficiencies across RC companies' fleet management disposition channels, either for wholesale auction sales or their own retail sales networks. However, the massive OEM production pull-back in the U.S. may provide support as supply falls and could then support used prices, but this risk remains uncertain as this pandemic moves through the country.
The features described above are in place to support the outstanding trust issuances through times of economic downturn, and the ABS risks mentioned prior in Fitch's base case scenario.
In mid-March, CEOs of Avis, Hertz and Enterprise Holdings Inc. sent a joint letter to the U.S. government requesting that the industry be included in any economic stimulus package assembled by the government. The companies are seeking tax deferments as well as reduced revenue-sharing with airports. While Fitch acknowledges that government support and/or consolidation initiatives may provide support to RC companies, the form of support and details are unclear at this point and the agency will consider implications as more information becomes available.
Debt Maturities Coming Due in 2020
Avis has two ABS series maturities in 2020, including 2015-1 ($433.33 million paying down now in the controlled amortization period, and expected to be paid off in July) and 2015-2 ($500 million to be paid down in December) totaling $983.33 million, and just closed a $700.0 million ABS deal in January of this year. Hertz just paid down the $780.0 million 2015-1 series (not rated by Fitch) on March 25, and has two further ABS maturities this year totaling $850.0 million, namely 2015-3 ($371.2 million maturing in September) and 2017-1 ($478.8 million maturing in October), and as they de-fleet that cash can be utilized to pay down debt.
When vehicles are financed in securitizations, these vehicles are added at a certain advance rate and then depreciated at minimum levels that are higher than GAAP-reported depreciation. When these vehicles are subsequently sold and removed from the fleet, this frees up cash that is locked up in the ABS trust, bolstering liquidity to potentially pay down outstanding debt.
RC companies must manage ongoing OEM PV deliveries, but as the need for re-fleeting has diminished now, they may look to renegotiate these, defer or even cancel them under agreement terms, if possible. This will help free up liquidity, particularly for debt maturities coming due in the near term.
RC company operational abilities to service ABS are solid and both companies managed through the 2008-2009 Great Recession, experience they can now leverage. They have either closed or reduced operations and working hours at rental lots to contain costs, both for on-an-off airport locations, overall cutting costs in various ways.
Fitch ABS Expected Loss Levels Derived In a Severe Liquidation Scenario Importantly, Fitch's analysis of RC ABS immediately assumes a Chapter 7 Bankruptcy of the RC company/servicer, and then a complete fleet liquidation over a period of time utilizing stresses based on prior recessionary depreciation, disposition losses and casualty losses. The derived base case EL from liquidation of such revolving pools is evaluated at the best and worst case fleet concentrations based on trust concentration limits. The best case fleets are primarily composed of PV from IG OEMs, with the worst case fleets made up of primarily NPV from non-IG manufacturers. Credit enhancement available covers such Fitch EL levels, and are adequate to cover any short-term asset disposition losses or elevated depreciation where this to occur over the short term.
Fitch's 'AAAsf' EL levels for the worst and best fleet mixes for AESOP is 33.2%-16.0% for the most recent 2020-1 series, and 35.1%-20.1% for HVF II series 2019-3. Therefore, it would take depreciation levels outside of our assumed rate of 1.45%/1.50% for AESOP PV and NPV, respectively and 1.45%/2.05% for HVF II PV and NPV, respectively and disposition losses outside of our criteria driven/recessionary based levels of 24% for 'AAAsf', to impact current total ELs for each trust. Given current trust levels for these metrics, with effective economic depreciation and disposition losses below these levels, Fitch's derived EL is not currently in play and performance would need to materially decline to test these loss levels in the next three to six months.
Further, fleet liquidation agents and backup servicer/administrative agents in place provide operational support to ABS transactions to locate and execute servicing/administrative roles, in the event of a RC company bankruptcy and liquidation of the fleet.
