Good morning and welcome to the Hertz Holdings Third Quarter 2021 Earnings Conference Call. All participants will be in a listen only mode. After today's presentation, there will be an opportunity to ask Please note, today's event is being recorded. I would now like to turn the conference over to Elizabeth Togashi. Please go ahead.
Thank you, Rocco, and thank you all for joining us this morning. Welcome everyone to our Q3 2021 earnings conference call. Earlier today, our press release, presentation slides and 10 Q were filed with the SEC And all of them are posted on the Events page of our IR website at ir.hercrentals.com. This morning, I'm joined by Larry Silver, President and Chief Executive Officer Aaron Birnbaum, Senior Vice President and Chief Operating Officer And Mark Irion, Senior Vice President and Chief Financial Officer. We'll review our Q3 year to date results with comments on operations and our financials, including our view of the industry and our strategic outlook.
The prepared remarks will be followed by an open Q and A. Before we begin our formal remarks, I'd like to remind you to review our Safe Harbor statements on Slide 3. Today's call will include forward looking statements. These statements are based on the environment as we see it today and therefore involve risks and uncertainties. I would caution you that our actual results could differ materially from the forward looking statements made on this call.
You should also refer to the Risk Factors section of our annual report on Form 10 ks for the year ended December 31, 2020. In addition to the financial results presented on a GAAP basis, we will be discussing non GAAP information that we believe is useful in evaluating the company's operating performance. Reconciliations for these non GAAP measures to the closest GAAP equivalent can be found in the conference call materials. Finally, a replay of this call can be accessed via dial in or through a webcast on our website. Replay instructions were included in our earnings release this morning.
We have not given permission for any other recording of this call and do not approve or sanction any transcribing of the call. I'll now turn the call over to Larry.
Thank you, Elizabeth, and good morning, everyone. Please turn to Slide number 4. Our 3rd quarter results continue to demonstrate Outstanding operational execution and reflect new records in many of our financial metrics. Slide 4 shows the Q3 results over the last 3 years. Given the unusual performance in 2020 Due to the impact of COVID-nineteen, we share a comparison with not only 2020, but 2019.
As you can see, our performance in 2021 clearly accelerated our growth trajectory. Equipment rental revenue was 519 $6,000,000 in the 3rd quarter, an increase of 29.2 percent or $117,300,000 compared to the prior year and 13.1 percent over 2019. This increase was driven by solid performance
in our
core business And growing market share from our specialty businesses, both of which continue to outpace our pre pandemic performance in 2019. Adjusted EBITDA grew by 25% over prior year and 17.4% over 2019. Our focus on operating leverage improved year over year adjusted EBITDA margin by 160 basis points to 44.7 percent in the Q3 of 2021. We reported net income of $72,300,000 or $2.37 per diluted share in the 3rd quarter compared with $39,900,000 or $1.35 per diluted share last year. We are on our way to a record 2021.
This is an exciting time for Teamwork And as you know from our growth calls we presented at our recent Investor Day, we have the appetite and desire to achieve greater success. Our industry leading rate management delivered strong results in a favorable operating environment, which benefited from tight equipment supply and steady rental demand. Given the indications For the rest of the year, we are affirming the full year adjusted EBITDA guidance range we provided at our Investor Day of $870,000,000 to $890,000,000 which was the 3rd time we raised guidance. Now please turn to Slide number 5. 2021 has turned out to be a pivotal year for the equipment rental industry.
Tight supplies of equipment and steady demand have created an optimal environment for us. We increased dollar utilization year over year by 8 Our focus on the top MSAs in North America and filling out our urban density in select locations is driving both our greenfield and acquisition targets. Since December 2020, we completed 5 acquisitions for a cumulative total purchase price of $280,000,000 and announced our 6th acquisition Rapid Equipment Rental of Toronto earlier this month. We also recently announced the declaration of our 1st quarterly dividend of $0.50 per share to shareholders of record as of October 20 and payable on November 4. Our strong year to date performance is clearly providing the momentum and growth that we expect going forward.
Now please turn to Slide number 6. With a history of over 56 years in the equipment rental industry, our 5,100 Plus team members works hard to ensure our customers achieve optimal performance safely, efficiently and effectively every day. Everything we do is built on our promise and commitment to help our customers and communities build a brighter future. As of today, we are now operating 295 locations across the United States and Canada in 39 states and 5 provinces. We're excited about the momentum we are generating and in developing our M and A pipeline.
Please turn to Slide number 7. We introduced our strategy shifting into high gear at our Investor Day last month. The business model is simple, yet it takes experience and commitment To truly capitalize on the opportunities we have in an expanding addressable equipment market and truly fragmented industry. Our team is hungry to take advantage of the exceptional opportunity before us. Now for more details about our operations in the quarter And our outlook, here's Aaron Birnbaum, our Chief Operating Officer.
Thank you, Larry. The Q3 and year to date results reflect the contributions of our outstanding HURC Reynolds field management and team. Every day, our team demonstrates their dedication to serve our customers with a level of professionalism and commitment unparalleled in the industry. Coming off a really tough 2020, we challenged the organization to exceed our 2019 performance. They have stepped up the challenge and not only are they Seating our pre pandemic results, they are delivering exceptional performance throughout North America.
We greatly appreciate the contributions of each and every one of our team members. Congratulations, teamwork for a job well done. Now please turn to Slide 9. Our Q3 results showed exceptional performance compared to 2020 And compared to a strong Q3 in 2019, equipment rental revenue in the quarter was $520,000,000 and rose nearly 30% compared with 2020 And 13% higher than the comparable periods in 2019. Business activity was solid and all of our end markets are showing positive momentum.
Our Pro Solutions business continued to increase year over year by approximately 30% in the Q3 of 2021 as we continue to expand our market share. Our focus on the power generation, climate control and remediation needs of our customers has contributed to the double digit revenue Growth in ProSolutions over the last 4 years. The strategic investments we made to diversify our customer base and industry verticals provided a solid foundation As we successfully built upon our urban market strategy and deepened and widened our market segments throughout North America. Our core business showed the normal upturn in demand in the Q3. We benefited from solid operating performance in our regional operations.
The integration of the acquisitions we made to date is on track and we are actively pursuing other acquisitions in targeted markets. Our HURC operating model continues to drive operational performance and fleet efficiencies and margin improvement, Offsetting increases in year over year personnel related costs in the quarter, our scale and leverage will support further margin improvement over the next few years as our revenue remains Robust. Please turn to Slide 10. Our fleet composition at OEC is on the left hand side of this slide. Total fleet was $4,100,000,000 as of the end of the 3rd quarter, about 9.4% higher than OEC at the end of Q3 2020.
We continue to invest in our specialty fleet, which includes ProSolutions and ProContractor and accounted for about 23% of our total fleet As of the end of Q3 2021, we also continued to improve dollar utilization each quarter in 2021 And achieved a record 46% in the 3rd quarter. On the right hand chart, you can see OEC fleet expenditures in Q3 2021 were $210,000,000 an increase from our Q3 in 2020. Fleet disposals were $44,000,000 in the 3rd Quarter of 2021 compared to $124,000,000 of OEC sold in last year's comparable period. Our fleet department has done a great job getting in front of The fleet from our initial orders. You may recall that in the Q2, we announced that we were ordering an additional $100,000,000 in fleet in 2021 We expect delivery this year.
Our equipment cost increases have not been material this year, but as shortages, inflation and labor costs impact the industry, We anticipate that industry fleet costs will continue to rise in 2022. Fortunately, we had most of our 2022 orders in by September, Some of them had 2021 pricing, so the inflationary impact for our 2022 orders will remain muted. Given the current operating demand for our rental fleet, we reduced Q3 disposals in 2021 year over year by $80,000,000 even as equipment sales proceeds as a percentage of OEC rose from 30 7% last year to 42% this year. The average age of our disposals was 86 months in the Q3 and fleet age is now about 48 months. Please turn to Slide 11.
Our diverse customer mix with our base of large national customers operating in essential business sectors And our expanded specialty business continues to drive our sales strategy. Specialty is expected to continue to be a growth driver as we focus on the expanded addressable markets of climate control, remediation and entertainment. Our other verticals and major industrial customers In Utilities and Energy, Healthcare, Warehousing and Manufacturing and General Construction are gearing up and look to support growth in 2022 and beyond. We're also focused on high growth segments of the economy and our end markets are showing momentum to continue a strong recovery in 2022. We expect to drive additional fleet efficiencies and operate a lean cost structure to drive margin improvement.
Turning now to Slide 12. We shared the cumulative values of our acquisitions we have made to date on the right hand side of this slide at our Investor Day on September 20th. Since then, we also announced the signing of a purchase agreement with Rapid Equipment Rental with 110 employees in 7 locations in the Greater Toronto Area. The transaction is subject to the customary closing conditions and is expected to be completed in the Q4. So we'll start 2022 13 locations in the GTA more than double our current count.
The EBITDA contribution from the acquisitions we've made so far in 2021 isn't to our reported results, but our M and A pipeline is quite robust and we are aggressively seeking additional targeted markets in the top MSAs to help us enhance Our urban density and improve our operating leverage and scale. Please turn to Slide 13. There's been a fair amount of media coverage regarding labor shortages, particularly for truck drivers and mechanics in our industry. As we have said repeatedly, we intend to be the employer of choice in the industry and have made specific strides to offer competitive salaries and benefits to enhance retention And attract talent to TeamHERC. We also intend to be the acquirer of choice and we've been busy integrating our new Team HERC members and focusing on HERC career development, job opportunities and training.
With the spate of climate related events this year, we Are also supporting the Herc families impacted by Hurricane Ida. Our Team Herc members contribute donations and the company matches their contributions to assist our team members in need. Our employee resource groups, Women in Action and the Veterans Employee Resource Group also are active in offering career related programs, Networking opportunities and support. Safety is the foundation of everything we do. At exemplifying that belief, we start every day across our branches with a safety huddle.
As you've heard us talk in the past about various safety initiatives, one of our major internal safety programs focuses on Perfect Days. At this stage, with no OSHA reportable incidents, no at fault motor vehicle accidents and no DOT violations. In the Q3, on our branch by branch measurement, all of our branch operations achieved at least 98% of days as perfect. We're always striving for 100 percent Perfect Days and our commitment to safety means continuous focus through communications and training. It also means supplying the team with the equipment that will help them perform efficiently and safely, particularly in their driving and daily equipment servicing and maintenance activities At all of our branches, our rental days are best when they are done safely 7 days a week.
Now, I'll pass the call on to Mark. Thanks, Aaron, and good morning, everyone.
We continue to be really pleased with our performance and have delivered another excellent quarter in Q3. It's a great environment for the rental industry with strong demand, although supply is constrained like it is in a lot of other industries at the moment. Our fleet team has done a great job with getting our orders in early this year, so that our new fleet arrived steadily throughout the quarter. Our operations team have also done a great job with managing record utilization, getting the fleet to the right customers and the right jobs, Managing peak demands for storm response and by integrating new team members, customers and fleet into the HURC model. This consistent execution has led to a record quarter and is maintaining strong momentum into Q4 and 2022.
Slide 15 shows a summary of our 3rd quarter results compared with 2020 2019. Q3 was a record quarter for many key metrics including rental revenues, net income, adjusted EBITDA, Adjusted EBITDA margin and dollar utilization. Equipment rental revenue increased 29.2% $402,300,000 in 2020 to $519,600,000 in the Q3 of 2021, primarily due to improved volume and continued momentum in pricing. Compared with 2019, With adjusted net income in the Q3 of 2021 of $72,700,000 or $2.38 per diluted share Compared with adjusted net income of $43,200,000 or $1.48 per diluted share in 2019. Adjusted EBITDA increased 25% in comparison to Q3 2020 and was up by 17.4% in comparison to our previous peak cycle In the Q3 of 2019.
Adjusted EBITDA margins were also a record for the Q3 at 44.7% in 2021, Improving from 43.1 percent in 2020 and by 3.50 basis points from 41.2% in 2019. As expected, rolling over the low base effect of the cost side of the business in the COVID impacted quarters of 2020 was likely to impact our ability to maintain our historic flow through and would temporarily slow our margin expansion. EBITDA margins of Q3 2021 remained strong at 45.9%, down by 240 basis points from 2020 and an increase of 100 basis points from 44.9% in 2019. There are all sorts of temporary cost anomalies in the Q3 2020 results and we did not expect to be able to replicate those margins this year. Adjusted REBITDA flow through of 37.5 percent was in line with our expectations and should return to our targeted range of percent to 70% in 2022.
On the cost side, we have some operating expenses coming back into the business along with Record rental revenues we incurred delivery, re rent, payroll and commissions in order to provide superior customer service And to delight our customers. In order to be the employer of choice in the industry, we also have to provide competitive compensation and benefits. We have been adjusting our operating team's compensation to strategically stay ahead of wage inflation and to build our platform for growth. All of this is manageable within the context of double digit growth in rental revenues. We can invest in our business and in our people And continue to improve our margins and investor returns.
The 2020 COVID impacted base effects will run out over the next couple of quarters And we will focus on returning to our targeted flow through range of 60% to 70% in 2022 and beyond. On Slide 16, we highlight pricing and utilization trends by quarter. The graph on the upper left illustrates our success in managing price over the last couple of years And as a testimony to our ability to manage rate, the latest quarter reflects average rates up 2.80 basis points compared to last year. Q3 2020 highlights how well we've managed rates in the COVID downturn, down only 80 basis points despite all of the challenges we faced last year. In Q3 2019, our rates were up 4.5% in a much less inflationary environment than we are currently in.
Our track record of executing on price in all sorts of operating environments is clear and our rates are up by 6.5% over the last 3 years. The right momentum we have built in 2021 is also clear and we will maintain this momentum into 2022. The current market environment of tight equipment supplies and steady demand continues to support our focus on rate and we continue to benefit from our excellent pricing tools And the discipline and professionalism of our sales team. The industry seems to have gotten price momentum back and we intend to continue leading the industry on rate. Great.
Record time utilization and continued momentum in our specialty businesses drove another quarter of record dollar utilization. At 46%, we continue to close in on our goal of industry leading dollar yield. This positive momentum changes our fleet efficiency going forward and has a powerful impact
on our return on assets.
We managed to get our change in fleet size back into positive territory in Q3, which is exciting. A combination of savvy purchasing and early ordering saw us receiving most of our fleet orders during the quarter and we supplemented those orders with some fleet Integrated in conjunction with our acquisition activity. Volume growth in the quarter was almost 4 times the growth in fleet size As we managed an excellent operating environment with record time utilization and efficiency. On Slide 17, with no near term maturities, we have ample liquidity to fund the growth goals we laid out at our recent Investor Day for 2022 and into the future as we commit capital to invest in our business to drive fleet growth into the new cycle. We generated $115,000,000 of free cash flow before acquisitions in the 9 months ended September 30, 2021.
After funding $225,200,000 of acquisitions year to date, our net debt increased approximately 140 $1,000,000 to $1,800,000,000 as of September 30. We have ample liquidity to fund our growth plans and our leverage at 2.1 times At the lower end of our target range of 2 to 3 times. On Slide 18, we share the latest industry forecasts. ARA growth forecasts continue to be in the mid single digit range this year accelerating into 2022. Our rental revenues are up year to date over 2020 by 22.5% and are up year to date on 2019 by 9.9%.
So we clearly have much more momentum than the broader industry and are probably taking share. This is consistent with past experience. Rental companies of scale with broad rental fleets and a well diversified customer base have consistently grown faster than the rental industry in general. And as we have seen in 2021, Hooke is a company of scale with a large well diversified mix of customers. We are clearly in the early stages of the next construction upcycle with steady demand even before we get into any potential benefit from the proposed future boosts to infrastructure spending.
Equipment supplies are tight with our OEMs struggling to manufacture and deliver new equipment due to worldwide supply chain bottlenecks. This is a very favorable environment to own $4,100,000,000 of rental fleet as our customers really appreciate our fleet availability and commitments to service. It should remain a favorable environment for increasing rates as everyone is facing cost inflation to a certain extent. Also, the majority of our business is not directly connected to non residential construction. Our Pro Solutions business is a real strategic benefit, We will look to continue to gain share and grow that business.
There is pent up demand for maintenance and turnarounds in a lot of industrial plants in this segment should also rebound. There is plenty of demand in most of our end markets to support growth into 2022. We have the balance sheet and liquidity to We'll be able to fuel that growth by investing in our fleet and our market share and that is what we intend to do. Looking at the left slide of Slide 19, you see the momentum in our results through 2021 and our expectations to maintain double digit top line growth momentum for 2022 through 2024. We've raised 2021 guidance 3 times this year through our current range of $870,000,000 to $890,000,000 of EBITDA.
We're focused not only on top line growth, but profitable top line growth and have improved our margins in 2021 and intend to continue to improve our margins With a goal in the high 40% range by 2024. On Slide 20, as we laid out at our Investor Day last month, We are affirming fiscal year 2021 guidance from adjusted EBITDA range of $870,000,000 to 890,000,000 For those of you who have not had a chance to review, a video of the Investor Day is posted on the Investor Relations section of our website. We are very excited with the growth momentum we currently have in our business and are also affirming our EBITDA guidance for 2022 $1,050,000,000 to $1,150,000,000 and net fleet rental net fleet capital expenditures of 820 $1,000,000 to $1,120,000 On Slide 21, we also want to highlight the growth goals we laid out at the Investor Day. We're a leader in an industry that is beginning to grow into a new up cycle and that continues to benefit from a secular shift from ownership to rental. Rental industry leaders can grow at 2 to 3 times the growth rate of the broader industry and we see our rental revenue CAGR at 12% to 15% through 2024 And our adjusted EBITDA CAGR at 17% to 20%.
We are focused on profitable growth and our goal for adjusted EBITDA margins is to improve To a range of 45% to 50% by 2024. We're in an exciting industry upcycle are excited about the performance we anticipate over the next couple of years as we look to take advantage of a hot start. With that, I'll turn the call back to Larry.
Thanks, Mark. Now please turn to Slide number 22. Before we move to Q and A, I wanted to point out the vision, Mission and values we developed when we became a public company 5 plus years ago. We frequently talk about our vision and mission, but today I also want to focus on the values we hold here, particularly given the commitment we are making to investors about our growth goals over the next several years. We want you to know that we manage our business by these values, which are we do what is right, we're in this together, We take responsibility, we achieve results, we prove ourselves every day and we are committed to investing in our communities.
And now, operator, please open the lines for questions.
Thank you. We'll now begin the question and answer session. Today's first question comes from Ross Gilardi at BOA. Please go ahead.
Hey, good morning everybody.
Hey, Ross. Good morning.
Just had a question on your capital spending. Mean, you guys are getting your deliveries this year from the sounds of it and have managed that well. But you're obviously out there With big capital spending growth projections for next year, we've all seen what at least JLG has said about the short term For now, and they're obviously got to be a big supplier. So I understand you got the orders in for next But explain again what gives you the confidence that your suppliers can actually produce at the level necessary to deliver That fleet and do you have to take bigger cost increases to ensure that you're prioritized by your suppliers next year? Thanks.
Yes, Ross, great question. And certainly there has been obvious news That we've all heard JLG announce and certainly with your strike that As potential to impact as well, not as great for us, but certainly to impact the supply chain for others in the industry. But generally, we have received confirmation from all of our major suppliers where we have placed orders for 2022 That our order and production slots are intact and that for the most part we will receive everything According to the schedules that we've agreed to with them and we work very closely with them to do things to make sure that our gear is delivered On time. As far as your question about rate, we have been able to do very well in negotiating Rates for next year, we are in the low single digits relative to inflationary pressures on that year. And for now, I don't foresee any issues relative to us receiving that gear In an orderly manner or fashion as we've negotiated with those suppliers.
Aaron may want to comment more.
Larry, I think you've covered it very well. When you look back at this year, we did receive all of our fleet buys that we planned when we initially start 2021 and I think that's because we started early planning for it and then so as you look into 2022, we started early planning for that well. So we fully expect Received the fleet we planned for. I expect disruptions to an extent, maybe some delays, but I do expect to receive the fleet we planned for.
Okay, great. So you would say that you're baking in low single digit type cost inflation into your CapEx outlook for 'twenty two, is that right? And just can you remind everybody how the accounting works on equipment and inflation? Do your rental gross margins Squeeze next year a bit due to the inflation or does the impact get smoothed out just because of the depreciation accounting over the life of the fleet?
Yes. No, I think Ross, so yes, we are looking at low single digit cost increases next year for the broad spend and accounting It gets smoothed out. So I mean that fleet comes in and has depreciated over 7, 8 years. So the increase As smoothed out with no real immediate depreciation impact. Right.
Okay. That's what
I thought.
All right.
I'll hand it over and get back in queue. Thank you, guys.
Yes. And our next question today comes from Steven Ramsey of Thompson Research Group. Please go ahead.
Hi, good morning. Maybe wanted to get into the rate environment. Clearly, The things that won't change your discipline on getting strong rates, but do you feel like this rate environment is pretty favorable into the first half of next year Or if this tight supply environment gets incrementally less tight, do you think this pressures Rates for the industry and what you could get in FY 2022?
Yes. No, there's rate momentum in this environment, Steve, and we don't see that Disappearing, you sort of get a flywheel effect to rate, so that sort of tends to build in a positive environment and we see Right momentum running into 2022 and 2022 being a favorable rate environment for us also.
Okay, great. And then in the other customers group, seeing growth of 70% plus Again, in Q3 after Q2, is the strength in that purely entertainment sector Coming back off the bottom last year or what other areas are driving that strength?
In the other categories would be some of the government activity As well?
Yes, that's the local portion there, Steve, and that's not really entertainment So that's a swing back from COVID. That market was more volatile last year and is coming back sort of stronger this year. So starting to sort of reflect the normal mix we see in local customers versus national accounts.
Excellent. And then last one to clarify on operating expenses being normalized. Are both SG and A and DOE Kind of running it back at normalized levels and if not, what elements are coming in place in the next few months To normalize into next year? Thanks.
Yes. No, we're back at normalized levels. So I mean, we're running at Record levels of revenue, so the normal levels of operating expense and SG and A are there, there's no real None of the COVID cost reductions are taking place last year. So we're back at normal levels And we'll continue sort of operating with those levels through Q4 and into 'twenty two.
Great. Thanks.
And our next question today comes from Jerry Revich with Goldman Sachs. Please go ahead.
Yes. Hi, good morning, everyone.
Good morning, John. Can you talk
about the acquisitions that you closed on, over $200,000,000 So in fleet, how much room do you have to grow that fleet with your specialty business and other areas Now that you have the additional branch locations, can you step us through the plan, so we can think about what it might look like as you make additional acquisitions?
Well, the ones that we have done so far, Jerry, what's exciting about them is that it gives us a lot of the urban density that we want in some of the big MSA Mark, it's only one of them was what we would call as a specialty business, which was a trench business in California. The rest of them are just core general rental businesses. So we have lots of opportunity to drive our specialty synergies through those business and we began that Right away, working on that with the sales teams.
And can you comment on order
of magnitude? Is extra $50,000,000 in fleet, dollars 100,000,000 in fleet, just to give us a rough context?
Well, I think if you just took the revenues that we Acquired from those acquisitions and then assume that there's no specialty business running through them, there's probably extrapolate our 25% Specialty number and that's the fleet that we could push through there to grow that specialty segment type business through there.
Very interesting. And from a utilization standpoint, you folks have worked hard to get fleet availability up. Was the Q3 essentially full out for you folks or as we think about Q3 'twenty two might look like and the comps, Is there room to take utilization higher and what's your seasonally strongest quarter? How would you frame that opportunity?
I would say this is Aaron. I would say that there is still some room for us to run at a higher time than what we did through Q3 this year.
And lastly, Mark, can I get you to expand on the Flywheel comments on this type of environment, spot rates Well above rates that you charge your monthly and national account customers? If you were to mark to market your Monthly international account customers to quarter end, how much higher would the rate be? And can you talk about what's the timing Of those annual agreements, just so we can get an appreciation for the cadence?
So, yes, I mean, I think you've got it right. There's a lot more momentum in the spot market as those Right sort of cycle in every 45 days if you like. So the rate growth that we're seeing in the spot is probably 2 to 3 times what we've got going in national accounts At the moment, we do have positive momentum in the national accounts that just takes longer to sort of get going as they sort of cycle every 12 months. And they're relatively evenly spread throughout the year. So we've got a monthly cadence of renewals within those national accounts and we continue to Focus on getting rates up as they come up for renewal.
Terrific. Thanks.
And the next question today comes from Rob Wertheimer with Melius Research. Please go ahead.
Yes. Hey, good morning, everyone.
I wonder if you could
just remind us or talk through the dynamics of the drop through you expect for the Is it largely just SG and A levers that will become more evident as you've now done a reset? How much is price versus Rental rate versus cost inflation etcetera, just maybe just some background around that? Thank you.
It's probably mostly operating cost leverage. That's the bigger portion of the cost spend In the P and L, but it's a combination of the 2. Obviously, SG and A is a lot more fixed Then operating expenses. So most of it really comes from just putting more fleet on existing locations. So As you add fleet, there's a step function and the cost that comes along with that.
So you don't need to add drivers and mechanics straight away. You do as that sort of fleet increase gets more substantial, but there's a step function to The cost and the OpEx and as that as you sort of work your way through that, there's a pretty steady flow through in that sort of 60% to 70% zone. And Most of our branches can handle existing fleet and a big part of the strategy over the next couple of years is just really accelerating the fleet growth on those existing locations.
Okay. That was very helpful. And then
just can I ask
you a question about our about IT? Larry, we chatted about this at the Investor Day, just what's your feeling on whether IT spend goes up materially or not, where you're positioned on your sort of technology base and maybe the opportunity from
Look, I think when we were at Investor Day and presented our plans, Our IT spend is baked into everything that we're doing and that planning and spending is sort of baked into what We're looking at for the next 3 years. So, I don't think there's any kind of a step function or any kind of incremental spend that you'll see That's not already baked in.
And then just the opportunity in separation versus smaller competitors As you use your scale?
Look, I think the market as you know is Extremely fragmented. The top 3 or 4 players have roughly a third or a little more of the market. So there's a great amount of opportunity due to the fragmentation in the industry. And I think where the separation comes is The ability to spend the kind of capital that we spend both in fleet and IT and Overall structure in the business that gives us, as well as a few other Of our peers, a distinct advantage over smaller independent rental companies. So that will continue to happen.
There will be fragmentation that will there will be further consolidation
due to that fragmentation
and we'll be a part of that.
Today's next question comes from Ken Newman at KeyBanc. Please go ahead.
Hey, good morning, guys.
Good morning,
Dan. Sorry if I missed this, But can you please just quantify the impacts of the personnel costs that you incurred in the quarter? And Just how should we think about labor costs that maybe we should be aware of in coming quarters into 2022?
So I mean part of it is just returning to normal on that sort of base effect comp from 2020. So obviously Commissions were low last year and there was some furlough action still going on in the entertainment business Was effectively shut down. And then part of it's just the return to normal and the sort of inflationary pressures that are touching into the 2022, so the payroll cost as a percentage of revenues isn't huge. We're looking at maybe 5% -ish increases in cost across that sort of spend and That's manageable in the context of double digit sort of revenue growth. So drivers and mechanics are hard to find these days.
We're focused on staying competitive in the market on all of our lines and there's adjustments being made on the regular basis to sort of do that. So it's manageable. It's something that we can deal with And still maintain margins and improve margins as we go forward.
Right. I guess kind of Sticking with labor, but taking it, I guess, a bit of a different route. I mean, luckily, it seems that we were able to avert a strike in Hollywood earlier this week, which Potentially could have been an impact to your entertainment business, but I am curious how you view potential labor headwinds or challenges across your customers Or the end markets that you serve, is there anything that you are seeing in terms of things that are keeping you awake at night or even potential opportunities going forward?
Yes. Look, I think to try to predict that beyond what you hear about Every day, whether it could be a John Deere strike or an averted strike in the entertainment business, I don't think we plan for that. We certainly understand it and we react to it. And as we reacted last year to COVID-nineteen very quickly, We can react to any type of an abnormality in the market if we have resources that are applied to that. So I wouldn't view that as a big challenge.
I certainly don't lose sleep over it. We have a quick relief valve and Can deal with that. But I don't expect that there'll be a lot that we're going to have be challenged with Because I think the general tone is let's keep people working, right? And I think the Resolution in the entertainment industry is indicative of that type of thought process.
Right. I was curious if you could just give some color on the growth in rental revenues Between specialty and the core fleet that you saw in the quarter, and I'm trying to get a better sense of how you think about the momentum for rental revenue growth between those two fleets In coming quarters?
It was pretty balanced this quarter. Specialty has been coming back or Specialty was strong through last year and of course coming back Just as the market normalizes, so it was pretty balanced in terms of the growth contributions this quarter. And we anticipate that going forward, Specialty Historically, it's grown faster, but it's a smaller part of the business. And now as we sort of focus on core growth, then the 2 of those Levers should be relatively balanced.
Yes. And then just last one for me, if you don't mind. Just going back to the supplier tightness, can you just provide color on where our current Delivery slippages in terms of the equipment across your fleet that you're seeing? And any just additional color on just How much more extension you're seeing in the slippage?
Yes, this is Aaron. Again, The slippage from delivery to expectation hasn't changed much from the last time we Had our Q2 earnings call or met some of you at the Investors Day, it's about the same. What I would say is some OEMs really had struggled to deliver their goods, mostly the smaller ones. And then we would pivot and Find another supplier or put that capital somewhere else for a segment of our fleet that was growing. But the bigger ones are delivering Our scheduled fleet, although a little bit late, like we mentioned several times, It's kind of a mixed bag.
It's hard to pinpoint particular OEM, but they're all working really hard to satisfy us. I know that.
That's good color. Thanks.
And our next question is a follow-up from Ross Gilardi of B. O. A. Please go ahead.
Hey, good morning. Thanks, guys. Can you just touch on your energy exposure and what you're seeing there? What kind of pickup You're seeing there, if any, you had referenced just pent up demand for industrial maintenance. Is that where it's happening?
And then Remind us of your exposure and roughly and how it's divided by upstream, midstream and downstream.
On the upstream part, I know the price of oil has accelerated pretty rapidly. The demand for rental gear into that segment hasn't really accelerated as fast as the prices of barrel of oil. And we have our basket of customers up in the Permian area that we like to serve and we stick with that play. On the downstream part, we did mention that we continue to expect more turnaround activity or pent up turnaround activity There was delay. That's happening.
And we've used some of our capital, some of our new fleet to move into that segment to Satisfy our customers in that segment as well. And we continue that downstream improvement and activity to continue all the way through Starting in the Q4 and continue all through next year.
And this is Darren. What is your rough percentage of I don't know how you want to divvy that percentage of fleet or percentage of sales to energy these days and just upstream versus downstream?
For us, the upstream is about 3% or 4% and the downstream is like 5% or 6%. Got it.
Thanks, guys.
Thank you. And our next question today comes from Steven Fisher at UBS. Please go ahead.
Great, thanks. Good morning. You guys mentioned that mechanics are hard to find. Curious how the availability of parts is? Are you seeing any challenges there?
And how might that be affecting your ability to kind of turn equipment around and get it back out on rent?
This is Aaron. Yes, we have similar parts delays as the fleet Delays. Although we have a team here that specifically focuses on fulfilling the parts demands that our branches need And connecting with the OEMs and other secondary suppliers daily. I think Well, we the way we measure our fleet is in our operating model and we can measure how much of our fleet got returned from a rental or how much of it's down waiting for parts. And the good news is that we really haven't had any degradation of our operating model during the last 15 months.
So we are Keeping our fleet running and although it's not as easy and efficient getting the parts, we are putting the resources and the human capital towards it To move it along faster and the way we're running our business is very similar than we were before the pandemic.
Very helpful. Thanks a lot.
And ladies and gentlemen, this concludes the question and answer session. Like to turn the conference back over to Elizabeth Tagashi for any closing remarks.
Thank you all. We appreciate And as always, if anybody has any further questions, please feel free to give me a call. And we look forward to seeing you all soon. Thank you.
Thank you, ma'am. This concludes today's conference call. We thank you all for attending today's presentation. You may now disconnect your lines and have a wonderful day.