Good morning, and welcome to the Ashtead Q3 results call. It's an early start today, as I'm aware that many of you have other results presentations to get to this morning. After a short update on the financials and current trading from me and Suzanne, we will move on swiftly to Q&A. Starting on page three and the highlights, it has clearly been another good quarter, reflecting the continued strength of both our strategy and our end markets. Group rental revenues up 13% to date, importantly, we continue to grow profitably as witnessed by our improving margins. It's these very healthy margins and our strong balance sheet that allow us to continue to invest in the growth of the business. Year-to-date, we have invested GBP 812 million in capital. We've spent a further GBP 196 million on bolt-ons, in total, added 77 new locations.
We've also increased the interim dividend and spent almost GBP 50 million on share buybacks. We, therefore, continue to invest significant amounts in our future development whilst maintaining leverage well within our target range of one and a half to two times EBITDA. I'll come on to our first thoughts on growth for next year a little later, for this year, we anticipate the full-year results in line with expectations. With that, I'll now hand over to Suzanne.
Thanks, Geoff, good morning to everyone. The third quarter results for the group are shown on slide five, we were pleased to report early this morning an underlying pre-tax profit of GBP 179 million compared to GBP 139 million last year. This represented an increase of GBP 40 million, of which GBP 29 was attributable to the benefit of weaker sterling. At constant rates of exchange, our pre-tax profit increased by 8%. Rental revenue increased by 14% year-over-year, as Geoff said, the growth was profitable, as reflected by our 46% EBITDA margin and our 26% operating profit margin. On the next slide, we've shown the group's results for the nine months. On a year-to-date constant currency basis, rental revenue grew by 13%. Similar to the first half, the constant currency percentage change in our total revenue is lower than the change in our rental revenue.
This resulted from fewer fleet disposals as compared to the prior year, we'll discuss that further in a moment. For the nine-month period, EBITDA margin increased to 48%, reflecting the higher revenue base and good drop-through, particularly in our more mature stores. Operating profit margin remained strong at 29%, despite the integration of 13 bolt-on acquisitions across the group and our ongoing Greenfield program. Our underlying pre-tax profit in the nine months increased by GBP 123 million to GBP 605 million, with weaker sterling benefiting the period by GBP 82 million. On a constant currency basis, profits increased by 9% as compared to the prior year. On the next slide, we'll take a quick look at our growth rate percentages after adjusting for the effect of gains on sale. This provides a more accurate picture, we believe, of the underlying business.
The first three factors listed at the bottom of slide seven have caused anomalies in our year-over-year growth rates, no different from the first half. Excluding the sale of used equipment from each of the nine-month periods, revenue increased by 14% and underlying profit increased by 13%. The final bullet point on the slide refers to the effect that certain of our provisions, such as those we record for lost or stolen assets, have on our reported margins on fleet sales. In periods of low sales levels like this year, these fixed costs can have a disproportionate effect on margins because no revenue is associated with them. The important takeaway from this point is that the trend on actual margins realized remains broadly in line with previous periods.
Turning over now to slide eight, we've shown the year-to-date results for Sunbelt, which were principally driven by a 13% growth in rental revenue as it continued to benefit from generally strong end markets. With the continued operational efficiency of mature locations more than offsetting the drag effect of new stores, Sunbelt's operating profit increased by 9% year-over-year. From a margin perspective, importantly, EBITDA margin improved to 50% and operating margin remained a robust 31%. Slide nine summarizes A-Plant's year-to-date results. Rental revenue grew by 17%. However, the operating cost base grew by 16% as four acquisitions were integrated, including two specialty businesses that were acquired in late October. These specialty businesses were lower margin but higher returning.
As a result, margins remained broadly flat in the nine months. Like Sunbelt, A-Plant's operating profit growth metric of 7% was adversely affected by fewer fleet disposals this year. Excluding gains on equipment sales, a more normalized underlying profit growth was 19%. On slide 10, we summarized our year-to-date cash flows. On the strength of our margins, the group's cash flow from operations was GBP 1.1 billion. It's the strength of the underlying cash flow that I really want to highlight. Ours is just an inherently profitable cash generating business. We used part of this GBP 1.1 billion to cover what I'll call non-discretionary items, like interest and tax, and of course, in a rental business like ours, replacement CapEx. The remaining cash flow of GBP 661 million was available for discretionary items, such as growth CapEx, M&A, and shareholder returns.
Thus, on the bottom half of the slide, you can clearly see our capital allocation policy in operation. This year, we've chosen to invest most heavily in growth CapEx to support the activity levels we see on the ground, in particular in our same stores where the growth is the most profitable. We invested a further GBP 180 million in bolt-on acquisitions, increased our dividends, and repurchased shares. As we continue to maintain our leverage with our 1.5 to two times target range, what is not spent on growth CapEx or M&A will continue to be available for shareholder returns. Slide 11 on debt and leverage basically reaffirms our commitment to investing responsibly, maintaining leverage within our target range, and ensuring that our debt structure remains flexible. All these factors require discipline and contribute to a strong balance sheet, which we have long maintained as one of our core strengths.
As expected this year, our debt increased as our investment in fleet and bolt-ons increased. Weaker sterling also caused the level of reported debt to rise. At January 31, our leverage ratio was 1.7 times, well within our target range. Before I hand back over to Geoff, I'll draw your attention to one important step we took in the third quarter to ensure that our debt package remains well structured and flexible, thereby enabling us to further benefit from end market opportunities. We took advantage of favorable financial market conditions and increased the size of our ABL facility from $2.6 billion to $3.1 billion. The facility remains committed on the same terms through July 2020, and borrowing availability, therefore, at the end of third quarter was $1.3 billion, with an additional $1.5 billion of suppressed availability. In short, a good deal for us.
We now have more access to additional low-cost capital. That concludes my comments, and so I'll hand it back to Geoff.
Thanks, Suzanne. Let's look at Sunbelt in a bit more detail, starting on page 13. As you can see, we continue to see the same trends that we have in recent quarters. In both general tool and our specialty business, we continue to see significant volume growth, with fleet on rent being up 18% and 11% respectively, 15% if you exclude oil and gas. The market continues to be supportive, and we continue to benefit from structural change as customers increasingly rely on the flexibility of rental. This change continues to manifest itself in longer rental periods, more fleet on rents, and lower transactional cost, but it does come with lower yields, as highlighted here in the -3%. A number of historical reference points are becoming blurred with the evolution of our market.
The important thing is that we continue to grow profitably with strong incremental margins, and we'll cover this in more detail in the coming slides. Page 14 highlights that these shifts in the mix of our business are reflected in our physical utilization, which remains very strong despite our significant fleet investment in the drag of greenfields and bolt-ons. As you can see, it is at historical highs for this time of year in both general tool and specialty. This is probably better highlighted by the extra granularity shown here on page 15, starting with our same stores. The benefit of these longer rental periods as our customers increasingly rely on us is highlighted in the physical utilization of 72%.
The fact that the lower yields are compensated for by lower transactional cost is also reflected in the strong drop-through of 64%, well above our overall EBITDA margins of 50%. Whilst the drags of some of our same store metrics, our greenfields and bolt-ons continue to deliver good growth and returns and remain an important element of our 2021 strategic plans. Oil and gas is now a really small proportion of our revenue, and year-to-date remains a significant negative, as you can see. Whilst it's hardly a needle mover at this stage, it is worth noting that January showed 25% year-on-year revenue growth. These improving trends have carried on in February and early March, and recent commentary confirms that some of our peers are also seeing improving trends. I view this as another positive for the broader market.
In October, we laid out our 2021 plan and growth to 900 locations and $5 billion to $5.5 billion in rental revenue. As you can see on page 16, we've made good progress with 58 new locations in the first nine months of the year, with a good mix of general tool and specialty locations. This continues to be delivered through a combination of both greenfields and bolt-ons. The plan has really good momentum in its first year, and we have an exciting pipeline of further opportunities. Turning to page 17. Before we get into our CapEx planning, I thought it'd be useful to look at our guidance for growth at Sunbelt in the context of the Project 2021 plan, because this is how we look at our growth. We expect the market to grow by 3% to 4%.
This is in line with most forecasts and reflects current activity levels. It does not include any benefit of future infrastructure, military, or tax initiatives. As we said in October, we expect our mature stores and recently opened stores to grow at around one and a half times the market. We expect meaningful share gains once again. This would indicate that growth from these stores to be in the range of 4%-6%. We would expect 3%-4% growth to come from greenfield stores and a further 2%-3% to come from bolt-ons. Adding this all up obviously gives us a strong growth in the range of 9%-13%. On a broader outlook, we remain comfortable with our 2021 guidance of five years of double-digit compound growth.
Our strong margins and balance sheet mean that at this level of growth will be achieved whilst remaining well within and potentially below our target leverage range. Given our view that the cycle is likely elongated by current policy proposals in the U.S., we do not need to be towards the lower end of our leverage range at this stage. There is therefore clearly the potential for further investment in line with our capital allocation priorities to further enhance shareholder returns. We'll give more guidance on this at the year-end. Therefore, on page 18, we take our customary first look at the CapEx needed to support these growth plans with the usual caveat that Q4 of next year is still a long way off. There's lots of potential U.S. initiatives at the moment that could materially change our views of outer years.
Our Q4 forecast feels even more of a placeholder than usual. We will update our forecast as the year unfolds, and we get greater clarity. Just touching first on the current year, CapEx is expected to be broadly in line with the range we gave in December. At Sunbelt, replacement CapEx will be a bit higher as we adjust the fleets of the bolt-ons, but also take advantage of some very strong secondhand markets and attractive replacement pricing. For next year, our CapEx reflects our strong markets, but also the benefit of our second half spend where we will get the full year benefit. To support our 7%-10% organic growth highlighted on the previous slide, we will only need between GBP 600 million and GBP 850 million growth fleet.
With another low replacement year similar to this one, our total spend is likely to be in the $1 billion-$1.3 billion range. As Suzanne highlighted, we anticipate good growth, but also strong cash generation, which will provide us with a range of options. In line with the 2021 plan, we will again be opening 60 new locations by way of greenfields and bolt-ons, an estimated greenfields are included in the capital guidance. However, there will always be some trade-off between fleet and bolt-on spend, so it is possible that higher or lower M&A spend will also impact the final CapEx number. We got A-Plant on page 19. Again, our strategy is working as we continue to gain share. Volume was up 22% in the third quarter, and yield was negative 3%, but it's somewhat distorted by the Hagan's asset purchase.
Physical utilization has improved throughout the year and is now trending higher than last year. Given the late addition of the Hagens assets, this is quite an achievement and reflects the momentum in the business. The key agency on page 20 has been to grow profitably. As we explained in the Q2 results, there's been a significant amount of bolt-on activity in the year with the associated costs and disruption, which has impacted short-term margin improvement. As we integrate our newly acquired assets and leave behind the one-off costs, I remain confident that margins will continue to improve and set new highs. On page 21, we add the A-Plant CapEx plans for 2017 to 2018, and therefore also give our consolidated group guidance. A-Plant's CapEx guidance for the current year has increased significantly since December and now reflects the Hagens asset purchases.
There have been other bolt-ons in the second half of this year, which will also contribute to next year's growth. Therefore, A-Plant's CapEx will likely be lower as we fully integrate these opportunities and deliver the anticipated margin improvements. However, the full year impact of this year's spend together with what is planned in 2017 and 2018 will generate revenue growth in the double digit to mid-teen range for 2017-2018. Another exciting year ahead for A-Plant. To summarize on page 22, there's been lots of background noise about both our geographies in recent months. Cutting through the speculation, we remain exactly where we thought we would be. End markets are supportive, and we continue to benefit from ongoing structural change and significant share gains. This is exactly the environment we built into our 2021 plan, and therefore our plans remain valid.
We still believe the likelihood is that infrastructure investment and other initiatives such as business tax and military expenditure will help the outer years and elongate the cycle. We have not as yet built this into our planning, and in any event, there will be little short-term impact. We believe that this is a sensible approach as our model is flexible enough to react when necessary. Our margins and strong balance sheet provide the opportunity to continue to implement our strategy of growth and diversification, and we now have a well-proven track record. Growth is being delivered predominantly through organic investment, but is also supplemented by bolt-on acquisitions where we continue to have a good pipeline. We have today reaffirmed our long-term double-digit growth plans.
At this level of growth, we will be very cash generative, which will provide a wide range of investment opportunities to further enhance shareholder returns. Capital allocation priorities will remain unchanged, and we will continue to grow responsibly, maintaining leverage within our stated range. Both divisions continue to perform well. We expect full year results to be in line with our expectations, and the board continues to look to the medium term with confidence. With that, I will hand over to Hugh to moderate the Q&A.
Thank you. Ladies and gentlemen, if you wish to ask a question and you haven't already, please could you press 0 and then 1 on your phone keypad now to enter the queue, and then after I announce you, kindly ask that question. If you do find that question has been answered before it's your turn to speak, just press 0 and then 2 to cancel. There will be a brief pause while all the questions are being registered. Our first question is over to the line of Christopher Carr at JP Morgan. Please do go ahead. Your line is open.
Good morning. A couple questions.
Good morning.
The first around yield. Can we talk a little bit, splitting that out between rate and mix, what you've seen through the quarter? Then a second one just on drop-through and going forward. You've mentioned some of the one-offs that have impacted that, but are you seeing any underlying cost increases? How do you think drop-through moves as we go forward from here? Thank you.
Yeah, sure. Chris, I'm delighted you asked that question because I've put in two brand new slides in the appendices, if nobody had asked this question, I wouldn't have been able to use them. This whole concept of We've been wrestling with getting this message across about what's happening to our markets, how are we getting all this extra volume, how is the yields apparently going down? If you got strong physical utilization, great volume growth, why aren't the yields going up? In an attempt to try and explain all of this, there's a couple of extra pages in there on page 26 and page 27. Page 26 shows what's happening with rates if you freeze the mix of our business. It's the same customer base, same fleet, and same rental periods, which is very, very important.
Broadly, this is how everybody else does it, pretty much everybody else does it via ARA. What we did was we sent our data off to Rouse Services to say, "Do it the way the ARA do it, let's just come up with a pure rate number." This is the chart that came back. You can see that what's been happening over the last 12 months or so is that rates are broadly flat. We get up a month, we go down a month. If you look at over the history since 2010, what does it tell you? It says, look, are we off the peaks we had in 2014 when oil and gas was storming ahead? Yes, we are. Are we a long way off them? No, we're not. Rates currently are fairly stable.
I think what's interesting when you look at that sort of flat period is that that looks good, but there's pros and there's cons to that flat line. What it says is, look, we got a weak start to last summer, we didn't get last year's summer bounce, which was disappointing. What's really encouraging is rates haven't come down at all during the winter. Actually, if you were to be really uber optimistic, which I don't recommend you all during your winter period, they have slid up very, very gently over the last two months. We've had two months of minuscule rate improvement. Our issue as we've evolved through the year has not been rates. We could talk about this slide and what's happened in various periods probably for the rest of this call.
What has changed and what continues to change is what we have seen on page 17.
27.
Sorry, page 27. Sorry. Thanks a lot. Look, what we tried to do, because to talk about it in its abstract in the round gets a bit complicated. We have picked a product as an example, which we've picked many times before, which is this Rough-terrain forklift. We've shown you what the rates are for daily, weekly, and monthly rates. Therefore, if you've got 100% physical utilization on those what the monthly revenue would be. Of course, you would never get 100% utilization on daily, but nonetheless, it helps prove what's happening. Then what you can see is how the mix of our business has changed through 2015, 2016, and 2017. This is the nine-month to date percentages. You can see that in financial year 2015, 67.5% of our business was monthly, and in financial year 2017, it's 70%.
Those shifts in just rental periods are the equivalent of a minus 3% yield. In particular in December, because it was kind of a weird month. We've had a very warm winter with the exception of December, which was very, very cold. Monthly got up to 72%. It's that lack of daily contracts when the weather's particularly bad, and that growth in this core business with the longer rental periods, it's that mix effect which is having the impact on our yield calculation. Of course, these longer rental periods come with much bigger quantities of fleet and much lower transactional costs. That's why our margins are improving even though the yield is negative. We're at the stage now where the market is strong. People are taking big quantums of equipment for very long periods of time.
now within that monthly line, the average rental period is 70 days. Not only are more contracts monthly, the average length of those monthly contracts is longer, which again, further enhances our ability to drive lower transactional costs. That's the trade-off, and that's the difference between rates and yields. Does that help?
That's very helpful. Thank you very much for the effort.
Okay.
We are now to the line of Josh.
No, hang on a second.
Oops, sorry.
There was a second question, which was drop-through. Look, be careful with drop-through. We say this every single year, and nobody takes any notice of us every single year, which is, drop-through will be somewhere between, if you look at all the past years, somewhere between 58% and 61%. It will be between 58% and 61% this year. We said it in the first quarter when drop-through was high. Drop-through varies. If you have a very high drop-through in the previous year's quarter, you will have a very low drop-through in the following year, just because events change. You might have different numbers of billing days in different quarters. Look, we will deliver 59%, 60% drop-through again for the full year this year, as we have in every other year, but we will have a range of quarters.
Last year, I think the range went from we had a quarter of 75% and a quarter of 52%.
52, yes, exactly.
We did that the year before, and we're going to have it this year. The trends are more about the structure of the quarters than they are about anything that's inherently changing in the business. There are the one-off elements of if you have high bolt-on activity and all the one-off costs. In overall terms, no, nothing's changing with drop-through other than the shape of the quarters.
Okay.
You can go to the next question then.
Yep. Josh, over to you.
Yeah. Hi, good morning, everyone. My first question's on the EBIT margins. Those were down in Q3, and are flat on a nine-month basis. I just wondered what your targets are regarding the EBIT margin, and when you think it can start to improve. My second question's on the Greenfields. I just wondered if you're noticing any changes in the growth or profitability trends of the Greenfields that you're opening now versus, say, the Greenfields that you were opening three years ago.
Yeah. Obviously, the big difference between EBITDA and EBIT is depreciation, and it's all about our investing in the business. I believe that EBIT margins will flatten and begin to improve as we go through next year. Again, I think a lot of this is timing at this point. In terms of greenfields, any faster. I can't say I've looked at it in any great detail through the course of the quarter. There's nothing stood out that says it's any faster. I don't believe there's any reason why it should be materially faster. As we've said many times now, we kind of get to breakeven at around the four to six months mark now, which is great. No, I don't think we've seen anything particularly different with the greenfields. In terms of EBIT, I think it's purely a timing thing around fleet investment and depreciation.
Okay. That's very helpful. Thank you.
We are now to the line of Emily Roberts at Deutsche Bank. Please go ahead. Your line is up.
Hi. Good morning. It's Emily from Deutsche Bank, a couple from me to you.
Good morning.
First question, on your return on investment, looking towards 2018 and with your lower replacement CapEx, could you give us an idea of your expectations for how the return on investment might trend? Specifically, when do you expect it to start to increase again? Second question will be on wage and whether you're seeing material wage inflation in the U.S., and if you could please quantify that for us. Thank you.
Yeah, sure. Good question. We've talked about this before, Emily. Yes. The biggest inhibitor to our ROI has been the denominator, which is the age of our fleet as it's been unnaturally young. Therefore, as the fleet ages, obviously the denominator in the ROI calculation starts to ease. With lower replacement costing, when you have time to get into the detail of the press release, you will see our fleet is now gently aging as you would expect with lower replacement expense. You're getting back to a more normalized level of around 30 months. That will have a positive effect on the ROI. Look, we're in the middle of doing the budgets at the moment. Haven't modeled precisely when that turns it into positive or when this is suddenly going negative. I think it stopped it going negative About now, when it actually turns into positive.
The problem with ROI is it's a 12-month rolling calculation. At best, it takes 12 months. You're absolutely right. That as we have low replacement costs and as we age the fleet, that will resolve the ROI issue, and the ROI will continue to improve. I can't say we've sat and modeled precisely when yet. In terms of wage inflation, yeah, that's exactly the same as what I think we were saying this long before everybody else, which was try and find me a mechanic, try and find me a driver, because they're very, very hard to find. We once again will have a range of wage awards.
We had a board meeting only last Thursday where I'm not going to give Suzanne's pay award for the next year wages now, but the likes of me, Suzanne, and anybody in a white-collar job is going to get a significantly lower pay award than anybody who's a driver or a mechanic and does a blue-collar job. I would guess our range of awards will be in the 1%-2% to 5% range, and I think we will probably average out somewhere between 3% and 4%, which is broadly where we've been planning out over the course of the last couple of years. The key will be to continue to drive operational efficiency.
Actually, I hope people may not have it, but if people do have the press release in front of them, understanding how this operational efficiency will compensate for these sort of increases and why our margins are going up. I think you see very, very clearly in the last page of the press release, which shows you the staff numbers and the number of rental stores. If you look at Sunbelt, we've added 58 more rental stores, and yet we've only added 130 more staff. Well, we added 427 staff into the Greenfield and bolt-on new locations. If you think about it, our same stores, which experienced 11% volume growth, are achieving that 11% volume growth with 300 fewer people.
That is where we again come back to this, how technology is driving efficiency, how those longer rental periods are allowing us to do more with the same or less. I think, yes, we will see some wage inflation, but if we continue, as we have done for a number of years now, to continue to benefit from these efficiency improvements, that's why we're confident that our margins will continue to grow.
Thanks. That's very helpful. If I may ask one more question. I would like an update from you on what you're seeing in the Tier 4 space and whether your competitors are starting to increase the rates for the Tier 4 equipment, please. Thanks.
Yeah. Look, there's no such thing as a Tier 4 rate. There is just a rate because most people don't. It's a good question. Look, I hate to be optimistic at this time of year based on a set of Q3 numbers because winter can be affected by one-off events. If I wanted to be optimistic, but we're trying to be within central reality. We have very high level of physical utilization. If I look at the results of my peers, so do they. Secondhand pricing equipment in February at the Ritchie Bros. auctions was phenomenally strong. For product categories which we have, it was 5%-10% increase year-on-year, which is really strong. We've had two months in the middle of winter of sequential rate improvement.
Is the overall environment, and oil and gas is coming back, and so people who kind of came into a space they didn't really know will see greater opportunities to go back into a space that they do know well. All of those things ought to be gently positive for rate. My expectation for that rate graph that we were looking at earlier is that it won't go down, and the question is, will it go up and by how much? That doesn't mean we won't have negative yields because of mix, but I think rate is likely to be flat and more likely positive next year. Some of that's because people are buying Tier 4 engine and have to pass it on, of course, but more of it's to do just around the generally improved business confidence levels in North America at the moment.
That's very helpful. Thank you.
We are now over to the line of David Phillips at Redburn. Please go ahead. Your line is open.
My question was about rates, so it's just been answered. I'll turn it back. Thank you.
Okay.
Okay. In that case, we pop over to Jefferies and Justin Jordan. Please go ahead.
Thanks. Good morning, everyone. I've got a question, I guess regarding CapEx/financial headroom. Really I'm talking about slide 10 and 11. I've just done some back-end numbers just on your initial 2018 or fiscal 2018 CapEx of $1 billion-$1.3 billion. I'm struggling to get you anywhere near 1.5-2 times net debt to EBITDA, as in you're probably going to be substantially below it and potentially have GBP 1 billion plus sterling of headroom if you were to get anywhere near 2 times net debt to EBITDA. I'm sort of trying to understand what sort of flexibility have you got potentially for More M&A or increased CapEx or increased buyback going forward. It seems like you've got quite a lot of flexibility. Can you just talk us through what you might do with that?
Yeah, no, it's a good question, Justin. We've been talking about reaching this stage in the cycle now for a long time. In fact, once upon a time, I put out a chart showing moderating growth, and I took it out because everybody said I was calling the end of the cycle. I think we are in this period where we are going to get double-digit growth for multiple years. I think all of the initiatives in America are not going to suddenly make this year significantly better. We are trying to caution people on that, but we do think it makes the cycle much longer. That being the case, we are probably more comfortable to be towards the middle and upper end of our leverage range than if we thought the cycle was shorter.
Look, you can all do your math, yes, you're probably not a million miles off that if we were prepared to go to the top end of the range, we have about GBP 1 billion to spend. We deliberately, when you get the transcript of what we've said, I know you can't hang on every word as beautifully as it's crafted. What we said is we are more comfortable at going towards the upper end of the range, given our views on the elongation of the cycle, and we will use our capital allocation priorities to determine what happens with that. If there's a big infrastructure plan, if there's extra volume because of taxation reductions, the first thing we will do is the CapEx guidance, which will be Q4 CapEx guidance for 2018 and 2019, will likely go up.
That will be the use of some of the cash. I think there will be a potential for a little more bolt-on M&A in the coming 12 months. You have to listen to us. We've said it twice in the script, it's probably true, which is we do have an exciting pipeline of opportunities. I think there is every chance that within the taxation changes, perhaps things happen which make it more advantageous for private owners to sell businesses. If there's changes in capital gains tax, inheritance tax, that could well be the case, which could provide us with a list of high-quality opportunities, which we clearly have the funds to spend money on, subject to them hitting all of our criteria.
What we've always said is that I think for a business with the length of growth, I would say this, of course, for the growth in margins that we have, we do not trade at an expensive multiple relative to what it would cost us to buy a business of a fraction of the standard of our business. Therefore, relative to M&A, we will always look at share buybacks, we've always seen share buybacks as a long-term part of our capital allocation priority. Yes, at these levels of growth, in terms of top-line growth and operating profit, there's clearly a lot of flexibility to further enhance shareholder returns from either more bolt-ons or more share buybacks, and we will utilize that flexibility.
It makes no sense with the strength of our balance sheet, with having all the assets on the other side of the balance sheet and where we are in the cycle, we do not want to go way below. Now, we're not going to spend money for the sake of it, strategically, we are not trying to take leverage ever lower.
Great. Thank you. Just one quick follow-up. It couldn't be a rental call right now unless someone mentioned the word Trump. Just on that, I'm not going to talk about infrastructure, but I'm just curious about potential tax changes, whether it's corporate tax or changes in how people think about bonus depreciation. Is there anything that you would see on the horizon that might change the structural shifts to rental adversely as you think?
We have the benefit of having a U.S. taxpayer on the call, I'll let Suzanne answer that question.
No, it's a good question, Justin. I think with respect to the tax changes and specifically bonus depreciation, which you inquired about. Look, bonus depreciation in some form between a 50% bonus rate and 100% bonus rate has been in place for around about 10 years, it really has had a very limited effect on when people choose to buy equipment. I'm not going to say that there is never a person affected by that, but in the round, as we talk to people in our business buy equipment when they need equipment to serve their customers or when it becomes so aged it needs to be replaced. As we've said many times, many of the smaller independent operators with whom we compete typically are leverage-averse.
They really don't have any debt, and we know that by having bought so many of these small bolt-ons over the years. Certainly, they are unlikely to go out and make an equipment purchase just on the basis of bonus depreciation. We really just don't see that having a material effect when you look at some of the larger players in the rental industry. We'll see what happens. A plan, there's a lot of talk about it, but nothing has really been put forward to Congress to really have a debate about and move toward action. Certainly, we are watching closely and would be very pleased to see some, from the business's perspective, some change in the
Corporate tax rate and the numbers that have been talked about are corporate rates stepping down from 35% to perhaps something in the 15%-20% range. Whatever the step down is, it is certainly something that will be cash positive for us, and a step down in the rate would also have a benefit of allowing us to reduce the deferred tax balance on our balance sheet. We really see more of the effect from that standpoint, changes in the corporate rate than really whether or not people buy equipment based on bonus depreciation.
Great. Thank you.
We now go to Jane Sparrow at Barclays. Please go ahead. Your line is open.
Just a couple of questions, please. The 300 people that you've taken out of existing Sunbelt locations to deliver these efficiencies, is this coming from natural attrition or is this actively laying people off? If it's the latter, how does that sort of ongoing efficiency impact on morale generally within the business? Speaking of someone that's worked in an industry where we're always laying people off every year, it doesn't do wonders for morale. Then secondly, on the U.K. performance, if you stripped out Hudsons, what does the U.K. look like on a fleet on rent and yield basis for the third quarter, please?
I can answer the first question. I'm looking desperately, Suzanne. I'm not sure we've done the calculations for the second question. We have made nobody redundant in North America. Within that population of drivers and mechanics, we do have high staff turnover, and we just take advantage of that. What we're able to do, of course, is some of those people are being used to staff the new location. Net we're up 100. We can move people around. Clearly, our HR function and staff morale is significantly higher than in your industry, Jane.
Probably not a high bar, yeah.
Clearly not a high bar. Just to reassure you, that final acquisition on the bottom of the list, it's got Arsenal, it's got nothing to do with anybody in North London. It's a very successful management team who will be around next season.
I'll take your word for it.
In terms of We will dig out the numbers without Hudons. We didn't buy depots, the fleet just went into our fleet. I'm sure Suzanne could pull something up, but I do not know what the numbers. Yeah, we will do that, and I will come back to you after the call, Jane. Certainly the yield would've been improved had that not been in.
Yep. Thank you very much.
We now go to George Gregory at Exane. Please go ahead. Your line is open.
Morning, everyone.
Morning.
Three from me, please. Geoff, you already elaborated a bit on the yield and utilization dynamics, but just specifically on the nine-month trend on the general tools business in Sunbelt with yields down 3% and the physical utilization down 1%. Can you just explain what were the factors that drove? Was that all mixed? Because I guess you would've expected utilization to maybe get better a bit, or am I misunderstanding something?
No, not at all. Look, probably go to page 14 George, is probably the best place to start. Actually also remember what I said about the rate slide when we were talking earlier to Chris's question. Look, we're down 1% year to date, the issue was we were well down between July and September. Remember what I said was, look, we just didn't get a summer pop in our rate. If you look at that rate chart on page 26, what's unusual about it if you compare it with the previous year, two things are unusual. We didn't get the summer pop, and we haven't had the winter decline. The reason why we didn't get the summer pop was we did have a slightly soggy July and August. Some of that was self-inflicted.
I will argue we brought in a little bit too much fleet for the state of the market, we created a dip. The physical utilization was soggy in the summer. If you now look at it, as you can see between December and February, physical utilization is very high. Remember, you are comparing the three best years we've ever had in terms of physical utilization here. Where we are right now, and actually if you carry that on into the current day, it gets a little bit better too. We're at strong levels of physical utilization and lo and behold, rate is fine. Yeah, on a year to date basis, it's pretty much down to that July, August period. Currently, volume of fleet on rent is strong and physical utilization is strong and as a consequence, rate has held up a little bit better.
Does that help?
Helps, yeah. Very much so. Secondly, just on the same-store staff reductions you referenced there, Geoff. I'm not sure if there is a way to measure. I'm guessing probably not, but do you have any sense of how much of that is being facilitated by mix and how much is being driven by your technology efficiency gains?
No, I'm not sure. It's a good question. Look, we're just able to do more. Of course, a lot of these things are ongoing small incremental improvements. Those I'll be guessing. I really should be able to.
Sure. No, I would've thought as much. Finally, just on the second-hand auction values. You mentioned second-hand market pricing's pretty attractive. Just wondering, would you be expecting that to pick up given the general optimism across the market and any factors beyond latency or the lag impact of oil and gas dragging that back?
No. I think it's just a reflection of the fact that there's a couple of things that were interesting. You hear this, there's some Rouse Services are on it, and Richard and others also do some analysis on it. Three things were marked about the most recent auctions. The stuff that was being sold was old, and it was junk, which means people are holding on to their fleet. I might buy a bit on this, I can't quite remember. 73-ish% of the business was going to U.S. customers when typically it's around 50%. Rates, for our product types, and again, this is where I remember I used to always get agitated about the rates number, which was a weighted index of everything. For our product categories, the increases were somewhere between 5% and 10%.
It's got nothing to do with oil and gas because it's our products ongoing there. Oil and gas has picked up very slowly. Through the quarter, our numbers were, I think we were -3% year-over-year in December. No, November. We were +9% in December. We were +25% in January. It was January when it really turned. That's not going to affect the February auction. Without getting everybody overexcited, except I love this statistic, in February, our oil and gas year-over-year revenues were up 40%. What a swift turn. Now, it's a tiny proportion of our business. What it will do is we need to keep our physical utilization high, and some of those who've come and played in our sandbox poorly will go back to the sandbox they know.
Again, is it going to make a huge difference? No. The overall environment for rates, in my opinion, is materially better than it was at the same time last year. If we don't get that summer softness and we don't mess up ourselves by over-fleeting too early in the summer, which is probably in fairness what we did last summer, that should all help.
Your point on replacement values is that you think they might slowly catch up in effect?
Yes.
Yep. Okay. Thank you.
George, I'll just add one point to that, in the event you or certainly I know others on the call do track this statistic. We typically, when we talk about these values, give the statistic of our sales proceeds as a percentage of the original cost of equipment sold, and some people find that useful since it is a measure that can be tracked over time and relates to our product categories. Geoff talked about the strong auction values being up 5%-10% in our product categories. That was in February.
Okay
It really is not therefore reflected in the numbers I'm about to give, which are for the nine months ended January 31st. Our proceeds as a percentage of OEC sold in January this year, 41%, last year, just a tiny bit under 40. Improvement throughout the nine months and indeed in the third quarter itself.
That's why our replacement CapEx is a little bit higher. Even before the February auctions, there was just some great deals. Particularly around some packages around telehandlers. JCB have a fantastic new telehandler, and I can buy it effectively at a GBP price. A combination of very strong second-hand pricing and some very attractive USD pricing for a package of telehandlers. We're going to team in late. I think this package of telehandlers, by the time you adjust for currency, will be the same costs today as the costs seven years ago. Therefore, again, all of these things start to feed through into ROI. The key to our ROI is managing the denominator. We can get higher physical utilization, slightly older fleets, and take advantage of these deals. That will sort out our ROI.
Thanks very much.
We're now over to the line of Hector Forsythe at Stifel. Please go ahead. Your line is open.
Hi.
Hi, Hector.
Morning, guys. Morning. Very quick technical one here. Can you just give us the, on the current tax regime, your expectations for the cash tax rate relative to the accounting tax rate both for this year, next year, and what you might see us into the future?
Yeah. Absolutely, Hector. For this year and for next year, we expect the effective tax rate, the P&L rate, as we sometimes call it, to be 34%. For the cash tax rate for this current year, we expect that to be about 5%. As we've been signaling for some time, we will have fully utilized, at the end of this year, our net operating loss carryforward. We anticipate a rise in the cash tax rate for 2018 to about 30%. Now, obviously, that is prior to anything that on changes to the tax code that may come out of America.
Sure.
We should keep our feet on the ground, obviously, and wait to see what comes out from that. Just as a bit of information, if the federal tax rate is reduced to either 15 or 20%, then our accounting effective rate is going to be somewhere in the low 20s. That will make a significant difference from the P&L standpoint, and we've already talked about the cash earlier.
Yeah, absolutely. Sorry, on the ABL extension as well-
Yes
Is there any additional cost that we ought to factor in?
No. Any cost of that change was de minimis, and there certainly isn't any change in the interest rate going forward. No, there's really nothing to factor in.
Fantastic. Thank you very much.
We now go to the line of David Phillips at Redburn. Please go ahead.
Hi there. Can you hear me okay?
Yeah, we can.
All right, I've switched to mobile now. Just a follow-up from me. Have you had a think about how much CapEx you're going to put into branches next year that are oil overweight, potentially taking advantage of, albeit a low base, but a very potentially high growth recovery?
Yeah, it's a good question. The oil and gas guys are asking for fleet right now. We are right in the middle of our budgetary process. Look, again, I think it's meaningful from the sense that there's always been debates about what's the impact of this increased rig count. It clearly means we're past the bottom, and we got that. We, not surprisingly, are saying, "Well, this is great." We are giving them some more CapEx, but we're also taking advantage of a bit of re-rent. I was talking to the guys in oil and gas on Friday. I think they just put an extra GBP 10 million of fleet on rent by re-rent, which means we rented from another rental company and handed out because before we commit to the expenditure, while we test the market.
Yes, they are fully confident of very significant rate improvement and very significant volume improvement. They're Texans, and they're from oil and gas, you'd expect them to think like that. Our job is to moderate that enthusiasm to some degree of reality. Put that to you. Look, it's early days, but this chart that's been horrendous for the past two years of year-on-year declines, am I expecting it to show significant year-on-year increases in the coming year? Yes, I am. It will be a big percentage of a small number. The greater benefit from us will be around the edges, around our ability to get rates up in those geographies in our more traditional markets. Hello? Have you gone, Dave?
No, he's still there. I just muted his line because there was quite a bit of background noise. Dave, your line's unmuted again.
Yeah. No, that's fairly clear. Thank you.
Okay. Thanks, Dave.
Okay, we now go to Chris Callahan at JP Morgan. Please go ahead. Your line is open.
Sorry, just one more. You're obviously talking about the strong secondhand auctions. What's your view on fleet inflation going into 2018?
Yeah, that's a good question. We've been having a lot of meetings. Obviously, anybody, anything which is any componentry or any products that are coming from outside the U.S. is benefiting in the fact that it is cheaper. There's wage inflation. In the round, it is pretty good. I think we've talked about this in the past. Have had an initiative for some time now where we've been challenging people to get us year-over-year cost reductions. With a combination of just better buying, but also better specifications of equipment. I think an interesting development as the rental industry just gets bigger and bigger. There is undoubtedly a rental spec product that doesn't need all of the bells and whistles that some of our suppliers put on products. I would've said this year we were down about 3% or 4%.
We will end up being the year in terms of inflation, so that negative inflation. This year, I would've said we would be negative -1 from t he flux would be my guess. There is going to be some inflation because of things like anything which is like a U.S. added value. Labor costs are going to be high. Having said that, most of our suppliers are in what they call the doughnut. What the doughnut is like, we had that fateful day a year ago where we tried to explain replacement costs and got it horribly wrong, and the share price reacted accordingly from a terrible presentation. Our manufacturers have exactly the same issue. They have 3, because we've got next year will be lower replacement costs, and the year after will be lower replacement costs. That's true across the whole of the industry.
They know they've got very, very low volume. They're desperate for volume. We're the fastest growing rental company in the world, therefore, we get very good deals. I certainly wouldn't expect any inflation. The question is the extent to which we will get deflation.
Great. Thank you very much.
Before we go to Andrew Farnell at Morgan Stanley, if anyone has any further questions at this stage, please do press zero and then one on your phone keypad now. While we're waiting for any final questions as well, Andrew, over to you.
Okay. Morning, everyone.
Morning.
Just on slide 13, can you just talk about why specialty yields were down 2%?
Yeah. Again, I know we banged on about this before, the biggest single issue remains heat. We had a marginally better heating season than last year during the course of December. I was in New York in February, and it was 70. That's the biggest single reason. Also, in fairness, oil and gas. There is a slight balancing between what's in oil and gas and what's in heat as well, because oil and gas used to take an awful lot of heat. Heating revenues in particular have been very low over the last two years. That's pretty much it.
Okay, thanks. Just on the longer rental periods, you've talked about obviously the impact on rate yield. Is the margin equivalent to shorter-term rental?
Yes, that's a really good question, we're going to have to get better at tracking this. There are so many different products and so many different types of rental contracts to try to say, "Well, this was" If you go back to that slide on page 27, if you look at the range in rates, clearly if all you get is 30 days rental at those very low rates, the chances are the lower transaction cost does not compensate for the daily. However, if you are going to get, as we have now sites where they have 1,000 units on average for a year, that is an unbelievably profitable piece of work. A lot of it just decides that. Well, actually, there's a good example that came to mind from last week.
There is a very famous entertainment location based in Orlando, where we're not allowed to use the name, where three years ago we won the on-site location, the on-site provision of the equipment to this magical business. Last week we were awarded an extension for three years of that contract absolutely fantastic, we won their supplier of the year award. Something we were very proud about. When we started that business three years ago, we had $14 million of fleet on rent in that one location. Last Wednesday, when we got notified of all of this, we had 36. We have more than doubled the volume of that business. The rates in that location are amongst the lowest in the country. That growth in that volume will have negatively contributed towards our year number.
I can tell you, because we're doing just more volumes from an on-site location, the profit center contribution of that business has grown immeasurably, it's now a very profitable location. That's your trade-off. Trying to say, well, this is the number of days, putting a hard and fast rule for what is the trade-off becomes difficult, because there's just so Have you got an on-site? Have you not got on-site? How many products are we taking? A lot of it has to come down to commercial instinct. If you take it in the round and you look at our margin progression, we're getting a lot more right than we're getting wrong.
Yeah, sure. If I'm hearing you right, if you move one piece of equipment, it doesn't offset the yield, but 1,000 does. Do you know what the break-even point would be?
I don't.
How many people-
Again, for how long a period? For 30 days? For 15? It depends on-
Okay, fine
it depends on the quantity of equipment, the mix of equipment, and the rental period length.
Okay. That's helpful. Thanks.
Okay. As that was the final question on today's call. Geoff, can I pass it back to you for any closing comments?
Well, for those of you who are heading off to the Abraxas presentation, have fun. We will be listening to that one carefully, too. Once again, thanks for all of your time, and we look forward to giving you a further update at year-end. Thank you.