15.07.2005

United Threatens to fire CFO

The board of directors at United Rentals, Inc, the worlds largest rental company and operator of the largest aerial lift fleet, has issued a statement saying that president and Chief Financial Officer John Milne has failed to perform his duties and threatened him with termination if he does not rectify the situation within 30 days.

This action was taken on the recommendation of the special committee of the board reviewing matters relating to the SEC inquiry that was announced last August (see Vertikal.Net Sept 6 2004)and which is still ongoing. Milne informed the committee that he was not willing at this time to respond to the committee's questions.

The board notified Milne “that, to the extent his failure of performance may be curable, he would be afforded the 30 day cure period provided by his employment agreement”.

The announcement also includes an update from the committee regarding the SEC investigation. While it appears to be targeted at a broad range of accounting practices at the company, some specific issues have been highlighted.

In the years 2000, 2001 and 2002 the company participated in several short-term, equipment sale and leaseback deals that resulted in additional gross profits of $12.5, $20.2 and $1.5 million each year respectively. While not being definitive, the committee says that the transactions were accounted for incorrectly.

It also seems that the company did not account correctly for its self-insurance reserve. As with many large companies in the USA, United chooses to self insure against most of its risks, and maintains a reserve account which it accrues into each year to cover estimated claims.

It seems that in 2000 to 2002 it under accrued, while in 2003 and 2004 it over accrued, so while the reserve is correct now, the net effect was to overstate earnings in 2000, 2001 and 2002 and understate earnings in 2003 and 2004.

This will also have an impact on corporation taxes due for each year. United says that if anything, on aggregate it has overpaid tax for the five year period, although in some years it will have underpaid while in others paid too much. (A full transcript of the committee’s findings follows after "Vertikal Comment")

A class action lawsuit was filed against the company and its three most senior executives last September (See Vertikal.Net Oct 3 2004)

Wayland Hicks, chief executive officer, said, "The board and management are committed to ensuring full cooperation with the board's special committee and the SEC inquiry. We are working to resolve outstanding issues and file our financial statements as soon as possible.

"While we address these challenges, we remain focused on driving revenue growth, improving our margins and increasing our return on capital, as we continue to benefit from favorable business conditions. Our full year 2005 outlook continues to be for total revenues of $3.4 billion, diluted earnings per share of $1.60 to $1.70 and free cash flow of at least $200 million."

Vertikal Comment

On the surface it seems that United has used a number of accounting methods to manipulate its numbers to show better results in the tough period of a few years back. At the time when the company was faced with tight covenants.

In a way it has been fortunate that a very strong period has followed allowing a full catch up to be achieved. Unfortunate though that a SEC enquiry was launched bringing these events to light.
The key question is how knowingly were these “errors done” and who knew? What impact would lower earnings have had in 200/1/2?

The very public threat of termination of a CFO is highly unusual and must surely have only come to pass after intense discussions?

The share price, while having recovered from the 25 percent fall when the SEC enquiry was announced, has fallen from around $21 in late June to $17.30 this morning, a drop of over 15 percent.

Watch this space!



Full transcript from United Rentals announcement

Update on Special Committee Review Relating to SEC Inquiry

In the years 2000, 2001, and 2002, the company was party to several short-term, equipment sale-leaseback transactions that resulted in the company reporting aggregate gross profit from these transactions of $12.5 million, $20.2 million and $1.5 million in those respective years. Although no final conclusion has been reached, the special committee has developed information that suggests the accounting for at least some of these transactions was incorrect. The special committee is continuing to review these transactions as part of its broader review relating to the SEC inquiry. As previously disclosed, the SEC inquiry appears to relate to a broad range of the company's accounting practices and is not confined to a specific period or the matters discussed in this release.

Update on Other Matters

Self-Insurance Reserve Restatement Expected
As previously announced, the company is reviewing its self-insurance reserve recorded in 2004 and prior years. The company retained an independent actuary to assist with this matter. Based on work completed to date, the company has concluded that, although the reserve level at year-end 2004 is appropriate, a portion of the reserve recorded in 2003 and 2004 should have been recorded in prior periods. As a result, the expense associated with the self-insurance reserve was too high in 2003 and 2004 and too low in 2002 and prior years.

The company is presently quantifying by reporting period the financial restatement necessary. When this review is completed, the company expects to restate its financial statements for 2000 through 2003 and the first nine months of 2004 to correct the expense associated with the self-insurance reserve. This restatement will have a positive impact on pre-tax results for 2003 and 2004 and a negative impact on pre-tax results for prior years.

As previously announced, in the third quarter of 2004 the company identified a material weakness relating partially to its self-insurance reserve estimation and evaluation process. Self-insurance reserves reflect the company's estimate of the liability associated with workers' compensation claims and claims by third parties for damage or injury caused by the company. The company subsequently retained an independent actuary to assist in reviewing its historical reserve levels. The company has determined that deficiencies relating to its self-insurance reserve estimation process represented a material weakness in the company's internal control over financial reporting at December 31, 2004. The company believes that it has taken adequate measures to remedy this weakness.

Update on Previously Announced Income Tax Restatement
The company announced in March 2005 that it expected to restate its financial statements for years prior to 2004 to correct the provision for income taxes. The company's initial estimate was that this restatement would decrease the provision for income taxes by a total of approximately $25 million for years prior to 2004. Subsequently, the company determined that additional analysis is required to quantify the restatement for periods prior to 2004. Accordingly, the company is withdrawing its prior estimates relating to this matter. The company continues to believe the restatement is likely to decrease aggregate income tax expense for periods prior to 2004, although the expense in particular periods could increase. Further analysis is required to confirm this conclusion.

The company believes that this restatement will not impact 2004.
Caution on Historical Financial Statements
In view of the expected restatements for income tax and self insurance, as well as the matters discussed above relating to certain sale-leaseback transactions, investors are cautioned not to rely on the company's historical financial statements