Herc Holdings (HRI): A Contrarian Play After Russell Index Exclusion

The removal of Herc Holdings Inc. (NYSE: HRI) from the Russell 2000 Growth-Defensive Index in late 2024 has sparked questions about its stock's near-term trajectory. While index exclusion often triggers short-term selling pressure as passive funds rebalance, the decision may present a contrarian opportunity for investors willing to look beyond the noise. Let's dissect the implications of this move and assess whether HRI's fundamentals justify a closer look.

The Index Exclusion: Cause and Context

Herc was removed from the Russell 2000 Growth-Defensive Index during the 2024 reconstitution, a process that evaluates companies based on metrics like market capitalization, liquidity, and style classification (growth vs. value). FTSE Russell's methodology likely flagged shifts in Herc's financial profile, such as its declining net income due to a $194 million impairment charge tied to its Cinelease division—assets now classified as “held for sale.” While this non-cash charge dented reported earnings, adjusted metrics like EBITDA and free cash flow remained robust, growing 15% and 9%, respectively, in 2024.

The exclusion also reflects Herc's evolving business model. The company has shifted focus from defensive, steady-revenue sectors (e.g., entertainment equipment) toward higher-growth construction and industrial rentals. This pivot may have moved its style alignment away from “defensive” and into pure growth—a dynamic not yet reflected in its index categorization.

Why the Exclusion Isn't All Bad

1. Short-Term Pain, Long-Term Gain: Passive fund outflows post-exclusion often create buying opportunities. For example, HRI's stock fell 8% in the days following the Russell announcement, even as adjusted earnings beat estimates. Active investors can capitalize on this dislocation.
2. Operational Strength Persists: Despite the Cinelease impairment, Herc's core rental business thrived in 2024. Equipment rental revenue rose 12% QoQ, pricing power held steady at +2.1%, and fleet utilization remained above 70%. These metrics suggest underlying demand resilience.
3. Strategic Reinvestment: Herc deployed $7.0 billion in equipment (at original cost) and expanded its footprint via 23 new greenfield locations and nine acquisitions. Management's focus on high-margin national account projects (e.g., construction, infrastructure) aligns with secular trends in U.S. infrastructure spending.

Risks to Consider

• Cinelease Sale Execution: The company's decision to sell its studio entertainment division removes a drag on earnings but hinges on finding a buyer. Delays could prolong uncertainty.
• Interest Rate Pressure: Higher borrowing costs weigh on both Herc's capital costs and its customers' ability to fund large rental projects.
• Fleet Residual Values: Used equipment pricing could deteriorate if demand for construction projects slows, impacting future cash flows.

Contrarian Investment Thesis

Herc's exclusion from the Russell 2000 Defensive Index is less about its core business weakness and more about style misalignment and one-time charges. The stock now trades at ~8.5x 2025E adjusted EBITDA, a discount to its 10x+ historical average and peers like Hertz (HTZ). For investors willing to look past quarterly noise, HRI's growth investments—particularly in construction and industrial rentals—position it to benefit from rising infrastructure spending.

Key Data Points to Watch

- Adjusted EBITDA Margin: Must hold above 45% to signal pricing discipline.
- Net Leverage: A stable 2.5x reflects prudent balance sheet management.
- Fleet Utilization: A sustained >70% rate validates demand strength.

Investment Recommendation

Buy on dips below $60/share, with a 12–18 month price target of $75–80. The stock's current valuation leaves room for upside if Herc delivers on its 2025 guidance of $1.6–1.7 billion in adjusted EBITDA. Pair this with a stop-loss below $55 to manage risk.

While passive fund selling may keep near-term pressure on HRI, the company's operational momentum and strategic bets on growth sectors make it a compelling contrarian pick for investors with a multiyear horizon.

This analysis is for informational purposes only and should not be considered individualized investment advice.