Background and Thesis
The purpose of this article is to calculate the returns one can reasonably expect by buying Harley Davidson (HOG). We believe that the recent pullback in the stock price offers an attractive long term entry point.
Harley Davidson is a cyclical stock that is slowly working its way higher towards the sales volume levels it was achieving at the peak of its last cycle in 2006/2007. We estimate that at current growth rates (5.6% annual volume growth since cycle low) that by 2019, the company will sell more motorcycles than at its 2006 peak. With additional revenues from new products, pricing gains, financing and accessories, and improving net margins, the stock should yield patient investors a gross return of between 15% and 20%.
Harley Davidson Overview
Recovering cash generation ...
Significant increases in buybacks and dividends to come (see 2004 - 2007) ...
How cash is deployed ...
Slowly increasing levels of invested capital ...
Revenues/Invested Capital are increasing from 2009/10 cycle lows.
Margins continue to expand since cycle lows.
Given the increases in Revenues/Invested Capital and NOPAT Margin, Returns On Invested Capital are recovering ...
The chart below shows the relative P/E of Harley Davidson to the S&P 500 during its last cycle (2002-2006). The average was around 1.1 which is where the current relative P/E is right now. We would therefore anticipate relative multiples to end up at current levels 5 years out. We believe the worst case is for multiples to contract to market levels.
Our EPS estimate for the next 5 years is 18.9%. The various components can be seen below.
Assuming Harley Davidson continues to trade on its current P/E of 1.17x trailing earnings, then we are looking at a 20.2% IRR over the next 5 years with a $120 price target. In the event that multiples contract to the market level, (15.5x), then the IRR would be 16.5% with a $102 price target.