Harley Davidson (HOG)'s shares plunged by nearly 4%, despite a 30% jump in net profits and a 17% rise in revenues YoY, as per its earnings release. The company managed to beat earnings, but missed revenues by 3.7%. In its future outlook, HOG dreads a drop in this year's margins and shipments, which would lead to overall declining revenues for at least the next two quarters.
However, on the upside, the company has enhanced its international dealership network, and is well on its way to successfully implementing the ERP system at its York premises, and expects lower than previously estimated restructuring costs for this year. Also, Harley Davidson Financial Services (HFDS) - the financial wing of the company, is growing, and is expected to yield higher net margins in the near future.
In yesterday's earnings release, HOG announced that it had beaten estimates for net profits, but missed the revenues figure. The beat mainly came from the HDFS, which reported an operating margin of $82 million, around 26% greater than sell-side estimates.
HOG also announced a bleak future outlook. The gross margins, which had gained momentum after a revival from the 2009 recession, are expected to fall from 35.9% to a range between 34.75%-35.75%. Third quarter's shipments are also expected to fall by 9.3%-17.4% YoY to a level of 51,000-56,000 motorcycles. This is because of the production disruption caused by the ERP system implementation at the York site. The company plans to ship a total of 245,000 to 250,000 motorbikes in 2012, which are 5%-7% higher YoY. Also, HOG reduced its estimate for restructuring costs by $10 million for this year. The revised figure for the restructuring cost is $40-$50 million for this year.
Following shows the geographical areas from which HOG generates its revenues.
U.S. Market and Housing Sector's Correlation
As shown, the U.S. is by far the most important market for the company. Therefore, a lot depends upon the current motorbike demand in the U.S. Demand for motorbikes is often correlated with the housing sector. Before the housing bust, many people used home-equity loans to buy Harley bikes. Currently, the U.S. housing market has shown some signs of a recovery, but it will still take some time before the public can properly build up its assets and manage to get loans. U.S. sales were only 4% up this quarter, as compared to 26% for the first quarter, which were brought about by an unusually mild winter.
The European crisis is playing an important role in the company's current and future standing. HOG's sales for the region fell by 6% YoY. Japanese companies like Honda (HMC), Yamaha (OTCPK:YAMCF) and Kawasaki are giving HOG a tough competition in Japan, and as a result, margins have declined there. A new dealership network in Brazil has had a positive effect on sales. However, the declining Real and Euro against the Dollar have resulted in losses for the company, which will continue to affect HOG's profits till the year end. Overall, international business grew by 4.5%.
The following graph shows the expected decline in margins.
The decline is expected to come because of lower revenue received per bike. The revenue is expected to be suppressed by declining currency rates in HOG's end markets, like the falling Real and Euro.
Bullish Point of View
On a positive note, revenue levels are still growing unlike the slowdown of 2009 when the company had to lay off 63% of its workforce to avoid overcapacity. The situation is expected to improve as Europe pulls itself out of the debt crisis, and the U.S. economic recovery gains momentum. HOG enjoys a 56% market share in the U.S., which has risen over the years. The company is already expanding its international exposure to enhance its international presence. It has currently 74 international dealers and is well on its way to achieving a 100-150 dealers mark by the end of this year.
HDFC accounts for 15% of total revenues and 25% of total income. The financial wing has been giving a strong performance since its revival after 2009. The net interest margins for this division are expected to grow in future, giving a boost to the company's operating income. This probable improvement is not expected to be priced in the stock's value.
The company cut the restructuring cost estimate for this year by 10 million. Since savings are being made this year, the change in the NPV of the project will be the same i.e. $10 million. For a thorough NPV analysis of the restructuring, visit our article on HOG.
The company does not have liquidity problems. The stock is trading at a P/E of 15x (TTM) and a forward P/E of 12x. The annual growth rate for the earnings is 15%. Using 2013 earnings and a historical average P/E of 23x, the stock is expected to trade in the $80s. However, a lot depends upon the revival of the motorbike demand in the U.S. and Europe. A lot of the upcoming storms have already been priced in the stock's value, which is down by 4%. Therefore, the stock will be a great player on recoveries in the U.S. and European economies.