Harley-Davidson (HOG) has been a turnaround story since Keith Wandell joined its ranks as the company's CEO and president in April 2009. Since then, the entire operating capacity has been revolutionized to help the company in keeping its operations as flexible as possible. This has resulted in expanded margins. A boost in demand, expected to come from the introduction of a new model later this year, coupled with the gradual housing recovery make HOG an attractive buy.
Restructuring and Production Concerns
Upon his arrival, Wandell announced a restructuring plan that is expected to yield a positive NPV and an IRR of 152%. The detailed calculations have been shown in our earlier article, which discussed the plan in detail. In the earnings release from Aug. 2, the company announced that it will save another $10 million as the cost for restructuring for this year is $40 million to $50 million, rather than the earlier estimate of $50 million to $60 million.
Qineqt has always stressed that manufacturing stocks often suffer when the market perceives that a company will not be able to keep up with its production guidance. Our analysis of electric-car manufacturer Tesla Motors (TSLA) and aerospace giant Boeing (BA) has reinforced this belief time and time again. HOG's investors are wary of the fact that the company may not be able to implement its ERP system at its York facility on time, which will lead to further disruption in the production schedule. HOG has already cut its third-quarter shipments due to this project. According to the guidance, the company will ship 51,000-56,000 bikes this quarter, which is down 9%-17% year over year. However, this concern was addressed by the management when it announced that ERP implementation was expected to be completed on time, and that the York facility would be able to make its operations more flexible by early 2013.
What investors have recently started to appreciate is that despite the current recessionary times, the company has been able to maintain its operating margins. The operating margin is expected to reach 16% this year, higher than the pre-crisis level of 12.5% in 2009. Wandell's team has brought all operations under one roof, instead of production being scattered across 41 buildings. The hourly workforce has been reduced to one-third of its 2009 level, with 10% of employees being those who do not get paid unless they are working on a specific task. A total of 62 job classifications have been simplified to only five, while most of the workforce was rotated around the production line, switching between various jobs in order to make work less monotonous. As a result, HOG missed revenue estimates in the second quarter, but managed to beat analyst earnings estimates.
Housing Recovery and HOG -- Are They Related?
As implausible as it may sound, the facts reveal that HOG's stock price is positively related to the housing sector. The reason for this phenomenon is that people use home equity loans to buy HOG's products. The current momentum of the housing sector is going in a positive direction. The data released by the National Association of Realtors on Sept. 19 showed that sales have risen by 7.8%. Also, housing starts rose by 2.3%.
Dealerships, the New Model, and the Used Bikes
The expansion of the dealership network is an important catalyst for the company. The dealership network in Brazil was a new addition in the last quarter. The company aims to appoint 100-150 dealers worldwide in countries like Russia, China, France, and Croatia by 2014. Currently, the company has 74 dealers worldwide, up from 67 dealers by the end of the first quarter.
New demand is expected due to new models being launched by year-end. However, only time will tell whether the demand will be sustainable or not.
Bears are often critical of the fact that the company faces a big potential risk in the form of availability of used bikes in the market, which adversely affect the demand for new Harley Davidson bikes. Why buy a $25,000-$30,000 brand new Harley when used ones in mint conditions are available for less than half the price? The main problem with used bikes is financing. New bikes can be much more easily financed through HOG's financing arm. Also, when asked by a UBS analyst during the earnings call, management said that the pricing gap between used and new bikes has remained constant for the past three quarters and is expected to remain the same in the near future. Therefore, not much of a shift in demand is expected anytime soon.
The company's operations make up a genuine case study of successful operations management. The operations have been made so flexible that a decline in demand will have little or no impact on the stock price. The company is trading at a forward price/earnings multiple of 13 times. The company has positive cash flows from operations, and also positive free cash flows. Margins are exceptional. Debt is not a concern for the company. The stock pays a dividend yield of 1.4%. With an annual growth rate of 17% for the next five years, buying HOG's stock is recommended.