After Solid Quarter, Harley-Davidson And Its International Growth Are Cheap

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About: Harley-Davidson, Inc. (HOG)
by: BAM Investments
Summary

Harley-Davidson's ongoing drag on the domestic front was countered by the company's international growth.

Efforts to further international expansion, turn around domestic sales, and innovate new products should allow management to return value to shareholders.

The stock remains cheap based on its PE ratio compared to its 5-year average and industry which makes it cheap at these levels.

Investment Thesis

When Harley-Davidson (NYSE:HOG) reported 3rd quarter 2018 earnings results, the company surpassed market expectations with revenue growth of 16.4% year over year and diluted EPS nearly doubling to $0.78. This impressive growth came as the company’s domestic business in the United States continued to decline amidst a decline in consumer sentiment and further competition. The motorcycle manufacturer has been able to fully offset the domestic slowdown by growth in international markets. This growth is occurring despite headwinds surrounding international trade resulting in tariffs in some markets. This international growth has allowed the company to focus on improving domestic results, continue to expand internationally, return value to shareholders through dividends and share repurchases, and innovate new products. With the stock trading at a discount in comparison to the market and 5-year average, it remains a cheap buy.

Improving Domestic Results

Harley-Davidson’s domestic business is continuing to struggle, with shipments declining 13.3% in the third quarter. This isn’t a new issue for the company as year-to-date 2018 sales are down 10.2% through the first 9 months of the year. Essentially, the domestic market is hurting due to increased competition fighting for less new motorcycle demand. For new riders, there are plenty of less expensive options than buying a new Harley-Davidson motorcycle. They have other manufacturers in the new motorcycle space or they can buy a used Harley-Davidson as aging riders are selling, both at much lower cost points. In order to reverse this, Harley-Davidson is focusing on lower inventory, increasing margins, continuing to build their brand, and increasing motorcycle ridership. This can be seen in the company’s strategy and 2027 objectives: build 2 million new riders in the U.S. and launch 100 new high impact motorcycles and do so profitably and sustainably.

Expanding Internationally

Also in the company’s strategy and 2027 objectives is growing international to 50% of annual volume. This will be a shift from the Q3 2018 sales mix of 61% domestic vs. 39% international.

Note: Obtained from the company’s investor relations site.

While the company will achieve this mix through domestic attrition, international retail motorcycle sales were up 2.6% in the third quarter of 2018 compared to the same quarter in 2017. In order to reach the 50% of annual volume goal, the key is really just replicating the domestic business model. This focuses on expanding the dealer network, building the Harley-Davidson brand awareness, and increasing sales/profitability. This will take time, but Harley-Davidson is making all of the right moves. The company anticipates opening 25-35 new full-line dealerships per year through 2027. Additionally, the company is opening a plant in Thailand this year in an effort to improve margins in the international markets.

Returning Value to Shareholders

Harley-Davidson's management has a commitment to returning value to shareholders and the third quarter was consistent with their track record. In the third quarter of 2018, the company paid a quarterly dividend yield of 3.5% and repurchased $84.5 million of stock or 1.9 million shares. See the comparisons to 2017 below.

Note: Obtained from the company’s investor relations site.

Consistent with previous years, the dividend payout received its annual increase. The quarterly dividend increased to 37 cents per share from 36.5 cents per share which represents a near 1.4% increase. Additionally, at the end of the 3rd quarter, 21.3 million shares remained on board-approved share repurchase authorizations; therefore, I fully expect additional buybacks on any market weakness which will help floor the shares.

Innovating New Products

In addition to returning value to shareholders through buybacks and dividends, management is committed to innovating new products to drive revenue. In addition to creating a large portfolio of new bikes, the company finally announced official plans to build the Livewire bike that was announced in 2014. While details aren’t fully known, it’s expected to feature a 7kWh battery pack that powers a liquid cooled-electric motor. This generates 55kW of power and 70Nm of torque, which is consistent with the 883 Sportster. The bike is expected to be able to recharge within a few hours and provides a range of approximately 50 miles.

Note: Photo obtained from Green Car Reports.

It has been a long road to get to this point, but it’s finally gaining traction and dealers are excited to add the electronic motorcycle to their sales portfolios. The company is expected to announce pricing in January with expectations for it to go on sale later in the year. It's encouraging to see Harley-Davidson moving away from traditional bikes in response to market trends. I continue to expect the introduction of the electric motorcycle to be the necessary direction of the future market and a key factor for the company's long-term success. And as I've stated many times before, when it comes to introducing a motorcycle to the market, there is no one I trust more than Harley-Davidson.

Valuation

With the game plan set, the stock has seen some appreciation as a result. On October 26th, the stock was trading as low as $35.76 per share and has increased 12% to $40.07 as of 11/23/18. This increase over the past month has driven the PE ratio up to 12.4. This is still cheap for the company on all fronts as the industry average is 14.9, the S&P 500 is 19.1, and the stock’s 16.2 5-year average.

Note: 1 Month Stock Price history chart obtained from Morningstar.

Conclusion

Despite slowing demand in the U.S., Harley Davidson is experiencing growth internationally. With the company’s strategy focusing on growing internationally, recovering domestically, and innovating products with a mission to return value to its shareholders, I am excited about the company’s future. There is no reason that company can’t replicate its domestic success internationally while retaining its dominance in the U.S. With the low PE ratio of 12.4 versus the industry average of 14.9, or nearly 17%, now is a great time to buy in on Harley-Davidson’s turnaround story.

Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in HOG over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.