Why You Should Buy this Recreational Vehicle Manufacturer

Sandeep is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Recently, Harley-Davidson (NYSE: HOG) reported mixed Q3 results, with EPS a penny above the consensus estimates but revenue growth falling 2.7% short of expectations. Overall, while there were some puts and takes, I believe the results were generally better than feared and I am optimistic about the company. This is especially true given an upside to international sales, clear indication that U.S. retail sales weakness was due to supply issues rather than demand, and no change to full-year shipment and gross margin guidance. Moreover, the company continues to reward shareholders with substantial share buybacks, and still has 15.3 million shares remaining under its share repurchase authorization.

4Q earnings could be a positive catalyst

Investors were concerned due to a downfall in U.S. retail sales of Harley Davidson bikes in July and August. However, the sales rebounded encouragingly in September after the launch of new model year bikes in late August (compared to late June last year). Thus, it was more of a supply issue rather than demand, and I expect the revenues lost in 3Q to be recovered in 4Q. I believe the new 2013 model year bikes are being well received and gaining strong traction among consumers, and I expect Harley Davidson to produce at the top end of its shipment guidance given very tight dealer inventories and firming demand. Thus, I see a positive catalyst for stock appreciation in 4Q earnings.

Share Buybacks and Dividends

I think that deploying excess cash towards shareholder-friendly actions like buybacks and increased dividends could be another positive catalyst for the shares. The company is committed to increasingly return cash to shareholders as it's in the final innings of its multi-year restructuring effort. It is worth noting that post the repayment of $303 million in debt in 2014, the company would be debt free. With few M&A aspirations I think a high proportion of this cash is likely to be returned to shareholders over time through buybacks or dividends.

Expansion in International Markets

International expansion is a key area of investment for the company, and I expect this channel to help fuel future revenue growth. Since 2009, the company has opened around 80 new international locations. with roughly two-thirds of those dealerships in emerging markets. Moreover, the company has made significant progress in diversifying its geographic revenue mix, as it now generates 68% of its revenues in the U.S., versus 80% in 2006, and 84% in 2002. With retail unit sales up 47.5% in Latin America and 14.1% in Asia in the recent quarter, I am confident that these emerging markets are eventually going to represent a significantly bigger piece of the business.

Harley's brand name is second to none when it comes to the heavyweight market segment of on-highway motorcycles, and thus the company enjoys strong pricing power and high margins. The company’s operating margin of 18.28% stands out when compared to other recreational vehicle companies like Marine Products (NYSE: MPX) and Winnebago Industries (NYSE: WGO) which have operating margins of 6.76% and 1.65%, respectively.

Both Marine Products and Winnebago are trading at a premium to Harley Davidson. While Winnebago’s premium valuation seems justified as the company is going through a phenomenal growth cycle and has a much better expected growth rate, Marine Products does not have a high growth rate to support its hefty forward P/E of 27, and its low operating margin will also continue to limit its future growth.

To conclude, with retail sales accelerating towards the end of September and lean inventories in the dealer channel, I believe Harley Davidson is well positioned for 4Q 2012 and into 2013. Harley-Davidson’s world-class brand has driven its market share leading status in heavy weight motorcycles domestically, and I think international expansion would be the next leg of growth. The stock has underperformed the broader markets this year and is trading at forward P/E of 13.60, as compared to its average forward P/E of 16.4. I believe the stock has good upside potential and recommend buying it.

sandeep2gupta has no positions in the stocks mentioned above. The Motley Fool owns shares of Winnebago Industries. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.If you have questions about this post or the Fool’s blog network, click here for information.

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