What Happened to Harley-Davidson?
William is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.
When I think of Harley-Davidson (NYSE: HOG) I think of leather toughness. I think of that tough-looking dude who rides the loud motorcycle down the street. The brand is part of the owner and vice versa. Owning one of those bikes is an expression of who they are: tough and confident. However, can an investor be confident that Harley-Davidson can provide consistently high returns in the future like it has in the past?
During the 1990s Harley-Davidson was a Wall Street darling delivering stellar returns for its shareholders. However, the recent recession has shown that Harley is a luxury that people can live without during hard times (see chart below). The company's revenue and free cash flow declined 17% and 11%, respectively, between 2007 and 2009. It was cash flow negative in 2008. Harley-Davidson’s revenue has increased over the past three years but hasn’t surpassed the pre-recession peak set in 2006.
Harley-Davidson’s competition also fared badly in the motorcycle market during the recession. Polaris’s (NYSE: PII) Victory motorcycle sales fell 44% in 2009 at the height of hard times. However, they remained cash flow positive due to manufacturing overhauls and shortening of intervals in which their dealers can order. Honda Motor Co. (NYSE: HMC) experienced a worldwide loss in motorcycle sales of 9% in 2009. However, Honda’s units of motorcycles to the Asia-Pacific region increased 13% during that time because motorcycles, especially the scooter, are the main use of transportation in that region. Honda’s motorcycles in the Asia-Pacific region, in addition to some of Polaris’s ATVs “haulers,” served a utilitarian value that Harley-Davidson simply didn’t have.
Harley-Davidson felt that they had to focus in order to better position themselves for the future. In 2009 they closed down their Buell division, which made a sports bike style motorcycle. They wanted to focus on their traditional heavy weight motorcycles that people associate with their brand. The company also implemented flexible manufacturing akin to what Polaris did in order to better adapt to changing customer tastes.
Harley-Davidson, like most companies, is looking to overseas expansion for future growth; it had a 14% market share in Europe in 2011. However, in some countries such as Japan their revenue has been in a state of decline in recent years. This is probably a result of unfavorable demographics, such as not enough people wanting a heavy weight motorcycle in Japan, as well as economic fallout from the tsunami disaster. Harley is still a largely U.S. brand name with 68% of 2011 motorcycle revenues coming from the United States.
Harley-Davidson’s cash to stockholder’s equity is 45% and they have lowered their total debt to equity ratio to 154% as of July 1. They have a leaner balance sheet to deal with future hard times. The stock price has increased 18% over the past year (see chart below). However, luxury is overlooked when the consumer becomes more cash strapped. If the global economy were to sink back into recession the stock price will head south again.
The global economy, specifically the United States economy, is more fragile than it used to be. Unemployment in the United States is maintaining a higher rate than in the go-go era of the 1990s. I believe Harley-Davidson’s earnings, cash flow, and subsequently its stock price, will take a sharp turn for the worse if the economy is to worsen. Harley-Davidson is a luxury that people can do without during hard times, and I think its consistent returns of the past are now over.
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