#mattlevatich

Harley’s horrible huffing contains plenty of puffing

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When companies won’t give guidance, we must find ways to see where we were relative to history to get a picture of the future. Harley-Davidson (HOG) makes a good case study. Coronavirus may be one factor but the company has already produced results that have undercut the worst levels experienced during the GFC. We have long criticised HOG for fuzzy maths under the disastrous leadership of the recently ousted CEO Matt Levatich.

While there are strictly no direct apples for apples comparisons on the timing of coronavirus and the GFC (the latter requiring no lockdown), we note the weakness in Q1 2020 unit sales in the chart above.

This is what the trend of Q2 looks like.

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If we assumed a similar slowdown for April and May then theoretically the company would comfortably breach the Q2 2009 unit sales level of 58,179 which is only 18.6% below the Q2 2019 level. Q1 2020 global sales fell by 17.7%, even though the company made a very misleading statement which we’ll get to in a moment.

One thing that struck us was the steadily rising value of quarterly inventory as a percentage of quarterly non-finance revenues since Q1 2014. While the former value is a balance sheet item and the latter P&L, Q1 is generally a period where new models are rolled out ahead of the busiest Q2 & Q3 seasons to ensure the distribution network can move metal.

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Shipments reflect this. The inventory metric drops off into Q2 although exhibits a similar type of trend to Q1. Given Q2 2009 was the beginning of the tough times post-GFC, will we see the high watermark breached or will the slowdown in production offset it? How badly are revenues affected such even flat inventories lead to a deterioration of this measure?

In Q4 2019, inventories to motorcycle revenues surged to 69.1%.

We note that Q1 2020 shipments equated to an inventory of 12,534 units (+29.0%YoY).

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Here is where it gets interesting. By HOG’s own admission in the quarterly investor presentation pack (p.7), it noted that Q1 2020 US retail sales were on target to be one of ‘the strongest quarters in the last 6 years through to mid-March‘, until COVID. 6 years ago US Q1 unit sales hit 35,730 units. US sales in Q1 2020 ended up at 23,732.

By deduction,

In Q1 2014, over 90 days HOG shifted on average 397 bikes per day. (35,730/90 = 397)

In Q1 2020, over the 74 days to mid-March, HOG was moving on average 321 bikes per day. (23,732/74 = 320.7027).

If we assumed that HOG was to hit that magic target over the 16 days stolen by COVID19, it would have had to punch out 750 bikes a day. (11,998/16 = 749.875).

We would love to see the order book for these magical beasts that were waiting for a home…it would seem the sales and marketing department cherry-picked one strong day and multiplied it over the quarter to create such a questionable statement.

Here is a chart of motorcycle related revenue for Q1 since 2008. No wonder the shares have underperformed since 2014, even with a small fortune squandered on share buybacks.

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The Q2 revenue book doesn’t look too flash either if April is wiped out. At present 50% of dealers are shut since late March. Is the market prepared for a sub Q2 2009 print? The share price has rebounded strongly after the Q1 results even though there is no guidance to speak of.

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But it gets worse. So poor has the Q3 season become for HOG that its unit sales have missed the Q3 2009 post-GFC low for seven out of the last 10 years. Are we to believe if the world is out of lockdown by Q3 that there will be a miraculous surge in new bike sales when unemployment is likely to remain at troubling levels potentially above that of GFC?

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HOG is a great example of a divine franchise. It wasted far too much money on share buybacks (now suspended) and sits with a credit rating just two notches above junk.

The annualised Q1 2020 loss experience for the finance business sit at 10-year highs even before it has been thumped by the coming turndown. People buy HOGs as a hobby, not transport. A purely discretionary purchase. We imagine that restoring household balance sheets will take precedence to stumping up serious coin for a Harley cruiser.

Sadly Levatich and his 2027 vision have not been consigned to the dustbin of history which is the only logical filing cabinet for it. Completely unrealistic, devoid of reality and totally in denial of the shifting sands in the global motorbike market.

The new “Rewire Plan” (p.5) while sketchy on detail (as it would with an interim CEO) is a reheat of Levatich’s plan. Sad.

In our view, the entire motorcycle industry needs a strong HOG. New management is a good start but it won’t help if they intend to convince investors that they were on course to shoot Q1 to its best level in 6 years with questionable math. How quickly can inventory be pared? What models will revive its fortunes?

HOG needs to get in touch with its core customer base the way Willie Davidson did after the dark days of AMF ownership. It needs to build products which hark back to its former glory rather answer questions in segments that no one is asking it to fill.

Indian, its rival of 100 years ago is killing it with the FTR1200. Indian’s parent company, Polaris Industries, posted a small single-digit increase for motorcycles in Q1 2020. Enough excuses HOG. You are running out of time and your retained earnings are 1/5th what they were 5 years ago!

Why is the market giving it the benefit of the doubt when the worst is still ahead?

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Harley needs a crisis manager. Will the incoming CEO possess those skills?

Harley Davidson sneaks in a 50% cut to future hoping no one would spot it

Harley-Davidson’s (HOG) Q3 results continued the poor run. Declining global unit sales and 30+ day delinquencies plus annualized loss experience are at 9-year highs. The company sneakily halved its outlook on plans to cultivate its rider base which further shows the management is clueless and running out of options. It smacks of desperation.

Shares bounced almost 10% on the numbers. The funny thing is that quarter after quarter, the earnings releases read like Groundhog Day. Of any positive news, international ended up slightly positive (+2.7% for Q3, -3.9% for 9M) but were was still below expectations). Japan was cited as a positive. Then again Japan sales are 40% below the peak and have been dwindling for 10 years. Australia was ok but EU weak.

Only two thing worth paying attention to in these results.

1) Targets

For the last few years, HOG has been banging on about how it will create 2 million “new” US riders into the Harley fold by 2027. Indeed CEO Matt Levatich was adamant on the conference call that “the team is laser-focused on building riders today and preparing us and our dealers to welcome a broader array of new riders moving forward.” Typical bluster.

Levatich must be using lasers from The Dollar Store given their accuracy to date.

In Q3, HOG has shifted that language to 4m total riders in the US by 2027. It currently stands at just over 3m. So that 2m new US rider target has effectively more than halved but no explanation for the change was given which proved CM’s hunch. It was snuck in. HOG management said “we’ve done the math“. CM would argue, “what, so you hadn’t done it properly beforehand?” This only reveals the ineptitude within management ranks. Instead of investigating where the problem is needless share buybacks are continuing at a heady clip. $112.5m for the quarter.

CM has written in the past sets of results,

HOG’s 2mn new riders in the US by 2027 seems an irrelevant target. 200,000 “new” riders per year by definition should not include existing customers. Management combine new and used sales using IHS Markit Motorcycles in Operation (MIO) data, not their own! That is fine if all are new Harley customers yet the brand has some of the highest loyalty rates of any maker period. Are we to believe that long term Harley owners didn’t upgrade?

Of the 138,000 new domestic US sales in 2018, the brand assumed 278,000 new riders to the family. It also cites that 50% of that were 18-34yo (implies poorer product mix), women (smaller capacity hence poorer product mix) or ethnically diverse (irrelevant) riders. So by definition at least 140,000 sales were used bikes. Harley used bike sales in America are around 2.5x new, or 350,000 units. So assuming half were new customer sales for new bikes, 60% of used sales must have been to ‘never owned a Harley’ customers. Seems high.”

Yet Levatich continued in the conference call by saying,

guiding all our efforts is deeper analysis and insights on why people engage, participate and disengage from riding. Our advanced analytics capabilities and rider migration database has evolved into a powerful asset and a wealth of information and inspiration for us.

But Mr Levatich, HOG unit sales and revenues have been in retreat for 5 years in a row. Sure, motorcycle markets are tough but it hasn’t affected other premium makers BMW Motorrad, KTM, Ducati and Triumph at the luxury end. HOG sounds a bit like the Australian Wallabies. Lots of positive talk despite overwhelmingly negative signals, results and glaring problems with the management structure. It is time to wake up. HOG is missing the simplest of things – product that customers want.

This is a company that continues to rely on its 116-yo divine franchise. Basing its future on what seems to be a marketing company puffing up fanciful predictions in the face of a dire outlook. The worst thing about it is that management is in denial.

2) Finance

HOG is the ultimate discretionary spending item. Doesn’t seem that they are spending at HOG. If anything, the financial services business shows current customers are struggling to pay their loans. An interesting anecdote from Polaris (PII) Q3 results overnight was the claim that its Indian brand (which competes directly with Harley) admitted,

North American consumer retail sales for Polaris Indian motorcycles decreased mid-teens percent during the third quarter of 2019 primarily due to the weak mid to heavy-weight two-wheel motorcycle industry that was down high-single digits percent and retail pressure from heavy competitive promotional spending.”

If HOG is cranking up the finance and promotional spending shouldn’t investors be wary of a further deterioration in the types of customers they are lending to? When CM covered HOG as an analyst 20 years ago, the then management told CM that Harley owners would forgo the mortgage before payments on the bike, such was the rock-solid nature of the finance arm.

No, HOG’s loan book is unlikely to bury it but the signals are such that it is having to resort to pushing so much harder to make sales. That is evidence of a soft backdrop which management is not being open and transparent enough about.

HOG fortunes are bound to get a lot worse before they get better. The hopes and dreams of the delayed electric LiveWire e-bike is too expensive to attract eco-mentalist millennials and completely unattractive to overweight bearded men covered in tattoos to desire. Harleys were always an escape tool. Products where owners could hide away in the man cave tinkering. That isn’t to say that Harley doesn’t need to innovate but at the moment it isn’t staying true to itself. That is why customers are disengaging.

Expect the 2020 numbers to follow the trend of the last 5 years. An utter disaster.

NB this piece does not constitute as investment advice. CM has no positions in HOG.

Harley – the Milwaukee Anvil

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Harley can blame tariffs for ruining margin but the rot set in well before. 2Q motorcycle shipments came in at 72,593 (-11.3%). The other luxury brands continue to climb. Its long time American arch rival Indian continues to grow. Indian’s parent Polaris Reports Q2 tonight. Indian sales were up double digit in Q1. The limited edition Indian Jack Daniels Scout Bobber sold out in 10 minutes. Product anyone?

Harley is losing share in America, it’s largest market, and Australia and Japan remain soft. Harley used to sell 16,000 units in Japan. In 2018 it will be lucky to ship 9,500. Ironically Europe is its most encouraging growth area yet tariffs will impact it.

Luxury motorbike brands BMW Motorrad, KTM, Ducati, Triumph etc are ALL growing.  Just Harley is flailing – the best motorcycle brand in the business (one where customers are prepared to tattoo the brand to their bodies) is chasing dreams from some consultant inspired long term plan which misses one core ingredient – listening to customers.

Expect the Harley management to keep the excuses rolling. It suffers from the divine franchise and its leadership seem more willing to point to external factors for its issues when internal complacency and resting on the laurels of the glory days seem the biggest factor. It is so obvious.

So Harley met its Luke warm 2Q EPS guidance. Maybe shareholders should reflect on the $103mn (1.3% of outstanding) of the $700mn in planned share buybacks which flatters EPS. E is not rising, S is falling. 10% of the stock is being shorted.

EU tariffs the least of Harley’s worries

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Two weeks ago CM wrote, “Harley-Davidson (HOG) is the classic case of a divine franchise. While still the world’s largest maker of cruiser motorcycles, it is being swamped by new competition. HOG’s EBIT performance has slid for the last 4 years and is even below the level of 2012…Sadly for HOG, 1Q 2018 has revealed even worse numbers. Global unit sales were 7.2% down on the previous year and 12% down at home.  Japan and Australia were soft. Looking at the strategy it looks like throwing spaghetti at a wall and hoping it sticks.

There is a touch of irony in that Harley was starting to do better in EMEA markets in Q1 2018 (+6.8%). Now EU tariffs are likely to sting the maker some $2,200 a unit average on motorcycles sold there. The company is seeking to bypass this in the short term by sucking up the cost of the tariff to help dealers before arranging (one imagines) for final knock down kit assembly outside the USA. A downturn in EMEA is a nightmare that exacerbates the weakness elsewhere around the globe. H-D Japan shifted 16,000 units at the peak. It will be lucky to do 9,500 this year. The business has lost its compass.

At the moment it seems the brand is stuck in an echo chamber. Harley announced at the start of the year it was closing a Kansas City plant for a net loss of 350 jobs. The rot has been in since before the tariffs. Trump lambasted Harley Davidson on Twitter for waving the white flag too soon but it is probably more evidence of the scatterbrain negative spiral approach to dealing with the predicament it finds itself in. Harley may want half of sales to come from overseas markets but it may not come through growth outside of America, rather a decline from within.

In closing Harley’s are a cult. There aren’t many brands where customers are prepared tattoo it to their bodies. Sadly this mentality means that Harley is still committed to conduct $700mn in buybacks which smacks of denial for a company seeing EBIT dwindle at 40% below peak. Then again, we shouldn’t be surprised when buybacks have made up 72% of all S&P500 earnings growth since 2012!! A recent survey that showed 75% of asset managers have not experienced the tech bubble collapse in 2000. Sure it is nothing to be worried about! Experience is a hard teacher. You get the test first and the lesson afterwards!

Harley-Davidson needs a major overhaul

MCFEBIT

Harley-Davidson (HOG) is the classic case of a divine franchise. While still the world’s largest maker of cruiser motorcycles, it is being swamped by new competition. HOG’s EBIT performance has slid for the last 4 years and is even below the level of 2012. BMW Motorrad, KTM AG, Ducati and Triumph are all growing unit sales and profits. HOG has a very defined product line whereas its competitors are flush with sports, adventure, cruiser, heritage, cafe racers, scooters, off road and much broader engine sizes.

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The further complication is that the Japanese are getting their act together. Honda is targeting over 20mn units in 2018 (mainly driven by emerging Asia). Honda has received rave reviews of its new CB1000R which should keep the fires burning. Several years ago, Yamaha introduced a budget cruiser called the Bolt but HOG responded with a competitively priced bike made in India which showed the desperation of a strategy where it doubted its brand power. Kawasaki has a 12 month waiting list on its Z900RS cafe racer which is a replica of the 1970s classic. Kawasaki has no interest playing in scooter markets and remains focused on its core larger bore segmentation.

Yamaha and Kawasaki have gone down the path of profitability than pure unit growth while Suzuki is the real laggard, lost in me too group think product. Honda has had a real resurgence in product which harks on its history. Honda now has 75% market share in Indonesia, 72% in Vietnam, 80% in Thailand and 82% in Brazil. Only 28% in India. Still, the market share, resale and brand power in Asia no maker will usurp them for decades. Put another way, the risks associated with dethroning Honda in Asia by a dealer channel push would be astronomically high. Yamaha has the other 10%.

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Profitability is starting to look much rosier for the Japanese too. Even Suzuki has managed to pull itself out of loss.

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Sadly for HOG, 1Q 2018 has shown even worse numbers. Global unit sales were 7.2% down on the previous year and 12% down at home.  Japan and Australia were soft. Looking at the strategy it looks like throwing spaghetti at a wall and hoping it sticks. It looks like some consultant has rattled together some funky catchphrases.

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HOG’s problems are simple. It is not listening to customers. When grandson of the founder, Willie Davidson, took over the reins after the near bankruptcy under AMF stewardship in the 1980s, the company really consulted customers and worked out they wanted more reliability and capability. It delivered. Sadly HOG is hanging on by its fingernails on brand alone today. The Polaris-owned Indian brand is coming up with excellent product lines which have all of the cachet of HOG given it was its fiercest competitor in the 1930s.

HOG’s product line up is relatively stale in terms of real innovation. While the Milwaukee 8 engine is a very good start and the Fat Bob is a proper philosophy change, the rest of the line up needs major revamp. At the moment it seems the brand is stuck in an echo chamber.

In closing Harley’s are a cult. There aren’t many brands where customers are prepared tattoo it to their bodies. In all the bikes CM has owned, the Harley had 10x the number of people wanting to ride on the back vs the rest combined. Yet it goes to show that brand only goes so far. Product still matters.