Description

Summary: Harley is an iconic brand with a 100+ history and 70+% market share in core heavyweight bike market. Stock trades for 8x EPS/FCF because it’s perceived as an ice cube with secular demographic headwinds. Shipments peaked at 350k bikes in 2006, current volume of ~200k is below the GFR trough. Highly accomplished CEO is succeeding in reinvigorating growth and profitability – has a highly incentivized comp structure, plus personally purchased $5m of stock. Despite a challenging decade-plus, Harley has continued to deliver consistent FCF and high returns (MotorCo ROIC >30%). Harley is using their net cash balance sheet and strong FCF to improve capital allocation (S/O are down 5%, have acquired 50+% of S/O since inception). See $10 of EPS power – at 14-18x multiple = $140-180 stock versus $40 today

New CEO – Jochen Zeitz: Named CEO of Puma at the age of 30 when the Company was on the brink of bankruptcy. Led a successful turnaround by reinvigorating the brand and product offering = 4000% stock return and sale to Kering. Was named CEO of Harley 2+ years ago (purchased $5m of stock). Zeitz swiftly restructured cost structure and product portfolio (“Rewire”) and has delivered early success on revitalizing brand/desirability (“Hardwire”). He replaced ~all direct reports, issued stock to all employees and early traction of employee “buy in” and culture improvement is evident. Led by Activist involvement (H Partners), Zeitz and mgmt have a highly incentivized compensation package. Stock needs to reach $70 by YE25 before any incentives are reached. At $70-130, $52-390m of stock will be awarded (excluding other RSUs/options). Incentive package is split 50/50 between CEO and management

Lack of Growth:  Prior mgmt strategy “More Roads” was a disaster. Products did not resonate with targeted new customers and they neglected core customers. Incentives were centered on volume growth (at the expense of profitability), e.g. P&L driven by shipments. As a result, the market became saturated with excess inventory. Historical 2:1 or 1:1 used/new relationship ballooned to >4:1 (left). New bikes sold well below MSRP - Excessive, competing used inventory. Total (new + used) bike sales have grown in recent years, but growth was via used bikes. Used/new relationship still challenged, but the problem is the inverse (new inventory down 70+%) = future opportunity. HOG stock correlates with retail sales – should inflect positive in Q3 with higher inventory and new models

Improving Profitability: In ’21, EBIT margins of 9% improved versus 6.3% in 2019, despite 11% fewer shipments. 2022 EBIT margins of 11-12% will grow to 15% by 2025. Current EBIT/bike of $3.5-4k is approaching the heydays of pre-GFR Harley. HOG’s dealer network (exclusive sellers) is a competitive advantage and new mgmt has focused on improving profitability/returns. Dealer $ and margin profitability in ’21 was a 25+ year high, despite inventories down 70+%, i.e. unit profitability was well above prior peak . Dealer turns are 12x versus

Refocus on Core Rider / New Models: Zeitz refocused the business on core geographies and bikes (Touring, Large Cruisers and Trikes). Exited 39 of 100 countries and $ of models were cut by 40% (both were unprofitable). Early days on new products (3+ year product cycle), but Adventure Touring – on/off road bike, was introduced in 2021. #1 selling Touring bike in the US, second fastest growing category. Nightster – recently introduced “sport” bike (entry level). Raises ASP floor to $13.5k – average buyer customizes with $4-6k of P&A (high margin). “The new sporters are genius; Harley finally focusing on performance, just what the crowd wants.”

Demographics: Likely responsible for some of the headwinds, but as the chart below shows, most of the headwinds in the last decade has been cyclical and is now turning. The link to the below article also shows that average age of riders may actually be declining

https://www.keloland.com/keloland-com-original/are-sturgis-rally-goers-getting-younger/

Strong FCF / Balance Sheet: Despite a challenging decade, Harley has continued to deliver impressive/consistent FCF. MotorCo FCF (including Finco div) over the L1OY has averaged $0.6b or >10% of current mkt cap. FCF generation is remarkably consistent - Excluding 2020/COVID FCF of $0.2b, prior L10Y trough FCF was >$0.4b. FCF conversion of Net Income is similarly consistent (96% of Adj NI, 103% of GAAP NI). Even with higher capex, FCF generation should accelerate in the coming years. Net income should continue to grow and 2021 cash conversion cycle (114 days) was the best performance in 15 years. HDMC is significantly overcapitalized, despite low capital needs ($1b of cash and net cash B/S).

Capital Allocation Potential: In Q1, began repurchases – have repo’d almost 5% in 1H. Over the next 4 years, I believe they can repurchase 40% of S/O and the risk profile remains very low (net cash B/S). Despite a $100+ stock price in 2025, the P/E multiple will still barely be above 10x.

Catalyst

Upside Q3 EPS report, greater recognition of growth revitailziation