Portfolio Holding Re-Evaluation:

Harley-Davidson (HOG)

October 27th

James Cullen
Portfolio Manager
Boston College Investment Club
 Portfolio Management Perspective
• We Still Own About 35
Stocks
– Too Diversified (i.e.
Closet Index Fund)
• Re-Evaluate Positions
• Balance Sheet
Strength is Crucial
• What Are You, Harley?
Via Malkiel’s “Random Walk”
 What is Harley-Davidson?
• Iconic Motorcycle Brand
– 100+ Years of Operations
• Manufactures Variety of Bikes
– Models Range from $9,900 to $19,000+
• But is H-D Really a Manufacturer?
– Growth of Finance Arm (HDFS)

• Club Owns 150 Shares = About $3,000

 The Balance Sheet
• Harley Uses HDFS to Finance Bike Buyers
– Aggressively Expanded Market Share from
38% in 2003 to >50% Now
– How? Zero Down, Teaser Rates, Subprime
Borrowers, and LTV of >100%
• Finance Receivables Are 56% of Assets
– Up from 35% in 2003
• $400mm in HDFS Debt Due at Year-End
– Refinance? At What Rate?
Asset Breakdown
 Harley-Davidson: The Good
• Unparalleled Brand Loyalty
– Limited Substitution
• Core Motorcycle Sales Highly Profitable
– Very High Average ROE (29% 10 yr. Avg.)
– But Leveraged Up to Increase ROE in ’05-’07
• Valuations Lowest in History

• Backward-Looking Valuation a Positive, But

Not Yet Reflective of Future Realities
 The Earnings Impact
• Loose HDFS Financing Allowed Harley to
Grow Sales to Marginal Buyers
– Dealer Network Overstocked
• 100%+ LTV Let Buyers Add High-Margin
Accessories
– 100%+ LTV Discontinued
• Goodbye, Securitization Income
• Rest-of-World Sales Slowing “More Than
Anticipated”
Let’s Take Action on Harley-Davidson (HOG)

• Motorcycle Manufacturer, or Auto Lender?

– Delinquencies +25%, Credit Losses +20%,
Year-over-Year
• “Pooring of America”
– And Rest of World Following, But Consensus
EPS Only Revised -10%
• Boom Time Expansion Does Not Go
Unpunished
But Not Without Considering Valuation

• Long-Term Profit Averages

– 29% ROE
– Only 1.83x Avg. Leverage (vs. 2.68x Now)
– 21.8% Operating Margins
• Long-Term Valuation Averages
– Selling for 6.8x 10-Yr. Avg. Net Income
– Book Value 6.6x 10-Yr. Avg. (vs. 1.85x Now)
– Price-to-Sales 2.9x 5 yr. Avg. (vs. 0.8x Now)