Looking for Harley Hazards

Harley-Davidson has been leaving some of the strongest brand names in the nation in its dust. However, this success has caused the company's price-to-sales and price-to-earnings ratios to soar to all-time highs. Increased competition and subsiding international sales are also causing some rattles in the engine.

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By Vince Hanks
August 4, 2000

The past decade has been a great ride for Harley-Davidson (NYSE:HDI). Not only have its shares blown past the market average at breakneck speed, it has also outdistanced some of America's premier brand names. American Express (NYSE: AXP), Coca-Cola (NYSE: KO), Disney (NYSE: DIS), Johnson & Johnson (NYSE: JNJ), General Electric (NYSE: GE) -- all industry leaders, all great investments, all totally left in the dust by Harley-Davidson the past 10 years. The two-wheeled wonder has seen its shares grow more than 2,500% over the last decade, more than 1,500 percentage points greater than any of the other companies listed. It's been an incredible voyage. But, just how much fuel is left in the tank?

When considering a potential investment or evaluating a current holding, we must not focus too much on all of the good things we see. It's very important to be on the lookout for signs of trouble ahead as well. In the case of Harley, are there any oil patches or nails in the road looking to upend this Hawg?

First, let's be realistic. As devoted and passionate as Harley-Davidson owners are, it's still very much a luxury item for most consumers. Like all luxury items, motorcycle sales are likely to be sensitive to economic downswings. That said, Harley did very well back in the early 1990s when the last recession hit, increasing sales by double digits in 1991 and 1992. It's difficult to guess if we'd see similar strength in a more-prolonged recession. The backlog of orders for Harleys suggests we may, but this concern is still something to consider.

Competition is always worth keeping an eye on, too. Until recently, Harley-Davidson was the only American model competing with a slew of imports. "American pride" is as much a part of the company's sheen as the chrome tailpipes. There are a few new kids on the block, though, including snowmobile maker Polaris Industries (NYSE: PII), Titan Motorcycle Co. (Nasdaq: TMOT), and the recently rejuvenated Excelsior-Henderson (OTC: BIGXQ).

So far, these three haven't so much as scratched the fender of Harley's sales. Titan and Excelsior-Henderson have struggled out of the gate with their new lines, and the Polaris Victory model is not meeting sales expectations thus far. It's difficult to imagine that any of these three will sway a Harley enthusiast. However, they may snip away at the periphery of Harley's market. It's more likely that they will only dilute the import cruiser market, though.

How about valuation concerns? It has not escaped my attention that Harley-Davidson is trading at an all-time high earnings multiple. In 1994, the price-to-earnings ratio (P/E) sat under 22. Now, it's cruising along at twice the rate -- 44. In that same time span, shares have grown from a price-to-sales multiple of 1.39 to nearly 5 today. With shares trading at an all-time premium, any wavering in business execution could cause a significant grinding of gears.

On the flipside of this concern, Harley-Davidson does have the resources available to meet the ever-growing heavyweight motorcycle market. Over the past three years, more than $650 million has been invested in new manufacturing facilities to improve and expand production. While the company could easily raise prices $1,000 across the board, flowing $200 million to the bottom line and fattening margins at the drop of a helmet, its dedication to a long-term relationship with customers dictates that emphasis be placed on improving manufacturing efficiencies and increasing production to maintain bottom-line growth. Production goals are on the rise, with a target of 202,000 units in 2000. This is a full three years ahead of original expectations of 200,000 units by 2003. The 2001 target was also raised to 223,000.

Another concern is international sales, which have been declining as a percentage of total revenue over the past three years. A particular focal point is the European market, where performance bikes are generally preferred over touring models. Harley is currently focusing on making its brand more relevant to riders in Europe, promoting models that offer more power and torque. Having only 7% market share in Europe presents both an opportunity and challenge.

I've done my best to spring some leaks of doubt in the oil pump of the V-Twin engine. How valid are these concerns? What areas of weakness did I overlook? Is Harley-Davidson strong enough that we should discount most of these concerns? You tell me on the Drip Companies discussion board.

Drip on, Fools!


P.S. Fools, please remember that starting next week (August 7) the Drip Port report will run three days a week -- Tuesday, Wednesday, and Thursday.

Drip Portfolio

8/4/2000 Closing Numbers
Ticker Company Day Chg % Chg Price
INTCINTEL CORP-2 1/2-3.84%$62.56
JNJJOHNSON & JOHNSON-7/16-0.45%$96.56
PEPPEPSICO INC-1/16-0.14%$45.06

  Day Week Month Year
To Date
Drip -.44% 2.04% .33% 28.99% 67.59% 18.63%
S&P 500 .71% 3.03% 2.24% -.43% 55.83% 15.81%
S&P 500(DA) .71% 3.03% 2.24% -.43% 58.46% 16.45%
S&P 500(DCA) n/a n/a n/a n/a 25.55% 7.82%
NASDAQ .73% 3.40% .54% -6.93% 141.30% 33.83%

Trade Date # Shares Ticker Cost/Share Price LT % Val Chg

Trade Date # Shares Ticker Cost Value LT $ Val Ch
  Cash: $60.08  
  Total: $6,330.76  

• S&P 500 (DA) = dividend adjusted. Dividends have been added to the total return of the index.

Drip Port launched with $500 on July 28, 1997, adds $100 to invest every month, and the goal is to own $150,000 in stock by August of the year 2017. Due to the slow nature of dollar-cost-averaging and our relatively significant starting costs, we do not expect to seriously challenge the S&P 500 for the first three to five years as we build an investment base. The long-term advantages of dollar-cost-averaging still overcome the short-term disadvantages, however. Final note: our investment in Campbell Soup is frozen due to fees instituted in its investment plan. Click here for a history of all Drip Port transactions.