I knew I wasn't omniscient. And now we know Goldman Sachs makes mistakes, too. Last week, mere hours before earnings were due out at Harley-Davidson
On Wednesday, Harley simultaneously confirmed Goldman's "worst" fears about the company, demonstrated that these fears were irrelevant, and refuted my own optimism that the company had seen the light about its "inventory issues."
As Goldman predicted, global motorcycle sales ticked up 3.5% at Harley. Pricing power also seems to have strengthened, as the company transformed that modest rise in sales into a monster gain in first-quarter profits ($0.51 per share.)
Regardless, investors drove Harley off a cliff, sending the shares tumbling on concerns that while motorcycle sales were strengthening, Harley wasn't participating in the rally so much as one might have hoped. Industrywide, unit sales of motorcycles climbed 3.1% in the U.S., yet Harley lost market share to rivals like Honda
If that was your reason for selling Harley shares, I think it's entirely valid. As for me, I have a different reason, and it's the same one I've been harping on for years: inventories. Sometime after I began criticizing the company for letting inventories get ahead of sales growth, Harley began promising to fix the problem. Some time after that, it even got serious about fixing it. In 2009 and 2010, specifically, the company began making real improvements in inventory trends, and it was when the company stopped "flooding the motor," that Harley's revival really picked up speed.
No longer. Instead, that annoying knock-and-pinging sound of loose cash management has returned to plague us. Harley's production of free cash flow, which had been on a tear, lost a third of its momentum in Q1, dropping to about $616 million (on a trailing-12-months basis.) The reason: As sales ticked up 3.5%, accounts receivable grew 3.9%, and inventories a whopping 15.5%.
Harley's drop last week was painful, no doubt. But if it doesn't tune up this inventory issue tout-suite, it could get a whole lot worse.