One day after Harley-Davidson (HOG +0.79%) wowed Wall Street with its Q1 earnings report, up-and-coming rival Polaris Industries (PII 0.57%) came out with earnings of its own. Unfortunately for Polaris, its report wasn't nearly as good -- and its share price reflected that.
Running down the quarter's highlights:
- Sales at Polaris grew nearly twice as fast as Harley's did, roaring ahead 19% and hitting a new quarterly record for the Minneapolis-based motorcycle maker.
- Operating profit margins expanded by 60 basis points, rising to 14.3%.
- Net profit margins contracted by 100 basis points, largely due to a heavier tax burden.
- Net profits grew only 11%, to $1.19 per share.
Coincidentally, sales growth at Polaris' flagship off-road vehicles business mimicked the earnings growth number at 11% in Q1. Perversely, the company's tiny snowmobiles division posted its slowest growth rate (5%) during the snowy winter quarter.
As for the rest of the growth -- the businesses that drove Polaris' overall revenues up 19% -- this came from Polaris' motorcycles segment, where the Indian motorcycle brand is gaining steam (and posting 52% revenue growth), and from an 248% increase small vehicles revenue (Polaris' catchall category for Aixam quadricycles and GEM and Goupil small electric vehicles). Parts, garments, and accessories were also up a very respectable 20%.
So much for the good news. Now here's the bad.
Free cash flow at the company -- which didn't hold a candle to reported net income to begin with -- declined pretty dramatically in comparison to Q1 2013 levels. Whereas a year ago Polaris generated cash profits of $7.7 million in Q1, this time around the free cash flow tally came to just $5 million -- a 34% drop. This was mainly due to the company spending $63.2 million dollars on inventory compared to $26.8 million a year ago.
As a result, quality of earnings showed no improvement whatsoever in the quarter. Against trailing GAAP earnings of $383 million, Polaris has generated only $238 million in free cash flow, or put another way, for every $1 of GAAP profit the company reports, it's producing only $0.62 in real cash profits.
Valuation
Analysts who follow Polaris project earnings to grow about 18% annually over the next five years. That's right in line, by the way, with the 17% to 19% that Polaris says it will grow earnings this year, working out to $6.30-$6.45 in per share profit. Yet priced today at 24 times GAAP earnings, Polaris shares already look pretty expensive relative to that growth rate.
When you consider, therefore, that free cash flow at the company isn't keeping pace with GAAP earnings, it's hard to make the case for buying Polaris shares at today's prices -- especially when, from the same perspective, Harley-Davidson shares are selling for so much cheaper.
