Harley's New Rewire Plan Puts Focus on Profits

In an unexpected turn of events, the acting CEO of wide-moat Harley-Davidson HOG Jochen Zeitz upended the long-touted More Roads initiative, launching “The Rewire,” a new strategic plan leadership is set to develop in coming months. Our initial take on the limited details offered is favorable, prioritizing profitability, something we thought was lacking in the prior plan. With strategies to reach new riders being reassessed, we expect the focus on the U.S. market and monetizing the parts and accessories and general merchandise segments could help mitigate gross margin degradation we anticipated from smaller displacement bikes that were set to launch. However, even with goals pointing in the right direction, Harley must face COVID-19, where say-at-home orders have created a near-term headwind for demand and dealer operations. This is likely to lead to materially lower shipments in 2020, as evidenced by the 10% decline Harley experienced in the first quarter. For reference, industry retail sales increased 6.6% through mid-March and ended down 15.5% for the full quarter, displaying the magnitude of demand drop.

We could lower our $33 fair value estimate modestly but still see value in shares at current levels. We expect to hear more detail around Rewire in coming months, when we will be better able to determine its long-term impact on sales, profits, and earnings growth, and can ascertain the probability of the plan’s success. For now, we plan to maintain our post-COVID outlook (2022-29), which calls for 3% unit growth, 2% revenue growth, and low-double-digit motorcycle operating margin performance. The wild card that remains, in our opinion, stems from financial services, which fell 61%, and is likely to face pressure over the next few quarters. During the Great Financial Crisis, financial services income declined 60% in 2008 before turning negative in 2009. We don’t expect the magnitude of the swing to be as wide this turn given alterations to lending standards post GFC.

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