Harley Bear's Rebuttal
by Paul Larson ([email protected])

Bill says: "Harley is the only major American motorcycle manufacturer, and has held the largest share of the U.S. heavyweight motorcycle market since 1986."

Paul replies: Let me rephrase that sentence for you, Bill. Harley was the only major American motorcycle manufacturer. Starting next year the company will have to compete with two other manufacturers that can also tout the "Made in America" stamp. Undoubtedly, a major part of Harley's success over the past ten years was their essential monopoly in the domestic market, an advantage they are in the process of losing. Let's also remember what happens to prices when supply dramatically increases.

Bill says: "There are, literally, no numbers which do not look spectacular for this company."

Paul replies: Reread my initial argument again. I'll agree that the company's sales growth and margins are impressive, but there are still some rather ugly numbers in there, such as the capital-efficiency and especially the net cash flow numbers I cited.

Bill says: "There has been no dilution of shares over the last six years."

Paul replies: That is, no dilution if you ignore the increased debt the company is taking on. The company went from having zero debt in 1994 to having a current debt/equity ratio of 0.43. Some of this debt is due to the company's financing arm, but not all of it.

Bill says: "Harley is one of only nine companies that produced a total annual return to shareholders between 1986 and 1996 of over 42%."

Paul replies: Interesting choice of time frame, Bill. 1986 is an interesting date to choose since that was the year after the company nearly went bankrupt. 1996 is an interesting year to stop at since the company has essentially only matched the market in recent years. I guess it's your job to put the company in as positive a light as possible, just as it's my job to rebut your claims!

Bill says: "The new Twin Cam 88 engine is expected to supercharge sales, pumping this year's 148,000 units up to approximately 200,000 per annum by 2003."

Paul replies: Oh, wonderful. Not only are their competitors increasing supply, but so is Harley itself! It certainly appears that we are headed from scarcity to oversupply. Plus, I've got to wonder if the Harley brand won't be diluted if too many bikes are produced. Will they still be "Cool" when every baby boomer biker-wannabe has one?

Bill says: "On a discounted cash flow basis HDI currently has an intrinsic value of about $65 a share."

Paul replies: The only problem with discounting Harley's cash flows like that is the fact that such a huge amount of the assumed value is happening in the "out" years. I don't know about you, Bill, but I always get a little queasy when making blue-sky assumptions for earnings events six to ten years from now as well as assigning a large terminal value based on earnings going forward in 2009. Bill, are these assumptions you've made "conservative?" I don't think so.

Plus, why discount at 10% when the historical returns of the S&P 500 are closer to 12%? Are you assuming Harley stockholders will be happy with underperforming the S&P over the next ten years? I hope they will be because it certainly appears to this Fool that this is exactly what is going to happen.

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