Harley-Davidson, Inc. 2018 Form 10-K Summary
Business context and reporting period
Harley-Davidson, Inc. reported fiscal-year results for the year ended December 31, 2018. The Company operates through two reportable segments: Motorcycles and Related Products, which designs and sells motorcycles, parts, accessories, merchandise and licensing products, and Financial Services, which provides dealer and retail financing primarily in the United States and Canada.
The filing is an annual Form 10-K rather than a quarterly filing; it also provides unaudited fourth-quarter data. The Company filed the report on February 28, 2019.
Key financial metrics
| Metric | 2018 | 2017 | Change |
|---|---|---|---|
| Total revenue | $5.717 billion | $5.647 billion | 1.2% increase |
| Operating income | $713.5 million | $882.1 million | 19.1% decrease |
| Operating margin | 12.5% | 15.6% | Down 3.1 percentage points |
| Net income | $531.5 million | $521.8 million | 1.9% increase |
| Diluted EPS | $3.19 | $3.02 | 5.6% increase |
| Effective tax rate | 22.6% | 39.6% | Down 17.0 percentage points |
| Operating cash flow | $1.206 billion | $1.005 billion | 20.0% increase |
| Capital expenditures | $213.5 million | $206.3 million | 3.5% increase |
| Total debt | $7.599 billion | $6.988 billion | 8.7% increase |
| Cash and cash equivalents | $1.204 billion | $687.5 million | Increase of $516.2 million |
| Total shareholders’ equity | $1.774 billion | $1.844 billion | 3.8% decrease |
Motorcycles segment revenue increased 1.1% to $4.969 billion, but operating income fell 30.4% to $422.4 million. The segment operating margin was approximately 8.5%, compared with 12.3% in 2017. Financial Services revenue increased 2.2% to $748.2 million, while operating income rose 5.8% to $291.2 million, producing an operating margin of approximately 38.9%.
Worldwide retail sales of new Harley-Davidson motorcycles declined 6.1% to 228,051 units. U.S. retail sales declined 10.2% to 132,868 units, while international retail sales increased 0.4% to 95,183 units. Wholesale shipments declined 5.3% to 228,665 motorcycles.
HDFS finance receivables, net, totaled $7.222 billion at year-end, up from $6.965 billion. Retail loan losses were 1.76% in 2018 versus 1.90% in 2017, and the 30-day retail delinquency rate declined to 4.12% from 4.21%.
Liquidity included $1.214 billion of cash and marketable securities and $1.040 billion of availability under credit and conduit facilities, for total reported liquidity of approximately $2.253 billion. The Company stated that it targets at least twelve months of projected liquidity needs.
Fourth-quarter information
| Metric | Fourth quarter 2018 | Fourth quarter 2017 |
|---|---|---|
| Motorcycles revenue | $955.6 million | $1.047 billion |
| Motorcycles operating income | $(59.5) million | $35.5 million |
| Financial Services revenue | $190.2 million | $181.9 million |
| Financial Services operating income | $63.3 million | $63.7 million |
| Net income | $0.5 million | $8.3 million |
| Diluted EPS | $0.00 | $0.05 |
Fourth-quarter results were adversely affected by the Street motorcycle brake recall, restructuring costs, tariffs and unfavorable product mix. The quarterly data is unaudited.
Material changes versus the prior comparable period
- Consolidated operating income declined $168.6 million, primarily because Motorcycles segment income fell $184.4 million.
- Motorcycles profitability was pressured by lower shipment volume, incremental tariffs, higher steel and aluminum costs, voluntary recall costs and $93.4 million of restructuring expense.
- Incremental tariff costs recorded in 2018 were $23.7 million. European Union tariffs on U.S.-exported motorcycles increased to 31%, and China tariffs increased to 55%.
- Financial Services operating income increased $15.9 million, supported by higher revenue and a $25.6 million reduction in the provision for credit losses, partly offset by higher funding costs and operating expenses.
- Net income and EPS increased despite lower operating income, primarily because the effective tax rate fell following the 2017 Tax Cuts and Jobs Act and because diluted weighted-average shares declined from 172.9 million to 166.5 million.
- Operating cash flow increased $200.9 million, while financing cash outflows were substantially lower than in 2017. The Company repurchased approximately 9.4 million shares for $390.6 million and paid $245.8 million in dividends.
- Total debt increased $611.3 million. Approximately $2.718 billion of principal payments were scheduled for 2019.
- The Company adopted the new revenue recognition standard in 2018, resulting in a $6.0 million net increase to opening retained earnings.
Guidance, outlook, commentary and unusual items
- For 2019, management expected motorcycle shipments of 217,000 to 222,000 units, approximately 3% to 5% below 2018.
- Management expected 2019 Motorcycles segment operating margin of 8.0% to 9.0%, with lower gross margin driven by tariffs, lower volume and unfavorable mix, partly offset by cost reductions.
- Expected 2019 incremental tariff costs were $100 million to $120 million. The Company was pursuing regulatory approval to serve certain European Union markets from Thailand, but approval was not guaranteed.
- Management expected $25 million to $30 million of Manufacturing Optimization Plan savings in 2019 and $45 million to $50 million in 2020. It expected Motorcycles segment operating income in 2020 to improve by approximately $170 million to $200 million versus 2019, assuming successful execution of the plan and tariff mitigation.
- 2019 capital expenditures were expected to be $225 million to $245 million, including approximately $20 million for the Manufacturing Optimization Plan, funded through operating cash flow.
- Management expected 2019 Financial Services operating income to decline because of higher debt costs and depreciation from a new loan management system.
- The Manufacturing Optimization Plan consolidates Kansas City assembly into York and closes wheel operations in Australia. The plan was expected to eliminate approximately 800 Kansas City jobs and 90 Australian jobs while adding approximately 450 jobs in York. Total plan costs through 2019 were estimated at $152 million to $162 million.
- Key strategic initiatives include the More Roads to Harley-Davidson plan, new products including the LiveWire electric motorcycle, broader retail access and dealer-strengthening initiatives.
- Material risks include persistent weakness in the U.S. motorcycle market, shifting consumer preferences toward smaller motorcycles, tariffs and trade policy, execution of manufacturing restructuring, product recalls, used-motorcycle pricing, competition, foreign exchange, HDFS credit losses and access to capital markets.
- The Company had accrued $110.0 million over the prior three years for nine voluntary motorcycle recalls. The year-end warranty and recall liability was $131.7 million, including $73.3 million for recalls.
- The EPA settlement remained subject to court approval. The Company had accrued for the matter but could not estimate potential additional remedies if the settlement were not approved. Additional York environmental remediation costs also could not be reasonably estimated.
- In February 2019, HDFS issued $550.0 million of medium-term notes maturing in February 2022 at an annual interest rate of 4.05%.
Most important facts for an investor to verify
- Whether tariff mitigation through Thailand and other alternatives is achieved within the expected timing and cost, particularly for European Union shipments.
- Whether 2019 motorcycle shipments, retail demand and the 8.0% to 9.0% Motorcycles operating-margin target are achieved.
- Progress and final costs of the Kansas City, York and Australia manufacturing actions, including labor negotiations and projected savings.
- HDFS credit performance, including retail delinquencies, charge-offs, sub-prime exposure and the expected impact of the forthcoming expected-credit-loss accounting standard.
- Debt maturities, refinancing requirements, interest-rate exposure and continued access to commercial paper, conduit facilities and capital markets.
- Potential additional recall, warranty, product-liability, EPA and York environmental costs beyond recorded accruals.
- Execution and market acceptance of new products, including electric and smaller-displacement motorcycles, and their contribution to international growth and ridership.
- The sustainability of earnings growth after separating the benefit of tax reform and share repurchases from underlying operating performance.