Polaris Inc. — Q1 2017 Form 10-Q
Reporting period: Three months ended March 31, 2017; unaudited. Polaris designs and manufactures powersports vehicles, parts and accessories, and aftermarket products. Comparisons are with Q1 2016 unless noted.
Financial performance
| Metric | Q1 2017 | Q1 2016 |
|---|---|---|
| Sales | $1,153.8 million | $983.0 million |
| Gross profit / margin | $242.5 million / 21.0% | $247.6 million / 25.2% |
| Operating income | $21.1 million | $77.1 million |
| Net income (loss) | $(2.9) million | $46.9 million |
| Diluted EPS | $(0.05) | $0.71 |
| Operating cash flow | $50.9 million | $139.0 million |
| Capital expenditures | $38.4 million | $54.8 million |
Sales rose 17%, primarily from the November 2016 acquisition of Transamerican Auto Parts (TAP), which contributed $202.0 million. Organic volume and product mix/price each reduced sales by 2%; currency had no reported net effect. Gross margin fell 417 basis points, reflecting Victory wind-down costs, TAP inventory step-up accounting, and higher promotions. Operating expenses increased 27% to $241.8 million, including TAP-related costs, $6.0 million of Victory wind-down costs, and $3.3 million of TAP integration expenses.
Segments and business trends
- ORV/Snowmobiles sales increased 2% to $724.1 million; gross profit increased to $213.0 million. North American ORV retail sales were down mid-single digits, while snowmobile retail sales for the full season were down low-double digits, partly due to unfavorable snow conditions.
- Motorcycles sales declined 35% to $120.3 million, with a gross loss of $19.9 million. Victory shipments fell during the wind-down; Slingshot shipments were affected by quality holds. Indian retail sales increased low-double digits and gained share.
- Global Adjacent Markets sales increased 24% to $91.6 million, supported by Taylor-Dunn, Aixam, and Government and Defense sales.
- Aftermarket sales were $217.8 million versus $15.5 million, primarily due to TAP; TAP gross margin was affected by a $12.9 million purchase-accounting inventory adjustment.
Cash, debt and liquidity
- Cash was $137.5 million at March 31, 2017, versus $127.3 million at year-end 2016. Operating cash flow declined $88.1 million year over year, primarily due to lower earnings and increased working capital; inventory purchases were a significant use of cash.
- Total debt, capital leases and notes payable were $1,177.7 million, including $219.1 million drawn on the revolving facility and $730.0 million on the term loan. Debt-to-total-capital was 58%, versus 36% at March 31, 2016. Interest expense rose to $7.9 million from $2.9 million.
- Management reported $380.5 million of availability under the revolving facility and said cash, operating cash flows, and borrowing capacity should fund foreseeable needs. The company was in compliance with debt covenants.
- Current assets were $1,250.5 million and current liabilities $986.4 million. Inventory was $800.6 million, up from $746.5 million at December 31, 2016.
- Financing cash outflows included $36.4 million in dividends and $21.8 million in share repurchases. The quarterly dividend was $0.58 per share; the board declared another $0.58 dividend payable in June 2017.
Outlook, unusual items and risks
- Polaris estimated 2017 pre-tax Victory wind-down impacts of $70 million to $90 million, including promotional activity, with substantially all costs expected to be recognized by year-end. Q1 included $45.8 million of charges within the exit-cost accounting scope and $11.8 million of promotional impacts, for a stated total impact of $57.6 million.
- Management expected commodity prices to have a slightly negative effect on gross margin for the remainder of 2017. Its currency-impact estimates varied by currency; no broader earnings or sales guidance was provided in the supplied filing text.
- Q1’s effective tax rate was reported as negative 774.2%, reflecting the small pre-tax loss and discrete tax items, including a non-deductible investment impairment and favorable share-based-payment tax benefits.
- At March 31, the company accrued $44.0 million for probable product-liability claims. It also disclosed a securities class action alleging misleading statements about business, forecasts, ORV products, and recalls; Polaris said it intended to defend the case. Management did not expect pending legal proceedings to materially affect financial position or results.
- Polaris’s 2017 potential obligation to repurchase repossessed products under its dealer-financing arrangement was approximately $184.0 million, subject to the agreement’s annual cap; the company reported no material losses under the arrangement.
- Other risks highlighted include product recalls and warranty costs, consumer demand and weather, acquisition integration, commodities and foreign exchange, supply and manufacturing disruption, competition, and debt-covenant compliance.
Most important facts to verify
- How much of sales growth and future profitability is attributable to TAP, and whether TAP integration and purchase-accounting effects persist.
- The actual remaining Victory wind-down and promotional costs versus management’s $70–$90 million estimate, and the timing of cash payments.
- Whether weaker North American retail demand, dealer inventories, and snowmobile conditions improve or continue to pressure shipments and margins.
- Inventory levels, operating cash conversion, debt balances, interest costs, and continued covenant compliance.
- Developments in the securities litigation, product-liability claims, and recall-related warranty exposure.