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Monday, November 8, 2010

Harley-Davidson: Buyout rumors, China, India... the good news is already in the stock, and then some.

By Avi Salzman
11/8/10 (2:53 pm ET)

THERE'S NOTHING LIKE A Harley-Davidson to get your pulse racing. Investors, apparently, are no less susceptible to that reaction than motorcycle enthusiasts.

In the past year and a half, the iconic brand's shares have more than quadrupled and are up about 50% in just the past four months. (The stock is still, however, more than 50% below an all-time high reached in 2007.)

Harley's shares were down 4% Monday afternoon, to a recent $32.19, giving back some of the gains they had made last week after a presentation about the company's growth opportunities impressed analysts. Absent a new catalyst, we think the shares could slide more in the months ahead.

Harley-Davidson (ticker: HOG) has returned from a very dark road. But the shares appear to be pricing in a particularly strong rebound in discretionary spending in the United States. They are trading at 18 times forward earnings, versus a five-year median of 14 times.

The company's quarterly dividend, which used to be a key selling point for the stock, has remained at 10 cents a share for more than a year, down from 33 cents in 2008. The stock currently yields 1.2%.

Harley-Davidson has been undergoing a massive restructuring for the past few years, after falling sales and weak credit conditions cut into the company's bottom line. The company cut plants and laid off thousands of workers. In 2009, it rang up motorcycle sales of $4.3 billion, down from $5.6 billion the year before. And sales have continued to fall this year. The company recorded a 7.7% year-over-year motorcycle sales drop in the third quarter, which it reported on Oct. 19, although strength in its loan-making arm helped it post a profit.

When consumers are feeling threatened and price-conscious, buying a Harley-Davidson is probably not the first thing on their minds. And it's gotten even harder to afford one of the company's bikes – Harley's least expensive bike retailed for about $8,000 in 2009, up more than $1,000 from the lowest price in 2007, according to a company presentation.

There is little evidence that consumers are beginning to spend like they did before the recession.

"The economy's improving but at a pretty tepid pace and there's been no significant improvement in the outlook for discretionary spending," says Morningstar analyst Philip Gorham in an interview.

With American consumers on the ropes, Harley is pumping resources into emerging markets, attempting to set up dealer networks in China and India. The company also announced last week at its analyst presentation that it planned to cut costs by assembling some bikes in India to sell in that country. But taste in motorcycles doesn't always transcend borders – Europeans, for instance, are generally more partial to performance bikes than touring bikes, Gorham notes.

Although their initial reaction has been positive, Indian and Chinese consumers may take a pass on the big burly American style. The countries' import policies could also stymie Harley's efforts.

"There's always a risk that a brand doesn't transcend geographic markets," Gorham says. "At this point it is not clear that the brand will be as strong in India as in North America."

Harley shares may also be coasting on speculation that the firm will be taken over, perhaps by a private equity company. Those rumors have swirled for well over a year. But with shares trading near 52-week highs and at valuations well above the overall market, the good news about Harley-Davidson is already in the stock, and then some.

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