Harley-Davidson Inc (HOG) 2005 Q3 法說會逐字稿

Good morning, ladies and gentlemen, and welcome to your Harley-Davidson third quarter 2005 earnings conference call.

At this time, all participants have been placed on a listen-only mode, and the floor will be opened for questions following today's presentation.

It is now my pleasure to turn the floor over to your host, Jim Ziemer, CEO of Harley-Davidson.

Sir, the floor is yours.

Thank you.

Good morning and welcome to Harley-Davidson's third quarter conference call.

I'd like to remind you that this call is being recorded, and the replay will be available after 11:00 a.m.

Central time this morning.

Please dial 973-341-3080, and enter the pin number 6501675 followed by the pound key.

The recording will be available through October 19th.

It is also being webcast live on our website at harley-davidson.com.

The webcast will be available for replay throughout the next several weeks before being archived on the Investor Relations portion of the Harley-Davidson website.

In compliance with securities laws and regulations I will make the following statement: This call will include forward-looking statements that are subject to risks, could cause actual results to be materially different.

Those risks include, among others, matters we have noted in our latest earnings release filings with the SEC.

Harley-Davidson disclaims any obligation to update information in this call.

So let's get going.

I'm sure that many of you have had the chance to read our press release from earlier this morning, so you are now aware that Harley-Davidson had a great quarter.

We set all-time quarterly records in terms of revenue, net income, and earnings per share.

Our motorcycle shipments were consistent with our shipment guidance, and our worldwide retail sales increased over 12%.

Let me cover some of the highlights.

Our revenue for the quarter was 1.43 billion, a 10% increase over the same quarter in 2004.

Our net income was a record 265 million, up 15.7%.

This strong financial performance, combined with our 20.6 million share repurchase in the first six months of this year, drove earnings per share, $0.96 for the quarter.

This is a 24.7% increase over last year's third quarter.

Third quarter retail sales were up 12.1% worldwide, driven by double-digit growth in many of our markets, including United States, Europe, and Japan.

In the U.S., we were up 12.1% for the quarter.

In Europe, we were up 11.5% for the quarter.

And in Japan, we were up 13.1% for the quarter.

In summary, another record-breaking quarter.

Turning to our Motorcycle and Related Product segment performance, wholesale shipments in the quarter grew 8.7% to 87,585 units, while revenue from motorcycles was up 11.4% at 1.11 billion.

Stronger touring mix contributed to revenue per unit increase, 2.5%, from $12,368 to $12,675 in a quarter-over-quarter comparison.

Touring mix for the quarter was 33.6% this year compared to 27.1% last year.

Touring motorcycle mix is typically around 30%.

We anticipate that touring mix will decrease slightly in the fourth quarter -- in the fourth quarter from this third quarter level.

Turning to P&A and general merchandise.

Both P&A and general merchandise delivered solid results in the quarter.

General merchandise, with quarterly sales of 64.5 million, was up 1.5% over last year's third quarter.

For the first nine months, general merchandise is up 11% in a year-over-year comparison.

Parts and accessories revenue was 231.2 million, up 3.0% compared to the same quarter last year.

For the first nine months, parts and accessories revenue is up 3.5%, compared to a year-over-year motorcycle shipment growth of 2%.

Over time, we expect ongoing parts and accessories revenue to be slightly higher than our motorcycle shipment growth and general merchandise revenue to be lower than our motorcycle shipment growth.

On margins: You notice that margins are 39.2%, up 120 basis points in a quarter over quarter comparison, driven primarily by favorable mix.

In spite of a significant model year changeover that occurred during the manufacturing launch of the 2006 motorcycles, we were able to minimize model year start-up costs.

As we've expected, and stated at the last quarter conference call, we did continue to see raw material prices impact gross margins.

In the third quarter, we experienced material surcharges of just over $6 million.

The improvement in our gross margin, combined with a modest increase in operating expenses, when compared to revenue, resulted in a third quarter operating margin of 25.6%.

This is a 2-point increase over the same period in 2004.

Turning to our Financial Services segment: Harley-Davidson Financial Services delivered third quarter operating income of 47.6 million, down 5% over last year's third quarter.

The retail market share for HDFS in the United States for new motorcycles grew to approximately 45% in the first nine months of 2005 compared to 40% for the same period the previous year.

Our $650 million third quarter securitization resulted in income of 9.2 million, which is 4.6 million less than the third quarter 2004 securitization.

The gain as a percentage of loans sold is 1.4% and falls within our previously stated guidance of 1.3 to 2.0%.

In this rising interest rate environment, pressure for competitors doesn't allow us to raise retail interest rates as fast as their borrowing rates are increasing, thus causing margins to contract.

As a result, we see securitization gains on our fourth quarter securitization to be between 1.0 and 1.4% of loans sold.

Annualized credit losses for HDFS on a managed portfolio basis totaled .9% -- .97%, excuse me, for the first nine months of 2005, an increase of 28 basis points from the same period in 2004.

This increase in managed losses is attributable to a higher retail motorcycle loan losses, which totaled 1.16% for the first nine months of 2005, compared to .83% for the first nine months of 2004.

Now, given that the majority of our managed loans are retail motorcycle loans, we will report this credit loss percentage of retail loans in future conference calls.

These retail loan losses are primarily a result of lower recovery rates on repossessed motorcycles and a somewhat higher incidence of loss.

When we repossess a motorcycle, we sell it to the dealers at auction.

These recovery rates have declined over time, consistent with the decrease we have seen in used bike prices.

This is not surprising, given that new motorcycle selling prices have come down from the large premiums and are more in line with our motorcycle MSRPs.

2005 HDFS operating income is expected to be approximately equal to 2004 operating income.

For the longer term, the Company expects that HDFS operating income growth rate to be slightly higher than the Company's motorcycle unit growth rate.

Let's turn to the motorcycle retail performance in the quarter.

To clarify, motorcycles in the heavyweight segment of the market have an engine displacement greater than 650 cubic centimeters.

Our worldwide dealer network retailed over 82,000 Harley-Davidson motorcycles in the third quarter of 2005.

Our dealers experienced year-over-year gains in all of our major markets.

Our retail growth has accelerated during the year and for the first nine months of 2005 we were up almost 7% on the year to date basis.

The 12.1% quarterly increase in United States sales brings our year to date U.S. performance to 5.0%.

Japan and Europe year to date have grown 11.4% and 19.3% respectively.

Specific data tables are attached to this morning's press release.

As we look to the future, we continue to see our wholesale shipment targets being supported by strong retail growth.

Retail growth will be driven by our exciting current and future products, great services, and a world-class dealer network.

In fact, for you holders of our stock who haven't been in a dealership lately, take time to stop in, throw your leg over a motorcycle.

There are eight new models this year, including two Buell motorcycles, not to mention the enhancements to our entire line of motorcycles.

At the very least, a personal visit to one of our over 14,000 worldwide motorcycle dealerships will certainly give you the insight into the Harley-Davidson experience.

Talking about the 2006 model year, third quarter is always exciting, as it offers us our first glimpse of how our new models are being received by customers and dealers.

While strong word of mouth from dealers and customers is one indicator of the model year's success, we've had impressive motorcycle media coverage as well. 2006 Dyna Street Bob, which you have seen in our new -- excuse me, which you may have seen in our new TV ad during a Monday night football game, was on the cover of American Iron magazine.

The FLHX Street Glide graced the cover of the Hot Bike Magazine, and the new Buell Ulysses grabbed the front cover of Cycle World and was compared favorably to the adventure touring motorcycles available from our competitors.

All told, our 2006 models were featured in virtually every motorcycle publication and received extensive coverage.

We believe that this 2006 model year lineup and the resulting excitement it created in the marketplace will continue to drive retail sales.

I want to skip back for a second on retail data.

I talked about going to the dealers and visiting our dealers.

It's 1400 dealerships, not the 14,000 dealerships I had mentioned.

Talking about new motorcycle prices, I know there's been much discussion regarding the prices of our motorcycles.

In our research we have found that many potential riders refuse to pay over MSRP for a motorcycle.

In fact, over 80% of the people interested in owning a Harley-Davidson said that having to pay over MSRP for one of our motorcycles is a reason that they would not buy one.

We regularly evaluate comprehensive information from HDFS which allows us to track Harley-Davidson motorcycle prices over time.

This information tells us premium prices -- that's above MSRP -- that our dealerships charge, have come down over time.

Our objective has been to have our dealers sell, on an average, at or slightly above MSRP, and that is what we're seeing.

That is just the start.

It's also up to us to get the word out.

Our surveys also show us that less than 40% of the general population believes that new Harley-Davidsons are available at MSRP.

Used motorcycle prices: Let me set the record straight about used Harley-Davidson motorcycle prices.

It makes sense that as premiums on new Harley-Davidson motorcycles prices have come down over time, so have the prices on used Harley-Davidsons.

Over the past three years, premiums our dealers charge over MSRP on new motorcycles have come down an average of 2 to 3% each year.

Over the same period of time, we've observed used motorcycle prices coming down an average of roughly 3% per year.

So as we look back over the past few years, the average annual change between new and used motorcycle prices has been less than 1%.

Let me talk about guidance.

First of all, I want to say that, all in all, Harley-Davidson's current performance is truly outstanding.

Shipment target for this year remains at 329,000 Harley-Davidson motorcycles, supporting earnings per share growth of 10 to 13% this year.

We believe we are tracking towards another record year for revenue and earnings, and we are pleased with the positive response to our exciting line of 2006 motorcycles, and we have great new products and customer experiences planned for next year.

However, as we look ahead, we are watching the economy carefully.

Given the uncertainty related to consumer confidence, increasing fuel prices, and rising interest rates, we are setting a shipment target range of 348,000 to 352,000 Harley-Davidson motorcycles for 2006.

Consistent with this more conservative outlook, we have also broadened our long-term guidance on wholesale unit growth to 5 to 9% annually.

This will support an annual earnings per share growth target in the range of 11 to 17%.

So, to wrap up, we had a very successful third quarter.

In fact, it was an all-time record quarter for units shipped, for revenue, earnings, and retail sales of Harley-Davidson motorcycles.

We are on track to deliver our 20th consecutive record year.

We are also providing guidance on our future performance that reflects confidence we have a strong business and will continue to grow.

Our confidence for the future is fueled by our strength in the following areas: World-class brand that is admired and respected around the world; passionate and hard working employees; a proven management team; strategically developed product development plan; the best motorcycle dealer network in the world; strong balance sheet with significant cash flow; and a focused long-term commitment to stimulate and fulfill retail demand.

And with that I'm going to open it up for questions.

Thank you.

The floor is now open for questions. [OPERATOR INSTRUCTIONS]

Your first question is coming from David Cumberland of Robert W. Baird.

Please go ahead.

Good morning, Jim.

Good morning.

On dealer inventory, specifically on 2005 models, is the number of carryover bikes where you want it to be, and do you see the need for promotions from here to get sell-through on the rest?

As we look at carryover product, we are at about a very comparable level at the same time we were at this time last year.

It makes us very comfortable.

Now, there may be some promotions from dealer to dealer or product to product.

That happens all the time on any product.

But we are comfortable with our current position of carryover product.

Thanks.

And also related to inventory, after Q1 of this year, Harley lowered its production plan for Q2, which is the last quarter of model year '05.

Looking ahead, does Harley's internal plan for retail sales and shipments assume dealer inventory higher on a year-over-year basis, either at the end of Q1 '06, or on an ongoing basis?

And if so, can you talk about some of the factors that would justify higher dealer inventory going forward, including possibly that you're selling more models now than in prior years?

It's a very complex question when we talk about "higher," because it's always relative to a time period.

We're getting to a spot, again, as I mentioned on the conference call, that new motorcycles are selling at close to MSRP, maybe slightly above, depending on the model, and so we're getting into a good balance.

At the same time, we weren't there before, so inventories are in a good spot where they are.

Seasonally, they will always go up.

Seasonal demand is not the same in the wintertime, and especially in the northern states, as it is during the summer period of time.

Dealer inventories will go up.

So you can expect dealer inventories relative to the end of this press release to go up at the end of December and et cetera.

Saying compared to last year, again, last year we were still seeing premiums higher than we're seeing right now, so dealer inventories will be slightly higher, and, like you said, we have more models.

So on a relative basis, it'll be marginally up.

Not a lot, but there is a good reason to have them higher than they were at this time last year.

So to make sure I understand, I think the seasonality to inventory is understood, and as we look at inventory, or try to gauge it on a year-over-year basis, some year-over-year increase is part of Harley's plan; is that correct?

To answer your first question, yes, we understand dealer inventories very well.

There is great seasonality to it, and we've been monitoring these for long period of time.

On your second point, yes.

You captured my answer to the initial question correctly, that besides seasonality there will be some relative increase, but it will be modest.

Thank you very much.

I need to correct something I had said in my preamble.

I talked about general merchandise revenue being up 1.5%.

I've been corrected.

It was up 5.1%.

It's correct in the press release.

I just read it wrong.

Next question.

Thank you.

Your next question is coming from Tim Conder of A.G. Edwards.

Please go ahead.

Thank you.

Jim, a couple of questions here.

In your long-term EPS growth outlook of 11 to 17%, is that organic, or does that also incorporate some share repurchase?

That's question number one.

Number two, could you give us an update where you stand on your European dealer network?

You've talked in the past about both upgrading and expanding that, which you've been doing, I think, for the last year or two.

Where do you stand and how close are you to completing that process in Europe?

On EPS on the guidance of 11 to 17%, that does include some assumption or possibility for share repurchase.

We don't do a forecast of share repurchase, but that could cover the possibility of some share repurchase.

On your second question, European dealer network, as you pointed out we've been working on this for a period of time.

We've been particularly very successful in the German market as we've reduced the absolute number of dealers about 25% over the last 18 months and certainly have upgraded the dealer network.

We're doing the same process, rationalization process, throughout Europe.

That will take a long period of time.

I think that we have a ways to go.

I don't have a date for you but we have a ways to go.

Germany, by far, is the largest motorcycle market in Europe, but at the same time, we are working in some of the other markets, but that will evolve over time.

How many dealers do you have in Europe right now, and do you sort of have a target goal of number of dealers, ultimately?

Well, number one, I don't know the exact number.

It's probably around 370 dealers in Europe.

Mark Van Genderen can certainly get an accurate number for you.

But I think that's fairly close.

And as an absolute, as Europe continues to grow, and obviously it's grown quite favorably or quite well this year so far, we'll look to see the number of dealers that it takes to support that.

First, we're going to make sure that we've got the right dealers and they are profitable and growing.

And if their market continues to be the success we've seen, we may have to add more than -- obviously, we're going to add some more as we trade some dealers in and out, but that's not -- the big emphasis of growing that market is getting better dealers into that market.

So the absolute number, we don't have a target.

Depends on the growth of the business.

Okay.

And two final housekeeping questions.

On HDFS, do you have a delinquency number?

And then on Buell, what type of unit growth are you expecting in -- calendar year '05?

And then, do you have an '06 unit growth for Buell?

On HDFS delinquencies, they're virtually unchanged.

September this year versus September of last year, they're at about 3.9%, they're virtually unchanged.

As for Buell, I don't have that in front of me, Tim.

Okay.

I'll follow up with Mark.

Thank you.

Thank you.

Your next question is coming from Greg Badishkanian of Citigroup.

Please go ahead.

Great.

Thank you.

Great quarter.

Thank you.

Just wanted to delve in a little bit more on sort of the sales trends from the quarter.

It -- maybe if you could speak directionally to just trends throughout the quarter.

I guess your new products hit end of July, early August.

Did you start to see certain acceleration in retail sales growth at that point or was it consistent throughout the quarter?

I can only say, since we don't comment on month to month or week to week changes in retail sales, because comparability is always difficult, there's no doubt that the 2006 model year, when it came out, generated a lot of excitement, whether it be through the magazines or the dealer network or just word of mouth, and there's no doubt that when the 2006 model year came out, that generated a tremendous amount of floor traffic and excitement.

Right.

So could you -- from -- based on feedback from dealers and customers that you as a company have, which of the new products really drove the growth, and were there any disappointments where you can maybe innovate over the next year or two?

It's always a little early to tell on big winners and disappointments.

I've got to say that on the -- on the Street Glide for the FLs, that certainly was a big hit, and on the Dynas, our new -- I'm going brain-dead here -- but our new Dyna model was also a big hit.

The Bobber.

Excuse me.

Those were probably the two most in demand models, but I think since we touched -- significantly touched -- all our motorcycle models, it was definitely more in paint decals, new clutches on Sportsters, wider tires on Softails, new transmissions and a completely redesigned Dyna line, new radios on the FLs, and a new lineup of CZOs [ph].

We came across and touched every family significantly.

So it all was very exciting.

It drove a lot of attention.

Excellent.

Great.

Thank you very much.

Thanks, Greg.

Thank you.

Your next question is coming from Bob Simonson of William Blair.

Please go ahead.

Good morning.

First question is just a little small item.

In your release you've said that the retail -- domestic retail sales were two thousand one eight fifty-two, and in the third quarter release for last year it was 200,826.

It's a little different in the third quarter.

Has something been taken out or am I just looking at a typo or something?

No, you're not looking at a typo.

In fact, on that table there's a footnote that basically says that the source -- and you're looking at 2004 -- that our source for the retail sales are coming from our warranty and registration data, which is the best data.

Previously it had come from MIC, and there's typically some small changes on those numbers, and we're using just a more consistent basis to compare those numbers.

As you mentioned there was just a small difference but we wanted to be consistent.

Okay.

And second question, Jim, you said your production guidance, you've widened it a little bit here to 5 to 9 from 7 to 9 in your earnings per share expectation from 11 to 17.

That's six points difference getting from production to earnings per share growth, both at the low end and the high end.

It just seems to me that if you produce at a much slower rate of 5 versus 9, or vice versa, that there would be more margin differential when you're making 5% more than at 9%, and that would either make your earnings grow faster relative to production at the high end or slower at the time low end.

Can you talk a little bit about the implications of margins and different production rates of growth?

As you mentioned, we came out with the current environment and obviously with the backdrop of a great third quarter, one can be very enthusiastic, but as you read the newspaper and see the ebbing consumer confidence and the rising interest rates, and fuel costs, we have to take those in consideration.

We don't see the impact, but we're saying, okay, what if that has an impact in the future, because obviously we're giving future guidance.

And that was the conservatism that we applied to previously a very tight range of 7 to 9, and I don't know of anybody gives the range quite that tight, so we broadened the range, still saying that 9% is still there, because we're confident in our abilities, but if there's something out of our control that has a big impact in the economy, we broaden that range down to 5, instead of the 7 to 9 and 5 to 9.

Looking at the implications on EPS, one would think that that would have more of a negative impact in response to a question earlier on the phone call, question being, is there any impact on -- of repurchase or assumed repurchases.

We looked at that and said that there's no doubt that we can keep our EPS in the double digits by some share repurchase.

So that's kind of the reasoning why we've kept a range fairly similar to what we had, but before we said mid-teens, now we've kind of put a number around it, 11 to 17.

Can I ask you to amplify a little bit?

It's six points difference, both at the low end and at the high end, from production growth to earnings per share growth.

It just seems to me that the faster you're growing your production, or any company, is the faster or the more margin opportunity you have.

And to have just six points, whether you're making 9% more or 5% more, it just seems like maybe the low end is too high.

The low end differential, or else the high end is too low.

Do you see what I'm getting at?

Actually, Bob, I'm sorry, I'm missing the six-point differential.

In other words, you said 5% growth at the low end of your production goal would give you 11% earnings per share growth.

That's six points.

Okay.

At the high end, you said 9% growth in production and 17 in earnings per share.

So it's six points differential to get from the production growth to the earnings per share growth and it just seems to me that those numbers should be wider across on the earnings per share, that there should either be more leverage at the high end of your production goals or less at the low end.

I think, there again, the assumption being that on the low end, commenting on that, that there's probably more of an assumption of maybe share repurchase, because obviously this is such a great business model and we're generating a lot of cash, that we have the ability to enhance that EPS with some share repurchase, keep it in double digits.

Okay.

Thanks very much.

Thanks, Bob.

Thank you.

Your next question is coming from Robin Farley of UBS.

Please go ahead.

Thanks.

Glad to see you lowering the range here for the -- the long-term range, the 5 to 9%.

I wonder if you could give a little bit of color, though, on your '06 guidance.

You're using a 6 to 7% range.

Maybe you could give us a little color on -- given some of the concerns you cite in the press release, why not go towards the lower end of the long-term -- this wider long-term guidance range?

Then I do have a follow-up question or two, so, Operator, if you could just keep my line open.

Thanks.

Again, trying to keep in mind the economy and everything else, but looking at the current situation, the receptivity of our -- and excitement coming from the current model year, we're trying to do a balance between that.

At the same time our objectives being to keep retail prices very close to MSRP, to reduce wait lists, and create a better environment of customer satisfaction at the dealer, the balance.

And then looking at that, we feel that -- I think it's a very prudent look at 2006 to look at a wholesale unit volume to achieve all those, 6 to 7.

And that's why that level for 2006 is really in the middle of the range of the broader range for the long term.

And not being more conservative and going with the lower end of that range, just because you're saying that you may be more cautious about some of the factors mentioned in the release?

Or --

No, no.

We're keeping it up there so that we're going to make sure that we have, again, a dealer environment where customers are being charged close to MSRP and we've reduced the wait list.

If we would crank down our production level there's a big fear that payments would come back and wait lists would grow.

And that's the balance act, especially with the popularity of the '06 model.

Okay.

And I wonder also if you could comment on margins in '06, some of the room in between your production guidance and your earnings growth, given raw materials costs are moving up.

And then a couple of quarters here in '05 were helped by the mix shift, the heavier weight, higher margin bike, which it sounds like you said that you're going to shift back towards a lower margin mix in '06.

But you're still expecting margin improvement in '06 over '05, even with a lower mix shift and higher raw materials cost?

I mean, it's always hard to predict raw material costs, but I think with our guidance, and we try not to get down to the detail of what gross margin is, what operating margin is, and et cetera, and then what the margin levels are for each family of motorcycle.

That's why we've given guidance on the EPS growth.

I think as -- and we did have a rich mix in the third quarter, as we stated in the press release, driven by our touring bikes.

That mix will come back to a more normal level in the fourth quarter, so we won't have that strength of the mix.

We'll back -- more normal.

And I think we didn't comment on mix going next year, but I don't see the mix changing a lot next year.

You don't see the '06 mix?

Because in the second quarter you'd also had fewer Sportsters, and it sounded like that would revert back the following year.

So you're saying that the mix will not shift in '06 versus '05?

We're looking at the whole market and trying to see, again, and balance demand and what our production plan is.

That will eventually dictate mix.

But at this point in time, we don't see any big changes in mix.

I guess on the last question is, I guess October 17th deadline for filing bankruptcy before the laws change, have you seen an uptick in that affecting HDFS?

Or maybe you haven't seen that, but I wonder if you could give us some color.

There's been a very, very minor uptick, almost not measurable, at HDFS on number of bankruptcies.

Okay, great.

Thank you.

Thank you.

Thank you.

Your next question is coming from David Andrews of Merrill Lynch.

Please go ahead.

Great, thanks.

Two quick questions, Jim.

One, could you give us an update on the CFO search?

And two, could you give us a little more color on Japan?

That's continuing to do well.

Should we assume that it's going to continue at these current rates?

On the CFO search, number one, Jim Brostowitz is currently acting as the acting CFO.

Jim Brostowitz has been here for about two decades.

We've worked a long time together.

And with that, we've been able to make sure that as we go out and do our search, we have somebody that's -- we're looking for somebody that's extremely capable and is a good fit within the Company.

And hopefully we'll be able to fill that slot shortly.

I won't put a time frame on it, because I did before and I was wrong.

But I think right now we're proceeding down that path.

We have many things that we're pursuing but nothing to announce at this moment.

As for Japan, that's been -- Japan, for us, we've increased their absolute retail units and wholesale units in Japan for the last -- this will be 20 years.

It's been a good market.

We have the number one market share in Japan, although we don't chase market share, when you do the things right, that happens.

And I'm talking about the heavyweight motorcycle market.

I'm not talking about all motorcycles.

We should continue to see that growing.

It's been growing for many years in a declining market.

Japan, for the heavyweight motorcycles, has declined for several years, but I won't predict at what rate but we predict success and continued growth in that market.

Great.

Thanks.

Thank you.

Your next question is coming from Joe Hovorka of Raymond James.

Please go ahead.

Thanks.

Can you comment a little bit more on the gross margin increase in the third quarter?

Was all just the mix shift towards touring or was there anything else in there?

The primary driver was mix, and obviously that offset the increase in surcharges, but mix was primarily the biggest driver in there.

There is some price from the current model year, but our price increase was less than 1% on the '06s.

So it is definitely primarily mix.

Thank you.

Your next question is coming from Tom Lem of Weybosset Research.

Please go ahead.

Thank you.

Our question has been answered.

Oh, wait a minute.

Hi.

Just wanted to ask you about all that cash.

After capital expenditures, dividends, and a share repurchase, we're still sitting around with an awful lot of cash on the books.

Can you tell us about your plans to deploy that cash to the benefit of the shareholders?

I think we've done, as you mentioned, a very good job of deploying the cash that this great business generates.

This business does generate a lot of free cash flow.

We've never before repurchased a billion dollars of our stock in one year, although we've had a history of repurchasing shares.

We've increased our dividend twice -- well, once this year for 28%, twice last year and twice the year before.

And capital expenditures, we continue to invest in the business.

Doing that, in reality our cash balance is less than it was at the same time last year.

We are somewhat conservative and like to keep some cash on the books, so we're not going to see that go to zero, or maybe not even much less than what it is right now.

But as we continue to grow cash, and we will, because it's a great business, we'll continue to deploy that for the benefit of the shareholders in different ways.

We'll balance that.

We've talked to many shareholders, prospective shareholders, and they're kind of evenly divided between different avenues.

The one thing that does come clear is that not too many shareholders are excited about acquisitions.

Neither are we.

Neither is this shareholder.

Thank you.

Thank you.

Your next question is coming from Joe Hovorka of Raymond James.

Please go ahead.

Sorry.

I got cut off as I was trying to ask a second follow-up question there.

You were saying that the shift in the touring bikes is the increase in gross margin in the third quarter.

You had a similar shift in the second quarter, but gross margins actually went down 30 basis points, and then we've got a 120 basis point increase in the third quarter.

I'm just trying to reconcile why the shift towards touring didn't impact gross margins in the second quarter but is in the third quarter.

And I didn't do a very good analysis comparing the second and third quarter, Joe, so I think I'll to have leave that to Mark.

He certainly came prepared to talk about questions of third quarter versus third quarter, so we can probably give a better comparison to you on that, but definitely touring bikes were the driver of the favorability, along with some price.

So I should follow up off-line?

Yes, if you would, please.

Sure, no problem.

Thank you.

Thank you.

Your next question is coming from Ed Aaron of RBC Capital Markets.

Please go ahead.

Thanks, good morning.

Nice quarter.

Good morning.

Thank you.

Couple questions.

In terms of the pricing environment, you kind of mentioned your commitment to MSRP or better.

With a 5 to 9% production growth, do you think that you can keep retail prices at MSRP or better over the long term?

And then, to the extent that if they happen to fall from an MSRP level, in that scenario, would you change your -- the way you're managing production?

On pricing, for all the things we know today, and that's how we couch anything, from what we know today we think that with all the dynamics going on in the market and with our current model year, plus what we know is coming out next year, I think that we can draw that balance with a 5 to 9% production growth for the long term.

Now, we'll have to see.

With new and exciting models, or with a different type economy, those things always have to be taken into consideration.

That being said, your question being if retail prices would start going down, what would we do, we'd have to evaluate the situation.

Is it a model situation?

Is it geographic?

Do we have opportunities to reallocate some of the product?

We'd have to take a look at all those.

Definitely that change in production would be an option.

Okay.

Thanks.

And then I also wanted to ask quickly about guidance for the year.

The Q3 numbers came in better than we were looking for.

There wasn't a change to the full-year guidance.

Are there any offsets that we might expect in Q4 to cause us to not kind of pass through the upside to this quarter?

I guess the best way to answer that, we are targeting internally to deliver what we said all along, and maybe the third quarter exceeded the external consensus, but for internally, we are doing what we said we were going to do and we're on target for what we're going to do internally and that's why we haven't changed our guidance.

There is differences between all quarters.

There is seasonal aspects of the business.

Parts and accessories, their best quarter is probably the third quarter and their worst quarter is probably the fourth quarter, and there are some marketing programs that go on with higher expenses typically in the fourth quarter that we always traditionally have.

So there are differences between every quarter.

Thank you.

Thank you.

Your next question is coming from Felicia Hendrix of Lehman Brothers.

Please go ahead.

Hi, guys, good morning.

Good morning.

Couple questions still remaining.

First, I was wondering if you gave us the annualized credit losses for the nine months.

Can you give that to us for the third quarter and then also the motorcycle loan losses?

Then my other remaining question is, given the cash that you have, I would have thought your interest income number would have been a lot different than it actually was.

So I was just wondering if there was -- what kind of spending there was in that.

I'll try to answer these backwards here.

I wasn't taking very good notes.

On the interest income there's more than just interest income on that line.

On that line it's investment income and Other, and Other always covers many different things.

In this particular case, in the third quarter, we made a $5 million -- or approximately 5 million, it's probably a little less than $5 million, maybe 4.5 -- contribution to our foundation, and part of that was part of the $1 million that we contributed to the hurricane fund.

So that was offsetting the interest income that you thought you would typically see in that column.

And, therefore, the 2005 versus 2004 doesn't exactly compare up and up, but if those were separated, you'd see that the representative interest income was there for the cash balance.

Your first question, Felicia, I missed.

It was just, what is the third quarter.

You gave the nine month, but the annualized credit losses in the third quarter and then also the motorcycle loan losses in the third quarter.

If you could call back for Mark on that one, I'd appreciate it.

I don't have it here at my fingertips.

Okay, thanks.

Thank you.

Your next question is coming from Tony Gikas of Piper Jaffray.

Please go ahead.

Hi, good morning, guys.

Couple questions.

Do you anticipate increasing the level of spending on sales and marketing going forward?

That's been fairly limited in recent years.

And do you view that as an opportunity?

Second question: What percentage of your dealer base today are utilizing some of the dealer programs that the corporate has in place, these consulting programs?

And then I have one quick follow-up.

On the dealer programs, we have many different dealer programs, too numerous to really go through.

It a whole litany, whether it be secret shopper or redesigned programs or performance consulting programs.

A good portion of the dealer network, far over two-thirds of our dealer network, does a very good job of signing up for these different programs.

Of course, it's depending what their needs are.

What was the first question, Tony?

And the first question was, do you anticipate an increase or a change in spending on sales and marketing?

We have been increasing our spending on, number one, on engineering and marketing every single year.

Engineering, obviously, from all the products coming out.

Marketing, we've done a lot of the great programs and on some of the programs that I was just referring to, and even on commercials I had talked about earlier in the conference call.

Those continue to increase as we continue to reach out to especially new and different diverse customer groups.

So, yes, the answer is, we are planning, but this year we'll have higher marketing expenses than last year.

And also the prior year.

And you indicated that HDFS utilization year to date was 45%.

Do you know what that was in the quarter?

And then the last question would be on used bike pricing, according to the NADA guides, appears to be coming down a little bit more than your thoughts.

What's the disconnect there, perhaps?

I don't have a -- since we don't follow the NADA, we're following the actual transactions that go on in the Harley-Davidson dealer network, it is hard to replicate the two, or reconcile the two.

So --

Are your assumptions, then, with the dealer network, or are these what the used bike prices are occurring throughout the U.S.?

Or is this just used pricing at the dealer level?

This is used prices at the dealer level.

We capture that information through HDFS.

Okay.

So the disconnect then could be at the -- I guess, beyond the consumer, or beyond the dealer level?

That could be.

Okay.

That is a possible answer.

On the -- yes, in the conference call I said that the market share on that is percent of bikes that -- new bikes sold in the dealer network that are financed through HDFS.

That was 45%.

What it was for the quarter, I don't have, Tony.

I can tell you that last year at this time it was 40%, so it's pretty well increasing from last year to this year.

I don't think it's -- I think it's probably in that range for the quarter.

I think Mark could give you better information later.

But it's not going to be substantially different.

Thanks, Jim.

Thank you.

Your next question is coming from Rick Freiden of Railsplitter.

Please go ahead.

Good morning.

My question is on dealer inventory.

Obviously, there's been a lot of talk lately about higher levels of dealer inventory, year over year.

And I guess I was interested in your perspective on sort of what you think is a normal or an acceptable level of dealer inventory.

When I think of your business, historically, if we look over the last five years, you've probably had much, much lower levels of dealer inventory than similar businesses.

So I guess I'm curious, do you benchmark yourselves against some other sort of similar dealer-type businesses, or how do you think about what's the optimal level of dealer inventory?

Is it okay for those levels to go up?

Rick, you're talking about dealer inventory in the past.

There's no doubt that our dealer inventory was much, much, much too low.

You create a marketplace where you can charge consistent over MSRP, put people on wait lists, and really irritate the customers, expect them to come back, and they do come back, that's quite an environment, but it's not a sustainable environment.

So again, as in the conference call, our objective has been to make an environment that is more customer friendly, where customers can look at the product literature, look at the MSRP and hope to pay close to that.

Especially new customers.

Close to 50% of our sales occur to customers new to Harley-Davidson.

When they come into the dealership, you tell them they're going to go on the wait list, they're probably going to go someplace else.

That's not a good thing.

Whereas a customer -- the other 50% of our sales occur to existing customers.

They have a bike, so that situation, you know, they can probably wait because they already have a Harley-Davidson.

But to turn away 50% of your customers, prospective customers, because you don't have product or you're going to charge them more is a not a good thing.

So, raising the dealer inventory to a more acceptable level so that we could achieve -- wait lines for bikes that are really in high demand, but not those bikes that people are coming in for at the entry level is a better spot to be, and that, basically, you measure on looking at many different things.

In talking to dealers and talking to comfort level, but also, as importantly, looking at new and used bike prices.

Even on used bike prices to have any product that's several years old selling for close to its original MSRP is unheard of in any other product.

So we still have kind of the best of all worlds.

So right now we are looking at managing inventory.

We certainly were in a spot several years ago that was not desirable.

I think we're close to the right spot now.

Thank you.

Your next question is coming from Dean Gianoukos of JP Morgan.

Please go ahead.

Hi.

I just have a couple of quick questions.

First, there's been a lot of talk about the long-term production rate.

Was there any thought, based on the kind of inventory that's been building in the fourth and first quarters over the past couple of years, to cutting a short-term target?

And maybe you can talk about what you guys thought about.

And then secondly, your decision in the second quarter to cut the production there, if you see a similar amount of bikes over the next three quarters, would you cut again?

Or did you say -- I'm not sure if I heard you right -- is your appetite bigger for what the inventory level can be now, before you would consider cutting again?

Thanks.

Just going to the second quarter question, that, again, was something that -- we were coming off of first quarter with retail sales that were actually a negative comparison to the prior year and, more importantly, short of our expectations, and there was a lot of weather patterns going on in the U.S. that certainly said that spring had not started.

We did not want to run into a light start of a spring and have a disappointing second quarter with having too many models or take the chance of having too many '05 models blocking what we knew was going to be an exciting '06.

We took a precautionary move.

It was not based on having too many units in inventory, it was doing the what-if scenario, so making sure we didn't run into that situation.

In response to the earlier question, they said if retail was not meeting our expectations, what would we do, and I said we'd have to look at it on a case by case basis to see if it was product, family, geographic, what could be done, and -- but certainly on the list of possible things would be to cut production, because we want to make sure at the end of the day that customers are paying close to MSRP and that there's minimal wait lines and that they're being treated so that they're going to come back.

And that's the driving force.

But we will look at everything.

It may take some product excitement, it may take some different promotions, but we'll look at the whole gamut.

Thank you.

Your next question is coming from Michael Millman of Soleil Securities.

Please go ahead.

Thank you.

That's Soleil Securities.

I just wanted to follow up on some of the items that you've discussed.

Maybe this is beating a dead horse, on inventories and registrations in the third quarter, retail registrations, we're not sure how to look at it because retail registrations in third quarter are actually down compared with two years ago.

So how would you look at what should be a normalized retail third quarter growth?

Sort of related to that, we estimate that there's about 7500 additional units in dealer inventory year-over-year, and so you're suggesting that you could see more than that.

On some other topic, Touring versus Sportster, kind of wonder if the demographics are shifting more towards older Touring buyers and away from Sportster, which you talked about in the past as trying to increase the market.

Also, you talked about dealers, you want to keep the prices down and you want to keep inventories up, and used prices are down.

Could you talk about what the dealer profitability is looking like?

And then just quickly, you talked about sales and marketing expenses increasing every year.

Did you mean relative to revenues?

Sorry for all those questions.

I'm going to pick and choose some of the questions I answer, I guess depending on my notes here.

On -- the whole issue of dealer inventories, and it's really not an issue of up or down, higher or lower, the issue is having a dealer inventory that creates the market force that bikes are being sold at or slightly above MSRP, and that the wait lines are down.

And that is the balance between the exciting products.

So I mean, depending on where we are on that kind of dictates where we want to take dealer inventories, up or down.

If you want to compare them to prior periods, there's no doubt that our history has been over time we've been trying to increase inventories.

They will go up, number one, because just the absolute number of products per the number of dealers will go up, and then also in response to the question I had earlier, dealer inventories were too low.

So it's not that they're going up, they're going to a level that's where they need to be to create the customer environment we're trying to desire.

Dealer profitability, we do track dealer profitability.

We don't get it on a monthly basis, but we require dealer financials.

I can say that probably most people on this conference call would love to be a dealer.

It's a great business.

They're making a lot of money.

And it's -- like I said, we have waiting lines of hundreds of people that would like to become dealers, and their profitability is extremely good.

On Touring versus XLs, or any other bike, that's a combination of coming out with new products and coming out with -- responding to the market, and some seasonality.

There's no doubt that touring bikes do sell better every single month of the year, where Sportsters and maybe V-Rods are much more seasonal because of the type of customer that buys it, and typically new to Harley-Davidson.

So there's a balance between new products coming out in a particular family and you want to respond to that, and then there's the opposite on seasonality.

And then it also depends on our supplier and our internal manufacturing capability if we have a bottleneck.

So there's many things we have to juggle on touring versus Sportster versus Softail versus Dyna or anything else.

That's the end of my notes.

I'm sure -- you had a litany of questions.

Do you have one or two more?

The third quarter U.S. retail normalized growth, because last year was down, and on your engineering or sales and marketing expense increasing, did you mean that was relative to revenues?

We were just saying that sales, marketing, and engineering were going to be up.

We've always said that SG&A, or operating expenses in total don't necessarily, number one, move in tandem with revenue, and then because of some of the fixed nature of any of the costs, don't necessarily grow as fast as revenue.

I think that no doubt that the engineering and -- engineering's kind of a step function, depending on which programs they're working on.

You may have increases, expenditures several years before the program comes out.

Marketing's not the case.

But they're all in absolute dollars, and which my statement was, are going up.

I don't have the answer to you relative to revenue, but in absolute dollars they certainly have been going up.

And with that, I think I'm going to end the conference call.

I want to thank everybody for your time this morning.

Remember that a taped replay of this conference call can be heard by calling 973-341-3080 and entering the pin number 6501675 with the pound key until October 19th, or by accessing it on the Harley-Davidson website.

If you have any questions please contact the director of Investor Relations, Mark Van Genderen, at 414-343-8002.

He will be happy to get back to you.

Thanks again, and have a great day.

Thank you.

That does conclude today's teleconference.

You may disconnect your lines at this time, and have a wonderful day.