Harley-Davidson Inc (HOG) 2011 Q2 法說會逐字稿

Good morning.

My name is Alicia and I will be your conference operator today.

At this time I would like to welcome everyone to the second-quarter 2011 earnings conference call.

All lines have been placed on mute to prevent any background noise.

After the speakers' remarks, there will be a question-and-answer session.

(Operator Instructions).

Thank you.

Ms.

Amy Giuffre, Director of Investor Relations, you may begin your conference.

Thank you, Alicia, and welcome to Harley-Davidson's second-quarter 2011 earnings conference call.

Today's call is being webcast live on harley-davidson.com, where you will also find slides containing supporting details.

These slides are generally available at least 30 minutes prior to the start of our call and can be accessed by clicking on Investor Relations, Events and Presentations on our website.

Our comments today will include forward-looking statements that are subject to risks that could cause actual results to be materially different.

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

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

This morning you will hear from Harley-Davidson's CEO Keith Wandell, CFO John Olin, and President of Harley-Davidson Financial Services Larry Hund.

Then we will open the call for your questions.

To ensure that we get to as many callers as possible, I ask that you limit yourself to one question and we'll do our best to get back to you in the queue.

I promise.

Thanks, everyone.

So let's get started.

Keith?

Thank you, Amy, and good morning.

We are in Anaheim, California, with our Harley-Davidson dealers from around the world for the Annual Summer Dealer Meeting and new model launch.

It's is just one of the many ways that we stay close to what is happening at retail and it gives us a chance to hear what our dealers are thinking.

But this morning, we are here to talk about Harley-Davidson's second-quarter and six months' results, and we truly appreciate all of you joining us on today's call.

Over the past 27 months, we have been focused on making changes that we believe will lead to long-term sustainable success for the business and for our dealers around the world.

So let me begin by thanking our employees, our dealers, and our suppliers for all the hard work and dedication that has gone into delivering the kind of results that we announced in our press release earlier today.

The Company saw strong improvements in many areas, including income, in both the Motorcycle and Financial Services segments.

We are pleased by the 7.5% growth in new motorcycle retail sales in the US, as well as the growth of Harley-Davidson retail sales on a worldwide basis.

With strong second-quarter retail sales performance, we have raised our shipment guidance for the year as we look to support our retail sales activity.

The change in shipment guidance also reflects our confidence in being able to maintain continuity of supply for several subcomponents in the aftermath of the March earthquake in Japan.

Our supply management team has done an outstanding job of mitigating supply-chain risks, resulting in no expected downtime or interruption in our production due to these issues.

And while we remain cautious about consumer confidence and the economy in general, we are pleased with the Company's second-quarter results, which reflect the transformation that is taking place at Harley-Davidson and the strength of the Harley-Davidson brand around the world.

In late 2009, we laid out our strategic plan which was based on four pillars -- growth, continuous improvement, leadership development, development, and sustainability with the intention to transform our business and to become best in class in areas that are critical to our long-term success.

Our transformation focuses on three main areas.

Manufacturing, product development, and excellence at retail.

Over the next few weeks, we will reach a milestone in our manufacturing transformation as we combine Touring and Softail motorcycle production at our York assembly operations with one modern, efficient operation.

We expect the total transformation of our manufacturing operations will be completed by the end of next year.

I would like to note that our employees, our union leadership, and management are fully engaged in delivering a sustainable world-class manufacturing capability.

And similarly in product development, we are making tremendous progress in our implementation of lean engineering.

The transformation and product development is resulting in reduced time to market with new innovative products and more capacity to deliver new models.

And we will increasingly see the results of this work over the next few years.

The third cornerstone of our transformation is excellence at retail and that is something we'll be talking a lot about over the next few days here in Anaheim with our dealers from around the world.

Harley-Davidson is embarking on a long-term global initiative called Retail 2020 that will provide the clarity and vision to take the Harley-Davidson retail experience to a new level with outstanding customer-led experience every day, every time, everywhere.

And through Retail 2020, we will position both the Company and our network of independent dealers to profitably meet the constantly evolving needs of our customers.

This will include a completely revamped eCommerce capability that we expect to roll out in 2012.

So to wrap up, let me reiterate how proud I am of our progress as one company and one team working in one direction.

Together with our dealers, we are transforming our business and increasingly taking our iconic brand to the many roads of the world to fulfill the dreams of our customers.

I'll be back later for questions, but now let me turn it over to John for a deeper dive into our results and our updated guidance.

Thanks, Keith, and good morning, everyone.

I will review the financial results starting on slide 11 with the second-quarter results.

During the quarter, Harley-Davidson Inc.

consolidated revenue was up 15% behind a 13.2% increase in shipments of Harley-Davidson motorcycles.

Our second-quarter income from continuing operations improved to $190.6 million, an increase of 36.8%.

Similarly, diluted earnings per share rose to $0.81 per share up from the year ago quarter which was $0.59 per share.

Operating income from the motorcycle business was up over 39% compared to last year's second quarter.

The strong increase in motorcycle business was driven by increased motorcycle shipments and lower spending on ongoing restructuring activities, partially offset by increased spending and our growth initiatives.

Our improved financial performance for the quarter was also driven by strong operating income at HDFS and lower year-over-year interest expense as a result of last December's repurchase of $297 million of high-interest notes, partially offset by higher effective tax rate as compared to last year.

We are very pleased with the second-quarter results and our continued progress against our growth strategies and the transformation of our business.

Now let's take a look at retail sales on slide 12.

Overall worldwide retail sales of new Harley-Davidson motorcycles were up 5.6% in the second quarter.

The big news for the second quarter was that retail sales in the US were up 7.5% compared to last year.

We are very pleased to report these positive results for the US market which represent the first quarterly growth in the past 17 quarters.

Market share in the US was 53.9%, up 1.5 percentage points compared to last year's second quarter as the Harley-Davidson brand continues to show strength while the competition continues to aggressively discount prices to move aging inventory.

International markets grew 2.4% during the quarter, driven by growth in the Asia-Pacific and Europe regions.

The Asia-Pacific region was up 6.7%, driven primarily by strength in emerging markets in the region.

Retail sales in Japan were down 3.4% which represents a considerable improvement from the first quarter, which was down 9.3% following the earthquake and tsunami.

Following very strong first-quarter results, retail sales in Europe region were up 2.6% in the quarter compared to 2010.

On a sequential basis, this compares to year-over-year retail sales growth in Europe of 23% in the first quarter of this year.

Looking back to 2010, limited product availability in Europe constrained retail sales in the first quarter, while improved product availability benefited second-quarter retail sales in that market.

Consequently, year-over-year comparisons were relatively easy in Q1 and tougher in Q2.

Overall, we are pleased with Europe's first-half growth, which was up 9.3%.

Retail sales in both Canada and the Latin America region were down slightly versus last year.

Canada was down 2.1% and Latin America region was down 1.0% compared to last year.

In Brazil, the new dealer network is coming up to speed.

As we discussed last quarter, we closed all existing dealerships and have appointed 10 new dealers.

This was planned as part of the agreement that we announced in December 2010 to terminate the exclusive dealer contract that was in place and to expand our presence in Brazil.

Again, we are very pleased with the worldwide dealer network's overall retail performance during the second quarter.

On slide 13, you will see wholesale shipments of Harley-Davidson motorcycles in the quarter were up compared to last year and at the high end of our expected shipment range of 62,000 to 67,000 motorcycles for the quarter.

During the quarter, the mix shifted between Touring and Custom motorcycles largely due to the York restructuring, which shut down the Softail production line in preparation for the consolidated production of all models built in York onto one line.

Sportster represented 24% of total shipments which was in line with last year's Sportster mix.

We expect that Sportster as a percent of total shipments will be within the historical range of 18% to 22% for the full year.

Shipments of the 2012 Touring and Sportster motorcycles started at the end of June.

Generally, we ship new motorcycles, new model motorcycles after they are introduced to dealers toward the end of July.

However, as a result of the inventory situation in the US, we began shipping Touring and Sportster models three weeks early.

Tomorrow we will introduce the 2012 Dyna, Softail, and VRSC motorcycles to our dealers here in Anaheim.

Slide 14 provide some additional detail on the US dealer network inventory and the strength of our brand as measured by total demand.

During the second quarter in the US, we shipped about 42,600 Harley-Davidson motorcycles and our dealers sold roughly 53,600 at retail.

As a result of strong second-quarter retail sales, the US dealer network's inventory was drawn down about 11,000 units from the first-quarter 2011 and was down about 3,500 units compared to last year's second quarter.

Consequently, aggregate US dealer inventories continue to be below what we believe is an appropriate ongoing level and we will continue to work toward replenishing dealer inventory levels of new motorcycles.

We also continue to support the dealers' efforts to sell more used bikes.

Healthy used bike sales enhance dealer revenue, maintain resale values, and help narrow the gap between new and used motorcycle pricing.

Used bike sales by the US dealer network continued be up double digits through May compared to the same period last year.

When these used bikes are combined with new retail sales in the US, total demand for Harley-Davidson Motorcycles continues to be strong.

This reinforces the strength of the Harley-Davidson brand.

On slide 15, you'll see revenue for the motorcycles and related remaining product segment was up in the second quarter behind strong growth from all our businesses.

During the quarter, average motorcycle revenue for Harley-Davidson units sold increased $968 from the prior year as a result of favorable currency exchange and improved product mix.

The increase in average revenue coupled with a 13.2% increase in shipments drove Harley-Davidson motorcycle revenue growth to nearly 21% compared to last year.

Parts and Accessories sales were up over 10% for the quarter and year-to-date, driven in part by a focus on product availability, high demand for our new accessory product offerings, and growth in worldwide retail motorcycle sales.

General merchandise was up over 8% in the quarter compared to last year, largely related to the timing of delivery of product between the first and second quarters of this year.

As we launch the remaining 2012 model year motorcycles tomorrow, we expect revenue will be favorably impacted by approximately 0.5% price increase on a worldwide basis.

This is the first meaningful price increase that we have taken on motorcycles since 2007.

We feel the price increase reflects the consumer value that has been added to many of our Big Twin motorcycles and believe the timing is prudent, given the strength of the brand and the tight inventory situation in the US.

Turning to restructuring on slide 16.

Our efforts to improve our cost structure and transform the business to be stronger and more profitable in the future are well underway.

During the second quarter, we incurred $13.6 million in restructuring expenses and $36.6 million year to date.

Restructuring activities are largely on plan through the first half of the year; however, we have adjusted 2011, 2012, and expect the total cost associated with all restructuring activities.

As you'll see, we are reducing the expected restructuring cost for 2011 from $95 million to $105 million to $80 million to $90 million and 2012 cost from $30 million to $35 million to $25 million to $30 million.

The total costs are now expected to be $490 million to $505 million.

Additionally, we are increasing our 2011 capital spending estimates associated with restructuring activities from a range of $60 million to $75 million to $70 million to $85 million.

The expected savings included in the summary are unchanged.

On slide 17 you will see gross margin in the quarter was 35%, which was flat to last year.

Gross margin for the quarter was impacted by five key drivers.

First, volume was favorably impacted by increased motorcycle shipments which were up 13.2% in the quarter and increased parts and accessories and general merchandise sales compared to last year.

Second, mix was favorably -- was favorable by $11 million, positively impacted by a higher percentage of capturing shipments and favorable mix within families.

Third, raw materials were unfavorable, $9.1 million, due to increased metals and fuel costs.

Next, foreign currency exchange turned positive during the quarter, benefiting gross margin by $4 million.

And, finally, manufacturing was favorably impacted by restructuring savings, incremental margin on higher volumes, partially offset by approximately $8 million in temporary inefficiencies associated with the transformation underway at our York facility.

On slide 18, operating margin as a percent of revenue for the second quarter was 16.4% versus 13.9% in 2010.

Operating margin was favorably impacted by higher gross margin and lower year-over-year restructuring spending.

SG&A was nearly $26 million higher during the quarter compared to the same period last year.

Due to a shift in timing of some SG&A spending from 2010 spending patterns, we believe that our spending across the first half is more indicative of the overall rate of spending for the full year.

As we look at SG&A across the first half, it was up $24 million or 5.9%.

There are three core drivers for the first-half spending increase.

First, unfavorable currency exchange accounted for nearly 1/3 of the increase or $7.2 million.

Next, our product development spending was up nearly $7 million as we execute our focus strategy to deliver remarkable products utilizing a leaner customer-led approach.

And finally, our spending on our international businesses was up nearly $13 million in the first half, which is in line with our objectives to grow international sales at a faster rate than domestic sales and to add between 100 and 150 international dealerships by 2014.

Excluding these items largely related to our growth strategy, SG&A spending is up in the first half.

Sorry, SG&A spending in the first half was down slightly compared to prior years.

As we invest in our future in order to successfully grow and transform our business according to our strategic plan, we continue to expect SG&A spending to decline as a percent of revenue between 2009 and 2014.

Now moving onto our Financial Services segment on slide 19.

In the second quarter, HDFS operating profit improved $21.2 million or 34.9% compared to last year.

The two key drivers of the second-quarter results were net interest income was $2.6 million higher in the second quarter of 2011 versus the second quarter of 2010 due to lower cost of funds and debt levels, partially offset by reduced revenues on the declining receivables balance.

And the provision for retail credit losses was $17.1 million lower in the second quarter of 2011 versus the second quarter of 2010, primarily due to improved credit losses as a result of favorable retail receivables performance.

During the quarter, HDFS reduced the total allowance for credit losses on the entire portfolio by $15.3 million to $144.4 million to reflect lower anticipated credit losses and lower receivable balances.

It is important to note that on a year-to-date basis, we have released approximately $28 million of allowance from the balance sheet, given anticipated credit loss performance across the entire portfolio.

While the release of this allowance benefits income this year, we cannot assume a similar financial benefit will recur in 2012.

Now Larry will provide more detail on HDFS's operations on slide 20.

Larry?

Thanks, John, and good morning.

During the second quarter, HDFS retail motorcycle loan originations increased 19% or $125 million compared to the same period last year.

The increase was driven by higher new motorcycle loan originations behind a strong increase in retail sales and a 2.3 percentage point increase in market share.

Used motorcycle loan origination is also increased, compared to last year.

However, as receivables originated prior to the start of the economic downturn, roll out the books.

Finance receivables outstanding decreased 6.8% compared to a year ago.

This declining receivables pool reflects the lower US retail sales over the last two years and that will continue to impact HDFS net interest income.

Over the past several quarters, HDFS has been focused on prudently increasing overall credit application approval rates.

And we saw modest increase in the second quarter, including a slight increase in the percentage of nonprime originations.

We are leveraging our nearly 20 years of motorcycle lending experience and looking for opportunities to approve more good, well-structured loans.

Our goal is to have a portfolio that continues to perform well over time, that delivers an appropriate return on equity.

Moving to portfolio quality, we are very pleased with the improved retail delinquency rate and retail credit losses compared to last year, which you'll see on slide 21.

The 30-day delinquency rate for retail motorcycle loans at the end of the second quarter was 3.53%, or 97 basis points better than the same date last year.

Annualized retail credit losses improved by 98 basis points to 1.06% in the first six months compared to the first half of last year.

This improvement was driven by the impact of changes in underwriting implemented two years ago, as well as a lower frequency of loss and improvement in the recovery values of repossessed motorcycles.

As John mentioned, during the quarter, we reduced the total allowance for credit losses by $15.3 million to reflect lower anticipated credit losses and lower receivable balances.

We will continue to evaluate the allowance each quarter using our disciplined process and make adjustments as appropriate.

We are pleased with the continued improvement in credit performance and we will continue to monitor the unemployment picture, motorcycle recovery values, and the pace of the recovery in the US economic environment, and manage HDFS appropriately.

During the second quarter, HDFS delivered increased profits and maintained a strong liquidity position.

We remain focused on enabling retail sales of Harley-Davidson motorcycles, while providing appropriate return to Harley-Davidson Inc.

Now let me turn it back to John.

Thanks, Larry.

Now let's take a look at cash and liquidity on slide 22.

You'll see that at the end of the quarter, we had just over $1.2 billion of cash and marketable securities.

In addition, HDFS had approximately $1 billion of available liquidity through in credit and conduit facilities.

In April the expiring 364-day credit facility was replaced with a new four-year $675 million facility.

We continue to maintain a minimum of 12 months of projected liquidity needs in cash and/or committed credit facilities.

I am also pleased to report that we increase the second-quarter dividend 25% as compared to the first-quarter 2011.

Now I'll review the remaining Harley-Davidson Inc.

financials on slide 23.

I would like to highlight two items on this slide.

First with regards to continuing operations, the Company generated operating cash flow of $473 million during the first half of 2011 which included a $200 million contribution to our pension plans.

And second, our effective income tax rate from continuing operations was 34.8% compared to 36.4% in the first half of 2010.

The 2010 effective tax rate due [the] second quarter was negatively impacted by the health care reform legislation offset by a favorable settlement of an IRS audit.

We continue to expect full year effective income tax rate will be approximately 35% for 2011.

Now, turning to guidance on slide 24.

We are increasing our expected worldwide motorcycle shipments for the full year 2011.

This adjusted range reflects our comprehensive view of the business, including strong year-to-date retail sales performance and our increased confidence in our ability to minimize the impact from the anticipated self component supply issue related to the aftermath of the earthquake in Japan that we talked about last quarter.

Our guidance also takes into consideration the temporary capacity limitations at York given the major transformation underway at that facility as well as concern about the economic recovery, particularly in the US, and the fragile nature of the worldwide consumers.

As a result, we now expect full year 2011 Harley-Davidson motorcycle shipments to be between 228,000 and 235,000 units, up 8% to 12% from 2010.

During the third quarter, we expect to ship between 60,000 and 65,000 units.

We are also adjusting gross margin guidance.

We now expect full year 2011 gross margin will be between 34% to 35%.

This guidance reflects our greater confidence in our ability to minimize the impact from the Japan supply issue as well as the negative cost impact associated with executing the necessary contingency plans.

The new guidance range also takes into account our increased shipment guidance and our 2012 model year price increase, as well as the negative impact of the temporary inefficiencies associated with the transformation at York and higher raw material costs for the full year.

We continue to expect capital expenditures to be between $210 million and $230 million which includes between $70 million and $85 million of capital related to restructuring.

As we look back on the second quarter of 2011, we are certainly happy to report our first year-over-year positive retail sales in the United States since before the economic downturn took hold.

We are also excited to be able to increase our 2011 shipment guidance.

We are also encouraged by the strength of the brand which is demonstrated by solid total demand for new and used Harley-Davidson Motorcycles.

This strength, as well as firming used by pricing and stability of new bike prices, supported our ability to increase worldwide pricing for the 2012 model year.

Despite our strong Q2 results and improved outlook for the remainder of the year, we recognize the main challenges that lie ahead of us and our customers and, therefore, we will continue to manage the business prudently, as we navigate through any uncertainties that the third and fourth quarter of the year might bring.

Overall, the fundamentals of our business are strong and we are excited about the long term.

We remain focused on executing against our strategies to transform and to grow our business while delivering strong margins, strong returns, and value to our shareholders.

Thank you for your continued confidence and investment in Harley-Davidson.

And now let's open up the call to your questions.

(Operator Instructions).

Ed Aaron with RBC Capital Markets.

Great.

Thanks for taking my question.

I was actually interested in your comments, Keith, about the retail 2020 message that you are delivering to your dealers this week, and the reason I say that is that I think that there is a perception out there that most of the story around Harley is about operational changes and you guys really haven't talked a whole lot about expectations for innovation coming to really drive growth.

So you have been spending a lot more on product development and shortening your lead times and I am just kind of wondering how long will really take for that to show up in terms of your product innovation?

Right, well, one of the things I mentioned, you know I talked about the strategic plan and the intent all along has been to in a very thoughtful and meaningful way transform our business.

But we really started with the internals, okay?

So manufacturing, product development, getting our house in order.

And then the third major component is what we call retail 2020 and Matt Levatich and his team are really leading that initiative.

And it is really all about helping our dealers to deliver a great customer-led experience everyday.

And so, we are working hard on what are the programs, the support type programs that we need to roll out to our dealers to help them do that.

What are the metrics and the accountabilities that we need to put in place to make sure that we are driving all of our dealers' behaviors to where we want them to be which is really a simple 2 by 2 matrix.

It's profitable dealers, great customer experience.

And so, we are investing in that.

We are investing in our international expansion, which is a major part of our strategic plan and we are also investing more in product development while, at the same time, leaning the process.

So if you think about two years ago when we were investing in three different brands, and the results of the business were at that time deteriorating, we were spending less money on product development, and we were diluting the investment because we were investing in, like I mentioned, three different brands.

So now we are able to spend more money on product development, focus it on the Harley-Davidson brand to bring some really new wow exciting products to our dealer show floors.

But our product development process is at best today a five-year process and we are leaning that to where it would be more like a three to three and a half year process.

So in the very near future, we'll be seeing some of these new products hit our dealer show floor that are intended to do just what our strategic plan mentions, to anchor our existing customer base, but to really bring new customers into our dealer show floors and new customers into the Harley-Davidson brand.

Craig Kennison with Robert W.

Baird.

Good morning.

Thanks for taking my question.

I want to reference slide 21, which looks like a great slide.

How much of that improved credit loss experience was driven by higher recovery values?

And then where do you think used bike values are, relative to maybe optimal level you would like to see it at?

This is Larry.

I would say the majority is really due to better underwriting that we have done in the portfolio over the last couple of years.

You know about, if you think about it, about two thirds of our book today is loans we have originated in 2000 -- since the beginning of 2009.

The net portfolio has performed very, very well.

I will say a second thing is that a lot of the motorcycles were -- when we repossess -- are from 2007, 2008, so that it's sort of an older motorcycle.

It has got more equity in it at this point.

That has helped drive recovery values.

And then recovery values at auction have improved, but I would say somewhat modestly.

And then the -- but we have seen continued improvement certainly over the last year.

Tim Conder with Wells Fargo Securities.

Thank you, and regarding the new models on the price mix, John, you commented in your preamble that you are looking at about a 50 basis points on average global price increase.

How do you feel with the new engines that are in the models that are already introduced?

And collectively, how do you feel that that mix will go, relative to what you saw with the power pack, the substantial acceptance of the power pack add an option from model year 2011?

I guess the root of the question is for the balance of this year and then, maybe, looking in next year, could mix potentially be better, the comp of the new engines and so forth versus that power pack of last year as it relates to margin mix?

Okay, let me address two things.

One is pricing.

As you had mentioned, we have increased pricing 0.5 of 1% for the year on a worldwide basis.

As we look to that, most of that is coming in the United States.

The US is up about 1% and Canada is up about 1%; 0.75% in Europe; and largely flat in Latin America and lower in Asia Pacific by about 2.5% and that is largely due to the very strong yen and Australian dollar.

So we feel very great -- very good about our ability to price our motorcycles at this point and so with that, Tim, let's move on to your second question which is with regards to mix.

Last year, you are absolutely right, we had offered a 103 engine ABS and a security system bundled in what we called was a PowerPak.

And we offered that as standard equipment on three models last year, was the Ultra Limited, the Road Glide Ultra, and the Road King Classic.

In addition we offered the PowerPak as an option on five miles and we saw a strong take rate on this option which drove mix favorability over the last year.

So with model year 2012 product lineup, the 103 engine is going to be offered standard on our Touring Model motorcycles and will also be offering what we call a security pack, which is now bundling ABS and the security system together.

So when we talk about mix, we expect the second -- we expect mix to be largely flat, given the introduction of the 103 engine as standard.

Sharon Zackfia with William Blair.

Hi, good morning.

I was hoping you could update us on the progress of the factory customs that you started this year, how that has taken off among consumers and whether we might see that expanded?

And then your future as to other types of bikes?

This is Keith.

I'll start and then maybe John might want to jump in, but the whole -- our whole strategy around manufacturing is to be more flexible and to be able to produce products closer to customer demand.

There are a lot of reasons in our current structure why we can't do that effectively.

And so, our vision for the future is that we want to be customer-led in everything we do.

So we want our customer to be able to order a bike, to get the bike they want, the model they want, the color they want, and to some degree accessorized the way they want it in a reasonable length of time.

And that is really what H-D1 is all about.

It is every -- we look at every one of our customers as a unique individual.

We look at them as wanting a very unique bike, an individualized bike.

And so H-D1 is all about giving our customers the ability to order a bike from the factory, you will get it in a very reasonable length of time and get it the way it is ordered.

We do intend to expand that product offering as we go forward, as we get the systems in place and manufacturing transformations completed and those kinds of things.

So, and we think it has been well-received.

Our dealers for the most part, I think, like the concept.

It was an interesting phenomenon, because on average when our customers ordered a bike through H-D1, they ended up doing more accessorization when they took delivery of the bike on average than before.

So it has been a good concept.

James Hardiman with Longbow Research.

Good morning and thanks for taking my call and congratulations on a great quarter.

Obviously, the fact that you are raising guidance beyond the retail strength is indicative of some level of confidence that your production and most specifically your production in York is able to keep up with and potentially exceed demand.

I guess can you speak towards that level of confidence?

I guess, A, do you still expect to ship more into the channel this year than what gets sold out of the channel?

And B, what level of retail do you think you can ultimately support from a production standpoint?

Are your shipments in the back half of the year basically going to be purely a function of demand, or is there some ceiling on where those shipments could get it if -- in the positive possibility that retail actually accelerates in the back half?

Thanks.

This is John.

First of all, we are very pleased with our second-quarter performance.

Business seems to be responding very well to our key growth strategies and that's including aggressively managing supply line with demand and expanding the relevance of the brand and strengthening and expanding the distribution network.

We feel great about the total demand that we are seeing.

Through May total demand was up 8.2% and that is in relationship to 2010 which was up 3.2%.

So we are seeing total demand accelerate in the first half of this year.

You know, as we said, we are certainly concerned about some items in the back half, largely the economy and the fragile nature of the worldwide consumer, but we are very pleased with where we see retail sales.

So, as we took up guidance, we took several things into consideration.

One is our year-to-date performance and again a lot based on the fact that the brand is strong, our market share is good, and then, secondly, we looked at the capacity side which was the other part of your question.

And there are capacity constraints as we are still moving a tremendous amount of pieces of our York facility.

But at this time we are confident that we can deliver shipments of 228,000 to 235,000 units and, again, we feel very good about where we are at.

Rod Lache with Deutsche Bank.

Good morning, everyone.

It is Pat Nolan on for Rod.

Just one, just housekeeping and then one question.

The housekeeping question, could you just tell us what the provisioning was in the quarter versus the charge-offs for HDFS?

And as far as the question would be, can you maybe just expand on how you see the manufacturing efficiencies continuing over the next few quarters and just when do you think we will see actually gross margins improve on a year-over-year basis, to show some leverage to the volume growth in [HP] improvement you've been seeing?

I'll take the first part and the allowance rec.

At the end of the first quarter, we had an allowance of $159.7 million.

The provision this quarter was actually a credit of $6.8 million with the reduction in the reserve rate.

And then the net charge-offs were about $8.5 million, leaving us with an allowance at the end of the second quarter of $144.4 million.

And Pat, I'll take the second part of the question, which was the manufacturing efficiencies.

First of all, in the second quarter from a manufacturing perspective, we were favorable by $7.2 million.

And that follows a first quarter that was unfavorable by $21 million.

So we are very pleased with the activities that are going on in manufacturing.

So in the first quarter as we talked about, we felt we hit a high water mark of temporary inefficiencies driven by the transformation of York of $11 million.

That came down in the second quarter and posted about $11 million -- or $8 million of temporary inefficiencies at York, but we are starting to see the restructuring savings come through and, therefore, it has turned positive.

So, as we look forward, we are going to have the experience of temporary inefficiencies throughout the remainder of our work at York, which will take us through the first half of next year.

However the back half, we will be lapping some inefficiencies of about $4 million in the 3rd quarter and $5 million in the 4th quarter.

So we expect that to still be negative, but a little bit more favorable.

Overall, when you talk about the gross margin percent again we are pleased that everything is now positive in the second quarter with the exception of raw materials.

And the raw materials has quite a drag on the overall margin percent.

The other thing that is pulling the percent down a little bit is the fact that the currency while we've turned positive on currency for the quarter, we are now at $[4] million favorable, there was a big impact on revenue for the quarter.

So revenue actually during the quarter was positively impacted by $45 million.

So that also affects our percent margin on a year-over-year basis.

It kind of drags it down a little bit because currency is only being added at about an 8% margin versus the motorcycle business that's in the 35% range.

Greg Badishkanian from Citigroup.

Great, thank you.

Great quarter and I'm just wondering, in terms of you had nice acceleration in retail sales, is there any plans to kind of change your targets of slightly increasing dealer levels, maybe a little bit more to accommodate if the growth continues?

Greg, are you referring to inventory levels?

Yes, inventory levels at the dealer level, yes.

As we've said all along, right now we believe that the inventories are a little bit lower than we would like on a go-forward basis on the size of the business that we have.

Again, given some of the constraints and how well retail sales are inventories were down again in the second quarter on a year-over-year basis about 3,500 units.

As we move forward through the remainder of the year, we would hope to build up inventories a little bit to be a little bit ahead of where we were at the end of last year.

So and at that time we felt again on an ongoing business that we were a little bit lower than we needed to be.

Actually inventories at this point in the second quarter go back to about 2002 levels.

Let me jump in, this is Keith.

You know, it's consistent with one of the things that we have been saying now for quite some time and that is, we are really focused on managing our supply in line with demand.

So this is something that we look at on a daily basis, but more importantly as we get through our manufacturing transformation, this is one of the important things to note is that we will then have the flexibility to be able to flex up and down much more quickly as these demand pattern and/or seasonal patterns occur.

Patrick Archambault with Goldman Sachs.

Good morning.

My question -- this may be more for Larry, I was wondering about HDFS.

Can you give us a sense of how much now that you are actually seeing sales grow presumably managed receivables will also grow and how much of that can you fund with the equity that is currently on the HDFS balance sheet and how much we'll need additional cash to service that growth?

I think if I remember well, your leverage covenant was something like 10 times.

Can you just kind of give us a sense of that?

We are actually, I think, pretty well-capitalized at HDFS.

We have got over $900 million in equity.

Our leverage today, five to six times.

So we have got a lot of room from that standpoint.

I would say that is not a concern at the moment.

Okay, and you can, just for clarification, you can go all the way up to 10 times?

That is the way the covenant is set.

That's correct.

Okay, great.

Thank you very much.

Robin Farley with UBS.

I know you talked about repo values for HDFS, but talking outside of HDFS, just sales of used bikes at the retail level, can you talk about what kind of pricing gap you see between used and new bike sales at the retail level and what's ideal in your view?

Hi Robin, this is John.

We don't have an exact number because there are so many models, used bikes have so much parts and accessories on it, there is no standard look at it.

It is something that we monitor and we look across several sources, including wholesale, retail, survey data, repo data, to understand what is happening with used bike prices.

And the good news is, is that over the last several quarters, used bikes continue to firm and that gap is closing.

And as that gap is closing, we are starting to see retail sales start to improve and certainly we noted that in the first quarter with the US retail being up 7.5%.

So through again May, total demand was up 8.2% and that was really driven by again used bike sales, which were up over 11% during that period of time.

Is there a kind of ballpark range you could give us just to have a sense of as that gap is narrowing between used and new bike prices, how much it has narrowed versus where you kind of like it to be or where you're trying to manage it to be?

Are you halfway there, or 10% of the way there, or 90% of the way there?

There is no -- it's not that precise of a science.

We are making great improvement and that improvement is steady and on a every quarter in and quarter out basis and we are looking to get back to where we were pre-downturn.

And, again, everything is moving in the right direction.

Gerrick Johnson with BMO Capital Markets.

Good morning.

I just had a couple of questions on competition.

Constraints from Japanese production due to the earthquake/tsunami, are they showing up in dealer supply yet and how do you anticipate that affecting your business?

We don't have great visibility to what is happening in the supply disruption to our competition.

Certainly we have seen as a lot of others have seen it seems that Honda and Yamaha are probably hit the hardest and we are getting reports that there are some models, new models that they have that are backed up.

Now having said that, as we look at those competitors, they are selling nearly 70% in the second quarter were still old model year motorcycles.

So I think they are having some troubles, but again they are still seemingly a lot of old model year bikes out there that are being sold.

Ed Aaron with RBC Capital Markets.

Thanks for taking the follow up.

Just wanted, John, a couple of margins-related questions.

So on SG&A, I think that you mentioned that second half would be similar to first half.

Was that in absolute dollar terms, or in terms of year-over-year change?

And then also on the gross margin side, I think you made a comment in your prepared remarks about some impact from the contingency plans affecting the full year gross margin, could you maybe quantify that for us?

SG&A is --.

We are looking at a rate of spend; through the first half was about 5.9%.

We expect a similar rate of spend through the back half of the year.

And now, Ed, with regards to that, we talked about in the fourth quarter of 2010 we had a one-time item that affected SG&A by about $15 million.

And that is us exiting the exclusive dealer arrangements that we had in Brazil.

So the underlying SG&A rate is more similar to the first half, but then we will benefit from that year-over-year impact of the fourth quarter of last year spend.

With regards to gross margin is, yes, you know we couldn't be more thrilled with the materials organization and the fact that we are continuing to make our Touring motorcycles with radios.

However, there is a cost with regards to that.

As we had mentioned last quarter, we changed our shipping locations and you can see some of that in the shipment date of between the US and Japan.

There is some impacts on mix.

And then there is just an overall cost of retooling other suppliers and so on and so forth.

We do not have a number for that and those costs and expenses continue.

I would say that they are an irritant at this point.

They are nothing [due to] material, but they are what we have also factored in when we looked at our gross margin guidance going forward of 34% to 35%.

But John, to the extent that the gross margin guidance didn't come up, at least at the high end, along with your production, is that the main explanation for why that would be?

I think it is certainly a contributor, but from a materials -- a raw materials standpoint is much greater than the Japan supply issue would be.

But yes, that was a part of it.

Tim Conder with Wells Fargo Securities.

Actually just two clarifications there.

So you are saying, John, that the drop in the international mix that we saw in the quarter year over year was -- is that largely due to the decline in the shipments to Japan?

And then, again, just a clarification, the restructuring amount that you have included in COGS, the restructuring expenses part portion in COGS this quarter?

Could you repeat the first question?

Yes.

The -- I guess your -- the shift of the international sales down as far as the international domestic mix in the quarter, was the majority of that what you were explaining in the prior question, (multiple speakers) reduction in shipments to Japan or is it something else going on internationally?

No.

As right when the crisis hit, we had more of a demand for Touring bikes in the US and we had better inventories in our international markets.

So we, at that point, stopped shipping Touring bikes to our international markets to make sure that we had enough demand here.

So that was a big driver of that.

And, the second question that you had is restructuring expense and cost of goods sold.

Right now all restructuring expense comes through in SG&A and it does not affect the cost of goods sold line item.

James Hardiman with Longbow Research.

First, just to close out the international conversation, can you speak to the retail in Japan?

It actually doesn't look that bad given what is going on over there.

And then in Brazil can you (technical difficulties) the -- is there a way you can break out the Brazil number for the quarter and I guess it sounds like you are still feeling a drag from the changeover, but I guess coming out of the second quarter, do you feel like you are 100% up to speed in Brazil and ready to go full bore here from here on out?

Yes.

Again, as we had mentioned, Japan -- given the downturn of our sales that started on March 11, we ended up in the first quarter down 9.3%.

And we couldn't be more pleased with where they are at, being down I think it was only about 3.6% in the second quarter and the resilience of that market and those customers is incredibly impressive.

So our team in Japan has done a wonderful job working through the issues.

As we had talked about at that time, we had very few of our dealerships that got directly caught up in it, but I think there was a couple.

And we couldn't be more pleased with the retail sales from that despite them being down.

With regards to Brazil, as we had talked about halfway through the first quarter, we changed out the nine existing dealers that we had.

We terminated them all and started to appoint new dealers.

At this point, as we end the second quarter, we have got 10 dealers appointed.

Six of them are off selling product and of those six about half of them are selling product in temporary locations.

So we have got a lot more improvement to come from Brazil, but, James, we do not break out Brazil from the Latin American numbers, but that is -- the vast majority of the sales are in Brazil and despite that, we saw sales only down 1% in the second quarter.

Again, we couldn't be more pleased with that transition and the team that's working at our business in Brazil.

Okay.

And then just momentum within the quarter.

I mean, obviously, you guys don't break out the quarter in any way, but just qualitatively, I mean, the concern throughout the whole consumer discretionary space is that, from a macro perspective, things slow down here in the second quarter.

Is what you are seeing, does it corroborate that?

Does it counter that?

I mean, ultimately, can you give us any qualitative indication of what the momentum looked like within the quarter and if you want to talk about July that would be great as well.

(laughter).

We can't talk about July and we do not break out the months within any given quarter.

We can say what we have seen in the last several quarters is the momentum in the business continues to improve.

I think from the peak of the worst quarter that we had was in second quarter of 2009.

For that eight ensuing quarters, we have seen improvements in all but one of them and that was pretty much a flat quarter-over-quarter basis.

So the strength of the business continues.

As we talked about, the total demand for our products continues to grow and we continue to narrow the used and new bike prices.

So we feel very good about the overall momentum of our business and, obviously, resulting in us taking up the shipment guidance, the 228,000 to 235,000 units.

Patrick Archambault with Goldman Sachs.

Yes, just on the back of the envelope based on your new guidance, if you are planning on building inventories, it still would seem like -- I mean, depending on what level you build, that you are looking for a reasonable back half loaded performance year on year from a retail point of view.

And I was just wondering can you just tell us a little more about the role of increasing inventories in that?

You know, I mean it is impressive that you guys managed to see such an improvement in Q2 with still pretty big inventory constraints.

How much is additional vehicle or additional motorcycle stocks going to help you on that front?

If the question is are we losing sales at retail, we do not believe we are losing any significant -- we are not losing sales at retail to our competitors.

Low inventories out in the field may be having an effect on retail sales.

There are a couple of things I could be happening and we could see consumers that can't find what they want new that are looking at the value offered by used bikes and moving to used, which certainly supports our strategy to narrow the gap between new and used.

And we are seeing at times the customers are waiting a little bit to get the exact color or some of the features and benefits on that bike with the exact model that they want.

But I think the important part is, is that we see no evidence that's certainly reflected in our market share and the gains for the second quarter that we are losing any sales to the competition.

There are no further questions at this time.

I turn the call back over to the presenters.

Thank you for your time this morning.

We appreciate your investment in Harley-Davidson.

Thanks, John.

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