Harley-Davidson Inc.

MASTERPROJECT – FINANCIAL ANALYSIS PROJECT THESIS DIRECTOR: JEAN-BAPTISTE BELLON

ALEXANDRE DELCOMMUNE PAVEL SOKOLOV

EDHEC BUSINESS SCHOOL | MSc Finance 2014-2015

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Table of Contents Part 1: Analysis of the business model and DNA ................................................................. 2

Introduction .................................................................................................................................. 2 History ............................................................................................................................................. 2 Ownership Structure and Control ........................................................................................ 3 Corporate Governance .............................................................................................................. 4 A Global Business Strategy ...................................................................................................... 5 Production strategy .................................................................................................................... 7 Porter Competitiveness Analysis .......................................................................................... 9 Main Competitors ..................................................................................................................... 10 Harley-Davidson Market Position ..................................................................................... 12

Part 2: Analysis of past performance .................................................................................... 14

Revenue Analysis ..................................................................................................................... 14 Profitability ................................................................................................................................. 16 Liquidity, Solvency and Capital Structure ...................................................................... 17 Economic return ....................................................................................................................... 19 General remarks ....................................................................................................................... 20

Part 3: SWOT Analysis ................................................................................................................ 22

Harley-Davidson Group Strengths .................................................................................... 22 Harley-Davidson Group Weaknesses ............................................................................... 23 Harley-Davidson Group Opportunities ............................................................................ 24 Harley-Davidson Group Threats ........................................................................................ 25

Part 4: Valuation ............................................................................................................................ 26

Introduction ............................................................................................................................... 26 Stock price evolution .............................................................................................................. 26 Analysts' recommendations ................................................................................................. 30 Valuation ..................................................................................................................................... 32

Discounted Cash Flow Analysis ..................................................................................... 32 Comparable Companies Analysis .................................................................................. 34

Conclusion ....................................................................................................................................... 36

Appendix .......................................................................................................................................... 37

Bibliography & Sources of Data ............................................................................................... 48

End notes .......................................................................................................................................... 49

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Part 1: Analysis of the business model and DNA

Introduction Harley-Davidson is the world's leading and largest manufacturer of heavyweight motorcycles, parts, and accessories, capturing half of the U.S. market and a third of the global marketi, with 267,999 units sold representing sales revenue of $5.57bn in 2014. Harley-Davidson, Inc. is a publicly traded US-based company (NYSE: HOG), which is active in two main business areas: the motorbike and motorbike accessories sector (HDMC) and the financial services sector (HDFS). The HDMC segment sells custom, cruiser, and touring motorcycles and offers a complete line of Harley-Davidson motorcycle parts, accessories, riding gear and apparel, and general merchandise. The company's products are sold to retail customers through a network of independent dealers in North America, EMEA, Asia-Pacific and Latin America regions. The Financial Services division provides wholesale financing to dealers and retail financing and insurance brokerage services to customers. HDFS conducts business primarily in the United States and Canada.

History From humble beginnings to one of the strongest brands in the world The history of Harley Davidson dates back to the beginning of the 20-th century, when a 20 year-old William S. Harley together with his childhood friend Arthur Davidson began to design engine for a motor-bicycle. The motorcycle was finished in 1903 with the help of Arthur's brother, Walter Davidson. Having tested their power-cycle, Harley and Davidson brothers found it unable to climb the hills without pedal assistance. They wrote off their first motor-bicycle as a valuable learning experiment and immediately began to work on an improved second-generation machine. In September of 1907, Harley-Davidson became an incorporated business, and on October 26th 1907, the four founders (William Harley, William Davidson, Arthur Davidson and Walter Davidson) became part of the Motor Company’s first Board of Directors. In 1950s and 1960s, Harleys were the bikes for those who were defined as not fitting into society and who didn't care much about that (ex: Hells Angels). They personified the motorcyclist mystique – large, tough and dangerous outlaws clad in black leather and covered in tattoos. That image of a tough-guy's bike impressed young boomer males. Like much of the American culture, that spread worldwide, resulting in the boom of sales in 1970, when baby boomers came into their 20s.

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In 1980s, sales went down as boomers settled down and raised families. In response to this, Harley-Davidson created Harley Owners Group (H.O.G), a motorcycle enthusiast club. Its benefits included exclusive products and product discounts as well as one year’s full membership with the purchase of a new, unregistered Harley-Davidson. The idea was quite effective and boomers started returning to the ranks of bikers, buying two-wheel vehicles they had been missing for 20 years. The modern history of Harley Davidson starts from the management buyout in 1981, when the motorcycles manufacturer was sold for $80 million by AMF to a group of thirteen investors led by Vaughn Beals and Willie G. Davidson. Since that, the company has been rapidly developing delivering high-quality motorcycles and improving its brand recognition. Indeed, Harley-Davidson motorcycles are so distinctive that the company even wanted to trademark the «Harley sound» in the mid of 90s. As Warren Buffet once said about Harley Davidson: “I like the kind of business where your customers tattoo your name on their chests”.

Ownership Structure and Control Between 1986 and 2014, the shareholder structure of the Company evolved

from a privately held family-owned equity structure into a publicly listed

company in the hands of mutual funds and institutional investors, registered as

the major shareholders.

As of April 2015, the Harley Davidson Company accounts for a market

capitalization of US $12 billion with 211 million shares listed under the ticker

label “HOG” (Harley-Davidson Ownership Group), at the New York Stock

Exchange.

The majority shareholders are institutional investors and mutual funds, holding

more than 82.2% of the shares, leaving the remaining 17.8% to the firm’s

personnel, management, historical family shareholders, and the greater public.

54.89%27.28%

0.04%

17.79%

HOG ownership structure

Institutional Funds Mutual Funds

Insiders Other

988

897

645

574

537

VanguardGroup

WellingtonManageme…

BaillieGifford & Co

State StreetCorp

FMR LLC

0 500 1000 1500

Top 5 institutions stakes (US $mn)

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In value, institutional investors (i.e. mutual funds and institutional funds) hold

more than $10.7 billion in HOG shares, constituting the largest type of

shareholder group.

Amongst institutional investors, the Vanguard Group heads the list, with 7.54%

of total HOG’s shares held.

Corporate Governance Excellent corporate governance has been a long-standing business practice in Harley-Davidson, as it makes good business sense. Though the company believes that motorcycling business is fun, it takes corporate governance seriously. The board of directors (BoD) is composed of accomplished leaders from a range of industries who meet regularly to review the company's objectives and discuss plans for future growth. They are proud Harley-Davidson enthusiasts, and they work to ensure that the decisions made by the company promote fairness, financial transparency and accountability to all shareholders. The company maintains the following main policies to continue its success in the corporate governance area:

Board Committees: Established Audit, Sustainability, Human Resources,

and Nominating and Corporate Governance committees.

Board Independence: A majority of the BoD members is comprised of

independent directors. These directors must meet their independence

and other requirements of the NYSE and other applicable laws,

regulations and rules.

Committee Independence: The Audit Committee, Human Resources

Committee, and the Nominating and Corporate Governance Committee

are comprised entirely of independent directors

One share – one vote policy: each of the company’s common

shareholders has one vote for one share held. This mechanism helps to

protect minority shareholders against actions of controlling shareholders

such as the right to nominate candidates for the board of directors, pre-

emptive right, right of inspection, appraisal rights, and a right to

dividends.

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A Global Business Strategy Harley-Davidson, Inc. is the parent companyii for the groups of two companies: Harley-Davidson Motor Company (HDMC) and Harley-Davidson Financial Services (HDFS). The Group is split in two business divisions (HDMC and HDFS), which represent two consolidated reportable segments, and four business segments (motorcycles, parts and accessories, merchandising, financial services). The Company’s reportable segments are strategic business units that offer different products and services and are managed separately based on the fundamental differences in their operations.

Activities Structure The Motorcycles reportable segment consists of Harley-Davidson Motor Company which designs, manufactures and sells at wholesale street-legal Harley-Davidson motorcycles as well as a line of motorcycle parts, accessories, general merchandise and related services. The Company’s products are sold to retail customers through a network of independent dealers. This division generated about 89% of the group’s total revenues in 2014. Amongst the business segments integrated in this category are:

- Motorcycles: $4,386 million of sales revenues in 2014 - (70% of

group revenues)

- Parts & accessories: $875 million of sales revenues in 2014 - (14%

of group revenues)

- General Merchandise: $285 million of sales revenues in 2014 - (4.6%

of group revenues)

The Financial Services reportable segment consists of Harley-Davidson Financial Services, which provides wholesale and retail financing and insurance

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and insurance-related programs primarily to Harley-Davidson dealers and their retail customers. HDFS conducts business principally in the United States and Canada and generated $ 661 million of revenues in 2014 (10.6% of group revenues). The HDFS division contributes to the development of business by offering tailored financial solutions to Harley-Davidson’s customers, helping the company to enlarge its client base in North America. In 2014, HDFS delivered services by continuing to finance a majority of new Harley-Davidson motorcycles sold in the U.S. Internationally, HDFS entered into agreements with local lenders, insurance companies and brokers to add 11 finance and insurance programs in Latin America, Asia-Pacific and EMEA during the year, including retail finance programs in Vietnam, Chile, Russia, Portugal and Finland. HDFS now facilitates 82 finance and insurance programs in 32 countries. Global Growth Outlook The Harley-Davidson Company conducts business on a global basis, with sales in four main regions: North America, Europe/Middle East/Africa (EMEA), Asia-Pacific and Latin America. Market shares of these markets will be analyzed later in the report. The global motorcycles market had total revenues of $64.74 billion in 2013, representing a compound annual growth rate (CAGR) of 0.7% between 2009 and 2013. Market consumption volume increased with a CAGR of 2.7% between 2009 and 2013, to reach a total of 44.7 million units sold in 2013, and 45.6 million units in 2014. The performance of the world market for motorcycles is forecasted to accelerate, with an anticipated CAGR of 5.1% for the five-year period 2013 - 2018, which is expected to drive the market to a global value of $82.97 billion by the end of 2018. Three major trends that will drive growth through 2018 are:

An increasing number of households in industrializing countries will be

able to afford motorcycles as personal incomes rise.

Sales of electric motorbikes (e-bikes) and other electric models are

projected to rise sharply outside of China from what are currently very

modest levels of demand.

Motorcycle sales in a number of countries will be stimulated by

government programs, aimed at reducing environmental pollution caused

by automobiles.

Harley-Davidson is expected to benefit from a share of this growing world market, provided that it focuses on high growth emerging markets like Chinaiii, where the motorcycle market is forecasted to accelerate with an anticipated CAGR of 4.2% for the five-year period 2013 – 2018, India with an anticipated

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CAGR of 7.6% for the five-year period 2013 – 2018 iv, and Brazil, where the motorcycle market is expected to grow at a CAGR of 8% from 2013 to 2018. The Russian motorcycles market had growing revenues until 2013, representing a compound annual growth rate (CAGR) of 41.8% between 2009 and 2013, but the performance of the market is forecasted to decelerate, with an anticipated CAGR of 4.3% for the five-year period 2013 – 2018. In this context, Harley-Davidson identified China, India and Brazil as its high-growth targeted prospective marketsv, while maintaining a substantial presence in Japan, - its second largest international market in the world, where it recovered the market leadership in 2014, and Canada, the only market where it lost market share.

Production strategy The Company’s manufacturing strategy is based on the disciplined execution of the Company's Continuous Improvement System (CIS). The focus of CIS is to align people, process and technology to drive world-class manufacturing capability across the firm’s global manufacturing facilities. The Company believes CIS provides the framework to drive the highest levels of safety and quality, increase efficiency and reduce costs, and more effectively adapt to changing customer demands and market expectations. Critical aspects of this manufacturing strategy include flexible manufacturing processes and supply chains, together with cost-competitive and flexible labor agreements. As of 31.12.2014, Harley-Davidson Inc. was operating a 6-plant global production network, with four manufacturing plants located in the U.S., two in Wisconsin, one in Missouri and one in Pennsylvania, together with two international assembly plants located in Brazil and India. The Company operates a “CKD” (Complete Knock Down) assembly facility in Brazil, which assembles motorcycles sold in Brazil from component kits sourced from the Company’s U.S. plants and its suppliers. The Company also operates a manufacturing facility in India, which includes both CKD assembly of certain motorcycles for sale in India, and, beginning in 2014, production of the Company’s Street motorcycles for distribution to markets outside of North America. Like its U.S. manufacturing facilities, the Company’s Brazil and India operations are focused on driving world-class performance through the execution of CIS, with flexible production processes to meet customer demands at reduced lead times. In order to adapt to the timing of retail sales and their respective seasonality, the Company implemented surge manufacturing capabilities at its York,

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Pennsylvania facility in the first half of 2013 and at its Kansas City, Missouri facility in the first half of 2014. Surge manufacturing capabilities provide the Company the flexibility to increase production of motorcycles ahead of and during the peak selling season in the North America region, and to keep inventory levels low in the low selling season. This provides the Company the flexibility to increase the production of motorcycles ahead of and during the peak retail selling season, allowing the Company to more closely correlate the timing of production and wholesale shipments to the retail selling season. As a result of this flexible manufacturing capability, the Company's motorcycle production and wholesale shipments now correlate more closely to the retail selling season in the North America region. Prior to 2013, the Company historically produced and shipped motorcycles at wholesale to its North America region dealers at approximately the same level throughout the year. In markets outside of the North America region, the Company typically distributes motorcycles through regional warehouses. Consequently, independent dealers and distributors in markets outside of the North America region typically do not build significant inventory levels in the non-riding season, and as a result, the wholesale shipments to these markets are generally lower in the non-riding season than in the riding season.

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Porter Competitiveness Analysis Competitive Rivalry Top 5 manufacturers of heavyweight motorcycles represent more than 94% of the global market and 91% of the U.S. market. The industry has seen significant consolidation and clustering over the last ten years, with the buy-out of Ducati by the Volkswagen Group, the purchase and ending of the Buell motorcycles lines by Harley-Davidson, and the revival of the Indian motorcycle brand by Polaris industries. Newcomers need either an existing infrastructure, or the financial and logistical support of an automotive industrial group (e.g. VW, Polaris Industries, Honda, Kawasaki, BMW), to enter the closed world of heavyweight motorcycles industry. Major groups consider the motorcycle segment as a part of their activities, whereas it represents the core business of Harley-Davidson. In order to remain cost-efficient and competitive, major groups resort to partnerships and synergies with suppliers (e.g. Bajaj Motors – Harley-Davidson partnership in India, Ducati-VW-Audi partnership in EU) in order to target new geographical markets and new segments. Relying on low-cost assembly plants in high-growth emerging countries remains another type of tactics to hedge positions in developing markets. New Entrants The industry is characterized by high entry barriers, with high capital requirements, clustering and a necessity for brand recognition prior to enter the market. The risk for existing manufacturers is low, especially since that traditional manufacturers have hedged any potential threats arising from emerging countries, by establishing strategic partnerships with local motorcycles manufacturers there. New entrants developing cutting-edge technologies (e.g. electric motorcycles) often find themselves in need of capital once a certain development threshold has been attained, and rely on partnerships with traditional manufacturers (e.g. Brammo Inc. (electric motorcycles) and Polaris Industries) in order to survive. Customers The customer base is price-sensitive and highly fragmented, whereby switching costs from one brand to another are low, and products in their respective category are standardized. In other words, a 500 cc touring model from Polaris (e.g. Indian Chieftain) will be comparable to Harley’s model in the same category (e.g. Harley-Davidson Street Glide Special).

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Global markets have seen fierce price wars to keep and maintain volatile customers sensitive to price-differentiation in the last 5 years. Substitutes

Substitutes are rare, as new mobility types cannot substitute themselves for existing motorcycles models. The motorcycle industry remains a genuine segment with a faithful customer base. Suppliers The clustering in the motorcycle industry puts suppliers under pressure to reduce their margins and adapt to an international distribution network. Switching costs from one supplier to another are low, and hence, supplier bargaining power is weak, in the heavyweight motorcycle segment. In some cases, suppliers are compelled to close strategic partnerships amongst themselves, so as to develop synergies (e.g. Shorai LFX Batteries with KIMPEX Canada Motorcycles Parts) and reduce costs. vi

Main Competitors Harley is facing a ruthless competition from the heavyweight motorcycles segment industry, in particular from manufacturers of +600 cc engines, both on its domestic U.S. market and on international markets. The competitors take the form of domestic competition, with U.S. based Polaris industries, reviving the Indian motorcycle and Victory market brand, and eroding Harley’s core customer base in the U.S. by taking increasing parts of market shares per year, reaching a 3% market share in 2014. International competition is mostly embodied by Japanese or European manufacturers, such as Honda, Yamaha, BMW or Ducati, focusing on the segments of sports or touring-type of motorcycles, with engines of a capacity greater than 600 cubic centimeters. The sector of heavyweight motorcycles is constituted by manufacturers that either specialize in competition-inspired sports models, or touring models, tailored for long road trips. The Harley-Davidson Company confronts Japanese competitors on their home market, producing heavyweight motorcycles, and trying to reproduce Harley-type models, in the segment of customized leisure-type of motorcycles. Amongst the key assets of Harley with respect to the rest of the industry, are its gross margin (36.4%) and high operating margin (18%), displaying a top-tier profitability in a peers comparison, together with a profit pool benefitted from the dominant market position in the U.S. (55% of market share) on the heavyweight motorcycle segment.

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A major weakness consists in the evolution of its aging core customer base (>35 years old white males), as well as some recent product recalls, which is not in the habits of its international competitors. Indeed, Harley recalled 66,421 Touring and CVO Touring bikes manufactured between July 1, 2013 and May 7, 2014 with anti-lock brakes due to a front-wheel locking problem. The most dynamic and formidable international competitor remains Honda Motor Corporation, displaying a Compound Average Growth rate of 10.9% per year in global motorcycle sales since 2009, and reaching a market share of 11% in the U.Svii. Amongst European competitors, BMW and Ducati display the most efficient concurrence, with a combined global market share averaging 14% of the total heavyweight motorcycle segment. Harley Davidson specializes in motorcycles, while motorcycle sales account for a relatively small portion of its direct competitors' total revenues. For example, Bayerische Motoren Werke, more commonly known as simply BMW, saw only 2.18% of its total revenues in Q2 2014 come from motorcycle sales. Some of HOG's other publicly traded competitors include Honda, Polaris Industries Inc. , Kawasaki Heavy Industries Ltd., Suzuki Motor Co., and Yamaha Motor Co., Ltd. Many of these companies do not trade on a formal U.S. stock exchange; however, they are available for trade Over-The-Counter (OTC) and many of them are listed on the Frankfurt Stock Exchange. Only two of Harley’s main competitors, Honda and Polaris Industries, are traded on a formal U.S. stock exchange. Harley-Davidson also has a few privately held competitors, such as Ducati Motor Holding SpA and Triumph Motorcycles Ltd.

Competitors Units sold

(2014 figures) Motorcycles as

a % of Sales Strong Market

Position Main

Strength Main weakness

Polaris Industries 15 000 6.0% U.S. Product Development

Non-core business with Indian & Victory motorcycle brands

Honda Motorcycles

10.3 mnviii 14.0% U.S. and Asia Distribution Exchange Rate Risk

Ducati 45 117 100.0% U.S., Germany, Italy& U.K.

Sports Model & Brand appeal

No diversification

Kawasaki Heavy Industries

NA 23.2%ix Asia and U.S. Technical innovations

U.S. market presence

BMW 123 465 2.2% Germany, U.S., France, Italy, Brazil.

Polyvalent models

Dependence on EU market

Suzuki 2.03 mn 9.1% Asia and U.S. Automotive synergies

International brand recognition

Yamaha NA 64.3% Japan and U.S. Diversified product offer

International Distribution

Harley-Davidson 267 999 89.0% U.S. Europe and Japan.

Brand name & customer loyalty

Decreasing core customer base / Price /technical recalls

Of all these competitors, financial analysts most frequently compare HOG to Polaris Industries, even though motorcycles accounted for only 8% of Polaris' total sales for FY 2013. The main segments of Polaris Industries' business, as

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described in its 2013 10-K, are: off-road vehicles (67% of FY 2013 sales), snowmobiles (8%), motorcycles (6%), small vehicles (3%), and parts, garments and accessories (16%). Polaris sells two brands of heavyweight motorcycles: Victory and Indian. Polaris entered the heavyweight motorcycle market in 1998, with a Victory motorcycle that belonged to the "cruiser" segment (Victory Motorcycles is the motorcycle manufacturer and Polaris is the parent company), and the company later purchased the Indian Motorcycle brand in 2011. The Indian Motorcycle brand is the oldest motorcycle brand in the United States (founded in 1901), and it is the only brand that has been around longer than Harley-Davidson (founded in 1903). Polaris revived the Indian Motorcycle brand, which used to be owned by an independent company initially known as the "Indian Motorcycle Co.," after its founding company eventually stopped production when it went bankrupt in 1953.

Harley-Davidson Market Position In 2014, the Harley-Davidson Motor Company reached a U.S. market share of 54.1% in terms of revenues from sales of heavy motorcycles, down from 54.6% in 2013 and 53.6% in 2012. U.S. Heavyweight Motorcycle sales accounted in 2014 for over about 64% of the company’s overall motorcycle sales, making it the largest single geographic market for Harley-Davidson. Over the past few years, overall heavyweight motorcycle sales have declined significantly in the U.S. while international sales have increased slightly. International sales composed about 37% of Harley’s total retail worldwide unit

sales in 2014.x

The firm continues to maintain leading domestic market share in an uncertain environment, which speaks highly about the brand. Domestic (U.S.) unit sales increased less than 1% for Harley Davidson in 2014, while industry unit sales expanded

2.5%, and European retail sales rose by 8% versus a European industry increase of sales of 13%, indicating some recent weakness in market share evolutionxi. Revenues from international and emerging markets (excluding U.S. and Europe)

53

53.5

54

54.5

55

2012 2013 2014 2015 E

Harley Davidson US Market Share

14.2

14.4

14.6

14.8

15

15.2

2012 2013 2014 2015 E

Harley Davidson European Market Share

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have consistently risen while U.S. revenues still haven't reverted to pre-recession days. The U.S. market did show signs of recovery and the total US sales have grown by nearly 12% between 2011-2013.xii In 2013, the Company’s revenue from international sales of motorcycles and related products to independent dealers and distributors located outside of the United States was approximately $1.361 billion, or approximately 32.5% of net revenue of the Motorcycles segment. In 2013, worldwide independent dealer retail sales of new Harley-Davidson motorcycles grew by 4.4% compared to 2012, including a 4.4% increase in the U.S. and a 4.3% increase in international marketsxiii. Europe accounted for about 50% of international sales, Canada for about 3.8%, while Japan accounted for 5.6%xiv. International sales accounted for 36% of the company’s total revenues from sales. In 2014, last recorded year, retail unit sales for 2014 were up 1.3 percent in the U.S., 11.8 percent in the Asia Pacific region, 6.4 percent in the EMEA (Europe, Middle East, Africa) region, 2.1 percent in the Latin American region. The only region displaying a downward trend in retail unit sales was Canada, where sales were down 10.8 percent. In terms of revenues generated by geographic region, the U.S. remains the major market, followed by the EMEA regionxv, accounting for more than 15% of total revenues generated in 2014, followed by Canada, Japan and Australia, and other remaining regions (i.e. Latin America, India, China and other Asian countries).

54%

4%

10%

10%

10%

5% 7%

U.S. Motorcycle Market Share 2014

Harley Davidson Polaris Honda Kawasaki Yahama BMW Other

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Part 2: Analysis of past performance

Revenue Analysis Company's revenues are generated by 2 segments – Motorcycles & Components (HDMC) and Financial Services (HDFS). The first division accounts for around 89% of Harley's sales, while second – for the remaining 11%, and this balance stayed pretty the same during the last 3 years. Having been rising by 6.1% annually since 2012, HDMC sales reached $5.6bn in 2014.

HDMC Sales ($ thousands) 2012 2013 2014

North America Region

United States 3,363,640 3,562,847 3,773,087 Canada 186,550 204,315 194,422 Total North America Region 3,550,190 3,767,162 3,967,509 EMEA

710,861 769,864 869,690

Japan 244,907 217,700 197,792 Australia 186,674 193,081 190,029 Other countries 249,950 310,483 342,661

Total Revenue From Motorcycles 4,942,582 5,258,290 5,567,681

HDMC Sales (units) 2012 2013 2014

North America Region

United States 161,678 168,863 171,079 Canada 10,573 11,062 9,871

Total North America Region 172,251 179,925 180,950 EMEA

Europe 37,027 36,076 38,491 Other 6,000 6,533 6,832 Total EMEA 43,027 42,609 45,323 Asia Pacific

Japan 10,642 10,751 10,775

Other 13,839 16,139 19,299 Total Asia Pacific 24,481 26,890 30,074 Latin America 10,090 11,415 11,652

Total Worldwide Sales 249,849 260,839 267,999

Growth rate over the last 3 years was about 2 times lower than the one for 2000—2006 period, where it was 12.5% annually. The main reason for this is the financial crisis of 2008. Motorcycle sales still haven’t recovered from it (Harley sold 350,000 motorcycles in 2006 vs. 268,000 in 2014).

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In addition to this, sales in Europe worsened as a result of a European debt crisis and consequent slow growth of the economy (2009-2014 CAGR of Harley motorcycles sold in Europe was only 1.1%) Another reason is the ageing of one of Harley’s primary consumers group – baby boomers. However, the first two problems are common for the whole motorcycle industry. As for the ageing of baby boomers, the company anticipated it well in advance and as such several CEOs ago began an effort to attract buyers born after 1964. Indeed, if we take a look at Harley’s revenue share in its primary geographical market – US, we can see that over the last 3 years it was fluctuating around 54%xvi, being 53.3% currently. So, we can say that Harley’s market share remains pretty stable.

The same picture can be observed on the European market, where Harley’s share currently constitutes 12% with 12.3% average over the last 3 years.

In 2014, the company sold 64% of its bikes on domestic market (US), 17% in EMEA, 11% in Asian region, 4% in Latin America and 4% in Canada. Pretty the same regional composition of sales was seen in 2013 and 2012 years. While Harley-Davidson remains an absolute leader in the United States with a share of over 50%, it has much weaker presence in European region meeting around 12% of the total demand on heavyweight motorcycles. Such difference can be explained by different customer preferences in these parts of the world – sportbike category represented nearly 38% of the European 601+cc market in 2014 vs. 10% in the US, while the touring and cruiser categories represented

only 26% in the region vs. 77% in the US. Given that the company specializes in touring and custom bikes (79% of total units produced), it is not a surprise that we can see such a difference in Harley’s sales in European and American regions. Trying to geographically diversify its business, Harley-Davidson set a target – 40% of sales should come from abroad by 2014.

U.S. Motorcycle Registration Data 601+cc (Units in thousands)

2012 2013 2014

Total new motorcycle registrations 299.4 305.9 313.6 Harley-Davidson new registrations 161.3 167.8 167.1

Harley's share 53.9% 54.9% 53.3%

European Motorcycle Registration Data 601+cc (Units in thousands)

2012 2013 2014

Total new motorcycle registrations 319.8 281.8 300.4 Harley-Davidson new registrations 38.5 36.1 36.2

Harley's share 12.0% 12.8% 12.1%

79%

16%

5%

HDMC Product Sales (2014)

Motorcycles

Parts & Accessories

General Merchandise

Other

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However, in 2012 the company stopped believing it’s possible with only 35.3% of the motorcycles sold abroad that year and increasing economic turmoil in its most important international region – Europe. Considering the product composition, HDMC segment earns primarily from Motorcycles sales (ca. 79%), while Parts & Accessories segment brings around 16% of motorcycle revenue and General Merchandise accounts for additional 5%.

Financial services segment (HDFS) was growing at a CAGR of 1.8% over the last 3 years, reaching $661mn revenue by the end of 2014. HDFS conducts business principally in the US and Canada.

Profitability

Operating income from the Motorcycles segment was up $132.5 million over 2013 led by a 3.9% increase in wholesale shipments of Harley-Davidson motorcycles. In addition, Motorcycles operating income benefited during 2014 from model-year price increases as well as a stronger product mix. During 2009-2013 years

the company implemented restructuring of its U.S. manufacturing plants that would allow it to become more flexible and cost competitive. These implementations resulted in the gradual improvement of Harley’s Motorcycle segment profitability. Gross margin increased from 32.3% in 2009 to 36.5% in 2014, while operating margin more than doubled over the same period – from 7.3% to 16.7%. Finally, net profit margin increased dramatically from the increase in EBIT margin as well as the increase in investment income – from 0.7% to 14.1% over 2009-2013 time interval.

HDFS Sales ($mn) 2012 2013 2014

United States 607.9 609.6 627.3 Canada 24.5 24.5 23.7 Europe 3.7 4.3 5.7 Other countries 1.8 3.2 4.1

Total Sales 637.9 641.6 660.8

30%

31%

32%

33%

34%

35%

36%

37%

--

500,000

1,000,000

1,500,000

2,000,000

2,500,000

2009 2010 2011 2012 2013 2014

HDMC Gross figures

Gross Profit ($ thousands) Gross margin

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As for the financial services segment, its operating income was down slightly from the prior year, falling $5.3 million, or 1.9% mainly because of a higher provision for credit losses. Amid growing revenues, this decline resulted in a drop in operating margin from 43% level in 2012-2013 to 41% currently. Going forward, the Company anticipates further pressure on Financial Services operating income as a result of higher credit losses, tightening net interest margins, increasing competition and higher borrowing costs. Overall, having its EBIT margin decreased by half in 2009 as a result of financial crisis, Harley-Davidson

group managed to come back to pre-crisis operating efficiency levels.

Liquidity, Solvency and Capital Structure

Harley-Davidson carries substantial amounts of debt on its balance sheet (D/E of 182%) as it is required to finance its Financial Services division and offer loans to customers. HDFS arm may undermine company’s financial stability as it generates both increased financial risk and weak profitability when credit

standards tighten or credit markets become less liquid. However, the company strives to hold enough liquid assets to cover its cash needs for 12 months. It is a sensible strategy, given the risks HDFS brings to the group. Still, if we take a look at the coverage metrics, we can find out that CFO/Interest expense is 275x now (so high due to retirement of $303 million of senior unsecured long-term debt in February 2014) with 19.5x average for 2011-2012

Leverage Ratios 2012 2013 2014

LT Debt/Equity 1.65 1.40 1.21

LT Debt/Total Capital 0.52 0.49 0.43

LT Debt/Assets 0.44 0.42 0.38

Total Debt/Assets 0.57 0.56 0.57

Debt/Equity 2.17 1.86 1.82

Debt/Capital 0.69 0.65 0.65

Net Debt/Equity 1.51 1.38 1.42

Net Debt/Capital 0.48 0.48 0.50

0.0%

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HDMC Operating figures

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Net Income ($thousands) Net margin

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period. This implies that the company generates more than enough cash to meet its interest payments. At the same time, CFO/Total debt and FFO/Total debt are improving, shortening the time Harley needs to repay all debt.

Cash Flow Activity ($thousands) 2012 2013 2014

Cash from Operating Activities 801,458 977,093 1,146,677

Cash from Investment Activities (261,311) (568,867) (744,650)

Cash from Financing Activities (990,073) (393,209) (536,096)

Exchange Rate Effect (8,886) (16,543) (25,863)

Net change in Cash & Equivalents (458,812) (1,526) (159,932)

Operating Activities The increase of operating cash flows in 2014 over 2013 was mainly because of increased earnings, decrease in working capital as well as lower pension contributions. Larger operating cash flows in 2013 in comparison to 2012 were primarily due to increased earnings and favorable changes in working capital. Investing Activities Company’s investing activities consist primarily of CAPEX, net changes in finance receivables as well as short-tem investments. Harley’s capital expenditures were $232mn, in 2014, $208mn in 2013 and $189mn in 2012. Net cash flows from finance receivables were $143mn lower in 2014 than in 2013 as a result of an increase in motorcycle loan originations during 2014. The same reason explains $321mn negative difference between 2013 and 2012 figures. Changes in company’s value of marketable securities positively affected investing cash flows during the last 3 years with the corresponding figures of $41mn, $35mn and $18mn for 2014, 2013 and 2012 respectively.

Coverage Ratios 2012 2013 2014

Net Debt/EBITDA 3.18 2.89 2.89

Net Debt/(EBITDA-Capex) 3.79 3.43 3.44

Total Debt/EBITDA 4.58 3.91 3.71

EBIT/Interest Expense 22.02 25.56 305.86

EBITDA/Interest Expense 25.70 29.26 348.94

CFO/Interest Expense 17.41 21.59 275.34

Cash Dividend Coverage Ratio 6.46 5.72 5.00

LT Debt/EBITDA 3.47 2.94 2.47

Net Debt/Funds From Operations (FFO) 4.11 3.57 3.52

LT Debt/FFO 4.49 3.63 3.01

FCF/Total Debt 0.11 0.15 0.17

CFO/Total Debt 0.15 0.19 0.21

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Financing Activities Company’s financing activities consist mainly of dividend payments, share repurchases and debt activity. Being currently around ($536mn), it jumped from ($990mn) in 2012 to ($393mn) in 2013. The explanation for negative values comes from company’s share repurchases as well as dividends paid that exceed the amount of equity capital and debt raised. The company paid dividends of $238mn in total or $1.1 per share in 2014, $188mn or $0.84 per share in 2013 and $142mn or $0.62 per share in 2012. Share repurchases, in turn, constituted $616mn or 9.3 million common shares in 2014, $479mn or 8.2 million common shares in 2013 and $312mn or 6.7 million common shares in 2012 Fluctuation of cash flows from financing activities is, in turn, caused by Harley’s alternation from net reduction of debt to net issuance that took place in 2012.

Economic return EPS as well as Sales per Share have been rising during the last 3 years, as a direct result of Sales and Income improvement combined with a decline in the number of shares outstanding. Cash reserves fall at a greater rate than the number of shares, so now only $5.02 per share is immediately accessible for spending versus $6.16 in 2012. This trend of distribution of money to shareholders is healthy, given that the company can cover all its operating and investment outflows with cash generated by operating activities and is still left with cash in case of unpredicted charges. Per Share Data 2012 2013 2014

Earnings per Share ($) 2.75 3.30 3.90

Sales per Share (S) 24.68 26.82 29.40

Cash per Share ($) 6.16 5.96 5.02

Payout ratio, as well as dividend per share, also reflects the company’s willingness to distribute cash to its shareholders. Dividend per share paid in 2014 was almost twice the size of the one in 2012, as a result of higher EPS as well as higher proportion of income paid out (greater payout ratio). Dividend Information 2012 2013 2014

Payout Ratio 0.23 0.26 0.28

Dividend per Share ($) 0.62 0.84 1.10

Company’s ability to efficiently reinvest earnings can be described by ROE, ROA, ROIC ratios. Return on equity (ROE) reflects how efficiently the management uses reinvested earnings to generate return to the company’s shareholders.

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Return on asset (ROA) shows how effectively the assets of the company are used to generate earnings. It is a better indicator of operating efficiency, since it is not levered as ROE and doesn’t focus only on the cash flows attributable to shareholders. Return on Invested Capital (ROIC) and Cash Flow Return on Invested Capital are used to assess a company’s efficiency in allocating capital under control to profitable investments. The figure can be compares with WACC to reveal whether invested capital was used effectively. All these figures were rising for Harley over the last 3 years, representing a good management work and efficient use of investment resources. In a more detailed analysis of ROE, we can identify its main drivers – Net Profit Margin, Asset Turnover and Equity Multiplier (Assets to Equity which can be treated as a leverage indicator). Net profit margin increase as well as improvement in generation of sales per assets positively affects return on equity. Equity multiplier, however, decreased in 2013 due to 18% shareholders’ value increase along with only 3% increase in assets. In 2014 Harley’s equity multiplier decreased again but increasing Profit Margin and Asset Turnover offset this effect and resulted in a more than 2% improvement of ROE from 26.37% to 28.54%.

Returnsxvii 2012 2013 2014

Return on Equity 25.07% 26.37% 28.54%

Return on Assets 5.74% 6.62% 7.90%

Return on Invested Capital 10.5% 11.5% 11.7%

Cash Flow Return on Invested Capital 13% 15% 16%

Dupont Analysis 2012 2013 2014

Net Profit Margin 11.18% 12.44% 13.56%

Asset Turnover 0.59 0.64 0.66

Equity Multiplier 3.79 3.34 3.20

ROE 25.07% 26.37% 28.54%

General remarks 2014 was a successful year for Harley-Davidson group in terms of company’s sales growth as well as profitability improvement. Moreover, the motorcycle producer has shown a stable positive trend in these areas over the last several years what makes us believe sales and profitability improvement is likely to continue in consequent years. Although the company’s market share has declined on 2 of its largest markets – US and Europe, Harley-Davidson motorcycle segment still maintains its leading

21

position with a share on U.S. market greater than 50%. Given the current uncertain environment, company’s performance speaks highly about the brand. The group has pretty high leverage due to HDFS segment what may cause a deterioration of company’s credit ratings and higher cost of debt as a result. However, the company has been decreasing its leverage over the last 3 years. Moreover, Harley-Davidson prefers organic growth to M&A activity and is able to fund it from its operating activities, so debt issuance is primarily used for stock repurchases and dividend payments when the markets provide good conditions for this.

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Part 3: SWOT Analysis

Harley-Davidson Group Strengths Strong and well-recognized brand Harley-Davidson remains one of the strongest and well-recognized brands in the world, which helps the company to attract and retain loyal clients.

Wide range of products and services provided Harley-Davidson offers a broad portfolio of products and services through its two business segments – HDMC and HDFS. The company offers a variety of products within its HDMC segment to meet the needs of different customers. Harley-Davidson designs, manufactures and sells motorcycles of six different categories: Touring, Softail, Dyna, Sportster, Vrod and Street. The models of these categories differ by their frames, engines, and other characteristics. In addition to this, HDMC segment is involved in motorcycle parts, accessories, general merchandise and related services businesses. HDFS segment allows the company to offer a package of financial services for its products to customers and dealer centers, giving it competitive advantage in capturing higher market share in the regions where these services are primarily provided – U.S. and Canada. Active research and development program Harley-Davidson pursues a strong R&D program that facilitates innovation and brings additional attention to the company’s products. Its Product Development Center undertakes creation and testing of innovative and better quality products. The company’s R&D activities focus on product development to continuously maintain innovation. Harley-Davidson incurred R&D expenses of $138.3mn, $152.2mn and $137.3mn in 2014, 2013 and 2012 respectively, representing 2.7% of HDMC sales on average. Company’s continuous focus on R&D program results in launching of new models such as Softail bikes with 1584cc engines, equipped with new features like new hand controls and anti-lock braking system option. At the same time, active R&D program helps company to maintain leading positions in touring and custom motorbike segments as well as improve company’s overall operating performance. Improving profitability Having launched restructuring program in 2009, Harley-Davidson group has achieved impressive results, pulling up gross profit margin from 35.4% to 38.2%, operating profit margin from 15.2% to 20.4% and net profit margin from 3.0% to 13.6% over the 2009-2014 period.

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Harley-Davidson Group Weaknesses Heavy dependence on domestic market Harley-Davidson is focused primarily on its domestic market – U.S. region, with 70.6% of revenues originating from there (63.8% for HDMC and 94.9% for HDFS). As a result, company’s performance is very dependent on regional factors such as economic and political situation, demographics, weather conditions, making the group more risky in comparison to more geographically well-balanced competitors. Heavy dependence on baby boomers Harley Davidson is the brand whose sales dependent almost entirely on middle-aged people, particularly Caucasian males. The category of so-called baby boomers is becoming older and their demand on the motorcycles and related products of the company falls. Though Harley has started its program of attracting younger generation several CEOs ago, the average age of customers is still going up. Moreover, the loyalty of younger generation to Harley-Davidson brand is limited, given a current diversity of models suggested by competitors. For them, Harley bikes do not represent totems of rebellion as they did for their parents and grandparents in 1960s and 1970s. So, in the end, the lack of customer base diversification is likely to dampen group’s revenues and significantly worsen its positions even on the U.S. market.

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Harley-Davidson Group Opportunities

Emerging markets The company's presence in emerging countries such as India can be very beneficial. First of all, the demand on heavyweight motorcycles in the region is rapidly increasing. The market for motorcycles with engine displacement above 500cc almost doubled in a fiscal year ending April 2013 to 16,000 units from 9000 units sold in 2012. Harley already has a dominant position in the country with 88% market share in the 800cc-1600cc segment. With increasing disposable incomes and rising proportion of high-income groups in India, sales of the company can grow further. The number of high net-worth individuals (individuals with investable assets of $1mn or more) is expected to increase 7 times from current figures and reach around 1.5 million by 2020. Secondly, the company can enter a lightweight motorcycle segment that is very popular in India. Indeed, in autumn 2013 Harley-Davidson announced to manufacture Street motorcycles in the region within the low price segment targeting young audience. Given that motorcycle deliveries are expected to reach 20-25 million by 2020 with most of them corresponding to the lightweight segment, entering this segment seems a reasonable strategy for Harley-Davidson. Lightweight and electro bikes Currently operating primarily in a heavyweight category, Harley-Davidson is planning to capture a 250-300cc bike segment. These plans are very likely to turn into reality as the company has already proved its commitment to evolving along with shifting market trends, having launched production of Street 500 and Street 750 – company's first lightweight models. Another growth opportunity is entering electro bikes market that is small at the moment but can become very promising in future. The company has already presented its electric model named LiveWire. The work on a potential launch of this model is in full flow already. The company handed these bikes to its U.S. customers for test-drive to estimate their satisfaction and analyze potential critics. The company is currently looking to test the model in the same way in Europe, Canada, Asia-Pacific, before launching mass production. There are two main reasons why electro bikes market can be important for Harley-Davidson. Firstly, electric motorcycle market is still in embryonic stage of development, promising CAGR of around 30% through 2023 in U.S. and Europe. There could be a huge potential in this market, especially for a big manufacturer with a strong brand name like Harley-Davidson. Secondly, the manufacturing of electric motorcycles will help the company attract outreach customers such as young adults and females, as well as improve sales overseas, expanding both domestic and international customer base.

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Harley-Davidson Group Threats Raw materials The company relies on third party suppliers to obtain raw materials. It may experience supply problems relating to raw materials pricing, poor quality or untimely delivery. An increase in prices of raw materials, most likely caused by an increase in prices of commodities such as aluminum and steel, will adversely affect company’s costs and profitability as a result. Poor quality and untimely delivery will have a negative impact on customer relations and business reputation in general. Moreover, in certain circumstances, Harley-Davidson relies on a single supplier to provide the entire requirement of a specific part. Such situation makes the company very dependent on this supplier, but at the same time the change in the established supplier relationship may cause disruption in the company’s production schedule. Worldwide Competition Harley-Davidson motorcycle division manufactures and sells motorcycles all over the world. Many of the company's competitors have more diversified businesses and can compete in all segments of the motorcycle market and in the automotive market as well. In addition to this, the prices for Harley-Davidson bikes are generally higher than those of its competitors, which is partly explained by the brand name the company has. If the customers become more sensitive to prices, then Harley-Davidson will be in competitive disadvantage. Moreover, Harley-Davidson financial services division faces fierce competition from stand-alone banks, insurance companies and other financial institutions that may have access to additional sources of capital at more lucrative rates and terms. If the company fails to address and respond to these competitive pressures, it will experience the decline in profits as well as loss of its market share. Increasing emission regulations in Europe Harley-Davidson Motorcycle business can face difficulties if stricter emission regulations are implemented. According to Transportpolicy.net, Euro 4 emission standards for motorbikes are expected to be introduced in 2016, while Euro 5 standards implementation for 2-wheel vehicles are planned from 2020 onwards. Such implementations may push the company to adjust its manufacturing to new standards, which could result in an increase in operating costs. Failure to comply with new standards will result in fines and penalties that will also negatively affect company's profits.

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Part 4: Valuation

Introduction We are doing a sell-side valuation of Harley-Davidson Group and as such we firstly analyze the historical behavior of HOG’s share price, comparing it with peer companies’ share prices and evolution of relevant stock indexes. Then we take a quick look at current brokers’ recommendations to understand if the Harley-Davidson stock price is over/ or underestimated at the moment. Finally, we perform our own valuation analysis and make a recommendation based on the results obtained.

Stock price evolution Evolution of share price over the last 10 years Harley-Davidson’s share capital is composed solely of common shares, which are around 211mn as of 24 April 2015.

Analyzing the evolution of Harley-Davidson’s share price over the last 10 years, we can distinguish two main periods – financial crisis period and post-crisis period. Considering the former time interval, we can find out that the share price fell down from its last decade maximum of $63.9 (November 2006) to the minimum of $7.5 (March 2009), constituting a decrease of around 88%. The general reason for such a poor performance is that Harley’s Motorcycles

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4-3-06 4-3-07 4-3-08 4-3-09 4-3-10 4-3-11 4-3-12 4-3-13 4-3-14 4-3-15

HOG Closing Price in US dollars

27

correspond to a luxury goodsxviii segment and as such people were less willing to spend money on these items during the recession. However, the company managed to survive the crisis and the share price started growing again. This growth can be explained by the recovery of U.S. economy in general and company’s efforts to overcome the consequences of economic downturn in particular. One of the company’s implementations to beat the recession was its restructuring program described earlier in this report. Moreover, the motor company received a series of government loans totaling $2.3 billion during 2008 year. In February 2009, a notable investor, Warren Buffet, delivered $300 million to Harley-Davidson through bond purchases, not only helping the company to get additional financing but also improving overall market perception of the company’s prospects. Comparison with main Indexes

We compare Harley’s stock performance with S&P 500, which is often used as a proxy for the whole U.S. economy, and Dow Jones Industrial Average.

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Normalized Prices

Harley-Davidson S&P 500 DJIA

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It can be seen from the graphs that Harley-Davidson stock price is more volatile than the values of the corresponding indexes. Indeed, during 2006-2007 years when the U.S. economy was booming, Harley-Davidson outperformed the main benchmarks. Once the financial crisis of 2008 hit, the share price of the motorcycle manufacturer started plummeting, showing worse results than the American economy in general. The same trend continued during the post-crisis period when both Harley and America were recovering from the recent financial hit. Having fallen much greater than S&P 500 and DJIA, Harley-Davidson’s share price reached indexes’ levels in 2011-2012 and in 2013-2014 years delivered greater returns. The first quarter of 2015 appeared to be not very favorable for motorcycle producer as the company’s share price decreased by 7.39% during the first 3 months (31 Dec 2014 to 31 March 2015) and by 13.17% over the 4 months ending 23 April 2015. Comparison with main Peers

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Normalized Share PricesHarley-Davidson BMW Yamaha Suzuki

Honda Polaris Kawasaki

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To get a better understanding of how well Harley-Davidson is performing, it is reasonable to compare it with other motorcycle producers. We analyze the company’s price performance versus its publicly traded peers described in the first part. We do not consider Ducati, as the company is private and cannot be considered separately from Audi (Volkswagen Group) that acquired it several years ago. At the same time we don’t consider Audi as a whole company because the acquisition occurred only in 2012 and as such stock price analysis of the German car manufacturer will be incorrect within the 5-year time frame. Though Harley’s stock price evolution over the last 5 years cannot be called brilliant, the company was far from being worst-performing among its rivals. If not to take into account the last several days, only 2 companies delivered greater total return from 2010 – BMW and Polaris. It’s important to remember that motorcycle manufacturing is not the main business for both of them, so their share price performance is not greatly affected by successes or failures in this segment. As for the other competitors, Honda showed the weakest performance, while Kawasaki did the best one, with total return from 2010 overcoming Harley’s one currently. Harley’s stock price drop, what’s next? Having outperformed main indexes as well as most of its competitors in post-crisis period, Harley-Davidson currently experiences a bearish trend. Price of the company’s common share has been decreasing during the last year, making the motorcycle producer one of the worst performing S&P500 components currently. Harley’s share price decreased by 19.2% while S&P500 grew by 12.7% year to date. One of the main reasons explaining this downward trend is a decrease in expectations of the company’s performance given the negative impact of weather on domestic retail sales. The reason for a sharp price drop at the end of April is explained mainly by the Q1 2015 report published on April 21. Market reaction to the company’s Q1 results appeared to be more negative than expected and was caused mainly by:

Lowered expectations of the company’s management regarding motorcycle units shipped – Harley-Davidson expects shipments to rise 2-4% instead of 4-

6% growth predicted earlier.

Company’s focus on increased, aggressive competitive motorcycle

discounting that was one of the reasons of U.S. sales decrease by 0.7% versus Q1

2014 and that is expected to continue.

This reasonably makes us question whether the current market price is fair or captures some of overly optimistic/pessimistic expectations. In order to understand this we will do our own valuation, firstly describing opinions of research analysts covering the company.

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Analysts' recommendations First quarter financial results made research analysts covering the company review and update their recommendations as well as target prices. According to Thomson Reuters Database, among 21 analysts presented, there is nobody advising sell or strong sell of Harley-Davidson shares.

Contributor Current Recommendation Review Date Target Price ($) ARGUS RESEARCH COMPANY 3 - HOLD 13-Apr-2015 -

Permission Denied 1 - OUTPERFORM 22-Apr-2015 70

WILLIAM BLAIR & COMPANY, L.L.C. 1 - OUTPERFORM 21-Apr-2015 -

Permission Denied 2 - OUTPERFORM 22-Apr-2015 73

Permission Denied 3 - NEUTRAL 25-Apr-2015 60

Permission Denied 3 - EQUALWEIGHT 21-Apr-2015 64

Permission Denied 2 - BUY/NEUTRAL 09-Mar-2015 66

Permission Denied 2 - OVERWEIGHT 21-Apr-2015 66

Permission Denied 3 - HOLD 21-Apr-2015 55

LONGBOW RESEARCH 2 - BUY 22-Apr-2015 69

KEYBANC CAPITAL MKTS 3 - SECTOR WEIGHT 21-Apr-2015 -

MILLMAN RESEARCH ASSOC 3 - HOLD 21-Apr-2015 -

Permission Denied 2 - OVERWT/CAUTIOUS 23-Apr-2015 67

WEDBUSH SECURITIES INC. 1 - OUTPERFORM 21-Apr-2015 74

RAYMOND JAMES 3 - MARKET PERFORM 22-Apr-2015 -

Permission Denied 2 - OUTPERFORM 21-Apr-2015 63

Permission Denied 1 - BUY (1) 23-Apr-2015 67

STIFEL NICOLAUS & COMPANY,INC. 1 - BUY 21-Apr-2015 73

TIGRESS FINANCIAL PARTNERS 2 - BUY 08-Oct-2014 -

WELLS FARGO SECURITIES, LLC 1 - 1 OUTPERFORM 22-Apr-2015 -

WUNDERLICH SECURITIES, INC. 3 - HOLD 21-Apr-2015 57

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Strong Sell

Sell

Hold

Buy

Strong Buy

Number of analysts advising (total)

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However, not all of the 21 analysts took into account the recent Q1 report and as such we further proceed only with the ones who did.

With no sell recommendations and the average target price of $66 per share,

research analysts have a positive view of the company and believe Harley-

Davidson is currently undervalued.

Less than 30% of analysts see very limited room for share price improvement and recommend to hold.

With the average target price of $66 vs. current market price of $57, there is

pretty good upside potential for the company’s shares (around 15.8%).

In the next part of this chapter, we do our own valuation to understand if the current market price is justified or not.

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Number of analysts advising (recommendations updated after 21 April 2015)

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Valuation We consider two widely used approaches in estimating the intrinsic value of Harley-Davidson – Discounted Cash Flow approach and Comparable Company Analysis, both equally weighted and implemented as of 25 May 2015.

Discounted Cash Flow Analysis We use discounted cash flow approach (DCF) obtaining the intrinsic value of $55.6 per share, representing a downside of 2.5% (please see Appendix 2.9 for more detailed figures). Our method involves estimating the Enterprise Value using projections of future Free Cash Flows to Firm (FCFF) and then obtaining the Equity Value adjusting EV for Net Debt. Applying the DCF method, we distinguish two future periods: Forecast and Terminal. The first one corresponds to years from 2015 to 2020, while the second refers to the years starting from 2021. We use Exit Multiple Method to estimate the residual value of the company in terminal period. Some of the operating figures like Sales, COGS, SG&A etc. are estimated separately for both divisions and then added together, as the discount rate used (WACC) corresponds to the whole company’s cash flows. Sales Sales were forecasted separately for HDMC and HDFS segment. For motorcycle division, the number of motorbikes shipped in 2015 is estimated relying on the company’s management expectations. In their Q1 2015 report, Harley’s representatives reviewed their forecasts for shipment growth from 4-6% to 2-4%, as a result of YoY sales decrease. Based on this information, we expect 278,848 Harley's motorcycles shipped worldwide in 2015. Considering the shipment growth from 2016 to 2020, we rely on the IMF forecasts of the world GDP growth. Having analyzed the difference between the growth of units shipped and world’s real GDP growth, we came to conclusion that it is not significant and as such, we can assume that the former will go in line with the latter. The average spending per motorcycle shippedxix increased by 1.1% and 1.9% in 2013 and 2014 years respectively. We believe that by 2020 this increase will adjust to the typical targeted level of inflation for developed countries – 2%. Forecasting separately units shipped and the average price of the motorcycle together with accessories, we then find a product of this that reflects the dollar sales expected. Financial services segment is very closely linked to the motorcycle one and we believe this strong connection will remain in future. We forecast HDFS sales as a proportion of HDMC sales, relying on the last 3-year figures.

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COGS and SG&A Operating costs were forecasted as a proportion of sales. We relied on the last year figures, as the company has been improving its EBIT margin year-to-year since 2009. Now, Harley-Davidson has finished its restructuring program, and we believe it will be able to maintain achieved margins in future. Capex Capital expenditures as a proportion of total sales are quite stable over the last 3 years. The company is not expected to abnormally expand and increase its PPE in the upcoming years, so we leave Capex/Sales ratio constant at a current level of 3.5%. Depreciation and Amortization D&A is related to the value of Capex and hence to the value of Salesxx. Currently, the total depreciation is less than Capex and we believe this inequality will remain at least till 2020, so we do not assume that D&A=Capex by 2020. We forecast depreciation expense separately for HDMC and HDFS segments as proportions of sales, assuming that these proportions will approach 3-year historical average by 2020. Working Capital Working capital is calculated as Inventories plus Receivables less Payables. Each of these 3 components is estimated relying on days outstanding.xxi We assume that these figures will approach the average ones over the last three years by 2020. (For WC figures, please see Appendix: 2.6) WACC Risk-free rate was taken as a current YTM of a 10-year U.S. government bond with a value of 2.2%. The market risk-premium of 5.78%xxii was taken from Damodaran’s Database, while equity beta of 1.49xxiii was downloaded from Thomson Reuters Database. HOG’s cost of equity is estimated to be 10.8%. Company’s cost of debt was found as a weighted average current yieldxxiv of different debt issues with weights equal to the dollar amounts of these issues outstanding. The corresponding figure appeared to be 3.05%. Finally, in order to estimate company’s cost of capital, we need to know the percentage of debt in the capital structure as well as the corporate tax rate. The latter was considered to be 35.5% as expected by the company’s management. As for the former, we needed to know the market value of debt and the market value of equity.

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The market value of equity is simply the company’s market capitalization. As for the debt, we downloaded detailed descriptions of company’s bond and loan issues and the dollar amounts still outstanding. In this description one could have found the current price of each issue that was used to calculate the total market value (price) of HOG’s debt. Having done all the necessary calculations, we obtained WACC of 5.6%. Exit Multiple Method There are typically two options to estimate the residual value of the company: Gordon Growth Model that assumes some constant growth of FCFF till infinity and Exit Multiple Method that shows us the value of the company in the end of the forecasted period as if we are going to sell it at a price implied by peer multiples. The first approach is very sensitive to the terminal period assumptions imposed and as a result may give quite imprecise figures, so we prefer to apply the second one. As Harley-Davidson operates in a capital-intensive industry, where operating profit is strongly affected by the depreciation policy, we use EV/EBITDA multiple to estimate the value of our company in 6 years. For this purpose, we use a set of 6 initial peers and estimate the median EV/EBITDA 2015E. We cannot know what will happen on the market in 6 years and how trading multiples will change, so we assume EV/EBITDA 2015E equals EV 2020/EBITDA 2021E. Then, we multiply the obtained figure by the EBITDA forecasted for 2021 year and get HOG’s EV in 6 years. (For information regarding peers and their trading EV/EBITDA 2015 multiples, please see Appendix 2.8)

Comparable Companies Analysis We value the company relying on a set of comparable companies’ multiples separately for Motorcycle and Financial Services divisions. Motorcycle Division We use the peer companies described in the previous parts, because they serve as a good set of comparables for Harley-Davidson. As for the multiples applied, we apply EV/2015E EBIT and EV/2015E EBITDA onlyxxv. The choice of these multiples is justified by the desire to make our valuation independent of capital structure and taxes. In addition to this, EV/EBITDA multiple allows to ignore distortions that may arise from differences in D&A policies. We don’t consider BMW as well as Honda Motor because it is explicitly stated that the companies have financial services divisions, while we want to use pure manufacturing comparables in the estimation of HDMC value. The remaining 4 peersxxvi result in a median EV/EBITDA multiple of 7.8x and EV/EBIT of 11.0x with implied HDMC enterprise values of $9,9bn and $11.9bn respectively. The HOG’s debt is entirely issued by its financial services segment and as such the equity value of the motorcycle segment is enterprise value plus cash.

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Once we estimated equity values using two multiples, we average them and obtain the final figure of $11.5bn. Financial Services Division In order to estimate financial services division, we use a MV/BV multiple and set it equal to one as there is usually no significant difference between market and book value of equity of non-distressed financial companies. The resulting figure of $975.9mn is added to HDMC equity value to obtain the total value of the company. Harley-Davidson Equity Value The total equity value of Harley-Davidson equals to $12.5bn ($59 per share) what represents an upside over the market price of 3.5% only. (For more information regarding comparable companies valuation please see Appendix 3)

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Conclusion With a final intrinsic value of HOG’s share price estimated at $57.3xxvii, we get an upside of 0.5% only and as a result we issue the recommendation to hold. Our conclusion does not contradict research analysts’ recommendations, though on average they have a more positive perception of company’s opportunities. We see a company with solid financials and strong market positions (particularly in the U.S), high profitability and a very loyal customer base. Still, the motorcycle manufacturer faces some threats and possible events that may deteriorate its performance. However, the question of being a good investment target is more about how current market capitalization reflects company’s intrinsic value. In other words, the company may have brilliant prospects, but if they are fully reflected in the share price, then there is very limited potential for share price growth. According to our valuation analysis, Harley’s shares are fairly priced by the market and fully include both possible threats and probable opportunities discussed earlier in this report.

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Appendix Financial Data 1.1: Consolidated Income Statement (in $ thousands, except for per share data)

2010 2011 2012 2013 2014

Revenue:

Motorcycles and related products 4,176,627 4,662,264 4,942,582 5,258,290 5,567,681

Financial Services 682,709 649,449 637,924 641,582 660,827

Total Revenue 4,859,336 5,311,713 5,580,506 5,899,872 6,228,508

Motorcycles and related products (COGS) (2,749,224) (3,106,288) (3,222,394) (3,395,918) (3,542,601)

Financial Services Interest Expense (COGS) (272,484) (229,492) (195,990) (165,491) (164,476)

COGS

(3,021,708) (3,335,780) (3,418,384) (3,561,409) (3,707,077)

Gross Profit 1,837,628 1,975,933 2,162,122 2,338,463 2,521,431

Financial Services Provision for Credit Losses (93,118) (17,031) (22,239) (60,008) (80,946)

Selling, administrative and engineering expense (1,020,371) (1,060,943) (1,111,232) (1,126,884) (1,159,502)

Restructuring expense (benefit) and asset impairment (163,508) (67,992) (28,475) 2,131 --

Goodwill Impairment -- -- -- -- --

Operating expenses (1,276,997) (1,145,966) (1,161,946) (1,184,761) (1,240,448)

Operating Income (EBIT) 560,631 829,967 1,000,176 1,153,702 1,280,983

Investment Income 5,442 7,963 7,369 5,859 6,499

Interest Expense (90,357) (45,266) (46,033) (45,256) (4,162)

Loss on Debt Extinguishment (85,247) -- -- -- --

Income before Provision for Income Taxes 390,469 792,664 961,512 1,114,305 1,283,320

Provision for Income Taxes (130,800) (244,586) (337,587) (380,312) (438,709)

Income from Continuing Operations 259,669 548,078 623,925 733,993 844,611

Income (Loss) from Discontinued Operations, net of tax (113,124) 51,036 -- -- --

Net Income 146,545 599,114 623,925 733,993 844,611

Other Comprehensive Income, net of tax

Foreign Currency Translation Adjustment 9,449 (5,616) 1,400 (18,009) (36,808)

Derivative Financial Instruments (2,972) 18,219 (10,144) 2,157 20,722

Marketable Securities (133) 460 350 (953) (424)

Pension and Postretirement Benefit Plans 41,849 (123,574) (122,551) 291,807 (165,757)

Total Other Comprehensive Income, net of tax 48,193 (110,511) (130,945) 275,002 (182,267)

Comprehensive Income 194,738 488,603 492,980 1,008,995 662,344

Adjustments to Comprehensive Income 3,483 -- -- -- --

Increase (Decrease) in Accumulated Other Income (BS) 51,676 (110,511) (130,945) 275,002 (182,267)

Net Income 146,545 599,114 623,925 733,993 844,611

Dividends (94,145) (111,011) (141,681) (187,688) (238,300)

Adjustments (40,591) -- -- -- --

38

Increase (Decrease in Retained Earnings) 11,809 488,103 482,244 546,305 606,311

EPS from Continuing Operations:

Basic 1.11 2.35 2.75 3.30 3.90

Diluted 1.11 2.33 2.72 3.28 3.88

EPS from Discontinued Operations:

Basic (0.48) 0.22 -- -- --

Diluted (0.48) 0.22 -- -- --

EPS

Basic 0.63 2.57 2.75 3.30 3.90

Diluted 0.63 2.55 2.72 3.28 3.88

Cash Dividends per share 0.40 0.475 0.620 0.840 1.100

1.2: Consolidated Balance Sheet (in $ thousands)

2009 2010 2011 2012 2013 2014

Assets Current Assets

Cash & Cash Equivalents 1,630,433 1,021,933 1,526,950 1,068,138 1,066,612 906,680

Marketable Securities 39,685 140,118 153,380 135,634 99,009 57,325

Accounts Receivable 269,371 262,382 219,039 230,079 261,065 247,621

Finance Receivable 1,436,114 1,779,458 1,760,467 1,743,045 1,773,686 1,916,635

Inventories 323,029 326,446 418,006 393,524 424,507 448,871

Assets of discontinued operations 181,211 -- -- -- -- --

Restricted Cash -- 288,887 229,655 188,008 144,807 98,627

Deferred Income Taxes 179,685 146,411 132,331 110,853 103,625 89,916

Other Current Assets 282,421 100,991 102,378 181,655 115,492 182,420

Total Current Assets 4,341,949 4,066,626 4,542,206 4,050,936 3,988,803 3,948,095

Non-Current Assets

Finance Receivable 3,621,048 4,238,111 4,026,214 4,038,807 4,225,877 4,516,246

PPE 906,906 815,112 809,459 815,464 842,477 883,077

Prepaid Pension Costs -- -- -- -- 244,871 --

Goodwill 31,400 29,590 29,081 29,530 30,452 27,752

Deferred Income Taxes 177,504 213,989 202,439 171,845 3,339 77,835

Other LT Assets 76,711 67,312 64,765 64,191 69,221 75,092

Total Non-Current Assets 4,813,569 5,364,114 5,131,958 5,119,837 5,416,237 5,580,002

Total Assets

9,155,518 9,430,740 9,674,164 9,170,773 9,405,040 9,528,097

Liabilitites & Shareholders' Equity Current Liabilities

Accounts Payable 162,515 225,346 255,713 257,386 239,794 196,868

Accrued Liabilties 514,084 556,671 564,172 513,591 427,335 449,317

Liabilities of Discontinued Operations 69,535 -- -- -- -- --

ST Debt 189,999 480,472 838,486 294,943 666,317 731,786

Current Portion of LT Debt 1,332,091 751,293 1,040,247 437,162 1,176,140 1,011,315

39

Total Current Liabilities 2,268,224 2,013,782 2,698,618 1,503,082 2,509,586 2,389,286

Non-Current Liabilitites:

LT Debt 4,114,039 4,520,591 3,843,886 4,370,544 3,416,713 3,761,528

Pension Liability 245,332 282,085 302,483 330,294 36,371 76,186

Postretirement Healthcare Liability 264,472 254,762 268,582 278,062 216,165 203,006

Deferred Income Taxes -- -- -- -- 49,499 --

Other LT Liabilities 155,333 152,654 140,339 131,167 167,220 188,805

Commitments & Contingencies -- -- -- -- -- --

Total Non-Current Liabilities 4,779,176 5,210,092 4,555,290 5,110,067 3,885,968 4,229,525

Total Liabilities 7,047,400 7,223,874 7,253,908 6,613,149 6,395,554 6,618,811

Shareholders' Equity

Preferred Stock -- -- -- -- -- --

Common Stock 3,368 3,382 3,391 3,413 3,432 3,442

Additional Paid-in Capital 871,100 908,055 968,392 1,066,069 1,175,052 1,265,257

Retained Earnings 6,324,268 6,336,077 6,824,180 7,306,424 7,852,729 8,459,040

Accumulated Other Comprehensive Loss (417,898) (366,222) (476,733) (607,678) (332,676) (514,943)

Treasury Stock (4,672,720) (4,674,426) (4,898,974) (5,210,604) (5,689,051) (6,303,510)

Total Shareholders' Equity 2,108,118 2,206,866 2,420,256 2,557,624 3,009,486 2,909,286

Total Liabilities & Shareholders' Equity 9,155,518 9,430,740 9,674,164 9,170,773 9,405,040 9,528,097

1.3: Consolidated Cash Flow Statement (FactSet database, in $ millions)

2010 2011 2012 2013 2014

Operating Activities

Net Income / Starting Line 147 599 624 734 845

Add: Depreciation, Depletion & Amortization 255 180 169 167 179

Add: Deferred Taxes & Investment Tax Credit (18) 88 128 53 (8)

Add: Other Funds 573 (64) (6) 119 175

Funds from Operations 957 803 916 1,073 1,191

Changes in Working Capital 207 82 (114) (96) (45)

Receivables 13 48 (14) (37) (12)

Inventories 3 (95) 21 (46) (51)

Accounts Payable 215 120 (11) (54) 19

Other Assets/Liabilities (24) 9 (111) 41 (1)

Net Operating Cash Flow 1,163 885 801 977 1,146

Investing Activities

Capital Expenditures (171) (189) (189) (208) (232)

Net Sale of Investments (100) (13) 18 35 41

Purchase of Investments 184 143 5 5 --

Sale/Maturity of Investments 84 130 23 40 41

Other Funds 344 138 (91) (396) (553)

Other Uses (2,325) (2,622) (2,859) (3,244) (3,568)

Other Sources 2,669 2,760 2,768 2,848 3,015

Net Investing Cash Flow 73 (64) (261) (569) (745)

40

Financing Activities

Cash Dividends Paid (94) (111) (142) (188) (238)

Change in Capital Stock 6 (217) (266) (429) (578)

Repurchase of Common & Preferred Stk. (2) (225) (312) (479) (616)

Sale of Common & Preferred Stock 8 8 46 51 38

Issuance/Reduction of Debt, Net (1,850) (47) (637) 160 246

Other Funds 81 66 55 63 34

Net Financing Cash Flow (1,856) (309) (990) (393) (536)

Exchange Rate Effect 5 (8) (9) (17) (26)

Miscellaneous Funds 0 0 (0) (0) 0

Net Change in Cash (615) 505 (459) (2) (161)

Free Cash Flow 993 696 612 769 914

Free Cash Flow per Share 4 3 3 3 4

Free Cash Flow Yield (%) 12 8 5 5 6

Net Operating Cash Flow 1,163 885 801 977 1,146

Capex (171) (189) (189) (208) (232)

FCFF 993 696 612 769 914

1.4 HDMC Income Statement (in $ thousands)

2010 2011 2012 2013 2014

Revenue:

Motorcycles and related products 4,176,627 4,671,942 4,952,748 5,268,480 5,577,697

Total Revenue 4,176,627 4,671,942 4,952,748 5,268,480 5,577,697

Costs and expenses

Motorcycles and related products COGS (2,749,224) (3,106,288) (3,222,394) (3,395,918) (3,542,601)

Selling, administrative and engineering expense (881,888) (926,832) (977,782) (995,378) (1,023,450)

Restructuring expense (benefit) and asset impairment

(163,508) (67,992) (28,475) 2,131 --

Goodwill Impairment -- -- -- -- --

Total Costs and Expenses (3,794,620) (4,101,112) (4,228,651) (4,389,165) (4,566,051)

Operating Income (EBIT) 382,007 570,830 724,097 879,315 1,011,646

Gross margin 34.18% 33.51% 34.94% 35.54% 36.49%

Operating margin 9.1% 12.2% 14.6% 16.7% 18.1%

Investment Income 5,442 132,963 232,369 190,859 126,499

Interest Expense (90,357) (45,266) (46,033) (45,256) (4,162)

Loss on Debt Extinguishment (85,247) -- -- -- --

Income before Provision for Income Taxes (EBT) 211,845 658,527 910,433 1,024,918 1,133,983

Provision for Income Taxes (66,495) (150,756) (233,385) (279,841) (338,453)

Income from Continuing Operations 145,350 507,771 677,048 745,077 795,530

Income (Loss) from Discontinued Operations, net of tax (113,124) 51,036 -- -- --

Net Income

32,226 558,807 677,048 745,077 795,530

41

1.5 HDFS Income Statement (in $ thousands)

2010 2011 2012 2013 2014

Revenue:

Financial Services 683,329 649,474 639,482 643,067 662,345

Total Revenue 683,329 649,474 639,482 643,067 662,345

Costs and expenses

Financial Services Interest Expense (272,484) (229,492) (195,990) (165,491) (164,476)

Financial Services Provision for Credit Losses (93,118) (17,031) (22,239) (60,008) (80,946)

Selling, administrative and engineering expense (139,103) (143,814) (145,174) (143,181) (147,586)

Restructuring expense (benefit) and asset impairment -- -- -- -- --

Goodwill Impairment -- -- -- -- --

Total Costs and Expenses (504,705) (390,337) (363,403) (368,680) (393,008)

Operating Income 178,624 259,137 276,079 274,387 269,337

Operating profit margin 26% 40% 43.17% 42.67% 40.66%

Income before Provision for Income Taxes (EBT) 178,624 259,137 276,079 274,387 269,337

Provision for Income Taxes (64,305) (93,830) (104,202) (100,471) (100,256)

Income from Continuing Operations 114,319 165,307 171,877 173,916 169,081

Net Income

114,319 165,307 171,877 173,916 169,081

42

2. Discounted Cash Flow analysis: 2.1 Basic Inputs

Basic Inputs

Company Name

Harley-Davidson

Currency

USD

Unit

Thousand

Current Year End

31 dec 15

Valuation Date

25 may 15

% of year remaining

60.0%

Number of Historic Periods

3

Share price assumption

Number of Shares (thousand)

211,000

Current Share Price

57.00

Terminal Assumptions - P&L Terminal Assumptions - BS

Motorcycle Segment Terminal Days Inventories 45 days

Terminal COGS as % of sales 60.6% Terminal Days Receivables 127 days

Terminal SG&A as % of sales 18.2% Terminal Days Payables 25 days

Terminal D&A as % of sales 3.1% Terminal debt to EBITDA 3.8x

Financial Services Segment Terminal Capex as % of sales 3.5%

Terminal Sales Growth 12.0%

Terminal COGS as % of sales 23.7%

Terminal SG&A as % of sales 34.4%

Terminal D&A as % of sales 1.1%

General

Terminal Tax rate 35.5%

Terminal effective interest on cash 0.6%

Terminal effective rate on debt 0.9%

2.2 Forecasts – P&L

31 dec 12 31 dec 13 31 dec 14 31 dec 15 31 dec 16 31 dec 17 31 dec 18 31 dec 19 31 dec 20

HDMC Segment

Sales

4,942,582 5,258,290 5,567,681 5,843,310 6,169,248 6,520,831 6,900,533 7,311,107 7,755,622

Units Shipped

247,625 260,471 270,726 278,848 288,872 299,537 310,895 323,003 335,924

Spending per unit ($)

19,960 20,188 20,566 20,955 21,356 21,770 22,196 22,635 23,087

COGS

(3,059,735) (3,235,737) (3,371,414) (3,538,316) (3,735,683) (3,948,578) (4,178,500) (4,427,116) (4,696,284)

Restructuring

(28,475) 2,131 -- -- -- -- -- -- --

SG&A

(967,574) (985,171) (1,013,370) (1,063,537) (1,122,860) (1,186,852) (1,255,961) (1,330,689) (1,411,595)

D&A

(162,659) (160,181) (171,187) (180,267) (190,963) (202,525) (215,040) (228,601) (243,317)

EBIT

724,139 879,332 1,011,710 1,061,190 1,119,742 1,182,876 1,251,033 1,324,701 1,404,426

HDFS Segment

12.91% 12.20% 11.87%

Sales

637,924 641,582 660,827 697,919 741,500 788,706 839,900 895,490 955,933

COGS

(189,671) (158,600) (156,363) (165,140) (175,452) (186,621) (198,735) (211,888) (226,190)

SG&A

(165,897) (201,721) (227,078) (239,824) (254,800) (271,021) (288,613) (307,715) (328,485)

D&A

(6,319) (6,891) (8,113) (8,410) (8,769) (9,155) (9,569) (10,013) (10,491)

EBIT

276,037 274,370 269,273 284,546 302,479 321,909 342,984 365,874 390,767

General figures

EBIT

1,000,176 1,153,702 1,280,983 1,345,736 1,422,222 1,504,785 1,594,016 1,690,574 1,795,193

Interest Income

7,369 5,859 6,499 -- -- -- -- -- --

Interest Expense

(46,033) (45,256) (4,162) (6,585) (10,482) (16,703) (26,647) (42,564) (68,072)

EBT

961,512 1,114,305 1,283,320 1,339,151 1,411,740 1,488,082 1,567,369 1,648,010 1,727,121

Tax Expense

(337,587) (380,312) (438,709) (475,398) (501,168) (528,269) (556,416) (585,044) (613,128)

EAT

623,925 733,993 844,611 863,752 910,572 959,813 1,010,953 1,062,967 1,113,993

43

2.3 Forecasts – BS

31 dec 12 31 dec 13 31 dec 14 31 dec 15 31 dec 16 31 dec 17 31 dec 18 31 dec 19 31 dec 20

Inventories

393,524 424,507 448,871 469,499 494,012 520,401 548,844 579,537 612,698

Receivables

1,973,124 2,034,751 2,164,256 2,274,190 2,404,005 2,544,152 2,695,636 2,859,578 3,037,228

Payables

257,386 239,794 196,868 213,882 233,756 255,769 280,185 307,300 337,453

Debt

5,102,649 5,259,170 5,504,629 5,784,063 6,114,057 6,470,323 6,855,420 7,272,198 7,723,836

Capex

194,085 219,900 230,941 243,987 258,066 273,279 289,737 307,565

2.4 Drivers – P&L

31 dec 12 31 dec 13 31 dec 14 31 dec 15 31 dec 16 31 dec 17 31 dec 18 31 dec 19 31 dec 20

HDMC Segment

Units shipped growth

5.2% 3.9% 3.0% 3.6% 3.7% 3.8% 3.9% 4.0%

Real world GDP Growth

3.3% 3.3% 3.5% 3.6% 3.7% 3.8% 3.9% 4.0%

Difference

1.9% 0.6% (0.5%) --% --% --% --% --%

Price Growth

1.1% 1.9% 1.9% 1.9% 1.9% 2.0% 2.0% 2.0%

COGS as % of sales

61.9% 61.5% 60.6% 60.6% 60.6% 60.6% 60.6% 60.6% 60.6%

SG&A as % of sales

19.6% 18.7% 18.2% 18.2% 18.2% 18.2% 18.2% 18.2% 18.2%

D&A as % of sales

3.3% 3.0% 3.1% 3.1% 3.1% 3.1% 3.1% 3.1% 3.1%

HDFS Segment

HDFS sales as a % of HDMC sales

12.9% 12.2% 11.9% 11.9% 12.0% 12.1% 12.2% 12.2% 12.3%

COGS as % of sales

29.7% 24.7% 23.7% 23.7% 23.7% 23.7% 23.7% 23.7% 23.7%

SG&A as % of sales

26.0% 31.4% 34.4% 34.4% 34.4% 34.4% 34.4% 34.4% 34.4%

D&A as % of sales

1.0% 1.1% 1.2% 1.2% 1.2% 1.2% 1.1% 1.1% 1.1%

Effective rate on debt

0.90% 0.86% 0.08% 0.11% 0.17% 0.26% 0.39% 0.59% 0.88%

Effective tax rate

35.1% 34.1% 34.2% 35.5% 35.5% 35.5% 35.5% 35.5% 35.5%

2.5 Drivers – BS

31 dec 12 31 dec 13 31 dec 14 31 dec 15 31 dec 16 31 dec 17 31 dec 18 31 dec 19 31 dec 20

Days Inventories

44 days 46 days 46 days 46 days 46 days 46 days 46 days 46 days 45 days

Days Receivables

129 days 126 days 127 days 127 days 127 days 127 days 127 days 127 days 127 days

Days Payables

29 days 26 days 20 days 21 days 22 days 23 days 23 days 24 days 25 days

Debt to EBITDA

4.36x 3.98x 3.77x 3.77x 3.77x 3.77x 3.77x 3.77x 3.77x

Capex (% of sales)

3.3% 3.5% 3.5% 3.5% 3.5% 3.5% 3.5% 3.5%

2.6 Working Capital

WC 31 dec 12 31 dec 13 31 dec 14 31 dec 15 31 dec 16 31 dec 17 31 dec 18 31 dec 19 31 dec 20

Inventories 393,524 424,507 448,871 469,499 494,012 520,401 548,844 579,537 612,698

+ Receivables 1,973,124 2,034,751 2,164,256 2,274,190 2,404,005 2,544,152 2,695,636 2,859,578 3,037,228

- Payables (257,386) (239,794) (196,868) (213,882) (233,756) (255,769) (280,185) (307,300) (337,453)

WC 2,109,262 2,219,464 2,416,259 2,529,808 2,664,261 2,808,784 2,964,295 3,131,815 3,312,473

(Increase in WC)

(110,202) (196,795) (113,549) (134,454) (144,522) (155,511) (167,520) (180,658)

44

2.7 WACC calculation

Capital Structure

Amount of Debt

4,145,377

Amount of Equity

2,909,286

Share of Debt

58.8%

Share of Equity

41.2%

Cost of Equity Calculation

Risk Free Rate

2.2%

ERP

5.8%

Beta

1.5

Cost of Equity

10.8%

Cost of Debt Calculation

Rate on Debt

3.1%

Tax Rate

35.5%

After-tax Cost of Debt

2.0%

WACC Calculation

WACC

5.6%

Terminal Growth

2.0%

Terminal Multiple 5.0x

2.8 Exit Multiple estimation

Company Name Enterprise Value /

EBITDA 2015E

Yamaha Motor Co Ltd 6.6 x

Suzuki Motor Corp 4.7 x

Polaris Industries Inc. 9.6 x

Kawasaki Heavy Industries Ltd 9.0 x

BMW AG 4.4 x

Honda Motor Co Ltd 7.5 x

Median 7.1 x

2.9 DCF results

31 dec 12 31 dec 13 31 dec 14 31 dec 15 31 dec 16 31 dec 17 31 dec 18 31 dec 19 31 dec 20 31 dec 21

EBIT

1,153,702 1,280,983 1,345,736 1,422,222 1,504,785 1,594,016 1,690,574 1,795,193 1,831,097

Tax on EBIT

(393,758) (437,910) (477,736) (504,889) (534,199) (565,876) (600,154) (637,293) (650,039)

DA

167,072 179,300 188,676 199,732 211,680 224,608 238,614 253,808 258,884

Change in WC

(110,202) (196,795) (113,549) (134,454) (144,522) (155,511) (167,520) (180,658) (184,271)

Capex

(194,085) (219,900) (230,941) (243,987) (258,066) (273,279) (289,737) (307,565) (313,716)

FCF 622,729 605,678 712,187 738,624 779,678 823,958 871,777 923,484

WACC

5.6% 5.6% 5.6% 5.6% 5.6% 5.6% 5.6%

Discount Factor

100.0% 94.7% 89.6% 84.9% 80.4% 76.1% 72.0%

DCF 712,187 699,344 698,957 699,371 700,609 702,695

Exit Multiple Valuation Result

Sum of Discounted FCF

4,213,163

EBITDA Exit Multiple

7.1x

Terminal Value

10,690,686

Enterprise Value 14,903,849

less net debt

3,181,372

Equity Value 11,722,476

HOG Price

55.6

Upside / (Downside) (2.5%)

45

2.10 Sensitivity Analysis

HOG Equity Value Sensitivity Table

WACC EBITDA Exit Multiple

11,722,476 6.1x 6.6x 7.1x 7.6x 8.1x

5.3% 10,406,096 11,172,003 11,937,909 12,703,816 13,469,722

5.5% 10,280,247 11,037,484 11,794,721 12,551,958 13,309,196

5.7% 10,155,969 10,904,651 11,653,333 12,402,015 13,150,697

5.9% 10,033,238 10,773,478 11,513,718 12,253,957 12,994,197

6.1% 9,912,034 10,643,942 11,375,850 12,107,758 12,839,666

HOG Price Sensitivity Table

WACC EBITDA Exit Multiple

56 6.1x 6.6x 7.1x 7.6x 8.1x

5.3% 49.3 52.9 56.6 60.2 63.8

5.5% 48.7 52.3 55.9 59.5 63.1

5.7% 48.1 51.7 55.2 58.8 62.3

5.9% 47.6 51.1 54.6 58.1 61.6

6.1% 47.0 50.4 53.9 57.4 60.9

HOG Upside (Downside) Sensitivity Table

WACC EBITDA Exit Multiple

(0) 6.1x 6.6x 7.1x 7.6x 8.1x

5.3% (13.5%) (7.1%) (0.7%) 5.6% 12.0%

5.5% (14.5%) (8.2%) (1.9%) 4.4% 10.7%

5.7% (15.6%) (9.3%) (3.1%) 3.1% 9.3%

5.9% (16.6%) (10.4%) (4.3%) 1.9% 8.0%

6.1% (17.6%) (11.5%) (5.4%) 0.7% 6.8%

46

3. Comparable companies analysis: 3.1 List of peers used and their trading multiples:

Company Name Enterprise Value / Enterprise Value /

EBITDA 2015E EBIT 2015E

Yamaha Motor Co Ltd 6.6 x 11.0 x

Suzuki Motor Corp 4.7 x 9.4 x

Polaris Industries Inc. 9.6 x 12.1 x

Kawasaki Heavy Industries Ltd 9.0 x 11.0 x

3.2 EBITDA multiple valuation: EBITDA Multiple Enterprise Value (HDMC) Cashxxviii

Maximum 9.6 x 12,168,739 573,895

75th Percentile 9.2 x 11,598,330 573,895

Median 7.8 x 9,887,101 573,895

25th Percentile 6.1 x 7,763,909 573,895

Minimum 4.7 x 5,957,612 573,895

Equity Value (HDMC) Total Equity Value

(HDMC+HDFS) Implied Share

Price($) Upside

(Downside)

12,742,634 13,718,486 65.0 14.1%

12,172,225 13,148,077 62.3 9.3%

10,460,996 11,436,848 54.2 (4.9%)

8,337,804 9,313,656 44.1 (22.6%)

6,531,507 7,507,359 35.6 (37.6%)

3.3 EBIT multiple valuation: EBIT Multiple Enterprise (HDMC) Cash

Maximum 12.1 x 13,155,393 573,895

75th Percentile 11.3 x 12,232,564 573,895

Median 11.0 x 11,920,663 573,895

25th Percentile 10.6 x 11,490,607 573,895

Minimum 9.4 x 10,213,313 573,895

Equity Value (HDMC) Total Equity Value

(HDMC+HDFS) Implied Share

Price($) Upside

(Downside)

13,729,288 14,705,140 69.7 22.3%

12,806,459 13,782,311 65.3 14.6%

12,494,558 13,470,410 63.8 12.0%

12,064,502 13,040,354 61.8 8.4%

10,787,208 11,763,060 55.7 (2.2%)

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3.4 Average figures: Enterprise (HDMC) Cash Equity Value (HDMC)

Maximum 12,662,066 573,895 13,235,961

75th Percentile 11,915,447 573,895 12,489,342

Median 10,903,882 573,895 11,477,777

25th Percentile 9,627,258 573,895 10,201,153

Minimum 8,085,462 573,895 8,659,357

Total Equity Value

(HDMC+HDFS) Implied Share

Price($) Upside (Downside)

14,211,813 67.4 18.2%

13,465,194 63.8 12.0%

12,453,629 59.0 3.5%

11,177,005 53.0 (7.1%)

9,635,209 45.7 (19.9%)

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Bibliography & Sources of Data Bibliography

1. Harley-Davidson annual/quarterly reports (2009-2014)

2. Motorcycles in China, MarketLine Report

3. Motorcycles in India, MarketLine Report

4. Blame Harley-Davidson's Downfall On Baby Boomer Demographics, Forbes

5. Analysis: As boomers age, Harley hunts for younger riders, Reuters

6. Harley-Davidson, Inc.: Geared Up For A Strong Ride, seekingalpha.com

7. HOG Equity Research Report 2015, Morningstar 30/01/2015 8. A15 Motorcycle Industry – www.TheEpochTimes.com

Primary Sources of Data

1. Company’s reports

2. FactSet Database

3. Thomson Reuters Database

4. Company-related articles mentioned in the report

5. Damodaran’s Database - http://pages.stern.nyu.edu/~adamodar/

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End notes i Source: http://www.wikinvest.com/stock/Harley-Davidson_(HOG) ii Unless the context otherwise requires, all references to the “Company” include Harley-Davidson, Inc. and all of its subsidiaries. iii Source: http://www.reportlinker.com/p02100644-summary/Motorcycles-in-China-MarketLine.html iv Source: http://www.reportlinker.com/p0184813-summary/Motorcycles-in-India.html v Source: Harley-Davidson 2014 Annual Report vi Source : http://shoraipower.com/SHORAI-LFX-BATTERIES-ANNOUNCES-STRATEGIC-PARTNERSHIP-WITH-KIMPEX-CANADIAN-MOTORCYCLE-PARTS-AND-ACCES vii Source: http://seekingalpha.com/article/2571215-harley-davidson-inc-geared-up-for-a-strong-ride viii Including ATVs ix Includes ATVs, Utility Vehicles, Personal Watercraft and General-purpose Gasoline Engines x Source: Morningstar Equity Research Report 2015. 30/01/2015 xi Source: Morningstar Equity Research Report, published on 30/01/2015. xii Ibidem xiii Source: 2013 Harley Davidson Annual Report xiv Source: 2013 Harley Davidson Annual Report xv Europe Middle East Asia and Africa xvi 601+cc engine displacement motorcycles xvii Balance sheet figures were taken as average at the beginning and the end of the corresponding period. For example, ROEt=Net Profitt/Average(Equityt-1;Equityt) xviii Income elasticity of demand on luxury goods is greater than 1, implying that people sacrify consumption of these goods more rapidly than their income falls. xix The average price of the motorbike itself plus accessories xx Because Capex depends on Sales xxi Days receivables outstanding, days inventories outstanding and days payables outstanding. xxii Updated in January 2015 xxiii 5-year beta obtained from monthly data on returns. xxiv Current yield of a bond equals to a coupon divided by the current price of security. xxv EBIT 2015E and EBITDA 2015E are taken from DCF model projections xxvi Yamaha Motor, Suzuki Motor, Polaris Industries, Kawasaki Heavy Industries.

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xxvii Average of DCF and Comparable Companies Analysis approaches xxviii Cash possessed by HDMC division