Is Polaris Back on Track?

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Tom Tiller is the first to admit that 2006 was not a good year for Polaris Industries. The company broke its string of 24 consecutive years of record performance even as it posted the third-best year in the company's history. It had inventory issues in snowmobiles and ATVs, it had some snowmobile production problems, and its strategic partnership with KTM fell apart.

"It was a disappointing year for us," the CEO says.

But things may be improving. Earnings for the first fiscal quarter, which ended March 31, climbed even though sales declined as the company cut production and shipments to dealers to clean up the inventory pipeline. (See a report on first-quarter results.)

Last September, Tiller huddled with his management team to develop a three-year plan that would get the company back on track by the end of 2009. The new plan has three basic elements: increase revenue by $500 million, grow market share in the core businesses of snowmobiles and ATVs, and improve operations by bumping up productivity 5 percent each year.

Tom Tiller isn't a happy man. But he is an optimist, and says the train is back on the track at Polaris Industries. He's comfortable with the basic three-year plan his management team has developed following last year's lousy performance in snowmobiles and ATVs.

Here are the company's revised goals for 2009 under the new plan: $150 million in net income, or $4.25 per share, on $2.2 billion in sales.

By comparison, Polaris recorded revenues last year of $1.7 billion, down 11 percent from $1.9 million in 2005; earnings of $112.8 million, down 18 percent from $137.7 million, and EPS of $2.58, down 17 percent from $3.12.

So even though the company faces a slumping snowmobile industry and an ATV market that's basically flat, Polaris is looking for a compound annual growth rate of 10 percent.

Tiller says he expects to increase sales by $500 million in the next three years from growth in several segments. Here's how he sees it happening:

  • Sales of Victory Motorcycles could grow by $100 million to $150 million over the next three years.
  • Sales of Ranger UTVs could grow $100 million to $150 million.
  • Increased sales from the company's international business could add another $50 million.
  • Sales to the military could add another $50 million to $75 million over the three-year period.
  • Finally, Tiller has targeted a second, unidentified "adjacent market" that he sees adding $50 million to $100 million by the end of 2009.

That totals $300 million to $525 million.

Last year, Victory wholesale revenue was just under $113 million, but a key to substantial growth for Victory is the success of the new Vision touring bike, which features a radical design that could be a big hit — or flop.

"That's a critical product for us," acknowledges Tiller, who adds that the response to the Vision at Daytona Bike Week in March was "overwhelming." (No demo rides were given.)

Additional Victory growth could come from sales at established stores, plus the 25 or so new dealers the company expects to add each year. Sales at current stores could add about 7 percent growth annually, although Victory sales grew about 13 percent last year.

Growth from new dealers could add another 7 percent to 8 percent growth each year.

If Victory sales besides the Vision grow by more than 50 percent over the three-year period, that would add about $55 million of new sales. That means that the Vision has to add somewhere between $50 million and $100 million to meet expectations.

Note: The U.S. touring segment grew about 14 percent last year to nearly 150,000 units. Harley-Davidson held more than 50 percent of that segment.

The Fun Ranger

With its Ranger models Polaris played a major role in creating awareness of the side-by-side utility segment, says Tiller. To a large extent, he says, Polaris entered a sleepy part of the industry in the 1990s where there wasn't much happening and created a buzz.

"Our entry on the utility side, and Yamaha later on the recreational side, was followed by a flood of guys [like] Arctic Cat, Kubota, and it's created a lot of exciting options for customers and dealers," he notes.

Now Tiller wants to move into the recreational side of the segment with the new Ranger RZR, a high-performance side-by-side that will compete directly with Yamaha's Rhino and the Arctic Cat Prowler.

Tiller sees the RZR competing strongly with the entrenched Rhino due to its strong performance characteristics. The RZR hits 40 mph in three seconds, the company claims, compared to the Rhino's time of 12 seconds.

"We expect there is going to be lots and lots of demand for this vehicle," Tiller says.

People in the industry say that Polaris could produce and sell at retail as many as 5,000 RZRs this year. Dealers reported to have pre-sold their allocations, so Polaris may increase production. However, a portion of those sales could come from customers who would have purchased a utility Ranger. Polaris retailed an estimated 31,000 Rangers in North America last year.

"With a vehicle that competes on performance in a very aggressive way," says Tiller, "the RZR will open up a whole new market." The RZR instead may be the link between fun karts and UTVs, an area the Chinese are exploring.

Polaris sees the recreational UTV segment at about $250 million. It grew last year by more than 40 percent.

RZR production over the next three years also could be tied to the success of the Victory Vision. If Vision sales are slow, look for Polaris to pump up RZR production and promotions to make up for the shortfall.

Winning in the Core

When Tiller talks about "winning in the core," he's talking about improving snowmobiles and ATV sales.

"Snowmobiles and ATVs — that's the heart of our company," says Tiller. But neither is doing very well.

Snowmobile sales in North America are down again this year, although final industry numbers weren't available at press time. By at least one estimate, 90 percent of snowmobile demand is in replacement.

If that's true, it's an unpleasant scenario because it suggests 1) that there aren't many new riders coming into the market, and 2) that snowmobilers with low-mileage sleds aren't very likely to buy new machines unless the machines are really hot.

The only things that are going to get snowmobilers to trade up are lots of early snow and some dazzling product. Unfortunately, Polaris has had quality problems with some of its sleds in recent years. In fact, it recently recalled 2,700 of them because of a potential suspension problem.

Gaining share in snowmobiles against BRP's strong lineup and Yamaha with its portfolio of four-stroke machines seems to be a tough task. That suggests that the two Minnesota manufacturers, Polaris and Arctic Cat, are going to have to slug it out for increased market share.

Tiller does have two additional cards to help him win in the core: Polaris' strong financial services and PG&A operations. Last year, income from financial services increased 22 percent to $47.1 million. One reason for the growth was Polaris' move to finance its dealers' used and non-Polaris products through its relationship with HSBC.

Sales of PG&A last year were off 2 percent at $269.5 million, but still generated 16 percent of total company revenue, up from 15 percent in '05. The decline followed lower ATV and snowmobile sales.

Improving Production

On the operations side, Tiller's goal is to increase productivity 5 percent every year. As part of this effort, Polaris is stepping up its R&D expenditures this year. In the first quarter ended March 31, Polaris spent $18.6 million on R&D, up from $16.5 million in the first quarter last year.

One bold step that Polaris took to improve productivity was to open an office in Shanghai. The move improved sourcing for the company and its suppliers, says Tiller. "We put a handful of people on the ground this year," he says, "to help us improve our supply base."

Polaris has several Asian suppliers with which it has been working for a number of years. For example, Aeon Motor Co. Ltd. of Taiwan supplies kids quads to Polaris.

But Polaris isn't interested in building supplier relationships just for itself. "We're also interested in helping drive down total cost and building world-class quality in our suppliers," Tiller says.

"We want to help connect our domestic supply base with Asian companies. If we have a Tier One supplier that's building a transmission, perhaps they are looking for a shaft company, or a gear company, or a bearing company. We could help them, as well, connect with Asian companies," says Tiller.

Polaris will expand this operation slowly, he says. "We'll see how it goes; we'll see if it's effective. We're not interested in putting 50 expats over there; we want to build a local capability. We'll look for local talent."