Harley-Davidson, Inc. (HOG) Q1 2018 Earnings Report, Transcript and Summary

Good morning. My name is Heidi, and I will be your conference operator today. At this time, I'd like to welcome everyone to the First Quarter 2018 Earnings Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers' remarks there will be question-and-answer session. [Operator Instructions] Thank you. Amy Giuffre, Director of Investor Relations, you may begin your conference.

Thank you, Heidi and good morning. You can access the slides supporting this call on harley-davidson.com. Click About Us at the top right, select Investors from the drop-down and click the Earnings Materials Box in the center of the page. Our comments will include forward-looking statements that are subject to risks that could cause actual results to be materially different. Those risks include, among others, matters we have noted in our latest earnings release and filings with the SEC. Harley-Davidson disclaims any obligation to update information on this call. Joining me this morning are President and CEO, Matt Levatich; and CFO, John Olin. Matt, let's get started.

Thank you, Amy, and good morning, everyone. In our press release this morning, we noted highlights from the quarter among them strong EPS excluding manufacturing optimization costs, revenue growth, higher HDFS operating income and international retail sales growth versus last year. We continue to make progress on our manufacturing optimization and see positive results from our commitment and actions to drive value for all stakeholders and maintain our brand premium, a corner stone of long-term value. We are also pleased with our cash generation and returns to shareholders through an increased dividend and share repurchases during the quarter. Today, we are encouraged and focused, as many of our markets welcome spring. Last year we shifted our mindset from building motorcycles to building riders and on the momentum of the 2017 increase in the number of Harley-Davidson riders in the U.S. we embrace this time of year not only as the riding season, but also the building riders' season. We are in the debut riding and selling season for our all new Softail motorcycle platform and we recently launched two additional 2018 motorcycles including our sixth offering with an MSRP under $10,000. Another great price and power entry into our brand, initial dealer and customer reaction confirms we hit the nail on the head with both new sportster model the Iron 1200 and the Forty-Eight Special. All our new models reflect our brand promise of all for freedom, freedom for all and support our objective to build the next-generation of Harley-Davidson riders globally. As I mentioned last quarter, based on our data insights our focus on ridership is way more than just inspiring new riders, ridership is a bigger idea, one focused on keeping riders engaged, riding and importantly purchasing. Our actions are focused on building new riders and selling more Harley-Davidson motorcycles and related products to fuel their passion. In the U.S. dealers are offering our freedom promise, designed to reinforce value and still purchase confidence and drive repurchase and brand engagement. Purchasers of eligible streets and sportsters will get the purchase price back on a trade within a year, a great option to riders who are discovering the riding style and the type of bike that suits them. In the first weeks of the program, dealers were seeing new customers coming in and believe this program dovetails nicely with a launch of the new sportsters. And there is more marketing and sales support queued up to deliver our spring sales goals, targeted programs to encourage the millions of hand raisers to take the next step in becoming a Harley-Davidson rider. Regarding our international performance, we are encouraged with a return to retail sales growth in Q1. The Softails have the mark and our test rides and conversion rates continue to improve in many of our international markets, as our teams and dealers continue to leverage the impact of test rides on Milwaukee-Eight powered Softails and touring models, the power, torque and handling of these motorcycles speaks for itself and there is no better way than a test ride to make that known in the hyper competitive international markets. We continue to expand our reach and impact with new dealer openings on track and with the opening of our first lifestyle retail stores in China, India and Korea during the quarter. Our strategy to engage with a larger audience through dedicated brand apparel stores is live and underway, helping to introduce Harley-Davidson to a new generation in Asia. Whether it's vigorous product competition abroad or challenged industry here in the U.S. we are encouraged by opportunities we see in our brand and are launching products and executing programs that will leave no free spirit behind. Looking forward to the balance of 2018 and beyond, this summer we plan to reveal significant additional steps, we'll take to enhance our long-term strategy and accelerate performance through 2022. Our view of the highly competitive global motorcycle market is grounded in a realistic assessment of the risks, opportunities and capabilities needed to inspire ridership and grow our business. Our data driven insights compel us to enhance our strategies to ensure we deliver our long-term objectives and build the next-generation of riders. As we work to refine our plans, I can share with you today that we're being aggressive and innovative in how we view the work we must do to strengthen our company, our brand and the sport. We see our path as expressed in our 2027 objectives as absolutely on point, we must create the next-generation Harley-Davidson riders by inspiring people with new types of Harley-Davidson products and new ways to express their individuality and spirit. People who may find their path to freedom on two wheels differently than those before them. This summer we'll convey very specific action plans to capitalize on global opportunities we see for growth. Plans that leverage our strengths as a company and brand while pushing the boundaries and limits, but our focus has been over our living history. Our aim is simple, drive result and value more quickly and do so in a way that is reinforcing of all we stand for as a brand and company. We plan to enter into new product spaces, initiate new market channels, and establish partnerships and collaborations with proven leaders. We expect the effects and results will elevate this great company and brand. A brand and brand promise with broad global appeal. Our efforts will open our doors to the millions more that are seeking a reason to be and a reason to join. Simply the next generation of Harley-Davidson riders. As we said on the January call, we're being aggressive in seeking and prioritizing opportunities that drive profitability and cash flow, improve the company's current growth trajectory and leverage our significant capabilities, assets, dealers and employees to deliver strong returns. And when we finalized the specifics, know that we will invest in opportunities that support our 10 year objectives and that deliver strong cash flow, top quartile ROIC and value for to our shareholders. We also said on the January call, that we're increasing our investment in electric motorcycle technology to accelerate our growth strategy and position the company as the leader in the electrification of motorcycles. We said we expect to invest an incremental $25 million to $50 million of annual operating margin in EV technology and products over the next several years and bring our first selected motorcycle to market before 2020. As part of that effort, we announced last month our investment in and collaboration with Alta Motors, a true innovator in light weight electric motorcycle technology. Working together on technology and new product development will fuel our ability to reach customers and non-traditional spaces with a full array of premium products more quickly. Our excitement about EV technology is born of our mindset shift to build great riders not just great motorcycles. Last year, we issued the typical machine based perspective and put the rider first in all of our thinking. This shift in mindset already unlocked new ways of thinking. It allowed us to clearly see our used motorcycles in the U.S. as a path to bring new riders into the Harley-Davidson experience. It triggered the EagleRider partnership to provide more avenues for people to experience our great motorcycles. It was a catalyst for the work we're doing with rider development and how our riding academy can be augmented both before and after the class itself to ensure people interested in riding became confident, safe and avid riders. And it has driven us to take a deeper look at what more we can do to accelerate our progress. While our enhanced strategic plan is about driving significant growth sooner and for the long-term, we also maintain our determination to optimize near-term performance. As I noted earlier, we have smart traffic driving stimuli [ph] in place in the U.S. to encouraged spring sales momentum, and we continue to expect international sales to be up year-over-year. We also remain resolute in our focus to aggressively manage for balanced supply of new motorcycles in the retail channel and position the company and our cost structure to better compete in challenging and competitive markets the world over. Our disciplined supply management actions continue to support lean retail inventory and we saw used bike price improvement in the U.S. for the third straight quarter. Our manufacturing optimization is progressing as we anticipated and we're on track to deliver expected annual ongoing savings. Also, we expect our new Thailand manufacture plant to begin production later this year. This plant will support more competitive retail pricing by eliminating much of the tax and tariff burden that fully assembled imports carry in important growth markets in Asia. We expect more competitive pricing will drive profitable share and increase demand. Volume growth that would not materialized had the motorcycles been shipped from U.S. and subject to import duties. In summary, we enter this year with awareness of the headwinds we face, and we're making progress against our plans to address challenges both near and long-term in nature. We're moving forward with determination and creativity leveraging the significant potential of our great brand to accelerate our performance and propel us toward growth with the next generation of Harley-Davidson riders around the world. Now, John will walk you through financial details for the first quarter. John?

Thanks, Matt. During the first quarter Harley-Davidson posted strong financial results despite prolong weakness in the U.S. industry sales performance. In the phase of ongoing retail sales headwinds we remained focused on reducing U.S. retail inventory, reducing costs and investing in our strategy to drive value for our riders, dealers and shareholders. The summary of our Q1 results is on slide 11. In the first quarter revenue was up despite decreased shipments compared to last year's first quarter. As planned motorcycle operating income was down behind a $46.8 million restructuring charge and increased SG&A. Financial services had a very strong quarter with operating income up 20.8%. Consolidated net income was down 6.2% due to lower operating income, partially offset by a benefit of considerably lower tax rate. EPS was $1.03 when excluding manufacturing optimization costs EPS was $1.24. Please note that we adopted a new accounting pronouncement, which resulted in classifying certain pension items in non-operating income. Accordingly we have reclassified last year's results to be comparable. We remain focused on delivering strong margins and strong returns over the long-term despite significant near-term headwinds. On slide 12, worldwide retail sales of new Harley-Davidson motorcycles in Q1 were down 7.2% versus prior year. Sequentially the year-over-year Q1 sales rate improved compared to the Q4 2017 sales rate, which was down 9.6%. In the U.S. as we expected Q1 retail sales continue to be adversely impacted by very weak U.S. industry sales. In International markets we experienced retail sales growth that was slightly ahead of our expectations behind strong performance in Europe and Latin America. We expect our year-over-year Q2 worldwide retail sales rate to improve compared to the Q1 rate. For the full year, we continue to expect retail sales to be down in the U.S. albeit at a slower rate than we experienced in Q1. We expect U.S. declines to be partially offset by growth in international retail sales. We recognize this was another difficult quarter for the industry, however we are encouraged by our strong revenue growth, international retail sales growth, our U.S. dealers inventory position and certainly by the actions we're taking to build ridership. Let's take a closer look at the U.S. on slide 13. U.S. retail sales were down 12.0% in Q1, which was within our range of expectations, but at the low end. The U.S. industry was down 11.1% we believe the new motorcycle industry sales continue to be adversely impacted by soft used bike prices. Sales of used Harley-Davidson motorcycles continue to outperform sales of new, despite increased used bike prices for the third straight quarter in dealerships in the broader market. Also Q1 used Harley-Davidson wholesale prices at auctions increased above year ago levels. And pricing services such as NADA and Black Book continue to publish higher retail values year-over-year for Harley-Davidson motorcycles. Stronger used bike prices reinforce our disciplined focus on driving premium value for our riders, dealers and the brand. Moving on to new motorcycle market share Harley-Davidson's share in the quarter remained at a very healthy 50.4%. Our share was down 0.9 percentage points on limited availability of new motorcycles and a highly competitive marketplace. While market share remains a key focus the slight contraction in our first quarter market share came with a more profitable mix and less promotional support than in the prior year. We remain focused on our approach to optimize profitability and maximize brand value. At the end of the quarter retail inventory was down approximately 9,100 motorcycles compared to the prior year. We believe our discipline to reduce supply and improve model year mix in the U.S. retail channel delivered the intended results and retail inventory was well positioned as we move into the selling season. On slide 14, international retail sales in Q1 were up on a year-over-year basis and slightly better than our expectations. As we expected our Q1 retail sales rate significantly improved from the Q4 2017 sales rate. During the quarter retail sales were driven by strong growth in EMEA and Latin America largely offset by weak sales in Asia Pacific and Canada. In EMEA, Q1 retail sales were up a strong 6.8% versus prior year. We experienced growth across most Western European markets, partially offset by lower retail sales in emerging markets. In Europe, our sales were up 8.1% in the quarter and our market share was up 1.3 percentage points. Harley-Davidson's retail sales and market share gains were driven by strong sales growth of the new Softail motorcycles. The year-over-year retail sales rate in Asia Pacific region continue to be soft in Q1, which showed sequential improvement compared to the Q4 rate. During the first quarter Asia Pacific retail sales were adversely impacted by lower sales in Australia and Japan. We are addressing these markets by focusing on national test ride campaigns and providing finance offers to help dealers close sales. Emerging markets in the region were also soft behind a lack of inventory in China, as our model year 2018 motorcycles were not homologated and approved for shipment into China until March 29th, which was later than the year ago period. We experienced strong Q1 retail sales growth in Latin America, which was offset by a decline in Canada. Finally, in line with our strategy to increase brand access internationally, we continue to expand our international dealer network and added seven new dealers during the quarter. We remain confident in and committed to the great potential that international markets offer to Harley-Davidson, we continue to leverage our brand, products and distribution opportunities to drive sustainable growth in international markets. On slide 15, wholesale motorcycle shipments were down 9.7% in the quarter and within our shipment guidance range. Touring as a percent of total shipments was significantly higher compared to last year's first quarter when we constrain touring shipments to allow dealers to focus on selling through the model year 2016 touring motorcycles ahead of the 2017 bikes, which feature the new Milwaukee-Eight engine. In the second quarter, we expect touring as a percent of total shipments to be down as the overall mix returns to a more normal allocation. On slide 16, revenue for the motorcycle segment was up in the first quarter despite significantly lower year-over-year motorcycle shipments. On January 1st, we adopted the new revenue recognition accounting standard, which includes some shifting of revenue between line items and the breakout of licensing revenue, prior year has been reclassified to make revenues comparable. Q1 average motorcycle revenue per unit was up over last year's first quarter. The increase was due to a richer product mix, favorable currency exchange and higher pricing. P&A and general merchandise revenue growth significantly outperform motorcycle retail sales during the quarter, impart driven by favorable currency exchange. On slide 17, gross margin in Q1 was largely flat behind very strong product mix, favorable currency exchange and higher pricing, offset by decreased shipments, higher manufacturing expense and rising raw material costs. Manufacturing expense was unfavorable versus prior year, driven by lower absorption on lower production and shipments and higher depreciation. Raw material costs have been rising primarily behind increasing steel and aluminum prices. On slide 18, operating margin as a percent of revenue for Q1 was 12.7% down 5.1 percentage points compared to last year. Operating margin percent was adversely impacted by higher SG&A spending as we invested in higher levels of marketing and prior product development and a $46.8 million restructuring charge related to our manufacturing optimization. Profitability and strong cash flow are our key focus, it is our aim to further leverage our established capabilities to continue to drive profit, cash flow and top quartile ROIC into the future. HDFS's Q1 operating income shown on slide 19, increased 20.8% compared to last year. Operating income was positively impacted by a lower provision for retail loan losses of $14.2 million, driven by lower credit losses and a slight reduction in the reserve rate compared to a rising reserve rate in Q1 of 2017. Net interest income was down $1.9 million due to higher borrowing costs. HDFS's operational results are on slide 20. Origination were down 8.3% versus prior year and driven by lower retail sales in the U.S., market share was down 4.3 percentage points during the quarter compared to last year, as we lap a 6.1 percentage point gain, driven by finance offers to support sell through of non-current touring motorcycles. At the end of the quarter there was $350.5 million of cash and cash equivalents at HDFS and $1.12 billion of liquidity available through bank credit and conduit facilities. During the quarter HDFS paid a dividend of $110 million to Harley-Davidson Inc. On slide 21 the 30 day delinquency rate for retail motorcycle loan receivables on our balance sheet at the end of March was 3.31% or 14 basis points higher than Q1 2017. The annualized retail credit loss rate for receivables on balance sheet was 2.15% or 16 basis points lower than 2017. We were encouraged to see a year-over-year decline in credit losses after having experienced an extended period of increases as credit losses have normalized. HDFS continues to maintain a robust liquidity position and contributed strong profitability to the company. The remaining Harley-Davidson Inc. financial results are summarized on slide 22. Operating cash was up $31.7 million or nearly 20% driven by lower wholesale financing during the quarter. Our effective tax rate was 24.1% in the first quarter, which was considerably lower than last year largely due to the impact of the Tax Cut and Jobs Act. And finally regarding liquidity the company has and intends to continue to maintain a minimum of 12 months of projected liquidity needs in cash and or committed credit facilities. We believe that charts on slide 23 demonstrate that we are in the class of our own when it comes to generating cash and returning cash to our shareholders. We benchmark very well against various peer groups for the period of 2015 to 2017. One of our five objectives guiding our business strategies and execution through 2027 is to deliver superior return on invested capital as measured by motor company ROIC and the top quartile of the S&P500 and by a best-in-class return on equity at HDFS. Harley-Davidson is a leader in ROIC at the motor company and ROE at HDFS. As indicated on the slide Harley-Davidson is a clear leader in our ability to generate and return cash. Slide 24 illustrates our recent history of returning cash to our shareholders. In the first quarter of 2018 we increased our dividend to $0.37 per share and repurchased 1.4 million shares for $65.1 million. Driving superior value for our stakeholders is our top priority. We will continue to look for opportunities to grow value first and foremost by disciplined investments to maximize the performance and long-term potential of the company and the brand. We have a robust process for our investment decisions and we are disciplined to it. After investing in our business we intend to return excess cash to our shareholders in the form of increasing dividends and continued share repurchases. On slide 25 is a summary of our expectations of our multiyear manufacturing optimization initiative. We expect this optimization to result in a reduction to operating income of $170 million to $200 million through 2019, of which roughly 30% will be non-cash write-downs of existing assets. We also plan to invest approximately $75 million of capital and expect annual ongoing cash savings of between $65 million to $75 million after 2020. We believe these investments have very attractive returns, when completed we expect this initiative will simplify our manufacturing footprint, provide focus in our operational investments and improved gross margin by approximately 1.25 percentage points. During the first quarter we initiated the manufacturing optimization and incurred $46.8 million of restructuring expense, driven primarily by employee severance and accelerated depreciation. We also incurred $0.7 million in related temporary inefficiencies. A summary of our expectations for 2018 is on slide 26. Our expectations for 2018 are largely unchanged however there are a few things to note. First, due to strong first quarter results at HDFS we now expect HDFS operating income will be flat to down modestly. Second, as we noted last quarter operating income has been adjusted to exclude certain components of pension expense. We adopted a new accounting pronouncement in 2018, which require certain pension costs to be recorded in non-operating income. This change has been implemented retrospectively. We expect full year non-operating income of about $2 million in 2018 compared to $9.2 million in 2017. The reduction is due to higher amortization of actuarial losses following the first quarter remeasurement of our pension plans required as a result of the consolidation of our U.S. assembly plants. Next, we continue to expect to incur approximately $120 million to $140 million of costs to execute our manufacturing optimization initiative during the year. Of that total, we expect second quarter manufacturing optimization charges to be approximately $20 million. And finally, we continue to expect to ship 231,000 to 236,000 motorcycles in 2018. In the second quarter we expect to ship approximately 67,500, to 72,500 motorcycles down 11% to 18%. Given Q1 actual shipments and our expectations for Q2 shipments, we expect first half shipments to be down 11% to 14%. Consequently to achieve our full year shipment guidance of down 2% to 4% we expect back half shipments to be up roughly 12%. We believe this shipment cadence will result in tight U.S. retail inventory through the selling season and an improved level of carryover inventory at model year changeover. Timing of shipments is expected to result in flat year-end retail inventory in the U.S. and it supports our very disciplined supply strategy, which we believe is delivering its intended results. Finally we expect the shipment cadence will also impact timing of our operating margin in each of the remaining quarters of 2018. In the second quarter we expect motorcycle operating margin to be down approximately 5 percentage points versus last year behind the following impacts. First as I mentioned unfavorable shipment mix; second, approximately $20 million of manufacturing optimization costs, also lower fixed absorption behind lower shipments, which we expect to recover in Q3; and finally SG&A up behind higher investment in marketing and product development compared to last year. To wrap up, we continue to be disciplined in our management of supply, drive premium value for our dealers, riders and our brand, amplify our costs management efforts and relentlessly focus on our long-term objectives. We look forward to finalizing and revealing our plans to accelerate our strategy to build the next-generation of Harley-Davidson riders. We will continue to focus our investments, deliver strong returns to shareholders and drive growth for the company for the long-term. Now let's take your questions.

[Operator Instructions] And your first question comes from the line of Craig Kennison with Baird. Please go ahead.

Hey, good morning, thank you for taking my question. Matt, I wanted to ask you a question about this big data project you have been investing in to understand rider behavior better, that seems to be informing your 2022 plan and I know you are still refining that. But I am curious what's your initial assessment of that data suggests about the U.S. market, about millennial buyers and about your international opportunities?

Thanks, Craig and good morning. It has a wealth of information and in fact I think we're just at the tip of the iceberg it really fully taken advantage of all that it has to offers. As we said in the January call, there were 257,000 new to Harley-Davidson riders in 2017. I would say that that number was larger than we expected and it also implies that the people that exited was also larger than we expected. So the flow through the sport is more than we thought, I guess that we that would have thought initially and that represents the opportunity for us as we see movement how do we channel that movement, how do we look at the competitive movement from competitors into Harley and how do we better leverage the tools like riding academy and so forth to increase the number of new riders. And I said in my opening remarks it emphasizes the importance of ridership in a bigger sense. How do we keep existing riders riding and participating, that's a huge lever for us to pull to keep the sport vital and keep people active and keep the number of riders up the way we needed to be for the long-term. So, I would say Craig it's early days, the insights are tremendous that we have already received the teams continue to dig and mine for other insights including competitive flows that help us sharpen our efforts and target our investments. But it's a tremendous asset that we have as a company that we're continuing to find new ways to leverage.

Your next question comes from the line of Gerrick Johnson with BMO Capital Markets. Please go ahead.

Hey, good morning. Couple of questions, maybe you could comment on what are you seeing so far in April? And also what your retail would have been if you include used products, so total demand for the Harley brand. And the last one is Riding Academy, how many dealers do you have now, how many do you plan on having in the future in Riding Academy? Thank you.

Thanks, Gerrick. We don't comment on the in-quarter, but what we can say is whether that started out in April, was pretty difficult around the United States in terms of temperature as well as precipitation. So, overall a little bit slower start than we would like driven entirely by weather, it reminds me as yesterday I drove in the work and saw the last of the snow melting away here in Milwaukee. So, weather is breaking and we're very excited about the spring selling season starting in earnest.

I think the second question that you ask Gerrick was with regards to retail sales of have used and new, if I got the question right. We are a month lagged on used retail sales, but when we look at the marketplace through January and February, used was down a bit in the first two months. Again cautious on - these are two of the smallest months that we have with used was down as was new. And then finally the question - the third question was with regards to Riding Academy, I think we train last year 62,000 riders in Riding Academy, we would expect to do a little bit more than that this year. We're off to start the first quarter, we had good conversion rates one of our focuses. So conversion of people buying those motorcycles is improving and the folks that are buying bikes that took the class compared to last year is also up on a year-over-year basis.

Your next question comes from the line of James Hardiman with Wedbush. Please go ahead.

Hi, good morning. Thanks for taking my call. So, I wanted to square a couple things here, and we've talked about some of this before, so used pricing sounds encouraging it was up year-over-year I think you said this is the third straight quarter, but as we think about the declines particularly in the U.S., which are pretty large obviously, used pricing continues to be the primary culprit there that you guys talk about. So maybe, square those two things is the gap between new and used any smaller than it was a year ago, which would maybe be the better metric to think about. The new bike that you are selling right now as opposed to some of the used bikes. And I guess in your answer to the previous question, total demand, it sounds like it's down in the first couple of months and it sounds like it was flat to down last year, why do you think total demand is decelerating as I think about that whole used to new dynamic?

Thanks, James. So, as you pointed out we're very pleased to see used bike prices rising and as we talked about we look at used bikes in three different areas. One is at auction, which really tends to kind of trigger the changes in prices and auction prices were up in the first quarter on a year-over-year basis and actually that represents the fifth straight quarter it was a year ago first quarter that we first turned used bike prices at auctions around or saw them start to rise [technical difficulty]. So auction prices are up. Second piece of it is with prices services are publishing. So they price - publish retail prices to people that want to use the data that are looking to buy used bikes and in the first quarter of this year that was also up. And when we look at NADA and Black Book and look at a two year old Harley on a comparable basis year-over-year one of the services had us up on an average of 4% and the other up an average of 7%. So that goes a long way to starting to close that gap that we see between new and used. But those are pricing services that published in books, now we need to see that translate to the broader market. And in the first quarter we did see prices of used motorcycles that are transacting in our dealerships and data that we get outside of - other dealerships outside of ours is Harley-Davidson motorcycle used bike prices are increase. So we're moving in right direction and that would be three months or three quarters within our dealer network that we've seen that rise. But again we're fighting off a 13 quarter decline and a pretty large price gap. So we are moving in the right direction and seeing that gap, close a little on a year-over-year basis. We couldn't be more focused on that and certainly our actions of how we're managing our inventory are helping to drive that outcome. I think the next question you asked is with regards to total demand. Total demand is starting to turn a little bit negative, in the back half of last year it started to be slightly negative and in the first couple of months again I take it with a lot of grains of salt because of the small sales months and weather plays a huge part in the first quarter. But it was down a bit. Used are still well outperforming new, but overall total demand is down a bit and those are the things that we've been talking about and that is why we've got a long-term focus on building riders and going back to the question that Matt just answered is we couldn't be more focused on building riders and we're seeing good things come of that. We had more riders in 2017 riding Harley-Davidsons than in the history of the company both new and used, but we are fighting some near-term headwinds with regards to the U.S. industry.

Your next question comes from the line of Joseph Altobello with Raymond James. Please go ahead.

Thanks, guys. Good morning. Just wanted to kind of dive into the 2Q shipment outlook little bit more in detail. If you look at the numbers it sounds like you guys felt pretty good about inventory coming out of the first quarter. And if my math is correct assuming international is up a bit it looks like the U.S. shipment number will be down about 20% in the second quarter. And then secondly to that you're looking for a big jump in the second half you do have a tough compare in the fourth quarter. So help us understand the dynamics of that shipment guide versus 2Q as well as in the back half? Thanks.

Great, Joe. So when we look at the shipment outlook for Q2 it is to be down 11% to 18%, I think you mentioned 20%, but it will be down in the range of down 11% to 18%. We do not expect in any way shape or form retail sales to be down that amount. So we will take more inventories out of the system in the second quarter. And as you had mentioned Joe, we feel very good about where we ended up in the first quarter we took out 9,100 units in the first quarter and that was on top of taking out 8,000 in the year ago quarter. So we've significantly tightened things up and again we're seeing the intended results of doing that. So we feel good about it we'll see more of that in the second quarter. And that will allow us again to have a tight system moving into model year changeover, which will happen in August. Now to get to and address your question on the back half you're absolutely right. If you take our first quarter actuals down 9.7% in shipments our second quarter expectations down 11% to 18% our first half will be down about 11% to 14%. And to get to shipment growth of 2% to 4% down we would need the shipment on average about 12% more in the second half of the year. That does not mean to say that we expect retail sales to be up 12%. What that is as much more of a function of what happened last year than what is happening this year. This year we're normalizing our shipments across the four quarters making sure that we are diligently managing inventories in the first half in the selling season of the year. But really what you're seeing is what happened last year and if you recall last year we had a very tough second quarter, the industry had a tough second quarter, and that required us to call down volumes in the third quarter. We took out a lot of volumes in shipments and production out of the third quarter. And so last year was not a normal shipment cadence. We're making it normal this year. And so we will ship in more products in the back half because we took it out of the back half last year. So hopefully that helps, overall we expect our shipments to be down 2% to 4% we feel good as to where we sit today with regards to that overall shipment guidance and we are managing the inventories to make sure that we continue to drive things that we're seeing in retail.

Your next question comes from the line of Sharon Zackfia with William Blair. Please go ahead.

Hi, good morning. I was hoping that maybe you could help us frame the opportunity on the electric motorcycle side from your research kind of from a demand perspective what percent of consumers that are interested in that kind of vehicle might be new to motorcycles? And then are the demographics very different from the traditional Harley rider? And how do you expect that demand to kind of look U.S. versus overseas?

Thank you, Sharon, that's a great question, its Matt here. We couldn't be more excited about what electric technology represents for both inspiring and enabling people to join the sport. Our Livewire investment back beginning in June at 2014 the demo rides that we did about 12,000 people worldwide, we took those motorcycles out to real riders in real settings around the world. The feedback that we got was phenomenal and that feedback was from across the entire demographic spectrum obviously these were on road trials. So these were existing motorcyclists. But many of the people that road and myself included were inspired by the ease with which the electric technology enables people to ride, people commenting that it's easier to ride than a bicycle for example. The way Livewire was constructed it's very light and nimble and maneuverable with excellent throttle responses, no shifting, no clutch, no heat, the slow speed maneuverability makes it particularly useful in urban settings where our traditional product doesn't necessarily - that is the sweet spot for existing traditional product. So we see electric as playing a very key role in opening up new spaces and opportunities for the company to grow with different demographics and in different settings and including international, in particular urban. And the partnership arrangement with Alta around their technology and our ability to incorporate that into other lighter weight EV products is part of that learning and that knowledge that we have about how we use EV to open up growth channels for the company. Different people, in different places with different ideas about how they want to if you will experience freedom on two wheels. So we're excited about it, that's all that I can share at this stage, but we'll reveal more this summer. So, thank you.

Your next question comes from the line of Rod Lache with Deutsche Bank. Please go ahead.

Great, thank you. A couple of questions, one is, you mentioned that you feel better about the year-over-year retail declines in the U.S. moderating over the course of this year, if you can just give us a little bit of inside into what is driving that expectation? Secondly, the work with Alta, could that actually accelerate or change the trajectory of electric motorcycle launches. And then lastly any comments on steel just given the volatility of that commodity and how you're looking at that affecting your numbers this year?

Alright Rod, I'll take the first and third and I'll leave the second for Matt. When we look at the year and how we really ended last year in terms of pretty weak retail sales, if you recall on a worldwide basis, retail was down 9.6% in the fourth quarter, again the fourth quarter is our smallest quarter and highly volatile as is the first quarter. But as we plan this year out, we were looking for certainly sequential improvement as we moved into the first and second quarter and we got that improvement in the first quarter. In the U.S., we were looking at double-digit decline and it ended up being a little bit more than that, certainly disappointing driven by the U.S. industry, but not out of line with what we were expecting. International was a little bit different, actually international we were planning the first quarter to be down and it came in up slightly. So very pleased with that. So as we sit here at the end of the first quarter, we're in line with our expectations for the year and to delivering our full year shipment guidance. And we are looking for that sequential improvement to move into the selling season. So, again we feel good as to where we're at right now. The second quarter - the second question that you asked Rod is with regards to steel prices and if you don't mind I am going to expand that question a little bit out into the overall tariff situation. If you recall our guidance coming into the year, we talked about raw materials and we expected raw materials to be up. And in the first quarter they were up, they were unfavorable by $4.2 million and I want to make that clear that that was largely driven by steel and aluminum rising, but that was not driven by the tariff announcement that we saw in the middle of February. So we expect raw materials to be up and they are in the first quarter. In the middle of February as everyone knows the U.S. government came out and announced tariffs on steel and aluminum 25% and 10%. Since that announcement in middle of February we have seen aluminum and steel prices rise even further and the broad markets were up anywhere from 5% to 15% I think steel is up about 15% and aluminum is up about 5% as of yesterday. So with that we expect even higher unfavorability in the raw materials part of our P&L. So looking at the impact of tariffs every information that we have now shows a highly volatile situation who is in who is out and what's happening to market prices. But we would expect an additional $15 million to $20 million on top of already rising raw materials that we expected at the start of the year. So that's going to provide quite a headwind for the company over the next several quarters. Again we didn't see it in the first quarter, it will start the flow through inventory and into our P&L in the second through fourth quarters. And we're looking at ways to mitigate it, we're holding our operating margin guidance that puts a little bit of pressure on that. But looking for ways to mitigate the unplanned increase in steel and aluminum.

So Rod, this is Matt and I'll build a little bit off my comments to Sharon's question. The Alta investment and partnership is really about products beyond the EV product that we're planning to launch by 2020, which is really a derivative based on Livewire. So the research from Livewire as well as our consumer research kind of going back to Craig's question about looking at the rider migration knowledge base that we have. This is all about the EV portfolio beyond that initial Livewire derivative. And as I mentioned in my comments Alta is really an expert in lighter weight EV technology. So you can start to imagine that younger urban consumer and the technology, and the price point if you will of EV that Alta brings to the party for us opening doors to those growth opportunities for the company. That's really all that I'll say right now, that's what the investments about, we'll talk more about it, I think we'll talk very specifically about it this summer what we see the EV landscape representing to the company's portfolio and our growth prospects as well as the value that we will build for shareholders as a result of this part of our strategy.

Your next question comes from the line of Joseph Spak with RBC Capital Markets. Please go ahead.

Thanks. John thanks for the commentary on the balanced capital allocation. I wanted to probe it a little bit further because if you look back at 2017 and the dividends and buybacks return were a little bit over $700 million, which is almost all your total company free cash flow and certainly more than the free cash flow just from the motorcycle company. And it seems like a similar dynamic play out this quarter so we think about 2018 when your guidance does imply lower free cash flow is that the dynamic we should continue to expect where almost all of it is returned? And if so I just wanted to understand some of your thinking as to why you should continue to do that now as you embark on this phase of reinvestment and restructuring and you might not even know all the opportunities lie ahead of you. And then I also had just want a housekeeping clarification, it looks like you called out the nearly $47 million in restructuring and based on the prior gross margin guidance I was sort of under impression and maybe this is my error that it would run through there. So, I guess, I just want to understand when you say flat gross margins ex-manufacturing optimization is that just the temporary inefficiencies that you called out in the walk or is that all ex-all manufacturing optimization? Thanks.

Thank you Joe. I'll answer the second one first. With regards to the manufacturing optimization it's made up of two costs that will hit the P&L in two different places, one is temporary inefficiencies and that is slowing lines down to move equipment and so on and so forth the duplicate resources as we keep one plant running and move equipment. We expect that to be $20 million to $25 million and that will hit in gross margin. The second piece is restructuring, which is largely severance accelerated depreciation moving equipment and those type of costs that's $100 million to $150 million. So the total of $120 million to $140 million is what it will cost us to garner those savings of 65% to 75% ongoing. If you exclude the $120 million to $140 million out of this year's result, we would expect operating margin and gross margin to be largely flat to last year to 2017's results. I hope that helps Joe. Secondly is with regards to capital allocation, we have said many times, as we just said in the preamble, is that we will invest the cash that we have in great returns to deliver top quartile ROIC. We will continue to do that, we're doing that this year and coming out this summer, we'll talk more about opportunities that we have to invest our free cash flow in great opportunities to deliver shareholder returns. Beyond what we invest in the business we will return and continue to return all excess cash to our shareholders. So first we will find the great projects that drive top quartile ROIC and beyond that we will deliver those - that cash to our shareholders in the form of rising dividends and share repurchases.

[Operator Instructions] Your next question comes from the line of Felicia Hendrix with Barclays. Please go ahead.

Hi, good morning. Just John and Matt I had some questions your international business, I was just wondering if there was a way to think about same store sales in international I'm just trying to figure out how much the growth of the new dealership help drive the international growth in the quarter? And then also if you just want to look at one quarter as a trend then it does look like international sales have turned. So with the continuous steep declines in the U.S. and the market share losses there I'm just wondering what you can take from your learnings internationally and apply to the U.S? And then just one part of the tariff that you didn't touch on is, is it affecting demand internationally at all or is that something you are concerned about?

Thanks, Felicia. Felicia, we do not major sales on same-store basis. I know it's very common in some retail environments, we don't do it, but if you look at the quarter, EMEA was up 6.8%, we didn't add a lot of new dealerships, it's been more steady and in terms of overall dealerships. So same-store dealer sales were up a fair amount. The corollary to that is an AP, AP retail sales were down in the quarter 7.8%, still struggling with areas in Australia and Japan. And with that our same-store sales are down and there is where we've added some of those, the majority of that seven dealerships that we opened were in that market. So, we've got a mix of both going on international in particular in Asia-Pacific has been on a tough slog over the last couple of quarters. And we believe the back half of the year will certainly improve in Asia-Pacific. But overall same-store sales in the last couple of year in international have been down as we've added dealerships and have not added overall growth in those markets. Second is with regards to the tariff. And are we seeing the tariff effect demand internationally. The answer is no, there is no change to our prices due to the tariffs at this point. So there would be no consumer change in the overall tariffs. There haven't been any tariffs on our products internationally, so the costs hasn't change. Certainly one of the concerns is potentially retaliatory tariffs. We have been cited by the EU in terms of putting tariffs on Harley-Davidson motorcycles if the U.S. government goes through with tariffs on steel and aluminum for the countries in EU. So we're keeping the close eye on that working with trade groups and the various trade officials in both countries to work through that, but no we have not seen any impact of the tariff on our sales either in United States or international markets.

Your next question comes from the line of Greg Badishkanian with Citi. Please go ahead.

Great, thanks. So just one question and a follow-up. So you've had two model years of very innovative new products well received by the dealers that we talk to and others, I'm sure, but it didn't drive retail sales. So I'm assuming that's more of a marketing issue and you did talk about some of your plans with different this year for the upcoming year and when your new products come out in the summer that maybe is different than the previous year or two. And then also just a follow-up on the weather comment, you mentioned April is a little bit - was a slow start, does that mean that April was actually - the growth rate was weaker than the 12% decline you saw in the first quarter? And then did you also see a weather impact in the first quarter?

So, Greg I'll start with your second quarter question first, because I can remember the best is with regards to April weather, we're not - we don't provide in quarter retail sales, it was just the comment that overall weather was pretty difficult in the first couple of month of April, I don't think that's a surprise to anyone. I think there's only two parts in the United States, Florida and a little bit of Arizona that had better than normal weather during that first two weeks of April. With regards to the first quarter, we don't see a big impact of weather. When you look at it, look last year's - our first quarter temperatures and precipitation was really in line with normal levels. 2017 was certainly better than the average, but we were at average weather in the first quarter. Some places in the northeast a little bit out west with the rain did affect us. When we look at some of our regions the northeast region was behind the overall average sales. So weather had a little bit of impact, but not enough to really talk about for the first quarter. Second question was with regards model year - or I am sorry new product, we have come out with absolutely spectacular product and you're right Greg and thanks for pointing that out dealers love it, customers love it and our riders love it. But it hasn't delivered the results, in particular in the United States and the headwinds on the industry have been very significant. And with the price gaps that we have got, I tend to call it bad economics out there sometimes is that the price gaps are so large, it does impact our good product and our good marketing. We do not believe it is an issue with marketing, we think our marketing is fantastic and as we look at the key indicators of how we are reaching out to customers, marketing is strong. We are seeing a dislocation in used bike prices and we are seeing more people despite the good product that we're bringing to market buy those used bikes and we talked about that earlier, used is outperforming new. So we just got big headwinds in the United States. When we look at internationally where we don't have is issue - big of issues with price gaps, on the new Softails are selling absolutely fantastic. Europe, we're up 8% in 16 country and the market was down 7% in the first quarter and that's all driven by our great new product.

Your next question comes from the line of Jaime Katz with Morningstar. Please go ahead.

Hi, thanks. Good morning. I am curious about the mix of sales in the international markets, as this becomes the bigger part of the mix for the business. I am just trying to ascertain whether there might be more gross margin pressure or alleviation depending on whether touring in custom might be a bigger part of the mix, which it sounds like it is now versus the Sportster bikes? Thanks.

Thanks, Jaime. The overall allocation or mix of products internationally is at inherently lower mix. So in the United States over 50% of sales are touring bikes, internationally sportster and street make up a bigger percentage. So as we grow there will be pressure on overall margins, but we don't think that's any amount that we can't overcome. We've got a lot of focus on growing touring around the world and we have seen touring outgrow the rest of our portfolio in the last year. So we are focused on that and the new Softail is a very high margin product and that is growing very well. So our overall product portfolio and lifecycle, we have a balanced mix of product coming out between high and not as high margin, we are managing the best we can. But as we grow internationally, we might see a little bit of headwind with regards to margin.

Your next question comes from the line of Tim Conder from Wells Fargo Securities. Your line is open.

Thank you. Couple of questions here, Matt or John, whoever wants to take this. You talked about the new partnership on the EV side and it sounds like you guys maybe hitting about something to be coming here in calendar 2018. But just in general within the broader framework Matt you talked about other sleeves and other things to grow the overall participation in ridership, could that be in other sleeves of motorcycling or even on the fringe or right outside of motorcycling?

Thanks, Tim. To be clear and I mentioned earlier the Alta partnership is about the EV portfolio post the launch of the Livewire derivative, which we expect in about 18 months. So we're focused on opportunities to grow the business, reach new customers in new spaces, we see EV as a great opportunity as a part of doing that, not obviously the entire answer. As I mentioned earlier the ease of used suitability toward urban environments, the appeal to younger demographics we see EV being very critical in as a part of the mix in that growth vein for the company. But there's no hinter or no suggestion that the Alta partnership is about anything sooner.

Your next question comes from the line of Seth Woolf from North Coast Research. Your line is open.

Hey, guys. Good morning, thanks for taking my question. Just wanted to take a step back big picture question on international market. Matt you had mentioned that with manufacturing facility going online abroad it's going to give you more favorable market pricing dynamics, which could lead to share gains, just curious if you've done any work to try to quantify what that could mean? And then John if it's a meaningful number how should we think about incremental margins in that business? Thank you.

Thanks. I wouldn't - we see tremendous opportunity particularly in Southeast Asia and the investment in the plant in Thailand to get around the egregious [ph] tariffs and duties is a part of accessing the very important market. A market I would say by the way that most of our premium branded European competitors already have a beachhead, manufacturing in Thailand still they're already enjoying favorability at retail pricing. And we need to be there and be relevant and grow our share as well as our volume to have our dealers be profitable and so forth. So it's very important to the long-term growth of the company as a segment within the international growth opportunity. And we plan to talk more about that as part of our discussion this summer on ways in which we can accelerate our growth trajectory.

And Seth we talked a little bit about the mix is inherently as we grow international there will be pressure on overall margins nothing that we don't believe we can't manage through. And the other piece of it and much more important is the mix change because of growth is currency. No one has mentioned currency so I'll take the opportunity to mention it. We had a great quarter in terms of currency after two and half years of watching it go the other way. We garnered $15.5 million of gross margin in currency so that's a much bigger driver to overall margins than the shift that will happen overtime in terms of mix.

Your next question comes from David MacGregor from Longbow Research. Your line is open.

Yes, good morning. Just wondering maybe go back to very first question where you were asked about your big data work and or maybe just anecdotal commentary just coming back to the dealerships, but one of our concerns has just been people getting price out of the market at the higher end. And I'm just wondering if you're seeing more evidence now of consumers becoming more price sensitive. And so what's kind of the price point threshold where you're seeing a greatest change in purchasing behavior? And then just secondly back to the raw material question, you gave the incremental for 2Q, 3Q, 4Q that's 15 to 20 should that be uniformly distributed or is it more skewed to the back half? Thanks.

So David I'll take the first part of the question. We're not seeing in a specific sense what you alluded to with pricing. We have invested a tremendous amount in new product, we've added tremendous amount of value, part of that value is to separate new from used and that value carries commensurate increases in pricing the pricing we pay very close attention to what competitors are charging for new motorcycles to make sure that we continue to maintain our relative competitiveness in our market share in the United States. So we feel good about that. Market share is very important is very strong we gave away a little bit of market share in the first quarter, but honestly nine tenth of a point on a 50% share is sort of normal variation. So we are focused on relative competitiveness to the competition, we're focused on adding value through our products, driving increased demand from existing riders and new riders. And then obviously we've talked a lot about the used bike population and the dynamic that that has on the decisions that people make about whether to buy a new Harley or a used Harley. And I don't think I need to repeat all that. But all of those demand dynamics are part of our work to optimize our business in the United States, as we focus on ridership as the core goal, with other strategies to do that as well.

And to add on to that just to point out that Softail, which we did raise the price with in the first quarter in that segment that it competes in large cruisers the market share was up nearly 9 percentage points. So I would say that people are accepting the value that we have added and certainly paying for it. Secondly, David you asked about the cadence of potentially higher raw material costs of $15 million to $20 million, number one it's an estimate and it's based on what market prices are and they have been very volatile since the announcement of tariffs on February middle of February. But we would expect as our inventory flows through that most of it would get picked up in the second quarter, little bit less in the second quarter. And then full boat in the third and fourth quarter. So I would say by and large equally between the quarters adjusted for sales volume, because we got higher quarters in the second and third, higher volumes flowing through. Net of all of that, a little bit higher in the second quarter, the highest in the third quarter, and little bit less in the fourth quarter.

Your next question comes from David Beckel from Bernstein Research. Your line is open.

Thanks a lot, thanks for squeezing me in. Two quick questions and sort of follow-ups on previous questions. Around the acceleration in strategy you threw out some interesting words such as do spaces and channels. I was wondering if you could maybe just elaborate a little bit on how far adjacent you are willing to go strategically to accomplish your goals. And then as a follow-up to James prior question used bike pricing, I was wondering specifically - at what point do you think that rising used bike prices will actually have a positive effect on sales, as it seems like it hasn't really materialize as expected. And are we right to continue to assume that an increase in used bike prices will positively affect sales going forward? Thanks.

This is Matt, I would urge you to revisit my remarks in the preamble, because they are carefully chose we are being creative, we're being determined at how we grow value in our business and grow our overall business. We are diligently working on refining the strategies to accelerate our progress in line with our 2027 objectives and in keeping with who we are as a brand and the company leveraging our substantial strength. Just to reassure everyone that we're being bold, we're being very open minded, but we're been very responsible and acknowledging the strengths that we can leverage and the opportunities that we can pursue. And we are looking forward to finalizing that work and getting out in front of our investors here this summer.

And David with regards to your question, as how much more do we need before we see a different outcome. We don't have a percentage that says hey 5 more point were there or 7 points or 10 points everything is going to be good. What we have is a price dislocation now and a disparate growth between used and new motorcycles and as that gets balanced and that value equation comes back into line, we will see both new and used grow at about the same rate into the future. So, I wish there was a way to say that here is one it would be and here is how long it will take. We're doing everything as a company to make sure that in the levers that we can pull that we are working at and the good news is, is that we're executing against our plan and it is delivering the intended results, but we still need to continue to close that gap.

Your last question comes from the line of David Tamberrino from Goldman Sachs. Your line is open.

Great, couple of questions. With the decline in U.S. sales both new and used, how are you thinking about your total amount of dealerships for the amount of sales you have currently? And then the second question, how do you think about the contribution margins on the new Softail comparing to call it 40% to 50% you've talked about traditionally given you've consolidated the architecture behind the vehicles?

So this is Matt, David, I'll take the first question on the U.S. network. We actually feel very good about the composition and profile of the U.S. network and keep in mind they're leaning into the opportunity grow riders through our used business. So as independent businesses, they've got that lever to pull to maintain their profitability and when we think about strategies like riding academy. And the other levers that we're pulling to both riders or dealers are a critical part of us achieving those strategies in the United States and we feel the coverage is very well placed to do that and we're working diligently with the dealers on strategies to be even more effective at that work.

And your financial question David was with regards to contribution margin around Softail, we feel very good about where we're at, we increased price, but we also increase the cost of those. Overall margins are up slightly, we're seeing very good productivity in our plants, we'll see more of that comes as we've streamlined the number of engines and the number of frames that we have and really simplified things in the plants. We did see good productivity in the first quarter, and the manufacturing line item was over shadowed by lower observation and higher depreciation costs, but we did drive good productivity in the factories partly due to the simplification of Softail offers and combining three different platforms into one.

Thank you, John and Matt. And thank you everyone for your patients as we try to get through other questions in the queue, we did not. So for those of you that are still in the queue I'll follow-up with you after the call today. And thanks everyone for your time. The audio and slides will be available at harley-davidson.com or for the audio, call 855-859-2056 or 404-537-3406, until May 7th. The ID is 4076918. We appreciate your investment in Harley-Davidson. Thank you.

This concludes today's conference call. You may now disconnect.