The Case for Polaris Industries

Posted by Ben Connard on January 11th, 2016

We purchased Polaris (PII) in accounts at the end of September. PII manufactures snowmobiles, motorcycles, off road vehicles (ORVs), small vehicles and accessories. At the time, PII had fallen almost 20% during the year and was trading at the low end of its historical multiples, e.g. its Enterprise Value to EBITDA (EV/ EBITDA) ratio was under 9 vs. the 5 year average of about 11. The underlying business seemed poised to grow given PII’s strength in ORVs and branding strategy in motorcycles.

The stock continued fall after we purchased it since snowmobile and ATV sales have been disappointing. Snowmobile sales are being hurt by the exceptionally mild winter. The slow ORV sales are more surprising. In the first part of the year, PII’s ORV sales were impacted by increased competition as competitors re-entered the market. Now sales are lagging as falling oil prices (and other commodities) are disproportionately hurting ORV customers linked to those industries. Many of PII’s customers come from oil dependent states (e.g. Texas) and those customers are cutting back due to employment uncertainty.

Regardless of the recent underperformance, we believe the stock has the potential to produce attractive total returns over the long term. Numerous catalysts for this growth remain in place. Sales in motorcycles were up 154% last quarter as PII’s Indian brand continued to take share from Harley Davidson. We also feel the weather is an unpredictable factor- snowmobile sales could jump with a snowy January. Lastly, the worst case scenario is a slowdown in the ORV market. We believe this is already priced into the stock as analysts are estimating under 3% growth for 2016, and the stock is now trading at a 6.3 EV/EBITDA ratio. If this happens, we believe PII will benefit from some competitors exiting the market in a dynamic similar to the post 2008 recession. These competitors, such as Honda, Yamaha and Kawasaki, are less focused on the ORV market and therefore cut back their expenditures when sales slow. Meanwhile PII will continue to innovate and improve its product. More than 70% of sales are products introduced in thelast 3 years so innovation is key. PII should be able to pick up share as it did from 2010 onward as its products prove to be superior to its competitors.

We will continue to monitor PII going forward and update our projections. As long as its motorcycles continue to grow and the ORV segment stabilizes, we will hold the stock.