n n n ‘. concat(e. i18n. t(“search. voice. recognition_retry”),’n
Polaris Inc. (NYSE:PII) Fourth Quarter 2023 Earnings Call Transcript, January 30, 2024
Polaris Inc. misses on earnings expectations. Reported EPS is $1.98 EPS, expectations were $2.57. Polaris Inc. isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Hello and welcome to the Polaris Fourth Quarter and Full Year 2023 earnings conference call and webcast. All participants will be in listen-only mode. [Operator’s Instructions]. Now I’d like to pass the call on to J. C. Weigelt. Please come forward.
J. C. Weigelt: Thank you, MJ, and may everyone be smart in the morning or in the afternoon. My call is J. C. Weigelt, Vice President of Investor Relations at Polaris. Thank you for joining us on our fourth quarter and full year 2023 earnings call. Today we will refer to a slideshow, which can be viewed on our online page in ir. polaris. com. Today, I’m joined by Mike Speetzen, our Managing Director; and Bob Mack, our Chief Financial Officer. Both abstract comments ready for the fourth quarter and full year, as well as our expectations for 2024. Then we’ll answer your questions. During the call, we will discuss topics that deserve to be considered forward-looking for the purposes of the Private Securities Litigation Reform Act of 1995.
Actual results could differ materially from those projections in the forward-looking statements. You can refer to our 2022 10-K for additional details regarding risks and uncertainties. All references to the fourth quarter and full-year 2023 actual results and 2024 guidance for our continuing operations and are reported on an adjusted non-GAAP basis, unless otherwise noted. Please refer to our Reg G reconciliation schedules at the end of the presentation for the GAAP to non-GAAP adjustments. Now I will turn it over to Mike Speetzen. Go ahead, Mike.
Michael Speetzen: Thank you, J. C. Good morning everybody and thank you for being with us today. After a year that can only be described as turbulent, we ended 2023 with market percentage gains in all 3 segments. While many things have gone well and are consistent with the execution of our long-term strategy, we faced several challenges, specifically in the fourth quarter, as prices continue to be higher than expected, resulting in a failure in our margin and EPS guidance. Even though our functionality was low expectations, a lot of things went right in 2023. It all started when we delivered on our commitment to bring cutting-edge innovation to our customers. Off-road, this year we brought two all-new, class-defining vehicles, the Polaris. XPEDITION and the RANGER XD 1500.
With the launch of the redesigned RZR XP last spring, we now have the most competitive lineup of off-road cars the industry has ever seen. We also introduced the new Lock system.
When we introduced the RZR Pro R in 2021, we were positive about the quality and functionality of the vehicle, and we were right. This vehicle’s good luck in crossing the finish line before all others is a testament to what consumers have come to do. Our drive to innovate and push the boundaries of what’s possible, from strength to suspension technology, has allowed Polaris to climb back to the highest level of racing. Not only did we win the Baja 1,500 and 400, but we won the San Filipe 250 in 2023. We just achieved a monumental victory in the 48th Annual Dakar Rally, which is one of the top races covering more than 4,000 miles in two weeks thanks to a ruthless effort. Polaris swept the podium at the King of Hammers Desert Challenge.
We also can’t forget about a successful year in racing for Indian Motorcycle, where we took first place in American Flat Track and Super Hooligans. Congratulations to our player groups and talented engineers for such a successful year. In addition to record levels of innovation, we’ve stabilized middleman inventories, eliminating the product availability issues we’ve faced for several years. Another highlight is the execution of our capital deployment strategy and the adequacy of our balance sheet. In 2023, we generated more than $500 million in adjusted loose cash flow, and we’re putting that liquidity to smart use. We returned $326 million of that cash flow to percentage shareholders between dividends and percentage buybacks. Our capital deployment strategy has been consistent and we plan to continue to leverage biological investments, our dividends, and our percentage buybacks, all of which are aimed at our purpose of generating percentage shareholder value.
While we certainly have a lot to be proud of, execution against our financial commitments fell short of our expectations. Our largest challenge centered around our manufacturing facilities. We did not achieve the efficiencies we planned, which resulted in margin pressure throughout the year. It’s important to note that operational costs did start to improve later in the year, but not to the level we had expected them to. This, coupled with lower manufacturing volumes and difficulty producing new products led to significant margin pressure. Add to that higher-than-anticipated product liability and warranty spend and our EBITDA margins came in below our expectations as well as below 2022. This was disappointing for me and our team, and we are focused on addressing the root causes of the inefficiencies with a focus on driving improved processes within sales, inventory, operations and planning.
Retail in North America grew 7%, driven by utilities and snow. Although we expected positive snowfall functionality compared to last year, the effects were weaker than expected given the lack of snowfall in the maximum areas. It’s encouraging to see our side of retail sales growing at a double-digit pace, thanks to the continued strength of our vehicle lineup. While public services have strengthened, our recreational activities continue to be stressed by emerging interest rates and economic uncertainty. We ended the year earning a little more than a In Off-Road there is something else if we exclude used cars that have little profitability related to them. Market percentage gains are snowfall positive since the start of the season, as we were able to deliver all of our SnowCheck games before the start of the season. season.
While share in our On-Road and Marine segments was under slight pressure in the quarter, we did gain share in both segments for the year, driven by better product availability and new products. Our sales results during the quarter were slightly lower than our expectations given lower retail than we anticipated and lower net price due to an increase in promotional activity. We saw heavy discounting of noncurrent inventory by competitors. In November and December, we increased our promotions for current inventory and response and our strategy seemed to play out well as we saw retail increase meaningfully in both those months. We view this situation as short term until competitive noncurrent inventory is lower. We also made the decision within the quarter to lower our recreational Off-Road shipments, specifically certain models of razor given continued lower retail and our goal of maintaining targeted levels of dealer inventory.
We believe those decisions are vital given seasonal trends in our product lines and to proactively manage broker actions. In line with the last quarter, we saw a slight increase in monetary interest in land plans due to stock accumulation and higher interest rates. It is expected to remain a headwind through 2024. These earnings pressures also have a negative effect on margins in the fourth quarter. In addition, we saw higher warranty pricing during the quarter, due to a $23 million warranty expense in our Goupil business within our On business. -Road segment. This fee related to a failure of a battery component, caused by a supplier that had already filed for bankruptcy. These issues, along with the high operating costs I mentioned above, as well as the effect on the product. liability claims, resulted in lower than expected margins.
Our resulting EBITDA margin was down 377 basis points versus last year in the fourth quarter. We’ve increased our accrual for product liability claims due to the challenging litigation environment. Most of the increase relates to product produced before 2018. This pressure, along with higher year-over-year interest expense drove adjusted EPS down 43% to $1.98, falling short of our guidance. The fourth quarter concludes a year that can be defined by a volatile macro environment and consistent consumer demand and a lack of execution on our part. While I’m proud of our ability to take share and generate strong adjusted free cash flow during the year, we need to operate more efficiently if we’re to hit our long-term margin targets. Moving forward, I believe our teams are aligned to drive operational improvements in 2024 while delivering share gains.
Now let’s talk about retail trends and dealership-level data. Overall, retail was below our expectations in the fourth quarter, driven by the recreational portfolio of our off-road business and our snowmobile business. First of all, as a reminder, our application product accounts for approximately 60% of our off-road sales, with the core product being our side-through-side Ranger. The acquisition of such cars tends to be less discretionary in nature as they are primarily used for commercial purposes. Recreation accounts for the remaining 40%, with the main products being RZR and side-by-side vehicles in general. Retail sales of off-road RVs continued to decelerate in the quarter, marking the fifth consecutive quarter of negative retail sales in our recreational portfolio.
These vehicles tend to be more discretionary purchases and are more sensitive to economic conditions and the health of the consumer. We feel higher interest rates, coupled with economic uncertainty are negatively impacting retail. Second, we expect a positive contribution from our snow business given an easy comparison to last year and improved product delivery into the channel. While we executed on improved deliveries, growth was lower than expected given poor snow conditions in the fourth quarter, and we expect this to continue into the first quarter of 2024. As mentioned earlier, our promotional levels were elevated in Q4 given the competitive dynamics I explained earlier. We do expect promotions to remain elevated into Q1 of 2024. We are expecting industry retail to be down modestly in 2024.
Although the industry will face challenges, we expect to be able to increase our market share with our strong product portfolio, a full year of retail sales for Polaris XPEDITION and RANGER XD, as well as other new products expected to be introduced in 2024. We recently signed our semi-annual contract for the sale of ORVs. The survey included approximately 700 responses. Dealer sentiment has deteriorated compared to the last time we conducted the survey in the spring. The survey found that while distributors feel promotional activities are useful, they remain involved in the economy as a whole, along with emerging interest rates and the resulting consequences. an effect on customer demand. Distributors feel that the stock of the formula is still too high. While our carcass stock is healthier than many others. We have opportunities for improvement, specifically in spaces like RZR and Marine, where we started making changes in 2023, and we’ve incorporated those ongoing innovations into our plans for 2024.
Our carcass stock is in optimal diversity for Ranger and Indian Motorcycle and we still have the opportunity to create stock with Polaris XPEDITION and RANGER XD based on rider feedback. That said, we intend to operate in a disciplined manner to ensure that broker stock grades will remain at optimal levels in 2024. We will balance the way the industry behaves with the desire to have sufficient stock to maintain our competitive positioning. To conclude my comments on the quarter and the year, we won the retail and fairness war by offending bets in a complex and competitive environment. While our monetary execution has been quite poor, we have continued to make significant progress in executing our strategic agenda.
We enter 2024 with widespread execution to ensure we gain market share, increase margins, and meet our financial commitments. I will now turn the floor over to Bob, who will summarize our fourth-quarter functionality and provide initial guidance and expectations. by 2024. Bob?
Robert Mack: Thank you, Mike, and a good morning or afternoon to everyone who answered today’s call. Fourth-quarter effects were due to a decrease in factory shipments, a decrease in equity, and higher monetary interest, which impacted sales and margins. Resolution of the quarter to reduce off-road vehicle shipments due to a volatile retail environment. Promotions were in line with our plans, but continue to be superior year after year. Manufacturing prices remain high. And as Mike mentioned, we saw significant warranty spend in the quarter in our On-Road segment. As in the third quarter, we continue to see higher product liability pricing compared to last year as COVID-related cases delayed progress. of the judicial system. PG
Our PG Business
RANGER Utilities saw retail expansion of about 15%, slightly higher than in previous quarters. We have noticed strong traction among our agricultural visitor base, who tend to demonstrate a desire for the product. Unfortunately, the overall snowpack was lighter than expected due to the late arrival of snow across much of North America and unusually warm temperatures in the Midwest. Since the beginning of the season, we have gained a modest quota. At the conclusion of the season, we anticipate a decrease in shipping volumes for the upcoming season, given the large stock at dealerships as the industry struggles with a lack of snow. Margins for the quarter were impacted by higher promotional levels, monetary interest and product mix as we sold fewer shavers and more snowmobiles, which sometimes have a lower margin profile.
We expect a somewhat challenging first quarter year-over-year, due to a lack of snowmobile shipments in the quarter and channel filling for ORVs in 2023. Remember that in 2023, we shipped a giant volume of expired snowmobiles. during the snow season and we are also completing the replenishment of the channel to bring the riders’ actions to a healthier location. We expect the market percentage gains to continue given our strong product pipeline as well as the new product launches that took place this year. We expect margins to increase as we achieve production efficiencies at our two largest customers. So, while the start of 2024 could be challenging, we have the momentum to continue to improve our equity and operational efficiency position, which will allow us to emerge more potent as we enter the current part of our five-year strategy.
Switching to On-Road. I want to start off with a highlight and that is Indian motorcycle markets first year of profitability in 2023. Like Doherty and the team have done a great job building Indian Motorcycles into the number two motorcycle brand globally, we look forward to its continued success. Sales during the quarter were down 24% as the motorcycle market continued to be challenged given the difficult macro backdrop and high interest rates impacting monthly payments for consumers. We were also up for the full year against a difficult comparison to 2022 when we were refilling the dealer network with bikes given supply constraints. Indian Motorcycles lost modest market share during the quarter driven by competitive pressure in the heavyweight space, which was somewhat offset by continued strength in midsize.
Gross profit in the On-Road segment decreased through 323 foundation issuances due to previously discussed warranty expenses recorded in the quarter. Indian Motorcycles’ gross profit margin increased through approximately six hundred foundation emissions, marking the sixth consecutive quarter, expanding through more than 250 foundation emissions, helping the company achieve profitability this year. In the maritime segment, sales declined 41% as the industry continues to face high levels of dealer stock and higher interest rates impacting consumer acquisition resolution. We made the decision last year to reduce shipments based on the trends we were seeing, which resulted in a decline in volumes in the fourth quarter. Gross profit margin decreased through 368 base issuances due to top-line pressures. However, our team continues to actively manage the variable parts. of your charge design to protect benefits.
After the season ended, Bennington, Godfrey, and Hurricane participated in 2023. We are excited about the future of our marine business as they continue to upgrade their portfolio and add new distributors to the network. “As the ship show season approaches, early reports imply that dealers continue to have higher inventories and that retail seems to be trending slightly lower compared to 2023. Let’s take a quick look at our functionality year after year across the segment. Retail across the segment were equivalent to or better than our expectations, and we gained market share in each segment thanks to a strong competitive product offering. Operationally, we have met the demanding situations of Off-Road. And again, it was wonderful to see how On-Road motorcycles and especially Indian motorcycles succeed this year.
Let’s move on to our monetary situation. We ended the year with a significant year-over-year expansion in adjusted operating and loose cash flow. During the year, we used this money for CapEx investments and returned $326 million to percentage shareholders in the form of dividends and percentage buybacks. We are in a strong monetary position, ending the year with a net leverage ratio of 1. 6x, which is in the middle of our 1x to 2x diversity where we like to run the business. During the quarter, we completed our initial public offering of investment grade bonds. Senior notes through the issuance of five-year bonds. This brings our floating rate debt to 68% constant debt and 32% variable debt. We repurchased 1. 6 million shares in 2023 and remained well ahead of our goal of buying back 10% of our notable core percentages before the end of 2026.
We are well prepared for a variety of scenarios in the broader market with our balance sheet and can reflect last year’s money generation from a dollar attitude in 2024. We now turn to guidance and expectations for 2024. We are releasing the forecast of today for a decline in sales by 2024 in a challenging retail environment, along with reduced shipping volumes as we fill marine and recreational vehicle brokerage inventories and the snow shipping schedule that has encouraged 2023. The Most of those headwinds are learned in the first quarter. I think it’s worth repeating what Mike said about brokerage stocks, and our aim to build a strong field around brokerage stocks this year is based on a declining retail environment.
If retail estimates or our opinion on competitive positioning of inventory changes, we will update our levels of dealer inventory. Promotions and finance interest are expected to remain elevated as we progress through the year, which also adds pressure to our top line and margin. By segment, sales within Off-Road are expected to be down mid-single digits, driven by a tough comp in the first quarter and lower shipment volumes of snow and some models within ORV. These headwinds are expected to be somewhat offset by retail and channel fill of new products such as the RANGER XD and products scheduled to launch in 2024. We expect Off-Road to take share in 2024, given its strong competitive portfolio. On-Road sales are expected to be flat year-over-year as we continue to see a soft market given higher interest rates.
We expect On-Road to gain market share with some very exciting product launches later this year. Seafood sales are expected to decline approximately 15% as we work to reduce stocks in the canal amid a challenging industry. new S range
We also anticipate cost savings through the capital investments we’ve made in Monterrey, Vietnam, and [indistinguishable], which come with new paint systems and internal vertical integration. Operating expenses are expected to increase by 1% to 2%. compared to 2023, driven by wage inflation and a return to incentive pay targets, more than offset by company-wide charge-reduction measures. We expect product liability pricing to remain at a similar point to 2023 as we proceed to address order backlogs. In addition, a headwind for gross profit and EPS, but not EBITDA, is that depreciation has increased by approximately 15% compared to 2023 due to tools related to the launch of new products introduced last year. A few other things to look out for come with: Higher interest rates year after year.
This impacts our dealer floor planning, finance interest costs as well as debt costs. We have planned for three rate cuts in the second half. We are planning a higher tax rate as we do not expect the same amount of R&D credits as well as the benefit of some other onetime items that helped lower the rate in 2023. Foreign currencies remain volatile and are expected to once again be a headwind. We have planned for the Canadian dollar at 0.72, the euro at 1.07 and the peso at 17.5. We believe we are well hedged [indiscernible] changes in the Canadian dollar at peso below these rates. Accounting for all of these items, we are guiding to adjusted EPS between $7.75 and $8.25, which is a decline of 10% to 15% relative to 2023. For the first quarter, a few things to note.
As I mentioned, our sales are facing a major hurdle due to the trend of snow shipments last year, as well as channel replenishment in the ATV and marine sectors. Given those headwinds, we expect sales to decline by approximately 20% in the first quarter. Higher promotions year-over-year at a similar rate to the fourth quarter. We continue to face challenging situations similar to the net prices, monetary interest and strong [indistinguishable] effective operating prices incurred in the fourth quarter. Finally, the exchange rate and interest prices remained unfavorable year after year. As such, during the first quarter, we faced a number of headwinds, primarily sales headwinds and margin pressures that deserve to result in break-even EPS.
We expect stronger year-over-year sales during the remaining three quarters of 2024, as market percentage gains driven by new products offset the slowdown in the industry. These sales volumes, combined with significant margin building throughout the year and the realization of savings and efficiencies resulting from our plant repair efforts, will result in an increase in construction margin year-over-year. We expect another year of strong cash flow generation as the team continues to reduce current capital. It’s also encouraging to see the first strides we’ve made in our factories, from the most successful construction of new cars to the revitalization of lean processes. Prior to Polaris, my career was in the commercial sector and I am encouraged by the renewed emphasis I see on Lean in our factories.
I know we still have work to do, but the opportunity is great. Our teams are aligned on our plan, and we look forward to reporting out on the progress through the year. With that, I’ll hand it back over to Mike to wrap up the call. Go ahead, Mike.
Michael Speetzen: Thanks, Bob. We have introduced some incredible new products in 2023 that have strengthened our competitive position and we are not going to stop that. There is much more to come in 2024, where we will again show why. We are leaders in motor sports. Operationally, we want to do better, and we will. Improving prices and quality remains a primary goal for us. Our groups are able to capture opportunities within our business to reduce pricing, quality and construction. increase margins. Since last quarter, our teams have begun working on many of those initiatives, and I am confident that we have the focus, drive, and the most productive team to execute them. Although the environment is uncertain, our commitment to maintaining optimal stock at dealerships is clear.
We have worked hard to ensure that the profitability of our distributors is maximised and our ability to maintain healthy, competitive and adequate stock is a vital component of that equation. Our focus and commitment here is unwavering. We remain committed to our capital deployment strategy of making an investment in our operations, remaining a dividend aristocrat, and buying back shares. With a flexible cash flow yield of around 12%, we continue to view our stock as an interesting investment. 2024 also marks the midpoint towards our 2026 goals. And while the first few years have added more challenges, there is a path to our 2026 goals. Acting in 2024 is critical to achieving those goals, and my team and I are focused on what we want to be. over the next 12 months to ensure those long-term goals are met.
While 2024 is not setting up to be a robust year from a retail standpoint, we will build on our leadership position within power sports with the most innovative products in the industry, unmatched customer experiences and stronger operational fundamentals. We have the best team in powersports and we know what needs to get done this year. We thank you for your continued support. And with that, I’ll turn it over to MJ to open the line up for questions. MJ?
See Europe’s 12 Most Innovative Economies and the 25 Most Innovative Economies in 2024: Why WIPO’s Rankings Are Inaccurate.
To continue with the Q&A session, click here.