Is Harley a Sub Prime Lender?


When the market is shooting first and asking questions later, all lenders are subprime.

Harley actually fits the bill as well.

Doug Kass of Seabbreeze Partners and sent me his article from today and said I could use it. So, here it is:

It remains investment community’s general belief that the subprime
lending mess is a fluke that will be contained.

I have stressed the likelihood of contagion.

“Neither a borrower nor a lender be;
For loan oft loses both itself and friend,
And borrowing dulls the edge of husbandry.
This above all: to thine own self be true,
And it must follow, as the night the day,
Thou canst not then be false to any man.”
— William Shakespeare, “Hamlet”

While those who are “close to the ground” and parcel through the sometimes
complex and arcane financial statements at the intermediaries who serve the
housing market (reading about such tawdry statistics as delinquencies and
foreclosures) and fret about an impending economic disaster, it is not the
case to most observers.

Judging by the commentary and the virtual invulnerability of worldwide
equity prices, most see only a speed bump. There still remains a general
belief on the part of the investment community that the subprime lending
mess is a fluke that will be contained.

On The Edge I have stressed the likelihood of contagion. After all, subprime
is subprime and credit is correlated. Lower quality, more levered lending
(with less collateral) is not confined to consumer loans, credit cards,
homes, recreational vehicles and autos — as investors might soon find out.
Even motorcycle (loans) are hitting potholes now!

Indeed, it appears that growing credit losses and delinquencies are
beginning to render *Harley-Davidson’s* (HOG) motorcycle loans, well,
increasingly like hogs (literally and figuratively).

Thirty-day delinquencies (and loss trends) in Harley-Davidson’s receivables
book (courtesy of Lehman Brothers) give a clear picture that credit quality
issues are broadening out as HOG’s receivable experience has begun to trace
a pattern of deterioration that we first began to see in subprime mortgage
loans during the first half of 2006.

*Harley-Davidson’s 30-Day Delinquencies*

4Q2006 5.18%

3Q2006 4.46%

2Q2006 3.61%

1Q2006 3.69%

4Q2005 4.83%

3Q2005 4.07%

2Q2005 3.66%

1q2005 3.60%

Source: Lehman Bros.

As I mentioned yesterday, Harley’s finance subsidiary (HDFS) funded almost
half of Harley-Davidson’s motorcycle loans. Like subprime mortgage loans,
HDFS’ hog loans are pooled and securitized to institutional buyers.
Unfortunately — in credit trends and terms — HDFS is also beginning to
look more and more like *New Century* (NCBC), *Fremont* and *Accredited Home
Lenders* (LEND) did in early 2006.

In 2006-07, 28% of HDFS loans in its securitized pools had FICO scores
(below 650) were considered subprime, ironically very close to the 21%
subprime market share of total mortgage loans made last year! During the
company’s investor day (Feb. 28), Harley acknowledged that several of the
securitization pools have breached their credit quality metrics (and like
subprime, the most recent pools’ credit losses and delinquencies are rising
faster than expected and more rapidly than earlier pools). This is beginning
to force Harley-Davidson to fund additional cushion reserves in the
triggered securitization pools, much in the same way subprime mortgage
originators have to buy back bad loans. (This takes a hefty bite out of
HDFS’ profitability by reducing its net interest margin.)

Should the recent trend of rising credit losses and delinquencies in
Harley-Davidson’s loan receivable book and in the securitization pools of
their financial subsidiary (HDFS) continue, tighter lending practices will
likely be instituted and institutional buyers will be less receptive to
buying HDFS’ securitized pools. This could serve to reduce Harley-Davidson’s
sales growth and profitability.

Sound familiar?

“Get your motor runnin’
Head out on the highway
Lookin’ for adventure
And whatever comes our way…
Like a true nature’s child
We were born, born to be wild
We can climb so high
I never wanna die.”
— Steppenwolf, “Born to Be Wild”

It is beginning to look like the (motorcycle) lending markets are no longer
… born to be wild. And, not surprisingly, I am still short

More importantly, the
subprime is beginning to spread into asset classes other than housing
mortgages. Don’t think for a moment that Harley-Davidson’s dealers or the
parent company were any less reluctant than the mortgage brokers to serve up
loans for their product. And last time I looked, a motorcycle is far less
secure and stable than a home.

Vroom! Vroom!

Position: *Short HOG*

Doug Kass
Web Site: