EUR 850.00 For Business Accounts Only

Morningstar | BRP Sales Handily Outpace Market Gains via New Product Introductions; Shares Remain Rich

A relentless focus on the solid execution of product launches in white-space arenas has set narrow-moat BRP on a consistent trajectory of market share gains. Year-round and seasonal shipments widely outperformed our 10% and 4% growth forecasts in the second quarter, reporting 26% and 21% gains, respectively, setting the company up to capture the most robust top-line growth rate since its 2013 IPO. The company revised its growth outlook for these two key segments, which represented above 75% of 2017 total sales, to 18%-21% in the year-round business (from 12%-15% prior) and 9%-12% in the seasonal business (5%-10% prior). Given the second-quarter outperformance along with the boost from acquisitions of Alumacraft and Triton boat OEMs, which generated about CAD 200 million in sales in 2017, we plan to raise our fiscal 2019 top-line and earnings per share forecasts, which were already at CAD 4.9 billion and CAD 2.94 (in line with updated guidance for sales growth of 12%-16% and EPS of CAD 2.94-3.06). This should increase our CAD 45.50 fair value estimate modestly. We view the shares as overvalued, trading at 24 times our fiscal 2019 estimate, above our normalized organic growth expectation.

More important, recent successes at BRP have put the firm on the path to reach its fiscal 2021 EPS goal of CAD 3.50 one year early. Even with a slowdown in year-round sales to a high-single-digit pace and seasonal to a mid-single-digit clip, we think BRP should be able to eclipse its EPS target in fiscal 2020 if expenses remain controlled. However, longer term we do have demand tapering off to a midcycle level of around 3.5%, which with expense leverage (from scale) should lead to low-double-digit earnings growth. We note that the company has articulated its appetite for further deals in the marine space, which are not included in our outlook and could add to our intrinsic value, depending on the price and growth potential of the space the acquisition operates in.

The boat business is a logical add-on to the legacy leisure businesses and one that the company can capitalize on finding synergies in marketing, the dealer network, and manufacturing processes. However, our concern remains that we could be close to the top of a growth cycle in the category, with multiple boat OEMs recently going on the block, and acquisitions also made in the space by Polaris and Winnebago, competitors with similarly deep pockets for marketing and a penchant to grab market share. For BRP, the boat business should remain fairly small over the near term, with the marine engine, boats, and PAC segment set to represent 10% of sales in fiscal 2019. It should weigh on the corporate gross margin while benefiting selling, general, and administrative costs, leaving a neutral impact on profitability over the rest of the year.

However, we think BRP has offered evidence that it can increase existing market share of businesses like boats in its expansion of its legacy product lineup. In the second quarter, BRP retail sales outpaced the high-single-digit gains of the total powersports market, rising 16%. And all sectors outperformed, with side-by-side retail sales up more than 30% (versus low teens industry growth), ATV sales up by midsingle digits (industry down low single digits), three-wheel vehicles rising at a low teens cadence (down low single digits), and personal watercraft rising at a midteens clip (industry up about 10%). BRP also outperformed in all geographies, with double-digit retail sales across North America, Latin America, EMEA, and Asia-Pacific--locations that had single-digit industry gains. Strong retail sales allowed BRP to ship more current inventory to dealers, with total sales rising 18% versus last year’s as-reported results.

This volume boost led to incremental margin gains, with gross margin expanding more than 200 basis points to 23.2%, bolstered by higher side-by-side sales and the benefit of a better mix, despite higher production (commodity) and transit costs. Total expenses leveraged on the higher volume, with selling and marketing costs contracting 50 basis points to 6.5% and general and administrative expenses ticking down 40 basis points to 3.9%, helping hike the overall operating margin to 9.7%, the highest second-quarter rate ever. We expect BRP will continue to find ways to extract efficiencies from its business as it continues to increase the top line, as it has been focused on doing in the past. BRP has taken its adjusted operating margin to more than 9% in 2017 from sub-7% in 2011, while it has increased sales around 70%. Over time, we think the company could move closer to a 12% operating margin, closing the gap on wide-moat peer Polaris, which we expect to capture an above 13% operating margin over the next decade, and which we still view as a topnotch operator in the powersports space.