EUR 850.00 For Business Accounts Only

Morningstar | No Sign of Consumer Slowdown at BRP With Robust Top-Line Growth Slated for FY20; Shares Undervalued

Narrow-moat BRP wrapped up its final quarter of fiscal 2019 with solid performance, including year-round product growth of 17%, a seasonal product sales increase of 32%, powersports PAC and OEM engine revenue rising 8%, and marine up 38% thanks to the addition of Manitou and Alumacraft. Nearly all segments performed in line with our outlook except for the seasonal category, which was ahead of our estimate, helped by a higher volume and favorable mix of snowmobiles. Net income of CAD 86 million and EPS of CAD 0.88 were also not far from our prior outlook for CAD 88 million and CAD 0.90, respectively. Given that BRP's initial fiscal 2020 outlook for sales growth of 7%-12% and EPS of CAD 3.50-3.70 is in line with our existing estimates of 7.2% and CAD 3.62, respectively, we expect to increase our CAD 51 fair value estimate by a low-single-digit rate to account for the most recent quarter’s outperformance of seasonal products and the time value of money. We view the shares as undervalued, trading at 10 times the midpoint of guidance versus our midteens outlook for five-year EPS growth.

A robust opportunity set belies the growth we believe BRP can capture. Underpenetration across key side-by-side categories (utility, sport, recreational) remains pervasive, and product introductions should drive market share gains in these areas, supporting our 5% average sales growth through 2023. Furthermore, as the firm scales, operating leverage should surface via better vendor negotiation and improved unit spread of fixed costs. We have more than 150 basis points of operating margin expansion embedded in our five-year outlook (to nearly 11%), helped by the generally higher operating margin performance the boat business tends to generate. We don’t have acquisitions formally built into our outlook but expect BRP will stay a consolidator in the marine space to help elevate its Evinrude business, which could provide further upside.

In our opinion, BRP remains extremely focused on expanding its business profitably through innovation and rightsized manufacturing. Given the discretionary nature of the business, however, operators in the space tend to lean on pricing and promotions as a tactic to facilitate sales, which can hinder profitability across all players in the space. For BRP, this surfaced in its snowmobile segment during the quarter, where the company holds about 50% share but had only 25% noncurrent inventory; this implies other players (Polaris, Arctic Cat) held a greater percentage of stale product, which it may have had to more heavily promote via dealer incentives, possibly shifting demand away from BRP current inventory in the channel toward the promoted units. We don’t view this unfavorably, though, since it also indicates that BRP had less discounting itself to do, despite that some units may remain on the dealer floor longer than anticipated. More worrisome was the marine segment, which generated weak gross margin performance and experienced some dislocation with engine suppliers and dealers after its Alumacraft acquisition. However, it appears that the issues are being rectified and the small business should be straightened out in short order. More important, the Manitou business seems to be kicking the early part of the year off strongly with retail up 50% in the final quarter of the year, which should help improve the overall earnings of the marine business in fiscal 2020.