EUR 850.00 For Business Accounts Only

Morningstar | Year-Round Segment Strength at BRP Drives Improved Operating Outlook Ahead; Shares Undervalued

Thanks to Ryker’s inaugural season, narrow-moat BRP delivered robust 19% year-round segment sales growth in its first quarter, outpacing the 7% increase we anticipated, leading BRP to raise its full-year sales outlook to a 9%-13% lift from 7%-11% growth prior (versus our 8% forecast). After incorporating results, our fiscal 2020 revenue growth forecast rises to 10%, and we don’t plan to adjust our forward quarters that call for high-single-digit growth ahead of industry expectations (which BRP believes will be between flat and a high-single-digit pace), implying share gains should persist. Given that some gross margin pressure should exist (with distribution, production, commodity, and mix causing 230 basis points of compression in the quarter to 22.5%) we don’t expect a material change to our full-year profit but could bump up our CAD 3.58 EPS forecast to adjust for the CAD 300 million substantial issuer bid set to be completed by July. We view shares as undervalued to our CAD 53 fair value estimate, even after a mid-teens pop in shares post report, with shares trading at 11 times the midpoint of EPS guidance (CAD 3.55-CAD 3.75).

BRP continues to tap into categories it remains underpenetrated in to grab share, a factor we believe will allow the firm’s top line (averaging 5%) to grow faster than the industry over the next five years. With scale increasing, some efficiencies should benefit the cost structure, however, these gains could largely be offset by higher spend in innovation as well as a shift to lower price point and lower margin products (given the early success of the Ryker relative to the Spyder), a pervasive trend across the powersports landscape. This bounds our long-term operating margin at 11%, above the 9% BRP posted in fiscal 2019, but below our 12% estimate for wide-moat peer Polaris. With market share leading positions across segments, we think BRP’s brand equity will continue to be a key factor in the purchase decision for consumers ahead.

On the retail front, year-round product lines continued to outpace the market, with side-by-sides sales up a high-single-digit pace versus an industry that rose at a mid-single-digit rate, ATV sales up at a similar high-single-digit pace versus the industry up at a low-single-digit rate and three-wheeled sales up more than 100% with an industry that grew in the mid-40% range. Snowmobiles and personal watercraft ceded a bit of share, growing at a single-digit clip versus the category which rose at a low-teens pace, but we think this was a function of two factors; first, the company had less inventory to move given its higher proportion of current to non-current units, and second, the higher-proportion of non-current units at peers led to further efforts at the competitors to clean up their own inventory levels, promoting faster sales. In our opinion, inventory appears to be healthy, up 10% at dealers (down from a 15% increase sequentially in the fourth quarter), supporting growth in the year-round segment, and owned inventory followed suit, up 11%.

With regards to capital allocation, the company remains positioned well, with balance sheet flexibility (and generating average ROICs of more than 30% over the next five years). The company announced it would fund its CAD 300 million SIB via cash, its revolver, and a term loan, which we think the company has capacity to carry, given that we projected debt/adjusted EBITDA to fall to around 1.5 times at the end of 2019. Furthermore, with shares trading at 20% discount to our fair value estimate, we agree that this is a value-accretive time to repurchase shares.