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Once again Warren Buffett makes the best of a bad situation. Yesterday, Harley-Davidson (HOG) announced it will be raising $600 million through an offering of 15% debt.
As you might expect, Buffett’s involvement in the deal sparked a rally in Harley shares. The shares of the beaten down motorcycle maker surged more than 15% today while the rest of the auto industry had a pretty rough day.
Is it a good move for Buffett?
Is it a good move for investors to bid up shares of Harley-Davidson?
Probably not.
Frankly, it still blows my mind how many investors are willing to plow in after Buffett. Just take a look at the Goldman Sachs (GS) deal he pulled off a few months ago. He put $5 billion into 10% Goldman’s perpetual preferred shares.
The Goldman deal gave Buffett one of his favorite types of investments - a (synthetic) convertible security. It’s the type of investment the University of Southern California’s Professor Tom Taulli says is “Buffett’s preferred method of investing.”
The net cost of the investment at the time was $5 billion cash for a position worth about $8.2 billion at the time (cost breakdown here). Regardless, investors still jumped on Goldman shares after they got, what many believed, was the Berkshire seal of approval.
A Tough Road Ahead
Harley is a bit of a different situation though. Harley hasn’t weathered the downturn well at all. Its sales last quarter were off by 19.6% in YOY terms. And when you’re considering yesterday’s sales report from the automakers (about 40% decline on average I’d say), there’s probably not going to be much demand for top-of-the-line motorcycles.
What’s even worse is Harley borrowed the $600 million in response to a $500 million debt coming due in a few weeks (although all or part of it could be getting refinanced, we don’t know yet) and to be used to lend more to its customers.
Maybe I’m looking at it a bit too simplistically, but a company can’t keep borrowing at 15% and lending at 1% or 2% forever. Yes, there are profits per sale and all that to consider, but from the bottom up, it doesn’t look very sustainable.
With no recovery in sight, there are probably more tough times ahead for Harley and this financing will only help the company partially weather the storm.
A Win/Win Buffett Style
Regardless of what you think of Harley shares, this deal looks to be another win/win for Buffett. As Harley continues to scrape by, it’ll have to pay those 15% interest payments to Berkshire. In a worst case scenario, if Harley would get crushed by the weight of its own debt, Berkshire would get an ownership stake in one of America’s most iconic brands (how many other brands are thousands of people willing to have tattooed on their bodies?).
This deal does tell us one thing, Buffett is seeing value in bonds. We’ve covered how corporate bonds are likely to beat stocks in the short and medium terms in the Prosperity Dispatch a few times and it’s good to see Buffett more and more on bonds. When it comes to the Harley deal itself, it’s a win/win for investors, like Buffett, in these high-yield bonds. As for the shares of the company which soared yesterday, it’s a totally different story.
This proves those that have money make more money--those that spend money have nothing left.
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