GAAP-Based ROA Severely Understates Harley-Davidson’s Profitability
Summary
- Using Adjusted Earnings and Assets, Harley-Davidson’s Adjusted Return on Assets was 19% in 2015 – significantly higher than the 7% ROA most financial databases report.
- This difference is primarily caused by the exclusion of HOG’s finance segment, which is not part of the firm’s core operations.
- Also of note is the difference between HOG’s Adjusted Value to Earnings ratio of 23.2x versus the firm’s traditional forward P/E of only 11.4x.
Performance and Valuation Prime™ Chart
The PVP chart above reflects the real, economic performance and valuation measures of Harley-Davidson, Inc. (NYSE:HOG) after making many major adjustments to the as-reported financials. The four panels explain the company’s corporate performance and valuation levels over the past 10 years plus best estimates for forecast years based on quarterly financials and consensus estimates.
The apostrophe after ROA’, Asset’, V/A’, and V/E’ is the symbol for “prime” which means “adjusted.” These calculations have been modified with comprehensive adjustments to remove as-reported earnings, asset, liability, and cash flow statement inconsistencies and distortions. To better understand the PVP chart and the following discussion, please refer to our guide here.
The problem with Generally Accepted Accounting Principles (GAAP) is that they create inconsistencies when comparing one company to another, and when comparing a company to itself from year to year. By making adjustments, we aim to remove the financial statement distortions and miscategorizations of GAAP. Some of these can be automated through consistently applied formulas; however, many must be made manually. Manual adjustments that cannot be automated include mergers and acquisitions accounting, special charges, business impairments, and others. The practice of creating consistent, apples-to-apples comparable measures of financial performance is often considered either tedious or overly complex by even seasoned financial analysts.
Under GAAP, the as-reported financial statements and financial ratios of HOG do not reflect economic reality. The traditional ROA computation understates the company’s profitability by incorrectly including certain items. The distortion of both profitability measures and valuation metrics of HOG is primarily driven by the inclusion of the firm’s finance segment in traditional valuations, which is not a part of the core operations of the firm.
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