Polaris hits the brakes on bad economy

Polaris Industries was racing toward a record $1.95 billion in annual sales last year when Scott Wine, a former naval officer, was chosen to lead the manufacturer of off-road vehicles, motorcycles and snowmobiles.

His first challenge: Rapidly shrink the business to adapt to the worst recession in his lifetime.

"Everybody thinks your new CEO is coming in and the economy is falling apart," recalled Wine, in the company's boardroom in Medina. "But there was never a day that I said: 'What are we going to do?' "

While consumers can pare expenses quickly, manufacturers with large plants and skilled workforces have a difficult task in slowing operations, especially in a recession that hit as suddenly as this one.

Polaris, which was founded as a snowmobile maker in northern Minnesota and now sells power sports products around the world, applied the brakes rapidly enough to remain profitable in the fourth quarter. And strategies in place long before Wine took the helm proved pivotal.

"One of the huge competitive advantages of Polaris is we can flex through downturns and upturns," said Polaris President Bennett Morgan. Still, it was a wild ride that's not over yet.

Reality struck Polaris in November and December when revenue was "down north of 25 percent," Wine said. "That's when we realized that certainly we were going to have major problems."

To bring their operation into line with those reduced expectations, Polaris executives cut 460 jobs. About 300 of them were held by temporary or contract workers. The rest came from the ranks of hourly factory and salaried workers. The company now has 3,238 employees worldwide and none of them is unionized.

Wine, 42, the outsider and former president of a United Technologies division, and Morgan, 45, the 21-year Polaris insider, created a 2009 budget as sales plummeted.

Both men were economics majors in college -- Wine at the U.S. Naval Academy and Morgan at St. John's University in Collegeville, Minn. Morgan had a history of working with Mike Malone, Polaris' chief financial officer for a dozen years, in drafting budgets. But Morgan, a former college hockey player, described the late 2008 budget experience as "by far the most grueling process" that's he's experienced. He remembers five or six budget versions.

Yet long before the economy tanked in 2008, Morgan said that Polaris was working to avoid a glut of products on display in dealer showrooms. By December, Morgan said, dealer inventories "were down 30 or 40 percent from where they were three years ago."

Malone, the CFO, said Polaris also took advantage of the fact that it is "not vertically integrated" and relies heavily on outside suppliers for many of its parts. When many consumers stopped buying discretionary Polaris products, the company was not stuck with an oversupply of parts for months on end.

Malone said that Polaris has made good progress in recent years to "reduce our lead times with our suppliers to eight weeks." So while Polaris has labor, overhead and fixed costs like any business, Malone said that most of its costs -- 75 to 80 percent -- come from paying for the parts for its vehicles.

That flexibility has paid off.

Polaris off-road vehicles, snowmobiles and motorcycles are assembled at plants in Roseau, Minn., and Spirit Lake, Iowa. The company has a third facility in Osceola, Wis., that makes component parts and supplies engines for Polaris vehicles.

Al Hogen, operations director in Osceola, said his plant typically reduces its temporary workforce near the end of the year, but the smaller production targets for 2009 meant that he wouldn't call people back to work in the early months of this year.

"The systems that we have built in place over the last couple of years are to aggressively manage that inventory," Hogen said. "It certainly helped us this time."

Last year was the third in the history of Polaris in which it has produced annual earnings per share of $3 or more.

For 2009, the company's guidance is $2.50 to $3 per share. "We are still very profitable," Malone said.

Polaris executives say they are managing to weather the recession because they have a highly variable cost structure covering both its labor and parts supply.

Since nobody has a crystal ball for precisely how economic conditions will unfold in 2009, Wine, a defensive back on his college football team, said that Polaris has multiple budget contingency plans. In making presentations to the board, Wine said he and other executives said: "Here's where we think the year is going to play out, but if it is 10 percent worse than that or 20 percent worse than that, here are the actions we would take."

International markets

This year, Polaris expects off-road vehicle sales to be down 17 to 25 percent; snowmobile revenue is expected to slide 10 to 20 percent, and motorcycle sales are expected to plummet 25 to 40 percent.

At its corporate headquarters, Polaris employees eat in the Victory Roadhouse, which features one of the first Victory motorcycles that Polaris began manufacturing in 1998.

Robert Evans, a senior research analyst for Craig-Hallum Capital Group, said in a report that "a decent portion of [the Polaris] down guidance reflects negative currency trends vs. the euro, Canadian dollar and the yen, which impacts both revenue and gross margins."

About 16 percent of Polaris' 2008 sales came from the international market. European markets for Polaris products were weak in 2008, and the executives expect that will continue this year. Wine hopes to boost sales to foreign countries and the armed forces as Polaris charts its future over the next several years. Some Polaris products already are in use by the military in Iraq and Afghanistan.

Early this year, Polaris announced an alliance with Bobcat that the companies described as a marriage between the No. 1 off-road vehicle manufacturer and the No. 1 compact construction equipment maker.

"Initially, Polaris will sell older generations of the base Ranger product through Bobcat's dealer network," RBC Capital analyst Edward Aaron said in a recent report. "Longer term, the two companies plan to work together in product development."

In a joint interview spanning nearly two hours, Wine and Morgan said they've faced an array of business challenges over the past seven months.

"It was kind of a crazy time for him to come in," Morgan said, as the economy started to go "bonkers." But Wine said that Polaris averted a crisis because it had a talented and experienced executive team and a "strong and capable board."