Jul 25, 2013
Executives
Amy Giuffre Keith E. Wandell - Chairman of the Board, Chief Executive Officer and President John A.
Olin - Chief Financial Officer and Senior Vice President Lawrence G. Hund - President of HDFS and Chief Operating Officer of HDFS
Analysts
Timothy A. Conder - Wells Fargo Securities, LLC, Research Division Craig R.
Kennison - Robert W. Baird & Co.
Incorporated, Research Division Adam Jonas - Morgan Stanley, Research Division James Hardiman - Longbow Research LLC Gregory R. Badishkanian - Citigroup Inc, Research Division Patrick Archambault - Goldman Sachs Group Inc., Research Division Felicia R.
Hendrix - Barclays Capital, Research Division Gerrick L. Johnson - BMO Capital Markets U.S.
Jaime M. Katz - Morningstar Inc., Research Division
Operator
Good morning, my name is Tracy, and I will be your conference operator today. At this time, I would like to welcome everyone to the Harley-Davidson Second Quarter 2013 Earnings Conference Call.
[Operator Instructions] Miss Amy Giuffre, Director of Investor Relations, you may begin your conference.
Amy Giuffre
Thank you, Tracy, and welcome to Harley-Davidson Second Quarter 2013 Earnings Conference Call. The audio for today's call is being webcast live on harley-davidson.com.
The supporting slides can be accessed on our website by clicking on Company, Investor Relations, then Events and Presentations. Our comments today will include forward-looking statements that are subject to risks that could cause actual results to be materially different.
Those risks include, among others, matters we have noted in our latest earnings release and filings with the SEC. Harley-Davidson disclaims any obligation to update information in this call.
This morning, you'll hear from Harley-Davidson's CEO, Keith Wandell; CFO, John Olin; and President of Harley-Davidson Financial Services, Larry Hund. Then we'll open the call for questions.
So let's get started. Keith?
Keith E. Wandell
Well, thank you, Amy. Good morning, and thanks to all of you for joining us on today's call.
We appreciate your interest in Harley-Davidson and your investment. Harley-Davidson again turned in a strong financial performance in the second quarter with earnings growing more than 13% on a rise in consolidated revenue of nearly 4%.
For the first 6 months, EPS grew more than 21% on revenue growth of 6.5%. We also reported continued improvement in gross and operating margin for Motorcycles and Related Products.
This financial performance is a reflection of the outstanding job that our employees are doing throughout the organization. Together with our worldwide network of nearly 1,500 dealers and the support of our suppliers, we are working as one team and moving in one direction to deliver great experiences for our customers around the world.
While the U.S. retail environment in the second quarter in the first half proved challenging, given the persistently cool wet spring in much of the country, we once again gained market share, demonstrating the continued strength and appeal of the Harley-Davidson brand.
In the second quarter and first 6 months of 2013, our team achieved a number of milestones. With the April opening in Stuttgart, Germany of our 100th new international dealership since late 2009, we achieved our goal to open 100 to 150 international dealerships by the end of 2014.
In late June, new dealership number 104 opened in Salvador, Brazil. Through international dealership openings, we're better able to save customers in emerging markets, key growth markets and other well established markets.
Also in April, we launched our upgraded and expanded e-commerce site in the U.S. to deliver the premium online experience customers expect.
While still in its early months, e-commerce is driving traffic and sales of motor clothes apparel, general merchandise and motorcycle accessories. Of course, e-commerce is just one of many ways we're upgrading the retail experience.
We are working closely with our global network of independent dealerships to ensure that customers receive a premium customized retail experience with every visit to Harley-Davidson. In Motorcycle operations, we completed our first year of seasonal surge production at York with great success.
This involved bringing a seasonal workforce to scale up production in the first and second quarters, enabling us to be more responsive to customers and dealers. Our full-time workforce, together with our seasonal employees, did a great job of implementing seasonal surge and then winding it down, all with outstanding product quality and plant safety.
Looking ahead, we will be expanding our ability to surge production in 2014, including at our Kansas City assembly operations at Powertrain Operations in Milwaukee. Last month, we continued the yearlong global celebration of the company's 110th anniversary in Rome.
The Harley-Davidson leadership team joined 100,000 plus Harley-Davidson enthusiasts for one of the largest rallies we've ever held outside of the United States. It was a remarkable event with more than 35,000 motorcycles in some 35 nations represented and a parade of 3,000 riders through Central Rome.
And news of the event went worldwide with more than 2.7 billion media impressions. Next month, our year-long 110th celebration will culminate in Milwaukee over Labor Day weekend, with more than 60 bands and nonstop activities over 3 days.
We're expecting thousands of riders from all over the U.S. and around the world reflecting the reach and strength of our brand.
We will also be ringing the closing bell of the New York Stock Exchange remotely from the Milwaukee celebration on Friday, August 30. All of us at Harley-Davidson look forward to spending time with customers and celebrating with our extended family.
We also look forward with great anticipation to our worldwide Annual Dealer Meeting late next month in December. We've got an exciting new line of new 2014 motorcycles to unveil, including the first products resulting from our product development transformation.
Through this transformation, we expect to increasingly bring more new wow products to market in a shorter amount of time and with a greater level of customer and dealer input than ever. So in summary, it's been an exciting first half, and there's a lot to look forward to in the back half of the year and beyond.
We continue to deliver on our objectives including international growth, operational improvement and financial performance. Through our strategies for manufacturing, product development and the customer retail experience, we expect to continue to extend Harley-Davidson's reach to existing and new customers around the world, to grow our market leadership of core customers, young adults and others in the U.S.
and further increase the strength of the Harley-Davidson brand. Now, I'll turn it over to John for the details on the financials.
John A. Olin
Thanks, Keith and good morning, everyone. I'll review the second quarter financial results, starting on Slide 10.
During the quarter, Harley-Davidson, Inc. consolidated revenue was up 3.7% to $1.79 billion.
Our second quarter net income improved to $271.7 million, an increase of $24.5 million, or 9.9%. Similarly, diluted earnings per share rose to $1.21 per share, up 13.1% from the year ago quarter.
Operating income from the motorcycle segment was $357.7 million, up 15.5% compared to last year's second quarter. The strong increase in the motorcycle business was driven by a 4% increase in revenue behind shipments, which were up 1.3%.
Additionally, Motorcycles segment operating income benefited from higher gross margin and lower restructuring spending. Operating income at Harley-Davidson Financial Services was down 9.5%, behind a higher credit loss provision resulting from lapping last year's credit loss reserve releases.
We are very pleased with the second quarter financial results. Now let's take a look at retail sales on Slide 11.
Worldwide retail sales of new Harley-Davidson motorcycles were up 5.2% during the second quarter, driven by an increase in both the U.S. and international retail sales, which rebounded from declines in the first quarter of 2013.
In the U.S., retail sales bounced back to 4.4% growth after being down 12.7% in the first quarter, as a result of very tough Q1 year-over-year comparisons, driven by extraordinary weather in 2012. International retail sales increased to 6.7% growth after being down 1.8% in the first quarter of 2013.
The largest driver of the improvement was positive retail sales in the EMEA region, which had been down for the past 2 quarters. On a year-to-date basis, worldwide retail sales remain down slightly, with the U.S.
being down 2.7%, while international was up 3.3%. As we look forward to the remainder of the year, we feel great about our brand, our business and our future.
We expect a strong second half of the year, behind significantly improved product availability; very exciting model year 2014 motorcycles, which will be introduced in 3.5 weeks; and relatively easy year ago second-half comparisons. We believe we're on track to deliver our full year shipment guidance of 259,000 to 264,000 motorcycles or up approximately 4.5% to 6.5%.
On Slide 12, you'll see that retail sales in the United States were up 4.4% in the second quarter. Our share of the U.S.
heavyweight market increased 1.3 percentage points to 53.0% in the second quarter, which represents another record quarter of market share. We do believe retail sales during the quarter were negatively impacted by cooler and wetter-than-normal weather conditions in much of the United States.
And consequently, we believe that a portion of the volume that was lost in the second quarter will not be recovered by the end of 2013. This will put pressure on our ability to reach the high end of our full year shipment guidance.
On a year-to-date basis, retail sales in the U.S. were down 2.7%, largely due to the very tough year ago comparison of up 12%, driven by some of the mildest weather across the United States in over a 100 years.
Dealer retail inventory in the U.S. at the end of the second quarter was approximately 11,300 units higher than at the end of Q2 2012.
We believe this inventory increase is appropriate, considering we cut over to a model year 2014 production in late June and do not intend to begin shipping motorcycles until August 19. Also, recall that last year, retail sales were negatively impacted as inventory was significantly depleted in the period leading up to the launch of our new motorcycles.
This year, we believe the overall inventory level is appropriate to bridge dealers to the launch of model year 2014 motorcycles. As we have discussed relative to last year, we continue to expect dealer retail inventory to be higher in the first 3 quarters of this year and be lower in the fourth quarter as we expect to implement surge production at our Kansas City facility next year.
On Slide 13, you'll see second quarter retail sales in our international markets were up 6.7%. In our EMEA region, Q2 retail sales were up 1.0% despite continued softness in Southern Europe, especially Spain and Italy.
While these markets remain down, they have improved from the previous couple of quarters, as we lap the steep declines, which began in Q3 of 2011. Retail sales in the Northern European countries in aggregate were up in the second quarter after being down the past 2 quarters, driven by strength in the U.K., Switzerland and France.
Emerging markets within our EMEA region continue to grow, reflecting our investment in the distribution network. During the first 6 months of 2013, our heavyweight market share in Europe was 12.5%, up 0.6 percentage points versus the same period last year.
Our strengthening market share in Europe is encouraging, especially in light of the economic situation, our competitors' promotional discounting and the introduction of additional models with low price points in that market. We remain concerned with our European business due to the ongoing recession, which continues to result in low consumer confidence, high unemployment and constrained credit.
We will continue to focus on what we can control, which includes building our brand across Europe and expanding our distribution network in emerging markets in the region. In the Asia-Pacific region, retail sales were up 12.3%, driven by a strong growth in Japan and double-digit growth in emerging markets.
In Japan, retail sales were up 9.5% despite a challenging economic environment and intense competitive activity. Latin America region retail sales were up 39.2% driven by Brazil and Mexico.
At the end of this quarter, there were 15 dealerships operating in Brazil versus 11 dealerships a year ago. Finally, retail sales in Canada were up 3.6% in the second quarter.
As we have discussed, we are very focused on investing in our international businesses. We can -- we expect to add 100 to 150 international dealer points through 2014.
Over the last 3.5 years, we have opened 104 new international dealer points, with 2/3 being in emerging markets. We're very excited about the growth prospects in our international businesses.
On Slide 14, you'll see wholesale shipments of Harley-Davidson motorcycles in the quarter were at the high end of our expected range of 80,000 to 85,000 motorcycles and up 1.3% compared to last year. During the quarter, the mix of custom motorcycles increased over the prior year, while Sportster and Touring declined.
As a percent of the total, international shipments were about flat to Q2 2012. On Slide 15, you'll see revenue for the Motorcycle and Related Product segment was up 4.0% in the second quarter behind increased revenues in all business categories.
Motorcycle revenue was up 4.2% behind a 1.3% increase in shipments during the second quarter. For the quarter, the average motorcycle revenue per unit increased $413 from the prior year period, primarily driven by favorable mix and higher pricing, partially offset by unfavorable currency exchange.
On average, our key currencies during the second quarter were weaker against the U.S. dollar by approximately 3% compared to last year.
During the quarter, parts and accessories sales were up 1.5%, and general merchandise was up 8.7% compared to Q2 2012. Turning to restructuring on Slide 16.
In December 2011, we announced our plan to cease wheel manufacturing in Australia and source those components through existing suppliers. We expected that the transition would cost approximately $30 million, be completed by mid-2013 and result in approximately $9 million in annual savings.
Since that time, we have transitioned a significant amount of wheel production to suppliers. We have also optimized the plant to focus on the production of certain complex, high finished wheels.
We are now able to produce these intricate wheels in a cost effective and competitive manner, and as a result, plan to retain limited operations in Australia. To support this direction, a new 4-year labor agreement was ratified by the local union earlier this month.
The financial implication of this decision was a reversal of approximately $5 million in previously expensed termination costs. This, along with other restructuring favorability, reduces our expected 2013 restructuring expense from an estimated $13 million to approximately $3 million.
Scaling back, our Australian wheel operations will still result in significant savings. We continue to expect annual savings in 2013 from all restructuring activities of approximately $305 million and approximately $320 million on an annual ongoing basis beginning in 2014.
For the second quarter, we recorded a restructuring benefit of $5.3 million versus an expense of $6.2 million in the quarter of last -- second quarter of last year. We also experienced approximately $5 million in temporary inefficiencies versus approximately $9 million in last year's second quarter.
Since 2009, we have been intensely focused on improving our cost structure and transforming the business to be stronger, more flexible and more profitable. As we exit the restructuring, we will continue to focus on improving retail capabilities and strengthening our world-class distribution channel and product development capabilities.
We have established a culture of continuous improvement, and we'll continue to look for ways to operate in the most efficient and profitable manner. On Slide 17, you'll see gross margin in the quarter was 36.9%, which was 1.0 percentage points higher than last year.
Volume, price, mix, raw materials and manufacturing were all favorable for the quarter, partially offset by unfavorable foreign currency exchange. Motorcycle pricing was favorable largely due to the model year '13 price increases, which were initiated in August of 2012.
Mix was favorable during the quarter due to a higher shipment mix of custom motorcycles and lower mix of Sportsters. Manufacturing costs were favorable to prior year benefiting from restructuring savings, higher production quarter and lower temporary inefficiencies as compared to last year's second quarter.
Foreign currency exchange continue to be significantly unfavorable during the second quarter as a result of a sizable devaluation of the yen, the real and the Australian dollar on both a year-over-year basis and within the quarter. Foreign currency exchange impact reduced our second quarter gross margin by $13.4 million or approximately $0.04 of EPS and reduced our gross margin percentage in the quarter by approximately 0.5 percentage point.
As we look forward, we continue to expect foreign currency to adversely impact gross profit in the third quarter. On Slide 18, operating margin as a percent of revenue for the second quarter was 21.9%, up 2.2 percentage points compared to last year's second quarter.
Operating margin for the quarter was favorably impacted by higher gross margin and lower year-over-year restructuring expense with the reversal of a portion of previously expected termination expenses related to our Australian wheel operation. As a percent of revenue, SG&A in the second quarter was 15.3% versus 15.8% in the prior year quarter.
We continue to expect SG&A spending will increase on a year-over-year basis in 2013 and 2014 as we continue to invest in growth initiatives, but decrease as a percent of revenue through 2014. Now moving onto our Financial Services segment on Slide 19.
In the second quarter, Harley-Davidson operating profit decreased $7.8 million or 9.5% compared to last year. The 3 key drivers of second quarter results were: First, net interest income was up $3.2 million resulting from lower interest expense, primarily driven by lower cost of funds; second, the combined change in the provision for retail and wholesale credit losses was unfavorable by $16.1 million on lower credit loss reserve releases and higher retail credit losses on a year-over-year -- on year-over-year recoveries.
As we noted last quarter, we lapped $11.2 million of credit loss rate reserve releases from Q2 2012. Finally, operating expenses were lower by $3.3 million.
We're pleased with the performance of our Financial Services business in the second quarter. On a full year basis, we continue to believe HDFS's 2013 operating income will be modestly lower than 2012 as the business benefited from approximately $17 million of 2012 credit loss rate reserve releases, which may not repeat in 2013.
Also we expect increased competition will continue to put pressure on HDFS's operating income this year. Additionally, we expect modestly higher retail credit losses in 2013 due to lower recoveries resulting from fewer charge-offs in prior periods, changing consumer behavior and HDFS's funding of additional loans, which we believe are prudently structured in the near prime and subprime segments.
Finally, key benchmark interest rates increased sharply during the second quarter. We believe HDFS is well positioned to navigate a changing interest rate environment given its diversified funding portfolio, which should delay the full impact of interest rate increases over several years.
Therefore, we expect minimal impact on HDFS's earnings in 2013, but we believe rising interest rates will result in some compression of HDFS's lending margins over time. Now, Larry will provide more detail on HDFS's operations on Slide 20.
Larry?
Lawrence G. Hund
Thanks, John and good morning. During the second quarter, HDFS retail motorcycle loan originations increased 9.9%, or $82.1 million compared to the same period last year.
The increase was primarily driven by higher year-over-year new retail motorcycle sales and a 2.3 percentage point increase in retail financing market share. For the second quarter, HDFS retail financing market share of new Harley-Davidson motorcycles sold in the U.S.
was 53.8%, compared to 51.5% in the second quarter of 2012. We are pleased to see this increase, despite increased competition in the prime segment.
In response to competitive pressure, we initiated certain prime segment rate reductions in both the first and second quarters, and these contributed to our second quarter market share gains. Finance receivables outstanding increased 3.4% compared to a year ago, driven by growth in the wholesale portfolio.
We believe the overall loan portfolio is solid, comprised of profitable loans funded in both the prime and subprime segments. In the second quarter of 2013, between 75% and 80% of our new retail loan originations were prime.
Moving on to credit performance on Slide 21. The 30-day delinquency rate for retail motorcycle loans at June 30, 2013 was 2.75% or 7 basis points higher than 2012.
This is consistent with consumer's willingness to take on more debt, as well as our actions over the past several years to modestly increase approval rates in the near prime and subprime categories. As we fund additional loans, we believe are prudently structured.
To put this delinquency percentage in the proper perspective, this is only the second time in at least the last 12 years where HDFS has finished the second quarter with retail delinquency below 3%. Annual retail credit losses increased by 22 basis points to 0.8% in the second quarter compared to 2012, primarily driven by lower levels of recovery.
This was expected given that the lower level of credit losses in the past few years has left a smaller pool of potential recovery dollars. We are pleased with the progress at HDFS, as we continue to maintain a strong liquidity position, deliver solid credit performance and contribute strong profitability.
We remain focused on enabling sales of Harley-Davidson motorcycles, while providing an attractive return to Harley-Davidson, Inc. Now, I'll turn it back to John.
John A. Olin
Now let's take a look at cash and liquidity on Slide 22. You'll see that at the end of the quarter, we had $1.43 billion of cash and marketable securities.
In addition, we had $1.42 billion of available liquidity through bank credit and conduit facilities. We currently have and intend to continue to maintain a minimum of 12 months of projected liquidity needs in cash and/or committed credit facilities.
During the second quarter, there were a couple of transactions related to cash. First, we completed a $650 million asset-backed securitization transaction with a weighted average interest rate of 0.71%.
We also repurchased approximately 1.5 million shares of Harley-Davidson stock for $81 million during the quarter. As we have stated, returning value to our shareholders through increasing dividends and share repurchases is a top priority.
We will continue to evaluate opportunities to enhance value for our shareholders. Now, I'll review the remaining Harley-Davidson, Inc.
financials on Slide 23. I'd like to highlight 2 items on this slide.
First, with regards to operating cash flow, the company generated operating cash of $390 million during the first 6 months of 2013. Operating cash flow was up $101 million from last year, primarily driven by increased earnings.
And second, the tax rate through 6 months was 34.8%. This reflects the benefit of the R&D credit, which was reinstated retroactively with the enactment of the American Taxpayer Relief Act of 2012 at the beginning of 2013.
We continue to expect our full year effective tax rate to be approximately 34.8%. On Slide 24, you'll see that for 2013, we continue to expect Harley-Davidson motorcycle shipments to be between 259,000 and 264,000 motorcycles on a worldwide basis, up approximately 4.5% to 6.5% from 2012.
We believe the underlying demand fundamentals in the U.S. are strong.
However, as I said earlier, the impact of the poor weather in the second quarter will put pressure on our ability to reach the high end of our full year shipment guidance. During the third quarter, we expect to ship between 51,000 and 56,000 motorcycles, which is in line with last year's second quarter shipments of 52,793 units.
We continue to expect full year 2013 gross margin will be between 35.25% and 36.25%. As we look forward to the second half of this year, we expect gross margins to come down from the first half levels behind lower production and unfavorable currency exchange.
Capital expenditures in 2013 are expected to be between $200 million and $220 million. Looking back, we're pleased with our second quarter results and key accomplishments.
During the quarter, we successfully completed first year surge manufacturing at York, in doing so maintained the highest level of quality and safety as we surged our workforce. Celebrated our 110th anniversary in Rome, with over 100,000 Harley-Davidson enthusiasts from 35 nations, delivered shareholder value through dividends and share repurchases and fulfill dreams of personal freedom for new and existing customers around the world.
We continue to position the company for long-term success by remaining focused on executing our growth strategies and delivering strong margins, strong returns and value to our shareholders. Thank you for your continued confidence and investment in Harley-Davidson.
And now, let's take your questions.
Operator
[Operator Instructions] Your first question is from Tim Conder with Wells Fargo Securities.
Timothy A. Conder - Wells Fargo Securities, LLC, Research Division
Gentlemen, a couple of things here. Could you make any comments on the retail cadence and the potential effect that retail of discontinuing the Road Glide?
Secondly, Larry, you talked about getting a little more aggressive I think, in the subprime, and how you've taken steps to mitigate that. Can you contrast your approach to subprime this cycle versus last cycle?
John A. Olin
Hi, this is John. I'll start out with the first question, Tim.
each year, we bring models in and out of our lineup as we introduce new models. And this is quite a common practice for us.
And we did announce to the dealer network that we would be exiting the Road Glide for the year as we retooled it and refreshed that model. While the Road Glide is a strong model or those 2 Road Glide models are strong for us, they represent a relatively small portion of our overall Touring sales.
And we don't expect any large impact from that taking those units out for the next model year.
Lawrence G. Hund
Tim, this is Larry. On the, on your question about subprime and how do we handle it different this cycle versus last cycle.
We have invested a lot over the last several years in our data warehouse and our analytical capabilities. And we are much more data driven in the way we approach subprime lending versus, I would say, we're probably more intuitive in the last cycle.
So I think that we have provided a lot of training, good tools to our underwriters to use in making credit decisions, and it's driving much more consistent credit decisions versus what we did the last time. It also allows us to test certain things, see how changes perform.
And if they don't perform well, then we quickly back out of those. So I think this investment in the analytic capabilities will pay off or us.
Operator
Your next question comes from Craig Kennison with Robert W. Baird.
Craig R. Kennison - Robert W. Baird & Co. Incorporated, Research Division
I was going to ask whether you asked the Pope to pray for better weather, but since I only get one question, I'll focus on the opportunity to raise price. The way I see it, you've got a dynamic environment where you've done the right thing to get scarcity back into the brand, reduce inventory, you've got new products coming.
But you've also got more competition in this space. Do you still see an opportunity, I guess, to raise wholesale prices given all the work you've done?
Keith E. Wandell
With regards to overall pricing power, we've talked about for quite some time. We have worked hard at making sure that we've got our supply and demand in balance.
And the brand has been very strong. For the last 4 years, we've gained share.
Matter of fact, out of 15 of the last 19 quarters, we've gained share. And so we will, as always, evaluate the opportunity to raise prices.
And we'll announce those with our new model year coming up here in about 3.5 weeks. But in general, we do believe that we possess pricing power as we move into the future.
Operator
Your next question is from Adam Jonas from Morgan Stanley.
Adam Jonas - Morgan Stanley, Research Division
Guys, a couple of questions. First, can you comment on used bike prices?
And also, a couple, two part on the yen. Any impact on the competitive side from the weakening end that you could witness at all, and more tactically, on your results?
Could we expect that the FX impact on gross margin could be worse in the second half than in the first half, in particular for the yen as your hedges roll?
John A. Olin
Adam, with regards to used bike prices, we've been in a period of stability since the fourth quarter of 2011. And we do not see again -- both the new and used bike prices have been growing at the same rate or declining at the same rate in the case of the first quarter or the first half of this year.
But overall, used bike pricing has been very stable for the last 4 to 5 quarters. The second question is with regards to yen.
We have not seen anything directly with regards to competitive price pressures from our Japanese competitors. And again, remind you that when the yen was strengthening, and we didn't see a whole lot of price movement by our Japanese competitors during those years.
And we believe at that time, they took out a fair amount of profit. Don't know what's going to happen in this round, but at this point, we are not seeing higher levels of discounting.
And perhaps, they're certainly more profitable, but we'll have to continue to wait and watch that, but no signs yet. And in terms of the financial results, clearly, the devaluation of the yen as well as in this quarter, The Australian dollar and the Brazilian real had a significant financial impact.
When we look at the second quarter, overall revenue was down $13.7 million, and the yen, in particular, devalued 19% from the year ago second quarter. It did cause a financial hit of $13.4 million.
And what I can tell you is #1 is we didn't expect that big of -- unfavorability in the quarter, and there was a significant amount of devaluation that occurred within the quarter. But as we look forward, we do expect currency to be unfavorable.
We do not expect it to be at the same magnitude that we've seen in the first half. But again, things are certainly always very dynamic and changing in the world of currency.
We do expect it to be unfavorable, but not to the same extent as the first half.
Operator
Your next question is from James Hardiman with Longbow Research.
James Hardiman - Longbow Research LLC
Talk a little bit about the set up as we head into the model year crossover here in a few weeks. I guess first question, I mean you guys have certainly been pretty optimistic in terms of the products that you're going to be bringing to the table.
And I think the dealers have certainly picked up on that. You think there's any chance that some of your customers, in anticipation of that excitement, may have delayed some of their purchases during the second quarter?
And I guess, secondly, from a competitive standpoint, with the reintroduction of Indian and some other competitive products out there and on the way, how susceptible do you think your customer base is to maybe switching to any American-made competitors?
Keith E. Wandell
This is Keith. I'll just jump in here for a second.
We also have -- this is Keith, I'm sorry; I'll jump in here for a second. We also have Matt Levatich here with us too, and he may have a couple of comments about that.
But clearly, we're going to launch our new lineup next month. And I think we don't really talk a lot about the products that are in the pipelines.
So my guess is that while there might be some speculation on the part of our dealers and our customers, I think it's mostly that I think we've got our inventories pretty well online. And we think we're in pretty good shape in terms of going into this 2014 lineup.
I know our dealers will be working hard to get -- to move all of the 2013 products. And again, I don't think there's a massive amount of those in the system.
So I think we should be in pretty good shape on that. As far as any of those, you will see.
I mean it's a brand that's been in and out of the market a few times over the last 50, 60 years, whatever. And I think the issue is going to be, for them, getting the new products launched, getting them in the marketplace, what kind of a dealer network gets set up and all those kind of things.
I mean we take all of our competition very seriously. We're not taking anything lightly, but we believe that the way we've positioned our company and how we've transformed product development and the pipeline of products that we have coming, not just in '14 but '14, '15, '16 and beyond, our job here is to just continue to bring great products to market and make sure that we're winning with great products.
Operator
Your next question is from Greg Badishkanian with Citigroup.
Gregory R. Badishkanian - Citigroup Inc, Research Division
Just regarding the second half of 2013, you mentioned a few drivers were new product availability, the new products and easier comparisons. I'm wondering which is the maybe the biggest factor.
And then also, just from a comparison perspective, maybe just helping us think about the weather in the second quarter to come up with a more normalized trend line. And I know John, sometimes you look at the sunshine states versus the non-sunshine.
Is there a way to breakout kind of the, maybe the regions that were not affected by weather, which I know had an impact in a lot of the leisure vehicle companies?
John A. Olin
Okay, Greg, I'm not going to quantify the 3, but as we look forward to the second half, we do think there's 3 very strong things in our favor. And let me go through them each real briefly as they improve product availability.
If you recall, last year, and it's particular in the third quarter, we ran dry of product. Pump ran dry.
And retail sales were adversely affected in the United States by 5.2%. And as we come into this year's second half, we've got 11,300 more units.
And we've got a bridge of period from late June to August 19. And now we've got a lot more products to do it than what we did last year, and not having enough product last year was an issue.
And that was -- that's the piece leading up until the trial lunch. And again last year in terms of product availability, when we did launch our product in the third week of August last year, we did not have tremendous amount of firepower.
If you recall, we were putting in ERP system in our York facility, and we lost 40% of our July production. So it took us 8 weeks to get back to year ago levels, and we would expect a much quicker replenishment this year.
So overall, product availability will be very strong in the second half, and in particular, in the third quarter. The second is the model year product.
And as Keith had mentioned in the preamble, we're very excited about it. It is the first product that we've developed since the transformation under a new product development methodology.
And we're excited for that. And everyone has got to wait the 3.5 weeks to see what it is.
And then finally, when we talk about the year-over-year comps, is the first quarter of last year of 2012 was up 9.3%, and the second half was up about 2%. So just generally, if you look at that much easier as we look to the second half.
So all 3 of them, we're very excited about, and we believe will drive a strong second half for us. The second piece that you mentioned is weather.
And you asked about second-half weather, but let's talk a little bit about the second quarter. We did have challenging weather as everyone knows, and most of that weather was unfavorable in the eastern 2/3 of the United States.
It was cold and damp, and it was for a very prolonged period of time. When we do look at the pieces that were not affected by weather, which is really the western 1/3 of the United States, we saw actually in the second quarter, double-digit growth.
And we have seen some strong growth in the first quarter, which was pretty unaffected by weather as well, but that accelerated in the second quarter, and we saw double digits. Now when we look at the western states dealers that represents slightly less than 20% of our overall volume.
The other 80% of the U.S. was in the low single digits and again, clearly affected by weather.
When we look forward, we have no idea what weather will be, but last year's weather from August through December was much more in the normal range. So we don't anticipate any issues with weather as we move forward, but you never can tell.
Operator
Your next question is from Patrick Archambault with Goldman Sachs.
Patrick Archambault - Goldman Sachs Group Inc., Research Division
I just had a question regarding the move to surge at Kansas City. And then in Milwaukee, what kind of, sort of disruptions from an operating perspective can we expect, or should we see sort of stepped up temporary inefficiencies surrounding those changes as we get in the second half?
And then related to that, maybe you can give us a sense of how the mix will be impacted? I guess since they make the lower mix bikes, might you actually see a positive offset from kind of York products becoming a bigger part of the pie?
So really those would be my 2 questions.
Keith E. Wandell
When we look at moving to surge in Kansas City in 2014, we do not expect any disruption with regards to overall production. Remember that Kansas City has been producing similar to the way that we transformed our York facility.
They only focus on fabrication of frames, tanks, fenders, assembly and paint, so that's all been set. So there's not a lot that's going need to go on within it.
It is more of the same thing that we had to do in York after we transformed the plant, is to bring in temporary workers, get them trained on the line and producing more or further utilizing our factories in the first half. So we feel great about that as we move forward.
We had a great experience in York, and we don't foresee any issues in KC. So we expect no impact on operations or productions or the mix of our product.
You did mention temporary inefficiencies, and we do expect as we get that operation started up that we will have some temporary inefficiencies with the training of those workers and the hiring and those types of things. So I think this year we've got -- we expected half of temporary inefficiencies to go away from I think, 36 last year to about 17 this year.
And we would expect a fair amount of inefficiencies to fall off next year, but they won't go completely away because of such things such as the startup of surge operations in Kansas City.
Operator
Your next question is from Felicia Hendrix with Barclays.
Felicia R. Hendrix - Barclays Capital, Research Division
Keith, you reiterated your production guidance, but then you said you wouldn't make the high end. So I'm just confused as to why you keep the high end out there?
And I'm wondering, by taking the high end off the table, if there's any gross margin implication from that? And then also, while you've been very clear that weather played an impact on sales in the quarter, I'm just wondering if there's -- and also obviously, the international business is tough.
But I'm wondering if you're seeing any impacts on your business domestically at all from the economy? Has anything changed since you last adjust us the last quarter?
John A. Olin
Felicia, I'll take the question with regards to the guidance. Our guidance is 259,000 to 264,000 units.
And what we said is the second quarter and the prolonged weather is we lost some sales. We think we'll get some of them back over the remainder of the year, but not all of them.
And when weather affects us and it's a month or 2, a customer comes in and markedly has to buy the bike in April because of weather. That's not a big deal.
And what we're seeing here is that somebody that may have come in, in March and now it's July, and over half the riding season is done; we may see that person wait until the next riding season. So we do believe that there is an impact on our full year shipments this year due to weather in the second quarter.
We did not say that we would not make the high end of guidance. We're just acknowledging the fact that we don't believe all of the volume that was delayed or the purchases that were delayed in the second quarter are going to be sold this year.
And therefore, that will put pressure on the upward end of hitting our guidance. And so our guidance is 259,000 to 264,000 units.
With regards to gross margin, our guidance there is 35.25% to 36.25%, there's no change. The only impact of selling less in the second quarter would be as we aggressively manage supply and lines met demand if we come down in the range.
That would slightly affect some of the incremental margin and gross margin. But again, feel very comfortable with our 35.25% to 36.25% guidance that's out there.
Felicia R. Hendrix - Barclays Capital, Research Division
Keith, follow-up to the, on the -- does anyone want to address my economy -- my question about the domestic economy, is this affecting your sales at all?
Keith E. Wandell
Well, I think we've been -- this is Keith, I'm sorry. I think we've been very consistent for the last several quarters in saying that we've been very cautiously optimistic about the economy.
If you see things like in June, home sales are higher than they've been for some time, and that's certainly encouraging. I still question whether home equity values are -- have risen to the point where they were before, which we think is something that certainly affects us in the United States, unemployment, underemployment is still rather high.
So we think that there's still somewhat of a drag in the economy. And when you look at Europe, you know that I think yesterday, there was some news out of Europe that consumer sentiment had improved somewhat, but was still lower than what it had been over the last couple of years.
We know that certainly, the Southern European countries, like Italy and Spain and Portugal and others, continue to struggle quite a bit. So I mean we think it's a kind of a mixed bag.
And for us, it's really about -- I mean, when you go and you look at what happened in Rome, and you look at 100,000 enthusiasts being there and 35,000 bikes and the people from 35 different nations, I mean we know that the affinity and the affection for this brand is as high and higher than it's ever been. So our job is to, in spite of the economic drags that we see, our job is to continue to provide great customer experiences and make sure that we're bringing new customers into the family and satisfying their dreams of personal freedom, and we think we're doing that.
So we think that's how we're sort of offsetting all those other issues.
Operator
Your next question is from Gerrick Johnson with BMO Capital Markets.
Gerrick L. Johnson - BMO Capital Markets U.S.
I was wondering why we didn't see better growth in parts and accessories? Why that trailed both motorcycle shipments and retail sales?
John A. Olin
Gerrick, this is John. Parts and accessories, a fair portion of that revenue is driven by repairs and service parts.
And what we saw in the second quarter is that report -- repair orders to our dealers were down about 10%. And so basically, with the bad weather, not only does it affect retail sales of motorcycles, but it affects the miles ridden.
And as customers are out riding motorcycles, they need new tires and oil, and they need to do their checkups and whatnot. We've seen that being down on a year-over-year basis.
So again, the weather impacted the miles ridden this year. And the converse of that is last year's weather was so extraordinarily good, customers were out riding more and needing those things on a year-over-year basis.
So in the quarter, we were up about 1.5% which was a little bit lighter than our retail sales at 4.5%. But it was driven by that side of the parts and accessories business.
Gerrick L. Johnson - BMO Capital Markets U.S.
Okay, so you're not seeing any decline in the amount of customization that guys are doing to their bikes or the amount of accessories they're buying when they buy their new unit?
John A. Olin
No.
Operator
Your last question is from Jaime Katz with Morningstar.
Jaime M. Katz - Morningstar Inc., Research Division
You guys had mentioned some competitive promotions in Europe. And I'm curious how you guys feel you're holding up with pricing there?
And then what do you actually see that international percentage of sales getting to? Can it get to 40% or 50% annually, or do you kind of have a, do you have a long-term goal for that?
John A. Olin
Hi Jaime, this is John. Given the overall environment in Europe, we are seeing a lot of price competition.
Harley-Davidson stays away from it, sometimes our dealers do, but we try not to price promote in any way. And it just makes that price disparity between our positioning, which is a super price point position versus some of our competitors a little bit greater.
As we look at our European business and understand how tough it is in Europe, this is clearly a tremendous bright spot for us. So we're through 6 months of this year, our share is up 6/10 of a percentage point, again, given that super premium price point.
So it goes to what Keith was saying, the brand is highly desired around the world, and in particular, in Europe as well. And they're willing to pay the price to have a Harley-Davidson and ride the best.
But it does affect the consumer decision at times. We keep a close eye on it, and chooses, in most cases, not to participate in any way, shape or form.
Jaime, with regards to the overall market share and where we can get, I can't provide a forward look at that. What I can tell you is that 10 of last 11 years we've gained share, the only sure time we did not gain share was last year.
And I think we lost a 1/10 of a point, and that was with the onset of a lot of the issues in Europe. And so again, that's why it feel so good to bounce back a bit here and be up 6/10 of a point.
We feel very strong about the business, we feel very strong about the distribution network that we've built and the overall desire for the brand. But I know we're going to continue to do what we do best and build the brand and the distribution network.
Amy Giuffre
And John, I think a good example of that is what just happened in Rome.
John A. Olin
Yes, absolutely. Maybe the Pope was blessing us.
Amy Giuffre
Thank you for your time this morning, everyone. The audio and visuals for today's call will be available at harley-davidson.com.
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Thank you.
Operator
Thank you for joining, ladies and gentlemen. This now conclude today's conference call.
You may disconnect.