How tariffs are affecting consumer and industrial products companies
Breaking down what tariffs really mean for the middle market
INSIGHT ARTICLE |
In September 2018, the federal government announced the third tranche of tariffs imposed on Chinese imports. This latest list includes over $200 billion of tariffs on everything from building materials to food to textiles. For leaders of middle market businesses that import raw materials and finished goods from China, tariffs are clearly top of mind. The uncertainty regarding these and potential future tariffs—combined with their significant impact on operations, supply chains and margins—has sharpened the focus on this issue for middle market executives.
A choice of approaches
It’s clear there is not a one-size-fits-all approach for middle market companies importing from China. Some of the options range from increasing prices charged to customers to absorbing the higher costs to negotiating cost reductions with suppliers.
Following are strategies some manufacturers and importers are using to address their tariff challenges.
A global manufacturer of consumer products for the construction and renovation industry that we work with implemented price increases when tariffs were first announced. Its agreements with customers had specified pricing based on delivery dates; therefore, some sales price increases were delayed. However, the approach enabled the company to get ahead of future cost increases.
However, not all middle market companies will be able to react as easily. Some are implementing quick price increases, while others are taking a more restrained approach. There is a concern that higher sales prices could ultimately lead to a loss of business. Each company must evaluate its customer base before increasing prices and consider alternative sources of products, as well as other strategies to mitigate the impact.
Passing along price increases may be especially challenging for companies that sell products to department stores and other big-box retailers. Retailers have stated they will not entertain price increases on products for which they already have confirmed purchase orders. Their strategy is to put off the inevitable as long as possible. As many suppliers have already received approved purchase orders for 2019 deliveries, they will need to shoulder the cost of the tariffs until mid-2019. This could severely affect their financial position. Each company must evaluate its customer base before increasing prices and consider alternative sources of products, as well as other strategies to mitigate the impact.
Split the difference
Several retailers have agreed to a shared-loss approach in which they absorb a share of the increased costs due to the tariffs, with their suppliers and customers also bearing a portion. Many importers are also asking their factories in China to share the increase, taking advantage of the need for these factories to keep manufacturing, rather than risk a shift to other countries. This approach may be equitable to all, but the challenge is in the implementation, and whether the consumer is willing to pay a higher price.
Move the supply chain boulder
Some large manufacturers report that tariffs present a significant challenge to global sourcing. Many companies, including those in the automotive industry, have established their global supply chains over the course of many years. Establishing new supply chains that are not affected by the tariffs may be laborious, depending on the types and pricing of their components. Several manufacturers are considering moving goods from China through Europe, Canada and other locations where logistics might be more difficult, but tariffs are lower.
On the other hand, not all companies are losers in this scenario: Several have been shifting production back to the United States over the past 10 years, and are well-positioned to respond to the tariff uncertainty. As consumers focus on value in addition to quality, the ability to compete on price with “Made in USA” products is attracting new customers.
Feel the squeeze
One chemical manufacturer is reliant on importing products from China where its supplier has control over certain materials. The company is left with no choice but to bear the brunt of the increased costs resulting from the tariffs. This manufacturer is not alone. Some companies can only source finished products, raw materials or components from China, in part because the production quality in other countries is not as high. As a result, some U.S. companies are experiencing rising costs from their global suppliers, and managing these changes is a top priority. The best approach is to focus on further reducing costs in the manufacturing and sourcing process.
Wait and see
One middle market manufacturer decided to absorb the costs for now and may reassess this approach if there are no changes to the tariffs in the coming months. This approach is easy, but has the highest risk of negative financial impact. With no path toward resolution currently in sight, the China tariffs will likely impact middle market businesses for the foreseeable future.
Developing a strategy
In light of the recent tariffs and uncertainty of U.S. trade policy, companies must be proactive in managing their businesses. Determining how to address the challenges posed by the tariffs will depend on the unique set of circumstances surrounding each company's supply chain. A holistic approach to dealing with the current situation is needed—one that balances price, quality and the financial success of their business. Such a comprehensive strategy requires a systematic approach to help companies minimize the impact of tariffs, including:
- Determine which products or components are affected by the tariffs and what the financial impact will be
- Determine if products/components could be modified so they don’t fall on the tariffs list
- Review the company’s operations to reduce costs in the entire supply chain
- Review customer agreements for contractual dates, and terms for price increases related to tariffs
- Negotiate pricing, possibly in phases, for price increases
- Evaluate alternative sourcing options to reduce the cost of goods purchased
- Determine if the company could claim an exclusion or exemption from the tariffs
- Consider increasing sales prices based on market acceptability
- Evaluate transfer pricing studies to determine how they are affected by the tariffs
- Re-evaluate international corporate structure to ensure supply chain changes are as tax efficient as possible
- Consult with customs/duty experts to review product classifications and understand best practices
Questions? Contact us for further insights and help.