The ongoing trade war between the U.S. and China has had consumer goods companies in disarray for more than a year; with each new tariff tranche, more products produced in China have fallen victim to additional duties. Although apparel and footwear had been largely spared, new and impending tariffs will see the category start to feel more of the trade war’s effects.
Clothing and shoe brands are on high alert, drawing and redrawing contingency plans, accelerating supply chain changes and calculating the potential hit to the bottom line. The uncertainty alone has been costly.
“The threat of potential tariffs essentially has the same impact as activated tariffs,” Matt Priest, president of the Footwear Distributors and Retailers of America (FDRA), told Sourcing Journal, quoting a member of his organization.
And now with these goods included in the Tranche 4 tariff list, the worst-case scenario looms.
For footwear, in particular, the additional tariffs could prove devastating. Shoe companies already pay an onerous amount of duties, which outweighs the burden other products face. For much of the last 25 years, footwear duties have averaged around 11 percent under current tariff law, with some reaching well over 50 percent depending on the classification.
Considering that many of these products offer very low margins, the FDRA believes the new tariffs could end up limiting and, in some cases, eliminating the production of some low-cost footwear entirely.
To protect their companies, footwear executives have been looking for ways to insulate themselves from a direct hit. While the most logical first thought may be to exit China, moving a supply chain is easier said than done, even under the best of circumstances. Some are finding that making a hasty retreat is nearly impossible, leaving them vulnerable in the short term.
“We will continue to reduce our dependence on China as a sourcing country, but the effect of further migration will not impact our cost structure until early 2020. [Our] brands will raise prices in the short term to offset higher landed cost pricing due to increased duties,” Mike Jeppesen, president of global operations at Wolverine Worldwide Inc., told Sourcing Journal. “The higher duties will, in effect, result in higher product prices being passed on to the consumer.”
In the meantime, the company, which produces the Sperry, Saucony, Keds and Merrell brands among others, is attempting to mitigate the fallout.
“We have proactively expedited the shipping from China of available product,” Jeppesen said, adding that the logistics of moving out of China will also have an effect on lead times and shipping costs. “We’re prepared to customs clear and pay duties on product in our free trade zone DCs prior to a duty increase.”
While reducing exposure to China is a logical reaction, the industry is finding that it may not be a realistic one—at least not for everyone.
Places like Vietnam and Bangladesh could be attractive from some aspects, but the added cost of doing business away from China is difficult to recoup.
“The average landed cost of footwear from the world as a whole last year was about $10.79 a pair. In China, that was $8.26,” said FDRA chief economist Gary Raines. “Looking at Vietnam, even though they were 18 to 19 percent of the pie, the average cost was $13.40. So if you are thinking you are just going to move production from China to save that 25 percent—not at all. You’re going to see your costs increase substantially just moving from China to Vietnam.”
Even for those that stay in China, the National Retail Federation says costs will rise. In June, the trade group released a report prepared by Trade Partnership Worldwide that outlined the impact of the tariffs, including how the increased costs out of China would impact sourcing around the globe. Ultimately, it found that retail prices would rise by 8 percent no matter the origin of the goods, and by 21 percent for footwear imported from China.
But Laura Baughman, president of Trade Partnership Worldwide, said the model shows a general average overall. Every retailer will have a different strategy for dealing with the tariff.
“It depends on the product and whether the retailer is a direct import or an indirect import,” she said, providing an example of how a store could opt to insulate certain products. “So if you go into a store today and see a sweater from China for $10, it won’t necessarily be $12.50. It might be $11 because they have spread that extra $2.50 to other products that are less price sensitive that the consumer will buy if that price goes up.”
Additionally, stores could opt to delay markdowns as a way to recoup some of the increased costs.
According to the FDRA, China currently accounts for 57.5 percent of the world’s total footwear production. Combined, the rest of the world makes up less than 75 percent of China’s total capacity, pouring cold water on the idea of replacing Chinese production in any one area.
Further, for brands that offer low price shoes, the issue is even bigger.
“The challenge is for mass retail,” Priest said. “For those types of shoes, it’s almost 100 percent China with price points that scream a need to be in China because the American consumer demands it from a price perspective.”
“To some degree, a shoe may not be worth moving,” he said. “If it moves from a 67.5 percent duty to a 93 percent duty and it’s a $3 shoe at the border, there’s really no incentive. You’re going to double the price. The consumer isn’t going to pay for that at a Target or a Walmart. You might just kill that production.”
Raines agrees, saying the result would be a classic example of deliberate destruction of demand.
“I don’t think many fully appreciate the pain and suffering that we are going to see at retail from this,” Raines concurred. “It’s picking on the mass-merchant shoppers that are accustomed to spending five bucks for a children’s shoe. You’re going to see a lot of consumers that can’t or won’t fork out the additional money.”
Looking closer to home
Beyond the most talked about production options, Hady Jawhar, apparel project manager for Sealand Maersk, a container shipping company that serves North and South America, Central America and the Caribbean, said brands have been looking to countries in the Western Hemisphere.
“We’ve been exposed recently to a lot of suppliers, brands and companies that deal with this cargo. What we’ve been hearing are rising concerns from increased tariffs in China,” Jawhar said. “Then, it’s the outlook for the next five years on sourcing and the preparation and capacity for Central America to take such a load.”
Countries like Honduras and Guatemala, according to Jawhar, are likely destinations for production that could potentially move westward. Although labor is more expensive, Sealand Maesrk believes there are several built-in advantages to this kind of diversification.
“Proximity is very obvious,” Jawhar continued. “[For products coming from China] transit time is not less than 30 to 35 days—versus a 3-to-4-day service from Central America. With that transit time on the water, there’s not much exposure to currency fluctuation, market fluctuation, jobs, etc.”
However, there is simply no comparing Central America’s capacity with China, and Jawhar admitted that the discrepancy is such that a 1 percent impact in Chinese production is equal to 10 percent impact in Central America.
“A factory in China has 3,000 workers whereas, here, it’s 150 to 200 people,” he explained. “I don’t think Guatemala and Honduras can take a sudden shift in sourcing away from China. But they can definitely lean more on those countries, and we are seeing that.”
With all of the what-if scenarios, information might be the most valuable commodity.
Vincent Iacopella, the executive vice president of growth and strategy for Alba Wheels Up, a customs broker and freight forwarder, contended that until recently, some apparel and footwear brands had been “on autopilot” when it came to customs issues. Today, they’re hungry to learn as much as they can.
“We want to be very careful; we don’t have a magic wand. We can’t make the tariffs go away,” Iacopella said. “One thing that we’ve done from very early on [is] we’ve leveraged tariff trackers from regional trade groups. We’ve created tools where importers can put their HTS numbers in and get the status of that number in China. We’ve educated our customers about retaliatory tariffs, and we’ve tried to centralize that data into one place. In the absence of being able to lower costs, at least we can be very accurate with that information.”
As talks continue regarding the new tranche of tariffs, brands will likely have to adapt even further to trading conditions that have, at times, been described as both “unprecedented” and “inevitable.” Looming always in the background is the possibility that they could simply be struck from the record, much like the potential tariffs that the Trump administration threatened Mexico with in order to make a deal on immigration.
However, it doesn’t seem like the China situation will be resolved as quickly, which means the strategizing over how to handle the potential threat continues. According to Iacopella, many brands have no way of maneuvering in the short term, leaving holiday sales at the end of the year vulnerable to tariffs without much recourse. In the opinion of Priest and the FDRA, this period of transition is more likely to lead to a new world order for trade, rather than a return to form.
“If someone makes a deal at dinner over the next couple of weeks and then all this goes away, we’ll all be super-duper relieved,” Priest concluded. “But [the situation] isn’t without its consequences, and I think it has forever changed the relationship.”
This piece originally appeared in the Trailblazers 2019 Footwear Report. Read the full coverage of how the industry is forging a new path toward sustainability, charting a course for a more diversified supply chain and taking steps to meet consumers’ comfort mandate here.