An outsize reliance on the Chinese market as a sales driver could prove costly in the short term to U.S. luxury goods and apparel companies as the coronavirus crisis unfolds, Moody’s Investor Services contends in a new report.
“As China races to contain the coronavirus [officially known as COVID-19], U.S. luxury retail and apparel companies are bracing for sales declines in China and the broader Asia region,” Moody’s said. “The outbreak is credit negative for globally oriented companies that have high revenue concentration in China. While we believe the hit to revenue will be temporary, the overall toll from the virus outbreak will depend on its duration, severity and overall geographic scale.”
The report noted that many luxury retail and apparel companies report regional revenue growth in Asia and China that significantly exceeds their overall revenue growth. That’s because many companies have increased their focus on China and other Asia-Pacific countries for revenue growth in recent years amid a sluggish U.S. retail market, “making them more vulnerable to volatility in the region,” Moody’s said.
Companies such as Under Armour and Fossil Group have grown dependent on international growth, particularly in Asia, to offset sales declines in their North American businesses, the report noted. For apparel manufacturers, international sales now make up some 48 percent of sales outside the U.S., compared to 35 percent in 2003, according to the report.
“U.S, companies have capitalized on the wave of growth that has been sweeping across emerging economies such as China, as middle-class consumers swell in number,” Moody’s said. “Given outsized growth opportunities, most multinational luxury and apparel companies have significantly increased their sales penetration in the Asia region, particularly China.”
At the same time, the global apparel supply chain is vulnerable if the outbreak is protracted, Moody’s said.’
“A worsening outbreak could materially disrupt the global apparel supply chain, which could hurt companies that are more reliant on China for sourcing, either directly or indirectly,” the report said. “Unlike sourcing centers along the East Coast of the country, the Hubei province is not a major apparel sourcing center. However, supply chain productivity in these regions could still take a hit if the outbreak intensifies or travel restrictions are prolonged, which would further delay workers from returning to work, causing delays in manufacturing or shipping of product.”
The report noted that over the past several years, apparel and footwear companies have been actively diversifying their supply chains, with the pace accelerating the past two years as the U.S. imposed higher tariffs on Chinese imports into the country.
“Although U.S. companies have reduced their reliance on China for manufacturing, the country remains the largest supplier of apparel and footwear products to the U.S.,” Moody’s said.
Moody’s cited G-III Apparel Group as having one of the largest concentrations of goods supplied from China–around 61.5 percent of its fiscal year 2019 inventory purchases came from China. The company has been actively reducing its exposure and expects it to fall below 50 percent by the end of fiscal year ended January 2020. Others with meaningful exposure to Chinese-made imports are Caleres Inc. at around 66 percent and J. Crew Group Inc. at about 54 percent.
As the outbreak worsened, several U.S. luxury and apparel companies have temporarily closed stores in China or reduced hours. Moody’s noted that many companies have already calculated potential costs and revised quarterly and annual revenue and earnings guidance down.
Moody’s cited Tiffany & Co., Nike Inc., Tapestry Inc. and Michael Kors (USA) Inc.’s parent, Capri Holdings Limited, as having the highest percentage sales exposures to China among U.S. luxury retail and apparel companies.
“Nike is one of the most exposed companies on a revenue percentage basis,” the report said.
Levi Strauss & Co. and Ralph Lauren Corporation are less concentrated in China, at around 3 percent and 4 percent of sales, respectively, Moody’s noted.
“However, the companies have a more material exposure to the broader Asia region, at around 16 percent and 17 percent of total sales, respectively,” the report said. “This means the companies are at risk if the outbreak materially impacts the broader Asia region.”