Electronics executives and industry experts are all over the map regarding the impact of U.S. and China tariffs on component supplies, OCMs, distributors and their customers. One thing is crystal clear – tariffs, or “taxes,” in one form or another are going to be passed on to buyers.
Research and investment firm Morgan Stanley projects that tariffs could push the electronics supply chain's risk level into the red. “Tariff-related uncertainty could represent the demand shock that leads to an inventory unwind in the semiconductor supply chain,” according to the firm’s Disti Survey 2Q18: Tariffs Could Turn Yellow Flag to Red. "Even the slightest whiff [of softening demand] could lead to a significant decline in stocks.”
Electronics customers are still ordering more components than they need, Morgan Stanley found, but the percentage of distributors reporting double ordering declined from 46 percent in the first quarter (Q1) to 40 percent in the second quarter (Q2). If demand suddenly declines, the industry could quickly move from shortages to oversupply.
Arrow Electronics Inc., the world’s largest electronics distributor, will not be directly impacted by tariffs, president and CEO Michael Long told analysts during Arrow’s Q2 conference call. Only 1 percent of Arrow’s business has tariff-related exposure. For customers, the impact is less clear.
“There's a number of suppliers that are taking care of the tax themselves,” said Long. “There's a few suppliers that are not. So, where they don't, we'll pass that on. It's not our job to make suppliers that don't want to pick up their sales tax to make them more competitive for the ones that do. So that will sort of keep that balance.”
Hybrid distributor America II Electronics is reserving the right to retroactively adjust its prices in respect to tariffs. “However, we are mindful of the impact these new tariffs will have on the industry and our valued customers and we will work diligently to mitigate their impact as much as possible,” the company said in a release.
The big picture
In the midst of the earnings season, electronics companies are focusing on how tariffs are affecting their businesses. But consultancies and organizations such as the Institute for Supply Management (ISM), A.T. Kearney and Travelers are concerned about the long-term implications, particularly as it pertains to the U.S. manufacturing base.
“On the tariff situation, we are still in in the early days, but we have already had an announcement from BMW and they are starting to shift more manufacturing to China to avoid tariffs,” said Johan Gott, principal at A.T. Kearney. “It’s not just U.S. companies that are shifting—it’s foreign companies as well.”
BMW has several manufacturing facilities in the U.S., but, like many automakers, imports materials and subassemblies from China.
The ISM has heard similar sentiments from its members for months. “We export to more than 100 countries,” a purchasing executive told the ISM in June. “We are preparing to shift some customer responsibilities among manufacturing plants and business units due to trade issues (for example, we’ll shift production for China market from the U.S. to our Canadian plant to avoid higher tariffs). Within our company, there is a sense of uncertainty due to potential trade wars.”
“Global demand is still strong; [we are] working on contingency plans for the Chinese tariffs,” an electronics executive said in July.
A greater concern, said Tim Fiore, chair for the ISM’s manufacturing business survey committee, is a freeze on capital expenditure plans. In May, ISM’s manufacturing members anticipated a 10 percent increase in capex for 2018.
“The uncertainty of U.S. tariffs and the Canada/Mexico/E.U. retaliatory tariffs continues to cloud strategic planning efforts,” an executive told the ISM. “Contingency planning [for tariffs] is consuming large amounts of manpower that could be used for more productive projects. The tariffs are improving margins in our raw material businesses; however, our businesses which are further up the supply chain are seeing significant inflation.”
“Businesses need a planning horizon,” said Fiore, “but here we are with tariffs and manufacturers are frozen or making short-term non-value-added investment decisions. What it gets down to is [which country] will blink first.”
Even prior to the tariffs, electronics component manufacturers were conservative on expanding capacity. However, the electronics manufacturing industry is in its second year of allocation, shortages and 6-month lead times. Some industry-watchers believe tariffs will disrupt the supply-demand picture further.
How to Manage Tariffs Now
Experts from A.T. Kearney and Travelers believe businesses can start managing for tariffs now. Travelers uses its Supply Chain Pressure Test to gauge risk factors. Travelers found that four out of 10 manufacturers say at least 25 percent of their suppliers are located internationally, and more than one-third say at least 25 percent of their customers/sales are international.
“A large part of managing any supply chain is checking regularly with your suppliers,” said Erika Melander, manufacturing industry lead at Travelers. “As your supply chain and your industry evolve, there will be changes. Getting ahead of those could be a competitive advantage in the long-term.”
- Have a plan
“We encourage our clients to have a plan, and we have resources to help figure out relative costs of potential damage or disruption,” Melander said. “Flooding is one example of an unexpected disruption that is out of a business’ control. The idea is to control what you can and plan for what you can’t.”
- Understand your risks
“We built the Supply Chain Pressure Test for our customers,” said Melander. “There are a lot of risk factors that can be visible at different areas of your supply chain. We encourage our agents to sit down with clients, so they understand where the pressure points might be.”
- Consider tools
Insurance is one tool to consider as part of contingency planning. “There can be coverage for business interruption; or if you lose a customer for lack of delivery; or for direct physical damage to your property,” said Melander. “We can fill in the gaps and help determine the things that are most important in maintaining your business.”
The Travelers Supply Chain Pressure Test aggregates data from a wide range of manufacturer and partners. “We’ve been serving the manufacturing market for a long time, so we have considerable market share in that industry,” said Melander. “The test helps direct people toward things they should be thinking about on a regular basis. Businesses may not think every day about the impact on their plants if there’s a downstream disruption, or the failure to fulfill a customer’s order. The pressure test is intended to identify pressure points along your supply chain and provides some benchmarking against other companies your size.”
Melander reiterates the importance of regular communication with suppliers and customers. If businesses have a few key suppliers, keep in touch with them. Social media can be used to keep in touch with customers. “The most important thing is that everyone is aware of a contingency plan,” she added. “No one can even anticipate the result of a disruption if they don’t have a plan to deal with it.”
A.T. Kearney https://www.atkearney.com/ said four actions can help businesses develop trade-related strategies:
- Understand the potential scenarios. Have a deep understanding of the trade-policy landscape, its stakeholders, the potential actions, timelines, and likely outcomes.
- Take stock of the company’s exposure. Assess the level of exposure to various outcomes, identifying key risk areas within the organization, at both a country level and a product family/sourcing category level.
- Develop contingency plans. Build robust responses to any scenario by wargaming through various outcomes and developing options that mitigate risk, guide strategy, and capture emerging opportunities.
- Create a monitoring system. Develop a system to track developments and monitor signposts that indicate which outcomes are becoming likely and when contingency plans should be enacted.
Could tariffs work?
In the days prior to the March imposition of steel and aluminum tariffs, many economists took the long view: tariffs were being used to bring China and other countries to the negotiating table. China is an unrepentant hijacker of U.S. intellectual property and the trade deficit with China has been building for years. However, negotiations have not happened—China announced a new round of tariffs on U.S. imports on August 3.
A.T. Kearney has seen some movement on the deficit in recent months. “It’s been interesting—in the last two months the trade deficit has definitely been narrowing,” said Goff. “But when you look at the year to date, [the deficit] has actually increased. We have $50 billion worth of tariffs [as of July] and more coming online. That’s quite significant. [We] are curious about how the dynamic will play out. We are already seeing capex plans being reviewed.”
The U.S. imported $751 billion worth of goods from offshore trading partners in 2017, A.T. Kearney said. Of that, China remains the dominant partner with $494 billion of imported manufactured goods.
In negotiations with both China and U.S. NAFTA partners, the U.S. has introduced demands to reduce the trade imbalance, A.T. Kearney reported. “However, it is unclear how that will happen. One option is that the U.S. will be able to strike a grand bargain with trade partners along the lines of Japan’s voluntary import restrictions negotiated by the Reagan administration in the 1980s. That led to massive investments from Japanese auto companies to build production capacity in the United States.”
If the government is unable to compel its trade partners, the consultancy added, a much more interventionist policy with tariffs on a broader range of countries and products can be conceived. “That would come at a high cost. U.S. consumers would see the tariffs reflected in the prices of the products they buy, and producers could see foreign trade partners retaliate on American products.”
The industry’s reaction so far
Trade group Electronic Components Industry Association (ECIA) has warned members that “tariffs will flow through the supply chain to the end customer.” ECIA conducted a small survey of its distributor and manufacturer members in June and July. “The tariffs are likely to have significant and varying impacts on U.S. companies and the authorized electronic component supply chain. There is also a high degree of uncertainty about implementation of the tariffs and how importers will handle the new tax,” ECIA stated.
Hybrid distributor America II has been sifting through the regulations to assist its customers. “Any components covered by the tariffs, where China is the country of origin and specifically imported into the U.S., will incur a 25 percent tariff increase,” America II said in a release. Currently, the tariff tax will only affect parts that are identified by 818 HTS product codes and are imported into the U.S. where China is the country of origin.
Parts that have a country of origin in Taiwan, Hong Kong or anywhere other than China, will not have a Section 301 tariff placed upon them, America II added. But regardless of where the affected part is shipping from, if the country of origin is China, a tariff will be imposed upon arrival into the U.S.
America II will update pricing to reflect tariff costs on all affected part numbers, it said. The increase affects all current and future shipments received into the U.S., including backlog. “Determining the country of origin at the time of order may not always be achievable during order placement as suppliers often manufacture components in various countries,” America II added. “It also may not be known if a shipment arriving into the U.S. will specifically include components manufactured in China. When it is applicable, America II will assist our partners as we work to determine if manufacturers have alternate countries of origin available.”
Component makers are employing several tariff-related strategies, Arrow’s Long told analysts. “There are moves by some suppliers and by us to reroute supply chains to make it even more favorable, and that's why we say the impact right now is minimal based off the information we have,” he said. “I can't speculate on where it's going. I'm not overly concerned today.”
Electronics manufacturers to date have taken a wait-and-see attitude, Long told analysts. “Right now, we're not seeing a slowness in demand. We're not seeing an increase of people bringing their business in and, frankly, manufacturers are all over the world today.”
At the same time, the industry is not supportive of tariffs. “It's pretty ludicrous to start playing this game, which it is just a game and I think we should all figure that out,” Long added. “I think it's a matter of quarters for this thing to get solved. None of us like tariffs. None of these businesses like tariffs.”
In a series of meetings, Long told U.S. Senators that tariffs hurt American businesses. “They're not doing anything to the Chinese right now. So that's the only message I want to get across. I think they're crazy.”