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Toy, apparel supply chains face a tipping point in March amid coronavirus spread

Factories that make products for some of the U.S.'s major retailers and consumer companies are reopening in the wake of the coronavirus.

But whether they return to normal operations in the first weeks of March or the following month could determine whether the virus is a limited or extended downside for those retailers and their suppliers.

Retailers including Walmart Inc. have already warned that the virus, which originated in the Hubei province of China and kept many factories and some ports closed beyond the normal Chinese New Year break in February, could hit earnings early in 2020. While many facilities are open again, few are firing on all cylinders thanks to continued travel restrictions, which continue to keep some workers from returning.

How long manufacturers and retailers have to wait before China's factory and logistics workforce returns in full will determine whether retailers have to find alternative sources for seasonal products, such as back-to-school apparel for children, said Jonathan Gold, vice president of supply chain and customs policy at the National Retail Federation.

"Folks are starting to see that factories are opening," he said in an interview. "The question is: 'How quickly are workers returning?'"

Apparel in peril?

Retailers rely on Chinese producers for a wide range of goods, Gold said. But product selections that change every few months are at particular risk of being delivered later.

Already, apparel selections for spring and early summer are set, for instance, but whether future shipments make it to shelves in time is unclear, analysts at Coresight Research wrote in a Feb. 19 note. China accounted for about 30% of seaborne apparel imports to the U.S., or $25.66 billion, in 2019, according to data from Panjiva, a division of S&P Global Market Intelligence.

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Coresight wrote that there is a 50% chance that production will return to full capacity by the beginning of March — a scenario under which companies would face few long-term effects.

The report assigned a slightly lower chance — 45% — to factories returning to normal operations by the end of March, which would delay shipments of some summer apparel items. Coresight gave a 5% likelihood to the worst-case scenario: Factories not returning to normal operations until mid-April.

"We expect the production of summer collections to be impacted if factories are not operating at full capacity by the end of March, with knock-on effects on the timelines of the back-to-school, fall and eventually winter collections," the report said.

Rising wages in China and President Donald Trump's trade war have led many consumer companies to look for manufacturing options outside of the country, Gold said. Still, he added, raw materials, such as textiles, remain difficult to source outside of China, meaning that even companies that have reduced their dependency on China for manufacturing by moving to other countries in the region could be held up by the virus.

Fast Retailing Co. Ltd.'s Uniqlo, for instance, has grown its manufacturing footprint in Vietnam, with one-fifth of its seaborne imports to the U.S. coming from the nation in 2019, up from 11.5% in 2016, according to Panjiva. China still accounted for over half of imports to the U.S. Other apparel names that rely on Vietnam for manufacturing include Under Armour Inc., adidas AG and PUMA SE, per Panjiva.

Fast Retailing said Feb. 28 that a majority of its partner facilities had reopened, but not all employees were back on the job.

Factories are not the only element companies need to keep an eye on. Coronavirus's spread has also kept port workers at home, leading to hangups for companies both buying from and selling to China. Tyson Foods Inc. CEO Noel White told analysts in early February that virus's spread was causing "disruption at the ports," making it difficult for the meat processor to get shipments to the People's Republic.

"It's making sure that you've got the transportation piece," Gold said.

Not playing around

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Middle- and small-scale toy producers are also at risk of delays if factories take longer to return to normal service.

China produced 84% of the toys imported to the U.S. in 2019, or $12.34 billion worth, according to Panjiva. The largest players, such as Mattel Inc., own at least some of their own factories in China, giving them direct control of manufacturing.

But smaller companies, such as Canada-based Spin Master Corp., rely on contract manufacturing, said Jaime Katz, an analyst with Morningstar. That means that toy companies with revenues of $2 billion or lower will have to compete with other manufacturers for capacity to get their production back into form. "Everybody else that's using these factories is also backlogged now," she said in an interview.

Disruptions due to coronavirus are "a lot more detrimental to the smaller players," she added.

Toy makers are also likely to suffer from port disruptions, Katz said, since alternative transport methods, namely air freight, are likely to eat into toy makers' profits. For manufacturers of higher-value or higher-margin products, such as furniture, importing by plane might make more sense.

Toy releases tied to specific movie or entertainment releases are even more at risk of disruptions, Katz said, since toy companies have to coordinate their arrival on store shelves with premiere dates for movies or television shows. "You want them shipping two to three weeks before you need them in the store," but right now, "you don't have the visibility to determine" when they will arrive, she said. Shipments for Easter could also take a hit, Katz said.

Mattel's China facilities reopened after a delay on Feb. 17, Executive Chairman and CEO Ynon Kreiz said at an industry conference on Feb. 21, but he cautioned that "overall employee return rates have been impacted by quarantines and transportation limitations."