TheChek News Flow

The deadly outbreak is taking a toll on China's economy, which produces one-third of the world's apparel. Brands need to prepare for shipping and manufacturing delays.

NEW YORK, United States — When China’s government lifted a two-week mandatory holiday earlier this month, Lafayette 148’s factory in Shantou was one of countless businesses to rumble back to life.

But more than a week later, the facility, which makes upscale womenswear, has yet to return to full capacity as some workers are still travelling back to the city from their Lunar New Year holiday, which was extended because of the coronavirus outbreak. Even now, workers wear masks and get their temperatures taken every day, according to Chief Executive Deirdre Quinn. The upscale womenswear label expects its spring collection to hit stores about two weeks late, she said.

“We’re dealing with a little bit of a later delivery, but we’re fortunate because a lot of companies haven’t finished making spring,” Quinn said.

China has reported 73,000 confirmed cases of coronavirus, and nearly 2,000 deaths from the outbreak, which started in the city of Wuhan but has spread throughout the country and 25 other countries, according to the World Health Organisation. At least 150 million people are banned from travelling within China, and Chinese citizens face a growing number of restrictions on their movement abroad.

The outbreak’s economic impact is just beginning to be felt, with labels from Ralph Lauren to Burberry predicting a steep drop in sales. International brands and retailers have been less vocal about the prospect for a months-long disruption to the manufacturing side of the impact in the country that produces more than 30 percent of the world’s clothes, according to the World Trade Organisation.

Lafayette 148’s difficulty ramping up production is not unique; brands and their suppliers must factor the safety and health of their workers into their plans. Even when factories are operating, getting goods out of China is proving to be another hurdle, as container ships and air freight lines are operating at reduced capacity. Some retailers warn they could run out of stock, though predicting when, and which items, is difficult.

“At this point, a lot of companies are in the assessment stage, continuously working with their vendors overseas and also their transportation providers to figure out how long factories are staying closed,” said Jonathan Gold, vice president for supply chain and customs policy at the National Retail Federation, a US trade group.

There are steps retailers can take to keep their supply chains moving while the coronavirus runs its course. Below, BoF provides an action plan.

Ensure a daily dispatch from manufacturers and 3PL providers

The first step toward coming up with a contingency plan is to know what’s happening on the ground. Though most infections are in the Hubei province in central China, which remains on lockdown, cities across the country are implementing quarantine measures of their own. Absentee rates vary widely from workplace to workplace.

Brands, therefore, need to be in close contact with their suppliers. Knowing about production delays well in advance buys time to arrange faster shipment, minimising delivery delays to wholesale partners and customers.

“The worst-case scenario is when you have a black hole in communication and people are making decisions out of fear,” said Brian Bourke, vice president of marketing at Seko, a logistics company that works with retailers worldwide. “If you’re not getting daily updates, you need to really demand it.”

Know your freight options

Naked Cashmere, a direct-to-consumer knitwear brand, mainly relies on a Chinese factory in Hangzhou to produce its sweaters. Hangzhou has documented dozens of confirmed coronavirus cases, though it's far from the outbreak’s epicentre in Wuhan. The brand’s spring inventory is already en route to US warehouses, but fall production could be affected if work doesn’t return to normal in March and April.

The company is already preparing for that possibility, said Bruce Gifford, chief executive of Naked’s parent, 360 Sweater.

“It’s too early to tell if there are possible supply chain interruptions but we’re adding a little bit of extra production time,” he said.

If there is a delay, Gifford said, the plan is to ship more goods by air. Currently, 360 Sweater ships 60 percent of its freight across the Pacific on ships, a journey that takes about a month, and 40 percent by air, which takes two days.

Booking far in advance is advisable. Air service out of China is heavily limited by quarantine measures and travel restrictions. United Parcel Service has reduced flights to China, while commercial airlines, which carry freight along with passengers, have also cut back. Some air routes have seen rates soar up to 300 percent, Bourke said, and backlogs could quickly form as factories ramp up production.

“The first thing companies need to do is talk to transit companies, ask them what options they have,” Bourke said. “There’s not going to be enough ships and vessels in rotation yet, even when the freight is ready, so they need to understand when things will be ready so they can prebook.”

Expedited ocean shipping is another option, with some routes cutting the trip from Shanghai to Los Angeles to just 12 days. Shipments can also be routed to other ports in Asia or the Middle East and then sent by air the rest of the way.

Amp up customer service and be transparent

It’s crucial that customers and retail partners know when to expect delays. In a crisis, it’s much better to reach out to shoppers before the complaints come pouring in.

“You have to be super transparent and super specific about your recovery progress,” said Bourke. “Doing so can alleviate fears and questions that people may have.”

Instead of being reactive, companies can notify customers about the problems they’re facing and offer compensation if needed, such as a refund or a discount on future purchases.

If possible, shift production to other factories

After the US threatened to impose tariffs on Chinese-made clothing and accessories last year, many retailers stepped up efforts to explore manufacturing options outside of China, including Bangladesh and Vietnam.

The coronavirus is likely to accelerate those plans.

“Larger retailers might have more flexibility to move than smaller retailers, but depending on what kind of product they’re making, it might be time to look for alternate sourcing,” said Gold.

Lafayette 148 made the decision to stay put in China when the tariffs were first announced, but is now weighing the possibility of expanding its manufacturing.

“Down the road, we are looking to potentially diversify some of our manufacturing just for safety’s sake,” Quinn said.

Imports to the US from Vietnam and Cambodia, for instance, have seen an 11 percent increase in the last year, according to the US Commerce Department. To find new suppliers, brands can look for leads at networking events and trade shows, as well as reach out to peers for ideas. They could also consider local manufacturing, which is likely pricier but allows for more flexible lead times and agile inventory management decisions.

Forecast sales and adjust manufacturing plans accordingly

Retailers that rely on Chinese consumers are especially at risk. Lost sales from the coronavirus, compounded by the Hong Kong protests, means international brands stand to lose a substantial portion of revenue this year. To mitigate further losses, these companies must adjust their inventory accordingly to avoid excess products at the end of the season.

Lafayette 148, for instance, relies on China for 9 percent of sales and counts nine stores in the country. Two are open currently, though neither is posting any sales. As a result, the brand has halted production for any inventory that was planned to sell in China. Kering is also halting its operations in China, postponing new store openings and ad campaigns.

Ultimately, there’s little retailers can do other than monitor the situation and react accordingly. For Gifford at Naked Cashmere, it’s a matter of hoping for the best but preparing for the worst.

“The bigger risk isn’t supply chain, the bigger risk is to the overall world economy,” he said. “We could see overall demand in this sector go down, or we could see the coronavirus trigger the recession.”

Lafayette’s Quinn has one suggestion, and that is to take it easy:

“My advice is to just hang in there,” she said. “Remember that we’re talking about clothes, not people. And people are still dying every day from the virus.”

The channel, led by the beauty category, has been heavily reliant on the Chinese traveler for growth.

PARIS — The coronavirus is rattling the travel-retail industry — including its largest category, beauty — which has been heavily reliant on Asian consumers, especially from China, for growth.

The $79 billion travel-retail market, of which $31 billion was rung up by cosmetics and fragrance products in 2018, according to Generation Research’s latest statistics, could be hard hit as the Chinese travel less and tourist footfall drops around the globe.

Almost half of China’s population is reportedly facing travel restrictions, as the number of deaths worldwide from the virus exceeds 1,850 and the count of confirmed cases has reached more than 73,000 people.

Prior to the health crisis, passenger traffic was said to be increasing by about 6 percent annually, fueled by the rise of the Chinese middle class.

There were 22 million Chinese female frequent travelers who purchased prestige beauty in the travel-retail channel at least two-times a year, and 55 million who were traveling once a year and buying, according to Shiseido data.

In fact, the whole Asia-Pacific region helped drive travel retail’s strong 12.9 percent sales gain in 2018, with the channel’s revenues there jumping 23.3 percent to make up 49.2 percent of the overall business, Generation Research figures show.

Skin care, a key category for Asian consumers, generated about 45 percent of beauty’s total revenues in travel retail, up 35 percent year-on-year, Generation Research said.

But such numbers could fall fast.

“The travel setback caused by the coronavirus outbreak has now spread beyond China, with other parts of the Asia-Pacific region experiencing a 10.5 percent slowdown in outbound travel bookings for March and April, excluding trips to and from China and Hong Kong,” analytics company ForwardKeys said in a statement.

In that geographic zone, some key countries for beauty sales in 2018 aside from China and Hong Kong included South Korea, making $10.43 billion from skin care, makeup and fragrance; Thailand, generating $1.24 billion, and Japan, ringing up $1.12 billion, according to Generation Research.

In the first three weeks after the Chinese government placed travel restrictions on its denizens due to the coronavirus, outbound travel from China between Jan. 20 and Feb. 9 declined by 57.5 percent, with travel to the Americas worst affected in relative terms and to the Asia-Pacific region in absolute terms.

“Travel to Asia-Pacific, which receives 75 percent of the Chinese outbound market, was down by 58.3 percent; travel to Europe was down by 41.7 percent; travel to Africa and the Middle East was down by 51.6 percent, and travel to the Americas was down by 64.1 percent,” ForwardKeys said.

“The world’s largest and highest-spending outbound travel market, China, is in severe difficulty; cancellations are growing by the day, and the trend is now spreading to surrounding countries,” Olivier Ponti, vice president of insights at ForwardKeys, said in the statement. “On the brighter side, we are not seeing a slowdown in travel outside the Asia-Pacific region. So this is a moment to fill the void by studying alternative origin markets and focusing promotional efforts on them.”

Ponti added that “in a disease outbreak like this, travel trends can change quickly, and different markets are likely to respond differently.”

Travel-retail operators and beauty manufacturers are closely monitoring how the crisis evolves, but those more reliant on Asian travelers’ business will suffer the most.

“It’s too early to assess precisely the impact and evaluate short- and mid-term consequences on our business as things are evolving by the day,” said airport operator Lagardère Travel Retail in a statement.

“Our three business lines and geographically diversified strategy makes us less dependent on China-related sales — less than 10 percent of sales, including in airports outside of China — and the impact will depend on whether the situation aggravates and continues over a longer time,” the operator said.

“Naturally, anything that influences passenger movements has a commercial impact,” said airport operator Gebr. Heinemann in a statement. “The effects of the coronavirus are not yet foreseeable at present. We are broad-based and thus able to counterbalance and compensate for fluctuations in certain regions or of specific passenger groups.”

Beautymakers’ travel-retail business had been developing at a rapid clip. For such companies, the channel’s importance extends far beyond sales — which can often equate to high-single-digit percentages of a group’s overall revenues — since travel retail educates consumers, therefore making it a key brand-equity builder.

At the world’s largest beauty company, L’Oréal, sales in the channel last year registered growth of 25.3 percent on a like-for-like basis. By the second half of 2019, the group’s travel-retail business had become so large that if it were considered a country sales-wise it would have constituted L’Oréal’s third largest, after the U.S. and China.

“Travel retail represents something like 9 percent globally of our sales worldwide,” said Jean-Paul Agon, L’Oréal chairman and chief executive officer, during a conference with financial analysts and journalists held earlier in February.

At the meeting, while talking about the coronavirus, he said: “This context will have a temporary impact on the beauty market in the region and therefore, obviously, on our business in China and travel retail Asia, even if it’s too early to assess it.

“The experiences that we have had in similar situations in the past, [with] SARS, MERS, etcetera, showed that after a period of disturbance, consumption resumes stronger than before,” Agon continued.

For its part, the Estée Lauder Cos. Inc. around the same time sharply lowered its guidance for the second half of this fiscal year, due to the epidemic.

“Global travel retail, localities most effected by the virus outbreak and destination markets favored by tourists are expected to experience the greatest negative impact in the coming months followed by a gradual recovery later in the fiscal year,” the company said at the time.

History has proven the travel-retail industry’s remarkable buoyancy.

Although the channel is on the front line to be buffeted by any world crisis — be it health-, terror-, geopolitical- or monetary-related — travel retail has successfully weathered many disasters over the past two decades. These include the attacks of Sept. 11, SARS, a global economic recession and a sovereign debt crisis. In general, if sales gains weren’t maintained it has taken just up to a year for the channel to grow again after each event, Generation Research data demonstrates.

In 2001, the year of the SARS outbreak, for instance, travel retail registered sales of $22.8 billion, versus $20 billion in 2002 — so the epidemic had no negative financial impact. In 2008, the year of the global economic recession, the channel’s sales came in at $41 billion, followed by $38.2 billion in 2009, when Lehman Brothers crashed, and $43.2 billion in 2010, the year of the global debt expansion, according to Generation Research.

“Asia-Pacific is unquestionably resilient and resourceful, and there is a proven analysis of the bounce-back from previous crises, such as SARS or the 2008-09 global financial crash,” according to a joint statement from the Tax Free World Association and the Asia-Pacific Travel Retail Association.

“There are underlying long-term positives, with IATA [or International Air Transport Association] reporting an influx of 450 million additional Chinese air passengers over the last 10 years and analysis that China will become the largest aviation market within the next five years, with long-term growth projected to deliver 1 billion new passengers by 2037, to 1.6 billion,” the associations continued.

“When Chinese tourists start traveling again at full pace, which they will do, we should expect a return to commercial growth with the same vigor and energy we’ve seen when faced with other headwinds,” TFWA and APTRA maintained. “We are, after all, a region that thrives on fast change.”

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Macro :

- Hong Kong Is Heading for First Back-to-Back Recessions on Record

- Chinese Companies Say They Can’t Afford to Pay Workers Now

- Some of China’s Top Suppliers Are Readying for a Virus Rebound

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- ALFEN NA : Alfen FY19 Rev. Up 41% to EU143.2m; Sees 2020 Rev. EU180m-EU200m

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- HLAG GY : Hapag-Lloyd Prelim Full Year Revenue Meets Estimates

- B4B GY : Sistema Unit to Provide Financing in Amount of up to EU263M

- MONY LN : Moneysupermarket.com Looking for Successor for CEO Lewis: Sky

- NEOEN FP : Neoen Full Year Revenue Misses Lowest Estimate

- OR FP : Coty’s Professional Beauty Unit Is Said to Draw Buyout Interest

- ALPIX FP : Pixium Vision: Issue of EU1.25M New Tranche From Esgo Agreement

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- SANION SS : Saniona CFO Thomas Feldthus Will Leave the Company

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- SUN SW : Sulzer Sees 2020 Adj. Ebita Margin ~10.2%-10.5% vs. 10% in 2019, Order Volume Hit by Coronavirus to Recover Later in Year

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- O2D GY : Telefonica Deutschland FY Adj. Oibda Beats Est.

- UBI IM : Intesa-UBI Must Not Have Impact on Jobs, Patuanelli Says: Ansa

- UBSG SW : UBS Hires $6 Billion Wealth Management Team From Goldman Sachs

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- VOZ LN : Gamma Communications Offers to Buy Voztelecom

Pyxus International, with almost $1 billion in near-term debt, is facing a cash crunch. Efforts to move into vaping and cannabis have hit roadblocks.

Pyxus International Inc., one of the world’s largest suppliers of tobacco, is facing mounting financial pressure from a decline in its core business and setbacks in its efforts to diversify into cannabis and vaping fluids.

The North Carolina-based company, which changed its name from Alliance One International in 2018, is facing a cash crunch as losses mount and roughly $1 billion in debt maturities loom. The company’s financial problems highlight declining global tobacco consumption coupled with both regulatory uncertainty and heightened competition in the emerging recreational marijuana and vaping sectors.

Pyxus’s big problem is that its core business—buying tobacco directly from farmers and then reselling it to major cigarette makers such as Philip Morris —is in decline. Global tobacco use has fallen over the past two decades, according to the World Health Organization. Altria Group Inc., which owns Philip Morris USA Inc., said last month that global cigarette industry volumes have contracted by 4% to 5.5% annually for the last several years. U.S. volumes are forecast to decline by 4% to 6% in 2020.

The numbers are stark. For its most recent quarter Pyxus’s revenue declined 31% to $363 million and the company lost $22 million. Pyxus has roughly $900 million of bonds maturing in the next year and its $635 million in second-lien bonds are trading at 48 cents on the dollar, according to MarketAxess. The deeply distressed price levels for its debt indicate concerns the company won’t be able to refinance its debt. The company has $396 million of available credit lines and cash on its balance sheet, down by 25% from the $528 million a year ago.

Pieter Sikkel, Pyxus’s chief executive, believes the tobacco company is making headway in its bid to become a diversified agricultural technology and consumer products goods company.

“We’re excited by the progress we’ve made across categories and by the growth potential on the horizon,” he said. “We have benefited from the progress of our diversification strategy, innovation efforts, and global presence.”

Pyxus, which traces its roots to a tobacco trading business founded in Virginia in 1873, has attempted to diversify by acquiring stakes in companies that deal in legal cannabis, CBD, industrial hemp, and e-liquids for vaping. However, the diversification bid hasn’t yet paid off.

“They’re not successful at their core tobacco business so they try to pivot into the cannabis space,” said Alan Brochstein, founder of 420Investor.com. “Pyxus seems to be going at it from a position of weakness.”

The Pyxus segment that contains its cannabis and e-liquids businesses saw its revenue decline by 24.5% year-over-year for the most recent quarter. The company pointed to a slower-than-expected rollout of legal cannabis retail availability in Canada, as well as a decrease in vaping e-liquids sales due to an industry downturn driven by health and regulatory concerns after a series of vaping deaths.

The combination of setbacks in the cannabis sector, delayed shipments due to a drought in Africa, and the impact of the trade wars has created a “perfect storm” for the company as its debt maturities approach next year, said Mary Ross Gilbert, a managing director at investment bank Imperial Capital LLC.

“And now we have the coronavirus. That’s the cherry on top of this perfect storm,” Mrs. Gilbert said.

Mr. Sikkel blamed the declining financial performance on poor shipment timing, delayed processing in Africa, and the impact of trade disputes and foreign tariffs.

U.S. tobacco sales to China have fallen dramatically during the two-year trade war, leaving many farmers hoping that the recently signed Phase 1 deal with Beijing will provide them with relief.

“While we are pleased that tobacco is included on the list of agricultural products in Phase 1 of the U.S.-China trade agreement, additional steps are needed to restart leaf exports from the United States to China,” Mr. Sikkel said, adding that the company is closely monitoring the coronavirus.

As for the company’s mixed results on cannabis and vaping e-liquids, Mr. Sikkel likened the company’s diversification efforts to growing pains associated with a startup business.

“Our newer initiatives are in the process of being scaled to their full potential—we think of them as being in ‘startup mode’—and are evolving quickly across these nascent industries,” Mr. Sikkel told The Wall Street Journal.

In a nod to the looming debt maturities, Mr. Sikkel recently said Pyxus is evaluating a “potential partial monetization of interests” in the company’s cannabis and e-liquids segment. Mr. Sikkel declined to elaborate.

However, Pyxus’s prospects for obtaining an attractive price for its assets could be hindered by the recent collapse in cannabis company valuations, analysts said. Publicly listed cannabis companies such as Canopy Growth Corp., Tilray Inc., and Cronos Group Inc. have all seen their stock prices decline over the past six months, because of oversupply and weaker-than-expected demand.

California trial centres around how Silicon Valley company valued intellectual property

American tax authorities have accused Facebook of deliberately “downplaying” the value of its assets as part of a scheme to pay less US tax, in a court case that could cost the social media company more than $9bn.

The trial at San Francisco’s tax court centres on how the Silicon Valley company valued intellectual property such as software and trademarks transferred to an Irish subsidiary in 2010. 

The Internal Revenue Service claimed that Facebook made “attempts to downplay the value [of these intangible assets] for transfer pricing purposes”. This refers to the internal transactions carried out by multinational companies to book more of their revenue and profits in low-tax regimes.

Ireland’s headline corporate tax rate is 12.5 per cent, compared with the 35 per cent federal tax rate in the US at the time. Facebook has not disclosed the tax rate that it actually paid on its Irish business a decade ago. 

In 2010, Facebook valued the assets in question at $6.5bn, but the IRS believes their true worth was $21bn. Facebook estimated in its most recent 10k financial filing that, were the IRS to win the case, it would have to pay an extra $9bn in federal taxes plus interest and any penalties. 

Facebook has denied the allegations. It has argued the valuation of the assets was because at the time it was battling to sell advertising internationally and build its mobile business. “Success was not guaranteed,” the company said. 

In its opening statement to the court on Tuesday, the IRS claimed that 2010 was a year of “unbridled growth” for Facebook, which had “internationalised and globalised” and shifted from an experimental advertising platform to an established business. Facebook also issued a “lower set of projections” than was realistic given the business’s future prospects, the IRS said. 

Mike Schroepfer, Facebook’s chief technology officer, in court described the company’s growth in 2010 as “messy”, adding that it only had “basic” infrastructure and a small team developing its mobile app.

The company argued that the Dublin headquarters received investment, developed its own technology and took risks in 2010, making the case it was fair to book some profits there. 

The case, which Facebook expects to last over a month, is the latest to cast a spotlight on so-called transfer pricing, which has come under increasing scrutiny from global tax authorities. In late 2019, EU judges struck down a European Commission order for Starbucks to pay €30m in back taxes to the Netherlands in a transfer pricing case, but found that carmaker Fiat Chrysler should pay a similar amount in back taxes to Luxembourg.

Baker McKenzie, the law firm, found in a 2018 study that transfer pricing was the most common source of tax disputes among the large multinationals it polled. Many have resulted in “negotiated settlements” — agreements drawn up with tax authorities out of court.

The Facebook case begins two days after the company’s founder and chief executive Mark Zuckerberg wrote in the Financial Times that he supported recent efforts by the Organisation for Economic Cooperation and Development “to create fair global tax rules for the internet”.

Neither Mr Zuckerberg nor chief operating officer Sheryl Sandberg are due to testify in the IRS case.