by 25% Mexico tariffs alone could add $1.5 million to $2 million to company’s costs each month
DUBUQUE, Iowa — As expected, proposed tariffs were a topic of discussion during Flexsteel’s second-quarter conference call last week.
The message was resoundingly clear from President and CEO Derek Schmidt: The company has been through this before with tariffs imposed on China several years ago and is fully prepared to navigate any potential tariff turbulence once again.
“We knew prior to the inauguration that there was a risk around tariffs,” Schmidt said during the call. “And so the team has been working diligently to accelerate our planning around that, but we’ve identified potential sources of again, high-quality supply in a multitude of different countries.”
The issue is key to Flexsteel, where Mexico produces stationary and motion upholstery, representing some 40% of sales, compared with Vietnam, which represents about 50% of its sales, both in leather motion upholstery and case goods. Michael Ressler, chief financial officer and treasurer, estimated that the 25% tariffs on Mexico alone would add $1.5 million to $2 million in additional costs per month.
Ressler noted that this could be offset by initiatives ranging from vendor price negotiations to “relooking at cost structures to resourcing products to lower-cost manufacturing opportunities.”
And while Schmidt said that the biggest risk in the near term is proposed 25% tariffs on Mexico, he added that there is also a relatively large trade imbalance with Vietnam, which could put it in the cross hairs, too.
“As you know, there is a significant product that’s imported from Vietnam, across the industry,” he said. “So we continue to look for diversified suppliers outside Vietnam. We continue to develop products that can be dual sourced, made both in Mexico as well as Asia.”
This dynamic obviously will also impact others sourcing from Mexico and other parts of the world, placing the industry on what many have described as a level playing field. In his comments, Schmidt noted that even domestic manufacturers are impacted by tariffs as they import raw materials for their domestic product mix, ranging from fabric and leather to mechanisms and switches that originate outside the U.S.
But for public companies such as Flexsteel, the issue of tariffs perhaps has added a sense of urgency in that it ultimately affects both sales and the bottom line, not to mention stock prices.
Note that Flexsteel reported 8.4% sales growth during the quarter compared to the same quarter a year earlier, representing its fifth consecutive quarter of year-over-year sales growth. The company also remains profitable, with just over $9 million in net income representing $1.62 per share, compared with $3 million, or 57 cents per share, the same period last year.
For the full first half, sales were up 9.1% compared to the same period last year and net income totaled $13.2 million, or $2.38 per share, compared with $2.8 million, or 71 cents per share, the same period a year prior.
“Regarding profitability, the situation with tariffs is dynamic, as Derek noted, and we will assess the impact on profitability in the coming days and weeks as we gain additional clarity on whether or not the U.S. can reach a timely resolution with its North American trading partners to avoid a protracted trade war,” Ressler said.
Excluding tariffs, he noted, the company is expecting a gross margin between 21% and 22% in the third quarter, which compares to 21% for the second quarter, and 21.9% for the prior-year quarter, with sales growth more than offsetting “dilution from higher ocean freight costs and Mexico wage inflation,” two other cost pressures on the business.
But tariffs remain top of mind, now and over the next few weeks that negotiations continue between Mexico and the U.S. to address both drugs and illegal immigration.
“Given our sizable operations in Mexico, we anticipate that a potential tariff on Mexico imports will impact our profitability and free cash flow, but the current situation is dynamic and the profit impact is dependent on the ultimate magnitude and duration of such a tariff as well as subsequent changes in foreign exchange rates,” Ressler noted.
“Near term, tariffs are the most significant risk, and we’re working with multiple plans to mitigate that risk,” Schmidt added. “Since the pandemic, we’ve made significant strides in building supply chain agility and resilience to maneuver potential challenges like this, and those efforts continue.”
