Stifel Sees Supply Chain Disruption Through Summer

Stifel Financial SF expects disruption from the coronavirus to "persist into July, and possibly even longer," said the company in a Monday morning note to clients recapping a conference call it held Sunday on supply chain implications related to the outbreak.

Equity research teams covering transportation and sports and lifestyle brands teamed up with industry executives in apparel and logistics to host the call. Stifel Financial provided its insights and the highlights from the call in the report.

The report said shippers and service providers "should expect higher costs and further delays" throughout the transportation industry.

"As the initial disruption associated with Chinese production shutdowns clears, the future is even less certain: there are a wide range of outcomes depending upon how the U.S. demand picture develops. For now, shippers are well-advised to remain flexible and creative, and to seek out knowledgeable supply chain partners with scale and capacity relationships."

The conference call focused on supply chain disruptions, shortages of materials and textiles, spikes in freight costs, increased wait times on packed shipping lanes, and the expectation for increased use of air freight as manufacturers reposition inventory quickly.

One industry executive said that production capacity in China is running between 50% and 90% depending on the industry and region, but is improving overall. Most production materials were staged ahead of the Chinese New Year holiday for first-quarter production, but the outbreak created an approximately three-week delay before manufacturing activity resumed. Factoring in logistical bottlenecks and raw materials shortages, the impact of the delays is likely to be three to 12 weeks.

The executive said trucking congestion has improved, but activity around the ports "will take months to resolve." Further, a shortage of available trucks is limiting the effectiveness of warehouses and distribution centers. The consensus was that productivity is in the 60%-70% range, but issues with materials and component suppliers will persist.

Further, he stated that manufacturing output in Southeast Asia regions like Vietnam and Cambodia was being negatively impacted as these facilities are typically owned and managed by China, Hong Kong and Taiwan. Quarantines and travel bans have kept middle and line managers away, resulting in "very low output." However, he noted that these facilities are starting to get to full productivity.

Asked about the "best guess" for when China returns to normal, he said it would likely happen in the second quarter.

While most of the world is focused on the near term, with supply chain managers scrambling to restock shelves of key essentials, perishables, cleaning supplies and other items, the outlook for finished goods could become a problem down the road. Tier II factories responsible for the production of items like clothing and footwear source materials from China are said to be "several weeks behind schedule."

In China, first-quarter retail inventory was delivered at the end of 2019 and prior to the holiday. With widespread store closures, there is a backlog of seasonal inventory. However, the executive cautioned that product shortages and higher costs will impact many apparel brands in the second and third quarters of 2020.

On the airfreight front, Stifel Financial said there has been a rush to the premium priced mode — as much as three to five times more expensive than ocean — to recoup some of the lost time from the production outages and delays. Another executive said intra-Asia airfreight rates are running three to four times higher than normal, and he believes that trans-Pacific rates could be "more severe" as passenger air travel, which carries "around 55% of cargo in lower-deck belly space," has been curbed. He also called out a one-day 25% jump in rate on the trade lane during the recent week.

Air Cargo Index Price (Shanghai to North America) – SONAR: AIRLOC.PVGNOA

The firm's equity analysts advise shippers to be flexible moving inventory and working with partners that can secure capacity as the tight market may last "through summer or even longer." Further, the report noted that the recovery is likely to take longer outside of China than it has for China itself. The rationale is that China has the ability to close cities and portions of their economy, limiting the spread of the outbreak, faster than the rest of the world.

The commentary on the call warned of the potential for many small businesses to fail globally, specifically suggesting that the highly fragmented freight-forwarding industry as well as other logistics segments may see operators go out of business. The outbreak is also expected to increase consolidation throughout the industry.

There are likely to be some winners. The firm believes those may include air charter and e-commerce as the trend of social distancing increases.

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