After nearly a decade, it’s time for another article about the cost of shoes. But unlike that 5,000-word behemoth of a post, we’ll keep it short here.
On April 3rd, the US Government announced sweeping changes to its tariff schedule. Tariffs, also called custom duties, are taxes that are charged by the importing country and added to the landed costs of goods. There are many reasons why a particular country applies tariffs, but that’s beyond the scope of this post.
These changes to the tariff schedule have far-reaching consequences for footwear brands and the consumers who buy from them. In an industry that survives on razor-thin margins, ever-changing trends, and a highly competitive marketplace, the new tariffs pose an existential threat to the business model.
For many decades, athletic footwear brands have outsourced production to Asian countries. Vietnam is now a major footwear sourcing hub, and so are Indonesia and China.
If the tariffs are implemented as planned, shoes made in Vietnam and Indonesia will attract duty rates of 46%1 and 32% respectively. This is on top of the existing tariff rates charged on imports. While Vietnam and Indonesia tariffs are temporarily paused under the 90-day reprieve, the 145% tariff on China is in effect.
Based on the currently available information, we ran numbers to assess the impact of the new tariffs on footwear prices, using Nike as an example. We will continue to make updates as new information becomes available.
We estimated the full impact of the tariffs in the following areas:
- 1. What retail price increase is needed to accommodate the tariffs?
- 2. What is the weighted increase in the footwear product cost?
- 3. What happens to Nike’s profitability if they do not increase their prices?
- 4. Will any sneaker brand be relatively immune to the new tariffs?
- 5. Are there any potential workarounds?
We chose to use Nike data because it’s the largest US-based footwear company and has plenty of available data. They also have a diversified sourcing base, so it’s interesting to see how different duty rates affect the cost on a weighted basis.
A $100 SNEAKER WOULD REQUIRE A $56 PRICE INCREASE
Based on Nike’s current gross margin and their sourcing spread, the price of a $100 sneakers would need to be increased to $156 to maintain the same gross margin and sourcing countries.
This estimate discounts any change in business strategy – like adjusting the distribution channel mix and payouts, product line reviews, sourcing modifications, or supplier renegotiations.
THE COST OF NIKE PRODUCTS WILL GO UP BY 56%
Before the new tariff announcement, the average import duty rate was between 20% -27.5%.2 The revised schedule includes much higher rates, so the increase is the difference between the old rate and the new rate.
To arrive at a weighted average, we considered the sourcing contribution of each country where Nike manufactures footwear. Nike’s 43.5% gross margin implies a product cost of $56.50 for every $100 of wholesale revenue.
Nike sources 50% of its products from Vietnam3, so half of the $56.50 cost is affected by the new 66% rate. After including the numbers for Indonesia and China, we estimate the weighted impact of the tariffs to be 56% once the 90-day pause is over.
Competing brands like ON running source 90% of their footwear from Vietnam, so the estimated cost increase is 45%.
Adidas’ reliance on Vietnam (as a footwear sourcing base) is lower than Nike, so the cost increase will be relatively lower.
WITHOUT PRICE INCREASES, NIKE’S GROSS MARGINS WILL DROP TO 29.7%
Here’s a hypothetical scenario. What happens to Nike’s gross margins if their shoe prices stay the same without a tariff or business strategy adjustment?
With a 56% cost increase, the $56.50 product cost per $100 of wholesale revenue will go up to $70.30. That’s a steep drop to a 29.7% gross margin from its current 43.5% level.4
The 56% increase in cost will only apply to the US portion of Nike business, which happens to be 44% of the total.
WHICH SNEAKER BRANDS WILL BE RELATIVELY IMMUNE TO THE INCREASED TARIFFS?
Coincidentally, two sustainable footwear brands – VEJA and Allbirds make the cut.
The sustainable sneaker brand VEJA is the clear winner of the tariff situation. Most of its sneakers are made in Brazil – a country with planned 10% tariffs. Only a small part of Veja’s sourcing – approximately 10% – is from Portugal (EU, 20% tariff).
Allbirds footwear is currently produced in Vietnam, but their apparel is made in Peru. If they were to increase their share of apparel revenue, it would offset part of the footwear margin decrease. And according to recent news, Allbirds is rapidly expanding its international distribution; a channel that is not exposed to US tariffs.
Allbirds is well positioned to leverage Brazil for footwear manufacturing. VEJA has demonstrated Brazil’s footwear manufacturing capabilities, which leverage sugarcane-based EVA foam, Amazonian and recycled rubber, and organic cotton to create eco-friendly and sustainable products.
According to Allbirds’ filing prospectus, they are already using Brazilian components with the help of their partner Braskem SA. Allbirds uppers use wool from New Zealand – a country with a 10% tariff rate. The brand’s factory-audit list indicates that some of their products rely on US-based sources.
Veja and Allbirds’ affluent customer base is also more resilient to price hikes. Based on the initial filing documents, 65% of Allbirds consumers made over $100K annually, and 32% of consumers have an income of over $200K.
On a smaller scale, New Balance’s Made-in-USA collection will not be subject to the new duties.
IF THE TARIFFS STAY, WHAT SHOULD SPORTSWEAR BRANDS DO?
There’s a good reason why modern athletic footwear is made in Asia. Brands get access to an integrated supply chain, low-cost labor, accessible seaports, and other support systems.
Brands like New Balance, which make some of their shoes in the USA, will feel less of an impact from the new tariffs, but only on the limited Made-in-USA products in their collection.
At the moment, these New Balance products are currently limited to the retro-inspired 99x Series made with basic materials and construction. This line of shoes is priced much higher than their Asia-sourced models to account for the additional costs to manufacture in the US.
If other brands were to follow New Balance’s lead and re-shore their manufacturing to the United States, their products would be comparable in style and retail pricing. For example, potential candidates would be sneakers like the Nike Cortez, Saucony Jazz, and the Brooks Adrenaline GTS 4.
For short-term relief, brands can consider prioritizing higher margin distribution channels, product categories (like apparel and accessories), and focusing on international distribution. Footwear brands can also edit their assortment to remove lower-margin shoe models.
In the medium term, brands can leverage countries with 10% tariffs (Turkey, Honduras, Guatemala, etc.) to expand their apparel sourcing bases. Such measures can partially offset the erosion on their footwear margins.
Another way to keep the retail prices low is to downgrade the level of tech used in their shoes. So instead of constructing a shoe with high-performance midsole foams, they can switch to a lower cost midsole material: injection-molded EVA foam. There’s a reason why Crocs and ON have such high gross margins – they make liberal use of EVA (Ethylene Vinyl Acetate) foam midsoles.
Sportswear brands could also use their existing tooling for longer to reduce the cost to make each pair. That means the current design refresh cycle, which is 1-2 years, would need to double to 3-4 years. Footwear factories would create new designs on existing midsoles and outsole tooling/molds to decrease capital expenditure.
In short, brands that operate in the US will have to treat this market differently than the rest of the world.
Shoe companies can also consider implementing component programs. Under this model, the finished uppers and soles would be made in Asia, but the final assembly (gluing the upper with the sole) would take place in a 10% tariff country like Brazil.
The success of this model depends on the tariff regulations (of the US and assembly country) and the presence of basic footwear manufacturing capabilities where the assembly is taking place.
Could 3D printing and automation reinvent the current supply chain to reduce the impact of the new tariffs? It’s unlikely. In its current state, 3D printing lacks the scale and cost advantage of conventional manufacturing. Presently, Stereolithography (SLA) is the preferred method for footwear manufacturing (eg, Adidas Futurecraft), but the resin-based material has several performance drawbacks versus molded foams.
To adidas’ credit, they temporarily established a US-based ‘speed factory’ for their 3D-printed shoes. However, they shut down these factories in 2020.
Sources:
– Harmonized tariff schedule, rate of duty on footwear valued over $12 a pair, sub-heading 6404.11.90
– China new 54% tariff rate, NBC news
3: Nike Fiscal 2024 10K report, page 6
4: Nike quarterly earnings report 8K, page 5