More Minnesota companies are feeling tariffs' bite

Minnesota CEOs talked a lot with their investors about tariff costs after the release of last quarter's results. But they didn't have any great solutions — as there don't appear to be any.

The volleying in the trade war with China has ebbed and flowed, and lately hopes seemed to rise again of peace breaking out. But as of the end of last week, tariffs must be part of 2019 business planning. And it's not just a management headache for big multinationals.

"I would suspect at most companies you will find that … over half of their business is sourced outside of North America, and a meaningful piece of that half comes out of China," said Dan Florness, CEO of industrial products retailer Fastenal Co., when responding to an analyst on the company's quarterly conference call with investors last month.

Of course, not all companies have the same size of problem. St. Paul-based Ecolab managed to avoid tariff pain through its practice of making products locally in big markets, including China, a practice it began long ago to avoid foreign-exchange swings. CEO Doug Baker told an analyst on his last investor conference call that "we are somewhat fortunate in the tariff world, if anybody is."

3M Co. talked about tariffs, too, although its main response seems to be raising prices, meaning 3M customers get to pay the bill.

Tennant Co. has what might best be described as manageable problem, as discussed in its last quarterly conference call, although without any hint of an easy fix.

In last year's third quarter, the gross profit margin for Golden Valley-based Tennant was near 41 percent, and this year that had declined to 39.6 percent. Tariffs were a big part of the difference. As a result, the company brought down expectations for its gross profit margin for the full year.

"There is a lot of uncertainty, too, we want to make that really clear," Tennant CFO Tom Paulson said, in response to a question about tariffs.

In his opening remarks to analysts and investors, Fastenal's Florness walked them through how tariffs progressed from insignificant to a real problem by the end of September.

Paying for tariffs on what the company sells is only part of its management challenge, because it also needs to closely watch if sales volume slips in its home market as U.S. industrial customers with a tariff cost problem cut back their domestic production.

Based in Winona, Fastenal may still be best known as the go-to source for threaded fasteners like bolts, nuts and screws. But it has expanded to sell a lot of other products its customers use every day, from tools to safety glasses.

The first list of products subject to so-called Section 301 tariffs, named for part of a trade law, came out early this summer, followed shortly by a second list. To his investors, Florness described the effect on Fastenal from tariffs on these specified products as "pretty limited" and "relatively limited."

Then in September, a third list of products, about 200 single-spaced pages of them, appeared. It wasn't until deep into that document that you could begin see that staples, screws, bolts and so on were going to be subject to a 10 percent tariff now that jumps to 25 percent in January.

"It became effective Sept. 24," Florness said on his quarterly conference call. "So, starting a number of weeks ago, it's directly impacting the North American supply chain for our customers. We are an important component of that North American supply chain for our customers and the marketplace in general. Therefore, it has an impact on our business."

None of these Minnesota CEOs seems to have a tariff problem quite like Polaris Industries CEO Scott Wine's. He began his remarks on his last quarterly conference call by pointing out that he had just written an e-mail with the subject line "tariffs, tariffs, tariffs."

Analysts with RBC Capital Markets took that line and made it the headline of their subsequent research note on Polaris, as RBC suspects Medina-based Polaris could have a $100 million tariff cost burden next year.

Its problem is largely due to the structure of the company and its position in the market, doing final assembly for most of its products here, but with supply chains that extend back into China. And Polaris largely competes with international companies that build their products elsewhere, or if they do assemble in the United States it's largely with parts coming from Japanese suppliers.

Polaris buys its steel and aluminum largely from domestic suppliers so tariffs slapped on metals imports earlier weren't much of a factor, although Wine noted that suppliers saw these tariffs as a great opportunity to boost prices.

His real problem comes from the Section 301 products, the same ones Florness talked about. Polaris is responding by negotiating lower prices with suppliers, raising prices on its products where it can and pleading with public officials for relief.

"I'm not sure that most Americans understand that Polaris and other American companies are the ones who pay China tariffs," Wine told investors and analysts on his quarterly call. "But since we do, we are pushing back on our Chinese suppliers to cover a reasonable portion of these costs."

Polaris is also looking for American suppliers to share in the pain, although some of them must have tariff cost problems, too.

"We're just not going to do stupid things like go set up a new factory to transform something to avoid paying a tariff," Wine added.

Simply finding a different place to get tariff-free products made, an idea put to Florness by an analyst on the last call, drew a similar reaction. Just where should Fastenal look? Is there available manufacturing capacity? Are the products of the same quality? How much more would they cost?

In the fastener manufacturing business, he pointed out, "most of that had moved outside of North America, heck, before we even started in business back in the late '60s."