Here’s How Under Armour Can Be Impacted By The Proposed “Border Adjustment Tax”

by Trefis Team
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As the Trump administration takes charge, talks of “border adjusted tax” are now taking center stage. Part of the House GOP’s corporate tax reform plan, this change would lead to a 20% tax on goods sold in the U.S. but manufactured overseas which are imported into the country. While the reform plan also proposes the reduction of corporate taxes on profits from the current 35% to 20%, it clearly favors exports over imports. Retailers such as Under Armour (NYSE: UA), who manufacture a significant percentage of their products overseas and depend on the domestic market for sales, can be severely impacted by this proposed change in taxes. In 2015, Under Armour launched an initiative called “Project Glory” under which it is looking to manufacture products closer to the markets where they are sold. However, before this project was launched, 65% of its products were made in China, Jordan, Vietnam and Indonesia. While a shift to local production is in the cards, it might not be possible for the company to shift its entire production to the U.S. (where it sells nearly 85% of its goods)  to benefit from the proposed new tax policy. Given that a significant portion of its production happens outside the U.S., Under Armour is likely to be impacted negatively from the border adjustment tax, if it is enacted. Economists argue that the new tax policy would lead to a sharp rise in the value of the U.S. dollar – anywhere from 20-25%. These should lead to a decrease in the costs for retailers and they would not be impacted negatively from this policy. However, adjustment in the value of the dollar might be a long term process and affected by several other factors. An immediate impact of the new tax policy would be a significant increase in the post-tax value of goods imported from overseas manufacturing facilities, impacting the margins of these companies negatively.

According to our estimates, Under Armour’s apparel gross margin is likely to increase gradually from 47.3% in 2017 to nearly 48.7% by the end of our forecast period.

 

There can be a nearly 10% downside to our price estimate, if these margins fall to around 38% by the end of our forecast period, due to the higher costs of goods sold, given the new tax policy. A higher decline in these margins can lead to a further downside in our price estimate.

Under Armour is expanding internationally and Greater China has been a revenue driver for the company in 2016. The company can sell goods manufactured outside the U.S. in its international markets to save the import tax.  However, the U.S. still remains its primary market and it will have to import these goods to cater to its domestic customers.  For the September 2016 quarter, 15% of Under Armour’s sales were from the international market, up from 10% in the September 2015 quarter. Under Armour is heavily dependent on the domestic market for its revenues and a significant portion of its products are manufactured overseas. Given this mismatch, the new tax policy would indeed affect the company’s profitability adversely in the short term, if it comes to pass.

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