By William J. Holstein
America’s chief executive officers have spent decades riding the China dragon. A U.S. shopper has to merely step into a Dollar General or a Wal-Mart—or an Apple store or Tesla dealership–to understand the staggering range of products made in China. But now that a re-elected President Trump is threatening to impose more steep tariffs on goods made in China, the relationship could be headed for a crucial test. The government of President Xi Jinping will almost certainly seek to retaliate in some way. CEOs who wish to avoid surprising shareholders and their boards of directors must act quickly to compile a complete picture of their risks.
Many American and other foreign companies operating in China depend on a well-established network of Chinese parts suppliers. Others that manufacture in their home countries are still reliant on Chinese suppliers for certain pharmaceutical components or rare earths of the sort used in everything from consumer electronics to satellites. Companies in the solar power, battery and electric vehicle industries are particularly vulnerable.
Sensing impending problems in the U.S.-China relationship, some CEOs have declined to invest fresh dollars into their China operations or else shifted assembly of some products to “friendly shores,” such as Vietnam, India and Mexico. But that may still leave them vulnerable to disruptions in the flow of Chinese-made parts and components to those newer factories. And their legacy footprint in China is still enormous. One fashion shoemaker, Steve Madden, has publicly disclosed that it has been working for years to shift production to friendly shores—but a full 70 percent of its production remains in China.
President Xi’s Communist Party, which controls all state-owned enterprises and companies that were previously considered “private,” has many levers at its disposal. CEOs of smaller and medium-sized U.S. companies that have built their business model exclusively on Chinese suppliers already are trying to come to grips with what happens after Inauguration Day. They may have to order and take delivery of 2025 year-end holiday goods before Trump is able to act.
Top managements of major American companies face more complex challenges. CEOs have traditionally deferred to their regional business teams in Greater China to manage specific business issues on the ground. As long as the profits kept flowing, CEOs back home did not press for too many details, such as which members of their senior management teams in China are members of the Communist Party or what municipal and provincial government relationships are most sensitive. Their boards of directors typically knew even less.
But now as potential disruptions loom, CEOs with more than, say, 10 percent of their sales in China could experience sharp declines in their overall profitability either as a result of something Beijing does directly or indirectly such as generating negative coverage in China’s state-owned media or giving quiet assistance to lower-cost Chinese competitors. German luxury automakers, for example, are reeling because they relied too heavily on their Chinese sales. Now they see sales declining both in China and Germany as low-cost Chinese electric vehicles makers challenge them.
If American companies miss their earnings forecasts because of unforeseen China risks, directors could be surprised and demand answers. Shareholders would be tempted to resort to class action lawsuits, alleging that CEOs did not properly inform them of risks that are “material,” which is the term the Securities and Exchange Commission uses to discuss the risks that managements must publicly disclose. These nightmare scenarios also could reduce a CEO’s personal compensation–or even cost him or her the job.
What makes it so difficult to fully understand the complete picture is that risk comes in many different flavors. Aside from sales surprises, if an American company has a joint venture with a Chinese state-owned entity or a previously private Chinese enterprise, they are open to intensified pressures from the party to serve Chinese interests, not to maximize profits. They could face surprise police raids seeking sensitive financial or technological information. They could face accelerating pressures to transfer technology to their Chinese partners or else mounting competition from Chinese entities assisted by Beijing. Americans or other nationalities working in China could face “exit bans,” preventing them from leaving the country until certain conditions are met.
One tool that has been recently created to help CEOs understand their China risks is the Strategy Risks 250, a list of 250 predominantly American companies created by the Chinese market consulting firm, Strategy Risks. By Strategy Risks’ calculation, the American company with the greatest risk exposure is Ford Motor, which is engaged in seven joint ventures with a variety of Chinese automakers. The second most exposed is Carrier Global, the former air conditioning subsidiary of United Technologies. Third is Apple, which manufacturers the vast majority of its iPhones in China, followed by No. 4, which is Tesla. It also is heavily dependent on its manufacturing base and access to technology in China. No. 5 is Coca-Cola, which has spent decades building a massive presence. Other companies making the Top 10 list are engine manufacturer Cummins, RTX (parent of defense contractor Raytheon Technologies), Honeywell, Walt Disney and Caterpillar.
Whatever analytical tools CEOs devise and find useful, time is of the essence because shocks could occur as early as the first quarter of 2025. And for American CEOs, every quarter counts.
