COVID-19 Restrictions Delay Sonos Shift to Malaysia Production to Mid-2021
Sonos, whose exclusion from the List 4A Section 301 tariffs was granted in March (see 2005110034), is continuing plans to diversify its supply chain into Malaysia, said Chief Financial Officer Brittany Bagley on a quarterly call Wednesday. Sonos turned to Malaysia to reduce exposure to the tariffs on Chinese-sourced wireless mesh networking audio components.
The company planned to have “significant” U.S.-bound production from Malaysia ramped up by Dec. 31. But due to COVID-19-related government restrictions on manufacturing in Malaysia, reaching scale will take until mid-2021, Bagley said. “Essentially all” Sonos products subject to 7.5% tariffs fall under the exemption, which was retroactive to Sept. 1, but expires Aug. 31. Sonos began the process of seeking refunds for the $30 million in tariffs paid through July, and it's expected to take several months to complete, Bagley said.
Sonos applied for an exclusion extension but will need to resume paying the 7.5% tariffs Sept. 1 if rejected, said Bagley. "We'd like an extension for as long as we could get one," while still "continuing on our path to really bring Malaysia up so that we have a diversified manufacturing footprint," she said. "The closer we get to having our U.S.-bound production served from Malaysia, the closer we get to having tariffs be much less of an issue for us, with or without an extension.”
Revenue fell 4% in fiscal Q3 ended June 27 to $249.3 million. Sonos speakers generated $196.9 million of sales vs. $194.2 million in the year-ago quarter; Sonos system products were $42.2 million vs. $46.4 million, and partner revenue was $10.2 million vs. $19.3 million. Gross margins were higher on a mix shift to high-margin sales and channels, plus product and materials cost reductions, but gains were offset by higher freight costs to increase inventory levels and fill back orders to meet “higher-than-expected” demand.
Most of Sonos’ physical retail partners were closed for in-store sales during much of the June quarter, said the shareholder letter. The majority have reopened but with capacity and other restrictions: “It remains unknown what further changes could take place and what the long-term impact to physical retail will be,” Sonos said. It’s confident it can continue to scale its direct-to-consumer channel, up 299% in the quarter, “over time.”
The DTC channel has been good for profitability, but retail partners remain important to Sonos, said Bagley. Inventory is easier to manage via direct, she said: “We don't have the challenge of having inventory buildup in the channel with our direct-to-consumer business. So we hold more inventory, but certainly, you don't have that lag that we saw in Q2 as we saw the replenishment cycle shift out.”
On the company’s transition to the S2 operating system in the quarter, which left many legacy product owners angry when Sonos announced the new software in January (see 2001230050), CEO Patrick Spence said there has been “no churn to speak of” at this point and “millions” of homes moved up to the new OS. “There’s a natural occurrence when we introduce a new app to see like a short-term decline in the star ratings for those apps on Android and iOS,” Spence said. That typically moderates over time, and Sonos feels “good about customers sticking with us for the long term.”
The wireless multiroom audio company, which last week announced a settlement with Lenbrook over a patent infringement lawsuit (see 2007300023), remains confident about its patent fight with Google at the International Trade Commission, said Chief Legal Officer Eddie Lazarus. “There are “quite a few companies” in the multiroom audio space that Sonos believes are infringing its patents, “and we're in touch with many of them.”
Fiscal Q4 revenue guidance is $290 million-$305 million, representing 1% year-over-year growth at the midpoint, said the company. For the year, it projects revenue of $1.27 billion-$1.29 billion. Shares closed 18.3% lower Thursday at $14.29.