Continental Automotive Systems Inc., the North American subsidiary of Germany's Continental AG, has been shifting some production from its Asia operations to Mexico in recent months.
Now with the rulebook in hand for the United States-Mexico-Canada Agreement, the Auburn Hills-based auto supplier is scrambling to ensure its downstream suppliers are up to speed on the trade agreement and in line with tougher rules of origin requirements.
USMCA's long-awaited uniform regulations were published just last week by the Office of the U.S. Trade Representative and will be implemented on July 1 — a little more than two weeks away
Experts worry the industry simply won't be ready to meet the agreement's rules while also attempting to ramp up production in three different countries with dozens of different and new rules for operations amid the COVID-19 pandemic.
"It's almost unfathomable that we'd be implementing this as suppliers are trying to reopen," said Lou Longo, partner and head of the international consulting practice at Plante Moran.
"Suppliers have a higher level of compliance under these agreements than ever before and they have to understand which way their product qualifies under the rules. USMCA is more complicated (than the North American Free Trade Agreement)."
Longo calls it a "Herculean" effort.
Under the new USMCA pact — which replaces NAFTA, which went into effect in 1994 — is a requirement that 75 percent of a vehicle's components must be made in one of the three North American countries to cross borders tariff free, up from 62.5 percent under NAFTA.
The content requirements were critical to the U.S., believing a higher standard would force more production stateside. Roughly 30 percent of the 2.33 million vehicles imported to the U.S. from Mexico in 2017 didn't meet the current 62.5 percent content requirement, Mexican Economy Minister Ildefonso Guajardo told Bloomberg TV in 2018.
Only three vehicles exported to the U.S. — the Nissan Versa, Audi SQ5 and Fiat 500 — were above that 62.5 percent threshold but below the new 75 percent requirement. Those three vehicles sold a combined 141,944 units, or about eight-tenths of a percent, of the 17.05 million total units sold in the U.S. last year, according to sales data.
Under USMCA, Nissan, Audi and Fiat Chrysler will have to either pay the standard 2.5 percent WTO tariff on those models imported to the U.S. or source more parts from the trade pact countries. Theoretically, this could create jobs in the U.S.
But it's complicated for suppliers, who often ship parts of parts and systems back and forth between the nations to be completed as systems that end in a final vehicle. The challenge is clarity into their supply chains to understand where parts are coming form and going to, said Bryan Hargreaves, senior manager of North America customs and foreign trade for Continental Automotive.
"Some of our challenges are with our tier-two and tier-three communities that just aren't as well informed on the agreement," Hargreaves said. "In this pandemic environment, everyone is looking for cost cuts and it's hard to justify resources to track and monitor parts across the border. Because of the pandemic, we don't know what our demand is going to be, so it's even more difficult for us to plan out product. The big challenge is we don't know how our supply base is going to support this process with those limited resources."
U.S. automotive assembly and parts manufacturing employment was down to 662,100 in May from 993,600 in March. Suppliers across the board were faced with massive financial shortfalls after nearly two months of closures under the pandemic. Liquidity remains an issue.
Fred Hubacker, managing director of Birmingham-based turnaround firm Conway MacKenzie told CNBC last month that "once (suppliers) start to resume operations, the cash is going to disappear pretty quick. We wouldn't be surprised to see some bankruptcies at all tier levels."
Michael Robinet, executive director of automotive advisory services at IHS Markit, said given the financial pressures implementing USMCA will prove to be "one of the greatest challenges they have ever had."
Education proves to be a critical step for Continental and others.
An April Plante Moran survey revealed 49 percent of respondents had a limited understanding of USMCA and believed there was more they didn't know about it than what they did.
Longo said the ignorance around the free trade agreement among suppliers is dangerous.
USMCA carries stricter penalties than the agreements it replaces, thus requiring suppliers, even smaller ones, to understand its harmonized tariff system. There's now a more complex methodology for compliance using that system and suppliers must be up-to-date on those procedures and steps, Longo said.
"We've seen many clients' products that qualified (as tariff free) under NAFTA that are no longer qualified," Longo said. "Suppliers used to be able to bring in (from overseas) raw material or some sub assemblies, made some modifications, slap a sticker on it and call it a North American product. Those rules have changed and if you're not paying attention to that, there are repercussions."
Those penalties include retroactive tariffs with interest, additional duties and possible fraud charges, which were rarely implemented under NAFTA.
The auto industry was hoping the rules would not be enforced until Jan. 1, 2021, but U.S. Customs and Border Patrol will enforce the new USMCA rules after a 90-day grace period, or by Oct. 1.
"The majority of the industry was counting an entry in force January 2021 and expecting a six-month period where we were working back and forth with CPS. That didn't happen, so time is of the essence, " Hargreaves said. "We can't snap our fingers and be in compliance, but we're working quickly and diligently toward it. We're in a decent position but there are still a lot of unknowns."