Startups that rely on Chinese manufacturers are bracing for Trump's impact

• Trump's proposed tariffs could raise costs for hardware startups making physical goods.
• Startups fear that the potential tariff hikes could make profit goals harder to reach.
• Investors warn that this could lead large numbers of founders to throw in the towel.

The potential for increased tariffs in Donald Trump's second term is making hardware startups nervous and could push more founders in this tough sector to throw in the towel.

While large retailers have begun to rejigger their supply chains to avoid the possible tariff hikes on Chinese goods, hardware startups have less room for maneuver, according to conversations with a dozen tech founders and investors.

Trump's suggested tariffs come after four-and-a-half tough years for the hardware industry. The pandemic threw a wrench in the global supply chain. Investors pulled back from hardware as they coalesced around shiny new AI software tools.

"Hardware companies have been through the wringer," said Nikhil Basu Trivedi, a general partner at early-stage investment firm Footwork.

Hardware startups rely on a host of manufacturers that are mostly based in China. The typical process works something like this: A US-based startup with a few talented engineers designs a gadget, such as a wearable device. But they don't make this product. Instead, they send the design out to Asia and have another company there make prototypes and, if all goes well, mass-produce the item.

That gets shipped back to the US for sale. This is where Trump's proposed tariffs would likely kick in. When China-based manufacturers ship the final products back, the hardware startups may get hit with levees of up to 60 percent on goods from China, according to Trump's statements during his campaign.

Jared Friedman, a group partner at Y Combinator, said hardware startups could face a major hurdle because critical components for electronics are primarily produced in Asia and must be transported globally. "This isn't simple to fix because it's not a matter of replacing one supplier," Friedman said, "it's an entire ecosystem."

Importal, a logistics company that helps businesses stay compliant with customs law, told Business Insider that retail brands are asking the company to estimate the profit margins of new products under Trump's proposed tariffs before they even reach the procurement stage. "Anxiety is probably eight out of 10 right now," said Importal cofounder Graham Anderson, a former employee at Flexport. "I'm getting emails that are basically like, what can we do?"

The impact on startups: 'We're done here'

In the aftermath of Trump's election win, euphoria is sweeping through the business world. Famed investor Marc Andreessen has likened Trump's victory to a "boot off the throat," while Elon Musk, as Trump's new efficiency czar, has vowed to slash excess regulation.

Excitement is tempered for those working in hardware or selling consumer goods. Tariffs create a gnarly paradox for small companies: While intended to boost domestic production, they can result in higher prices and softer customer demand. Startups will absorb what costs they can, but many will see their profit margins squeezed.

Bradley Tusk, a political strategist turned venture capitalist, highlighted how the pressure from tariffs could spell disaster for a certain company.

"A small startup definitely would be worse positioned to absorb the cost than big tech, but if they're selling something truly unique in the marketplace, it may not matter," said Tusk. He explained, "A truly unique product can handle the price increase. Others cannot."

The worst-case scenario is that tariffs unleash a wave of capitulation in the next few years, causing an unusually large number of hardware and consumer goods startups to shut down.

"You could certainly see — I don't want to call it an extinction event," said Santosh Sankar, a managing partner of Dynamo Ventures, a supply chain and mobility investor. "It's hard to foresee that. But there'll certainly be a classic company that either cannot make it or maybe even chooses to say, 'Hey, we're just kind of done here'" and winds down before the money runs out.

Supply-chain gymnastics

Large companies can influence tariff policies by lobbying the government or seeking exclusions. During Trump's first presidency, Tim Cook helped persuade the White House to skip tariffs on most Apple products. Cook famously showed his thanks by sending Trump a Mac Pro.

The average startup lacks the leverage, not to mention the financial firepower, that Big Tech has to influence policy, said Alan Deardorff, an economist at the University of Michigan.

"Trump has said he'll place 10% or 20% tariffs on all imports from everywhere, and certainly that would not by itself target or avoid startups," Deardorff said in an email. "In practice, he'll probably make many exceptions in response to deals he will make with those who will be affected, but presumably, startups will not be big enough to do that."

The tech giants have an additional advantage: the budget to support supply chain gymnastics.

Startups are in a tight spot when shifting operations out of tariff-laden countries. They often go through costly processes of ordering samples and refining prototypes before committing to bulk orders, which puts a financial strain on a company that may not have any revenue. Moreover, startups may find themselves shackled to specific suppliers that produce components crucial for their products.

Spencer Penn, who helped develop the Model 3's bill of materials at Tesla, recalled how hard it was to persuade suppliers to make and sell parts to the automaker back in 2016. At the time, Tesla was delivering thousands of vehicles a week — a volume that, while substantial, wasn't convincing enough for suppliers to fully commit. Suppliers often prefer working with buyers who require large volumes because it can lead to more stable, long-term business relationships and higher efficiency.

Now, Penn is working to rein in the chaos of procurement. His startup, LightSource, offers software to help enterprises make better sourcing decisions and reduce import costs.

Since Trump's election win, Penn noted that about half of LightSource's clients — who are mostly automotive, consumer electronics, and chemical companies — have brought up concerns about tariffs or trade wars in conversations with him or his team. Some are in talks to go on a "purchasing spree" to stock up on inventory before potential new tariffs take effect.

Chris Van Dyke's startup, Overview, sells industrial cameras that it buys from a Taiwanese supplier and spiffs up with software that can help identify defects on the assembly line. It has cameras installed in over a hundred facilities, making everything from car parts to sliced cheese.

He said he's worried about the potential for Trump tariffs to spark a recession. If fewer people buy cars, for instance, Overview may struggle to sell more to domestic auto-part manufacturers. The startup's next step is to diversify where it sells and reach new customers in Europe and Asia.

On tariffs, Van Dyke said, "The sentiment is good, the upside is good, but I don't feel comfortable just banking on the upside."