The cost of many materials that manufacturers depend on has risen sharply amid the economic recovery.
Cotton prices have more than doubled in the past year. Copper is up 30 percent. Oil prices rose more than 20 percent last year and more increases are on the way.
As prices spike for all kinds of raw materials -- metals, chemicals, rubber -- manufacturers are doubling down to protect profits, which have only recently turned around from the recession. They're substituting materials where they can, locking into long-term contracts to protect themselves from price hikes, and finally passing higher costs on to their customers, which could ultimately take a bite out of consumers' wallets.
On Friday, Valspar Corp. announced price increases of 6 to 10 percent on certain coating products beginning March 1 because of rising raw material costs.
Apparel makers' record-high costs for cotton are being passed on to retailers. Jones Group Inc., whose brands include Jones New York and AK Anne Klein and VF Corp., maker of Lee and Wrangler jeans, began raising prices for clothing sold to retail chains.
Brooks Brothers Inc. said it is raising prices slightly on its spring line of cotton items.
Target Corp. told analysts in November that it likely would have to pass on some cost increases to shoppers beginning this year. "Rising commodity costs are affecting all retailers," said Morgan O'Murray, spokeswoman at the Minneapolis-based discounter.
While cotton's price spike is particularly alarming, raw materials of all stripes have been affected as the global economy has rebounded the past year. Recent studies of the manufacturing industry by the Institute of Supply Management (ISM) show that in the past year production and raw material prices have moved up in tandem. December's ISM report said almost half the businesses surveyed were paying more for raw materials, a sharp contrast from just 2 percent late in 2008 when the economy was tumbling.
Demand from emerging economies outside the United States also continues to push up prices. China now accounts for 45 percent of the world's steel consumption and 10 percent of crude oil consumption, according to Jeremy Leonard, an economic consultant at the Manufacturers Alliance/MAPI, an Arlington, Va.-based trade group.
Supply issues -- due to weather problems, speculators cornering markets or suppliers too slow to gear up production -- also have triggered increases in some raw material costs. That's been the case for cotton, as bad weather hurt cotton crops in India and China.
Leonard doesn't believe increased commodity costs alone are enough to derail the economic recovery. Raw materials typically account for less than 20 percent of manufacturers' overall cost structure, he said.
But the impact can be considerable if a raw material's price skyrockets, as did copper, which is used in construction, automobiles and electronic products. Data on producer prices from the U.S. Bureau of Labor Statistics showed an increase of 26 percent last year in prices for nonfood commodities used in manufacturing.
Major manufacturers affected
3M Co. can minimize the impact of rising raw material costs because it is more vertically integrated than many of its competitors. The Maplewood-based giant has plants around the world that produce chemicals and compounds that support 75 percent of its businesses.
Even so, the last half of 2010 saw rising raw material costs eat into its profit margins. 3M said last week that raw material costs increased about 2 percent for the full year and were up 3 percent in the fourth quarter vs. the same period a year earlier. Operating margins suffered, falling 250 basis points in the fourth quarter to 19.4 percent. Analysts had been expecting a margin of 20.8 percent.
CEO George Buckley said the company may have taken too long to raise its prices to offset the higher costs but is doing so now. Nicholas Heymann, an analyst at Sterne, Agee & Leach, said he doesn't believe 3M's margins will be squeezed as tightly this year by raw material inflation.
Leonard said U.S. companies are more likely to be concerned over rising costs due to health care reform and tax policies that could put them at a competitive disadvantage to businesses outside this country. In contrast, raw material markets are global. "Everybody's in the same boat," he said.
Some manufacturers already have been stung by rising raw material costs. H.B. Fuller Co.'s earnings and stock price took a hit last fall when the Vadnais Heights-based maker of adhesives and specialty chemicals struggled with shortages and higher prices for resins and propylene-based materials. By the end of 2010 the company had boosted its prices to offset some of those higher costs, although its profit margins still were lower than in 2009. Fuller has said it expects raw material prices to keep rising during the first half of this year, but at a slower rate.
Dmitry Silversteyn, an analyst at Longbow Research, said Fuller has a very high exposure to changes in raw material costs, which make up about 80 percent of its total cost of goods sold. The company has been caught because many of its suppliers cut back production during the recession and have been cautious about bringing it back, he said.
That also has been the case for steel, according to Steve Pilla, vice president of global supply for Pentair Inc. The Golden Valley-based company's technical products division uses it to make electronics cabinets and electrical products. "When the economy dropped, steel companies began carefully managing capacity," Pilla said. "They've tried to bring up production, matching it to demand. They want to be sure the demand isn't temporary."
Pentair also has felt the impact of rising copper prices, which it uses to make the motors, pumps and filters. In an outlook meeting with analysts last month, CEO Randall Hogan said the company expects raw material inflation to continue and perhaps even accelerate this year.
Both Pentair and Fuller have boosted prices on some products to offset their higher raw material costs. Fuller also has reformulated some products to substitute cheaper raw materials.
Like Fuller, Ecolab Inc. has been affected by rising costs of propylene, a chemical building block for many of the St. Paul company's cleaning and sanitizing products. Vice President Michael Monahan said the company works to secure long-term supply contracts to protect itself against future price increases. That would include a 25 percent hike in propylene prices from December to January resulting from production problems by suppliers.
Harmony Enterprises, a manufacturer of large trash compactors and balers based in Harmony, Minn., began to see price increases from its steel suppliers in October, according to President Steve Cremer.
The company had record sales in 2010, up 30 percent from 2009, but saw profit margins squeezed in the fourth quarter as raw material costs rose. It will increase its prices, the first time it has done so in about two years, beginning March 1, Cremer said.
In addition to the overall upward trend, prices from Harmony's steel suppliers took a sharp jump in December because heavy snowstorms disrupted deliveries of scrap steel to mills in the eastern United States, forcing them to use more expensive alternatives such as iron ore, said Tom O'Hara, Harmony's purchasing manager.
Susan Feyder • 612-673-1723