Steel costs starting to pinch U.S. companies

By James B. Kelleher - Analysis

CHICAGO (Reuters) - U.S. manufacturers, which had shrugged off the domestic economic downturn and reported consistently strong profits thanks to overseas demand, are starting to look vulnerable as the price of key materials like steel continue to rise.

Global steel prices are up 40 percent since the beginning of the year and the pressure is showing up in a number of top U.S. companies' results, including construction and mining equipment maker Caterpillar Inc (CAT.N) and motorcycle maker Harley-Davidson Inc (HOG.N).

Even oil and gas producers' record-setting recent profits are feeling some of the heat as costs for drills and other equipment have spiked.

Then this week, farm equipment leader Deere & Co (DE.N), which had posted a string of record results, forecast disappointing full-year earnings, blaming raw material and freight costs.

Deere Chief Financial Officer Michael Mack, conceded steel prices were "racing ahead ... well beyond what we anticipated." Investors took note and the company's shares fell nearly 10 percent.

"Raw materials are now expected to hit them almost twice as hard," said Matt Collins, an analyst at Edward Jones.

"Up until now, Deere had been able to avoid some of the margin pressures that most of its competitors had seen ... It looks like it caught up with them this quarter."

Michael Locker, who runs a steel industry consulting firm, Locker Associates, in New York, said rising steel prices are unlikely to ease off much in the near term.

"Prices may peak soon, and then drop some. Currently, we are seeing $1,100-$1,150 (per ton) for hot-rolled steel and it may drop to $800 or $900. But, I don't see prices going back to the $400 we had last year.

"Worldwide demand for steel has blown through the roof -- not just China, but the Middle East, Russia, Latin America. Economic development demands steel," said Locker.

SPREADING GLOOM

Deere, which said its 2008 material and freight costs would be $400 million to $500 million higher this year, double the inflation it had expected, is not the only manufacturer to warn that rising commodity prices are beginning to pinch.

On Wednesday, Toyota Motor Corp (7203.T), the world's biggest automaker, agreed to begin paying 30 percent more for sheet steel, the Asahi Shimbun daily newspaper reported.

But given the slack demand for vehicles in the United States, it's not at all clear that automakers -- already facing stiff headwinds -- will be able to recoup their costs by sticking U.S. buyers with higher prices.

Auto and truck parts supplier ArvinMeritor Inc (ARM.N) said on Tuesday it would begin charging a monthly surcharge in a bid to offset surging prices for steel and other commodities.