For manufacturers, the picture is not always as pretty. Rising input costs squeeze profit margins, at least in companies that are unwilling or unable to pass on price increases immediately to their customers. For the most part, that seems to define the current environment. Managements seem to have been hesitant to move prices down the line until they see more evidence that the global recovery is here to stay.
 A huge gap has opened up between the rate price change for intermediate producer goods and that for finished goods. With the world further into economic recovery, this appears fairly normal based on history. But it takes time for companies to assimilate higher input costs. In the meantime, some factors may support earnings. For example, the higher volumes that come with a growing economy can counter cost pressures in many companies.
 Caterpillar, the US-based manufacturer of tractors and heavy equipment, is a case in point: it enjoyed a volume increase of about 30 per cent in 2004. The additional operating profit generated by this more than compensated for the rise in the company’s steel costs, which were up about 20 per cent in 2004 amid a 50 per cent increase in market steel prices globally.
 However, such volume growth is unlikely to be sustained, placing the company’s pricing strategy and cost profile into sharper focus. The management has indicated its goal to place more emphasis on higher prices for its products in 2005.
 Some manufacturers may be able to weather input storms thanks to having diversified businesses. Staying with steel as an example, American Standard, which has a large and expanding commercial air conditioner business dependent on steel, has kept its overall margins firm. This is due, in part, to having a household fixtures division in a robust housing market. Not only is this diversification a product feature, but it also has a time element. Housing materials often represent early to mid cycle plays, while vast air conditioning systems are more associated with late cycle activity in construction.
 These examples suggest that rising input costs alone should not necessarily be an argument against owning a particular stock. Even in cases where companies face rising input costs that they cannot offset, translating into severe earnings shortfalls, purchase opportunities can arise for those that can identify oversold stocks correctly.
Stephen Kaszynski, portfolio manager, US equity, CSAM

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