Manufacturing

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James Watson

Often thought of as the heart and soul of a country's economy, companies within the manufacturing industry produce everyday, common goods on a massive scale. These companies typically engage in very labor intensive productions and employ over 60,000 people, who are in effect the farmers of industrialization. Labor Unions, raw materials, emerging markets, and globalization are factors familiar to most of the companies within manufacturing. The rising worldwide demand for energy and ensuing rise in oil prices has benefited companies that manufacture oil drilling and transportation equipment like US Steel (X) and Caterpillar (CAT) but hurt the automobile manufacturers that are lagging in hybrid technology like General Motors (GM) and Ford Motor Company (F). Additionally, the 2007 credit crunch caused by the subprime lending crisis has made cars less affordable and forced automobile manufacturers to either offer better interest rates on loans or not sell cars. Below is a breakdown of the manufacturing industry:

Subsets of the Manufacturing Industry

Automobile Industry

• Ford Motor Company (F)
• General Motors (GM)
• Toyota Motor (TM)
• Volkswagen (VLKAY)
• DAIMLERCHRYSLER AG (DCX)
• Harley-Davidson (HOG)

Metal and Materials Industry

• US Steel (X)
• Alcoa (AA)
• DuPont (DD)

Multi-Industry Conglomerates

• General Electric Company (GE)
• Siemens AG (SI)
• 3M Company (MMM)
• Toshiba (TOSBF)

Defense Contractors

• Lockheed Martin (LMT)
• Raytheon Company (RTN)

Construction Industry

• Caterpillar (CAT)

Manufacturing Industry Trends & Forces

Labor Unions Increase Costs for American Manufacturers

Due in part to the physical intensity of the work, sheer size of the labor forces working for each company, and historic financial success of the major manufacturing companies, Labor Unions have played an integral role in the costs associated with running a manufacturing company. Historically, successful manufacturing giants like the Big Three automakers, Boeing, and US Steel (X) have turned extravagant profits, inspiring the masses of employees to organize and demand higher pay, better benefits, and safer working conditions. Labor Unions drive up company's costs and cut into profits, making it tougher for the companies to compete in the global economy. Labor Unions are characteristic of the United States, which puts many U.S. manufacturers at a distinct disadvantage to manufacturers in developing countries where labor is cheaper. A lack of Labor Unions gives companies like Toyota Motor (TM) a comparative advantage.

Higher Raw Materials Prices Cut into Profits

Most manufacturing companies build their products, be it oil pipelines, cars, airplanes, or infrastructure, using large quantities of raw materials. An increase in the price of these raw materials directly translates into higher costs for the manufacturing company. Some companies, like US Steel (X), strive to vertically integrate their operations to such an extent that the price of raw materials does not impact their earnings. Some raw materials that impact manufacturing companies include:

• Steel Prices
• Aluminum Prices
• Plastics Prices
• Copper Prices
• Oil Prices

Rising Oil Prices Compel Technological Advancement and Increase Operational Costs

For manufacturing companies that do NOT assist in either the drilling, production, or transportation of oil, rising oil prices means higher operating costs. US Steel (X) and Caterpillar (CAT) do not fit into this category as their products are needed by oil companies trying to meet the rising worldwide demand for energy. Manufacturing companies typically operate tons of oil and gas guzzling factories across the world that are hurt by rising oil prices.

For industry as a whole and the auto industry in particular, rising oil prices are creating high demand for energy efficient products, with added pressure from governments and environmental groups. Toyota Motor (TM) and Honda Motor Company (HMC) are leading the way in hybrid technology, contributing to the Big Three Auto Woes.

Credit Crunch Makes Products Less Affordable

The 2007 credit market squeeze caused by the subprime lending crisis has made cars less affordable and forced automobile manufacturers to either offer better interest rates on loans or not sell cars. These lower rates cut into automakers' financial services earnings. Additionally, Caterpillar (CAT) is heavily dependent on U.S housing construction, which has been in accelerated decline due to the credit crunch.

Emerging Markets Spark Demand

With U.S. and European markets almost completely saturated, manufacturing companies are turning to emerging markets for revenue growth. Emerging Markets lack many of the technological advances and conveniences Americans and Europeans enjoy, making way for incredible sales growth. General Electric Company (GE), Caterpillar (CAT), the auto industry, and metals companies are battling their competitors for control of energy and infrastructure-hungry China and India. Of the automakers, Volkswagen (VLKAY) has secured the highest market share in China, with General Motors (GM) lagging just behind.

As manufacturing companies work to bring their products to emerging markets, investors must monitor changes in government regulations, taxes, trading agreements, exchange rates, and geopolitical conflict as these factors could help or impede growth for companies.

Government Regulations and Sponsorship Crucial to Earnings

Because companies within the manufacturing industry produce many of the products essential to everyday life, governments play a significant role in the manufacturing industry. Automakers, in particular, must adhere to toughing safety and emission standards. These toughing regulations increase operating costs and place a premium on technology.

No one, however, relies more heavily on government involvement than the defense contractors Lockheed Martin (LMT), Raytheon Company (RTN), Northrop Grumman (NOC), and Boeing Company (BA). These companies manufacture vehicles, aircraft and other devices for militaries across the globe, especially that of the United States. In order to ensure that each company maintains enough business to continue producing at the highest technological level, the U.S. government tries to spread contracts evenly across the companies. Any changes in the governments sponsorship or regulations, however, will likely have a dramatic impact on earnings. Usually such sponsorship only dwindles in times of minimal geopolitical conflict.