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ALROSA in the first quarter of 2015: When a record result is not because of, but in spite of

22 june 2015

The results posted by ALROSA have been influenced by two major factors – by diamond prices and by the exchange rate of the ruble. If the first of them had a negative bearing for the company’s financial results in the first quarter of 2015, the second one played into the hands of ALROSA. In addition, ALROSA employed such a traditional - and indisputably efficient - tool used by diamond miners as adjusting the assortment of its goods. As a result, despite the decline in prices and sales in carats, ALROSA managed to achieve record levels of revenue (in ruble terms) and profitability.

However, the record level of the first quarter this year does not perhaps appear the best news for ALROSA. According to most analysts, the results of the second quarter will not be as positive because of another 3-percent reduction in prices and the appreciation of the ruble. An 18-percent appreciation of the ruble in the second quarter will be a very negative development for ALROSA, VTB Capital said in its market review. ALROSA will maintain efficient management of its stockpile (currently reaching 13 million carats) possibly trying to improve its product mix, which will have a positive impact on the miner’s financial results, according to VTB Capital.

Key financial results of ALROSA in the first quarter of 2015

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ALROSA gained 74.5 billion rubles in revenues in the first quarter of 2015, which was higher over the fourth quarter of 2014 by 24% (against the first quarter of 2014 the growth reached 31%). The company’s dollar revenue in the first quarter declined by 6% to $ 1.199 million, due to lower sales. The drop in sales (by 17% versus the previous reporting period) was due to weaker demand in the diamond market, which forced ALROSA to lower prices in the first quarter of 2015 by 3%. "The diamond market in the first quarter of 2015 was less active compared with the first quarter of 2014 due to a lower demand for rough diamonds from Indian cutters and polishers,” Andrey Zharkov, President of ALROSA was quoted in the company’s press release. India, the world’s leader in diamond manufacturing, reduced rough purchases in the first quarter and was busy selling polished diamonds from its stock.

ALROSA managed to offset this negative impact partially by improving its product mix having increased the proportion of gem-quality diamonds to 77% versus 63% in the previous period. The average selling price of gem-quality diamonds went up by 4% YoY to $ 161 per carat. As a result, the company’s sales of gem-quality diamonds increased by 4% in annual terms, due to the devaluation of the ruble (the effect is estimated at 28.27 billion rubles) and an increase in average selling prices due to the change in the assortment (the effect is estimated at 1.5 billion rubles).

The miner’s net income was 5% higher than expected by VTB Capital, as it is acknowledged by this investment bank, while foreign exchange losses (6.6 billion rubles) were predictable. ALROSA’s capex decreased by 15% to 7.05 billion rubles due to commissioning of major projects and it will continue to decline in the future. As a result, the company’s free cash flow rose to 31.8 billion rubles (in the fourth quarter of 2014 it was 22.2 billion rubles). Its cash flow increased being consolidated by the deferred dividends for 2013 coming from the stake in Angolan Catoca and equivalent to 1.7 billion rubles. The company’s net debt / EBITDA ratio decreased to 1,3x from 1,9x at the end of 2014. The dynamics of its free cash flow growth and that of debt reduction is ahead of expectations and appears to be a positive factor for the assessment of ALROSA, Gazprombank said.

"The company’s clever management of its diamond stockpile and a favorable product mix allowed ALROSA to overcome the effects of a 3-percent decline in diamond prices, although the latter were once again reduced by 3% in the second quarter, which, combined with the strengthening of the ruble, may negatively affect the results of second quarter," VTB Capital said in its market review. "Nevertheless, we still expect recovery in prices during the second half of 2015. This process will be driven by the need of diamond manufacturers and retailers to replenish their inventories in anticipation of the fourth quarter, which is traditionally a successful period for diamond sales. In addition, the sightholders will have to buy rough deferred in the first half of 2015, which will boost diamond miners’ sales and consequently diamond prices as well," VTB Capital said.

"While diamond manufacturers and jewelers were still in no hurry to replenish inventories in the second quarter, which resulted in a three-percent drop in prices, we believe that this negative trend in the market has largely been exhausted. Market conditions improved in the second half of the year, and the fourth quarter will be the most successful this year," the investment bank stated in its review.

However, ALROSA itself prefers to give cautious forecasts for the second half of this year. The market went into a state of equilibrium, and the company does not expect further reduction in prices, Igor Kulichik, the company’s Vice President and Chief Financial Officer said during a conference call on the results of the reporting period. "According to our feelings, based on communication with our clients, those fluctuations, which have been on the market in the first and second quarters, now ended. We do not expect a more significant reduction in diamond prices this year," he said. Igor Kulichik added that macroeconomic parameters influencing the demand for diamond jewelry remain positive.

However, so far ALROSA refrains from giving its outlook regarding price recovery, as it is pointed out by the Otkrytie Bank. "We have revised our assumptions for the price of diamonds and now expect a 4-percent decrease in 2015 (compared to the 2-percent decrease a year earlier) and a 3-percent growth in 2016," Otkrytie stated in its market review. Until now, ALROSA has not changed its forecast for a 3-percent rise in diamond prices by the end of this year, the same being true for its sales plan, which is 40.3 million carats. "We have not changed our sales plan. And if we shall change it, then it will be done within the adjustment of the company’s budget, which will be implemented in the third quarter based on the results of our work during six months," Igor Kulichik said.

Igor Leikin for Rough&Polished