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Confusing Sightholders

30 january 2012

Diamond Trading Company (DTC) sightholders arrived at the annual De Beers chairman’s cocktail reception on Tuesday with one thing on their minds – rough prices, Avi Krawitz writes in an article published at www.diamonds.net on January 27. Not only were they still trying to assess the true value of their January sight boxes but they were looking for some hint of a De Beers forecast for the year, especially from one of the speakers, Anglo American’s chief executive Cynthia Carroll.

They left largely disappointed on both counts.

At best, Carroll sought to allay sightholder fears about change. “As a long-standing shareholder, Anglo American fully understands that De Beers is a unique and exceptional business,” she said. “We understand that diamonds are not a commodity. They are different and they are special.”

Sightholders still have questions about Anglo’s prospective control of De Beers. Perhaps most significant of these is that it remains unclear whether the mining and commodities group will maintain the status quo with regards to the way DTC sells its stones, especially in light of this week’s sight.

Amid all the speeches and toasts that traditionally accompany the January sight, the clearest message sightholders came away with from the sight was that De Beers pricing policy is confusing and complicated. Instead of allowing market forces to dictate the price of a particular diamond category, the company micro manages its supply and its customers.

So while on paper, DTC cut prices this week, the company adjusted its assortments so that the value of the boxes presented remained largely the same. Along with the reductions, DTC weighted its supply towards smaller sized goods. The net effect, as sightholders discovered, is that very little price adjustments were made.

Sightholders were hoping for more of a correction, especially as polished prices continue to soften and diamond trading remains weak. Those that deal in DTC goods are still only able to sell them forward at DTC list prices, and in some cases at a discount, while cutters are faced with ever tightening margins.

De Beers is naturally reluctant to cut prices as such a move directly impacts its bottom line. The company doesn’t buy and sell as traders do. It has fixed costs and is able to drive profits by increasing its sales volume or raising prices. Adjusting its supply to keep prices stable may well be the company’s way of guiding its business through the changing times.

But in the long run, such strategy is counter-productive. Eventually demand for its product at those prices will wane. We may be there already. As one sightholder stressed to Rapaport News, “Manufacturers are not getting rough at a price where they can make money. So there’s a bit of a standstill and the rough market is not that strong.”

This may well be the direct result of De Beers policy to keep prices stable when the market turned in August. The company perpetually raised prices in the first half of the year fueling speculation that further hikes were on the way. It then kept prices stable after the market turned in August – even as prices in the rough dealer market fell, polished prices declined, and both rough and polished trading softened.

De Beers argued that by keeping prices steady it sought to maintain confidence in the market and that a decline would fuel panic. It may be overstating its influence. Still, the company appears to be continuing along the same path. Instead of clearly cutting prices at this week’s sight, DTC played with its boxes to maintain the allusion of stability.

In the meantime, sightholders as well as non-sightholder cutters and dealers continue to be affected. One sightholder noted that while prices on its box of 4 to 8 grainers fell, their value for money actually declined due to the change in the assortment mix.

While the headline that DTC cut prices may have added to existing caution in the polished markets, it is unlikely to affect polished prices or trading. The caution was there already because the market remains intrinsically influenced by supply and demand factors.

These will ultimately catch up with De Beers, and for that matter, ALROSA, which adopted the same strategy. By maintaining the façade of stable but high prices, De Beers is putting added pressure on sightholders’ margins, which at some point will decrease their demand for the product. By selling in the manner that it does, it is complicating the value of diamonds throughout the pipeline.

It is encouraging then that De Beers is placing a stronger emphasis on its online auction business, Diamdel. The distribution is simpler, more effective, more indicative of market trends, and proportionally, probably more profitable. And it would certainly be true that DTC is gaining valuable market feedback about demand and prices from the auctions, as De Beers executives have stressed in the past.

Because at the end of the day, nothing is better than the market at setting prices. And following Carroll’s address, sightholders would still be wondering if Anglo believes that to be true.

Certainly diamonds are special, but one should recognize that they are also a product, if not a commodity, that is subject to the same supply and demand factors as any other. At the very least, Anglo must be assessing how it sells its diamonds and sets prices.

The group has a lot riding on its purchase of De Beers. It needs to justify to shareholders the added value of owning De Beers both in financial terms and in enhancing its stature in the global market.

Anglo surely recognizes that the most effective way to add value for shareholders will be to simplify its selling mechanisms to one which is more transparent, less complicated and less risky. Or, that to enhance its own leadership role in the industry, De Beers needs to better enable profits along the pipeline, which would in turn serve its own interests with better demand.

For all its assurances that Anglo American understands De Beers as a unique and exceptional business, change may yet be on its way. And with the prospect of allowing market forces to exert themselves, sightholders may well be hoping for it.