The diamond and jewelry pipeline is undergoing a tremendous squeeze, analyst Ken Gassman argued in a seminar on “Changes in the Diamond and Jewelry Pipeline.”
Gassman noted that there is a classic view of the diamond and jewelry distribution chain that starts with the manufacturer and ends with the retailer, with a lot of people in between. But today, he said, “everyone has a slightly different take on what the diamond pipeline is.”
He noted that many people think the pipeline has too many people in it.
“In the future, you are going to see consolidation, you are going to see compression, and all of that is going to equal efficiency,” he said. “For all of you as retailers, that’s going to be good news.”
He noted that the model in today’s market is being set by Wal-Mart, which buys direct from manufacturers.
He noted that the best margins in today’s market are held by diamond miners and specialty retailers—the two “bookends” of the market. On the other end, rough traders, cutters and polishers, and jewelry manufacturers—the people in the middle—have the smallest margins and are being squeezed.
“Retailers add value,” he said. “Miners add value. The rest of the guys, they won’t be gone, but they will be absorbed in the pipeline.”
Rough traders are under particular pressure, he said.
“Rough traders don’t make a lot of money, and I would argue that they shouldn’t,” he said. “Do they add a lot of value to that stone? The rough-diamond traders just come in because the DTC can’t get their sightboxes right. If Aber, Rio Tinto, and the DTC ever got it right, you wouldn’t need rough traders.”
He quoted Lazare Kaplan head Maurice Tempelsman as saying the elimination of De Beers’ buffer stock has increased price volatility.
“It depends where you are in the rough-diamond market whether prices are going up or going down,” he said.
But he noted that his statistics showed that polished prices are up two percent, while rough prices are up five percent.
“That means someone is getting squeezed,” he said. “There historically has been little or no correlation between rough diamond prices and polished diamond prices. There are a lot of reasons: Producers absorb the price increases. Diamantaires speculate a little.”
Speaking of cutters and polishers, he noted that polished prices are rising unevenly, because the U.S. market is hesitant, Europe is stagnant, dealers are overinventoried, diamond industry debt is at a record high, and there is uncertainly over the 2006 holiday selling season.
The biggest rise, he said, is on the bigger goods: “If you have a 5 ct. stone, who knows what you are going to pay for it?” But in general, polished prices are stable. “If someone is telling you polished prices are rising rapidly, it’s just not true.”
Jewelry manufacturers have margins in the 15 percent to 20 percent range.
The final link of the pipeline—specialty retailers—have 40 percent to 50 percent margins. “I think that specialty jewelers add a lot of value in the pipeline,” he said. “You take a piece of unusual gravel and sell it to customers for a lot of money.”
However, specialty jewelers’ margins have been going down for the last 20 years and will probably continue to be squeezed, especially on diamonds. And yet diamonds are taking up a greater percentage of jewelers’ inventory.
“So you are growing your business, on a low-margin business,” he said. “It’s something that doesn’t make sense.”
He noted that, according to government statistics, most jewelers have not raised prices over the last 10 years.
“It’s because of a lack of pricing power,” he said. “You don’t have the power you need to raise prices.”
And as gross margins become squeezed, costs have got to come out of the pipeline, and as a result we are seeing the two ends of the pipeline move together. He noted that companies like Aber, which owns a mine in Canada and is purchasing Harry Winston, are now getting into retail. Companies like Sterling are also “threatening to become a sightholder,” he said, though he thinks Sterling ultimately will decide not to.
“What’s happening here is all vertical integration,” he explained.
He noted that Tiffany’s vertical integration, which includes a partnership in a sight, has paid off, giving them higher gross margins than other retailers.
He noted that, on the final end of the pipeline, “specialty jewelers are losing market share.”
“There are 783 7-11s in the United States that sell jewelry,” he said. “You won’t believe the amount of places that are selling jewelry these days.”
He noted that the industry is consolidating, and that jewelry store employment is falling.
“Roughly 500 specialty jewelers are going out of business a year,” he said. “Look to your left. Look to your right. By 2020, one of you will be gone. Specialty jewelers are a vanishing breed.” He did add, however, that the ones that survive will have a better market share and better margins.
In most industries, he said, there are “duopolies,” where two retailers dominate the industry, like CircuitCity and Best Buy.
That’s not true in the jewelry industry, he said, but could be one day. “So who is going to win: Is it going to be Zale? Is it going to be Sterling? Helzberg?”
Among the pressures on retail jewelers are Internet jewelers, which have lower margins and costs.
“Internet jewelers need less than one person to generate a million dollars a year in revenue,” he said. “Store-based jewelers need 6.2 people. We have to understand what is going on here and rethink it.”
Independent jewelers are facing an undetermined future, he said.
“Retail jewelers need to get out of bed and say, ‘How am I going to be different today, what am I going to do to convince people to buy from me and not from Blue Nile,’” Gassman argued.
He also advised jewelers to partner with reliable vendors that listen to you and to form a buying group. “Buying groups are common in other industries,” he said. “I don’t understand why not in jewelry.”
He also advised not to cut salespeople. “Don’t cut salespeople when the going gets tough. That’s the last thing you should do. Sterling has added salespeople, that’s why they are doing well. You go into a Sterling store and they won’t let you out without buying something.”