Fabrikant Earthquake

Repercussions of the Fabrikant bankruptcy will be worldwide, and many firms may be hurt as losses cascade through the supply side of the industry. Raw figures in the filing show close to $370 mil-lion in debt and $382 million in assets.

Does a failure this large indicate a defect in the way the industry works, or is it a case of mismanagement and misjudgment? Is the United States no longer the place to base a major fine-jewelry business?

Consider the scope of the problem: Total debt roughly equaled annual sales, an untenable position. Two major customer bankruptcies (Friedman’s and Crescent’s) hurt working capital. Overstocks at Wal-Mart severely reduced its purchases. Delayed payments at Whitehall caused more pain. Net income for two years running was barely 0.5 per-cent, before a loss in 2006 that reduced equity by 40 percent.

Fabrikant’s management cut staff, merged divisions, essentially sold order backlog to an Indian firm, scrambled to move operations to Asia to cut payroll costs, restructured some debt, and made a final push to sell or recapitalize the company.

Most of that took place in the last year and a half, but a company doesn’t pile up that kind of debt quickly, and the warning bells would have been ringing long ago. So what happened?

The company grew large by concentrating on major chains, but that business has gravitated to low-cost producers, namely the major Indian firms. Fabrikant must have been forced to make impossible or risky deals—low margins (as evidenced by the net income declared for 2004 and 2005) and exposure to shaky credits. We’ve seen that with smaller companies. Only the scale is different. Fabrikant has often been stuck with bankruptcies, but now the losses were too big. It became a case of “damn the torpedoes—get the business.”

Fabrikant was in a box. It could not change the business without dismantling the company, and, apparently, it could not continue business as usual without bankrupting it. What is more unfortunate is the amount of bank debt and trade debt accumulated. According to the records, the banks could not be convinced to go along with a plan for recapitalization. They probably saw no way out of the box.

This may sound the death knell for American companies producing mass-market jewelry. The days of big chains dominating suppliers may also be passing. Instrumental in both those speculations is how the banks react to the Fabrikant case. If they conclude the industry has too much debt, too much inventory, too much churning of goods, and not enough profit, we can expect very different lending policies.

Fabrikant is a long-established company broadly woven into the fabric of the American diamond and jewelry business. We are unlikely ever again to see an American company attain such scale and global reach.

benjanow@gmail.com