New Diamond Paradigm

Change in the distribution of diamonds—the pipeline—is the subject of a presentation I made at The JCK Show. There is plenty to consider.

The transition from a heavily controlled supply—the De Beers monopoly—to a true demand-driven market is reaching its final stages. Years ago, De Beers acted as the ultimate buffer. It stockpiled rough in slow periods and bought excess rough off the open market. It had run-of-mine contracts with producers, which gave them bankable contracts that provided funds to continue exploration and development. Those contracts permitted significant expansion of diamond production in such countries as Russia and Australia. And De Beers handled the marketing that helped move diamonds down the pipeline.

While diamond prices, on average, did not keep up with inflation, a controlled release of goods meant sightholders, and the banks that supported them, could feel reasonably sure they had little to fear from a drop in prices. De Beers protected their backs, even if it was at the price of selling polished at short margins.

By the mid-’90s, this system was crumbling. De Beers could no longer afford to buy up ever larger supplies of rough that appeared on the market. Rio Tinto, which operates the Argyle mine in Australia, did not re-sign a contract. Russia went its own way, and new mines were started in Canada. De Beers conducted a major restructuring after taking the company private and began a drive to enhance its value by licensing the De Beers name to a co-venture with LVMH and by commencing the Supplier of Choice campaign with its sightholders. That has moved on to a still unproven branding campaign, Forevermark.

How De Beers will fare in their new efforts is uncertain, but the market has already moved on. Producers are not stockpiling in the current downturn. They’re cutting production, De Beers included. While production recently picked up again, it’s far from the levels seen at the height of the boom market of the last 10 years. The choice now is to allow the pipeline to empty somewhat and create the shortages that will prop up prices. But a significant impediment to renewed growth is a reduction in the financing normally provided by banks. In the past, the major producers have been able to force their clients to finance new stocks. That option is not available now and isn’t likely to return in the foreseeable future. Banks will operate under stricter governmental rules that were imposed as a result of lending abuses. Lending on inventory, memo, and extended dating will be severely curtailed—or cut out.

Even without restricted lending, many diamond companies will tread carefully in stocking diamonds. In a market where prices will fluctuate, good operators will forecast needs and plan stocksfar more carefully. That is not to say there won’t be opportunists. Even today some diamond companies with cash are buying distressed stocks from those who mustsell to get cash. That, in turn, will result in extended volatility of prices.

This transition to open market conditions will evolve further. Producers will vary production to meet demand, but in that process we may see the end of the “sight” system. Even De Beers has suggested it might do some open market sales. Russia is already making sales that way, BHP has done it, and the other miners are not far behind. De Beers could be forced to follow suit. Most studies predict diamond supply will fall as mines play out, exploration becomes very expensive, or expansion costs become hard to justify. In a recovering market and booming Asia, even De Beers may go back to just being a mining company.

All of this is critical to retailers. In a wide-open market with many players (ironically, the opposite of what De Beers set out to do with their marketing programs), the ability to locate and obtain the right goods at the right time will be key. If the Internet has been the great transforming power in the last few years, it will become even more so. We are beginning to see sites where consumers can post their diamond needs and companies will vie for the sale. Retailers will need to play a role in that channel, even as they plan to reinforce their market position in traditional channels. It will require innovation and experimentation. Retailers will need to use every means and every channel to stay in the game.

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