So far our journey through the diamond industry has examined some of the major issues impacting polished diamond manufacturers today. We have seen how rough diamonds are cut based on their internal and external characteristics, where rough manufacturing takes place around the world, how technology has changed the way diamonds are cut, and the ways in which manufacturers sell their polished stones in the global market.
However, before any manufacturing can take place, diamond cutters must first source and purchase rough diamonds. They do so through a system that has evolved over many decades. Recent years especially have witnessed tremendous change as mining companies adapt to the changing marketplace.
In this final instalment on diamond manufacturers, I want to look at the ways manufacturers purchase rough diamonds and, by extension, how mining companies sell them. This will be an appropriate transition into my next series of articles, which will take a closer look at diamond mining.
The two-fold path
Manufacturers essentially have two alternatives when it comes to buying rough diamonds. They can either buy directly from mining companies, or they can buy from others companies in the secondary trading market. Both sources present advantages and disadvantages, which I will examine in further detail below.
Buying from rough diamond producers
Mining companies, often referred to as producers, sell their diamonds in a variety of ways. This situation has changed significantly in the last 15 years since De Beers lost its monopoly of the industry following anti-trust litigation in the early 2000s. At its peak, De Beers controlled approximately 80% of the world’s rough diamond supply. And, through its sales, established both the quantity and price of diamonds available globally. De Beers’ supply now represents less than 40% of the world’s diamond supply. This has led to new sales practices from numerous other mining companies, large and small alike.
The Sight system
The De Beers system revolves around ten annual sales events known as Sights. Today most producers sell their diamonds ten times a year. This amounts to five weeks in between Sights, which is approximately the amount of time needed by manufacturers to cut and polish their allotments before requiring more diamonds to keep their factories in constant operation. The Sight system received its name because diamond buyers were invited to De Beers’ offices at 17 Charterhouse Street, London at each cycle to see the diamond parcels before buying.
De Beers still uses the traditional Sight system to sell most of its rough diamonds, though these sales recently moved out of London and now take place in Gaborone, the capital of Botswana, which is where most of De Beers’ mines are located. A similar system is employed by several other large producers that have entered the market. These include ALROSA, the state-controlled Russian company which is now the second largest producer in the world after De Beers; Canada-based Dominion Diamonds; and mining giant Rio Tinto. Due to their size, these companies can offer manufacturers large allocations each month, which are generally consistent in composition.
In a typical supply system, large producers maintain a list of 80-100 companies that are invited to view and buy diamonds. These companies tend to be large, financially stable firms that are required to provide assurances of their financial health and capacity to the producer. The list of buyers is typically reviewed once every three-four years, so buyers can be assured of some measure of consistent supply over that period. This way, they are able to make appropriate decisions about developing factories and other infrastructure within their businesses. Consistent supply is vital to manufacturers, and they will generally pay higher prices to secure it.
There is often little room to negotiate on price or quantity in this system. Manufacturers are shown their allotment with the producers’ per-carat price. While each producer maintains provisions that allow manufacturers to refuse a certain proportion of their allocation each month, this can only go so far. Frequent refusals can jeopardize a manufacturer’s position as a regular client of the producer.
Smaller companies, new methods
This system of selling rough depends on large volumes, which enable consistent allocations over time. In recent years, many smaller mining companies have entered the market. It is now common for a company to own only one or two smaller mines. This makes it harder to sell a consistent and homogenous product to manufacturers, which has led to a new practice of selling diamonds via tenders.
Tenders and auctions
In a tender, miners will usually sort diamonds into small parcels that are homogenous in terms of characteristics such as size, quality and color. These assortments can vary from month to month, as a single mine may produce different types of diamonds depending on its specific geology. Diamond buyers are invited to view the diamonds for sale and evaluate what they believe to be the appropriate price for each parcel. Rather than the producer determining the price of each assortment, here the buyers bid for individual parcels and the miner typically sells to the highest bidder.
A tender is usually straightforward, where buyers issue a single price bid for each parcel. This can be done in several ways, from submitting paper bids in sealed envelopes, to making sophisticated online bids. Several companies have established themselves in the diamond market as purpose-built tender houses. These companies offer their services to producers that may not want to invest in office space, software and staff.
Producers can also sell diamonds through auction. Auctions are similar to tenders, though the bidding process is more sophisticated. Diamond auctions work much like auctions for precious art or collectibles, where interested buyers place incrementally higher bids until a single buyer remains. Several producers, including De Beers, have sold goods through auction. De Beers established a subsidiary company called Diamdel (today De Beers Auction Sales) that uses auctions. Diamdel sells a small proportion of De Beers’ rough diamonds each month. Prices met at these auctions can be used to establish selling prices for the De Beers Sight allocations.
Pros and cons
For manufacturers, tenders and auctions have advantages and disadvantages. On the one hand, diamond parcels sold through tender are often smaller than large Sight allocations. This allows smaller companies with less capital to participate without having to commit to large expenditures. The sales parcels offered at tenders are usually composed of narrower categories of diamonds, which allows buyers to purchase only the specific type of parcel in which they are interested, and for which they may have a specific skill or niche in cutting.
On the other hand, the disadvantage of tenders and auctions is that buyers are not guaranteed a supply, which is the primary advantage of the Sight system. At auctions and tenders, the prices paid each month will vary depending on market conditions. Buyers have no assurance that they will be successful in acquiring diamonds each month. This makes it difficult to guarantee a steady supply for their factories, which makes planning more challenging.
However, buyers have other options to acquire rough diamonds aside from purchasing directly from producers. Mining companies usually sell to a limited number of regular clients, but there are as many as 5,000 individual manufactures in the industry today. These companies must source their rough stones from somewhere. This is how the secondary trading market developed.
Secondary market trading
According to Kimberley Process Statistics, the European Union imported $15.8 billion in rough diamonds in 2014, while producing no rough diamonds whatsoever from mining. Similarly, Israel imported $4.9 billion in the same year without any diamond mining to speak of. This is because the trade and polishing of diamonds take place largely in different locations. It is trading centers that also supply the secondary market.
Secondary market trading is a critical channel for rough diamond supply, particularly for smaller manufacturers that cannot afford to spend millions each month to purchase regular allotments from mining companies. Like polished wholesalers that maintain large inventories and sell to small retailers with small budgets, rough traders can supply smaller quantities to smaller manufacturers on an as-needed basis.
Companies contracted to purchase rough diamonds from large miners occasionally serve as traders, selling rough on to other companies. Such parcels may change hands several times, but they will ultimately fall into the hands of a buyer willing to manufacture them into polished diamonds.
Profitability in this market fluctuates with supply and demand. Due to the ongoing financial crisis, profitability is currently very low, often non-existent. This is why the number of secondary market traders and small manufacturers has been declining.
A diamond manufacturer of any size has several options to purchase rough diamonds. Ultimately, mining companies and their sales practices are what drive the supply of diamonds in the marketplace. In my next series of articles, I will take a closer look at diamond mining to see how the industry has developed as a result of these companies’ decisions.
The views expressed here are solely those of the author in his private capacity. No one should act upon any opinion or information in this website without consulting a professional qualified adviser.
Diamond industrialist Ehud Arye Laniado is a man passionate about diamonds. From his early 20s in Africa and later in Belgium honing his expertise in forecasting the value of polished diamonds by examining rough diamonds by hand, till today four decades later, as chairman of his international diamond businesses spanning mining, exploration, rough and polished diamond valuation, trading, manufacturing, retail and consultancy services, Laniado has mastered both the miniscule details of evaluating and pricing individual rough diamonds and the entire structure of the diamond industry. Today, his global operations are at the forefront of the industry, recognised in diamond capitals from Mumbai to Tel Aviv and Hong Kong to New York.
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