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Stability in the Diamond Market

Stability in the Diamond Market

Rough diamond prices are now stabilizing after years of difficulties in which profits were elusive, midstream vendors and wholesalers complained of challenges and the consumer demand for polished diamonds declined.

Who has the role of being the gatekeeper of the prices for rough diamonds sold to the midstream? Who can ensure that the prices of rough diamonds allow producing adequately priced polished that can be profitable further down in the value chain?

Profitability for Better and Worse

In the last two articles, I examined the broad supply chain for 140 million carats valued at $16.5 billion, which, in my view hardly leaves room for profit in ordinary times, when business is perceived "as usual".

What causes this situation? Is it necessary? Should the blame be squarely placed on the shoulders of the ogylipolic mining sector? Perhaps it is a midstream character trait in which vendors fail to thoroughly calculate through their actions in a rational manner?

Alternately, is it possibly that the downstream - the retailers and jewelry wholesalers trying to improve their margins and constantly lower polished diamond prices - is to blame? Is it the fault of the midstream with its many players, each competing over a piece of the pie – as small as it may be and at any cost? What role does the large fragmentation in the midstream and retail section play?

Why look only at internal forces? Some service providers may also carry some culpability. For example, trading platforms and their asking price based price lists. Do those benchmarks provide accurate guidance for final transaction prices or perhaps they are too vague and subject to varied interpretation by different market participants? Are those price indications useful enough when the midstream evaluates the rough that it purchases from the producers? Perhaps those benchmarks are not the appropriate tool for that particular mission.

Our industry and the whole diamond pipeline share the same interest: attracting the consumer’s attention. Competing for the attention are products close to home, such as jewelry set with semi-precious stones or gold jewelry. Are other consumer items, such as smartphones, handbags, Caribbean cruises, exotic vacations or new luxury cars, gaining hold of the consumer’s desires at the expense of diamond jewelry? We must discover the method for maintaining profitability, on the one hand, while ensuring end user affordability, on the other.

If $22 billion of polished diamonds are too expensive for the consumer and $16.5 billion of rough diamonds are not profitable, then who is the "gatekeeper"?

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Considering the Midstream

I have stated in the past that the cost of rough diamonds should be determined by reverse engineering from the price of polished diamonds that consumers are willing to pay – and not the other way around. In this column, I would like to focus on the midstream.

The midstream is probably the most highly focused technical sector of the diamond pipeline, especially the manufacturers. The midstream receives the rough and it should to have the widest possible view of the polished to be derived of it. The professionalism of this sector and the technological know-how are beyond reproach.

How can such a professional eye, which can price a polished diamond yet to be manufactured, allow rough supply to reach $16.5 billion annually when the derived polished is sold for $22 billion during a “normal” year leaving a profit margin of only $1.5 billion?

Is it possible that the gap between the popular benchmarks, which are based on high asking prices for polished diamonds (designed and made for retailers), and the actual transaction prices provide an unrealistic sense that better prices might be within reach later, after manufacturing the rough?

Generally speaking, actual wholesale prices are ~25%-40% below the price lists. In many cases, the difference could range between 15% and 50%, and even more, above the polished benchmark price. This difference is worthy of consideration if the ambiguous and fluid gap between benchmark and real transaction prices, or just the manner in which it is presented, is causing inaccurate valuation of the diamonds yet to be polished from the rough.

After all, every midstream player knows how to examine rough diamonds and accurately assess their yield in terms of size, color and clarity. As stated previously, the accurate price of the polished diamond per carat, multiplied by its weight, less the cost of manufacturing and profit, divided by the weight of the rough diamond, will provide the true cost of the rough diamond.

Isn’t it the role of the midstream to be the gatekeeper of the whole rough diamond supply and to ensure that it allows proper profitability and affordability all the way to the consumer? By doing so, the diamond can be passed to the downstream at an accurate price and, in turn, a retailer could sell the diamond to a consumer at an affordable price. That is, after all, the kind of business model we would like to see in the diamond industry – accurately priced goods with worthwhile profit margins for each segment of the diamond pipeline.

Is it in fact the responsibility of the midstream, backed by its professionalism and know-how, to say ‘No’ to $16.5 billion of rough diamonds, knowing that the max sales of polished will yield $22 billion, as set by the final buyer – the consumer? If it is $22 billion of polished and nothing more, then the midstream must know that, by paying $16.5 billion for the global diamond production of rough, it is placing itself in a position of limited, if any, profitability. In turn, the pressure is passed downstream by making it difficult to sell the goods to consumers.

Taking advantage of the Crisis

The current crisis provides us with an excellent opportunity to introduce an accurate polished diamond price list. Such a list is based on real B2B transaction prices and not vague benchmark high asking prices that are then discounted many times. Such a list, driven by real time wholesale polished transactions, will offer an accurate basis for reverse engineering the cost of rough diamonds and determining the price that manufacturers should pay for the rough while maintaining profitability and affordability. This applies whether times are good or bad, whether there is a crisis or if it is “only” a normal period, or if someone decides to drop the asking prices every Friday.

It is possible that such a system would guide the midstream to evaluate the annual purchasing cost of the rough diamond supply for manufacturing at the level of $14, $13 or even $12 billion, according to the consumers’ appetite and not at the level of $16.5 billion as has been recently. This is a two-way street and prices can go both ways - if the polished transaction demonstrates growth, the valuation can be $16, $17 or even $19 billion! All according to the consumer’s need. After all, it is the transactions that will determine whether prices rise or fall.

The benefit of such a system is apparent. You may ask, what is to prevent the consumer from learning about the inner B2B trade prices? Wouldn’t it drive them directly to manufacturers, thus bypassing the wholesalers and retailers? How could they profit?

The answer is that the value chain plays a role in every step that a product makes from raw material to final product. Each link in the value chain must create an added value until reaching the consumer – either by transforming the raw material or by applying specialized knowledge for assembling parts together, designing the final product and delivering it to the branded store. Each step must provide an added value otherwise, we are not doing our part for the end buyer!

The miner must know how to extract diamonds from the depth of the ground and profit from it. The manufacturer must understand the qualities of the rough diamond in order to polish it in the most efficient manner and create the best looking polished diamond– and profit from it. The wholesaler must profit from understanding the best channel for delivering the polished diamond and assessing it accurately.

The jewelry designer must profit from his or her design creativity, which is an essential means for selling polished diamonds to consumers. Finally, the retailer must profit from bringing the diamond to the market, marketing it to generate interest, matching the consumers with an item that fits their needs, taste and budget as well as providing long-term service. Each brings and adds value at in every stage of the diamond’s journey from mine to finger.

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Role of the midstream

Due to the ogylipolic structure of the diamond pipeline’s mining sector, the midstream must act as the gatekeeper for the entire value chain! The midstream must know the precise wholesale transaction prices for polished diamonds and derive from it the cost of rough diamonds.

It looks to me that there is currently some confusion in the diamond value chain. Many members are trying to do everything– to be manufacturers, wholesalers, jewelry makers and maybe even branded retailers. This may be creating confusion along the value chain, where each component has a different added value.

This leads to higher rough diamond prices because of the difficulties in assessing each stage toward creating the final product and it eventually makes it difficult to achieve the right price at each stage. Only in retrospect, it becomes clear that the initial rough diamond outlay was too high, disrupting the entire pipeline.

Do not be fooled, we are in the midst of a perfect storm. The price of rough diamonds has been high for years, as the lack of profitability on the midstream has been long lasting due to the internal problems presented since the beginning of the year, coupled with the current global economic crisis, which has its own effect on demand.

The lack of profitability is mainly due to midstream purchases of rough diamonds at loss prices. Do not blame the current economic crisis affecting the world – when the economy recovers, the midstream will continue to suffer from a lack of profitability. Perhaps one of the reasons for over valuation of rough diamonds is the benchmark prices for polished diamonds, which confuse real transaction prices.

After the external economic crisis passes and consumer demand improves thanks to advertising efforts and greater product attractiveness compared to other luxury items, the midstream should retain focus and not allow the margin between rough and polished to return to near nothing and let the diamond industry feel that “we are back to normal”.

This is not “normal” if the profit margin is meager. “Normal” is an acceptable profit margin found in other industries that employ great capital, knowledge and risk! The gatekeepers must ensure that every stage of the value chain enjoys profitability and yields polished diamonds accessible to the consumer – after every stage enjoys acceptable profit and margin.

This leads me to conclude that the introduction of a price list that is based on real transaction prices should be considered. The said price list will provide a more precise indication of the cost of rough diamonds and enable everyone to make a decent living at every step of the diamond pipeline – to the benefit of the consumers.

The views expressed here are solely those of the author in his private capacity. None of the information made available here shall constitute in any manner an offer or invitation or promotion to buy or to sell diamonds. No one should act upon any opinion or information in this website (including with respect to diamonds values) without consulting a professional qualified adviser.

Yom Kippur 2015
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