Did a Troubled 2017 Promise Growth in 2018?

Did a Troubled 2017 Promise Growth in 2018?
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Is the diamond industry moving forward? Is it on a growth track? Is it taking steps that would lead it to capture market share from other luxury goods, greater share of wallet, or at least improve its margins? Looking at 2017, it was somewhat better than 2016, which in turn was an improvement over 2015. Yet an uneasy feeling is lingering around, reminding us that “better” is conditional at best.

Although diamond jewelry retail sales were not very good during most of 2017 in the US, there were improvements in China and India, the second and third largest diamond jewelry consumer markets. The midstream of the diamond pipeline had a tough year, but not as bad as the previous one. Miners found that they too need to be innovative, and took steps in that direction.

Retail

In the last two weeks of December, a sudden surge in sales took place, especially felt in the US market and in trading centers. Independent specialty jewelers reported that last-minute sales were higher than expected. In response, many retailers were quick to pull goods from wholesalers in Mumbai, Israel, and Antwerp.

Consumer demand was largely characterized by purchasing higher price point diamond jewelry items from specialty jewelers, mainly independents, while those looking for a low-cost item turned mostly to department stores and online retailers. The latter did better than usual, capturing a growing market share of the lower-cost diamond jewelry category. According to Mastercard SpendingPulse, online jewelry sales started early in November and were especially strong, thanks to heavy promotions. Overall, it estimates jewelry sales rose 5.9% year-over-year, outpacing overall holiday retail sales growth, which stood at 4.9%.

Amazon reported a record holiday season, without disclosing specific figures. Remember that Amazon is a volume player, especially in jewelry, with many of the jewelry items it sells of very low value. Fine jewelry best sellers were mostly below $50.

Consumers have a growing interest in branded diamonds. Branded jewelry offers the same kind of allure as diamonds, but it is even more enticing.
Strong online jewelry sales during the holiday season were not limited to general merchandisers such as Amazon. Signet reported online sales of $210.5 million, up 47.7% year-over-year, an important turn from the poor performance that hurt the company during the 2016 holiday season.

Despite the strong online results, Signet had a miserable holiday season, reporting a 5.3% drop in same store sales, and a 3.1% decline in overall holiday sales to $1.88 billion.

The issues affected not only the US market; Signet’s UK division also suffered from declining holiday sales, due, worryingly, to bridal and diamond fashion jewelry. Bridal is a key category for specialty jewelers, in general, and for Signet, in particular.

Another public specialty retailer, Canada-based Birks, reported a modest 2% growth in same store sales. The company credited Birks-branded products, targeted marketing campaigns and growth in online sales. The growth in sales excludes two working stores. Birks was hurt by poorly timed major renovations at two of its flagship stores, leading to a 4% decline in overall holiday sales.

I find it interesting that Birks points to its own brand as an important sales driver. Research conducted by NPD during 2016 and the first quarter of 2017 found that consumers had a growing interest in branded diamonds. Branded jewelry offers the same kind of allure as diamonds, but it is even more enticing because of its design elements and the ability of friends to identify the brand.

High-end retailer Tiffany reported that global same store sales were up 5% during the holiday season. In the Americas, (mainly the US), same store sales improved 6%. The Richemont group reported strong performance by its jewelry segment, which includes Cartier and Van Cleef & Arpels. Jewelry sales were up 11% during the December ending quarter.

Alternative financing sources are an excellent development for the industry. A slower supply of financing, more vigilant oversight, and the understanding that a company is burning its own money – not the banks – are all overdue.
The results at Tiffany and Richemont prove that high quality, well-designed, top brands are luxury segment leaders. While they cater to a very well-defined customer base, lower price-point items can be as attractive if they have great workmanship, are well designed, and offered by a strong brand.

Need proof? Think Pandora. The charm retailer posted a 15% growth in same store sales.

Despite declining foot traffic at malls, a few department stores reported decent sales, specifically of fine jewelry. Among them, JCPenney “encouraged” by sales performance during the holiday season, led others in fine jewelry. The retailer also noted double-digit online sales growth, “largely driven by sought-after gifting categories such as fine jewelry.”

Macy’s, which has been struggling for some time, posted a 1% same store sales growth, noting fine jewelry as a top performer.

The largest specialty retailer in China, Chow Tai Fook, reported a 12% growth in same store sales in Mainland China during the last three months of 2017. While this is good news for fine jewelry, the growth in sales was mainly in gold products. Sales of gem-set jewelry declined by 1% in China, but shot up 22% in Hong Kong. An odd twist to this is that the average price of purchased gem-set jewelry was up 10.6%. These results and those by other Chinese retailers tell us that China is a mixed bag for the diamond industry. The bottom line is that Chow Tai Fook may have lost diamond jewelry market share to other retailers in China during the last quarter of 2017.

Same Store Holiday/Quarterly US Sales

Signet (5.3%)
Birks 2%
Tiffany 6%
Richemont 11%*
Chow Tai Fook12%**
Mastercard 5.9%
US Specialty Retailers 3%^
* Global sales
** Mainland China
^ Estimate
 

Polished Diamonds: No Growth in Demand

Based on our ongoing market research, consumers are not exhibiting growing desire for diamonds – either in value or in volume, resulting in price stagnation – and for this reason, the midstream of the diamond pipeline has been under duress for a number of years. Many Americans are either asking themselves why they should buy diamonds or questioning their “wholesomeness”. The majority are simply after that good-ol’- American quest of paying less.

Before diving into what to do about this problem, let’s look at where it is leading to at this point. Polished diamond prices have been declining for several years, with the exception of a positive bump in 2014, which was a good year for polished diamond wholesalers.

If you followed the major specialty retailers on Instagram, you know how poor the major retailers preformed. It was dismal. Total underutilization of the medium. Seriously, I wanted to cry.
In the three years since 2014, polished diamond prices have been generally declining. First, at a fast pace in 2015, and then the rate of decline slowly moderated. During mid-2017, prices were especially weak for a four-month stretch. From May to August, with very few exceptions, prices fell across the board in every category. Not only was this a period of vacations, but also of a slowdown in sales and demand, that hurt the diamond industry to the point that it took more than a few companies to the brink.

Eventually, in December 2017, several categories such as one-carat rounds had price increases, and to a certain extent, the tide has turned.

These three years were very painful for the mid-section of the diamond pipeline; however, as wholesale polished prices hint – there is a small improvement. And the reason surprisingly has little to do with consumers and much to do with what is happening in this part of the diamond pipeline.

These changes are part of an evolutionary process affecting the diamond industry. This extended period of value erosion has forced a number of processes to take place, and touches on a number of key issues:

  • Overpopulation
  • Financing
  • Excessive supply

Overpopulation: The diamond industry assumed the aura of a very lucrative business where anyone can make it rich as a diamond trader. As a result, we saw an influx of people into the industry to the point where there were too many people. This may sound like an odd statement, but somehow, the industry was able to sustain more and more players without adding any value to the trade as a whole. The cost was that the butter (as much as was available) was spread so thin that there was just no way it could any longer sustain everybody.

Many small traders and brokers, people whose only job was to move polished diamonds from one office to the next, without adding value but clearly adding to cost, slowly found that they could no longer make a living. They closed and left in Antwerp, more so in Ramat Gan, and especially so in Mumbai. This created some breathing space for the rest, but it is an ongoing process that needs to continue.

This streamlining is also taking place in another part of the midstream: manufacturing. The industry suffers from overcapacity, and the shrinking demand for polished is leading to shrinking manufacturing needs. The layoffs were inevitable.

It is important to note that the industry’s midstream is not going through a consolidation process, but rather through a shrinking process. We are not seeing companies merging, but companies closing, and people leaving the industry.

Financing: As banks pulled out, two things happened – companies became less leveraged, relying more on self-financing, and new financing options entered the market.

Obviously, the over-leveraging of many companies in the industry, mainly in India, has harmed the industry’s ability to operate during a downturn. Banks escaped the industry like it was a leaky ship sinking in a stormy sea. They were partially replaced by alternative financing sources. These new backers are sophisticated. They learned from the mistakes made by banks, and some of them were already intimately knowledgeable about the financial state and activities of the companies when they started providing them with credit. Others have on hand former diamond people deeply familiar with how diamond firms flow their cash.

De Beers is creating a platform of tracking diamonds throughout the diamond pipeline – from mine to store. This is nothing short of revolutionary.
This is an excellent development for the industry, which needs to be more fiscally cautious. A slower supply of financing, more vigilant oversight, and the understanding that a company is burning its own money – not the banks – are all overdue.

Excessive supply: It is a diamond industry legacy that miners supply rough diamonds at a self-determined pace, the manufacturing sector takes it in at almost any cost, and then all pray together that the consumer market absorbs it all. However, those days are almost gone, but not completely.

The miners still try to offload their entire production, but their clients are far more discerning about what they take. If the price of a rough diamond assortment is too high, they may turn it down and buy those goods at tenders. The combination of changing consumer demand and consistently high polished diamond inventories that tie up wholesalers’ working capital resulted in a pushback by manufacturers.

That slowed the supply of rough during the past year. India’s rough diamond imports fell 25.8% month-over-month in July and another 26.5% in August, De Beers’ Sight 8 was down 26% compared to Sight 7, and ALROSA’s supply was down 19% in July and another 11% in August.

Excess supply was not limited to rough diamonds, naturally extending to polished diamonds as well. High inventories of polished were an issue throughout 2017. Only in late December did inventories decline as the supply of fresh goods from manufacturing finally slowed down enough to allow this to happen. Only in December, after the drop in manufacturers’ rough diamond purchases during the summer, and after consumers exhibited last-minute demand, did polished diamond inventories held in the trading centers finally decline.

So why is this an evolution? Because it was clear for a while that the industry had to adapt to the changing market. This is not easy for a very traditional industry. However, we are seeing a slow process of important changes taking place. The shrinking number of players is positive, alternative financing is good, moderating supply to fit consumer is important. These are all changes that will benefit the industry in the long run.

Consumers are not exhibiting growing desire for diamonds – either in value or in volume, resulting in price stagnation
Some issues remain. It used to be that the wholesalers’ season started in September, when jewelry retailers wanted to get first choice diamonds to keep in inventory. Over the years, the season has started later and later. In 2017, it was the worse – not starting until the second half of December.

The good news for wholesalers in December – a pick-up in polished sales, lower inventories with the resulting cash flow, and freed capital – led to concern. Now, wholesalers have an optimistic outlook, and when that happens, coupled with cash in hand and lower inventories – you should expect them to rush to buy rough diamonds.

One trader told me that manufacturers have no restraint. I think that is a little harsh, but, at this point, there is already plenty of demand for the first Sight of the year. Several Sightholders even asked for extra supply. An early estimate pegs De Beers’ Sight 1 at well north of $600 million.

Rough Diamonds

Along with the dip in polished diamond prices, prices of rough diamonds also waned mid-year, along with the decline in supply, before making a small recovery late in the year. Manufacturers state wholeheartedly that when rough diamond prices declined, they did not do so fast enough and never caught up with wholesale polished diamond prices. On average, rough diamond prices eventually rose an estimated 2% during 2017.

Supporting this assessment, Stornoway completed the first full year of diamond production at Renard. It created an index of prices of the goods it produces, showing that prices were up 1.6% during the year (January to December), and up 3.1% in the fourth quarter after the price drop in August.

According to Okavango Diamond Company Managing Director Marcus ter Haar, their tender sales showed a 3% price growth.

Despite the eventual price growth, supply declined. In 2017, De Beers’ rough diamond sales were estimated at $5.3 billion, decreasing 5% year-over-year. ALROSA’s rough diamond sales were $4.17 billion, also down 5% on the year. Conversely, Rio Tinto, the third largest diamond supplier, reported a large growth in production – up 20.5% to 21.6 million carats. Rio Tinto is expected to lower production in 2018 to 17–20 million carats.

No Real Price Growth

As a commodity, diamond prices were average in 2017. They didn’t soar like gold or lumber, and didn’t nosedive like orange juice or rubber. Rough was a little up and polished a little down. This is not stellar, but not surprising either.

Diamonds had very mild price fluctuations; their prices were relatively stable.

Did a Troubled 2017 Promise Growth in 2018 - 2017 commodity changes

Commodity Price Change 2017

Sources: Mercury Diamond, Bloomberg, MarketIndex. Analysis: Edahn Golan

Industry Growth Outlook

Retail: Retailers need to reach a decision about their position on lab-grown goods. Are they another category alongside semi-precious, pearls, and natural diamonds, or a substitute for them? This requires different positioning and will have great impact on the diamond industry. My hope is that they choose the first option. Lab-grown are a technologically-driven product and, as such, will become cheaper and cheaper. You can’t position yourself as a luxury retailer if you sell cheap.

Marketing: Category marketing is a must. The miners are already financing this through the Real Is Rare campaign. This is a great start, but other parts of the industry need to provide greater support.

Branding: Brands are of growing importance. Consumers like the confidence they offer, retailers can generate better margins, and the sell-though is faster. Also, it is easier to promote a brand than a generic category. Expect a growth in demand for brands.

We should be cautious with American consumers’ desire for lower price-point items. This is hurting the diamond industry in many ways. We must resist it. First, we need to create a clearer separation from lab-grown.

More importantly, we should learn from other industries that have succumbed to that trend. If we don’t, we shouldn’t be surprised if we find ourselves in the same situation as fashion manufacturers in the textile industry: forced to offer a lot, often, and at ever lower costs. This forced many fashion companies to outsource their manufacturing to low-cost labor counties such as Bangladesh where factories are notorious for their substandard (and at times sub-human) working conditions.

That is a low that the diamond industry just cannot allow itself to reach. The only way to fight it is by promoting the diamond category like crazy. Lift it, elevate it, brand it, and deliver an excellent quality, high standard, ethical, yet fairly priced product. If we succeed in that, we have a future.

Social Media: If you followed the major specialty retailers on Instagram you know how poor the major retailers preformed. It was dismal. Total underutilization of the medium. Seriously, I wanted to cry.

Posts were boring and predictable with average (not to say blah) photography, flat lighting, uninspiring imaging, and no story. Firms did not take advantage of the medium or opportunity. Tiffany was an exception, though its wooden mannequin was an eerie and odd creature.

 

A post shared by Tiffany & Co. (@tiffanyandco) on

Seriously, how difficult is it to find an excellent photographer and create a well-lit, rich image that makes your jewelry enticing? Don’t know how to do it? Get in touch with a local photographer. It will cost you less than you think and generate more than you can imagine. Another option: get in touch with one of several media outlets in the industry, writers, or PR folks, and ask them how to do it. They will be more than happy to help you out. Remember, the trade press is in love with the industry and wants to see it succeed. They want to help you out!

Lab-grown: The Harmonized System (HS) is an internationally standardized system of names and numbers that classifies traded products internationally and is used when importing and exporting goods. Currently, lab-grown are imported and exported as diamonds. We need a separate HS code for these stones.

Currently, India is the only country that has a separate code, which means that importing lab-grown as diamonds is a crime. There is a drive to implement this internationally, and I urge you to demand this in your local market.

Demand: Expect a growth in rough diamond demand in the first quarter of 2018. Demand in January is already high. This will run until diamond polishers hit another bad spot.

Data: To further evolve, we need a better understanding of the market. That requires data (full disclosure: this is the area in which I operate).

Big data, which tracks real consumer demand, changing inventories, availabilities, demographics, and purchasing habits will accurately tell us which specific goods are moving, and at what pace and price.

It will show us how color, make, lab, branding, geography, consumer-buying habits, income, age, and more impact diamond jewelry purchases. In turn, the diamond industry will be so much more efficient – able to find the right goods for the right consumer and to make sure they are targeted in a timely and successful way.

A couple of past initiatives did not find their way into manufacturers’ hearts. That is too bad. There are a few more under development. Hopefully, the industry will embrace these new initiatives:

Blockchain: “Blockchain” is the annoying buzz word that replaced “Millennials”. That said, just as Millennials are an important demographic that needs to be catered too, blockchain will impact us as well.

There are a number of initiatives to launch blockchain-tracked currencies backed by diamonds and to offer a way to invest in diamonds. However, a far more important initiative is the one offered by De Beers.

De Beers is creating a platform of tracking diamonds throughout the diamond pipeline – from mine to store. It will allow tracing diamonds, impact our ability to report on our ethical standing (and improve on it), make financing the industry easier, and separate natural diamonds from lab-grown. This is nothing short of revolutionary.

Rough Diamonds’ Loopy Ride
Marketing, Sure – But of What Kind?

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