The De Beers waiting game

| Friday April 23, 2010 00:00

 

'By extending the current intention to offer [ITO] by one year, we are providing both sightholders and non-sightholders with the time they need to focus on recovery,' DTC's managing director, Varda Shine, explained.

She is correct in noting the benefit for sightholders, who have profited from a guaranteed supply of what is arguably some of the best-valued rough on the market. Many may also feel relieved, as they may have had reason to be concerned that they could lose their status on the next sightholder list as De Beers sought to reward those who honoured their ITOs through the 2009 downturn. They will welcome the breathing space.

Shine's statement, however, is quite questionable for those who are bidding to become sightholders when the next contract period starts. They are still anxiously awaiting the opportunity to become De Beers' customers for all the same reasons that sightholders enjoy their supply contracts.  

With shortages and speculation about rising prices plaguing the market, what most recognise in the current environment is that he who has rough is king - particularly De Beers rough. Reports indicate that DTC goods are selling at high premiums in the secondary market, causing one Antwerp-based manufacturer (a non-sightholder) to report growing concern that 'some large sightholders are opting to deal the rough they receive, rather than manufacture, because they can make better profits that way.'

DTC sightholders are afforded the luxury of focusing on the rough or polished markets, according to how prices and demand play out, and many profited accordingly through the downturn. It is no secret that the recovery of rough prices has been steep and confident in the past year, while polished has remained stable and nervous at best. All this is well known and the sightholder / non-sightholder reaction to the extension is quite obvious and expected. We therefore take a different message from Shine's announcement: De Beers itself needs time 'to focus on the recovery,' as 2010 promises to be an important year in mapping out the company's future.

First, after cutting back on its production by 50 percent in 2009, and as it now ramps up again, this year will provide the company with a far stronger indication of what its near-term supply requirements will be for the next contract period.

The postponement therefore affords it time to decide how many clients it can handle, what type of goods they will need and the volumes it can realistically agree to. It may be reasonable to assume that De Beers simply cannot map out its sightholder requirements in the middle of a recession.  The company could also be hedging its bets on the recovery in displaying more 'caution' than 'optimism' in its outlook. With the diamond industry still wary of another downturn, De Beers can ill afford to make the definite supply assumptions that a three-year SOC contract requires.

Perhaps of far greater significance, however, is that De Beers is currently renegotiating its mining and marketing agreements with the Botswana government. Currently, the two have equal stakes in the mining company Debswana, whereby all goods are sold through the DTC's framework.

Botswana has made no secret of its desire to develop a trading hub in Gaborone as part of its beneficiation programme, having indicated that it would like to explore selling through tenders to complement the sight system. What is certain is that as negotiations intensify through to the end of the year, Botswana will likely insist on some changes to the status quo.

With a 15 percent stake in De Beers, Botswana also has the clout to demand these changes, and given the rising speculation that its fellow shareholders may be seeking a way out. Anglo American, which owns 45 percent of De Beers, and the Oppenheimers, which holds 40 percent, may be growing tired of bailing De Beers out. The three shareholders recently proportionally invested $1 billion in the company to boost its balance sheet, allowing it to renew a $1.5 billion credit facility that expired in March - The company's shaky financial position is yet another valid reason that it would want to shelve the sightholder decision as it works to reduce its debt and boost its cash flows.

With all of these cloudy issues facing De Beers in 2010, it makes perfect sense that it would want to buy itself time to focus on the recovery; the company has a lot to recover from and to consider. The last thing it needs at this stage is to deal with those pesky, and often contentious, SOC contracts.

These can now wait another year, while De Beers spins the benefit of this breathing space to the market. Indeed, sightholders will welcome the move, while non-sightholders will sigh in dismay. But make no mistake; the decision serves De Beers' best interests. For now, the best thing it can do regarding its sightholder relationships is to wait and see.