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Rapaport Weekly Market Report 04/16/2010

Insight into trends in the global diamond industry.
Apr 16, 2010 12:00 PM   By Avi Krawitz
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RAPAPORT...

Between the Lines

Mining: Strong Prospects for Mid-Tier Mining Companies

The diamond sector analyst at RBC Capital Markets, Des Kilalea, maintained a positive outlook for diamond mining companies, particularly those that are in production or near production.

“The prospect of constrained supply and firm rough diamond prices underpins the investment attraction of the sector,” Kilalea wrote in a research note about the industry.

He named Petra Diamonds, Harry Winston and Gem Diamonds as his preferred stocks, as they are the only three sizeable kimberlite producers listed independently. Each of these companies, with the possible exception of Harry Winston, emerged from the recession with a stronger market position and had an easier time coping with the downturn than their larger counterparts, such as De Beers, ALROSA, and Rio Tinto.

Kilalea added that a few near-production developers in Canada and southern Africa are also starting to attract investor interest, which has eased previously challenging capital-raising conditions for the diamond sector. While he did not name them, Kilalea may have been alluding to London-listed African Diamonds and the Canada-based Lucara Diamonds, which have partnered to develop the AK6 mine in Botswana, and Canadian companies Stornoway Diamonds and Soquem, which have formed a joint venture for the Renard project in Canada.

AK6 and Renard are the two most promising kimberlite projects that are currently in development, with AK6 scheduled to come on stream in late 2011 and Renard after 2013. Their timing may be perfect as demand is slowly increasing and the global economic recovery is helping the market return to its former long-term outlook, wherein demand easily outstrips supply.

Kilalea concluded that market conditions are working in their favor. “The strength in rough diamond prices will see significant gains in revenue and cash flow for diamond miners in 2010,” he wrote. “This will continue, we believe, to attract investor interest to the sector characterized by a scarcity of investment opportunities.”

Manufacturing/Wholesale: Uncertainties Weigh Heavy on Lazare Kaplan

Lazare Kaplan this week delayed filing its earnings for its fiscal third quarter that ended on February 28, as it has been “unable to resolve a material uncertainty concerning the collectability and recovery of certain assets, and the company’s potential obligations under certain lines of credit and a guaranty.” The diamond manufacturing company still has its earnings from the remainder of fiscal 2010, as well as those for fiscal 2009, outstanding.

The company reported that its “anticipated sales” fell 32 percent to $28.9 million in the third quarter and by 22 percent to $126.1 million during the nine months of the fiscal year to date, after its net sales for fiscal 2009 were expected to drop 48 percent to $192 million. The timing of the company’s accounting woes could not be worse, as “uncertainties” in its balance sheet are aggravated by “uncertainties” in the market.

“Although there are early signs of improving trends, current adverse conditions continue to impact the sectors of the diamond and jewelry industry in which the company operates,” the company explained. “Uncertainties regarding future economic prospects and a decline in consumer confidence during fiscal 2009 and continuing in the current fiscal year translated into lower purchases and sales by diamond retailers, wholesalers and producers and adversely impacted the company’s operations.”

Lazare stressed that it was focused on generating cash flow while reducing operating costs and manufacturing overhead.

“Gross margins remained under significant pressure as a result of price competition, overhead absorption and inventory valuation considerations,” the company added.

Retail: Opportunities Beckon For Michael Hill?

New Zealand-based jewelry retailer Michael Hill reported that sales across its global operations rose 8.5 percent to $243 million (NZD 342 million) in the nine months that ended on March 31, 2010, with its same-store sales up 5.4 percent. The company noted difficult conditions in Canada and the U.S., but good growth in Australia and New Zealand. It reported that in New Zealand dollars, its sales in Australia increased by 9.9 percent, grew by 6.5 percent in New Zealand, were up by 5.4 percent in Canada and rose 1.5 percent in the U.S. The report noted that in U.S. currency, Michael Hill’s sales jumped 28 percent to $8 million. The company entered the U.S. market in August 2008 after acquiring 17 stores from the bankrupt Whitehall Jewelers.

Michael Hill has maintained a strong balance sheet and ended the first half of fiscal 2010 on December 31, 2009, with earnings before interest and tax (EBIT) up 42 percent to $22 million (NZD 30 million). The company had $10 million (NZD 14 million) in cash from its operating activities and decreased its net debt by 37 percent year over year to $26 million (NZD 36 million).

As the markets slowly emerge from the recession, and as opportunities in the retail space continue to surface, Michael Hill may be in a good position to expand its footprint, particularly in the U.S.

Global Markets

United States: The market in New York remains stable but reflects a positive trend, particularly with regard to the demand for 0.50- to 1.00-carat, D-F, VS+ and 2-carat, H-I, SI diamonds. The state of the economic recovery remains foremost in traders’ minds; they are encouraged by the financial markets bull-run, but very concerned about the current high unemployment rate and its effects on consumer spending. Retailers, nevertheless, appear satisfied that both sales and foot traffic have improved, even though these gains are compared against the weak numbers posted for April of last year. Bridal jewelry continues to be their strongest product and revenue source.

Belgium: Dealers and manufacturers returned from the recent holiday periods feeling slightly nervous about the market. In particular, there was concern over speculation pertaining to rough prices. Reports indicate that some large sightholders are opting to trade the rough, rather than manufacture it, causing prices to rise. Polished sellers report that buyers are resisting prices and waiting to see which direction prices move in the coming months before committing to off-site purchases. Still, there is good demand for VS-SI goods, which have replaced VVS stones as the hot item. Sizes above 1-carat are experiencing the most demand.

Israel: Trading continues to improve slowly in the wake of the quiet that characterized the Passover holiday, with dealers still focused on the Far East. The U.S. is gradually improving, but remains weak for local manufacturers. Cutters are finding it difficult to profit due to high rough prices and as they experience gaps on new prices with clients. They are therefore focused on selling off older polished stock from three to four months ago at older prices. There is demand for 3-carat., D-F, VS-SI and 1-carat., H-I, VVS goods. There are also requests for 2-carat., IF, VVS stones.

India: The polished market remains quieter than normal as the weaker dollar continues to affect transactions for certified stones. Reports indicate that sellers have softened on prices and become increasingly flexible about negotiating in order to close deals. Buyers are resisting higher asking prices. There is good demand for melees in J+, SI-lower pique, and overall good demand for 1-carat stones. There are signs of shortages developing for 0.80-carat diamonds. The rough market is also being held back by the weakening of the dollar against the rupee, but remains relatively buoyant.

China: Increased domestic demand has kept local wholesalers busy. Demand is greatest for 0.30-carat to 1.10-carat round stones in D-J, VVS-SI, GIA-certified and preferably EX cut, with rising demand for 1-carat diamonds, especially in major cities like Shanghai and Beijing. Reports from the market indicate occasional demand for diamonds over 3-carats. Recent reports showing growth in the bridal market have encouraged retailers operating in this sector to focus on sizes above 0.50-carat.

Hong Kong: Activity has quieted in April, compared to March, which was a very strong month for the local diamond sector. However, the mood remains upbeat, as the quiet is not considered out of the ordinary for April. Companies selling to China are reportedly seeing good demand. There are reports of rising interest in diamonds for jewelry, smaller stones to be set in bracelets or necklaces and side stones used to enhance gemstones serving as center pieces.

Quote of the Week

“Whenever you find yourself on the side of the majority, it is time to pause and reflect.”

- Mark Twain, American author and humorist

Note: This article is an excerpt from a market report that is sent to RapNet members on a weekly basis. To subscribe, go to www.rapnet.com or contact your local Rapaport office. The writer can be contacted at avi@diamonds.net.

Disclaimer

©Copyright 2009 by Martin Rapaport. All rights reserved. Rapaport USA Inc., Suite 100 133 E. Warm Springs Rd., Las Vegas, Nevada, USA. +1.702.893.9400. This Rapaport Market Report is provided solely for your personal reading pleasure. Nothing published by The Rapaport Group of Companies and contained in this report should be deemed to be considered personalized industry or market advice. Any investment or purchase decisions should only be made after obtaining expert advice. All opinions and estimates contained in this report constitute Rapaport`s considered judgment as of the date of this report, are subject to change without notice and are provided in good faith but without legal responsibility. Thank you for respecting our intellectual property rights.

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Tags: Avi Krawitz, African Diamonds, Alrosa, Australia, Avi Krawitz, Belgium, China, De Beers, Gem Diamonds, GIA, Harry Winston, Hong Kong, India, Israel, Jewelry, Lazare kaplan, Manufacturing, Michael Hill, Mining Companies, Petra Diamonds, Production, RBC capital markets, Research, Rio Tinto, Sightholders, United States
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