Falling Prices of Small Stones Taking Toll on Miners

Market Analysis
14/02/2019 16:26

The state of the diamond mining industry as 2019 enters full swing is concerning to many throughout the trade. The fall in prices of small, lower-quality diamonds, a staple of many miners, had participants at the Africa Mining Indaba last week concerned about the sustainability of their operations if the market does not correct this year, with some even concerned about their survival.

According to all industry reports in recent months, diamond miners are struggling amid the continuing trend of disappointing prices for small goods in December and January. Historically, January rough diamond sales have been profitable, with manufacturers looking for a fresh supply of rough after the holiday season, but this year was different. De Beers' first sight of the year provided no indication that the sluggishness of the market for lower value rough is ready to subside, while Alrosa’s January sales plunged by 44% and mid-tier miner Petra Diamonds earned near-historical low prices for its rough diamonds from the Cullinan mine in H1, causing its shares to crater.

As Brendan Ryan of MiningMx reports, speakers at the Indaba discussed how the downturn in prices for lower-quality, cheaper diamonds have inflicted pain on a number of diamond juniors who are waiting for a turn in the market or - as Des Kilalea of Canaccord Genuity suggested - for the closure of Rio Tinto’s Argyle mine, which for decades has been the world’s dominant producer of cheap diamonds. Rio Tinto has set its production guidance for 2019 at between 15 and 17 million carats, is winding down its operations and is expected to close by 2021. Other producers are prepared to fill the void left behind, but may not fill it entirely, which leads to the question whether synthetic diamonds will grab a greater share of the market for smalls, or whether decreasing supply will shore up demand and prices. This question may only be answered in a few years' time.

Exacerbating an already difficult situation, Bank of America Merrill Lynch analysts - cited by Michelle Jones in ValueWalk - suggest that Rio has been overproducing and dumping their small-stone inventories into the midstream as they prepare to close the mine. Meanwhile, some newer diamond mines like Gaucho Kué in Canada have also been producing such large quantities of smaller stones that the supply/demand equilibrium at the smaller end of the supply chain is out of balance. The result is an oversupply of smaller stones relative to larger stones amid declining demand. Some rough buyers have been rejecting lower quality and smaller stones, while sightholders, who typically do not have the option to reject, are rumored to want to leave goods on the table. “Worryingly,” as Dudu Harari at BlueDax Rough Diamond Trade Center writes, “this low demand could put a few miners at economic risk.”

Paul Bosma, CEO of junior Firestone Diamonds, seems to agree, telling a forum at the Indaba, “Diamond prices have taken a big dip since 2013 and this is affecting everyone.” He said his Liqhobong mine in Lesotho is currently averaging production of just $75 per carat, but the financial planning for the mine was modelled according to revenues from $107 per carat. “When will the market recover? We have worked out that we have lost between $15 to $17 a carat because of the drop in the market.” Firestone’s share price, along with that of most diamond miners, has taken a beating. As independent analyst Paul Zimnisky in his newsletter recently remarked, "A basket of diamond miner equities was down 29% in 2018, following a decline of 17% in 2017 due in part to idiosyncratic operational challenges of the components but also due to suppressed valuations projected by low future diamond price expectations of investors."

Bosma added, “For now, we are OK … not great … but OK. The situation is so sensitive to the diamond price. At $85 per carat our cash position doubles. If the price sticks at $75 per carat for another two years, then we, Petra Diamonds, Stornoway and Mountain Province are all going to be in deep trouble because we all have debt and we are all just surviving at current prices.” Ben Davis, mining analyst at Liberum, recently told Reuters, “Diamond prices have come under pressure from a toxic combination of deteriorating consumer confidence in China, growth in synthetic jewelry capacity, working capital finance withdrawal ... and jewelry recycling.”  He noted that the tougher landscape is widening the disparities within the diamond mining industry itself. Big players, led by De Beers and Alrosa, have the money and technology to expand in places such as Namibia and Russia, while mid-tier miners like Petra, and smaller players look to eke out the resources from older mines.

Size Matters: Large stones in demand

Multiple forces, including the growing presence of synthetic diamonds on the market, are undermining prices and demand for lower-quality goods. “However,” writes Michelle Jones for ValueWalk, citing Bank of America Merrill Lynch research, “it appears the weakness isn’t affecting the entire industry uniformly.” Diamond miners like Lucara, Lucapa and Gem Diamonds that produce larger stones have reported strong prices and demand for larger goods.

Gem Diamonds, while setting a company record for recoveries in a single year of diamonds larger than 100 carats (15) and of diamonds larger than 20 carats (257), saw their sales jump 29% to $267 million and their average price earned was up by 10% to $2,131 per carat. The miner said that the demand for Letšeng’s large high-quality white rough diamonds have remained firm.

In Firestone’s report on their most recent quarter, CEO Paul Bosma said, "The demand for the smaller, lower value stones deteriorated further during the quarter. Pleasingly,” he added, “the demand for larger, better quality stones remains strong,” but there have not been enough recoveries, and one can never really anticipate the numbers of large, high-value diamonds one will recover. “We have had a couple but these have been fewer and further between than what we expected,” Bosma said. “The jury is still out because we have only been mining for a year and a half. The key thing is: when will the market recover?” Dudu Harari of Bluedax, for one, does not think soon: “There are growing fears of bankruptcy and growing fears of uncertainty about the direction the industry is taking. Worst of all, it seems like there are no solutions to the problems the industry is facing.” It is likely too early for this type of doom-and-gloom, but as of now, he is correct in saying, “The market is facing big changes.”