Aber’s Evolving Strategies

The policies of diamond producers seem to be constantly evolving. It’s not just De Beers with Supplier of Choice, or BHP Billiton with its CanadaMark and Aurias. The greatest policy shifts are discernible at Aber Diamond Corporation, which presently seems to regard its rough diamond production as a means to obtain the polished it needs for its Harry Winston jewelry venture. The company’s now rather clear, calculated and well thought out policies also raise some interesting questions in respect to its largest shareholder, Tiffany and Co. Tiffany has a rough off-take agreement with Aber which still has some eight years to go – but if present policies say anything about the future, one might wonder if that agreement will be renewed when it expires. Especially as Aber says it is eyeing additional mining acquisitions – presumably to serve better its Harry Winston diamond needs.

Aber seems to be doing some very exciting things. In all fairness, there is probably no diamond mining company that publishes more detailed financial reports than Aber or tries to achieve unprecedented levels of corporate transparency. It is mostly from Aber reporting that we know that Diavik’s greater mining efficiencies and enhanced output (at an annual level of some 7.7 million carats) have led in the past half a year to enormous (cash operating) cost reductions of an average $10 p/c (down to $21 p/c) as compared to last year. In the last quarter alone (cash operating) costs went down even further to $19 per carat, achieving a gross profit margin of 74%. When non-cash costs are considered (amortization, depreciation etc.), the gross operating margin goes “down” to 59%, which is still very high and a marked increase over the 44% margin attained in the first quarter of the year. But it must be noted that the reductions at Diavik are achieved at a time when De Beers is suffering ever-higher operating costs because of the appreciation of the South African rand and other currencies in southern African producing countries.

We calculate that the average value of the Diavik production is in the $80-$90 p/c range – and rising. At an average its per carat values are higher than that of most other mines. Aber sold some $98.5 million worth of rough in the first six months during four sales and reported an end of period inventory of some $22 million, a doubling of the inventory of six months earlier. 

But the excitement seems to be truly in the Harry Winston business. The luxury jeweler’s chief executive, Thomas J. O’Neill, who was previously worldwide President of Burberry’s (2001-2004) and, maybe more significantly, previously with LVMH and Tiffany, has ambitious plans for his company. Presently, Harry Winston operates six salons, located in New York, Beverly Hills, Paris, Geneva, Tokyo and Osaka. According to Woman’s Wear Daily (WWD) – an important information source – Harry Winston “is putting into place a growth strategy that includes opening up 45 salons in eight years” and “buying back some of its most legendary jewels.” New Taipei and Las Vegas salons will be opened later this year. Though traditionally Harry Winston tried to focus on diamond jewelry pieces in the six or seven figures range, the company “is looking to grow its existing product mix under $50,000”.

In order to achieve these ambitious objectives, O’Neill has put together an executive team made up largely of the best and finest former executives from Tiffany, De Beers and LVMH. To name a few: Harry Winston Vice President Peter Schneirla previously headed his own company, but before that he served as a Senior VP at Tiffany & Co. Another top executive, Jim Seuss began his career in luxury retailing at Tiffany & Co in 1989, where he helped to build the company's international business, particularly in Asia and Europe, before moving to Gucci in 2001. Another De Beers LV graduate is Ray Simpson, previously head of Business Development at De Beers and Director of Operations at the De Beers LV retail joint venture until 2003. Another ex-De Beers and De Beers LV colleague is Harry Winston’s VP of Market Development Charles Stanley.

            How does the 51% acquisition of Harry Winston by Aber – and its option to buy an additional 49% on the sixth anniversary of the deal – impact its relations with its other major strategic shareholder, Tiffany & Co? Harry Winston is becoming ever more a greater competitor of Tiffany. According to WWD, Harry Winston “plans to launch a diamond jewelry collection of about 20 styles, featuring scaled-down versions of important Harry Winston pieces as more of a daytime diamond jewelry category under $50,000, though its core business will remain the “significant jewelry” where price tags can often go into the millions. Aber is now in the second year of a 10-year agreement with Tiffany in which the latter has the right to purchase a specific assortment of rough diamonds for a minimum of $50 million annually, subject to Aber’s ability to supply such diamonds from its available allocation from the Diavik mine, under a process that is managed by Aber. (Tiffany buys at fair market price minus an agreed discount.) In the first six months of 2004, Tiffany bought only $15 million from Aber, which raises questions whether the annual minimum of $50 million is achievable.

According to market sources, the large specials found in the Diavik mine are tendered between Diavik’s joint venture partners Rio Tinto and Aber. Aber seems to be able to successfully outbid Rio Tinto and get the most; they, in turn, end up being polished for Harry Winston, not Tiffany. When the exciting Tiffany-Aber deal was concluded, there was no Harry Winston acquisition in the planning. In the last quarter, some 33% of Aber’s sales revenues came from Harry Winston, but this will grow exponentially in the future.

Aber seems to be driven by the concept that a diamond mine has a limited time-span. Diavik will be closing down by 2020-2022 unless some major other commercially viable pipes are found in its concession area – something which is not unlikely, but hasn’t happened yet. Diamond jewelry stores are literally “for ever”. Harry Winston was founded in 1932, and has earned international name recognition as one of the world's most prestigious diamond jewelers, at the forefront of American luxury goods brands. (The Harry Winston name is quite synonymous with famous gemstones and jewelry designs such as the legendary Hope Diamond, the Jonker Diamond, the Taylor-Burton Diamond, the Star of Sierra Leone and the Star of Independence.) The Harry Winston business will still be around long after Diavik has closed.

It seems that to Aber Diamond, the 40% rough supply from the Diavik mine has become a “means” to grow Harry Winston. Says O’Neill to WWD: “When diamonds are mined, the largest profit margins are at the two ends of the supply chain, on the mine and at retail. What happens in between is an enormous element, but it is a succession of small processes. We are going to sell our rough diamonds to a series of manufacturers – about 25 to 30 manufacturers – and we have agreements that, in return, they make available a wide selection of stones. At Winston we have very specific needs in color, cut and clarity, and sometimes very unique shapes, and also rare blue and pink diamonds. In exchange for selling our rough stones, it opens up their [i.e. the manufacturers] inventory for us to purchase.”

So while De Beers prefers to sell its rough to Sightholders with visible downstream involvements, and while BHP Billiton seeks customers who want to partner with it in selling its CanadaMark and Aurias branded diamonds, Aber seems to focus on clients who can sell it the polished it requires for Harry Winston. If De Beers didn’t face some legal constraints as dominant producer, it would probably be doing the same for its LV joint venture.

Will mining become less important to Aber? No way. Mines are needed to assure the continued supply to Harry Winston. Aber’s chairman, Robert Gannicott, in response to a question, was quoted saying “Aber’s future isn’t likely to hold another jewelry retail acquisition, but probably a mining one.” That remark will certainly reverberate through many a producer boardroom.