IDEX Online Research: Charles & Colvard Discloses Operating Metrics

Over the past several years, Charles & Colvard’s core moissanite jewelry distribution channel mix changed dramatically. When moissanite was being introduced, no self-respecting jeweler would have it in their store, because it was mis-positioned as a diamond look-alike similar to CZ or cut glass. About the only outlets that would sell moissanite jewelry were television shopping channels such as ShopNBC.

As a result of Charles & Colvard’s new management team, led by CEO Bob Thomas, repositioning moissanite as a unique gemstone, television shopping channels represent less than 5 percent of the company’s total sales today, while mall jewelers and department stores generate 85-90 percent of the company’s revenues.

This operating metric – distribution channel changes – and other key operating metrics were recently disclosed by Charles & Colvard’s management during an especially candid informational update with Wall Street analysts.

In many ways, Charles & Colvard is similar to De Beers and others in the diamond mining industry. Charles & Colvard makes no jewelry; it simply buys the moissanite crystals from its suppliers and creates the gemstones – jewels – which it then sells to jewelry manufacturers. Return privileges are extremely limited, and the company is currently the world’s sole commercial source for moissanite.

Among the information which Charles & Colvard management released to Wall Street analysts was the following:

• Department stores account for 60-65 percent of moissanite sales – Retailers in this group include Finlay, J.C. Penney, Boscov’s, Van Maur, Kohl’s, AAFES, Sears, and Belk Department Stores. Department store retailers typically maintain inventory of 40 to 70 styles of moissanite jewelry, with an average inventory turn of about once per year. However, this distribution channel has some of the most demanding customers: stock rebalancing occurs at least annually and puts a burden on moissanite jewelry producers to dispose of returned goods. Charles & Colvard supplies only moissanite stones; its suppliers are responsible for producing the finished jewelry and disposing of returned goods. Typically, the returned jewelry is broken apart, the gold is melted, and the stones are re-used. Because Charles & Colvard’s contracts with its jewelry producers provide very limited return exposure to the company, this sometimes results in foot-dragging by moissanite jewelry producers who may be slow to replace returned goods.  

• Mall jewelers account for 20-25 percent of the company’s overall retail base. Retailers in this group include Helzberg, Gordon’s, Kings, Daniels, Alvin’s, and Harry Ritchie. The sell-in at the typical mall jeweler is 18 to 36 styles of moissanite jewelry, because these jewelers have much less display space than department store jewelers. The requirements for sales productivity are very high, with retailers demanding 1.5x to 2.0x turns annually, well above the industry average of about 1.0x annually. The gross margin requirement of the mall jewelers tends to be higher because of the turn rate, the amount of business done on credit (typically about 50 percent of total sales), and because of the higher operating cost structure.

• Independent jewelers probably represent 5 percent or so of the moissanite jewelry sales base – Charles & Colvard experience with independent specialty jewelers confirms industry trends: independent jewelers are a declining distribution channel in the U.S. This highly fragmented channel is being serviced by suppliers such as Stuller, Rio Grande, and Quality Gold. These suppliers generally sell through catalog distribution. Roughly 3,500, or 14 percent of all independent jewelers in America order moissanite jewelry annually for their stores. However, their moissanite sales volume is very low. For moissanite jewelry to be an effective contributor to an independent jeweler’s sales, the merchant must be willing to stock 36 to 60 pieces, along with the appropriate promotional material. Charles & Colvard plans to develop this channel in 2007, but inventory requirements and initial sell-through rates have dampened demand from independents, so far.

• Distance sellers represent 5 percent or so of the company’s business – Distance sellers include television shopping channels, catalog merchants, and online retailers. Retailers in this channel provide significant revenue, when moissanite is being promoted. One hour of selling activity on a major television selling network can generate more retail sales than a regional chain of jewelry stores will generate in a month. The current “distance” retailers include HSN, ShopNBC, Ross-Simon, JCP.com, Amazon.com, Fingerhut, and J.C. Penney catalog. This is a difficult channel to service, since the lead times can be as long as six months. In addition, shoppers return a high percentage of product purchased from “distance” merchants, but the sales volume per show or promotion can be significant.

• About 25 percent of Charles & Colvard’s annual moissanite advertising budget is spent on institutional advertising, with the remaining 75 percent spent on retailer directed advertising, including some support from its moissanite jewelry manufacturers. The institutional component of the company’s fourth quarter (Christmas) ad spend included a fashion and lifestyle campaign as well as an update of the company’s website. The fashion and lifestyle books included full-page color advertising in the pages of Allure, Elle, InStyle, Self, More, Vanity Fair, and Vogue. Each ad was tagged to a specific retailer. The retailers participating in the fashion and lifestyle ad campaign included J.C. Penney, Lord & Taylor, Belk, Boscov’s, Zales Outlet, HSN.com, Carson’s, Macy’s Helzberg, Von Maur, Parisian, Ross Simon, and Dillards.
  
  The company’s most productive promotions are trunk shows, of which moissanite jewelry is shown in “thousands” each year, according to Charles & Colvard management. Further, one of the company’s jewelry suppliers, K&G, has retained Sarah Ferguson, the Duchess of York, to help promote moissanite jewelry, though we believe that this campaign has met with only limited success.
  
  Based on customer research, Charles & Colvard management says its consumer awareness rose by about 35 percent in 2006, from a 7.8 percent awareness level to a 10.5 percent awareness level at the end of the year.

• Last year, only about 10 percent of the company’s business was done in overseas markets. This year, management reports that it has experienced a substantial increase in the number of inquiries from both overseas suppliers and global retailers.

• About 70 percent of the purchasers of moissanite jewelry are women, who are buying this jewelry for themselves. A smaller market exists for moissanite bridal jewelry, often for the second or third marriage. The couple typically wants a large sparkling ring, but don’t want to bust the budget on a gemstone such as a diamond. Moissanite gives the purchaser “flash” for little cash. Further, moissanite gemstones are often sold to couples who want to replace a small engagement ring with a much larger piece of jewelry, but who have a limited budget.
  
  The average retail ticket for moissanite jewelry is well above the jewelry industry average of about $350, but management would not disclose the exact dollar amount of a typical retail moissanite jewelry purchase.