(IDEX Online) – Sarine reported Q2 2017 revenues of $18.2 million, profit from operations of $4.2 million, and net profit of $3.2 million, as compared to revenues of $16.3 million, profit from operations of $3.2 million, and net profit of $2.5 million in Q1 2017.

 

The sequential improvement in operating results was primarily due to the mix of Galaxy family systems delivered, nearly half of which were of various Galaxy models, as well as increased recurring revenues.

 

On a year-over-year basis the firm's results were down, with Q2 revenues of $18.2 million, profit from operations of $4.2 million, and net profit of $3.2 million, as compared to revenues in Q2 2016 of $20.9 million, profit from operations of $6.7 million and net profit of $6.0 million.

 

The year-over-year results were primarily impacted by lower sales, mainly due to the illicit competition in India and higher operating expenses, Sarine said. The lower than anticipated sales are primarily due to the sale of fewer inclusion mapping systems for smaller stones (mainly Meteor systems, but also Solarises), as is apparent from the unusual mix of inclusion mapping systems.

 

"Research and Development expenses remained high, as we were bringing to fruition our new Clarity and Color grading technologies, as reported on 30 July, and adding significant capabilities to our Advisor planning software. The latter is a crucial facet in opening a significant technological gap with the illicit competition in India, as, due to more effective IP protection in later versions, they are limited to the use of our planning software from two generations back. We expect R&D expenses to start coming down in H2, as, among other issues, outsourcing related to the Clarity technology refinement drops off substantially. Sales and Marketing expenses, are being closely controlled, with very minimal expansion of our staff tightly coupled with growth in Sarine Profile rollout. General and Administrative expenses are higher as we are aggressively fighting our IP infringements. We expect these expenses will decrease, as our efforts bear fruit. Operating expenses were further impacted by an approximate 8 percent decline of the US$ versus the shekel in Israel, where most of our compensation expenses, especially in R&D, are incurred."

 

Looking ahead, Sarine made the following comments:

 

1. Fundamental global economic indicators continue to be overall positive, though geopolitical uncertainties in North Korea, Syria and Europe (Brexit) persist.

 

2. In alI significant retail diamond markets, save for the domestic market in India, end consumer demand remains robust. In the second most important market, China, general and retailer-specific indicators continue to show consumer demand for luxury items, in general, and diamond jewelry specifically, expanding after a two plus year hiatus.

 

3. De Beers' and other major producers' sales of rough diamonds in the second quarter of 2017 were lower than in the first quarter, with prices showing minimal increase. The reduced quantities of the sights in the second quarter were absorbed for the most part in the industry midstream, though not all of Alrosa's offered goods in the second week of July were taken, as there are growing concerns amongst manufacturers of overstocking and excessive rough pricing. The July sight was at the high end of our expectations, at a reported $570M, with rough prices flat and all boxes being taken up. This relatively low quantity for a July sight shows prudence both from producers and manufacturers, as midstream inventories of polished stones have increased significantly, and polished stone prices have eroded commensurate with the additional goods available for sale. Expectations are that inventory levels will come down as wholesale holiday-season buying commences towards the end of the summer and into the fall.

 

4. The trends noted above, no negative macroeconomics, continued consumer demand for polished diamonds in almost all major markets and renewed demand in China, should lead to continued normal industry activity in the second half of 2017, assuming polished inventory levels are, indeed, reduced by wholesale holiday-season buying.

 

5. In Q2 2017 we delivered 16 inclusion mapping systems, comprising 6 Meteor systems, 3 Solaris systems, 3 Galaxy systems, 3 Galaxy Ultra systems and a Galaxy XL system shipped to the Botswana service center. The unusual mix of systems delivered this quarter is indicative of the illicit competition in the Indian market (see below) which is primarily affecting sales of our systems for smaller stones, with which their patent/copyright infringing activities more directly compete. We expect these illicit competitive conditions to prevail in Q3, in accordance with the timelines set by the High Court in Ahmedabad for the upcoming court hearings, as discussed below. The Group had an installed base of 332 inclusion mapping systems as of30 June 2017. We note that Sarine's installed base of inclusion mapping systems are currently processing record numbers of stones, with around 33,000 rough stones of all sizes being processed daily (note that these numbers include stones processed by all installed machines, also those bought on a one-time basis without ongoing usage fees).

 

6. Sales programs utilizing Sarine Profile by retailers primarily in the Asia Pacific (APAC) region and North America continue to expand. Programs with retailers in the U.S. are also gaining momentum, albeit slower than those in the APAC region due to various factors, as discussed in our past announcements (e.g., the average quality of stones sold, corporate culture, etc.). In the APAC region we have enjoyed continued geographic expansion this quarter, including commencing services in Thailand with the Aurora Group, as announced on 16 June 2017, and in South Korea with the Golden Dew retail chain. We have concluded plans for launches with additional major chains in APAC (Hong Kong and China, primarily) with actual in-store operations scheduled for the beginning of 2018, due to the scope and operational complexity of the planned programs. Due to the continued successes in the AP AC region, we are doubling our sales staff, with the addition of two additional sales persons in China. We continue to expect doubling the number of stones scanned for the Sarine Profile in 2017, as compared to those scanned in 2016, and, based on previous experience, we expect the second half of the year to show a doubling of the revenues realized in the first six months of 2017. However, due to the long lead-times we are seeing between the signing on to the Profile paradigm to the actual programs' launches (mostly due to operational complexities stemming from their scope, as mentioned above), we lower our expectation of the Profile's contribution to overall Group sales to 3 - 4  percent of revenues this year.

 

7. Our new technologies for the automated, objective and consistent grading of a polished diamond's Clarity and Color grades remain on track for commercialization in Q3 2017, with the formal launch scheduled for mid-September. The technologies' ability to correctly match the average grading opinion of a reference group of multiple human gemologists and the actual polished stone's gemological lab report, when available, within a grade's accuracy, exceeds 97 percent for Clarity and 99 percent for Color. These error rates of3 percent and I  percent respectively are in comparison to the current error rates of manual grading, which we have found to be in excess of 7 percent for Clarity and 3.5 percent for non-fluorescent Color (Color grading of fluorescent diamonds is substantially worse), based on statistical analyses of the manual grading group (note: typically, 10 percent of Clarity grade results are contested). We expect to further improve both these error rates to less than I  percent, as the self-teaching algorithms improve over time. These technologies address the US$SOO million annual 4Cs grading market, which currently generates an estimated 7 million reports a year for stones typically a fifth of a carat and up, at prices ranging from $50 to $100 a carat. We believe that by introducing a cost-effective, consistent and reliable automated solution, the addressable market can be expanded down to polished diamonds of a tenth of a carat and up, effectively increasing the total addressable market value by 50 percent to US$ 750 million annually. We wiII commercialize these technologies, either in conjunction with our Sarine Profile or independently, and charge on a per carat basis, as is the industry norm.

 

8. The AIlegro system's planning optimization algorithms and shaping/polishing hardware are still undergoing re-evaluation, as previously disclosed.