Diamonds on the Rocks

De Beers Case Study

BG665
March 2005
Catalyst
Rough Diamonds courtesy of De Beers Group
De Beers Problem Statement

Context Declining revenues, liquidity problems and

a bloated diamond stockpile are leading
Analysis to decreased profits, diminished return
on equity and a dwindling cash reserve
Plan

Today

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Ring courtesy of James D Julia
De Beers Troubled Times for De Beers (1983)

Context Saturated marketplace

Problems with public relations
Analysis
Rumors of De Beerss demise
Plan Contract negotiations with key suppliers
Emerging suppliers from developed
Today countries

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Ring courtesy of James D Julia
De Beers From Scarcity to Abundance

Context "The first effect of discovering kimberlites

was that it converted diamonds from a
Analysis rare gem to an industrial product like
copper or any other product that you can
Plan mine."
Today
Edward Jay Epstein, The Diamond
Invention, 1982

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Ring courtesy of James D Julia
De Beers The Timing of De Beers

Context 1880 - founded by Cecil Rhodes

1888 - controls 95% of the worlds
Analysis
diamonds
Plan 1893 - signs exclusive deal with the
precursor to the Central Selling
Today Organization
1933 - survives great depression and
buys out the CSO
1967 - discovers large deposits in
Botswana and forms Debswana
1977 - speculation begins
1982 - the bubble bursts

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Ring courtesy of James D Julia
De Beers From Rock to Ring
Rigid control of business model. Forced relationships between De Beers
Context Firm
Infrastructure businesses. World-wide mine locations and a Central Sales Organization (CSO)
with minimal US presence

Human Specialized skills and responsibilities, i.e. Internal market intelligence group
Support Activities
Analysis Resource
Management Minimum US presence due to US regulation

Technology Precise inventory management - location, weight, origination, and the 4 Cs

Plan Development Expansive price controls and management of product value exchange

Aggressive on creation of new inventory though exclusive purchasing agreements

Procurement

Today

Margin
De Beers Cartel Market No
CSO
owns some Maker secondary
Controls
mines Sets market
distribution via Builds
infrequent
Purchases lots and personal Up-sale is
inventory
nearly all provides $ value to only
offering
mined value grading manage consumer
dates
diamonds service financial option
Limited value
Stock piles
offering
diamonds Strong
locations
advertising
Manages
supply to
distributors

Primary Inbound Outbound Marketing & After Sales

Operations
Activities Logistics Logistics Sales Service

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De Beers A Pound of Cash

Context

Value Diamond Jewelry

Analysis Contributor
Mine CSO
Cutters
Dealers
Mfr
Retailers

Plan Cost
markup
percent 15% Rough 20% Rough 10% 50% 100%
Today from prior
Mine
[1] [1] Polished Polished Polished
value
contributor

Percent
consumer
price
24% 3.6% 2.8% 3.0% 16.7% 50%
allocated to
value
contributor

[1] Rough diamonds loose approximately 52% of weight during cutting and polishing

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Figures from Ghemawat Case Study
De Beers The Central Sales Office

Context Serves as gateway between producers and the

rest of the diamond pipeline
Analysis Enforces relationships by minimizing benefits of
defecting and punishing those that do
Plan Is the Market Maker by stabilizing prices and
enforcing market discipline
Today Is the original No Haggle pricing innovator
Dictates pricing, packaging and fulfillment
Aggregates and sorts diamonds by grade
Pursues marketing activities that benefit the
entire marketplace

The perfect vehicle for De Beers to build

their unique relationships

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Ring courtesy of James D Julia
De Beers Marketing Magic

Context Focused, primarily, on the jewelry market

Began calculating number of marriages worldwide
Analysis and adjusting output accordingly in 1890
Reinforced the symbolism of diamonds, wealth,
prestige, love and devotion
Plan
Launched 1939 Diamonds are Forever
marketing campaign
Today Educated purchasers
Moved into new markets
Influenced Japanese women to wear diamond
wedding rings, with 65% in 1982

Primary challenge: diamonds are not a store

of value and have little intrinsic value

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Ring courtesy of James D Julia
De Beers Hangover

Context Except for those few stones that have been

permanently lost, every diamond that has been
found and cut into a gem since the beginning of
Analysis time still exists today. This historic inventory,
which overhangs the market, is literally in the
public's hands. Some hundred million women
Plan wear diamonds on their person, while millions of
others keep them in safe deposit boxes or strong
Today boxes as family heirlooms. It is conservatively
estimated that the public holds more than five
hundred million carats of gem diamonds in this
above-the ground inventory, which is more than
fifty times the number of gem diamonds
produced by the diamond cartel in any given
year.

Edward Jay Epstein, The Diamond Invention

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Ring courtesy of James D Julia
De Beers Pieces of the Pie

Context

Analysis

Plan

Today

Soviet Union South Africa Botswana Zaire

Angola Namibia Tanzania Rest of Africa
South America Rest of World

De Beers owns or controls all output from

South Africa, Namibia, and Botswana

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Ring courtesy of James D Julia
De Beers Global Perspective

Context Marriage rates declining

Divorce rates rising
Analysis
Economy unstable
Plan Recession in primary jewelry markets
Civil unrest plaguing Africa
Today
Middle East in conflict

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Ring courtesy of James D Julia
Analysis

Rough Diamonds courtesy of De Beers Group

De Beers Customers

Context Sightholders
80% cut their own stones before selling
Analysis 20% mark-up on polished stones
20% sold to independent cutters
Plan Dealers
10% mark-up
Today Jewelry Manufacturers
50% mark-up
Retailers
100% mark-up
Consumers
Industrial buyers

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Earnest Oppenheimer courtesy of De Beers Group
De Beers Eye on the Prize

Context
Supplier Value Customer
Analysis
Creation Firms Activities
Plan
Mines CSO Buyers
Today
Cost Value Pay

Appropriation Firms Activities

Mine CSO Buy

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De Beers Five Forces Historical
Threat of New Entry: Very Attractive
Context + High cost of entry
+ Cornered the market
+ Strong Brand
+ Existing mining and political relationships
Analysis + Access to new mines
+ Owns distribution channel
+ Control of output
Plan
Bargaining Power of Customers: Attractive
Threat of Substitutes: Attractive + Only game in town
+ No substitutes for diamonds
Today + No substitutes for diamonds
+ Cultural history + Customs/tradition
+ Social issues/status + War
+ High cost of entry + Quality of product
- Luxury item / not necessity
-/+ Economy

Bargaining Power of Suppliers: Very Attractive

+ Controls output Existing Customer Rivalry: Very Attractive
+ Owns distribution channel + Strong Brand
+ Alliances + Trust already built with consumers and partners
+ Relationships with foreign governments + Historical holdings
+ Cash on delivery + Expertise
+ Control of output
+ Distribution channel

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De Beers Five Forces 1980s
Threat of New Entry: Mildly Attractive
Context + High cost of entry
+ Cornered the market
+ Strong Brand
+ Existing mining and political relationships
Analysis + Access to new mines
+ Owns distribution channel
+ Interest rates increase from 6% to 25 30%
- Zaire sells on open market
Plan - Argyle markets its output

Threat of Substitutes: Attractive Bargaining Power of Customers: Attractive

+ Only game in town
Today + No substitutes for diamonds
+ Cultural history + No substitutes for diamonds
+ Social issues/status + Customs/tradition
+ High cost of entry + War
+ Quality of product
+ Increasing divorce rates
- Luxury item / not necessity
Bargaining Power of Suppliers: Unattractive
- Rising world interest rates
+ Controls output
- Decreasing retail demand
+ Owns distribution channel
- Decreasing marriage rates
+ Alliances
+ Relationships with foreign governments
Existing Customer Rivalry: Very Attractive
- Cash is dwindling
+ Strong Brand
- Zaire does not renew contract (1980)
+ Trust already built with consumers and partners
- Argyle insists on right to market 25% of near-gem
+ Historical holdings
& industrial
+ Expertise
- Sightholders decrease from over 250 to 150
+ Control of output
- Bankrupt sightholders liquidate inventory
+ Distribution channel
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De Beers Financial Trends

Context
3000
Analysis
2500
Plan 2000

1500
Today
1000

500

CSO Sales Op Profit Inventory

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Figures from Ghemawat Case Study
De Beers Key Drivers

Context
2000
Analysis 1800
1600
Plan 1400
1200
Today 1000
800
600
400
200
0
1978 1979 1980 1981 1982

Diamond Inventory Investments Cash

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Figures from Ghemawat Case Study
De Beers Substitutes and Competitors

Context Doing nothing

Other luxury items
Analysis
Other gems
Plan Imitation diamonds

Today
Diamonds owned by consumers
Zaire: selling diamonds on the open
market
Argyle mine

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Earnest Oppenheimer courtesy of De Beers Group
Plan

Rough Diamonds courtesy of De Beers Group

De Beers Alternatives

Context 1) Establish secondary market for

diamonds as investments
Analysis
2) Liquidate smaller, lower-quality
Plan
diamonds, use proceeds to purchase
and hold higher quality stones
Today 3) Find new sources of capital, continue to
buy surplus inventory
4) Decrease production
5) Increase demand

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Rough Diamonds courtesy of De Beers Group
De Beers Alternative 1: Secondary Market

Context Pros
Creates new demand
Analysis
Cons
Plan No universal grading system
Increases speculation
Today
Takes time to establish market

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Rough Diamonds courtesy of De Beers Group
De Beers Alternative 2: Liquidate Low End

Context Pros
Creates much needed liquidity
Analysis
Provides Consumers an affordable
Plan choice
Maximizes profit on larger, higher
Today quality stones
Cons
Must sell diamonds below market
Creates imbalance in inventory

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Rough Diamonds courtesy of De Beers Group
De Beers Alternative 3: New Funding Sources

Context Pros
De Beers can continue purchasing
Analysis
excess inventory
Plan No change in strategy necessary
Cons
Today Long term debt increase
Cost of interest

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Rough Diamonds courtesy of De Beers Group
De Beers Alternative 4: Decrease Production

Context Pros
Decrease inventory coming into the
Analysis
market
Plan De Beers has control over 40% of
production
Today Cons
Others may increase production
Adverse impact to relationship with
diamond-producing countries

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Rough Diamonds courtesy of De Beers Group
De Beers Alternative 5: Increase Demand

Context Pros
Maintain pricing
Analysis
Benefits others in supply chain
Plan Cons
Relatively slow process
Today
Advertising can be costly

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Rough Diamonds courtesy of De Beers Group
De Beers Recommendation: Three Components

Context Acquire additional financing to fund the

purchase of excess inventory through
Analysis the CSO
Plan
Reduce output of De Beers-controlled
mines
Today Employ aggressive advertising strategy
aimed at increasing demand

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Rough Diamonds courtesy of De Beers Group
De Beers Implementation Plan

Context Address the cash shortage - secure

additional financing
Analysis
Decide on operational strategy to ramp
Plan
production down in company-controlled
mines
Today Evaluate or hire advertising agency to
begin working on ways to pull product
through the channel more effectively

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Rough Diamonds courtesy of De Beers Group
Today

Rough Diamonds courtesy of De Beers Group

De Beers Financial Status (2004)

Context Turnover increase in De Beers group over

2003 of 5% - US $6.2B
Analysis
Decrease in operating cash flow from US
Plan
$1.58B to $985M
DTC sales reach US $5.2B
Today Suffering from weak US Dollar
Mining delivers 47M Carats

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Marilyn Monroe on set of Gentleman Prefer Blondes - AP
De Beers Supplier of Choice

Context De Beers is cleaning house and

tightening its circle of trusted partners
Analysis
De Beers restricts Sightholders to best
Plan
performers and brand maintainers that
are not susceptible to lowering prices
Today Sightholders go from 120 to 80 by 2004
DTC sales actually go up from US $5.5 to
$5.7 B while restricting Sightholders

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Marilyn Monroe on set of Gentleman Prefer Blondes - AP
De Beers Marketing

Context De Beers continues its masterful

marketing by creating demand; however,
Analysis the campaigns are increasing in
frequency and beginning to overlap
Plan
compared to the clarity of their A
Diamond is Forever campaign
Today
The company is creating demand in its
international markets with significant
gains in China and India (the largest
markets)

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Marilyn Monroe on set of Gentleman Prefer Blondes - AP
De Beers Diversification

Context De Beers continues to shuffle its

corporate holdings, corporate brands,
Analysis alliances, names and partners
Global trade zones are catching up with
Plan
De Beerss international strategy
Today De Beers faces increasing pressures to
change business practices

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Marilyn Monroe on set of Gentleman Prefer Blondes - AP
De Beers International Legal Issues

Context De Beers settles US Department of

Justice case for Industrial Diamond price
Analysis fixing issues - resolves long running US
disputes, likely opens market further for
Plan
DeBeers in the US
Today Belgian diamond cutting company files
suit in the EU courts against DeBeers for
its Supplier of Choice program
De Beers is working toward compliance in
the African programs for Black Economic
Empowerment (BEE)
Conflict (Blood) diamonds

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Marilyn Monroe on set of Gentleman Prefer Blondes - AP
Questions

Rough Diamonds courtesy of De Beers Group