De Beers Mining problems

Diamonds are Forever

found at The Business Magazine, UK - Aug 15, 2007

In Canada’s remote north, mining eng­ineers are about to begin production at Snap Lake, the latest in a string of diamond mines to spring to life in this barren wilderness. The global diamond industry has reached a crucial turning-point: Snap Lake will be the first mine outside Africa for De Beers, the South African company that for years held a controversial monopoly over world supplies.

New discoveries in Canada have irrevocably altered the balance of power in this $13bn (£6.5bn, E9.5bn) industry and left De Beers scrambling to redefine its role. Close to Snap Lake are Rio Tinto and BHP Billiton, two formerly bog-standard mining groups that have reinvented themselves as new rivals to the South African giant in the world’s most glamorous market; they produce more than $1.65bn in rough diamonds between them annually from two mines at Diavik and Ekati.

Canada is already the world’s third-biggest source of diamonds behind Botswana and Russia; De Beers, seeing its world dominance evaporating, is desperate to even the scales. Along with Snap Lake and a second mine, Victor, in northern Ontario, due to begin production next year, De Beers is working on 30 potential mines across Canada. The northern tracts of this vast country have become the new diamond battleground.

If any company can claim to have invented an industry single-handedly, De Beers, presided over for 90 years by South Africa’s Oppenheimer family, is it. At the height of its powers in the 1980s, De Beers controlled 80% of all diamond supplies, which gave it the power to hold back stock in lean times to keep prices high. It was a cosy, profitable cartel.

A backlash was inevitable, but the intensity of it, when it came, stunned the Diamond Lords. In 1998, a London-based pressure group, Global Witness, shocked the world with claims that many of those sparkling gems were paying for guns and bombs in strife-torn African countries, such as Sierra Leone and Angola. De Beers, which initially failed to take Global Witness seriously, found itself accused – through its role as the main buyer of diamonds across Africa – of knowingly bringing these “conflict diamonds” to market. The theme rages on to this day, even inspiring Blood Diamond, a film released last year starring Leonardo DiCaprio and Jennifer Connolly.

De Beers and the diamond industry have since introduced kitemark schemes intended to prove that diamonds on sale in London, Tokyo and New York come for reputable sources. But this was just the beginning of De Beers’ woes.

Another pressure group, Survival International, accused the company of driving Bushmen in Botswana from their ancestral lands to make way for diamond mining. The claims were consistently denied; but the dreadful publicity – Iman, a famous model, quit as the “face” of De Beers in disgust – did little for the company’s cause.

Today, De Beers and its rivals still face continual leakage of smuggled stones from troubled corners of Africa, including the Ivory Coast and the Democratic Republic of Congo. It has been estimated that up to 20% of Sierra Leone’s production is being smuggled out of the country. The diamond industry has signed up to the Kimberley Process which mandates tamper-proof containers and package-tracking to stop “blood diamonds” from mixing with legitimate stones; but it is proving impossible to snuff out illicit supplies entirely.

The South African company is now facing another series of intractable, yet very different, problems. De Beers risked the loss of one of its biggest customers, Russia, after competition authorities in Brussels ruled that De Beers was operating a cartel with Alrosa, the giant Russian diamond miner. Alrosa channelled rough gems through De Beers’s London sorting house in return for commission. The decision was overturned this summer but the threat to Russian supplies has already hit home. De Beers’ worldwide rough diamond sales in the first half of 2007 fell 7% to $3.4bn.

In further setbacks, authorities in South Africa have slapped an 8% royalty tax on diamond sales and compelled De Beers to sell 10% of its output to small and black-empowered diamond cutters. Last month, a strike by thousands of mineworkers in South Africa was averted after De Beers caved in to demands and agreed wage increases of up to 10%.

But the company’s fundamental problem – the one it is belatedly addressing with its new mines in Canada – is that it continues to source most of its rough stones from South Africa, Botswana and Namibia, with vast deposits in the Kalahari Desert and on the seabed off the Orange River mouth. Botswana’s Jwa­neng open pit mine is the richest diamond mine in the world, producing 14m carats of rough diamonds a year.

Southern Africa’s mineral wealth is slowly being depleted; the balance is shifting in favour of new deposits in the northern hemisphere. Russia, with massive open-pit mines in the Arctic Circle, supplies 21% of the world’s rough diamonds. Canada’s Ekati and Diavik mines alone contribute about 15% of world rough diamond supplies.

The days when De Beers’s London-based Central Selling Organisation – now renamed Diamond Trading Company – was the sole conduit to most of the diamond trade are long gone. Its mines supply only 40% of the world’s rough gems, half the level of two decades ago. For 2006 as a whole, De Beers shifted $6.6bn in rough gems, generating earnings before interest, tax, depreciation and amortisation (ebitda) of $1.2bn.

Realising that its monopoly days are over, De Beers has redefined its role to one of “supplier of choice”, using its brand name, rather than its market dominance, in an attempt to carry weight with the diamond cutters in Antwerp and Tel Aviv.

On the High Street, a belated attempt to sell De Beers’s branded diamonds – via a joint venture with LVMH, the French luxury goods group – has run into competition from Lev Leviev, an Israeli billionaire. Leviev has also muscled in on De Beers’s home turf, opening sorting and polishing centres in Namibia, Botswana and Angola.

But De Beers has also made some progress. In 2004, it settled an anti-trust lawsuit in America in which it was accused of conspiring with General Electric to fix prices of industrial diamonds; in 2005, De Beers paid $250m to settle various class action lawsuits in America that accused it of overcharging.

Its corporate structure has also been modernised. De Beers and Anglo American, inextricably bound up through cross-shareholdings for decades, are no longer joined at the hip, though Anglo retains a 45% stake in De Beers. The Oppenheimers still own 40% and 15% is held by Debswana, the De Beers/Botswana joint diamond mining venture.

The world’s two biggest diamond jewellery markets, America and Japan, remain robust; the new rich of China and India are becoming increasingly significant consumers. De Beers expects world diamond jewellery sales to grow by 4%-5% this year. Rough diamond prices are increasing, though the curb on gems from Russia – while uncertainty over the EU wrangling remains – will constrain full-year sales.

De Beers had it easy for years; change, when it came, was brutal and unforgiving. Perceptions that it has brutalised Bushmen and cosied up to African warlords, even if misplaced, have proved hard to shift. Being dragged down in endless disputes with anti-trust authorities hasn’t helped either. Ultimately, however, there is no tougher discipline than that of the market, especially for an erstwhile cartel. Shaking off brash and increasingly powerful new rivals like Lev Leviev will prove the toughest challenge of all.

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