While the financing problems within the diamond industry pale in comparison to the credit crunch in the international markets, the remarkable events of the past week also saw a drama around Fortis Bank and its ABN AMRO ‘stepchild’ for which new parents are now being sought. What concerns us most is the future of the International Diamond and Jewelry Group (ID&JG), which is the world’s single largest lender to the diamond industry, with an exposure currently above $3.5 billion. The heads of this group, Victor van der Kwast and Loet Kniphorst, are worthy of an Oscar for high-quality, even courageous, acting. When in recent weeks senior executives of Fortis confirmed that they are discretely seeking to sell the diamond division, the relevant actors dismissed this as ‘rumor.’ When management flew to London for talks with ICICI on concrete proposals to sell the diamond financing business, our Antwerp friends simply denied it. (Later it appeared that the talks were never serious.)

The ID&JG heads reminded me of a movie where a wife storms into her bedroom and finds her husband cuddled up with another woman – who then nakedly flees the scene. “Who is that woman?” thunders the wife. “What woman?” responds hubby. “The one that just left!” Says husband innocently, “I didn’t see any woman; I really don’t know what in heaven’s name you are talking about.” There are certain situations in life – and also in a banker’s life – where there is only one thing you can do – and that is ‘deny.’ Panic and uncertainties must be avoided at any price. Our friends at ABN AMRO in Antwerp had a rough time while ostensibly working towards full (and really unwanted) integration with Fortis on the one hand, while the very same executives were working with their new parents to leave no stone unturned to pass their diamond stepchild on to other parties.

Before the dramatic events of this week the parties with whom talks were in various stages of deliberations included the Royal Bank of Scotland, the Standard Chartered Bank and HSBC. Apparently, there also were contacts with the U.K.-headquartered Barclays Bank, a 300 year-old bank operating in over 50 countries and employing more than 150,000 people. Various proposals were on the table, including a consortium model where there would be more than one owner of the division.

Today, our friends in Antwerp can stop acting. The entire ABN AMRO bank is formally up for sale, after Fortis was bailed out with a €11.2 billion (about $16 billion) injection from the governments of the Netherlands, Belgium and Luxembourg. In return, these governments secured a 49 percent ownership stake in various parts of Fortis. The Belgium government invested €4.7 billion in Fortis Bank (Belgium); the Dutch government put €4.0 billion in Fortis Bank Nederland (Holding) N.V. and Luxembourg spent €2.5 billion in that country’s Fortis Bank. What complicates the situation somewhat is that the ID&JG belongs to the Dutch Fortis, even though the ID&JG is headquartered in Antwerp. 

Parts of the ‘old’ ABN AMRO have already been integrated into the Royal Bank of Scotland, or have been otherwise disposed of, such as the La Salle bank in the U.S., and the banks in Brazil and Italy. Fortis has also completed the absorption of ABN AMRO’s Asset Management. Fortis has thus been left with ABN AMRO’s international private banking, its retail banking (mainly in the Benelux countries) and the international diamond division. As the Dutch central bank had, as of the crisis date last week, not given the necessary regulatory approval to the merger between Fortis and ABN AMRO, the latter bank (or, more precisely, what is left of it) remains an independently operating bank, managed by its own board.

The problems concerning Fortis caused many savers and corporate clients to withdraw billions of dollars in just a few days. Its share price plunged. Many ABN AMRO clients followed suit, not realizing that ABN AMRO is still an independent, and, it claims, quite successful, entity. Jan Peter Schmittmann, the managing board member responsible for ABN AMRO’s Business Unit (BU) Netherlands, who in the past was also responsible for the bank’s diamond division (he was the direct boss of previous ID&JG head Peter Gross), placed full-page advertisements in the Dutch press to reassure clients that “ABN AMRO enjoys a good financial position; its balance sheet meets all the capital adequacy requirements of the Dutch central bank.” Executives of ABN AMRO reportedly visited important clients to convey the same message.

Government Stewardship in the Sale of ABN AMRO’s Assets
Schmittman, in his statement, also noted that the fact that the (Dutch) government is now involved in the bank should present an added comfort level. What is far more relevant to the ABN AMRO diamond division is that the Belgian government now has a financial and political stake in the future of the bank. Fortis and the Benelux governments, as part of the agreement hammered out this week, have committed to selling ABN AMRO for about €11-12 billion. This is less than half of what Fortis paid a year ago for these same assets. After Fortis Chairman Maurice Lippens stepped down this week, “The new chairman will be recruited from outside the company in consultation with the Belgian government,” a Fortis statement read.

The Belgian government is certainly the first among equals in the decision making process that will lead to the sale of the ABN AMRO bank – or the separate sale of various parts if that becomes the more realistic option. The governments of Belgium, the Netherlands and Luxembourg will receive significant board representation in the respective Fortis banks. The Dutch government has gone on record that, when considering to whom to sell ABN AMRO, it will ensure that the bank will end up in safe and strong hands. This undertaking, made by Finance Minister Wouter Bos, directly affects the diamond division as well.

This by itself is good news for the diamond industry, which had been very worried about the possibility that there would be a reduction in available industry financing, or that it needed to work with a bank that is either on its way to a bail-out or to bankruptcy. Especially after Belgium also committed $9.2 billion for the (Belgian-French) Dexia bank bail-out, after its shares also collapsed, there is no chance in the world that the vital interests of Antwerp consumers – i.e. Antwerp diamantaires – will not be considered when a new home is sought for the ID&JG.

Even though technically this may be more of an issue for the Dutch government, the Belgian partners in Fortis will make it clear that diamond industry contributes some 7 percent to the regional GDP. Both the Belgian and Dutch governments are acutely aware of the enormous role ABN AMRO plays in financing the Antwerp diamond business. Without banks, the Antwerp diamond business would evaporate.

The ID&JG has actually performed amazingly well since it was acquired by a consortium of Fortis, RBS and Santander in October 2007. During the past 12 months, the share of ABN AMRO diamond industry financing in the Antwerp market has actually grown. The total Antwerp diamond industry debt in September 2008 came to $3.75 billion, a growth of $700 million in one year. Currently, ABN AMRO’s market share is about 42.7 percent ($1.6 billion), up from 39.7 percent ($1.2 billion) in October 2007. The growth of that debt is slightly misleading, as it includes some $150 million of asset-backed securitization that was previously off balance sheet and which, in November 2007, was added to the obligor of an Indian borrower. Also, there were some off-balance-sheet forex transactions that now appear in the total debts. But, unquestionably, the ABN AMRO bank’s exposure in the diamond branch grew faster than that of its competitors.

The market share of its main competitor, the Antwerp Diamond Bank (ADB) decreased from 43.2 percent to 40.3 percent in that same period, though in money terms the ADB exposure grew by some $170 million to $1.47 billion. ABN AMRO and ADB together account for over 82 percent of the market. The three other players are quite insignificant: we estimate that, as of early September the State Bank of India has a $240 million exposure; ICICI $319 million and the Bank of India $105 million.

Though a relatively new player, there are reports that the ICICI bank is already decreasing its exposure to the diamond business; its talks with Fortis never went beyond preliminary flirtations and the market rumors on its possible take-over may have been mostly public relations for this Indian bank.

Questions Concerning the ABN AMRO Takeover
Fortis was a much smaller bank than ABN AMRO, and by being part of the consortium that purchased the bank, it clearly tried to bite off more than it could chew. This appetite – and probable overpayment – has led to its downfall. When things go wrong one inevitably looks at guilty parties. The Dutch Minister of Finance, Wouter Bos, has publicly aired his views that the government may have been misled about the real worth of Fortis at the time the consortium’s takeover was approved. Bos intimated that Fortis may have overpaid for ABN AMRO.

The minister, as a major shareholder, will now have a chance to gain insights into the real situation of Fortis. Reportedly the minister has aired suspicions that Fortis may have kept serious risks off its balance sheets to hide its true state of affairs. There may also be issues on whether the Dutch central bank may have been too lax in its oversight over the banking and insurance group. The minister has announced that they will wish to sell the ABN AMRO Bank as soon as possible.

Initially, the ING bank was believed to be a candidate to take over ABN AMRO, but this possibility was dropped early in the week. The three parties which are now mentioned most are the Royal Bank of Scotland, the French BNP-Paribas, and the Deutsche Bank. From an ABN AMRO diamond division perspective, the Royal Bank of Scotland (RBS) would probably be the most logical and welcome. It has already integrated the international corporate business of ABN AMRO and, from the beginning, it would have been logical (and it had been expected) that the diamond division would go to RBS. In India, RBS and the diamond division are already cooperating. A full integration of the diamond division within RBS would be easier than it would be for any of the other possible buyers.

From a RBS perspective, it will have a chance to buy the remainder of ABN AMRO for about half it had paid for the other parts – certainly a bargain. The RBS, however, appears on a UK list of problematic banks and may simply not have the liquidity or resources to materialize such an additional acquisition.

A purchase by the BNP-Paribas bank may also be interesting. Old-timers in Antwerp recall that Paribas had a bad past in diamond financing and, apparently, in the early part of last century, the by-laws of the bank even contained a prohibition on engaging in diamond financing. But that’s just a historical anecdote of no present consequence. (Later, under pressure of some shareholders, the Belgian subsidiary of Paribas did get involved in the industry, but in its 20 years of financing, its exposure was kept to a minimum and rarely exceeded $120 million. That diamond portfolio was subsequently taken over by the Dexia bank.)

From an overall banking perspective, BNP-Paribas is a logical choice. The French banks have suffered less from the U.S. subprime fallout and their liquidity positions are better. It may find it very advantageous to have a regional bank in the Benelux countries. It may also be interested in the ID&JG – but, at this point, this is purely conjecture on my part.

For the Deutsche Bank, the ABN AMRO bank would be relatively small fish. If it would acquire the bank, it would not subsequently sell off its components – and the ID&JG may well continue to flourish without major impediments – while enjoying a strong parent. Not a bad solution for an orphan.

In informal talks with sources involved in the selling process, the view is emerging that – in the end – the International Diamond & Jewelry Group could be sold as a “stand alone” asset. Moreover, parties interested in Fortis’ private banking may also have an interest in managing a specialized global diamond financing operation, hoping that loyal diamond clients would also want to seek the bank’s wealth management services.  

The Options of the ABN AMRO Diamond Division
Nevertheless, the situation of the ABN AMRO’s ID&JG is considerably better at the end of this week than a week earlier. There is also far more clarity. All the options that had been on the table before the Fortis bail-out are still there; and new options have been added. Integration with Fortis is out!

There is a real possibility that whoever buys ABN AMRO will follow the ‘old’ Antwerp Diamond Bank model. It was a joint venture that had four parents - a subsidiary of De Beers with 12.5 percent; KBC and Société Générale (which is now Fortis) each with 37.5 percent; and BBL (which is now ING) with 12.5 percent. Conceivably, a consortium could be created in which various interested parties would share control. From an operational and organizational perspective, this is far from easy. Small branches would probably not be sustainable. But the risks would be spread. We have reason to believe that Dubai’s DMCC could become a potential partner in such a structure. The DMCC cannot do it alone: it needs a banking partner to secure bank licenses and the operational capabilities to maintain the ID&JG’s international network.

Some observers stressed that the Belgian government may not feel at ease with a Dubai option. At the end of the day, this could lead to further moves by diamantaires from Antwerp to the Emirates. One Antwerp player even suggested that it may well be in the best national interest for KBC to absorb, or merge with, the ABN AMRO diamond business. This would create one player that holds over 80 percent of the market, something which seems virtually impossible from a competition law perspective. To the best of my knowledge, the Antwerp Diamond Bank (a daughter of KBC) has never shown any interest in such a formula. But we live in the strangest of times; in the U.S. new banking conglomerates are created through bail-outs and no one seems to be bothered by competition law issues. Says one Antwerp player, “A local financing monopoly is still preferable over a Dubai ownership.”

In any event, there are many new ideas making the rounds. When viewing this week’s dramatic global crisis in a narrower diamond financing perspective, the news may actually be quite encouraging, if not plain good.

The ABN AMRO ID&JG no longer has to live a schizophrenic life working towards integration with Fortis while simultaneously preparing itself for possible disposal. There is no longer a need for the ID&JG heads to deny that the bank (and thus the diamond financing business) is for sale – as this is public record.  They now have the added comfort that the Belgian government will have a major, if not final, say in what will eventually happen to the bank’s diamond financing division. Dutch Minister Wouter Bos can be expected to stand behind his guarantees that the ABN AMRO will only be sold to very capable and strong parties.

This is not a time for anyone in the banking sector to be joyful. There is no liquidity in the financial markets; more bailouts and bank failures seem inevitable. The LIBOR has gone up – and many banks are forced to borrow from central banks as their natural counterparts in the interbank markets have no cash themselves. Diamond industry players may have to embrace themselves for worsening banking condition.

One major bank has already informed clients this week that they cannot withdraw money on the basis of a SWIFT-advise, confirming that money is in the process of being credited to their account; they will have to wait until the cash actually reaches the recipient bank. All diamond banks are expected to tighten procedures and lend “by the book.” Risks are going to be minimized. As retailers in the U.S. and other countries are denied their usual credit from their banks, the pressures on supplier credits from the diamond sector are expected to grow. We are heading towards very difficult times from the perspective of available liquidity.

So indeed the only good news this week is that the status of the ABN AMRO’s ID&JG has changed from quite an ‘undesired stepchild’  to that of ‘quasi-happy orphan.’ The Benelux governments are expected to ensure that whichever bank or banks will accept ID&JG’s ultimate parenthood will be wealthy and caring. Gradually closing down and stepping out of the diamond financing business has ceased to be an option; the Belgian government could not survive the political backlash this would generate – and it has also no reason whatsoever to approve such a scenario. With governments holding a 49 percent stake in Fortis, the public (including diamantaires) is also able to exert greater influence on the future of their bank. They will undoubtedly play their part. Is there anything better our orphan friends could wish for?

Have a nice weekend.