Seeking Higher Margins, Moving Beyond the TenderJanuary 27, 11
Every business looks to improve return on investment, widen the profit margins and make their product more attractive. Miners are no exception. A popular method on their part of recent was tenders, which succeeded in pushing up prices, and might evolve to further increase rough prices.
The tender system is what in pure economic lingo is referred to as Sealed Auction or a Blind Bid. Participants examine the goods on offer and submit their bids in a sealed envelope, without knowing anyone else’s bid. When the bid period ends, the envelopes are opened and the seller declares the winning bid, which may not necessarily be the highest offer.
Tenders, the selling format adopted by many new miners as well as by BHP Billiton, can generally push up prices some 10 percent above list prices, according to buyers.
Granted, it is not just the tender system that influences the price of rough, yet tenders have created, for all intents and purposes, a futures market. Buyers are essentially betting that the price of the resultant polished would be high enough to cover the cost of the rough. As stated here before, if you guessed right – you made it. But if you guessed wrong – you lost money.
The market is continuing to evolve. The past year was one of catching up. Producers raised prices, saw the size of the premiums and raised prices again, trying to keep as much of the margin for themselves – and perhaps create some stability. This won't last. Prices are running wild again and the tenders are about to evolve.
From Tenders to Auctions
Auctions in the rough diamond sector, or the English Auction, are open. All participants see what the highest bid on an article is and can submit a higher bid if they wish. Naturally, this pushes prices even higher.
De Beers' Diamdel, which preferred auctions over tenders, is setting the trend. In the later part of 2010, as Sightholders were allowed to participate in the auctions for the first time, prices went wild. Participants told us that the winning bids represented prices far above DTC list prices. One went so far as to say that the prices were too high to be economical.
Will 2011 be the Year of the Auction?
The tender system, from a producer's perspective, has proved itself as a viable way to generate high revenues, even though it has the built in weakness of dropping fast and deep in hard times. It also adds to rough price fluctuations. Producers like tenders also because it is a way of learning what the market is willing to pay for goods. A number of companies, including new entrants, are expected to follow Diamdel's lead and offer at least some of their goods in auctions, driving prices even higher, and ultimately creating pressure to further increase the price of polished. Rough price fluctuations might worsen too.
Manufacturers that need a steady supply are not fans of tenders or auctions. Both systems mean that they may not obtain the goods at the right price, or even obtain them at all.
To reach a balance, the ideal situation may be to tender some of the bread and butter items for good margins and sell the rest to contract clients for stability. This is a win-win situation that works very well for small- to mid-size mines as well for a variety of buyers with different needs. It also provides flexibility in varying economic climates.