Wednesday, March 9, 2011

Changes at De Beers raising eyebrows in diamond industry

Falling long-term output, and a failure after eight months to appoint a new CEO are just two of the issues facing De Beers as it adapts to a changing world.

Which major diamond mining company has not replaced its CEO eight months after he announced he was stepping down, and has seen its market share fall by half in just a couple of decades? The changing nature of the global diamond industry could hardly be better illustrated than by the changes that are taking place at mining giant De Beers.

But it is not just those issues that have raised eyebrows in the diamond industry. De Beers also recently announced that its diamond sales agreement deadline with the government of Botswana was pushed back three months to March 31, and the miner is likely to have to accede to a Botswana demand that 10 percent of sales be sold outside the Diamond Trading Company (DTC) framework from next year.

In addition, De Beers’ exploration spending in 2010 was less than half of its Russian competitor, Alrosa, while changes to sales via its Diamdel subsidiary, by allowing sightholders to bid for goods, have caused a degree of disquiet. And then there is the stepping down of Nicky Oppenheimer as deputy chairman of Anglo-American Corp after close to four decades on the board.

The most prominent indicator of De Beers’ lowered profile in the industry is the fall in its share of global diamond output. Where, two decades or so ago, the company accounted for 80 percent or more of worldwide production, that figure has dropped to just 37 percent. However, not only is the firm comfortable with that figure, it is also in discussions with a number of companies which have made unsolicited expressions of interest regarding another of its South African mines, Namaqualand, after selling the Finsch mine to junior miner Petra Diamonds less than two months ago for around $210 million.

And just last week, De Beers finalized the sale of the Krone-Endora Project at Venetia, in South Africa to Diamcor Mining Inc. The project consists of the prospecting rights over an area of approximately almost 6,000 hectares next to the Venetia diamond mine. An early exploration report on an area of about 310 hectares states that it alone has an inferred resource estimate of 54.3 million tonnes of diamond-bearing gravels and 1.3 million carats of diamonds.

Although De Beers would not comment on the suggestion, some analysts believe the firm has had to sell off some of the smaller assets, such as Finsch and Kimberley, to deal with its debt situation and in order to finance big spending plans. These include the $3 billion expansion of the huge Jwaneng mine in Botswana that was agreed last year, and the $1.38 billion that De Beers would need to find if it decides later this year to construct an underground mine at its Venetia plant in South Africa.

In addition, there is the development of the Gahcho Kué in Canada which would require around $700 million from De Beers and its partner in the project, Mountain Province Diamonds. The project, in which De Beers has a 51-percent stake, is some years away from production which is estimated at five million carats annually assuming the environmental approval process goes to plan.

Given that it has been less than two years since the company asked its three shareholders – Anglo-American Corp, the Oppenheimer family and the Botswana government – to provide $1 billion in funding to help it through the difficult situation brought about by the slump in demand for diamonds, then clearly the company needs to find ways to raise cash. Smaller mines, producing relatively low amounts of diamonds clearly do not fit with its new strategy.

As De Beers Consolidated Mining CEO Phillip Barton said of the sale of the Finsch mine to Petra Diamonds, it reflected “the continuing evolution of DBCM’s mining portfolio. It will enable us to prioritise capital to invest in growth opportunities that best suit our criteria, and to sustain a strong diamond mining business in South Africa for the future.”

Those comments were reiterated by Lynette Gould, head of media relations at the De Beers Group, who said: “Our focus is on mines and projects that fit the De Beers portfolio. Those that deliver superior risk adjusted returns and are at the right stage of their life cycle. Added to that of course we have to prioritise our capital investment which is on the cut-8 extension project at Jwaneng mine, the underground plans at Venetia where the pre-feasibility study was approved by the DBCM board last month so we now go into full feasibility before going to the board for approval. At Gahcho Kue, the Environmental Impact Statement was completed and submitted in December 2010 on schedule. The Environmental Impact Review is estimated to take two-to-three years.

Meanwhile, as for appointing a successor to Gareth Penny, it has been eight months since the former CEO announced that he intended to step down after five years at the helm. The firm is being run by acting joint-CEOs, Chief Commercial Officer Bruce Cleaver and Chief Financial Officer Stuart Brown. For now, De Beers says it is comfortable with the situation.

“At a recent presentation of our 2010 results to analysts De Beers Chairman Nicky Oppenheimer said he had undertaken a thorough search for a new CEO, both internally and externally,” commented Lynette Gould, head of media relations at the De Beers Group. “He added that the process would be concluded soon. Having said that, as was seen from our results, any speculation that the thoroughness of the process is somehow damaging the company is misplaced.

“After two years of recession, De Beers has just reported its best financial results in more than a decade. What’s more, under the leadership of Stuart Brown and Bruce Cleaver, the company’s debt level has been lowered, it is highly cash generative and highly profitable, and has exciting capital projects in Botswana, South Africa and Canada,” Gould added.

Given the financial blow that the global economic crisis handed the firm, De Beers is fine-tuning production perhaps as never before. Analysts have suggested that the miner is content to leave diamonds in the ground and dig them up at a later date to reap the benefits of rising rough prices as the global shortfall starts in the coming years.

While production was considerably higher in 2010 on the year before when output was slashed in the face of slumping demand, and is set to rise again this year, De Beers is tightly monitoring production. Output in 2010 was almost 33 million carats and this year is expected to rise to 38 million carats, and about 40 million carats in 2012. The miner also has the capacity to add further carats if market demand justified it, acting joint-CEO Stuart Brown said recently. However even the 40 million carat level would still be considerably lower than the 48 million carats mined in the peak year of 2008.

“We said during the recession that we would align our production with prevailing demand from the DTC sightholders,” said Gould. “Stronger than expected demand from sightholders last year enabled a 34 percent increase in carats recovered on 2009, and a 53 percent increase in sales from the De Beers Group, again compared with 2009. Global economic expansion and retailer sentiment are supportive of further DTC sales growth in 2011, during which time total production for the De Beers is expected to reach 38 million carats, approaching full production which will, as planned, be achieved in 2012.

“What we are saying at De Beers now is that our mission is to maximise the value and life of our diamonds for all our stakeholders. With a decreasing supply of diamonds, we are focused on maximising the recovery of diamonds in the mining process and reducing breakages. We want to ensure that we can sustain our production levels, employment and supply to our customers over the medium term, and plan our production levels accordingly. Which is why the way we mine, market and sell them is deliberately focused on unlocking as much value as possible out of every single carat. This value can be realised globally through consistent and stable prices and, locally, through initiatives like beneficiation which empower more citizens to participate in the country’s diamond economy,” Gould explained.

“Given the sale of assets over the past few years, and the focus on profitable and sustainable production going forward, we are unable to produce at the historic highs in De Beers’ production seen previously. Our share of global production is forecast to remain around 37 percent, a figure that we are comfortable with,” she added.

The failure of De Beers and the government of Botswana to sign a sales agreement by the end of 2010 as planned, with the deadline being pushed back to March 31, certainly raised eyebrows. So did the reported Botswana demand that up to 10 percent of output be sold outside the DTC framework.

Gould says the miner is confident that agreement will be reached by the March 31 deadline. “The sales negotiations with our government partner are currently underway and we are in the middle of a three month extension,” she stated. “As these discussions are still taking place it would be inappropriate for us to comment on any of the details. Our relationship with our government partner goes back more than 40 years. Discussions of this nature take time but we’re confident we’ll get to a mutually agreeable solution.”

As for exploration, although De Beers still regards it as “a major priority,” according to Gould, it invested less in searching for new deposits last year even than in 2009 when the company slashed spending across the board in the face of the global slump in demand for diamonds. De Beers invested $43.4 million on exploration in 2010 compared with $44.8 million in 2009. By way of contrast, Russian miner Alrosa spent $92 million on geological exploration last year, almost three times the $32 million it spent in 2009.

“To give us the best chance for success in exploration we aim to be on the right ground, with the right team, supported by sound relationships and operating with focused plans aligned with our operational capabilities and resources,” Gould said. “In both Canada and Angola, our exploration team is focused on advanced level programmes to bulk sample kimberlite pipes for diamonds. In Canada, this involves focus on satellite kimberlites around the Victor Mine, whilst in Angola deposit assessment drilling is underway on three pipes in the ‘Mulepe cluster’ of our Lunda NE concession.”

“Angola represents one of our most exciting prospects for the future, particularly given that in the past 50 years it has never been systematically explored. So far, of the 152 pipes we have discovered, we have established baseline economic information for 100 and have bulk sampled 34,” Gould added.

De Beers surprised the diamond market last year when it announced that it would be opening up auctions of rough goods by its Diamdel unit to sightholders. The subsidiary had traditionally supplied goods to the so-called secondary market of firms that were not sightholders, a move that did not go down well with some diamond companies.

“The advantage for non-sightholders was to be able to buy goods without competition from the big firms who inevitably push prices up,” said one Antwerp diamond manufacturer. “With sightholders now able to participate in these goods as well, the smaller firms are coming under even more pressure.”

However, Diamond Trading Company (DTC) Sales and Sightholder Services Director Mahiar Borhanjoo stresses that the amount of diamonds sold by Diamdel is a relatively small proportion of DTC sales, with the vast majority sold under long-term contracts. “Only 10 percent of the company's goods are sold via Diamdel,” he explained. “And of that amount, just 70 percent is sold at tender. Most DTC goods are, therefore, sold by fixed contracts.”

As for Nicky Oppenheimer stepping down as deputy chairman of Anglo-American Corp, he explained that it was simply time to retire after nearly four decades on Anglo-American’s board. The Oppenheimers’ shareholding in Anglo has dropped to around 2 percent from 8 percent in 2000, but James Teeger, managing director of Ernest Oppenheimer and Son, the family investment company, said the Oppenheimers “currently have no intention of selling their stake in Anglo American.”

However, the issue of whether Anglo-American aims to acquire the Oppenheimers’ stake in De Beers has been at the centre of speculation in the mining industry for many years. Anglo American has said in the past year that it has no intention of altering the present ownership structure of De Beers, but the lengthy delay in appointing a new CEO at De Beers, as well as Nicky Oppenheimer’s decision to step down, have fuelled rumours that ownership changes could be on the way. Gould, however, declined to make any observations on the issue, saying the firm “does not comment on speculation”.

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