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  • Making the Cut in Canada

    Rapaport News
    Tuesday, Mar 1, 2005
    15:20 New York

    Making the Cut in Canada

    By Duff McDonald Posted: 2/2/2005 10:13 AM

    The signs are not good. Just five years after its birth, the diamond
    cutting and polishing industry in Canada's Northwest Territories (NWT) is
    acting more like an old codger on his last legs than a strapping youth with
    a bright future ahead of him. Three out of the four operations have run into
    serious financial difficulty. Employment of locals ~W an objective from the
    start ~W is thin and turnover is high. And the effort to establish the
    definition of a Canadian diamond as one that is mined, cut and polished in
    Canada ~W in the hope of providing a marketing advantage to domestic cutters
    and polishers ~W has been stopped dead in its tracks.

    The latest in a series of stumbling blocks came last June, when the
    industry's erstwhile protector ~W the Government of the Northwest Territories
    (GNWT) ~W put the two largest diamond cutters ~W Sirius Diamonds and Arslanian
    Cutting Works ~W into receivership in order to protect $14 million (CAD$17.2
    million) in loan guarantees. While Arslanian was purchased shortly
    thereafter by Montreal~Vbased Basal Diamonds and a deal for Sirius was
    pending at year-end, both industry and government sources are now openly
    pondering whether or not the experiment has failed. "I think it's tough to
    even call it a local industry anymore," says Jake Kennedy, the editor of
    Canadian Diamonds magazine.

    It was an experiment with noble intentions. After the discovery of the Ekati
    deposit, the GNWT made explicit its intention to develop a secondary diamond
    industry in Yellowknife. And therefore, in 1996, BHP Billiton, owner of the
    Ekati mine, signed an agreement to allocate up to 10 percent of its output
    to local industry. Diavik Diamond Mines Inc., entered into a similar
    agreement in 1999. Through a further combination of grants for training and
    acquiring equipment as well as loan guarantees, an industry was born. Sirius
    Diamonds opened in June of 1999. Deton'Cho Diamonds and Arslanian Cutting
    Works opened in 2000 and Laurelton Diamonds, a wholly owned subsidiary of
    Tiffany & Co., opened in 2003. De Beers, which has yet to begin production
    at its Snap Lake Project, has also agreed to provide rough diamonds to
    manufacturers in the NWT.

    How Can Canada Compete?
    >>From the start, however, critics have pointed out a glaringly obvious fact:
    diamond cutting and polishing is an extremely competitive business, which is
    dominated by countries with significantly lower labor costs than in
    Yellowknife ~W in particular, India and Russia. The per-carat labor cost of
    cutting in Yellowknife is roughly $65 (CAD$80) versus less than $10 (CAD$12)
    abroad. How, the critics asked, could facilities in Yellowknife compete
    against labor costs about one seventh of their own? There were three
    possible answers to this question, not all of which have proven successful.

    Answer #1
    By creating a Canadian diamond brand, local cutters would be able to sell
    their diamonds at a premium that was large enough to account for their added
    operating costs. In the late 1990s, this was not necessarily a misguided
    assumption. The diamond world was reeling from bad press over conflict
    diamonds and the long road toward the Kimberley Process (KP) would not begin
    until May of 2000. The GNWT and the cutters themselves pushed hard for a
    definition of Canadian diamonds that would include only those that were
    mined, cut and polished in Canada.

    The effort has not been successful and a November 2001 ruling by Canada's
    Competition Bureau that a Canadian diamond need only be one that was mined
    in Canada still stands today. "If that had happened, diamond producers would
    have ceded any benefit Canadian branding might have to customers that
    purchase less than ten of the product," says Robert Boyd, president and
    chief executive officer of Ashton Mining. "We're not against seeing
    development of a secondary industry in Canada," he continues, "we just don't
    want it to be us that has to subsidize it."

    Without the theoretically enhanced margins of their own valuable brand,
    local cutters have had to compete head on with other cutting centers ~W and
    the going has been tough. Deton'Cho did not even last two years before
    shutting down briefly in 2002. It re-emerged in 2003 as Canada Dene Diamonds
    ~W a partnership between the Deton'Cho Corporation and Schachter & Namdar
    Polishing Works. That factory, which is said to have turned a $612,200
    (CAD$750,000) profit in 2003, has since steered clear of financial
    difficulties. Still, in 2003 the original three factories bought only 3.8
    percent of available rough from the two mines ~W a third of what is available
    to them ~W most likely due to an inability to come up with the cash to
    purchase any more.

    Answer #2
    By automating the cutting process. In other words, the way to compete with
    low foreign labor costs might just be to eliminate those labor costs
    entirely. One of Canada's most successful cutters is Vancouver~Vbased HRA
    Investments Ltd., which operates the only 100 percent robotic diamond
    factory in the country. The company's equipment can cut and polish a diamond
    in two hours, whereas it takes at least a day for a human to do so.

    Might such a strategy work in Yellowknife itself? Perhaps. But replacing man
    with machine would effectively eliminate much of the rationale for promoting
    the local industry ~W about 150 jobs and $10.6 million (CAD$13 million) in
    wages. Ron Basal ~W who paid $7.5 million (CAD$9.2 million) for 75 percent of
    Arslanian ~W has stated publicly that he plans to expand the plant, both by
    increasing automation and by hiring more employees. If throughput increases
    enough to drive labor cost per carat down significantly, such a strategy
    just might work.

    Answer #3
    By not competing at all. One surefire way to avoid losing a head-to-head
    competition with foreign cutters is to avoid competing with them, a tactic
    that seems to be what Tiffany had in mind when it established Laurelton
    Diamonds. Tiffany, which has a deal with Aber Diamond Corporation ~W which
    owns 40 percent of Diavik ~W to buy $50 million (CAD$61.2 million) in
    diamonds annually for the next nine years, has no interest in whether
    Laurelton could cut and polish diamonds and then sell them on the open
    market for a profit. Tiffany keeps the diamonds for themselves.

    "Everything that we polish that comes out at a Tiffany-quality level we sell
    to Tiffany," says Andy Hart, president of Laurelton Diamonds and vice
    president of diamonds and gemstones for Tiffany. While Hart acknowledges
    that polishing in the NWT is more expensive than other options available to
    Tiffany, he adds that Tiffany still shows profits from jewelry made with
    Laurelton-procured diamonds.

    There is also much talk about what Israeli tycoon Lev Leviev plans to do
    with Sirius if his bid ~W which was conditionally approved in September 2004
    ~W is ultimately approved. It is doubtful that Leviev, who owns cutting
    plants in Russia, India, China, South Africa, Ukraine and Armenia, was
    attracted purely by the economics of running a cutting plant in Yellowknife.
    More likely, say industry insiders, he will use it as a foothold in Canada
    to continue his quest to take on De Beers on all fronts. In this scenario,
    the profitability of Sirius might be less important to Leviev than its
    existence as a Canadian foothold. Again, competition with Indian cutters and
    polishers, for example, may not be the primary motivating factor.

    The Consensus
    In the final analysis, the number of people who think the Canadian cutting
    and polishing industry is a failed experiment continues to grow. One
    employee of the federal government points out that Arslanian's former owner,
    Rosy Blue ~W one of the world's largest manufacturers and distributors of
    diamond jewelry ~W could not make a go of it and wonders openly who could.
    "They have a humongous marketing ability, but could not make any money in
    it. So who can?" he asks. "They didn't walk because they were making too
    much money." Canadian Diamonds' Kennedy voices similar sentiments and offers
    a bleak prediction, "It's hard to imagine another factory opening in
    Yellowknife, but it's not hard at all to imagine one or two shutting down."
    However, continued interest in owning the facilities suggests there is still
    hope, if a faint one. "With any industry, there are a wide variety of
    business models and it takes some time to sort out what the best ones will
    be for new endeavors," says Martin Irving, director for diamond projects for
    the GNWT. "Look, if they can cut diamonds in Siberia, then they can cut them
    in Canada," says Mayer Gniwisch, a Montreal~Vbased diamond expert. Gniwisch,
    who once publicly questioned whether Canadian cutting centers can ever
    compete with their foreign counterparts, reportedly had a change of heart
    last year ~W he was a bidder for Sirius.
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