Looking over DBRSY valuation ratios I was struck by the high price to sales (~7) compared to Price/Book(1.2) and Price/Earnings (9.4). I don't think it is the case that their profit margins are huge. What am I missing?
Here is some old news for any that have not read it.
(FROM ANNUAL REPORT TO SHAREHOLDERS)
Chairman's Statement
Institutions, companies, systems and, indeed, people prove their value not in
good times, but in times of challenge and stress. This is when the weakest go
to the wall and the best come into their own. The past year - during which the
De Beers Central Selling Organisation (CSO) achieved record sales in the first
half of 1997 and the lowest second half sales since 1994 - was indeed a
challenging time, both for the industry and the Company which serves it. Once
again, however, De Beers showed that it comes into its own when the industry
is under stress, moving decisively in the face of economic turmoil in the Far
East to restore sentiment in the cutting centres by a sustained reduction in the
size of its sights. The fact that the industry looks to De Beers for leadership
and comfort in times of turbulence is a tribute to its management of the market
and we will continue to ensure that this trust is not misplaced.
The breadth of the global diamond market is reflected in the fact that, despite
the downturn in Asia, the number of diamond jewellery pieces purchased and
the amount spent by consumers in local currencies in the year under review
were both equal to the 1996 figure. The strength of the US dollar and the sharp
decline in many Asian currencies however, resulted in a four per cent decline in
US dollar terms in the value of rough gem diamond sales by the CSO. At US$4
640 million, these were, nevertheless, the second highest annual sales on
record. Although De Beers' headline earnings on a combined basis were up
one per cent at US$1 044 million, total net earnings were nine per cent lower at
US$1 229 million. This included both a surplus arising from the disposal of
interests in JCI and a provision for an anticipated loss on the disposal of
interests in Lonrho (the 1996 results included the surplus from the disposal of
interests in Johnnic). Diamond stocks were reduced by six per cent, reflecting
both increased market share and the high level of first half-year sales. It was
possible to maintain the dividend at 102,8 US cents per De Beers/Centenary
linked unit by reducing the cover on an attributable earnings basis.
The rollercoaster year began with continuing supply-side concerns which
focused both on the decision, taken at the end of 1996, to terminate purchases
under the badly flawed contract with Russia and fears of uncontrolled supplies
from Angola. De Beers, however, saw these concerns not as a problem, but a
challenge. The inherent strength of our distribution network, the application of
new pricing policies towards the bottom end of the market, the run-down of
Russian stocks and reduced production from Angola all contributed to the fact
that our market share was substantially increased, demonstrating again that
the De Beers group of mines in Botswana, Namibia and South Africa remains
the most consistent and reliable source of world production.
The outlook was further improved in October when, after protracted
negotiations, Almazy Rossii-Sakha (Alrosa) and De Beers finally signed a new
trade agreement which reaffirmed their mutual recognition of the importance of
single-channel marketing, even as it re-established full co-operation between
the world's two major diamond producers. The agreement has the endorsement
of both the President and Government of the Russian Federation and hopes are
that, depending on its satisfactory operation, an agreement which has been
widely and properly welcomed by the diamond industry, will be extended
beyond its 13-month term.
If supply-side concerns were uppermost at the beginning of the year, problems
with demand cast a shadow over the second half. The Japanese market, the
second biggest consumer of diamond jewellery after the USA, continued in
recession. On top of this, currency turmoil in South East Asia, an important
market for diamond jewellery, resulted in a sharp decline in demand in this
growth area. This was aggravated by the fact that more than half the world's
diamond jewellery consumption is influenced by the exchange rate between the
US dollar and other currencies.
Buoyant first half sales, however, had earlier stimulated trade confidence and
led to a high level of trade inventories. De Beers responded swiftly to the
change in the economic climate by reducing its sales substantially towards the
end of 1997. This restrictive sales policy has continued into 1998, with the first
three sights of the year being substantially below the level of the corresponding
1997 sights. As the year progresses we will monitor the situation closely and
manage supplies to reinforce confidence in the value of our product. It should,
of course, go without saying that we will be able to do this more effectively in
those areas where there is little competitive selling onto the market.
The outlook in 1998 is not one of unrelieved gloom. The problems in the Far
East have once again focused attention on the importance of the American
market, which accounts for more than a third of world diamond value. In 1997
that market saw encouraging growth of up to eight per cent in retail
consumption of diamond jewellery and we hope for further growth in 1998.
Nevertheless, despite continued growth in US demand, economic changes in
Asia have made America a buyers' market, resulting in increased competition,
pressure on prices and lengthening credit terms.
Problems in the Far East, however, while pressing, are not permanent.
Renewed prosperity in Japan has been postponed, not cancelled, and
economists expect a resurgence of growth once the process of economic
restructuring is complete. Despite the current slowdown, consumer attitudes
towards diamonds in Japan remain positive and De Beers is developing several
new campaigns to take advantage of the eventual recovery in consumer
confidence. Once the Asia Pacific region emerges from its present economic
and currency turmoil, we are confident it will provide substantial new markets
which, in turn, will increase worldwide diamond demand.
De Beers is also active in the emerging markets of Turkey, the Middle East,
Pakistan and India, a growing region which now accounts for 10 per cent of
world diamond demand, and in China - whose potential remains huge - De
Beers' marketing programmes are already achieving results.
Nevertheless, it is clear that 1998 will pose even greater questions before the
economic storm in South East Asia blows itself out. How the industry
responds to these challenges will determine the contours of the diamond world
for years to come. De Beers is well poised to shape that world. The reduction
in stocks in 1997, the quota arrangements with contracting producers and the
strength of the De Beers balance sheet and banking arrangements, give us the
resources to manage the downturn currently affecting the industry.
Furthermore, under any future foreseeable scenario, the De Beers Group will
continue to produce about 50 per cent of the world's gem diamonds by value,
both from its own mines in South Africa and in partnership with the
governments of Botswana, Namibia and Tanzania. Moreover, this production
comes from some of the lowest-cost diamond mines in the world and De Beers
has the distribution network to manage the marketing of this production and
any additional goods bought under contract or on the open market.
During 1997 several major developments in the De Beers Group ensured that
we would retain this critical competitive edge. In Botswana, continuous
operations at Orapa and Jwaneng began in January 1997. The US$400 million
Orapa 2000 Project - an expansion which will increase Orapa's annual
production to 12 million carats and lift Debswana's total production to above 25
million carats a year from the year 2000, is proceeding according to schedule.
This development not only strengthens Botswana's central role in the worldwide
diamond industry, but also underlines the critical importance of diamonds - and
the sound and sustained management of this resource - to Botswana's thriving
economy.
In Namibia, where total carat production was slightly higher than in 1996, the
new bucket wheel dredge and floating treatment plant were commissioned in
April 1997. This development is designed to prolong the life of onshore
operations and, at a cost of US$40 million, represents a major investment for
Namdeb. The future of Namdeb, however, lies with the offshore deep-water
operations conducted by De Beers Marine which last year increased its
contribution to 35 per cent of Namdeb's total output. In 1998, De Beers Marine,
which invented deep-sea diamond mining, plans to expand its full-time
production fleet to five ships. Namdeb's diamond cutting and polishing factory
at Okahandja - to be supplied with rough diamonds by De Beers CSO in
London - is also expected to come into operation this year.
De Beers' South African mines increased production marginally during 1997,
with Venetia, the most modern mine in the industry, contributing nearly half of
all South African carat production. The year was also noteworthy for the signing
of a historic two-year wage agreement with the National Union of Mineworkers
and the welcome introduction of a new Mine Health and Safety Act. De Beers
is proud of a top safety record by international standards and remains
committed to improving its performance still further. The Company has
commissioned an independent survey of employment equity policies and
practices on its South African mines and is vigorously pursuing adult education
and training initiatives with the twin aims of improving career development
prospects and achieving basic literacy for all employees by the year 2000.
Our investment in developing the skills of all those who work for De Beers
reflects not only our determination to remain at the forefront of all diamond
expertise, but our belief that the success of companies will increasingly be
measured by their sensitivity to the human and physical environments in which
they operate. With this in mind, education continued to be the major focus of
our main channel for social investment, the Chairman's Fund. Recently, the
Fund also established Area Committees to enable us to respond more directly
to pressing local needs near De Beers' mines in the Northern Cape and
Namaqualand. At the same time, business between the Company and
suppliers owned by previously disadvantaged communities nearly doubled in
1997, while the mines launched a number of other imaginative initiatives to
assist emerging entrepreneurs.
De Beers' well-known commitment to the environment was underlined last year
by progress at all its operations towards compliance by the year 2000 with the
ISO 14001 standard for environment management. De Beers Marine has
compiled environment management programmes for its deep-sea operations in
South African waters, appointed environment managers to all its vessels and
once again used the Jago submersible to assess the impact of deep-sea
mining off the South African and Namibian coasts.
Beyond the 19 mines, large and small, which De Beers manages in South
Africa, Botswana, Namibia and Tanzania, the Company's technical resources
and geological expertise were again directed towards the discovery of
world-class deposits and the investigation of known deposits in Africa, Canada,
Brazil, Europe, Australia and Asia.
Despite ongoing security concerns, the Company is establishing prospecting
bases in Angola following its 1996 agreements with Endiama, the state mining
company, that gave it the exclusive right to prospect in three key areas in the
country. As evidence of its strengthening ties with Angola, last year it signed
an agreement with Endiama to construct a 12-storey building in Luanda where
the bulk of Angolan diamond production will be sorted and valued.
In the Democratic Republic of Congo, where the new government has
undertaken a review of the country's mining operations, the contract to
purchase the MIBA mine production is in abeyance. De Beers last year,
however, successfully bid for seven out of the nine tenders for the MIBA
production. Prospecting negotiations with the new government are continuing
and the first phase of an airborne survey has been conducted.
During 1997 the Company also began negotiations, or concluded prospecting
agreements, with a number of countries, including China, Gabon and Guinea.
Co-operation with the governments of African countries to help them realise and
benefit from their diamond resources remains central to our future plans and
interests. As the only mining group with the skills and the knowledge to mine
diamonds under all conditions - from desert to deep-sea - and in every type of
mine from underground to opencast and beach, we are also determined to
extend our global reach.
In Russia, where technical co-operation with Alrosa continued with exchanges
of specialist personnel, De Beers' joint venture partner, Terra, began exploration
work in the Arkhangelsk region and further opportunities for exploration and
mining in Russia are being examined.
These are but a few of the areas where De Beers' unrivalled expertise in
diamond exploration and mining, as well as its proven track record of working
together with governments and smaller operators, make it the partner of choice
around the world. But, if they serve to justify De Beers' claim to be a truly
global company, a glance at the exploration portfolios of many other general
mining companies confirms the recent attraction of diamond mining as a
worthy investment. The source of this attraction is the history of stable and
rising diamond prices over the last 60 years - ever since the creation of the
CSO successfully insulated gem diamonds from price volatility and
mismatches between surges in supply and demand.
Now, at the end of nearly seven decades of sustained and managed growth,
the current upheavals offer opportunity for all in the industry to reflect both on
the lessons of the past and on whether and how we can shape a future in
which all can continue to benefit - from producing countries, many of which are
critically dependent on the sound management of this resource, to the cutting
centres, retailers and the consumer herself.
It is De Beers' hope that recent entrants in the field will recognise the sense of
single-channel marketing and will not be tempted to undermine the very factor -
predictable and stable prices - which attracted them into the industry in the first
place; nor that they will commit the cardinal error of assuming that De Beers
will act against its own interests and the interests of its shareholders in a
competitive world. The experience of the last few years at the bottom end of the
market where three major producers competed for market share illustrates the
dangers inherent in that assumption.
In the recent past the industry has experienced the difficulties that can arise
with any fragmentation or erosion of the single market. De Beers will use the
year ahead to prepare itself not only for the expected major recovery in world
demand, but also to devise new ways of preserving the single market by
deploying its unique marketing skills on behalf of its own core producers and
its own clients.
De Beers remains committed to spending a large part of its budget - some
US$200 million this year - on the promotion of diamond jewellery around the
world. It should be remembered, however, that this is a service which we
undertake primarily on behalf of our core producers and clients. It has already
been reported that De Beers is engaged in test marketing a branding concept
which, we believe, will give additional comfort to our clients and be a guarantee
of quality and trust to the consumer. That brand will be imbued with all the
authority and diamond expertise which has underpinned the Company's
leadership role over the last 110 years. Those in the industry know that this is
no empty claim, that in every aspect of diamond mining and marketing,
including its unique knowledge and skills in sorting, classification and pricing,
De Beers remains the ultimate authority.
It is this knowledge and innovation in what might broadly be termed "diamond
science" which will keep De Beers at the cutting edge of the industry as the
Group prepares itself for the demands and the challenges of the next century. It
should come as no surprise when, as part of that preparation, it begins to
deploy its strength in new and imaginative ways.
The graveyard of history is littered with companies that failed to change with
the changing times. The fact that, 110 years since it was formed, De Beers
continues to dominate the international diamond landscape is sure testimony
of its ability to change and adapt to fresh demands and new challenges. This is
due in no small part to the fact that it was forged in crisis: the rapid and
anarchic birth of the modern diamond industry on the Kimberley diamond fields.
Another crisis nearly 70 years ago saw the creation by my grandfather of the
CSO, to introduce order and balance into the then chaotic marketing of
diamonds. Under the wise leadership of his successors, my father Harry
Oppenheimer and Julian Ogilvie Thompson - who stood down as Chairman at
the end of 1997 after 13 years of unparalleled growth and achievement - the
Company has continued to change and develop, even as it has remained the
constant guardian of the interests of the diamond industry. Indeed, it might be
said that, paradoxically, the key to its continuity has been its willingness to
adapt to changing demands and to rise to the challenges of the time.
1998 is seeing another defining move in the history of the De Beers Group: the
separation of its management ties to Anglo American Corporation, to become
an organisation with its own management team and with all the energies and
skills of its human resources dedicated to one company and one product. The
appointment of Gary Ralfe as De Beers' first Managing Director with
responsibilities for the worldwide group reflects this intention. The move
enables De Beers to re-shape itself into a closely integrated, tightly focused
multinational, fit for its historic role as South Africa's truly global mining group.
It will, however, continue to hold its important non-diamond investments, which
have served it extraordinarily well throughout its history and which have given
De Beers the financial strength to sustain the diamond industry in good times
and bad.
De Beers' new corporate headquarters will be established at the former Debid
House at Crown Mines, Johannesburg. This site, together with its adjoining
buildings which include the Diamond Research Laboratories, is already the
physical expression of some of the diamond skills which have made De Beers
the dominant diamond company in the world today. It will, therefore, be a fitting
South African home for this unique company, which can in truth be said to have
created the modern diamond industry in all its many facets and which today
enjoys an unrivalled position as the innovator and benchmark of all diamond
expertise.
Although it has offices and associates in many countries - in much of Africa,
as well as Switzerland (the corporate headquarters of De Beers Centenary), the
United Kingdom, Belgium, China, Israel, India, Russia, Canada, Ireland, Japan,
Sweden and Hong Kong - De Beers' roots remain in South Africa, its past
intricately bound up with the history of South Africa's industrial development. It
intends to play its full part as a major investor in the country's future and as a
constructive player in the economic resurgence of Africa. The much quoted
remark of my grandfather Sir Ernest Oppenheimer remains as true a reflection
of the Company's intentions today as it was 40 years ago when he said:
"The aims of this group have been - and they still remain - to earn profits but to
earn them in such a way as to make a real and permanent contribution to the
well-being of the people and to the development of southern Africa."
With that history it can be seen why De Beers applauds Deputy President
Mbeki's vision of an African Renaissance and believes that South Africa and
South African companies - particularly De Beers, with its close historic links
and expanding investment in so many African countries - can and must play a
key role in contributing to that renaissance and, indeed, in helping to bring it
about.
That commitment, together with a determination to retain and build on the
greatness of an already great company, will be the guiding ambition of my
chairmanship.
Nicky Oppenheimer 25 March 1998 |
