A peek into diamond minds

NNSL (Feb 02/98) - While Northerners attempt to get as much out of the diamond industry as possible, the politics surrounding the resource have taken on a much larger role.

Many in the North believe the federal government is not acting in the North's best interests, including Stephen Kakfwi, GNWT economic development minister.

As evidence, Northern diamond lobbyists point to a controversial questionnaire (see below) sent to a London diamond company. A copy of the response was anonymously sent to Northern News Services.

Especially controversial is the wording of question six, which asks Richard Wake-Walker and Charles Wyndham, principles in WWW Diamond Consultants, how they feel about the "myth" of Northern benefits from the emerging diamond industry.

A large scale diamond sorting and evaluating centre in the North would be "expensive and efficient window dressing," Wake-Walker and Wyndham responded.

GNWT officials believe federal diamond director Joseph Lazarovitch posed the following questions to WWW Diamond Consultants.

"Mining royalty assessment and the role of diamond valuator"

"What level of sorting is necessary to allow for a reasonably accurate initial valuation prior to shipping the production to Antwerp?"

The first assumption is that all Canadian productions will be from kimberlite pipes and not alluvial. There is a consistency in individual pipes that does not exist in alluvials. That does not mean to say that there are not high and lower grade areas or changes in a pipe, but there is a high level of predictability that can be successfully modelled. The next question is the type of production from an individual pipe. The higher the average price of diamonds from a pipe would mean that there are more larger and expensive diamonds. As diamonds become more expensive so the subjectivity increases and there is a greater element of human input needed to put a value.

For example, it would be easier to model the outcome for the production from BHP's Misery pipes than from the Koala pipe where we believe that the average price is expected to be in excess of $100 US, whilst Misery appears to be below $50 US.

Another important point about valuing diamonds is how many lots, rather than necessarily the amount of carats, are the diamonds presented in and also what degree of pre-sorting has taken place. It would also be important to know and monitor the level and degree of cleaning to which the diamonds have been subjected. It would be easy to leave a hidden percentage in the diamonds by controlling the amount of cleaning. Pre-sorting could easily be done by mechanical means. However, there is no doubt that De Beers and Argyle, in the order, have a degree of competence in this field that is not available on the open market. Such machines are costly and cannot be moved. There are however, machines that could simplify the work.

Despite the above caveats, which are not an exhaustive list, there is no doubt that it would be perfectly feasible to provide a quick and reasonably accurate initial valuation prior to shipment at individual mines, with mechanical means creating rational lots which can then be valued by cut off. With the aid of computer modelling, a consistent presentation and sizing of the diamonds, it would probably take a couple of people a day or two to do the job, assuming no lengthy disputes with the producer.

The valuator must be in a position to have a reasonable input into the actual process, which can be tailored to individual mines, (i.e. there's no reason why every mine must do exactly the same. You do not want a position where the tail wags the dog.) Also, a system must be in place in the event of disputes that is fair to both parties.

2. Can this level of sorting be done at the mine site by mostly mechanical methods?

The mechanical methods by themselves would not be able to provide anything other than a nominal value. It could be that there was sufficient confidence in the actual sale process that is all that is required. The acceptable level of accuracy/confidence of the figure would have to be decided by government. The mechanical methods greatly reduce the time and cost of doing the work.

3. Can diamond mining companies have the internal controls and accounting systems that will allow them and the government's auditors to reconcile diamond sales back to a particular shipment of diamonds from the mine?

Yes. However, it must be understood that the system would have to be based on a mathematical audit trail. It would be totally impractical for a mine if it had to keep individual or lots of diamonds separate. Whilst the audit trail would be based mathematically, it would be necessary to have a diamond expertise input so that manipulations are prevented.

4. What value will be attributable to inventories of diamonds not sold at the end of the fiscal year -- company's valuation, government valuator's valuation, or an amount negotiated between the company and the government valuator?

In the CSO system, there is no reason that the value could not be based on the sorted value less than 10 per cent for their margin. This is not what happens in South Africa where unsold or unsorted production is held at cost of production. This could allow for some end-of-the-year manipulation. However, it would "only" be a question of shunting royalty costs from one year to another. Some acceptable formula would have to be found for work in progress, (i.e. under assortment).

In the arms-length market value scenario it would seem unfair to base a royalty on a presumed sale price. That would be the equivalent of a company anticipating a profit before it is made. Using the same methodology explained above, some mathematical formula would appear to the soundest system. Here the modelling and physical valuation should provide a conservative figure to be adjusted against actual sales.

5. Why are diamond dealers almost unequivocally advising us that tracking the sales to mine production is impossible?

It is certainly possible to do but is totally alien to the industry to protect its "no tax" or minimising tax regime. It would be most unlikely that any diamond dealer would allow such a situation, and if he did there would almost certainly be some catch squirrelled away. It goes without saying that no dealer volunteers its actual profit margin.

6. How do they deal with the myth of benefits to the North from sorting and valuation which may not materialize?

There is no doubt in our opinion that some large-scale sorting and valuation centre would be expensive and inefficient window dressing. In the scenario put forward where production is sold through a variety of methods its purpose becomes even more obscure. The attraction to this in Africa is one of being seen to create employment and pay lip service to beneficiation.

Diamond mining in Canada is going to have a high cost base for among other reasons geography, technical difficulties and cost of labor when compared to the mines in say Botswana. The nation is going to benefit by encouraging this mining for a whole host of reasons, not least the employment prospects in the direct mining business. Superfluous expense will put this development in jeopardy if spurious expense and bureaucratic delay and hindrances are put in the way of efficient disposal of the diamonds.

Naturally De Beers are keen to go down this path. It is where their expertise lies and it sucks the government and other producers into their system and at the very least increases the cost of entry. It all adds to their myth. Equally it is difficult to envisage the practicalities of a sorting centre coping with all different valuation methods, currently where this system is in use there is one producer and one system. In Namibia there is an exception in that the small amounts of marine diamonds from non-De Beers sources are given a value by the GDV. Interestingly this done by the GDV popping along to the diamond board and spending a few hours. In Kimberley there are several different producer's mines productions being valued, but all using exactly the same methodology and where it is quite clear who is in the dominant position.

There are potential security hazards. Where there are diamonds there is always theft going on, or at the very least being planned. This problem is best left with the producers.

An important counter to those arguing for such a flagship sorting system, is first to say that the actual methodology is inefficient. That the government is taking the steps to train the right number and carefully chosen people to maintain its independence. We believe that this is essential and is using the rapier as opposed to a sledge hammer to achieve an efficient and infinitely better system to achieve the government's goal of protecting and maximizing its tax take within the parameters that it has chosen to set.

Richard Wake-Walker
Charles Wyndham