Indian Retailer

The diamond industry has been hammered by the recession, with prices down by as much a third over the past year. No company has felt the pain more deeply than South Africa-based De Beers. Analysts estimate that its production will fall by around 50% after a collapse in sales in 2009, amid a slump more severe than most people can remember.

At the height of the slowdown earlier this year, De Beers closed all four of its mines in Botswana because the "sightholders" – independent diamond-factory businesses that buy rough diamonds and cut, polish and sell them on to the retail trade – that it dealt with were being starved of credit by the banks. Its workforce has been reduced by 23%, with payroll numbers down from about 20,500 to just under 16,000 in 12 months, with thousands of miners made redundant.

Profits fell 99% to $3m (£1.8m) in the first half, while borrowings stand at $3.5bn. De Beers needs to refinance $1.5bn of debt by 10 March 2010, but lenders are understood to be demanding punishing interest rates as the price of a restructuring deal.

But an agreement with its three main shareholders should give the company increased bargaining power with the banks. Its biggest investors – mining group Anglo American, the diamond-entrepeneur Oppenheimer family and the government of Botswana, have agreed in principle to subscribe to a $1bn rights issue, raising much-needed cash to cut the group's indebtedness.

For years, De Beers was the diamond industry, speaking for 90% of world production. But new players from Russia, Canada and Australia have entered the market, reducing its dominance. Competition authorities in the EU and the US have also clamped down on the company's ability to control prices and supply by restricting its rights to sell on behalf of other diamond producers.

In South Africa itself, the company has cut investment, while diversifying abroad to hedge against the political uncertainties unleashed by the ending of apartheid 15 years ago. Nicky Oppenheimer, the Harrow-educated chairman of De Beers, was obliged to sell 26% of the company to a black empowerment group under legislation passed by the African National Congress.

Like others, De Beers has taken account of the changing reality by ring-fencing its South African operations inside a company called De Beers Consolidated Mines and moving its capital abroad.

But it is still the world's single biggest diamond producer, at 40%, and remains a force to be reckoned with. It owns shops in world capitals such as London and New York and is behind a huge worldwide marketing operation designed to prop up demand for diamonds. The language on its website is both compelling and gushing. "For thousands of years diamonds have been valued for their beauty and rarity, entrancing us with their fire and brilliance. Symbols of power and inspiration, diamonds are also a token of love and personal expression of our hopes for the future."

But consumers have lost their appetite for the gems, which has serious implications. About 90% of rough diamonds end up being bought by ordinary punters in their polished form; industrial consumption of diamonds is relatively small.

De Beers drastically cut production to support a price recovery, with output of 1.1m carats in the first quarter down 91% year-on-year. Many mines have now reopened as the worst of the slump appears to be over, but De Beers cannot escape the chill winds of recession. In the US, which accounts for about half of world consumption, retailers are taking a big hit. Tiffany has seen profits drop by 75%, while 1,000 jewellers across America have gone out of business. Neither are the macroeconomic signs encouraging: US unemployment may not peak until 2011 and home foreclosures are not expected to peak until late 2010.

The slump in US demand reverberates to places such as India, where thousands of workers in diamond polishing factories have been laid off. About 60% of diamonds cut and polished in the Indian state of Gujarat are sold to the US, with the region accounting for more than two-thirds of the international processed-diamond industry.

De Beers has been forced to seek fresh streams of revenue. Recently, it launched a global campaign to convince investors that diamonds are an alternative to gold as a safe investment. But analysts and investors say that the closed nature of the diamond market made them a much less attractive option than gold.

Brock Salier, mining analyst at Ambrian, a London-based resources investment bank, admits the uncertainty that has gripped equity and currency markets had sparked demand for "hundreds of millions of dollars of something they can stick in a vault" – such as diamonds. But he warns they represent a much riskier investment than bullion. Traded through auctions and private tenders, the stones have no public market price and there is no instrument investors can use to hedge against fluctuations.

Despite a rebound in rough diamond prices in the past two months, Des Kilalea, a diamond analyst at RBC Capital Markets, reckons that 2010 "will be challenging, although, like most things, the industry's fortunes turn largely on what happens to the global economy".

But the green shoots of recovery are coming through: Rio Tinto is saying it will shortly restart expansion work at its Argyle diamond mine in Western Australia. De Beers reported recently that rough diamond prices were heading up, but were still well down on the highs of 2008, while sale trends at its marketing arm were improving. A spokesman said: "We've seen strong demand for rough diamonds since the half year which has meant we've cancelled planned Christmas shutdowns at our operations in Canada and reopened one of the mines in Botswana earlier than planned."

Now that prices are picking up again, there are hopes that Christmas, the most important time of the year for jewellery retailers, won't be as bad as last year.

A spokesman for the Antwerp World Diamond Centre says: "A diamond is a luxury product, and that's what people tend to skip from their list. With the recession easing, we're hopeful the festive season could prove a turning point."

But in hard times, no one is displaying unbridled optimism.