The Issue: De Beers' Multifaceted Strategy Shift

Faced with such challenges as new sources of competition and suspicion about conflict diamonds, Gareth Penny had to rethink the basics

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A diamond may be forever, as De Beers' famous advertising slogan contends, but is the same true of a business model? That was the question facing Gareth Penny, managing director of De Beers, in the late 19'90s, when the famed diamond cartel found itself beset by a series of events that ultimately forced it to examine and then retool its business strategy.

Since the company was founded in 1888, De Beers followed a strategy of supply control. In addition to mining its own diamonds, it bought diamonds from other producers and had what it called the "central selling organization," controlling some 90% of the world's diamonds. Its tight control over such a vast amount of supply enabled De Beers to keep prices high for a commodity that is neither particularly scarce nor useful. If a competitor offered diamonds on the market outside of De Beers' central selling organization, De Beers would simply flood the market with similar stones, thus eliminating any pricing power the competitor might offer.

By the end of the 1990s, the business model of controlling supply and managing how much of its inventory went to market at any time was no longer effective: New sources of diamonds were discovered in sufficient quantity that they could be sold competitively outside of De Beers' central selling organization. Demand for diamonds was dropping at a time when demand for other luxury goods was increasing. Brand-conscious consumers viewed the stones as anonymous commodities, and the precious stones, long marketed as an emblem of eternal love, became tainted by the phrase "blood diamonds" and came to symbolize the ill-gotten gains of rogue governments.

Sparking Demand

Many of the challenges that De Beers was facing—including the drop in demand and the taint of "blood diamonds"—beset the diamond industry overall, according to Penny. But as the largest player by far in the diamond business, those challenges were magnified for De Beers.

"By the end of the 1990s, that [supply-management] business model no longer worked for us," says Penny. "It wasn't economically feasible, it was legally challenged, and it was just something that needed to change."

De Beers shifted its strategy from managing supply to driving demand. Under its "Supplier of Choice" program, De Beers had the goals of stimulating diamond demand by 5% per year; improving the efficiency and margins of all De Beers operations, from mining to sales; and leveraging the De Beers brand by offering De Beers-branded jewelry directly to consumers.

For Penny, removing the taint of "blood diamonds" or "conflict diamonds," which the U.N. Security Council defined in 2001 as "diamonds that originate from areas controlled by forces or factions opposed to legitimate and internationally recognized governments or in contravention of the decisions of the Security Council" was perhaps the greatest challenge facing the industry and De Beers. While the company was now focused on driving demand rather than managing supply, there was the realization that questions or suspicions about diamonds' origins would have an impact on demand.

Certified as Clean

The response, spearheaded by De Beers and done in concert with governments and NGOs, was the Kimberley Process, an international government certification program that requires that governments certify that shipments of rough diamonds are free from blood diamonds. More than 70 governments are now signatory members of the Kimberley Process.

"The net result has been that something like 99.8% of all diamonds around the world now flow through this certificated system and are monitored to ensure that the way in which the business is being conducted is totally auditable, totally ethical, and that there is no funding that is flowing through to undesirable organizations anywhere in the world," says Penny. "I think the Kimberley Process offers itself as a role model for other industries, not only in natural resources but in other areas of the economy as well."

Penny is keen to have De Beers itself serve as a role model for other businesses. "We are an extractive industry—we take diamonds out of the ground, but how do we add value beyond the mining process in the countries from where those diamonds come?" he asks.

One answer is the Diamond Trading Co. Botswana, a joint venture between the government of Botswana and De Beers. The diamond-sorting facility, which opened in spring 2008 and is billed as the world's largest and most advanced, helps to ensure that a portion of Botswana's most important natural resource stays in the country longer.

With the relocation of its diamond-sorting facilities from London to Botswana, De Beers is creating more than 3,000 jobs—10% of all those employed in the manufacturing sector in the country. And Penny says the company has been encouraging its partners to move facilities to Botswana, with the result that 16 factories have been set up. "We're encouraged by the impact that this kind of "in-sourcing" is having," says Penny. "[Adding value] places us in a position where we are aligned with the needs of the country and where we're the partner of choice for the government. We think that it adds to our competitive advantage."

Patricia O'Connell is Management Editor for BusinessWeek.com.