RAPAPORT... Memorandum, commonly referred to as memo, is a form of credit that is provided for the purchase of diamonds or jewelry. In fact, it is the predominant type of transaction used for sales and payment among members of the diamond and jewelry community. Granting buyers the option to return product at a predetermined date, ranging from 30 to 90 days, memo enables wholesalers and retailers who might not have capital immediately available to obtain merchandise.
For that reason, memo is a purchasing tool widely used in the B2B sector. Wholesalers, brokers and retailers have all adopted it in one form or another. This system has obvious advantages for the average retailer who is only able to realize turnover of his or her inventory once a year, limiting the capital available to purchase merchandise that may or may not sell. Brokers, who are in need of obtaining product from wholesalers for relatively short periods of time to show prospective buyers, also find memo an attractive option.
Although prices increase relative to the length of the credit terms established, the lower level of risk is the reason many in the B2B environment prefer this method of sale. Although memo can facilitate transactions, the way it does so, by allowing various market players to trade with one another without fronting a large amount of capital, can also be a disadvantage. It hinders the adoption of efficiencies that exist in alternative commodity markets. Those efficiencies help generate maximum desired output, while reducing the amount of friction and waste. The ability of a buyer to return a diamond released on memo after 90 days is but one example. The opportunity costs involved in this transaction are extremely high, as the supplier providing product on memo relinquishes his or her ability to pursue an alternative avenue of sale.
The memo system in place in the current demand-driven market allows retailers to reap the most benefit. Although they incur fixed costs, retailers are able to take the merchandise bought on memo and offer it at high margins, while the suppler assumes the risk. If the product is unsold, it is simply returned with zero cost to the retailer. And, in a more unfortunate financial scenario, if a retailer declares bankruptcy, products on memo are not returned, resulting in the supplier sustaining even greater losses. Numerous examples of such cases have emerged lately, in which large, respectable retail chains have gone under while still possessing merchandise belonging to others.
Although it is hard to imagine the jewelry industry without memorandum transactions, the diamond market is undergoing various transformations that leave the future of memo in doubt. Emerging markets such as India and China have yet to embrace this method of sale and may decide to incorporate alternative purchasing methods. In addition, there is a developing commodity market for diamonds that has the potential to alter drastically the way in which diamonds are bought and sold.
Most relevant and timely are tenders, which represent an efficient alternative to memorandum in that all products being sold must be paid for up front. They are becoming widespread in both the rough and polished diamond markets. In a tender, which differs from an auction in that each party submits a single offer for the merchandise, goods are sold to the bidders who offer the highest price, and payment is required before delivery. Typically used to sell large volumes of inventory, the tender system now has begun incorporating the sale of goods in smaller volumes and of lower values. Mining firm BHP has recently decided to incorporate this sales technique for the diamonds they mine.
Memorandum has its pros and cons. It clearly offers benefits in facilitating trade and enabling untraditional transactions to occur. But the industry transformation that is taking place at various levels is modifying the way in which we deal with each other and those outside of the trade. Tenders and commoditization are schemes that are gaining popularity and will alter the way in which memo is incorporated into sales of diamonds and jewelry. Given the existing competitive environment, the inefficiencies of memo cannot be maintained for the long term. Our industry is sure to appear entirely different in a few years time, leaving in doubt the role memo will play in the future.
Article from the Rapaport Magazine - July 2008. To subscribe click here.