The Leather Pipeline - 31.05.16
31/05/2016
We are heading towards several major decisions that could lead us to quite a bit of turbulence in the markets. We have to deal with the decision of the US Federal Reserve in regard to interest policy and almost at the same time the decision on whether the UK will leave the European Union. Both of these may lead to short-term and erratic moves on the markets and consequences which will influence the markets on a longer term.
We are still dealing with the Greek debt crisis, we have seen reasonable economic data from the US and positive expectations among big German companies. The price for oil continues to climb, which might be a paradox, but is making investors pretty happy as can be seen in pretty robust stock markets in which most of the losses of the previous months have been almost completely erased. In France the conflict about labour market reforms continues to expand. Unions are not willing to accept any of the reforms and strikes are already hindering daily life.
A strong and persistent recovery of oil prices might be one of the most interesting subjects to deal with. We all remember that international experts and analysts were falling over each other to predict oil prices of $25 or much lower per barrel in 2016. Almost at the same time the market turned around and has since then gained almost 30% in 2016 and we are back to levels close to $50 per barrel. However, more oil is still pumped than is actually needed. New suppliers like Iran are not showing any interest in cutting production.
The pricing of commodities is becoming a subject of interest in China, the main buyer for many of these materials. But having prices fixed in other locations is not what the Chinese are really looking for.
Market Intelligence
Two more weeks have passed and in the northern hemisphere the summer is approaching. This means on one side holiday time for many people, but on the other side also factory closures and the low season of production.
The leather pipeline is dealing with these repeating cycles as well as with the structural problems that have developed in the past two years. The fundamental trends are raising new questions and the differences in the various sectors are making generalised statements about the situation in the leather pipeline more and more difficult, or even obsolete. We have too many different situations in regions, product families and sectors with a generally under-performing demand situation in the volume segments.
While generally markets are drifting higher and lower for all types and regions, sometimes with delays, sometimes to different extents, the present structure of leather demand is creating a situation in which we see different directions. We see light and thin constantly going down while heavy and thick is stable and in some cases even gradually getting more expensive.
This is just a consequence of what has been discussed in this publication already a number of times. Due to the excessive raw material prices until the first quarter of 2016 and sharp reductions in oil prices, the balance of economics between leather and alternative materials has totally shifted. We have seen a major shift from leather to non-leather materials. While leathers with a lighter substance and heavy finish can be easily copied and substituted by plastic, it is not that easy when it comes to more natural-looking and heavier types. We have seen sneakers made from mesh further expanding and covering a much larger portion of the total market of shoes than ever before. The market for ladies’ bags has also lagged after the boom years we have seen. All of the above has reduced the demand for these types of standard leather and this is reflected in the present market environment.
On the other hand, we have also seen that leather is not obsolete as a product. Even when we leave automotive interiors and aircraft aside, leather is still important wherever natural beauty and comfort are appreciated by manufacturers and consumers. This is best displayed in natural and heavy leathers and in small niches where the specifications still allow no substitution. All the leathers in these sectors, unfortunately the minority, see unbroken interest and demand and have only to deal with the problems of pricing.
So far, so good, but what options does the leather pipeline really have to get leather back into play in other segments? In particular shoe companies are experimenting with the options to bring production back to home markets, to produce faster, to individualise the product more easily, which means that they are looking for fully automated factories, avoiding high labour charges and making production quicker and more flexible. Adidas has announced the first pilot plant in Germany to produce sneakers close to the market again to reduce transportation and to be more flexible and quicker in production. Such a production will not involve leather as a material. As far as we understand, other sports shoe manufacturers are planning similar operations, suggesting it is unlikely shoe production will use more leather in the near future. Speaking to some industry experts they do not exclude the possibility that similar productions could be done with leather, but at this stage there is no information about any factory planning to do so yet.
What applies to shoes could quickly apply to handbags too. Another condition is that the system works and Industry 4.0 (with its smart factories) will be capable of handling the challenges of individually designed bags using manmade materials.
Consequently leather has to reinvent itself once again. The price of oil has already recovered to $50 per barrel, which is still pretty low, but who knows what is going to happen next? At the same time our raw material prices continue to fall and if we look at the prices for sheep and lambskins we have also learned in the past two years that anything can happen. Record low prices for skins have not stimulated demand at all, although it might be a different story in the bovine section. However, the longer it takes, the more difficult it will be to switch everything back. The benefits of production not depending on the supply of leather are simply too inviting for the mass market.
This leads us to fashion and sustainability. Fashion is something that remains totally unpredictable. Sometimes it needs very little to trigger fashion hype and if this includes leather anything can happen; the consumer will immediately follow whatever can be considered a fashion trend. Sustainability is a bit of a different story, because we still have conflict between the anti-beef campaigners, the interest of the fashion industry to sell more and change designs quickly and the idea of quality leather as a long-lasting and sustainable material. The big problem is that barely any of the young fashionistas would consider wearing a pair of leather shoes or to use a bag for more than a season.
To promote leather once again would either need a fashion trend to be triggered by whoever or the intention of the big brands to bring leather back on stage, which we can’t really see today. We still have a lot of brands that are using leather and where the brand name is tightly linked to the material, but none of these brands is really advertising or promoting leather as a special material today. The question is if these brands will also escape and follow the same road, or if they will try to swim against the current and promote the material and try to use it as a marketing and sales argument instead of just being in the same pond as everybody else. If you visit a shopping mall today and look at the different shops and brands and their products, the difference between different brands’ ranges has become pretty small.
High-quality, heavy raw materials still attract customers quite easily, while lower-quality and lighter material continues to struggle. The beef industry struggles with the issue and finds it very difficult to come up with a pricing structure that reflects the real market situation. Many hides today still carry a price-tag that nobody wants to pay, simply because the demand for finished leather isn’t there. For the summer we are left with the option of leaving the hides they where they are or for sellers to try to find a price level at which the leather industry is willing to move the risk to its side, taking a chance on the raw material finding a market (as leather) sooner or later.
Cash-flow and financing continue to come into focus for many businesses. Attempts to cover this up and to reduce immediate financing needs, as usual, hit companies at a later stage when the realities of overheads and shrinking financial resources due to falling revenues move to the forefront. We are hearing of serious concerns about a number of tanneries around the globe, which might have to deal with serious cash-flow problems between now and the end of the summer.
The split market seems to have ended its short flurry of positive news and prices are heading backwards again. Special items that are of top quality and high substance are still finding good interest and one could possibly even go as far as to say there’s not enough of this material around to meet the demand. Even some suede articles are still doing reasonably well. But everything that is traditionally used in cheap products can’t find a home. There are plenty of price quotes around but how much they are really reflected in sales and interest is hard to say.
We are not able to trace any difference in changes in the skin market. Also here the niches are doing well: in Europe everyone is now waiting for the new season lambs to arrive and people are questioning what the almost total dominance of one Chinese company in the UK market is going to mean in the end. At this stage only high-quality and specific raw materials sell easily and still at very adequate price levels. For the rest, at least in the northern hemisphere, it could become a very long and hot summer.
If the general market situation stays close to what we have described above, one has to remain pretty cautious about the weeks to come. Certainly we have bright spots and even raw material types that are in short supply. We might even have a flurry of replenishment because there are still tanneries running and they require replenishment of raw material. However, we have to watch the mainstream trends and here it is very important for leather consumption to be boosted again. Timing is certainly not good because we are just that the end of May and into the low-production season, plus the summer holidays are still in front of us. The might be less slaughter, but there are no holidays at the abattoirs and we have a continuous output of raw material. Our Chinese sources are telling us that they expect a round of replenishment of raw material mid-July, which might stabilise and support the market situation over the coming weeks. After that, however, it could become difficult again, with a slow period until the trade meets up again in Shanghai in early September for the All China Leather Exhibition. Traditionally we see a quiet period from beginning of August until the end of September, because that is the time when manufacturers and retailers are deciding on their next steps and decisions for the following season.
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