The Leather Pipeline - 07.02.17
07/02/2017
In the past two weeks there was plenty of news on the financial markets, but everything was totally overshadowed by the first two weeks in office of the new US president. It seems that the world has to get used not only to new policy, but also to new behaviour and a new style. Diplomacy, good manners, respect for institutions and for long-established relations don’t count any more. What holds sway now is an attitude that says, ‘I am the boss and the world is a market of competing nations (companies); I don’t need to explain anything and my orders and explanations do not need to be larger than 140 characters’.
The ‘Wealth of Nations’ by Adam Smith is now being turned into an ‘Economic War of Nations’ by Donald Trump. In his simple world and the one of his supporters, this may sound and look pretty convincing. However the world has become significantly more complicated over the centuries and in particular since globalisation. If this could just be seen as test-run which could be easily corrected when it fails it would be interesting and also easy, and a new president could be elected. However, the damage that can be created could last much longer with serious impacts on the globe.
For the moment it is still all brand-new and people’s reactions are different: fear, amusement, support, entertainment, opposition or whatever. One thing is for sure: the US and the rest of the world are becoming more and more separate.
So far this hasn’t hit the financial markets. Companies are still trying to work out what all these big changes will mean for them. So far it is pretty much business as usual and nothing is decided. In general the business community seems still not to be very impressed and several sectors see these developments as positive prospects for them. Tax cuts and the announced heavy investment in infrastructure in the US look pretty attractive to some. ‘America First’ in combination with the new policy on energy, plus deregulation of the financial sector are ideas that are making some in the big-money sector happy.
As far as the financial markets are concerned the stock markets have begun to see things a little bit more clearly and, after the fireworks of the election, the markets remain reasonably stable, but generally with a slightly softer trend.
On the currency markets one can sense a little bit of a wind of change. Inflation is back despite being mainly driven by higher energy and food prices, but the general policy of easy money seems to be on its last lap. The central banks in the US and Europe continue to pump more liquidity into the markets, but sooner or later they will be forced to raise interest rates, which could become painful for investors. Despite the fact that the European Central Bank has declared it will continue with the easy-money policy, the euro has begun to strengthen. Here too Mr Trump has left his mark by declaring that the US dollar is too strong. This and positive data in many European countries have turned the trend around and the euro has gained about 3% against the dollar in the past weeks.
It might be a wise idea to watch the currency markets carefully because the new policy in the US and a number of upcoming elections in Europe in combination with the UK leaving the European Union might influence the markets considerably in 2017.
Market Intelligence
The past two weeks in the leather pipeline have been dominated by the holidays in Asia. In the first week most people were winding down and then the vast majority, in China at least, were on holiday. Speaking to various sources, it seems they really have taken a vacation this year. We could find hardly anyone who said there were phone calls or emails coming in asking for offers or market information. That normally means that most of the players are in a comfortable enough position not to bother too much about business instead of enjoying the holidays with their families. It is obvious that many people were happy to wait and view the big changes we have described in the first part of this publication. Changes in the political world might sooner or later have an influence on business too. A lot points in the direction of a trade war in future; nobody wants to be caught out. Everyone you talk to is convinced that this couldn’t happen with the global supply chains we have today and with globalisation in general, but you never know, and people are taking a cautious outlook.
The fundamentals remain positive. With the numbers and the statistical data with which we have begun 2017, one can be convinced that - without politics - the business outlook for the year would be rather positive. In Europe countries such as France and Spain have delivered positive data with the consumer prices index rising and unemployment falling. The German economy continues to steam ahead and every poll points to decent order books and high consumption, supported by low interest rates and low unemployment.
China seems to be to staying on track too, although one can always argue about the validity of Chinese data. The fundamentals in China remain stable and the government seems to be addressing one of the main problems, which is pollution. The US situation is a bit more complicated, but for the short term at least, the outlook is definitely positive. Those who support the new president are convinced of a better future and that makes them more willing to spend. The real estate market in the US remains strong and positive expectations will certainly support private spending in the short term. Who cares today about the long term anymore?
Some years ago nobody would have expected 2017 to become a major turning point for business and politics. In Europe we will see a number of very important elections, and in the US we will see what changes the new presidency will bring. Plus, the world still has to deal with mass movements of refugees, local conflicts in the Middle East and the Ukraine and even things like the ongoing winter smog problems in China. However it is unlikely that any of the above will change the business plans and outlooks for the current year.
In the leather pipeline the key question is if leather can make a return as a material of choice in certain markets. Except for luxury and the automotive sector, we have seen leather as a material being on the retreat for several years, mainly triggered by the falling oil price and environmental disputes. The world goes in cycles and consequently this could also mean that leather could have a comeback. In the high-end markets, we think it can be confirmed that leather is attracting consumer attention. High-end furniture as well as luxury accessories continue to sell well and they are very tightly connected to leather.
What about mass production? Talking to insiders one hears more and more about several of the big brands considering a return for leather in their future collections. The first signs can already be seen, with more suede split and goat being consumed. Quality, usability and sustainability have become a factor in shoe design again. The trend and turnaround might have been stronger if the general marketing concerns were not so big. What we mean is that the global anti-beef and anti-leather campaign continues to play an important role in material selection. Unfortunately, until now the leather pipeline has missed the chance to emphasise the fact that leather production is not dominated by polluting factories, but in the vast majority by high-tech and environmentally friendly operations. The effort taken to close the few remaining ‘dirty ones’ has left things in good shape and it will not take long for those to be gone too. If one looks at developments in the industry over the past 20 years, this has been a great success story.
If the leather pipeline were more willing to address the fact that alternative materials are, for many different reasons, by no means better than leather, a great step forward could be achieved. So far the leather industry continues on the defensive, just taking shelter when campaigns against it are run. It should be more positive and self-confident: there is nothing to hide and nothing to be ashamed of. The industry is using a by-product, turning it into a valuable material. People can decide for themselves if they want to eat meat or not, but as long as the by-product is available it is definitely much better to use it than to cast it aside.
The biggest problem remains price. As long as the consumer is happy spending less for lower quality and more product, we remain caught in a vicious cycle. Well-made leather shoes containing well-made materials offer higher comfort and last much longer if consumers are willing to use them until the end of their life-cycle. If you want to dump your shoes because you feel they are out of fashion, the argument loses some of its shine and leather cannot show its sustainability. We still believe that there are a lot of people out there who would buy into this if they were told why leather can be a force for good rather than bad.
Reports from the India International Leather Fair talk about a decent attendance without much clarity regarding the quality of those attending. The Indian leather industry is going through a pretty tough time, at least for companies not totally focused on export business. Government moves to address tax evasion and corruption by reducing the circulation of cash is hitting the poor. Also the pipeline from agriculture into the leather industry is facing serious problems. Some will say this is for the good, because it mainly hits small tanneries that, in terms of environmental questions, one would like to see disappear. However, in the short term it is bad news for the labour market as well as for the farmers.
The rest of the industry, which is mainly producing for global brands and export markets, doesn’t feel the pain that much, with the exception of the supply of local raw material drying up significantly. For this reason, and to meet the demand of international customers, the leather industry has to look once again for more imports. Consequently, people said that the attendance of international sellers and exporters in Chennai was significantly higher than before. A lot of people see the changes in China as a good chance for India, so many people travelled to see what kind of business potential could be detected. Reliable sources have confirmed this.
Goatskins, which had been suffering a similarly terrible situation to that of lamb and sheepskins (even becoming available almost for free) have begun to see good demand. There might even be a shortage, considering what people have planned to produce. The big problem is once again price. As usual the industry believed that raw material would be cheap for ever and made calculations based on this. One can see already a lot of buyers running around trying to find raw material at the prices of last summer when skins could be bought at whatever price as long as there was cash available. Sellers’ higher quotations are so far being rejected, but when the orders are in the books decisions will have to be taken soon on how to deal with it.
The remaining pipeline has been rather quiet, with the industry in China being on holiday. In other regions, we pretty much saw business as usual and supply and demand remain in balance, at least for standard articles in the automotive industry and quality leather production. The low end continues to struggle a bit more, although it is not reflected in any major price movements. With automotive being almost without seasons and the upholstery still in full swing, the demand is still there and a lot will now depend on what the shoe industry decides for the coming two seasons.
Splits of a certain quality, in particular for high-end suede and other specialty articles, is now enjoying the same steady and consistent demand as full hides do. Low-grade splits continue to struggle and the situation in the gelatine market also continues to be rather fragile.
We feel that the market for sheep and lambskins as well as goats is in a very interesting phase. We would go as far as to say that the worst is definitely over for goatskins and we would not be surprised if prices continue to rise in the coming months (they couldn’t fall any further anyway). The demand is there and, due to the low prices, supply had been drying up so it would not be the end of the world if prices were to go up by 50% or 100% from the low levels we had for such a long time. This hasn’t yet reached the commodity section of lamb and sheepskins. Quality skins have been doing reasonably well for quite some time, but standard items are really problematic.
The big issue remains the value of wool. In the wool market the situation is pretty much the same as in the leather business. Superfine wool for the luxury end continue to be sold at very high prices while coarse wool for the standard textile and carpet industry suffers and prices continue to fall. However, the industry is beginning to understand that prices for skins cannot go any lower. Less money would just mean that more skins would be destroyed. You can still buy plenty of all stocks at cheap prices but for a regular quality supply for the future the present levels in many countries around the globe will not allow processing. Since price cannot be the issue any more it is more a question of finding ways to use cheap leather in consumer products. It is still a bit too early to say anything definite, but we would not be surprised if we saw a similar situation to the one we are beginning to see for goatskins.
In the coming weeks a lot will depend on how Chinese tanneries see their business going in the second quarter. Inventories will not be that big and replenishment is going to be needed in several sectors if leather orders continue at the same level as before. The price problem is evident because, in particular, dairy cows as the basis for quality upholstery leather production have increased in average between 10% to 15% since the season started last autumn. At today’s price levels the margins are gone and only the average purchase price might have left a little profit for the season. Without customers being willing to pay more money for leather to cover increased production costs, tanners will become cautious about the kind of orders they are going to take; if they are not convinced that they can buy the raw material at adequate levels, they may say no. What is on the books today needs to be covered, but we all know that after April we will enter the low season for upholstery and the demand for raw material usually declines substantially and we see hand-to-mouth business at best.
The industry might be well advised not to get as excited as usual in the build-up to APLF exhibition in Hong Kong. The outlook for the leather business is certainly better than it has been for the past two years, but it can be quickly destroyed once again.
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