The Leather Pipeline - 02.10.18
02/10/2018
After a long summer when politics mostly dominated the headlines, we are now seeing the financial markets become more active, which is in most cases directly related to political decisions.
While the focus of interest was mostly on the trade war between the US and the rest of the world, several other topics are also becoming more important. Among those that we consider to be the most important and influential are the looming crisis in the emerging markets, the rising price of oil, and the new budget decisions of the populist Italian government. It is certainly also the end of the cheap money cycle, when the next increase of US interest rates begins to have their indirect effects on the markets.
Oil prices continue to rise. The reasons given are the sanctions against Iran and the political tensions in the Gulf region. The price per barrel, depending on the quality, has again gone to levels above $80. Looking at the prices for heating oil and at the gas station, in many countries we have already reached levels that haven’t been seen in five years.
As strong as the labour market in many countries may seem, we should be clear about the fact that energy costs are hitting the wallets of consumers immediately and hard. In addition, we see food prices rising sharply for various reasons, for example droughts in several regions and the African swine fever outbreak. Scientists do not consider food and energy to be core indicators for inflation, but in the world of normal consumers, the increase in price of essential items plays a very important role and limits what they can spend on other items.
In Europe, economists are starting to worry about the decision of the Italian government to increase the budget deficit. This is in direct conflict with the agreement with the EU, but that is exactly what the populist government is looking for. While the reaction from the EU is simply a political one, the consequences of which will have to be well considered, the current government might be underestimating the reactions of the financial markets.
With the debt the country already has, they can obviously simply declare that they are expanding the budget deficit, but they also have to find somebody who will finance it and borrow the money. Ratings agencies and international lenders could become a real problem for this strategy. In any case, the Italian economy could become the next big challenge for the Euro and for the stability of the political community.
The first results were already seen at the end of last week when the general trend of a weaker dollar was broken and the Euro lost some of its shine, falling back to around 1.16 against the dollar.
Market Intelligence
The third quarter of 2018 ends. Many people in anyway related to the leather industry found their way to Lineapelle in Milan. Raw material suppliers, tanners, shoe manufacturers, fashion people, designers, technicians, brands and retailers, or even people who have an interest in what is happening in the fashion part of the leather business met in the Milan fairground.
Regardless of the problems this industry has at the moment, the time at the event in Italy was a pleasure. Every six months, it provides a big relief from the huge problems the industry has to deal with. These is so much beauty, taste, creativity and production competence displayed for the three days that the fundamental problems in the commodity side of the industry almost completely fade away. Yes, the discussions there are about the problems - in particular the raw material suppliers found a reason to continue to complain - but all in all it is always a show that stresses what products made from a natural raw material can mean.
We have to admit that we did not see any new trends or indications of a better situation. It is pretty much the same as what we know already. High-end fashion, luxury and specialties continue to be appreciated by the consumer and the producers; there was barely a stand displaying such kind of products where one could see disappointed faces and sales staff waiting for visitors. We spoke to many who said they were busier than expected and that on the second day in particular they struggled to deal with everyone on their stand. They didn’t complain about orders either, with several exhibitors admitting that their order books are full and so they couldn’t take any more for the coming season. This applied to everyone, from ovine to bovine, and from grain to split.
With all the depression we have to deal with in the industry at the moment, we thought it a good idea to start this issue on an entirely positive note. A lot may be bad, but not everything is. The show confirmed once again that if the product is right and the beauty of nature is the focus of the finished article, there is still plenty of interest in using leather.
Traditionally, Lineapelle is not the place for the industrial producers of standard items. This part of the business still represents the majority of global production, however, and so in judgements about the status of the leather pipeline it has a dominant role. One can see within the visitor groups a lot of staff from mass retailers and brands, as well as from online platforms. They are there to grab inspiration and ideas, but they certainly have no intention of promoting leather in their business activities.
They sell the products that offer the best profits from the lowest investment, not the best material. More than ever before, one has to believe that their only reason for travelling to Milan is to get inspiration for the cheap alternatives that they intend to make and sell. They may not steal the image of the brand name, but they definitely steal the creativity and know-how, the research, and the inspiration the leather industry still has to offer.
That is a normal business attitude and they cannot be blamed for doing so. However, it shouldn’t be excused either. Because they dominate the big volumes it is better to see this as it is and try to get them back on the boat. What can be done to make leather a material that they need to have on their shelves and on their websites?
Many discussions took place about this subject. However, what you generally hear is the same complaints we have heard for a long time. Even now when every concern has become a reality, there are still few people really trying to find solutions rather than complaining about what has happened.
Animal welfare is key
Before we start to deal with the current activity in the market and along the pipeline, let’s have another look at how the leather industry is trying to cope with the present situation. It is once again clear that the problems are only being addressed from individual positions. There are meetings and conversations between the automotive tanners, but we don’t hear anything about collaboration by the shoe or upholstery tanners. The others are pretty much fighting their own battles.
The efforts of organisations which are just trying to run their own business have to be appreciated, but they are far too fragmented. In our opinion, the biggest problem is that there is not one voice for all those related to the industry. Despite all the individual problems, there is a common interest, and this is the same for everyone – the beef industry, the tanning industry, and the gelatine and collagen businesses. We would certainly like to see more effort from the beef industry, only under the condition that they consider their main by-product to be an important contribution to their business and returns.
The fact is that the large manufacturers in the shoe, leathergoods and automotive sectors seem to pay more attention to traceability and animal welfare than the food industry does. We again have to stress that hides and skins are only by-products of beef production. Global beef consumption is still rising and we have to believe that the by-product we are using is subject to the highest level of supervision and control by inspectors and veterinarians. Any additional efforts on top of this should not really be required.
For leather production, which expects a good quality raw material with as few defects as possible, the highest standard of animal welfare is absolutely essential. There have been numerous programmes to improve hide and skin quality. They have always been related to how farmers take care of their animals by treating them well, feeding them and avoiding anything that could harm the creature or the hide or skin that protects it from the environment.
That many brands are now asking the leather pipeline to question the quality control and the government surveillance just confirms how little they know about the material they use. It also shows that they don’t have much confidence and trust in the legislation and supervision of farmers, which is already in place in the regions they are currently targeting with their requests.
The great story of traceability improves, but it changes nothing. It is more than enough to control the origins, which is already in place. At the moment, it is true that literally nothing is wasted. If we continue on this path, that may soon change. For those who have already chosen to live without animal products, it changes nothing. For the rest, they can have confidence in what is already in place. It doesn’t need more bureaucracy and inefficient activities. We have enough of that already, and not just in the leather pipeline.
Uncertainty continues
We now return to what actually happened in the past two weeks in the raw material and leather markets. The reality is that nothing new has happened. Raw material producers and suppliers have begun to realise that the start of the leather production season has changed nothing. Those few hoping that the trade shows would be a turning point were disappointed; others knew this already.
The are no signs of a major stimulation in leather demand that would solve the oversupply situation in the raw materials markets. What started as a problem for a few low-quality suppliers has now reached the others. In the meantime, it is an open secret that hides in the US and Europe are disposed of and not many more are being recovered for the leather industry. It is true that this is mainly just hitting the very bottom end of the quality range, but this is always where the problems start.
Raw material prices continue to slide. Specialties and specific qualities can resist, but they are not really decisive for the general trend and they do not stimulate general demand. As well as the problem of leather demand, we are also dealing with the consequences of political decisions, in particular the tariffs being imposed by China and the US. It is naïve to believe that tariffs, whether they are 5% or 25%, will not influence general business. It is true that many other products are being hit and that it might level out in the long term, but more expensive is more expensive and it will take a while for the supply chain to adjust.
The problem in Milan was not so much in the booths of the exhibitors, it was more the conversations in the aisles. An increasing number of raw material suppliers are beginning to realise that is not price that is killing the business. It is not the case that leather at a certain price level would displace plastics, so the declining prices will not change very much.
It was also pretty obvious that not all the orders for the next season have been placed. This applies to the real users of leather and not those for whom design and materials for 2019 have been decided some time ago. Nothing will change here, but there is a lot of leather consumption by manufacturers and markets that are not part of the big flows. It is in this part of the business where we mainly deal with smaller or medium-sized companies whose owners and managers are much more cautious and make late decisions when the situation isn’t clear.
Despite the strong economic situation in many parts of the world, some are watching it with a rising level of uncertainty. Nobody seems to want to talk about the growing number of issues which are currently influencing business decisions. Currency movements, interest rates, the cost of oil, and general concerns about politics can quickly change consumer sentiment.
With all these unknowns, it is normal that businesses try to delay their decisions until the last possible moment. This means it can still get significantly better or worse than the situation we have today. Regardless of how good it might get, it will not change the fundamental imbalance between supply and demand in the commodity sector. The real and final decisions for the winter season of upholstery production will only be taken at the end of October.
Splits and skins
The split business is again a copy of the business for the top layer. Commodity products for the leather industry struggle and we doubt that all production is being cleared. Specialties are seeing the same stable, strong demand as full grain leathers.
We believe we are entering a very interesting season for gelatine and collagen production. If leather business continues to be poor, the output of lime splits will also be reduced, a situation already experienced in China this summer. How many lime splits come to the market will also depend on what happens to the surplus of hides. If they are not tanned, there will be no splits either. Factories will then have to decide how they are going to deal with the situation. Only time will tell, but we will have a much clearer picture by November, at the latest.
The skin market is also a reflection of the above. Simple Nappa leathers have no market and the number of skins being wasted continues to increase. Specialties for rugs, linings and high-end double face garments continue to perform pretty well. Milan offered an opportunity to get a good impression about this situation.
Decision time
We are now entering the period of production. It is no longer the time for trade shows that are expected to give new directions. The final decisions are filtering through and whether or not they are being converted into orders should be clear by the end of October.
This week, most of Asia, in particular China, will be on holiday and so activity is likely to be subdued. Those buying materials see no indication that waiting will cause any problems with supply. It has become common that a late decision is a good decision. Where long-term programmes are in place, decisions have already been taken. This applies to high-end veal leather production. We understand that in some cases the programmes along the leather pipeline are already established well into 2019.
The automotive supply chain has actually shortened their timeframes wherever possible. In Europe in particular we understand that the ‘bread-and-butter’ business continues on regular levels. However, there is no real heat in the supply chain in the last quarter of 2019 and with a lot of uncertainty with regards to emission problems, everything has become much more short notice. Most of those close to the business are reporting that some of the contract tanners, who are usually the best indicator for the general level of production, are no longer working with extra shifts, something which they had been doing for quite a long time.
Traders of wet blue and wet white material are also slowing down due to the problems getting rid of the lower sections. They have been dealing with this situation for some time and the stocks that have accumulated are becoming a serious burden.
Summarising the situation, we have to assume the market trend is not going to change in the coming fortnight. Prices will remain under pressure, but this may be limited and in narrow ranges at the top end. The lower you get, the more the price becomes irrelevant; even being much cheaper will most likely not sell more hides at the moment.
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