The Leather Pipeline - 05.02.19
05/02/2019
The world continues to run into increasingly unstable conditions. It is a slow but continuous process. We cannot say exactly when and where it all started but we have shifted away from a time when leaders compromised and tried to find solutions towards nationalism and autocracy in many countries. This is increasing the risk of confrontations.
The list is endless and new issues have been added in the past few weeks. Most recently, the situation in Venezuela which would be nothing but a regional conflict in South America were the country not one of the major oil producers. Western and Russian companies have their interests, while this is a region the US considers to be its backyard. It is an area where the US will not tolerate the rising influence of Russia. At the same time, Russia sees it as an opportunity to increase its global influence again.
So far, we have not seen any direct impact on the global economy. There are the sanctions against Russia, the trade war between the US and China, Brexit and many other subjects that could provide a scare for the global economy, which has begun to stutter. Nobody is yet blaming politics for this, but we think it might be one of the major reasons. The normal consumer is far more sensitive and reacts quickly when something even slightly threatens their future, safety or security.
As far as the financial markets are concerned, we have not yet seen any major negative reactions. One might consider the decision of the US Federal Reserve (Fed) to refrain from any further interest rates hikes in the near future due to economic uncertainties as an indicator. Jerome Powell, chair of the Fed, used the term ‘patience’ a number of times, pointing also to adequate inflation figures.
Global commodity markets also remain in pretty narrow ranges. The OPEC production cut seems to have worked in the desired way. If one considers safe haven investment, the recent rise to above $1,300 per barrel could be seen as an indicator that people are shifting towards a defensive investment. It is important to mention that the main buyers of gold have been national banks.
Not much movement in the currency market, but the US dollar trended a little weaker in response to the outlook from the Fed. In the case of the Euro/US dollar, the negatives seem to paralyse each other. We might also mention the impressive strength of the pound sterling, which few were expecting considering the absolute chaos surrounding the Brexit deal and what an uncoordinated departure on March 29 could mean for the UK economy and its consumers. It seems the financial markets remain convinced that last minute arrangements will be found.
Market Intelligence
In the past two weeks, we haven’t really noticed any major deviation from what was expected. The Chinese at home and abroad were wrapping up for the Lunar New Year holidays and the flurry of interest in the raw material market quickly faded. Once again, we a got lesson about how simply the raw material market is structured. As an almost natural reflex most global suppliers tried to push prices up, simply on the basis of selling having been a little easier for a few weeks.
On one side, this could be considered smart trading and simply the work of a good salesman. However, everyone needs to look at the situation from a wider and more neutral perspective. We have a problem with leather demand. For a while now the demand for leather has been shrinking while the supply of raw material has been stable or has risen slightly. The majority of pundits have concluded that there is more raw material on the market than is required to satisfy the leather demand. The consequence? Cut throat completion.
Everyone fights for their own fortune, but those who are trying to push their prices up should be aware that this will likely cost business and sales. Something will be left over when not all can be used. While this would be an individual problem, it is also a negative signal for the general market. We need to open new pipelines if we are to restore basic demand; price increases are certainly not the way to achieve this. You must lay a base before you can build a house.
We are aware there will never be a common strategy, but a more coordinated interest is required. There also needs to be greater professionalism when it comes to marketing this by-product.
Surplus problems
We are now entering the next break on the same footing we have been on for more than a year. There is not enough demand for leather. Nobody has managed to estimate the precise surplus figure, but there is still a fear that the number of hides being destroyed is going to rise.
It also has to be mentioned that we are not just dealing with raw materials that do not have enough interest to be cleaned up. The number of semi-finished hides getting stuck in tanneries around the globe is another problem that needs to be addressed. Tanners that still enjoy good leather orders are faced with the problem of selections that their customers are not willing to take. This is not just a quality question; it would be far too easy to say that all these hides are low grades.
Massive competition means tanners have to take these orders and to produce a certain quantity of hides in vain. They don’t match, but the clients want them. In the past, they could have gone into different products and articles or been sold at discount levels to the same client, but these options are now being refused. This is because leather buyers currently have no reason to cooperate with their suppliers in order to find a solution. They are getting enough of what they want and so they don’t bother with anything else.
It might sound unbelievable to those who are not affected, but to keep many tanneries running a certain number of hides has to be soaked in order to keep core business turning and to generate sufficient revenue to pay the bills. This is of course financed by lower raw material costs, which is the only way to generate the cash flow required to keep the tannery afloat.
Speaking to visitors and exhibitions at the India International Leather Fair (IILF), which took place last week in Chennai, we heard many repetitions of the same things. A number of people were disappointed by the number of international visitors, with the small number of Chinese visitors mentioned in particular. This may be explained by the holidays, but we all know that holidays can wait when there is business to be had.
Lack of understanding
We are hearing the same stories about less leather consumption and more requests for specific high quality types. The dress shoe makers in India play the same games as everybody else; they ask for better quality and get more picky every day, making demands about the specifications of the leather. It is not just the finishing, type or selection we are talking about now, it is also narrower size ranges or less tolerances in substance.
Much of this makes little economic sense and it is getting frightening that the size of the hide appears more important than the article actually being made. At the end of the day, this is additional confirmation that purchasing managers do not need to cooperate as they already know that they will eventually get what they want, regardless of whether their specifications make sense or not.
For a fully integrated manufacturer this offers plenty of opportunities to improve margins. If you can put aside specifications that don’t actually matter for the finished product, there are plenty of favourable economic options. It simply comes down to whether you have the power to overrule restrictions that in today’s market environment are completely outdated.
In the meantime, many tanneries are complaining about the massive price pressure from their clients. The combination of falling raw material prices and competition for prices is a lethal cocktail when it comes to price negotiations. Even after many decades in the business, many leather buyers seem unable to understand the basic calculations involved in leather manufacturing. Production costs are rising, while material costs, with the exception of raw material, are stable if not increasing. A tanner who cannot sell all the leather made from the soaked raw material has to get an adequate price in order to finance the stocks or to subsidise the price of less desired selections.
When we listen to the comments and arguments at the negotiation table, we recognise the low level of common understanding in many cases. Very few leather buyers really appreciate the service and effort the supplier is offering. The fundamental belief that almost every supplier can be replaced is so strong that even basic calculations are no longer being made. It is not rocket science to figure out where the bottom price level for a square foot of finished leather is.
After the holiday break in China the next big events await us as the industry gets together in Milan and Paris. As usual, these are important events because they will let us know if there are any changes in the fashion and leather article being developed by manufacturers. The attendance will be of great interest here as Chinese players will be back from their holidays and there are no restrictions on the visits of others either.
When we depart from Milan many will already be preparing for Hong Kong, which begins just three weeks later. We must admit that we don’t appreciate the timing and would have preferred for the event to take place a little later. Anyway, in March we will have a clearer picture if the luxury section of the high-street brands continues its strong performance of previous years.
Splits and skins
The split market has started to reflect the changes in leather production. In places like China the offer of lime split continues to underperform. Good quality lime splits have found the bottom. In Europe, one still finds a range of prices, depending on what the split offered can be used for. We see a similar situation for wet blue splits, with selected materials for good quality suede or heavy substance still finding homes at reasonable prices. Everything else remains a drama and the fallen split credits are affecting the calculation of tanners too.
History is repeating itself in the skin market. Prices have hit the bottom for the majority of skins. Some lightweight, dense wool and specialty articles have been able to decouple from the trend and still find a little higher revenue. However, the small percentage of skins that still allows for reasonable revenue is offset by a much larger number that find no market at all. As a result, skins are either dumped right away or are sitting in warehouses around the globe.
‘Brexit’ uncertainty
The next two weeks will certainly see subdued activity, with the missing activity from China felt. We cannot expect too much excitement from Europe either. Not everyone depends on business with the UK, but within Europe the UK economy plays quite an important role. UK hides are sold on the continent and a number of finished products return there. Nobody knows how trade will be carried out once the UK leaves the European Union on March 29. It is hard to believe that politicians will not find a solution that will allow for trade to continue smoothly after this magic date.
Many speak about the precautions being taken, but the consequences are so wide-ranging that it is impossible to prepare for everything. It could mean that UK hides cannot find an easy way to their customers on the continent, which will certainly result in a shift in demand and affect prices. In addition, a lot of consumer products made or shipped through EU countries could get stuck due to new customs regulations. All of this will affect the leather industry. It might not be until the end of March that we really know the result.
In the meantime, the little break of the next two weeks should be used to think about how we are going to deal with the future of the industry. Can we find solutions to re-establish a growing market for leather or will we remain in the same agony as before? Will the efforts already being made be successful enough to spread positive effects into the pipeline in time? Do we have to prepare for a new era in which a significant proportion of a valuable raw material resource is wasted?
It is unlikely the answers will suddenly appear on the internet of in the newspaper, but we have seen a number of technical developments that make us believe there is a chance. The trade fairs will at least concentrate experience, know-how, ideas and creativity so that we can learn more about the situation.
Share this story:
