Half Year Financial Statement And Dividend Announcement 2024

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Condensed Consolidated Interim Statements of Profit or Loss and Other Comprehensive Income for the Six Months Ended 30 June 2024

Condensed Consolidated and Company Statements of Financial Position as at 30 June 2024

Review of Performance

Overview

Following the extremely challenging fourth quarter of 2023, the diamond jewellery industry showed signs of improvement going into the initial months of this year. After the lifting of India’s voluntary import ban of rough diamonds imposed in late 2023, rough quantities in the pipeline increased, reaching an average of $400M per DeBeers sight in Q1. Together with an overall healthy demand for diamond jewelry in the U.S market during the holiday season, the first two months of 2024 indicated a positive trend. However, continued weak demand from China, the second most important market for diamond jewelry, the ongoing disruptive impact of LGD in the U.S. market and the over-optimistic amount of rough re-entering the pipeline, rapidly lead to increased polished diamond inventories and declining wholesale prices from March onwards. Thus, after a brief respite in the first couple of months of 2024 polished prices resumed their decline across most categories, by an average of 20% for the first half of the year, with an accelerated decline in the last two months. De Beers' Q2 sights contracted significantly, with the July sight reportedly some $200M (to note, De Beers has announced it will no longer announce the value of individual sights, so this estimate is based on industry feedback). Notwithstanding DeBeers reduced sights, it must be noted that the second largest producer worldwide, Russia’s Alrosa, continues to sell rough diamonds through varied channels. Due to political issues, Alrosa data is not readily available for analysis. According to their announcements, their revenues from rough sales in 2023 not only did not decline in line with DeBeers’ reduced sales, but actually increased yearover-year 2022. Other sources indicate a modest decrease of 12% in carat production in 2023, as compared to 2022 and as compared to nearly double that figure for DeBeers. Thus, DeBeers’ currently reduced sights might not necessarily indicate a proportionate reduction of the overall quantities of rough diamonds entering the polishing pipeline.

Wholesale prices in the lab-grown diamond (LGD) segment continued to decline, dropping between 20-50% since January 2024 (depending on size quality), creating significant pressure on lab grown "growers" (i.e., producers) and manufacturers. With the slowing pace of adoption in the U.S. market, and as yet no significant uptake in other markets, LGD supply has outstripped demand. Coupled with fierce competition between producers, sharp wholesale price declines have been manifested, with one carat LGDs selling in quantity for under US$ 100! Growing competition between retailers has also driven retail prices down with lower-quality one carat stones often selling for under US$ 500 and similar two carat stones available from online sources and lower-end department stores for under US$ 1,000. Average U.S. in-store prices for two carat stones were, on average, US$ 1,550 at year’s end 2023, down some 40% from a year earlier. LGD profit margins are still higher than those for natural diamonds, however, the absolute revenues and profits realised have shrunk by half over the course of less than two years. As the retailers’ fixed costs (rent, payroll, etc.) have not contracted by half, and as the number of jewellery items bought (e.g., couples getting married) has not doubled, the retailers' conundrum is whether to focus on LGD with higher margins but significantly lower absolute revenues and profits, or revert their focus back to natural diamond sales with higher turnover in order to remain viable, even if still continuing to offer LGD.

Sarine has made substantial progress in executing its new strategic initiatives, as announced at year's start. The introduction of our Most Valuable Plan™ (MVP) for optimising the planning of small natural rough diamonds, the adaptation of our rough planning technologies to LGD, the opening of a GCAL by Sarine lab in India, mostly geared to service the significant Indian LGD industry, and the launch of the AutoScan™ Plus and Sarine Diamond Journey™ solutions to address ESG concerns and G7 sanctions on Russian diamonds, have expanded our product portfolio, attracted new customers, and are generating new recurring revenue streams. Coupled with aggressive business streamlining and cost cutting, we have enhanced our profitability and our strategic position for value growth, when market conditions improve. While near-term challenges in the rough diamond market persist, our strategic steps are aimed at fostering long-term growth and a stronger market position for Sarine, as we bolster our offerings for the natural stone and LGD markets alike. We generated just under 13% of our revenues in the first half of the year from LGD-related services and are confident that we are on track to realise our aim of generating 15-20% of our revenues for the year from this segment of the industry.

The Group reported revenues of US$ 21.9 million in H1 2024, profit from operations of US$ 1.4 million, and a net profit of US$ 1.0 million, as compared to revenues of US$ 23.7 million, profit from operations of US$ 1.4 million and a net profit of US$ 1.0 million in H1 2023. Overall recurring revenues for H1 2024 (including Galaxy® inclusion scanning, MVP optimal planning, LGD rough planning, grading and other polished diamond related services, annual maintenance contracts, etc.) increased by approximately 11% over H1 2023 and were over 70% of our overall revenue (over 60% for H1 2023). Overall rough and polished diamond wholesale and retail related (“Trade”) revenues, mostly from digital tenders, the Sarine Profile™, the Sarine Diamond Journey™, our GCAL lab grading and other technologies applied to the flow and trade of rough and polished diamonds, increased by approximately 44% in H1 2024, as compared to H1 2023, and contributed some 26% of our overall revenue for H1 2024 (17% in H1 2023).

The stability in profitability in H1 2024 despite lower sales and lower gross profit margin, was mainly due to product mix and cost reduction actions initiated by the Group.

Balance Sheet and Cash Flow Highlights

As at June 30, 2024, cash, cash equivalents, short-term investments (bank deposits) (“Cash Balances”) increased to US$ 26.6 million as compared to US$ 23.0 million as of December 31, 2023. The increase in Cash Balances was primarily due to a decrease in inventory to $8.9 million (US$ 10.5 million as at December 31, 2023), and increased other payables, to US$ 6.8 million as at June 30, 2024 (US$5.7 million as at December 31, 2023) and the Group’s H1 2024 net profit of US$ 1.0 million, offset by a US$ 1.1 million buyback of Company’s shares.

Revenues

Revenues for H1 2024 of US$ 21.9 million, decreased by 8%, as compared to revenues of US$ 23.7 million reported in H1 2023. The decrease in revenues, across most geographies, was due to an approximate 37% decline in capital equipment sales offset by an approximate 11% increase in recurring revenues. The decline in capital equipment sales resulted from impaired business conditions in the entire diamond jewellery value chain. The increase in recurring revenues was mainly due to introduction of our LGD rough planning solution and increased trade related revenues, mainly from the GCAL acquisition.

Cost of sales and gross profit

Cost of sales for H1 2024 of US$ 8.0 million, increased by 8% (on a decrease in revenues of 8%), as compared to US$ 7.5 million in H1 2023, with a gross profit margin of 63% in H1 2024 compared to 69% in H1 2023. The decrease in gross profit and the corresponding decrease in gross profit margin were primarily due to decreased overall sales, and product mix (primarily GCAL's higher cost of goods sold).

Research and development expenses

Research and development expenses for H1 2024 of US$ 3.9 million decreased by 11% as compared to US$ 4.4 million in H1 2023. The decrease in research and development expenses, as planned, was primarily due to streamlining actions initiated by the Group.

Sales and marketing expenses

Sales and marketing expenses for H1 2024 of $5.7 million decreased by 14% as compared to US$ 6.6 million in H1 2023. The decrease in sales and marketing expenses was due primarily to cost saving actions initiated by the Group.

General and administrative expenses

General and administrative expenses for H1 2024 of US$ 2.9 million, decreased by 27%, as compared to US$ 3.9 million in H1 2023. The decrease in general and administrative expenses was primarily due to management initiatives, mainly aimed at the reduction of IP related legal costs.

Profit from operations

The Group reported stable profit from operations of US$ 1.4 million in H1 2024 and H1 2023. The decrease in gross profit was offset by cost reductions.

Net finance income

Net finance income for H1 2024 was US$ 0.1 million, as compared to US$ 0.4 million in H1 2023. The decrease in net finance income was due to lower interest income during H1 2024, as compared to H1 2023, as a result of reduced cash balances throughout the period and increased IFRS related finance expenses due to the GCAL acquisition.

Income tax expense

The Group recorded an income tax expense of US$ 0.5 million for H1 2024, as compared to an income tax expense of US$ 0.9 million in H1 2023. The decrease in income tax expense was primarily due to combined tax reporting initiatives taken by the Group and by the profitability being realised in various entities of the Group, each subject to different jurisdictions, applicable incentives, and income tax loss carryforwards.

Profit for the period

The Group reported a virtually identical net profit of US$ 1.0 million in H1 2024 and H1 2023 (rounding notwithstanding), as streamlining and tax reduction actions offset the lower profit from operations.

Commentary

We expect the following industry trends to continue influencing our business:

1. Israel has been involved in an ongoing war with the Hamas terrorist group in the Gaza strip, following its brutal 7 October 2023 attack on Israel. Other hostilities have since commenced with the Hezbollah terrorists in Lebanon and other Iranian led terrorist groups. To date, the effect on the Group’s activities has been minimal and has primarily been the calling up of certain of its employees for reserve duty.
   
   
2. Demand for natural diamonds is anticipated to remain subdued in the near term due to elevated midstream inventory levels combined with weak demand from China and the ongoing impact of LGD on natural diamond sales. A gradual market recovery and renewed retailer stocking is projected as inventories draw down, driven by demand in key markets such as the U.S. and India. Demand is expected to be bolstered by innovative natural diamond marketing campaigns by industry leaders, increased post-Covid consumer engagements and overall evolving industry developments, as elaborated on in section 6 Overview above. In the short term, due to current inventory levels, we expect to see lower quantities of natural rough diamonds entering the pipeline. In April DeBeers cut its yearly production forecast by 3 million carats (~10%) and in July reduced it further by an additional 3 million carats. However, to note, similar data referring to Alrosa’s production are not available.
   
   
3. The LGD market also faces challenges, marked by rapidly and sharply declining wholesale and retail prices and substantial inventory accumulation in India. The decline in retail prices for lab-grown diamonds serves to further accentuate the fundamental differences between LGD and natural diamond jewellery, slowing the rapid adoption of LGD witnessed in 2022-2023. As the absolute revenues generated by LGD sales, even if at higher margins, decline, the retailers' economic viability of selling LGD diminishes. There are definite indications of a renewed focus on natural diamonds among many U.S. retailers. We maintain our belief that an equilibrium will be achieved in the near term, with natural diamonds retaining a significant market share, primarily in the bridal jewellery segment, and LGD commanding a more dominant position in fashion jewellery (earrings, tennis bracelets, pendants, etc.).
   
   
4. In February we launched our Most Valuable Plan™ (MVP) paradigm for the optimal planning of smaller rough natural diamonds, a segment in which our installed base of Meteor™ and Meteorite™ Plus systems scanned some 33 million stones in 2023. The MVP adoption rate continues as per our expectations, presently addressing our existing customer base and creating significant added value. The business model is based on added yield and value realised from the rough material, and is charged for on a per-stone fee, driving recurring revenues. We believe that concurrent with eventual improving market conditions, MVP may also drive additional Meteor™ and Meteorite™ Plus scanning systems as well as planning system sales and expand our TAM to additional new customers currently using other technologies. To support the introduction of the MVP technology, we have indeed released the Meteor™ Plus inclusion scanning system, which implements all the advantages (mainly higher productivity) of the Meteorite™ Plus into the Meteor™ system.
   
   
5. Our LGD rough planning services based on the application of our industry-leading planning technologies to LGD, were also introduced in H1 2024. We have to date experienced very rapid adoption, exceeding our initial expectations. The business model is based on a per-carat charge for the service, akin to the Galaxy® pay-percarat service fee. We expect to see additional expansion of this service's adoption in H2 2024, expanding our customer base to new customers and generating a new stream of recurring revenues.
   
   
6. With the launch of our LGD focused GCAL by Sarine grading lab in Surat, India, in H1 2024, we expect to substantially expand our LGD grading business. The lab in India empowers increased capacity to grade LGD near their Indian source, providing customers with a more cost-effective grading solution while still implementing GCAL’s recognised unsurpassed levels of quality control. We have already generated new business from new U.S. retail customers wishing to take avail of the intrinsic benefits of our new service offering. We expect to further expand this business in H2 2024 and beyond.
   
   
7. Environmental, social and governance (ESG) issues continue to concern retailers, especially high-end luxury brands. The AutoScan™ Plus and Sarine Diamond Journey™ combined solution provides a cost-effective means to address these matters and should continue to gain traction. The U.S. and other G7 partners are still committed to tighter sanctions on Russian-sourced diamonds, though their initial target date of traceability verification commencing September 2024 has been postponed to March 2025. If the enforcement of these sanctions will indeed be premised on a digitally verifiable source traceability and authentication system, AutoScan™ Plus and our collaboration with DeBeers' Tracr™ platform, along with our Sarine Diamond Journey™, provide a scalable cost-effective means to meet the mandated requirements with minimal overhead or disruption to the diamond value chain.