January 29th, 2008
By Charles Wyndham.
Watching Russell Crowe play the mathematics prodigy John Forbes Nash in ‘A Beautiful Mind’, I did not think that its sub plot would become directly or so obviously pertinent to our industry.
It was Nash, or should I say Crowe, who made the greatest contribution to ‘game theory’, or transactional analysis, to allow them ‘both’ to collect a Nobel Prize.
Going back onto the topic of tendering / auctioning, the move by the DTC to stick its toes in the water through the good offices of Diamdel, raises some interesting points; especially as Neil Ventura (MD, Diamdel) said this Monday announcing the conclusion of their auction; “we are delighted that the first auction has worked so well and in particular how we have been able to meet the needs of clients from around the world at market determined prices.”
It was BHP Billiton who came out with the first significant ‘twist’ on tenders where the winning bid pays the average of the top three bids. I hope I have got these details correct but again the point is clearly an attempt to increase the sophistication of the system and in time increase the actual prices received.
It may seem initially a bid odd or even altruistic to allow the winner to take the average of the top three or whatever number chosen of the bids. Clearly that it is not, neither should it be required to be, the intention.
This methodology is aimed at increasing the overall top average by encouraging buyers to enter their top price without the risk that this heroic act will backfire. By doing this the intent is to push up the average prices.
In the DTC / Diamdel scenario a different tack has been taken.
Here the highest tender is the prelude to a predetermined time window where companies can bid online against what was till then the highest offer etc, EBay for diamonds so to speak.
This methodology bears a striking resemblance to the system used by the British Government for the sale of the G3 licences, which ended up with the government’s coffers being filled to overflowing to be dissipated in the usual socialist fawning incompetence and political correctness.
The key point to me about the system was that it was so successful that none of the successful companies have made any money out of winning.
My heart, I have to admit, does not bleed for the likes of Vodafone, but when transmuting this game theory system to diamonds it raises interesting points.
Using ‘gaming theory’ to exact higher prices is a perfectly legitimate way to go where consenting adults are participating.
In the G3 licence sale this was a one off sale. If the tender or auction is of a similar nature so be it.
However, in the Diamdel case it would appear that this is not its primary purpose. The presentation of a box as a unit and in addition each of its component parts being offered separately suggests that a key, if not primary, purpose is price discovery.
Again price discovery is good and pretty essential for DTC where clearly their ability to price has rather gone off the rails. BHP Billiton also use tenders as a means of price discovery.
The danger here to me could, I use the word advisedly, be that the methodology will skew the prices for the bulk of the goods to unrealistic levels. Selling small parts to price the bulk carries an inherent risk of over pricing, especially where the system is designed to generate as much excitement as possible.
As an aside, it would be funny for all but the victim, if someone’s highest bid prior to the openening of the auctioning part of the process did not elicit any competing bids! Clearly this was not the case this time for Diamdel.
The risk in getting too engrossed in game theory which effectively plays so successfully on our underlying competitive weaknesses, is that customers will not make money.
Even if consenting adults should be responsible for their actions, for producers to ignore the possible ramifications may be short sighted.
Today’s market is a curious brew where a genuine shortage in many areas is vying against an extremely precarious general economic background and above all a weak dollar.
A weak dollar has always been positive for our industry, but maybe this time it has passed a Rubicon where its collapse has helped drive prices up to frighteningly dizzy heights.
At the prices that have suddenly shot up it seems hardly necessary to add a bit of further excitement through some clever auctioning system to add to the insipient speculation.
Prices in the top end simply cannot continue to increase at the same rate that they have been doing. The issue is to use the economic jargon we have been subjected to for so long, is it going to be a soft landing or a sudden collapse.
The underlying shortage should reduce the odds favourably on a soft landing, a levelling off of prices.
But another key ingredient in a time of reduced liquidity for this more favourable outcome is that producers allow those down the pipeline to make money.
What is positive is that auctions / tenders mark the beginning of the end of the old club more emphatically than anything else, lets hope we do not end up as paranoid as poor old Nash.
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