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Blue Nile and Diamond Retailing

$1$ This case was written jointly with Professor Roby Thomas of Elmhurst College.

A customer walks into your jewelry store with printouts of diamond selections from Blue Nile, a company that is the largest online retailer of diamonds. The list price for the customer$$s desired diamond is only $$100$ above your total cost for a stone of the same characteristics. Do you let the customer walk, or come down in price to compete?$2$

$2$ Stacey King, $$The Internet: Retailers' New Challenge,$$ Professional Jeweller Magazine, August $1999.$

This dilemma has faced many jewelers. Some argue that jewelers should lower prices on stones to keep the customer. Future sales and add$-$on sales such as custom designs, mountings, and repairs can then be used to make additional margins. Others argue that cutting prices to compete sends a negative signal to loyal customers from the past who may be upset by the fact that they were not given the best price.

As the economy tightened during the holiday season of $2007,$ the differences in performance between Blue Nile and bricks$-$and$-$mortar retailers were startling. In January $2008,$ Blue Nile reported a $24$ percent jump in sales during its fourth quarter. For the same quarter, Tiffany posted a $2$ percent drop in domestic same$-$store sales, and Zales reported a $9$ percent drop. The chief operating officer of Blue Nile, Diane Irvine, stated, $$This business is all about taking market share. We look at this type of environment as one of opportunity.$$

The Diamond Retailing Industry

For both wholesalers and retailers in the diamond industry, $2008$ was a very difficult year. It was so bad at the supply end that the dealers$$ trade association, the World Federation of Diamond Bourses, issued an appeal for the diamond producers to reduce the supply of new gems entering the market in an effort to reduce supply.

However, the world$$s largest producer, De Beers, appeared unmoved, refusing to give any commitment to curtail production. The company had recently opened the Voorspoed mine in South Africa, which, when fully operational, could add $800,000$ carats a year into an already oversupplied market. Historically, De Beers had exerted tremendous control over the supply of diamonds, going so far as to purchase large quantities of rough diamonds from other producers. In $2005,$ the European Commission forced De Beers to phase out its agreement to buy diamonds from ALROSA, the world$$s second largest diamond producer, which accounted for most of the diamond production in Russia. Russia was the second largest producer of diamonds in the world after Botswana.

Although discount retailers such as Walmart and Costco continued to thrive, the situation was difficult for traditional jewelry retailers. Friedman$$s filed for Chapter $11$ bankruptcy protection in January $2008,$ followed by Chicago$-$based Whitehall in June. When it filed for bankruptcy, Friedman was the third largest jewelry chain in North America, with $455$ stores, whereas Whitehall ranked fifth, with $375$ stores in April $2008.$ In February $2008,$ Zales announced a plan to close more than $100$ stores that year. This shakeup offered an opportunity for other players to move in and try to gain market share.

With the weakening economy, the third and fourth quarters of $2008$ were particularly hard on diamond retailers. Even historically successful players such as Blue Nile, Tiffany, and Zales saw a decline in sales and a significant drop in their share price. As customers tightened their belts and cut back on discretionary spending, high$-$cost purchases such as diamond jewelry were often the first to be postponed. The situation worsened as competition for the shrinking number of customers became fiercer. In such a difficult environment, it was hard to judge which factors could best help different jewelry retailers succeed.

Blue Nile

In December $1998,$ Mark Vadon, a young consultant, was shopping for an engagement ring and stumbled across a company called Internet Diamonds, run by Seattle jeweler Doug Williams. Vadon not only bought a ring but also went into business with Williams in early $1999.$ The company changed its name to Blue Nile by the end of $1999$ because the new name $$sounded elegant and upscale,$$ according to Vadon.

On its website, Blue Nile articulated its philosophy as follows: $$Offer high$-$quality diamonds and fine jewelry at outstanding prices. When you visit our website, you$$ll find extraordinary jewelry, useful guidance, and easy$-$to$-$understand jewelry education that$$s perfect for your occasion.$$

Many customers $($especially men$)$ liked the low$-$pressure selling tactics that focused on education. Besides explaining the four Cs$$cut$,$ color, clarity, and carat$$Blue Nile allowed customers to $$build your own ring.$$ Starting with the cut they preferred, customers could determine ranges along each