Menu icon

Asset-Based Lending Guidelines and More

By Stephen D'Aquila, Steve Katz (Host)
Home / Perspectives / Asset-Based Lending Guidelines and More

Stephen D’Aquila, Vice President at Hilco Valuation Services and a jewelry industry specialists joins Steve Katz on the Hilco Global Smarter Perspectives Podcast Series to discuss the state of the industry one year into the global pandemic, and some guidelines that he suggests for lenders to follow in order to more effectively evaluate both prospective jewelry industry borrowers and existing portfolio accounts during this volatile pandemic period.

Listen or View Transcript



Steve Katz  0:09
Hello again, welcome to the Hilco Global Smarter Perspective Podcast Series. I’m your host, Steve Katz. Today we’re speaking with Stephen D’Aquila, Vice President at Hilco Valuation Services and a jewelry industry specialists about the state of the industry one year into the global pandemic, and some guidelines that he suggests for lenders to follow in order to more effectively evaluate both prospective jewelry industry borrowers and existing portfolio accounts during this volatile pandemic period. Just a bit of quick background, Hilco Valuation Services is one of the world’s largest and most diversified business asset appraisers, field examiners and valuation advisors. The company has expertise across a wide range of asset classes, including inventory, machinery and equipment, real estate and enterprise valuation and is delivered valuations for all industries ranging from jewelry to retail, energy, financial services, healthcare, aerospace and more. Alright, with that said, welcome to the podcast Stephen.

Stephen D’Aquila  1:03
Hello Steve, it’s great to be here today.

Steve Katz  1:04
Well, we’re really glad to have you on. To get things started today can you give us a general overview of the health of the industry prior to the pandemic in the 2019 period? And then maybe some thoughts on what you and your team observed over the course of 2020 from a demand sales and related impact perspective?

Stephen D’Aquila  1:24
Sure Steve. So if you go back in history, the diamond supply side now think rough diamonds is very highly concentrated in a few key players. These players control the flow of goods and subsequently the pricing of the inventory. They sell to sightholders. Now sightholders are manufacturers cutters with contractual agreements in place with these mining companies. And the miners dictate pricing as well as terms and how much inventory is being sold to these siteholders. Now, if you fast forward leading up to COVID, there was a general decline in global and consumer demand as it slowed down specifically for this asset class. And that then resulted in generally a bottleneck in the industry, which led to a glut of supply not just in the polished stones that you would see actually in a retail store location, but also the rough stones themselves. So what happens is the mining companies are faced with a dilemma. What do we do? And what they eventually chose to do is begin to offer site deferrals. So if you, the cutter, normally and a sightholder normally, had an agreement in place where you would produce and purchase goods at the beginning of a particular site, you were then given the opportunity to defer that site to a different timeframe, generally around six weeks from then. From there, the miners additionally began to offer price concessions on rough stones, which is not something that they’ve historically ever had to do. So then all that being said, COVID then hits and demand really begins to drop off – retail stores, they start to shut down, and that’s where a lot of the end consumer demand stems from. Most people are going into a store to buy jewelry so when the stores are closed in that mid-March to June-ish timeframe, there was a lack of demand for the product and you’d see consumers beginning to save more and more and not spend. And there’s just a general concern in the industry early part of 2020 regarding just the consumers’ attention and really not buying diamonds and jewelry at all. Good news is that lenders began to give jewelers some leeway and therefore there was not really a rush to mark down inventory-the jewelry inventory and it was favorable for the jewelers that they did not have to take these big types of markdowns. Gold, on the other hand, really had an opportunity to increase in value. It’s seen as a safe haven for investors. So if you look at a historical price chart of gold, you’ll see that starting with the pandemic and continuing forward, gold prices increased significantly. Albeit they’ve come down a little bit since then, but for the early and middle part of 2020, gold prices experienced a tremendous growth in comparison to historical averages.

Steve Katz  3:58
Okay, perfect. That’s a great baseline I think for us to start with. Now you and I were chatting before the podcast a bit about how consumer spending shifts during the pandemic have to some degree actually benefited the industry. Can you shed a little bit of light on that for our listeners? And then also, I’m hoping that you can address how that benefit might have been even greater if the industry players hadn’t faced some very unique challenges in their ability to adapt a more e-commerce driven model.

Stephen D’Aquila  4:27
Sure. So if you think about it, I’m sure the listeners have heard it before, but a K-shaped recovery from a financial perspective, you have individuals who benefited financially from COVID and you had others that did not. And for those that did benefit, there was a general pent-up demand among these consumers. They have been saving for quite some time-their savings levels have gone way up. If they owned stock or if they were lucky enough to have a home they saw appreciation in both of those asset classes. If they continued to have employment, they had a continuous flow of income coming in. And when you have all this additional equity and liquidity lying around and less of an opportunity to spend it in areas such as travel, entertainment, diamonds, etc., it really diverts discretionary spending into different asset classes, including jewelers. So jewelry has benefited more recently from this inflow of activity. On the e-commerce side that you mentioned, we noted a general e-commerce shift in this industry as well as just about everywhere else. COVID really changed the buying behavior of consumers and accelerated the shift that has been going on for a number of years into e-commerce. That has helped offset declines in brick and mortar sales activity during that store shut down and subsequently coming out of that store shut down. The challenge is the jewelry industry in particular, is less focused historically on the e-commerce sales platform. Most people go to stores to purchase jewelry-type items. Now there have been a few players out there-big players that have benefited from having a strong e-commerce presence, even pre-COVID. And those players did remarkably well during this entire COVID experience. What we found is that for the most part, jewelers are now dedicating more money and more focus to the e-commerce platform. But it still represents a pretty small slice of the total revenue for the industry. But it is something that is a focus of these different companies going forward. We found that you know, habits are changing, and COVID is quickening this change. And now there’s a greater reliance online for a number of buyers. So what I’ve seen is, you know, the jewelry companies are focusing on having jewelry being displayed on their website, but the actual customer experience is something that is really important to the user. So what we’re looking at is, how does product load on the website? What are the descriptions being assigned to the different  products on the website, and most importantly, how the product is being visualized on the website. 360 visualization feature for example, really is something that consumers are looking for. And what we’re seeing is consumers even if they’re not buying online, they’re at the very least they’re educating themselves more online before they walk into an actual physical store location.

Steve Katz  7:13
Yeah, I’m sure I mean, we’ve seen consumers become much more sophisticated in their online buying. So I’m sure that the ability to display those goods in a compelling way will make a big difference. But obviously, there’s a cost associated with that. So, Stephen, I know that when you and your team approach the process of establishing a valuation for jewelry business, it’s really the in-depth diligence that you perform that provides the data and the insights that enable you to establish a highly accurate net orderly liquidation value. So my question is, how valuable are the inputs that you receive from lenders as part of that process? And are there certain operational components of those businesses that a lender should make sure that they’re particularly knowledgeable or in the know about?

Stephen D’Aquila  7:56
I would say that these inputs are critical – very valuable in the overall valuation process. Our team here at Hilco, we’ve consistently found that the lenders we work with – they’re highly knowledgeable of their borrowers. And then when the lenders do come to us, they’re asking very specific pointed questions. And those questions are great because I think in the end of the day, it leads to a better quality report, and a better outcome for everyone. But you know, there are times when a client might be new to this specific space, and really, that’s where we come into play, and that’s what we’re here for. I see ourselves as an educational resource from our collective experience over the years appraising a number of these companies in the industry. And we could provide that resource to these clients. So to that point, you know, if your readers have a chance to read this jewelry perspective article found on the Hilco Global Website, within the article, I laid out 11 different what I would call key considerations. And these are areas that I would suggest to a lender, for them to chat with a borrower about and then looping in the appraiser as needed. You know, answers that the lender receives to these different consideration points will really help us form the basis of an appraisal in terms of the general disposition strategy we’re using as well as the recoverable value. And what I found is, when an appraiser is provided this insight in advance of an actual engagement, we have the ability to better fine-tune our expected recovery guidance to our clients in advance of the actual engagement itself.

Steve Katz  9:25
Okay, well, great. So based on our conversation earlier, I think that I have a list of those here. Yep, I’ve got them. So let’s walk through those. And if you don’t mind, I’d like to have you briefly touch on what lenders should be looking out for in regard to each of those 11 items. So here goes; the first two are memo exposure and then, turn and aging.

Stephen D’Aquila  9:47
Sure. So memo for those of you who may not have heard this term before, memo is an industry term which would be similar to that of consignment inventory. And there are different forms of memo; it could be memo in, as well as memo out. Memo in is product that is someone else’s that is at your location, while memo out is the opposite of that. So the secured collateral of your borrower may include memo out type product. So within memo out you have long-term memo out and short-term memo out. Short-term could be inventory that’s at an outside grading agency, an artisan who’s manufacturing product, an employee sales associate who’s taking the goods to different retail locations for trunk shows, might even have it at a customer-an actual end-user. Longer- term memo out could include product that a distributor or manufacturer has at a retailer and it could be for six months, a year, even more. As you’d imagine, memo adds general risk in both operating the business as a going concern as well as in a liquidation. The risk factors that we see are just simply, you know, access to the inventory. You know, will the customer purchase it in the event of a liquidation, potential shrink issues associated with that product, freight costs, if you do have to bring the product back in-house, you know, are there UCCs in place with the lender? And so what we do is we look at all these different points in addition to the mix of inventory that might be owned versus out on memo and where the inventory physically is. And we discussed these with the lender and provide them guidance in terms of what we’re looking at in terms of suggestions for product eligibility, as well as the impact on recovery rate in an appraisal. Your second question was regarding the turn and aging of the product. And regarding turn, it’s a bit relative for an industry, and it’s specific to from one industry to another if you think about it; food products, products with expiration dates, product that might be technological sensitive, fashion-type goods. So those are all products that need to turn very quickly. Jewelry on the other hand that has a little bit more leeway; it does not turn nearly as fast as a number of those examples. And the average turn for jewelry is right around a year or so. So what we do is when we look at inventory turnover and inventory aging, specific to jewelry type items, we really focus in on what is a piece made up of you know, can you repurpose it, can you take it from a slow-moving piece and redesign it into a new piece that could breathe new life into the product, or you know how much of the cost value of the product is linked to the commodity or commodities it is made up of. So you think the diamonds that are in there or the precious metal component. With that, we have the opportunity to repurpose the goods or sell the goods separately, or even melt the gold of our other precious metal content of the piece itself.

Steve Katz  12:44
Okay, very good. The next two are expenses and trends.

Stephen D’Aquila  12:48
So jewelry inventory, it’s slow-moving, right, so that means generally there’s an elongated sale term when it comes to an inventory appraisal disposition strategy. So what we have to consider, in addition to the term of the sale is other factors related to expenses, expenses that we would need to incur during a sale itself. And for a jewelry retailer, it could include high price-point real estate leases. You have stores that are in very strong markets that command higher price-points for their leases and as well as you know store payroll and the related commissions. All these factor into our liquidation expense structures are the biggest contributors to the liquidation expense structure and can really eat away at recovery value. So collectively, these liquidation expenses create a greater burden on the cost value of the product for a jewelry retailer in comparison to a jewelry manufacturer distributor. For the manufacturer or distributor of jewelry, the good news is you have high price-point pieces that are very small in actual physical size, so you could fit a lot of them into a small location. This reduces the overall operating expenses that we would expect to incur during a sale event. So you have lower expenses expressed against a high inventory value, which leads to really favorable expense absorption. So the long story short, you know expenses as a percent of costs, they can really be drastically different when you compare the wholesaler to a jewelry retailer. And the second point you mentioned, trends.Trends are important for us to look at specifically when it comes to the fashion component of a jewelry company. And some that supplies more so than others when it comes to designers, and the popularity of different designers for pieces on-hand or product types. If you think about engagement rings like the Halo engagement ring, was a very popular trend for a period of time, changes in consumer demand for rose gold versus yellow gold. All these different types of trend-type items will cycle in and out. And what we want to do is get a good understanding of how the borrower’s assortment is mixed toward trendy, fashionable product versus what I would consider more timeless-type pieces.

Steve Katz  15:06
Yeah, that makes a lot of sense obviously, because once the once the trend is gone, what happens to the inventory? So interesting. Alright, the next two are seasonality and financing.

Stephen D’Aquila  15:16
So from a seasonality perspective, when we’re looking at jewelry companies, specifically jewelry retailers, as you would imagine fourth quarter, the holiday selling period that is a prime selling period for a company. But in addition to that, there are other points in the year that also have higher levels of demand. So think, Valentine’s Day, or Mother’s Day, graduation time of the year, or wedding season, for example. All these will have shorter periods but spikes in demand during various months, which we would consider non-key selling non-fourth quarter selling. So when we’re constructing an inventory appraisal, we’re considering these different factors and how changes in demand throughout the year will influence recoverable value throughout the year. In generally speaking, what we’re doing for specifically jewelry retailers, we’re constructing not just a low and high recoverable value for the inventory, but we’re isolating individual months, and how changes in consumer demand based upon holiday buying, for example, will influence individual monthly recoveries, which in turn, the lender could then utilize when they construct their borrowing base advanced-rate calculation. When it comes to financing, one thing that we look at is, you know, how common is financing within, you know, specifically a jewelry retailer. So if you walk into a jewelry store, you might be met with signage that will offer interest-free financing for a period of time. And the interest-free financing might encourage you to buy a product or maybe spend more money than you otherwise would have. So what we do is we look at the financing programs in place, whether they’re internally held or utilizing a third-party company. And then, we look at how that is influencing overall consumer buying behavior in general, concentration of financing in comparison to other means of purchase, including cash and credit cards. So gaining an understanding of these various factors are important in determining overall disposition strategy within our appraisal report and expected recoverable value.

Steve Katz  17:21
So if my business has a very high level of financing for example, and we end up in a liquidation scenario, it’s very possible that the flow of business, the volume of that business might be significantly impacted as a result of the fact that I can’t necessarily secure that same financing during the liquidation is that kind of where that’s going?

Stephen D’Aquila  17:44
I think that’s a good point; there’s definitely the possibility that that could occur. We’ve done actual liquidations where we’ve had the opportunity to continue a financing program in place. But there’s the inherent risk that that program might not be a viable option in a sale event. So understanding that risk is important as a lender as part of their portfolio review.

Steve Katz  18:09
Okay, it makes good sense. The next two on your list are wholesale and costing.

Stephen D’Aquila  18:13
So if you think about wholesale, the wholesale market in general, one thing that we rely on is the fact that this inventory has a commodity component to it; the diamond, the precious metal component. The good news here is that there are a lot of wholesale players available beyond who the company might be selling product to on a routine basis that we would be able to target in a sale event. And that’s just not speaking domestically, you can extend that out internationally as well. So China, India, Israel, just to name a few of the players out there, these are all big players in the industry, and you have the potential to sell to these players via brokers or even utilizing auction houses to sell all the way to end consumers. So the good news is, the channels of distribution during an actual liquidation event could expand out, which benefits overall recoverable value. In addition to that, as I was mentioning earlier, the product itself, there’s an inherent floor intrinsic value of the goods that might be diamonds or the precious metal piece of the inventory. So when we’re assessing the recoverable value, we’re considering these different market conditions when we arrive at our gross recoverable value in an appraisal. In terms of the second one, you mentioned costing I believe, and I think I alluded to it earlier, but you know, definitely worth repeating. The costing of these commodities will fluctuate you know, based upon a variety of macro conditions. I mentioned that gold pricing had increased dramatically during the initial months of COVID. This, in turn, influences value and that value will include the cost value, the procurement value that the company has when they’re buying goods from vendors but, it will also impact their pricing strategy to customers, their margin that you’ve achieved, and then that relates into how we go about an inventory appraised and the appraised value of the goods. We look at current market conditions and what different commodity types are trading at currently, and how that relates back to what the company has the inventory recorded on the books for. So we look at those deltas, in part in determining our recoverable value for the goods.

Steve Katz  20:22
You can really start to see how much work goes into this; how much diligence, you and the team perform. So this is great. All right, the next two on the list are assortment and licensed inventory.

Stephen D’Aquila  20:34
So as far as something that we like to monitor a lot when when we’re looking at an inventory appraisal, and includes whether the product might be a timepiece versus a bridal, it could look at is it designer inventory versus private label inventory. So as is the case with a lot of industries, these factors influence not only historical sales and margin activity, but also the recovery of value of the good itself. So what we’re doing is, we’re looking at inventory in a very in-depth manner. Historically, for a period of time for the coverage period of the appraisal to determine how mix and assortment are influencing expected recovery value. When it comes to licensed product, we’ll come across licensed products from time to time, I would say the most common I’ve seen would be collegiate type goods or Disney product, my experience is licensed inventory is generally a smaller part of the puzzle, but it’s definitely something to look at. You know, as with licensed inventory for any borrower, you know, outside of jewelry as well, it’s something that we would always recommend the lenders council review the contracts in place these licensing agreements to gain an understanding of what type of restrictions might be at play here. And would the product even be able to be liquidated. From there our focus is really just assessing what’s the concentration of licensed goods in comparison to the overall base of inventory on-hand. And that will allow us to determine is this licensed inventory going to move the needle of the animal v one way or the other? Is there enough inventory there to really change value at all?

Steve Katz  22:15
Okay, and the last item on the list is fraud. This is becoming a bigger problem now in the industry isn’t it?

Stephen D’Aquila  22:22
I would agree with you. I would say that one of the things that we look at is specifically lab-grown stones. The introduction has been more pronounced over the last couple of years now, which is great; it adds an additional component asset category to various jewelry companies. But the challenge here is from a procurement standpoint, where lab-grown stones at a lower cost basis are sometimes mixed in with mined diamonds. So that creates fraud. And what we found is that the jewelry industry, in general, is being very proactive in managing against this inherent risk. And they’ve taken a number of steps and there’s machinery equipment that’s available to detect lab-grown stones, which I’m finding that many jewelers are actively utilizing. And then there’s also the fact that you have the ability to test products. So you could go in and actually examine the product, the loose diamond for example, there would be a serialization on the loose diamond that you would be able to match up to a grading certificate on hand. So there are different checks that are available to help offset the risk of fraud. But the key to me is really for the lender to understand the borrower’s processes; the procedures that they have in place to protect against this overall fraud. So what equipment, what systems do they have in place to really manage against fraud and other shrink risk in general?

Steve Katz  23:53
Yeah, and it’s probably a fairly significant investment I would assume for jewelers to bring that equipment in-house, purchase it, or lease it long term. Is it costly?

Stephen D’Aquila  24:05
Yes. But I would say definitely worthwhile and something that really all the jewelers that I’ve seen are currently investing in.

Steve Katz  24:14
Yeah, well, I think especially if it continues to grow is an issue the consideration of fraud-it makes a lot of sense. So all right. Well, I think that was an outstanding primer, Stephen. So thank you, and for all of our listeners and particularly for those within the lending community, I think that’ll be very helpful. So lenders, whether you’re working with a prospective jewelry borrower or have current industry exposure within your portfolio, as this discussion has clearly illustrated, the more you understand about certain aspects of those businesses, the better right now. And to learn more, we would certainly encourage you to reach out to Stephen and the knowledgeable jewelry team at Hilco Valuation Services today. So with that in mind, Stephen’s email is That’s Stephen, it was really a pleasure having you on the podcast. You’re so knowledgeable on the topic, and I think it was probably very helpful for all of our listeners. Thank you.

Stephen D’Aquila  25:14
Great. Thanks, Steve. I appreciate you including me.

Steve Katz  25:17
Absolutely. And listeners, we hope that today’s Hilco Global Smarter Perspective Podcast provided you with at least one key takeaway that you can put to good use in your business or share with a colleague or client to help make them that much more successful moving forward. Until next time for Hilco Global, I’m Steve Katz.

Stephen DAquila Headshot

Stephen D’Aquila

Senior Vice President
Hilco Valuation Services phone vcard

Let’s connect and work together

If your business or a business in your portfolio is facing a current challenge, our team can provide a qualified perspective and experience-based guidance toward an optimized resolution.
Contact us