Update: Why C3 Can't Help but Continue to Sparkle for Cree Research

It's all in the fine print.
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So, an item here

yesterday questioned whether

Cree Research

(CREE) - Get Report

would be able to continue to get 20% of its revs from

C3

(CTHR) - Get Report

, which makes fake diamonds made of moissanite. Cree sells silicon carbide crystals to C3, which uses them to make the fake gems, and C3's sales growth lately has paled compared with its own estimates.

A Cree spokeswoman wasn't available at the time, but she called yesterday with what seems, on the surface, to be a simple answer: Cree will get 20% of its revs from C3 because C3 has a sales agreement with Cree that requires C3 to buy

all

of Cree's silicon carbide crystal production through next June.

Say again? A sales agreement requiring C3 to buy

everything

moissanite-related Cree makes?

Yup.

You thinkin' what I'm thinkin'? Doesn't that sound a little like one company (C3) handing a blank check over to another company (Cree) with the unspoken understanding that one company (C3) will buy whatever the other company (Cree) needs to make its quarter?

You might think, though Cree CFO Cynthia Merrell doesn't see it quite that way. Among other things, fake gems are not a big part of its future plans, she says. But she adds that it has been "nice" to get the kind of profit margins that biz generates as well as the cash it has helped provide for research and development.

Still, there's no getting around that Cree and C3 have an agreement that insures that Cree, with a billion-dollar market cap (make that $900 million; it lost 10% of its value Thursday), will have a ready buyer for all the silicon carbide crystal product it makes. The agreement is disclosed, in detail, in C3's 10-K and proxy. (You would never know the coziness of the deal -- the "buy-all aspect" -- if you just read the "certain relationships" disclosure in Cree's

SEC

filings. Cree felt

that

was C3's responsibility. According to C3's SEC filings, in fact, the agreement actually ended at the end of June. But it was extended for another year, Merrell says.)

So, why should anybody have a problem with such an arrangement? On the surface, at least, this agreement looks too close for comfort. Never mind that the CEOs of the companies are brothers, or that a third brother helped start C3. And forget that until very recently Cree and its officers and directors owned around 5% of C3. (They sold it, Merrell says, for just the reasons nosy reporters seem to keep asking about.)

The real issue is what happens if demand for moissanite diamonds, which are only made by C3, aren't what C3 expects? As yesterday's column showed, C3's sales growth is slowing and its inventories are ballooning. C3 says the inventory will be worked off over the next half of the year as it more than doubles the number of stores that sell moissanite.

That raises another issue: C3 only sells moissanite to independent jewelry stores. It says it doesn't sell to the chains, like

Impostors

, the national fake-gem chain, because it doesn't want to cheapen the fake-gem's image. However, my assistant,

Mark Martinez

, got a different story from Impostors' marketing director Kathleen Jordan, who said, "We actually looked into moissanite, but declined ... The prices were just too high for moissanite." She added that diamonds made from cubic zirconia are "more accepted in the marketplace."

Merrell, from Cree, says that even if moissanite doesn't do as well as expected, her company figures that in a few years it'll be a tiny part of its overall business.

Maybe, but as this column pointed out yesterday, right now is all that counts.

Either way, you gotta agree: This is a gem of a story.

Herb Greenberg writes daily for TheStreet.com. In keeping with TSC's editorial policy, he doesn't own or short individual stocks, though he owns stock in TheStreet.com. He also doesn't invest in hedge funds or other private investment partnerships. He welcomes your feedback at

herb@thestreet.com. Greenberg also writes a monthly column for Fortune.

Mark Martinez assisted with the reporting of this column.