SanDisk on the defensive as revenues drop

The US flash memory producer, which is the target of a hostile takeover by Samsung, announces the sale of manufacturing capacity to Toshiba amid a 21% year-on-year decline in third-quarter revenues.
US-based SanDisk Corporation, the producer of flash memory data storage products that was until this morning the target of a hostile takeover by Korean conglomerate Samsung Group, announced third-quarter revenues of $821 million on Monday, representing a year-on-year drop of 21%. On the same day, it said it will restructure its joint venture with Toshiba by selling 30% of the JVÆs manufacturing capabilities to the Japanese partner.

SanDisk expects to net $1 billion from the sale both in cash proceeds and savings made on leasing expenditure. This is a move that will boost the balance sheet of the troubled memory producer and may have been intended to try to wring a higher offer price out of Samsung, but instead Samsung decided today to withdraw its bid citing "poor earnings prospects at SanDisk, along with an uncertain outlook and the current financial crisis".

Located in Yokkaichi, Japan, the joint venture's manufacturing equipment has hitherto been split equally between the two partners. Toshiba will benefit by boosting its manufacturing capabilities, which it believes will help increase its flash memory sales, while SanDisk will be able to reduce its memory production commitments, a critical issue for a company in an industry where overcapacity is a serious problem. The remaining 70% output from the facility will continue to be equally shared between Toshiba and SanDisk.

SanDisk expects to receive the $500 million cash component of the proceeds from the sale in the first quarter of next year.

SanDisk reported a net loss of $132 million, or $0.59 a share, in the third quarter, compared to a net income in the same quarter last year of $130 million, or $0.54 per share. Although SanDisk is selling more memory, the high levels of oversupply in the market have impacted profits: the total number of megabytes sold in the third quarter increased by 105% year-on-year, while the average price per megabyte sold has fallen by 63% year-on-year. License and royalty revenues were up by 11% year-on-year.

Last month Samsung made an offer to buy SanDisk for an equity value of $5.85 billion, translating to a price of $26 per share. SanDisk's management rejected the offer, saying that it undervalued the company's long-term worth and that it was an opportunistic attempt by Samsung to take advantage of SanDisk during a cyclical downturn. The offer price of $26 a share was at an 80% premium to the closing price before the announced takeover.

SanDisk's shares shot up and hovered at around $22 for the rest of that week before starting a steady decline back down to the $14 level where it was trading before the announcement. It closed at $14.42 on Monday.

One analyst participating in SanDisk's earnings call, which is posted on, expressed concerns over what the company can do to revive its share price. "Obviously the board thinks the $26 price under-values the company but when does the company feel like it can deliver results that would drive the stock price well north of $26?"

On the Monday analyst's call, Eli Harari, SanDisk's CEO, declined to discuss Samsung's then ongoing takeover proposal, but his plans for the company's near-term future consist of cutting capital expenditure and operating expenses. The former has already happened, he says. Capital expenditure for 2008 is down by $500 million and he forecasts that capital expenditure in 2009 will only be $1.3 billion, down from the $3 billion that was originally intended. Savings in operating expenses will be made through cutting some product and marketing activities, as well as slashing jobs in research and development, marketing and other areas.

Analysts have commented that SanDisk may have rejected SamsungÆs offer but the steps it is currently taking seem to have been precipitated by the hostile bid.

One of the big questions with regard to a takeover of SanDisk by Samsung was how the Korean firm will deal with SanDiskÆs existing JVs with Samsung's long-term competitor Toshiba. By unwinding some of these JVs, SanDisk does address part of the issue, and could make itself more attractive to a future bidder.

ôThe SanDisk board of directors remains open-minded about a potential transaction with Samsung,ö said Harari on the call. ôOur board is focused on the right price and the right protections for our shareholders, including the renewal of the Samsung IP patent cross licence in case a transaction does not close.ö

With the $500 million cash from the sale to Toshiba at hand, SanDisk could choose to embark on a share buyback, speculate analysts. But unless both the prevailing stock market environment and the economics of the memory industry improve SanDisk could find it challenging to move the share price near the $26 levels Samsung had offered.

Samsung was advised on the hostile bid by JPMorgan. Defence advisers to SanDisk are Goldman Sachs and Morgan Stanley.
¬ Haymarket Media Limited. All rights reserved.
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