SanDisk 2005 Annual Report Download - page 94

result of the delay between the time of the investment and the time qualified products are manufactured and sold in
volume quantities. For several quarters, we will incur initial design and development costs and start-up costs and
pay our share of ongoing operating activities even if we do not achieve the planned output volume or utilize our full
share of the expanded output, and these costs will impact our gross margins, results of operations and financial
condition.
There is no assurance that Flash Partners’ 300-millimeter NAND flash memory facility will perform as
expected. We believe that our future success will continue to depend on the development and introduction of new
generations of flash memory wafers, such as the 300-millimeter wafers produced by Flash Partners. These wafers
are substantially larger in surface area and therefore more susceptible to new technological and manufacturing
issues, such as mechanical and thermal stresses, than 200-millimeter wafers that we use in production at Yokkaichi
Fabs 1 and 2. We have limited experience in operating a wafer manufacturing line and we rely on Toshiba’s
capability to operate and manage the Yokkaichi facilities. Toshiba does not have prior experience in manufacturing
300-millimeter advanced NAND designs, nor in operating a new equipment set that has to be optimized to process
300-millimeter NAND wafers with competitive yields. Flash Partners’ facility may not perform as expected or ramp
to volume production on time, and the cost to equip the facility may be significantly more than planned. Samsung,
the world’s largest NAND flash memory manufacturer, already has experience manufacturing 300-millimeter
wafers with 90- and 70-nanometer feature sizes. Also, Samsung is licensed under our patents to use MLC tech-
nology, which further enhances its manufacturing capabilities, and began shipping NAND/MLC products in the
third quarter of 2005. Samsung may be able to produce product at a lower cost than we can and increase their market
share, thus adversely affecting our operating results and financial condition.
We have a contingent indemnification obligation for certain liabilities Toshiba incurs as a result of Toshiba’s
guarantee of the FlashVision equipment lease arrangement and have environmental and intellectual property
indemnification as well as guarantee obligations with respect to Flash Partners. Toshiba has guaranteed
FlashVision’s lease arrangement with third-party lessors. The total minimum remaining lease payments as of
January 1, 2006 were 17.7 billion Japanese yen, or approximately $150 million based upon the exchange rate at
January 1, 2006. If Toshiba makes payments under its guarantee, we have agreed to indemnify Toshiba for 49.9% of
its costs.
In December 2004, Flash Partners entered into an equipment lease facility of 50.0 billion Japanese yen, or
approximately $424 million based upon the exchange rate at January 1, 2006, which, as of January 1, 2006, had
been drawn down in its entirety. As of January 1, 2006, our cumulative guarantee under this equipment lease, net of
cumulative lease payments was approximately 24.0 billion Japanese yen, or approximately $203 million based on
the exchange rate at January 1, 2006. In December 2005, Flash Partners secured an additional equipment lease
facility of 35.0 billion Japanese yen, or approximately $296 million based upon the exchange rate at January 1,
2006. Flash Partners had not drawn under this equipment lease facility at the end of fiscal 2005; however, the entire
amount was drawn down in January 2006. We and Toshiba each guaranteed, on a several basis, 50% of Flash
Partners’ obligation under this master lease.
We and Toshiba have also agreed to mutually contribute to, and indemnify each other and Flash Partners for,
environmental remediation costs or liability resulting from Flash Partners’ manufacturing operations in certain
circumstances. In addition, we and Toshiba entered into a Patent Indemnification Agreement under which in many
cases we will share in the expenses associated with the defense and cost of settlement associated with such claims.
This agreement provides limited protection for us against third-party claims that NAND flash memory products
manufactured and sold by Flash Partners infringe third-party patents.
None of the foregoing obligations are reflected as liabilities on our consolidated balance sheets. If we have to
perform our obligations under these agreements, our business will be harmed and our financial condition and results
of operations will be adversely affected.
Seasonality in our business may result in our inability to accurately forecast our product purchase require-
ments. Sales of our products in the consumer electronics market are subject to seasonality. For example, sales have
typically increased significantly in the fourth quarter of each year, sometimes followed by declines in the first
quarter of the following year. This seasonality increases the complexity of forecasting our business. If our forecasts
are inaccurate, we can lose market share or procure excess inventory or inappropriately increase or decrease our
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Annual Report