SanDisk 1998 Annual Report Download - page 23

SanDisk Corporation
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Our Average Sales Prices H ave Declined
In 1998, the average selling prices of our products declined
28% compared to 1997. Because flash data storage markets
are characterized by intense competition, we expect that
pricing pressures from our customers will increase. This will
likely result in a further decline in average sales prices for
our products. We believe that we can offset declining average
sales prices by achieving manufacturing cost reductions and
developing new products that incorporate advanced features
and can be sold at higher average gross margins. However, if
we are unable to achieve such cost reductions or remain
price competitive, this could result in lost sales, declining
gross margins, and as a result, our business, financial condi-
tion and results of operations could suffer.
From time to time the semiconductor industry has experi-
enced a significant down turn and is currently beginning to
recover from one of its most severe down cycles. During
most of 1998, the semiconductor industry experienced sig-
nificant production over capacity. This “buyers market” put
margin pressures on all flash memory suppliers. We believe
product gross margins will remain under pressure in the first
half of 1999 until the more favorable cost structure of our
128Mbit flash chip design begins to have a favorable impact
on the cost per megabyte of our products.
We Face Risks Associated with O ur International Operations
Our sales are primarily denominated in United States dollars.
As a result, if the value of the US dollar increases relative to
foreign currencies, our products could become less competi-
tive in international markets. For example, our products are
relatively more expensive in Asia because of the recent eco-
nomic conditions in Asia and the weakness of many Asian
currencies relative to the US dollar. This has resulted in a
decrease in our sales in that region. In 1998, sales to Japan
declined to 31.6% of total product sales from 38.1% in
1997. This resulted primarily from the Japanese economic
crisis and market recession. If the current market conditions
in Japan do not improve, or if they decline further, our
results of operations may suffer.
Currently, all of our wafers are produced by foundries located
outside the United States and the majority are purchased in
United States dollars. Because we currently invoice certain
customers in Japanese Yen, fluctuations in currencies could
adversely affect our business, financial condition and results
of operations. Our international business activities could
also be limited or disrupted by any of the following:
• The need to comply with foreign government regulation;
• General geopolitical risks, such as political and economic
instability, potential hostilities and changes in diplomatic
and trade relationships;
• Imposition of regulatory requirements, tariffs, import and
export restrictions, and other barriers and restrictions;
• Longer payment cycles and greater difficulty in accounts
receivable collection;
• Potentially adverse tax consequences;
• Less protection of our intellectual property rights.
In 1999, we will begin using third-party subcontractors in
China for the assembly and testing of our components. As a
result, our business could be harmed by the effect of political,
economic, legal and other uncertainties in China. Under its
current leadership, the Chinese government has been pursuing
economic reform policies, including the encouragement of
foreign trade and investment and greater economic decen-
tralization. The Chinese government may not continue to
pursue such policies and, even if it continued, such policies
may not be successful. The Chinese government may signifi-
cantly alter the policies from time to time. In addition,
China does not currently have a comprehensive and highly
developed system of laws, particularly with respect to the
protection of intellectual property rights. As a result,
enforcement of existing and future laws and contracts is
uncertain, and the implementation and interpretation of
such laws may be inconsistent.
Sales to a Small N umber of Customers Represent a
Significant Portion of Our Revenues
Most of our revenue comes from a small number of customers.
For example, sales to the Company’s top 10 customers
accounted for approximately 59% , 67% , and 71%, respec-
tively, of the Company’s product revenues for 1998, 1997,
and 1996. If we were to lose any of these customers or expe-
rience any reductions in orders from these customers, our
revenues and operating results would suffer. Our sales are
generally made by standard purchase orders rather than
long-term contracts. In addition, the composition of our
major customer base changes from year to year as the mar-
ket demand for our customers’ products change.
We Depend on Third Party Foundries For Silicon Wafers
All of our products require silicon wafers. We rely on USC
and USIC in Taiwan and Matsushita Electronic Corporation
in Japan for supplying our silicon wafers. We depend on our
foundries to (1) allocate a portion of their foundry capacity
to our needs, (2) produce acceptable quality wafers with
acceptable manufacturing yields and (3) deliver our wafers
on a timely basis at a competitive price. If our foundries are
unable to satisfy these requirements, our business, financial
condition and operating results may suffer.
Under the wafer supply agreements with our foundries, we
are obligated to provide monthly rolling forecasts for our
anticipated wafer purchases. Generally, the estimates for the
first three months of each forecast are binding commitments.
The estimates for the remaining months may only be
changed by a certain percentage from the previous month’s
forecast. This limits our ability to react to fluctuations in
demand for our products and could cause us to have excess
inventory. In addition, if we are unable to obtain scheduled
quantities of wafers with acceptable price and yields from
any foundry, our business, financial condition and results of
operations could be adversely affected.