SanDisk 1998 Annual Report Download - page 24

SanDisk Corporation
19
We Depend on O ur Suppliers and Third Party Subcontractors
We rely on our vendors, some of which are sole source
suppliers, for several of our critical components. We do not
have long-term supply agreements with any of these vendors.
Our business, financial condition and operating results could
be harmed by delays or reductions in shipments if we are
unable to develop alternative sources or to obtain sufficient
quantities of these components. For example, we rely on
Motorola, Inc. and NEC to supply certain designs of critical
microcontrollers.
We also rely on third-party subcontractors to assemble, and
sometimes test the memory components for our products.
We have no long-term contracts with these subcontractors
and cannot directly control product delivery schedules. This
could lead to product shortages or quality assurance problems
which could increase the manufacturing costs of our products
and have adverse effects on our operating results.
We Face Risk in Transitioning to New Processes and Products
Successive generations of our products incorporate semicon-
ductor devices with greater memory capacity per chip. We
are continually involved in joint development efforts with
our foundries to produce semiconductor devices based upon
smaller geometry manufacturing processes. Two important
factors that enable us to decrease the costs per megabyte of
our flash data storage products are the development of higher
capacity semiconductor devices and the implementation of
smaller geometry manufacturing processes. A number of
challenges exist in achieving a lower cost per megabyte,
including (1) lower yields are often associated with the early
production of new semiconductor devices, (2) problems with
design and manufacturing of products that will incorporate
these devices and (3) production delays. Because our products
are complex, we periodically experience significant delays in
the development and volume production ramp up of our
products. Similar delays could occur in the future and could
harm our business, financial condition and results of operations.
We have developed new products based on D2 flash technol-
ogy, a new flash architecture designed to store two bits in
each flash memory cell. We introduced our 80Mbit D2 flash
chip in November 1997 and began customer shipments in
the third quarter of 1998. We expect production volumes to
be limited, however, because of more advanced 256Mbit
flash memory designs currently planned for production by
the end of 1999. These new advanced designs are expected
to have faster write speeds than the 80Mbit D2 flash. We
believe that D2 flash will help us increase the capacity and
decrease the costs of certain products, enabling us to maintain
our competitive advantage, broaden our target markets and
attract strategic partners. High density flash memory, such as
D2 flash, is a complex technology that requires tight manu-
facturing controls and effective test screens. Problems from
the shift to volume production for new flash products could
impact both reliability and yields and result in increased
manufacturing costs. We may not be able to manufacture
reliable and cost effective D2 flash products in commercial
volumes and with yields sufficient to result in lower costs
per megabyte. Furthermore, D2 flash technology needs
significantly improved write speed so that it can be usefully
applied to market applications such as digital cameras.
We may not be able to achieve the requisite write speed in
our future D2 products.
We M ust Achieve Acceptable Wafer M anufacturing Yields
The fabrication of our products requires wafers to be produced
in a highly controlled and clean environment. Semiconductor
companies that supply our wafers sometimes have experienced
problems achieving acceptable wafer manufacturing yields.
Semiconductor manufacturing yields are a function of both
our design technology and the foundry’s manufacturing
process technology. Low yields may result from design errors
or manufacturing failures. Yield problems may not be deter-
mined or improved until an actual product is made and can
be tested. As a result, yield problems may not be identified
until the wafers are well into the production process. The
risks associated with yields are even greater because we rely
on independent offshore foundries for our wafers which
increases the effort and time required to identify, communicate
and resolve manufacturing yield problems. We cannot be
certain that our foundries will achieve or maintain acceptable
manufacturing yields. If the foundries cannot achieve the
planned yields, it could negatively affect our business,
financial condition and results of operations.
Risks Associated with Patents, Proprietary Rights
and Related Litigation
We rely on a combination of patents, trademarks, copyright
and trade secret laws, confidentiality procedures and licensing
arrangements to protect our intellectual property rights. In
the past, we have been involved in significant disputes
regarding our intellectual property rights and claims that we
may be infringing third parties’ intellectual property rights.
We expect that we will be involved in similar disputes in the
future. We cannot assure you (1) that any of our patents will
not be invalidated, (2) that patents will be issued for any of
our pending applications, (3) that any claims allowed from
existing or pending patents will have sufficient scope or
strength or (4) that our patents will be issued in the primary
countries where our products are sold in order to protect our
rights and potential commercial advantage. In addition, our
competitors may be able to design around our patents.
From time to time, it may be necessary to initiate litigation
against third parties to preserve our intellectual property
rights. These parties could in turn bring suit against us.
Such a situation occurred in March of 1998. We filed a
complaint in federal court against Lexar for infringement of
a fundamental flash disk patent. Lexar disputed this claim
and asserted that our patent was invalid or unenforceable, as
well as asserting various counterclaims including unfair
competition, violation of the Lanham Act, patent misuse,
interference with prospective economic advantage, trade
defamation and fraud. We have denied all of these counter-
claims. In July 1998, the federal district court denied Lexar’s