SanDisk 1999 Annual Report Download - page 25

22 Annual Report 1999
MANAGEMENT’S DISCUSSION AND ANALYSIS
In addition, in the second quarter of 1999, we began using a third-
party subcontractor in China for the assembly and testing of our
CompactFlash products. 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 encourage-
ment of foreign trade and investment and greater economic
decentralization. The Chinese government may not continue to pur-
sue these policies and, even if it does continue, these policies may
not be successful. The Chinese government may also significantly
alter these policies from time to time. In addition, China does not
currently have a comprehensive and highly developed legal system,
particularly with respect to the protection of intellectual property
rights. As a result, enforcement of existing and future laws and con-
tracts is uncertain, and the implementation and interpretation of
such laws may be inconsistent. Such inconsistency could lead to
piracy and degradation of our intellectual property protection.
ECONOMIC RISKS
We price our products primarily in U.S. dollars. As a result, if the
value of the U.S. dollar increases relative to foreign currencies, our
products could become less competitive in international markets.
For example, our products are relatively more expensive in Asia
because of the weakness of many Asian currencies relative to the
US dollar. In addition, we currently invoice some of our customers
in Japanese yen. Therefore, fluctuations in the Japanese yen against
the U.S. dollar could harm our business, financial condition and
results of operations. Similarly, the weakness of the Euro may make
our products less competitive in Europe relative to Japanese flash
memory suppliers.
Our sales are also highly dependent upon global economic conditions.
In fiscal 1998, sales to Japan declined to 31.6% of total product
sales from 38.1% in 1997. In 1999, sales to Japan represented 22.4%
of product revenue. We believe these declines were primarily due to the
Japanese recession.
GENERAL RISKS
Our international business activities could also be limited or
disrupted by any of the following factors:
•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;
•natural disasters affecting the countries in which we conduct
our business, particularly Taiwan and Japan;
•imposition of regulatory requirements, tariffs, import and
export restrictions and other barriers and restrictions,
particularly in China;
•longer payment cycles and greater difficulty in accounts
receivable collection, particularly as we increase our sales
through the retail distribution channel;
•potentially adverse tax consequences;
•less protection of our intellectual property rights; and
•delays in product shipments due to local customs restrictions.
We depend on our 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 some of these vendors. Our business, financial
condition and operating results could be harmed by delays or reduc-
tions in shipments if we are unable to develop alternative sources or
obtain sufficient quantities of these components. For example, we
rely on UMC for all of our flash memory wafers, and NEC to supply
certain designs of microcontrollers. In September 1999, both UMC
foundries producing our flash memory wafers were damaged and
temporarily shut down by an earthquake in Taiwan. In addition, due
to industry-wide increasing demand for semiconductors, we have
recently experienced resistance to price reductions from some of our
important suppliers. See “ —We depend on third party foundries for
silicon wafers.” In addition, we have begun to experience long order
lead times on standard components due to high industry demand.
Shortages of any of these standard components could result in
higher manufacturing costs or lower revenues due to production
delays or reduced product shipments. Additionally, where possible,
we are building buffer inventories of critical components. If we
accumulate excess inventories or these buffer inventories become
obsolete, we will have to write down inventories which will adversely
affect our gross margins and results of operations.
We also rely on third-party subcontractors to assemble and test the
memory components for our products. We have no long-term con-
tracts 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.