SanDisk 2002 Annual Report Download - page 52

5 0 S a nD isk C o rp o ra tio n
governm ent’s Investm ent Center. The current political
uncertainty and security situation in the region m ay
adversely im pact Tow er’s business prospects and m ay dis-
courage investm ents in Tow er from outside sources. If
Tow er is unable to obtain additional financing, com plete
foundry construction in a tim ely m anner or is unable to suc-
cessfully com plete the developm ent and transfer of
advanced CM OS process technologies and ram p-up of pro-
duction, the value of the Com pany’s equity investm ent in
Tow er and w afer credits w ill decline significantly or possibly
becom e w orthless. In addition, the Com pany m ay be unable
to obtain sufficient supply of w afers to m anufacture its prod-
ucts, w hich w ould harm its business. The value of the
Com pany’s equity investment in Tower m ay also be
adversely affected by further deterioration of conditions in
the m arket for foundry m anufacturing services and the m ar-
ket for sem iconductor products generally. If the fair value of
the Com pany’s Tow er investment declines further, it m ay
record additional losses, w hich potentially could am ount to
the rem aining recorded value of the Com pany’s Tower
investm ent. M oreover, if Tow er is unable to satisfy certain
financial covenants and com ply w ith certain conditions as
required by its credit facility agreem ent, and therefore is not
able to obtain additional bank financing, or its current bank
obligations are accelerated, or it fails to secure custom ers
for its foundry capacity to help offset its fixed costs, such
failure could jeopardize the com pletion of Fab 2 and Tow er’s
ability to continue operations.
Dig ita l Portal Inc . – On August 9, 2000, the Com pany
entered into a joint venture, Digital Portal, Inc., or DPI, w ith
Photo-M e International, PLC., or PM I, for the m anufacture,
installation, m arketing, and m aintenance of self-service, digi-
tal photo printing labs, or kiosks, bearing the SanDisk brand
nam e in locations in the U.S. and Canada. Under the agree-
m ent, the Com pany invested $2.0 m illion in DPI. In 2002, the
Com pany accounted for this investm ent under the equity
m ethod, and recorded a loss of $1.1 m illion as its share of
the equity in loss of joint venture. The Com pany’s share of
losses from DPI’s inception through Septem ber 30, 2002,
exceeded the am ount of the Com pany’s investm ent. Under
the equity m ethod of accounting, the Com pany’s share of
losses w ere deducted from its DPI investm ent account and
therefore, as of Decem ber 31, 2002 there is no value related
to DPI on the Com pany’s consolidated balance sheet. In an
agreem ent effective Septem ber 30, 2002, the Com pany
agreed to sell a significant portion of its DPI shares to a
nom inee of PM I to reduce its ow nership percentage below
20%, and gave up its seat on DPI’s board of directors.
Under the agreem ent, the Com pany discontinued its kiosk
related activities. In addition, the Com pany is no longer
required to m ake additional equity investm ents in DPI, guar-
antee DPI’s equipm ent leases, or otherw ise pay any of DPI’s
expenses, and furtherm ore, DPI w ill no longer use the
SanDisk brand nam e.
Divio , Inc . – On Novem ber 2, 2000, the Com pany m ade
a strategic investm ent of $7.2 m illion in Divio, Inc., or Divio.
Divio is a privately-held m anufacturer of digital im aging
compression technology and products for future digital
cam corders that w ill be capable of using our flash m em ory
cards to store hom e video m ovies, replacing the m agnetic
tape currently used in these system s. Under the agree-
m ent, the Com pany ow ns approxim ately 10% of Divio and is
entitled to one board seat. A number of com panies are
developing com pression chip products that m ay be supe-
rior to, or m ay be offered at a low er cost than the Divio
chips. These com peting products m ay render Divio’s prod-
ucts uncom petitive and thereby significantly reduce the
value of our investment in Divio. Divio is currently unprof-
itable, and w ill require additional funding from external
sources to com plete the developm ent and com mercializa-
tion of its products. Given the current depressed conditions
for financing private, venture capital backed startup com pa-
nies, the Com pany cannot assure you that Divio w ill be able
to successfully finance its activities or continue its opera-
tions. If they cannot do so, the Com pany’s investm ent in
Divio m ay becom e w orthless. During 2002, in connection
w ith the Com pany’s review of equity investments, an
im pairm ent loss of $2.7 m illion on the Com pany’s invest-
m ent in Divio w as recognized in accordance w ith SFAS No.
115. The carrying value of the Divio investm ent on the
Com pany’s consolidated balance sheet at Decem ber 31,
2002 w as $4.5 m illion. The Com pany accounts for its
investm ent in Divio using the cost m ethod of accounting. If
it is determ ined that the value of the investment in Divio has
further declined, it m ay be necessary to record additional
losses on this investm ent.
Note 9:
D e r iv a t iv e s
On January 1, 2001, the Com pany adopted Statem ent of
Financial Accounting Standards (“SFAS”) No. 133,
“Accounting for Derivative Instrum ents and Hedging
Activities.” The standard requires that all derivatives be
recorded on the balance sheet at fair value and establishes
criteria for designation and effectiveness of hedging relation-
ships. The cum ulative effect of adopting SFAS 133 as of
January 1, 2001 w as not m aterial to the Com pany’s consoli-
dated financial statem ents.
The Com pany is exposed to foreign currency exchange
rate risk inherent in forecasted sales, cost of sales, and
assets and liabilities denom inated in currencies other than
the U.S. dollar. The Com pany is also exposed to interest
rate risk inherent in its debt and investm ent portfolios. The
Com pany’s risk m anagem ent strategy provides for the use
of derivative financial instrum ents, including foreign
exchange forw ard contracts, to hedge certain foreign cur-
rency exposures. The Com pany’s intent is to offset gains
and losses that occur on the underlying exposures, w ith
gains and losses on the derivative contracts hedging these
exposures. The Com pany does not enter into any specula-
tive positions w ith regard to derivative instrum ents. The
Com pany enters into foreign exchange contracts to hedge
against exposure to changes in foreign currency exchange
rates, only w hen natural offsets cannot be achieved. Such
contracts are designated at inception to the related foreign
currency exposures being hedged, w hich include sales by
subsidiaries, and assets and liabilities that are denom inated
in currencies other than the U.S. dollar. The Com pany’s for-
eign currency hedges generally m ature w ithin three m onths.