SanDisk 2006 Annual Report Download - page 94

of notes (which represents an initial conversion price of approximately $37.27 per share). The conversion price will
be subject to adjustment in some events but will not be adjusted for accrued interest.
Toshiba Ventures. We are a 49.9% percent owner in, FlashVision, Flash Partners and Flash Alliance, our
business ventures with Toshiba to develop and manufacture NAND flash memory products. These NAND flash
memory products are manufactured by Toshiba at Toshiba’s Yokkaichi, Japan operations using the semiconductor
manufacturing equipment owned or leased by FlashVision or Flash Partners or to be owned or leased by Flash
Alliance. This equipment is funded or will be funded by investments in or loans to the ventures from us and Toshiba.
FlashVision and Flash Partners purchase and Flash Alliance will purchase wafers from Toshiba at cost and then
resell those wafers to us and Toshiba at cost plus a markup. We are contractually obligated to purchase half of
FlashVision’s, Flash Partners’ and, when operational, Flash Alliance’s NAND wafer supply. We cannot estimate the
total amount of our wafer purchase commitment as of December 31, 2006 because our price is determined by
reference to the future cost to produce the semiconductor wafers. In addition to the semiconductor assets owned or
leased by FlashVision and Flash Partners, we directly own certain semiconductor manufacturing equipment in
Toshiba’s Yokkaichi, Japan operations from which we receive 100% of the output. From time-to-time, we and
Toshiba mutually approve increases in the wafer supply capacity of Flash Partners that may contractually obligate
us to increase capital funding. Our direct research and development contribution is based on a variable computation.
We and Toshiba each pay the cost of our own design teams and 50% of the wafer processing and similar costs
associated with this direct design and development of flash memory. We account for our 49.9% ownership position
in the flash ventures under the equity method of accounting. Toshiba owns 50.1% of each of these ventures.
The cost of the wafers we purchase from FlashVision and Flash Partners and wafers we will purchase from
Flash Alliance is recorded in inventory and ultimately cost of sales. FlashVision, Flash Partners and Flash Alliance
are variable interest entities and we are not the primary beneficiary of these ventures because we are entitled to less
than a majority of any residual gains and are obligated with respect to less than a majority of residual losses with
respect to each venture. Accordingly, we account for our investments under the equity method and do not
consolidate. Our share of the net income or loss of FlashVision, Flash Partners and Flash Alliance is included in our
Consolidated Statements of Income as “Equity in income of business ventures.”
Under the FlashVision, Flash Partners and Flash Alliance agreements, we agreed to share in Toshiba’s costs
associated with NAND product development and its common semiconductor research and development activities.
As of December 31, 2006, we had accrued liabilities related to those expenses of $5.9 million. Our common
research and development obligation related to FlashVision, Flash Partners and Flash Alliance is variable but
capped at increasing fixed quarterly amounts through 2008. The common research and development participation
agreement and the product development agreement are exhibits to this report on Form 10-K and should be read
carefully in their entirety for a more complete understanding of these arrangements.
For semiconductor fixed assets that are leased by FlashVision or Flash Partners, we and/or Toshiba guaranteed,
in whole or in part, a portion of the outstanding lease payments under each of those leases through various methods.
These obligations are denominated in Japanese yen and are non-cancelable. Under the terms of the FlashVision
lease, Toshiba guaranteed these commitments on behalf of FlashVision and we agreed to indemnify Toshiba for
certain liabilities Toshiba incurs as a result of its guarantee of the FlashVision equipment lease arrangement. As of
December 31, 2006, the maximum amount of our contingent indemnification obligation, which reflects payments
and any lease adjustments, was approximately 5.8 billion Japanese yen, or approximately $49 million based upon
the exchange rate at December 31, 2006. Under the terms of the Flash Partners leases, we guaranteed on an
unsecured and several basis 50% of Flash Partners’ lease obligations under master lease agreements entered into in
December 2004, December 2005 and June 2006. Our total lease obligation guarantee, net of lease payments as of
December 31, 2006, were 72.0 billion Japanese yen, or approximately $605 million based upon the exchange rate at
December 31, 2006.
The Flash Alliance venture was formed to develop and design NAND flash memory products and is expected
to sell these products using semiconductor manufacturing equipment to be owned or leased by Flash Alliance. The
NAND flash memory products will be manufactured by Toshiba at the proposed 300-millimeter wafer fabrication
facility, Fab 4, being built in Yokkaichi, Japan. Flash Alliance will purchase wafers from Toshiba at cost and then
resell those wafers to us and Toshiba at cost plus a markup. Toshiba owns 50.1% of this venture and we own 49.9%
45
Annual Report