Hard Disk Drive Margins Shrinking in Battle with Flash

Hard disk drive (HDD) manufacturers are reacting to the onslaught of flash memory (solid state drives – SSDs), most of which are sold below manufacturing costs, by slashing prices and shrinking gross margins.

The netbook market, which we pointed out in a recent Seeking Alpha post appears to be impacting the HDD market. As previously discussed in another Seeking Alpha post, the HDD market already lost the battle in the small form factor market such as MP3 and cameras to solid-state drives and risk further erosion in the 2.5-inch enterprise space. Now the battleground has moved to the successful netbook space.

Average selling prices of HDDs dropped 16% in 2009 in the wake of the SDD onslaught. Gross margins have dropped from nearly 25% in Q4 2007 to 15% in Q4 2008.

Competition for the drive space is intense, and the netbook manufacturers are adding to the confusion among prospective purchasers by "recommending" HDDs and adding a surcharge in the case of HP (HPQ). For example, HP sells their 1000 XT series containing either an 8GB SSD or a 60GB PATA HDD. With every other component being the same, HP charges $55 more for the HDD drive (their "recommended" configuration). An 8GB SDD has a street price of about $95 while a 60GB PATA HDD has a street price of $60. Yet HP charges $55 more for the HDD. Keep in mind that PATA drives are an older technology compared to SATA drives.

Dell (DELL) doesn't even offer SSD option with it's Mini 12 netbook, so SSD is only available in the smaller 9-inch screen Mini 9. Not a great incentive for prospective buyers used to 14 to 15-inch screens on desktops and laptops.

For 2008, The Information Network estimates that 11.4 million netbooks were sold, up from 400,000 in 2007. For 2009, an estimated 21.5 million netbooks will be sold, a growth of 189%. These numbers pale in comparison to notebook (laptops) and desktops. We forecast that 178 million notebooks and 143 million desktops will be sold in 2009.

And so it looks to us like the computer suppliers are kowtowing to the HDD manufacturers by promoting the HDD on their notebooks (and making a little extra money on the side) because they currently need to be on good terms with the HDD manufacturers. Sure they use a lot of DRAM memory in their computers, and flash memory suppliers also make DRAMs, but memory suppliers are chomping at the bit to unload excess inventory, and so PC manufacturers have chosen to cater to the HDD manufacturers at this point in time. SDD prices are dropping 60% a year, and it won't be long until they are priced competitively with HDDs and product inventories are not at multi billion dollar levels. It will then be interesting to see the netbook pricing structure from PC manufacturers.

So what is a netbook and is there really a netbook market? By common definition, a notebook is a light mobile computing device that does not store a bundle of bloated programs or data and yet allows you to process information and access the Internet. It sure seems that PC manufacturers, by "recommending" high capacity HDDs are marketing the netbook, not as a simple device to access the Internet, but as a low-end multi-function notebook. In fact, Dell and HP call these computers "mini" rather than netbook.

It is our thesis that the Intel (INTC) Atom (and comparable products entering the market) are not only going into netbooks (to access the Internet) but low-end notebooks (aka minis).