Getting Ready to Go Long SanDisk

Oct.20.06 | About: Western Digital (WDC)

SanDisk Corp. (SNDK) is down 14% in pre-market, and makes a very tempting buy, but waiting is a virtue here as I expect a round of downgrades, and we will take a hard look at it if we can pick it up around $40. It seems to me people are overreacting to margins, which fell from 37% to 32% over the past year.

A large part of this fall was due to the company's move to sell their own MP3 players. Their problems weren't all about the MP3s, but they intended to stuff all those expensive flash chips into them, so not only are they clogging up the warehouse, but chips they usually would have gotten out the door (had they sold them to someone else) are now sitting around as unsold inventory.

They claim an 18% market share in a very slow quarter, but that 18% number will come back to haunt them if it goes down in Q4, even if earnings right themselves. But, like I have said, they are a "volatile" stock, and this whole thing may be a nice way to shake out the retail buyers before Q4.

The analysts are focused on a "60% drop in average selling price per megabyte."

Wow that's silly! So they can now give your much more storage for less money and people think that's bad? Better dump Intel too based on that logic, more ticks per buck over there for the past 20 years!

Eli Harari [CEO] said: "We expect to benefit in the fourth quarter from projected seasonally strong holiday sales of digital cameras, handsets, flash audio players, USB flash drives and gaming consoles and we now believe growth in our megabytes sold will be approximately 200% for 2006."

Sales were up 27% to $751M, a $14M beat. Income is .61 a share vs .57 and the big costs were R&D and marketing -- no surprise there with a new product roll-out. The real concern for the company is the "inventory glut" of flash memory chips, a problem that led SanDisk to start stuffing them into MP3 players in the first place.

Unlike OPEC, SanDisk is dealing with their inventory surplus by lowering prices to spur demand; we'll see who is smarter next quarter.

SanDisk 1-year Daily Chart 20 10 06So far this year (9 months):

  • Revenues are up from $1.4B to $1.85B.
  • Income is down from $252M to $234M.

What impacted earnings?

  • R&D is up $65M during this period.
  • Sales and marketing are up $50M as they roll out a new line.
  • G&A is up $49M as they expand.

The company also seems to have taken out too much money for taxes -- $153M vs. $148M last year, when they earned more, but I'm no accountant...

So while I sympathize with people who paid 300% of last year's July selling price for this company, I am actually looking forward to picking up some of this great company at more reasonable prices.

Read all of Phil Davis's articles on Seeking Alpha.