M-Systems Flash Disk Pioneers: No Longer Going It Alone

Includes: FLSH, WDC
by: Shlomi Cohen

Several weeks ago, I received a surprising email from Mark Savolainen-Smith. “I will be visiting Israel for the first time and I will be staying at the American Colony Hotel for a week,” it read. “I would very much like to visit M-Systems Flash Disk Pioneers (FLSH) in Kfar Saba before they change the nameplate on the front entrance to SanDisk Corporation (SNDK), and I would be happy if you could set up a meeting for me with company president and founder Dov Moran.”

Mark, whose grandfather immigrated to the U.S. from Finland, is an architect by profession, but is also a technology freak, a hobby he practices with considerable success in stock investments. It was this hobby that led him, ten years ago, to pick up M-Systems shares at prices starting from $2, and to follow a number of Israeli companies he found interesting.

Mark was spot-on with his forecast about the chances of M-Systems’ first product following the collapse of the bubble, the Disk-on-Key [DOK], a prediction Moran was quick to remind him of as soon as they met. The DOK is, without doubt, the product that lifted M-Systems from $2 a decade ago to the high of $47 a month ago (adjusted for the September 2000 split). When Moran first introduced the DOK to investors here at a meeting at the Hilton Hotel in Tel Aviv exactly six years ago, he was very nearly lynched for his audacity in claiming that this little plastic device, which any Taiwanese company could duplicate, would take the world by storm.

M-Systems’ investors felt extremely frustrated back then, since (like the rest of the Nasdaq) the company’s stock was in a freefall from its September 2000 high of $42 to $3.65 a year later. With M-Systems' previous lines of business having collapsed, Moran met with investors while the freefall was in full swing and no longer talked of smart chips, but an electronic consumer product that looked cheap and simple.

Perhaps it was because of his unique professional mix as a technology freak and architect that Mark knew what he was talking about when he wrote as early as 2000, when the first 8Mb DOK had only just been launched, that within a few years this product would generate hundreds of millions of dollars in annual sales for M-Systems, and that by consigning the floppy disk to the garbage can, it would revolutionize basic computer configurations worldwide.

When Mark and I met with Moran two weeks ago, I avoided the one question that begged to be asked: ‘Why did you sell?’ I already knew the answer, and as our conversation progressed, it became incontrovertibly clear. Current and projected demand for M-Systems products is so large that Moran’s earlier strategy of running from one flash factory to the next across the globe with checks of $100 million or $200 million to secure chip supplies in exchange for investment in plants and machinery will no longer suffice.

Moran would have needed $1 billion or more to meet M-Systems’ chip requirements in the coming years as a result of increasing demand for all its product lines, such as U3, MDOC for advanced cellular handsets, or the cellular Megasim cards, which are only just coming onto the market. Towering above all of these is M-Systems’ x4 technology, which will inject an element of supercharged power into both the existing growth engines and those that will come onto the market in coming years.

The growth in demand had been phenomenal, Moran said, because when it was first introduced, flash was used solely for data storage, mainly in digital cameras and cellular handsets. Then came music, with the iPod mania, triggering a demand for a substantial increase in storage capacity. Now mobile video is the in-thing, and with the other technologies continuing to grow, there appears to be no end in sight.

Moran is already wracking his brains as to which application will follow the video era. By that time, he will be outside the flash world and involved in his new company; don’t call him about it, since he’s not looking for investors. He believes he will reach annual sales of $1 billion with the new company a lot quicker than the 18 years it took him at M-Systems.

M-Systems is a huge consumer, purchasing hundreds of millions of dollars' worth of NAND chips a year. Some say this was the sole reason for SanDisk CEO Dr. Eli Harari’s decision to acquire M-Systems, since what he actually bought was a large customer for the chip factories that SanDisk jointly owns with Toshiba (OTCPK:TOSBF). As I see it, Harari bought M-Systems first and foremost because of x4, and what I heard from Moran during our meeting, and from Harari himself at a Stanford University lecture a few days ago, has made this crystal clear to me. This was Harari’s second visit to Stanford since he arrived from Israel to do his doctorate there in 1969. He did not talk about x4 at all during his lecture, but he did map out for his student audience his winning strategy in the flash market, and this made me realize that this is the ideal time for him to become the new owner of x4.

Incidentally, during our meeting, Moran took a marker and explained to Mark and me with a lot of figures on the board, why x4 technology is not an ‘old wives tale’. When he was done, Mark was astounded and all the way back to Jerusalem he expounded at length on the visionary products based on this technology that will be manufactured in future.

x4 technology will deliver “low costs” for Harari at just the right moment. While his MLC quadruple memory capacity technology is indeed raking in millions of dollars in annual royalties, it also poses competition to SanDisk by way of the products manufactured by Samsung Electronics and others.

The union between M-Systems and SanDisk is a match made in heaven, since together they will be a virtual monopoly from chip through to end application. They were fortunate that the U.S. Federal Trade Commission’s Bureau of Competition approved the merger without objections. Waiting for them just round the corner are mega-markets such the 550 million new cellular handsets due out in 2007, that will be fitted with slots for heavy flash cards which will convert the sets into music and video players, not to mention the entire computer industry, whose consumption of flash will be much larger than it has been in recent years.

We, the investors, are very fortunate that Moran has an ego on the floor, otherwise we would have difficulty understanding how he could leave a place like this just days after he comfortably ensconced himself in the new building that he built for his staff over the last two years. In recent years I have met three entrepreneurs/founders/CEOs who put the future of their workers and investors before their own ego, after they realized that it would be irresponsible for them to carry on alone. These are former Galileo Technology chairman Avigdor Willenz, Indigo founder Benny Landa, and Dov Moran.

M-Systems 1-year chart:

Published originally by Globes [online], Israel business news - www.globes.co.il © Copyright of Globes Publisher Itonut (1983) Ltd. 2006. Republished on Seeking Alpha with full permission.

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