Slowing Capacity Adds

Q2 was yet another quarter characterized by excess supply, soft demand and aggressive pricing. SanDisk had been hoping for more. After all Q2 has become something of a second Xmas driven by Mothers’ Day, Fathers’ Day and school graduations. This year, Springtime Santa only brought lumps of coal.

As discussed in my last post, Q2 was a terrible quarter. Q3 doesn’t look much better. Time will tell about Q4, though analysts don’t expect much.

In his 2008 Flash Memory Summit Keynote on 13 August, Eli characterized the challenges facing the NAND industry as threefold: Falling US Consumer Confidence; Excess Supply/ Commodity Pricing; and 3rd year of ~60% Annual ASP decline.

Eli’s slides from the 2008 Flash Memory Summit Keynote.

Falling US Consumer Confidence is softening demand and is certainly beyond the control of the NAND industry. On the other hand these three years of 60% annual ASP declines is industry-wide, self-inflicted pain.

A 60% annual ASP decline exceeds the rate of cost declines of even the most efficient fabs. Demand continues to grow, but supply is growing even faster as mega-fabs pump out NAND at record volumes and at record efficiencies.

As described graphically in the slide below SanDisk believes that new markets taking off will drive demand back into balance with supply. Profitability will be restored.

The slide above purports to show that the self-correction of slowing capacity adds, will lead to growth with profitability.

I find this slide confusing. Below is my revised slide of what I think SanDisk is trying to say.

Basically both supply and demand are growing, but right now there is more supply than demand resulting in excess capacity. By slowing the rate of growth of supply, until new markets take off, the industry can minimize the near-term pain while moving up the transition for profitability.

Self-Correction

One would think that these NAND companies would already have cranked the spigots down.

Fortunately or unfortunately it’s not this simple and isn’t going to happen near-term for several reasons. First, Mega-fabs are like ocean liners, they don’t turn on a dime. Second, market share is a big deal, seemingly worth fighting for.

And last but not least, huge demand seemingly looms around the corner (2010ish). If and when this SSD/Mobile demand kicks in, those with the supply at their fingertips will be sitting pretty. Winners may well be determined by those who can stomach this near term pain.

Dreams of 2010ish profits may be nothing more than a siren’s song luring the captains of this industry towards the rocks of a capital crisis. On the other hand, this could be the real deal.

Stakes are high as solid state storage goes mainstream in the digital age.

Slowing Capacity Adds

While the spigots aren’t being cranked down, they’re not being entirely opened either. Pain has reached the point where players are being forced into slowing the ramp. Capacity is being delayed.

SanDisk finally announced its decision to slow capacity adds in the Q2 cc:

“For SanDisk, we are implementing the following decisive actions to curtail our rate of supply growth until market conditions improve markedly:

First. We will push out the start of the next major phase of Fab 4 wafer output increase to no sooner than April of 2009. This will moderate the growth in our captive capacity starting in early 2009.

Second. We will put on hold our investment decision for Fab 5 until market conditions improve.

Third. Over the next 1-3 years we plan to increase our non-captive purchases of Flash memory from currently close to zero to 15%-20%. This will give us more flexibility to better manage our inventory.”

SanDisk is already committed to a Fab 4 ramp to 110,000 wafers a month. There isn’t much to be done about that. The equipment is either already installed or being installed and the employees are there.  This is why SanDisk’s efforts to slow capacity will only start early in 2009. Fab 4 is a very large structure that is modular. SanDisk is delaying additional capacity in 2009 for equipment that has not yet been ordered.

Fab 5 will be an interesting story to watch. SanDisk and Toshiba have already shown creativity in Fab 5 funding arrangements. I expect even more ahead given the size of the prize.

In the slide below also from the 2008 Flash Memory Summit Keynote, SanDisk notes that a huge rise in Flash demand [driven by SSDs] is expected by 2012/2013. Such demand, if 10% of the HDD market, will require 10 new Flash Mega-fabs.

If this is how the next few years come to pass, planning for Fab 5 will look visionary, even if on-hold, as of today.

One of the big challenges a NAND producer faces is dealing with the seasonality of demand. The year starts with a relatively soft first quarter ramping through a very strong fourth quarter. But then its back to a soft first quarter. A new Fab, such as SanDisk’s Fab 4, isn’t seasonal. Production just goes up.

As a result, Q1 typically is over-supplied, whereas Q4 comes up short. Were it so simple, the excess supply of Q1 could just be carried until it was consumed in Q4. Unfortunately, relentless ASP decline makes carrying such inventory prohibitive.

SanDisk’s proposed solution is to dial back production and then purchase the difference rather than carry inventory. Makes a lot of sense. It will be interesting to see where the NAND come from. When all is said and done would not be surprised if SanDisk and Toshiba work something creative out on this one too.

S-Curve: Memory Scaling Limits

Memory scaling limits are now looming in the NAND business. Its been business as usual from 210nm to 32nm and from 1 bit/cell to 3 bits/cell. It looks like 2xnm is doable as is 4 bits/cell (at least for SNDK/Toshiba), but that might be it and hitting these targets will take more time than usual.

The slide below, also from the 2008 Flash Memory Summit Keynote, shows the issues on an S-curve.

Below is my version of what I think SanDisk was trying to say:

NAND has had a great run but will likely be eclipsed in the next decade. 3D R/W memory looks poised as a promising candidate to continue Moore’s law.

Curiously at the very time capacity adds are slowing, huge demand is looming around the bend.  The pace of NAND scaling itself is slowing at the very time billions of dollars will soon be pouring into Mega-fabs producing what might be a technology reaching its limits.

If SanDisk has a post-NAND winner in 3D R/W, it promises to be not only timely, but most lucrative.

[It appears that this site is now adding links that I cannot control. The link that follows is such an example]

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10 Responses to Slowing Capacity Adds

  1. MorganBucks says:

    If you look at Amazon best sellers about 5 out of the top 20 best selling computers are SSD. TODAY!Amazon is not the whole market but if this explosion of netbooks/UMPC (that are leaning more and more to SSD’s) continues( and with the introduction of Snapdragon/GPS powered units rolling out early 09 should only increase) , There may be a flash balance sooner than expected.

  2. savolainen says:

    Greetings MorganBucks,

    Yep I agree that demand could pick up sooner than expected and combined with slowing capacity adds, could bring supply/demand balance sooner than expected. Basically I expect we will see price elasticity work its magic, once again.

    That said I’m not holding my breath.

    Right now SanDisk really needs to work through their inventory. As painful as the process may be, the bigger deal is SanDisk’s positioning for the next leg up.

    SanDisk is in a bit of a double bind right now. It has to simultaneously throttle back while preparing for huge demand. One of the keys will be SSDs. This looks like its shaping up as the big one.

    In the really big picture I think there are three aspects to the story for SanDisk. First, SSDs are going to soak up a ton of NAND from everyone- my guess is that SSDs alone will be the key factor in bringing supply/demand balance to the industry.

    Second, it is critical for SanDisk to have its own most competitive MLC SSD. I have been disappointed with what we have seen so far. On the other hand, this is a marathon, not a sprint or PR competition. Am willing to cut SanDisk some slack and wait to see what SanDisk can deliver in 2009. These are the really early early days.

    Am (pretty) confident SanDisk has the engineering expertise to get this one right by 2010.

    Last but not least is SSD IP, to my mind a NAND systems IP issue. Does anyone have more such IP? Not that I am aware of.

    My guess is that SNDK wants to wrap up its litigation with Kingston and other card vendors and controller suppliers before embarking on more litigation. Having a NAND systems IP win in the bag (hopefully) can only help with SSD IP issues. I would think that many of the same issues apply.

    Regards,
    Savo

  3. bob 77977 says:

    hi savo,
    it seems to me that until now sandisk tried to lower expectations from 3D R/W. at citygroup conference, however, things changed and judy even complained 3D isn’t getting the appropriate attention.
    shlomi choen once wrote about an interesting possibility were toshiba buys sandisk and then prevents future nand licence from samsung.
    do you think its feasible that sandisk and toshiba would be the sole manufacturers of 3D, cutting samsung out ?
    to my understandig, being cut from 3D and not royalties payments is what driving samsung nuts.
    this, now, is money time. lets hope for interesting news soon.

  4. bob 77977 says:

    hi again,
    the more I think about it, picture becomes clear to me.
    sandisk denies future licence of 3D from samsung.
    3D is (in high probability) worth tens of billions of dolars.
    samsung’s natural move is to buy sandisk for a few billions.
    the big question is : can they ?
    the reason we got into this situation is the low share price that could have been prevented if sandisk would have been more “optimistic” about 3D.
    now we see its being done by judy.
    is it not too late ?
    can a compromise be reached whereby samsung will pay progressive licence fees in order to restrict their market share
    of future 3D supply ?
    did I say “money-time”.

  5. b9indifference says:

    Hello Savo
    My apologies for being off the topic of Oversuppy but…

    Much turmoil in SanDisk’s world of late. The stock price driven to a near all time low with Samsung greasing the slide by refusing to negotiate in good faith for a new licensing agreement has enabled an absurd offer ( yes in my opinion)

    there is much we do not know…

    We have no knowledge of the arbitrator’s decision in favor of SanDisk as the monetary compensation has not been disclosed.

    Suddenly we have a very aggressive Samsung making “generous” offers at $26 when a few months ago Samsung indicated its willingness to pay a premium above the $28 stock price of the day.

    Many possible interpretations on Samsungs true intentions. I believe they simply hope to acquire at a bargain the ability to monopolize flash and beyond flash for years; I speak of 3D
    A bargain they have actively worked to facilitate

    There present CEO was hatched from the Samsung’s Semi biz unit

    obstacles I hope
    I can’t imagine in today’s political “outsourcing of America” climate this deal will pass regulators.

    Toshiba does not from the outside seem that upset and satisfied for the time being to indicate its interest. I hope they know something we don’t

    In the middle of all this sits the future of memory, 1400 plus patents, 3D technology
    JV’s and Solid State Storage Solutions LLC.

    When will management come forward and aggressively support their IP and their company
    Eli Harari letter to Samsung the “Thanks but no thanks” letter was the most supportive statement I have heard in quite a while from management

    I think it is time even in the midst of oversupply to support SanDisks value and its singular IP position in the future of memory
    Many Thanks
    b9

  6. Hapa says:

    Savo,
    What do you think about the latest Samsung’s overture? Lots of news and discussions on Samsung, Sandisk, and Toshiba. I wonder what the Taiwanese are feeling about the prospect of having to deal mainly with Samsung. I think it’s going to fracture their camp with many will feel very unease, even Kingston.

    Regards,
    /h

  7. savolainen says:

    Greetings b9 and Hapa,

    Reading the tea leaves, I am guessing that either Toshiba ends up acquiring SanDisk or SanDisk muddles through as an independent company, with a bit of help from Toshiba.

    The only way I see Samsung prevailing is if they decide to spend the big big big bucks. $45 to $50/share ± would probably get that deal done. Somehow I can’t see Samsung going this high. They certainly won’t go there unless forced to by a bidding war. A lot is at stake strategically, so you never know.

    SanDisk is probably Toshiba’s for less- $32 to $38 / share ± feels about right. For such a deal Toshiba will likely need help. A Japanese consumer electronics company such as Sony or Panasonic (Matsushita) would seem to be a good fit for a partner. Who better to play out Eli’s consumer (flash-based) powerhouse vision?

    If its a bidding war, Japan Inc vs Korea Inc, I can see Samsung sweetening its offer a bit, though still in twenties. To knock Samsung out will take a decisive move on Toshiba’s part, which is how we could get to $32 to $38 /share.

    If we get there, we will find out how serious Samsung really is. And how far Toshiba is willing to go to protect its strategic commitment to NAND and beyond.

    ****

    The big unknown to my mind is 3D R/W. If SNDK has it knocked, whoever gets their hands on SNDK’s 3D patents and expertise will be sitting pretty as the king of the hill for the next decade as 2D NAND reaches the end of the road.

    ****

    If I were Toshiba, helping SNDK get through 2009 and avoiding acquisition might be preferable and far cheaper than risking an uncertain and expensive bidding war with a deep-pocketed arch rival.

    The status quo with SanDisk seems to be working out just fine.

    As Objective Analysis Analyst Jim Handy put it, “Their [SNDK] 52 week high was $56, and I fully expect by the end of 2009 for the stock to have exceeded that price.” Am inclined to think that SNDK and Toshiba agree with Handy.

    If this is how the game looks set to play out, the question might be how to get from here to there.

    Given all the complex agreements between SNDK and Toshiba, I would think that a creative mind could come up with a way to make SNDK look good. Looking good in this sense would need to translate into justifying a higher share price.

    If ever there were a time to play that game, now might be the time.

    Regards,
    Savo

  8. Hapa says:

    Thank you very much, Savo.

    This is for sure being watched by all the stake holders and would be stake holders. It would be interesting to see where Intel and Seagate stand on this. I don’t think they will get into direct bidding. However, when all the cards are on the table, I suspect strongly that they will be involved in some kind of deals. I see them as supporting players who may or may not show their hands depending on how this game progresses.

    Regards,
    /h

  9. b9indifference says:

    Hello Savo

    Thanks for your comments, as always very much appreciated.

    I agree with Hapa there are many interested parties. 3D technology alone could define and accelerate a paradigm shift in memory

    I think the overall market consciousness fails to appreciate the implications of a shift to solid state memory and therefore undervalues the patent portfolio held by SanDisk
    …maybe I’m nuts but it’s one of the reasons I am holding.

    It is telling; so many articles written by “experts” and published by the usual suspect of financial-business media outlets carry the following description… (I paraphrase of course)

    SanDisk is a maker of Flash memory as used in Digital Cameras and iPods

    hmmm… thats a bit underwhelming
    b9

  10. Poofypuppy says:

    Hi Savo,

    Hope everyone has been doing well. As Hapa mentioned, it will be interesting to see where Intel and Seagate stand, especially since they also have deep pockets and are U.S. companies that do not dominate NAND production (i.e. less anti-trust issues). It seems that either one of them would be a better long-term partners for Toshiba than Samsung would be. Your thoughts?

    Regards,
    poofypup

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