Why You Should Watch SanDisk From A Distance

NAND flash memory specialist SanDisk (Nasdaq: SNDK  ) posted disappointing first-quarter results, with net income coming in at $114.4 million, 49% lower than the comparable period last year. The company's revenues took a relatively softer hit, declining around 7% to $1.21 billion. A gloomy revenue outlook for the current quarter didn't help either.

In fact, SanDisk seems to be sinking, and sinking consistently in terms of margins every quarter. The company's EBITDA margins fell sharply from 31.8% in the first quarter last year to just 22.4% in the present one. Net margins have also fallen from 17.3% to just 9.5% for the same period. So why is this happening and, more than that, is it time to abandon SanDisk?

The pain point
SanDisk claims that prices of NAND flash memory have declined further than what was anticipated by the company, puling down its profit margins. This can be attributed to the tons of smaller companies out there that are producing NAND flash memory at very competitive rates.

Why demand may just pick up
But where SanDisk is losing out in terms of margins, it might be able to make up for it in terms of volumes. Smartphones, tablets and ultrabooks use NAND flash memory chips. And as we all know, owning these products is the current rage. Research firm IHS believes that there would be an 8% growth in sales of NAND flash memory chips this year, mainly driven by the demand for ultrabooks and smartphones. In fact, total smartphone shipments for this year are estimated to be around 626 million units, up from 472 million units shipped last year. And that means more NAND flash demand for smartphones, which is good news for companies like SanDisk.

Better margins from enterprise solutions
But what should be the real game changer is the highly profitable enterprise storage segment. The company now has the required technical expertise to make it big in the realm of solid state disk drives, thanks to its recent acquisitions of Pliant Technologies and FlashSoft Corp. And, in order to fully leverage this opportunity, SanDisk needs to ensure that its revenue from enterprise solutions is a substantial part of its overall revenue. That means a lot more than the current share, which is slightly more than 10%.

That won't come without its own set of challenges though, with peers OCZ (Nasdaq: OCZ  ) and STEC (Nasdaq: STEC  ) gunning for the same share of enterprise customers. OCZ is quite a formidable player, given the fact that its past acquisitions have contributed to the company's tremendous top-line growth. For STEC, however, competition has tended to be a huge problem.

The Foolish bottom line
SanDisk may have to face a lot of competition right now, but there should be plenty of space for everyone, given the fact that the NAND flash business is estimated to be worth a cool $30.9 billion by 2016. At the same time, the company's only hope lies in garnering a larger share of the enterprise segment. But then, investors need to keep a close watch on its peers as well.

SanDisk is not the only company looking to benefit from the smartphone and tablet craze. You can take a look at others by checking out these three hidden winners of the iPhone, iPad, and Android revolution. Don't worry, its free.

And don't forget to stay up to speed with the latest news and analysis on SanDisk by adding it to your free Watchlist.

Keki Fatakia does not hold shares in any of the companies mentioned in this article. The Motley Fool has a disclosure policy.

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