Goldman sees SNDK to $45 short term. $20 long term

SanDisk is up ~10% in the past 2 days, which we believe represents a good opportunity to take profits
ahead of the Q1 report as we believe the company will have to guide Q2 down. We believe stock
appreciation has been driven by: (1) a few days of robust NAND price increases, and (2) M Systems
pre-announcing an in-line CQ1. We believe the market has ignored: (1) the fact that NAND contract
prices have been weak through March and our checks indicate that April prices will be weak again. And
(2) NAND spot prices declined on Thur. and Fri., highlighting that the upward trend isn’t sustainable,
and spot prices are down 50% YTD. No change to our U/N rating on SNDK as we continue to believe
that ASPs will be worse than expected in 2006 driven by excess supply. Our best-case valuation
analysis, which assumes the company can grow royalty revenues at 5% in perpetuity, implies a $45 fair
value for the stock.
Forecasts and valuation
Fiscal year ended EP$ S PX/E Re$v mennu e EB$ ImTDnA EV/EBX I TDA
12/04A 1.45 43.8 1,777 457.5 23.2
12/05A 1.76 36.1 2,306 568.6 18.7
12/06E 1.50 42.1 2,523 504.7 21.0
12/07E 1.95 32.4 2,914 682.6 15.5
Fiscal year ended 12/06E Fiscal year ended 12/07E
EPS Fiscal year ended
12/05A New Old New Old
1Q $0.34 $0.35 unch $0.44 unch
2Q $0.32 $0.27 unch $0.43 unch
3Q $0.50 $0.36 unch $0.50 unch
4Q $0.60 $0.52 unch $0.59 unch
Full year $1.76 $1.50 unch $1.95 unch
Source: Company data, Goldman Sachs Research estimates
WE BELIEVE RECENT STRENGTH IN SNDK REPRESENTS A GOOD OPPORTUNITY TO TAKE
PROFITS IN THE STOCK AHEAD OF THE QUARTER. SanDisk has increased ~10% in two trading
days, driven primarily by: (1) increases in NAND spot prices for a few days earlier in the week, and (2)
M Systems, a competitor in the flash retail market, positively pre-announcing an in-line first calendar
quarter on Wednesday. M Systems indicated that its revenues will be toward the higher end of original
guidance of $140 - 170M, or down about 17-32% Q/Q. We would highlight that Lexar, which also
competes in the NAND flash retail market, negatively pre-announced a significant revenue shortfall last
week when it cut its revenues ~40-50% below the Street.


We believe the market has ignored: (1) the fact that NAND contract prices have been weak, with NAND contract price declines of 4% M/M on
average in January, 10% M/M on average in February, and 24% M/M on average in March. April contract prices are anticipated next week,
which our checks indicate will be weak again. While NAND spot prices are a good directional indicator of NAND contract prices, few NAND
makers sell into the NAND spot market, making NAND spot prices fairly volatile. NAND contract prices are ultimately of the greatest
importance, as these are the prices that NAND customers agree to pay their suppliers. And (2) NAND spot prices declined in the last two
days between 1 and 5% (depending on density) after increasing for a few days earlier in the week, underscoring that the upward trend in
pricing likely isn’t sustainable. More importantly, even factoring in the recent strength in NAND spot prices, spot prices are still down ~50%
YTD.
There is no change to our U/N rating on SNDK and we view the recent upward move in the stock as a good opportunity to take profits ahead
of the quarter, as we expect the pricing environment to be difficult over the coming quarters driven by excess supply. We expect weak pricing
to drive Street estimate reductions, as the Street is modeling about a 50-55% Y/Y ASP decline while we expect ASPs to decline ~60% Y/Y.
Further, we estimate that there is significant downside risk in the stock. Our best-case valuation analysis, which assumes the company can
grow its royalty revenues at 5% in perpetuity, implies a $45 fair value for the stock vs. Thursday’s closing price of $63. An analysis of the fair
value of the stock assuming that the company ceases receiving royalty revenues in 2009 (when its contract with Samsung expires), implies a
$20 fair value for the stock.