The past month hasn't been sunny for flash memory maker SanDisk ( SNDK).

First, heavyweight Intel ( INTC) announced a joint venture with Micron ( MU) to compete in the market for NAND flash memory. Then came a negative Barron's story about a lawsuit alleging that SanDisk's NAND flash empire was founded on fraud.

Toss in a sell-side analyst downgrading SanDisk stock to sell and you get a 17% slide in SanDisk shares since mid-November.

Despite that decline, SanDisk bulls are unwavering. They dismiss the flurry of litigation between the company and Geneva-based ST Microelectronics ( STM), and the new Intel-Micron competition.

Instead, they point to the burgeoning markets -- mobile phones and eventually laptop computers -- they believe will continue to fire up SanDisk.

"Each and every one of these lawsuits is something that could potentially blow up on them," acknowledges Kevin Landis, CIO of Firsthand Funds, which counts SanDisk as a major holding. But SanDisk has "got a pretty good record at defending themselves and at going after people they think are infringing."

SanDisk is involved in three related patent battles against ST Micro that have so far yielded mixed results. The most threatening is the suit detailed in Barron's that was filed in a California state court by ST Micro in October.

In that suit, ST Micro alleges that SanDisk founder and CEO Eli Harari, in the late 1980s while working as a director at Wafer Scale Integration or soon after leaving the company, fraudulently filed six patent applications. Harari co-founded the company that merged with STMicro in 2000.

ST Micro says that Harari conceived of the ideas behind the patents while at Wafer Scale and that consequently, the related patents should belong to ST Micro. Not coincidentally, some of those patents are the subject of another suit filed earlier by SanDisk that charges ST Micro with infringement.

At the heart of the dispute is the statute of limitations: ST Micro filed the suit five years after its acquisition of Wafer Scale and more than 15 years after Harari filed the patent applications.

But STMicro said in its complaint that it only became aware of Harari's "conduct" and patent applications as it began preparing its defense in the SanDisk suit. If STMicro can prove this, its case is likely to move ahead.

Representatives from SanDisk and STMicro declined to comment.

Suiting Up

Regardless, some investors believe that the STMicro disputes ultimately pose little threat to SanDisk in the near term because they could take years to wind through the courts.

But any resolution wouldn't clean SanDisk's legal plate. The company is embroiled in two other patent suits -- one against rival Infineon ( IFX) and another involving Memorex, Ritek and Pretec Electronics.

While the amount of lawsuits has the potential to scare off some investors, they're an important part of doing business for a technology company, legal experts say.

"One might argue that SanDisk is a bit more aggressive than other companies, but they have a large number of patents in their area," says Bruce Wieder, a patent lawyer in Alexandria, Va., with Buchanan Ingersoll and adjunct professor at the Georgetown University Law Center.

But "that they would move strongly to protect the advantages they have because of their patents is not unusual."

For SanDisk, licensing and royalty fees related to its intellectual property generate about 10% of sales. But Deutsche Bank analyst Ben Lynch figures that licensing and royalty fees have generated all of SanDisk's free cash flow since 1994 and have even funded the rest of the business.

He calculated that free cash flow will total $603 million from 1994 to 2005, while royalty revenue is expected to total $783 million.

The bulk of that royalty and licensing revenue currently comes through an agreement from supplier Samsung, reached after its own lengthy legal battle with SanDisk.

Samsung's agreement expires in 2009, but if any other company successfully shows that it doesn't owe SanDisk royalties, Samsung may be less likely to renew the agreement.

That possibility prompted Lynch to downgrade his rating on SanDisk to sell a month ago. He said that a recent International Trade Commission ruling that found that STMicro did not infringe on SanDisk's patent was "particularly damaging" considering that Samsung was found to have infringed on the same patents by the same judge.

"Overall we believe that SNDK's IP positioning is weakening," Lynch wrote. "Even if we are wrong on this -- SNDK has an excellent track record of extracting value from its IP -- perceptions are likely to matter in coming months." Lynch's firm hasn't done banking with SanDisk.

Hogwash, say some buy-siders. The Samsung agreement expiring in "four years is almost like an eternity," says Charles Smith, chief investment officer of Pittsburgh-based Fort Pitt Capital Group.

"In the tech world in a four-year window like that, so much could change in terms of new license agreements for new products," says Smith. "SanDisk has been fighting the IP wars for the entirety of their existence, and I have yet to be convinced that their intellectual property is at risk," he adds. SanDisk is the top holding in the ( FPCGX) Fort Pitt Capital Total Return Fund .

Still, perceptions have influenced some investors. Take Bob Bacarella, portfolio manager of the ( MSCEX ) Monetta Select Technology fund, who sold his SanDisk shares when the stock dived $10 on the Intel-Micron announcement.

"That to us was a signal to get out," says Bacarella, a believer in the efficient market theory. "Our discipline is whenever we get that kind price movement with that kind of news, it's time to go on to something else."

"Until it stabilizes, until we see some additional information in terms of fundamental news or litigation settlements, we're not going to re-enter the stock at this particular point in time," he says.

But did the market overreact? "I fully expect the stock to recover the entirety of that decline once people realize this is going to be an entirely new market for flash," Fort Pitt's Smith says.

Like other analysts, he believes that Intel and Micron are teaming up to address a new market -- laptops using NAND flash to turn on instantly.

"That's really been the story of flash memory all along -- brand new marketplaces opening up without any warning," Smith adds. He points to Apple's ( AAPL) popular new Apple iPod nano, which will get NAND flash from Intel and Micron.

Before the iPod, the ballooning digital camera market and then portable flash drives have fueled SanDisk sales, which have soared from $247 million in 1999 to an estimated $2.27 billion in 2005.


Source: Baseline
* = Estimate

Mobile phones using removable flash memory cards are poised to be the next spark to keep SanDisk's engine revving, bulls believe.

"Basically anything that's a portable consumer electronics device is going to have some form of nonvolatile memory," predicts Firsthand's Landis. "The savvy competitors and would-be competitors see what kind of promise is out there and that's why they are getting into the game," he adds.

And because of that promise, competitors are likely to continue playing the NAND flash game in the courtroom and market alike for some time to come.

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