Flash chips need a new gadget.
With prices for flash memory falling through the floor, and supplies piling up, the industry needs a new hit product to spark demand for the chips.
Until such a savior emerges, however, the flash industry's near-term prospects are dim. That's the conclusion of a pair of reports released Monday that highlight the problems plaguing the flash business.
Goldman Sachs analyst James Covello downgraded
, citing the huge price erosion caused by an excessive supply of flash chips, as well as the stock's high valuation.
"We expect significant declines in NAND pricing to drive a more challenging than originally expected fundamental environment for NAND flash makers in the coming quarters, with lower revenue growth and weakening margins," wrote Covello, whose firm has had an investment-banking relationship with SanDisk in the past 12 months.
Covello reduced his fiscal 2006 EPS estimate from $1.95 to $1.50, slapping SanDisk with an underperform rating. He argued that SanDisk's current 38 times 2006 EPS multiple was not justified compared with the 27 times median multiple of other companies that he covers.
On the basis of what he described as a still-aggressive 30 times multiple, Covello set a $45 price target for SanDisk.
Shares of SanDisk closed the regular session off 4%, or $2.28, to $55.24.
The gravity of recent flash price declines was echoed in a separate report released Monday by Westwood Marketing, a consulting company for the memory industry.
According to the report, spot market prices for 2-gigabit NAND flash chips have plummeted 63.14% since the beginning of the year, while overall NAND prices are down 56.7%. And, the report warned, the erosion shows no signs of slowing.
Flash-based, storage products maker
, which announced last month that its
first-quarter sales could be as much as $100 million short of analysts' expectations, may well represent the first of a rash of disappointing results.
The recent price declines, "combined with unit sales data we have been exposed to, does not lead us to believe that any retail flash brand will achieve their Q1 forecast or guidance," said the Westwood report.
Despite the news, shares of Lexar, which is slated to be acquired by
, were up 5.13%, or 44 cents, to $9.02.
The bearish outlook is a dramatic turnaround for the flash business, which a few months ago was the darling of the chip industry. In 2005, sales of flash chips surged 18.9%, to $18.6 billion, according to the Semiconductor Industry Association, making it the fastest-growing segment of the chip industry.
NAND flash memory chips can retain data even when the power is switched off, making them ideal for storing digital music, photographs and other data in newfangled consumer electronic devices.
Most investors and consumers remain optimistic about the long-term demand for flash chips. But the recent rush to cash in on popularity of the chips has created overcapacity.
Large memory companies such as
, which, according to rumors, may
buy No. 2 hard-drive maker
are converting manufacturing lines from DRAM production to NAND flash production.
recently announced a NAND flash manufacturing joint venture with Micron.
According to Goldman Sachs' Covello, the industry is adding supply at a rate of 18% in the first quarter of 2006, 32% in the second quarter, 36% in the third quarter and 27% in the fourth.
Demand for flash chips is not as broad-based as many believe, said Covello.
popular iPod carried the flash industry on its back in 2005, Covello wrote, noting that MP3 players accounted for 33% of total flash bit consumption in the fourth quarter of 2005, up from 16% in the first quarter.
And no other product has stepped forward to shoulder the burden going forward.
"We believe the industry will likely need another killer end-application to emerge in H2'06 to soak up the significant supply coming online, similar to the NAND-based iPods that were introduced in H2'05," wrote Covello.
Flash-based cell phones, which were supposed to be the next big demand driver, are progressing more slowly than forecast, contends the Westwood report.
"We are not saying that handsets do not have a huge opportunity with NAND, just that the enthusiasm of NAND producers is not simultaneously matched by handset manufacturers," says the report.
Meanwhile, Westwood Marketing said that existing end-markets for flash chips like USB drives are drying up as consumers reuse their current drives and see little need to purchase new, higher-capacity drives.
Many people are hoping that PCs will save the day. But Covello says that recent initiatives to put flash chips in personal computers, including hybrid flash hard-disk drives and
Intel's plan to integrate flash on motherboards, are likely to add only incremental demand in the next couple of years.