M-Systems Squelches Samsung Pact

The flash-memory company voids its licensing agreement with its longtime chip supplier.
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That'll teach

Samsung

.

M-Systems

(FLSH)

took a hard line with Samsung on Thursday, announcing that it has terminated a patent-licensing agreement between the two companies because of Samsung's allegedly derelict behavior.

The agreement, struck in December 2003, granted Samsung -- the world's largest producer of flash-memory chips -- a license to M-Systems' patents in return for undisclosed fixed, quarterly fees and a secure supply of flash chips.

Although the deal was set to expire in 2007, the Israeli-based flash-memory developer took the unusual step of prematurely voiding the pact, because it contended Samsung was not living up to its end of the bargain -- namely to provide M-Systems with a steady supply of flash chips.

"They did not abide by their commitment to supply us with the guaranteed capacity," said Noam Kedem, M-Systems' vice president of marketing.

"The core of the agreement for us was the access to fab capacity, and in return we paid with our most coveted asset, which is the IP," Kedem said.

A Samsung representative said the company had no comment.

Investors seemed unsure how to react to the move, sending M-Systems shares up nearly 6% at one point, before the stock subsequently gave up most of the gains. Shares were recently trading up 0.5%, or 14 cents, at $29.19 toward the close of market Thursday.

CIBC World Markets analyst Daniel Gelbtuch suggested that M-Systems had not cut off its nose to spite its face, as the licensing fees that the company received from Samsung were nominal.

And because Samsung was M-Systems' third source of flash memory, after

Toshiba

and

Hynix Semiconductor

, the company's flash supply should not be materially affected, said Gelbtuch, whose firm intends to seek compensation for investment banking services from M-Systems in the next three months.

"We believe FLSH will have no difficulty in replacing supply as it has two supply developments in the works," wrote Gelbtuch.

M-Systems' Kedem said the move would neither jeopardize its supply of flash memory nor have a material impact on its finances.

According to Kedem, the supply problems with Samsung were ongoing but came to a head in the fourth quarter of 2005, when the supply of flash chips was extremely tight industrywide.

Since then, the flash industry has shifted into oversupply. In a report Thursday, industry research firm iSuppli projected that sales of NAND flash in 2006 will grow 29% -- a healthy clip -- but half the 62% level of 2005.

Several chipmakers have increased their flash production in order to cash in on the popularity of the chips that are used to store data in consumer electronic devices such as MP3 players and digital cameras.

South Korea's Hynix has taken steps to boost its output of flash chips.

In November,

Intel

(INTC) - Get Report

and

Micron Technology

(MU) - Get Report

announced a NAND flash-manufacturing joint venture.

The market to supply flash chips is much more competitive than it was just a few years ago when Samsung and Toshiba were essentially the only two suppliers, says Semico Research analyst Jim Handy.

As a result, companies such as M-Systems are not as beholden to a supplier like Samsung as they were in the past.

M-Systems will likely put more orders in the hands of Toshiba, Intel/Micron and Hynix, says Handy. "I would imagine that they are going to spread around their orders."

And with the licensing agreement now dead, M-Systems could mobilize its legal team in an attempt to seek richer licensing fees from Samsung.

M-Systems' Kedem said that the licensing deal it had with Samsung was not a standard arrangement in which one company provides another with specific technology.

Rather, he explained, it was essentially a grant of immunity, allowing Samsung to develop its own technology without having to worry about potentially infringing M-Systems' patents.

According to some analysts, Samsung's OneNAND technology competes with M-Systems' DiskOnChip technology.

Kedem said there were no decisions regarding litigation at this point. But he left the doorway to the courtroom open. "I think it's time for a re-evaluation and reassessments of the parties and what needs to be done," he said.