Lower prices trip M-Systems
Just as it did in January 2004, M-Systems has lowered its guidance for the first quarter. Two years ago, the company prospered rest of the year, and there is reason to think the scenario will repeat itself.
Shlomi Cohen 31 Jan 06 12:04
This week is full of events, economic reports, and financial results. Wall Street will finish January’s trading today, and many people think that, as January goes, so goes the year. We’ll also say goodbye to US Federal Reserve Board chairman Alan Greenspan, who will convene the interest rate committee for the last time. It will be a great surprise if he does not raise the interest rate for the 14th consecutive time by 0.25%, to 4.5%.
Unless something drastic happens, January 2006 will be remembered as one of the strongest months ever, despite its successful imitation of a roller coaster. The Russell 200 small cap index rose by an impressive 8.8%, leaving the main indices far behind: the Dow Jones Industrial Average rose 1.8%, the S&P 500 rose 2.8%, and Nasdaq rose 4.5%.
In the three days of trading since M-Systems Flash Disk Pioneers (Nasdaq: FLSH) reported its results on Wednesday, the share has plunged 16%. SanDisk Corporation (Nasdaq: SNDK), which reported its results on Thursday after trading, lost 15% in three days. Saifun Semiconductors Ltd. (Nasdaq: SFUN) was hit with a 6.5% slide at the same time, even though it has no connection with the other two, and will report its results only next month. After M-Systems president and CEO Dov Moran and SanDisk founder, chairman and CEO Dr. Eli Harari both lowered their companies’ guidance for the first quarter to the same degree, I finally figured out why Moran decided to report before SanDisk.
Moran knew in advance what Harari would say about the first quarter, because the two companies are partners in developing the U3, the new DiskOnKey (DOK). Furthermore, Harari’s report is connected to his company’s activity with Toshiba (TSE: 6502; LSE: TOS; XETRA, AEX, Paris: TSBA), M-Systems’ main supplier. By publishing results before SanDisk, Moran avoided a bigger blow to his investors. Had he delayed his company’s report another day or two, as he did two years ago, investors would have pushed M-Systems’ share down 15% last week, and another 10% or more on publication of the company’s downgraded guidance. Harari got up at 4:00 am California time on Friday to explain on a live CNBC broadcast what happened, and what the fuss was about. He explained that it was a re-run of January 2004, and recalled that then, too, he had announced a drastic price cut in order to stimulate demand (high demand elasticity), especially for expensive flash cards with one-gigabyte storage capacity. He also reminded viewers that the price cut in January 2004 had been a great success, leading to a big surge in demand in the second half of that year. He did not mention it, but that price cut also disposed of Lexar Media (Nasdaq: LEXR), his company’s competitor.
Harari said that this year would start the same way, with seasonal weakness in the first quarter, followed by gradual improvement during the year. It appears that Toshiba and SanDisk have both brought forward their timetables for expanding their NAND fabs in Japan, and that more better-performing advanced multilevel cell (MLC) technology chips will be produced. This forced Harari to boost demand now with a big price cut. He told CNBC that he wanted to become the second biggest player in the media player market this year after Apple Computer (Nasdaq: AAPL), which has an 80% market share.
It is reasonable to assume that events in 2004 will repeat themselves this year for M-Systems, too, and that the steep price cut initiated by SanDisk for flash products sold by retail chains will reach the company’s original equipment manufacturer (OEM) customers more slowly. On the other hand, M-Systems will benefit from lower NAND chip prices almost immediately, which means that, after the first quarter, the company’s gross profit margin will improve. Moran confirmed this scenario in his conference call.
In my opinion, the M-Systems share will begin to recover in the next two weeks, before announcements are made at the 3GSM World Congress in Barcelona about its new MegaSim product. I believe that we can expect disclosure of more large wireless service providers as buyers of the new product, and perhaps additional cooperation agreements with European SIM players.
Smith Barney analyst Craig Ellis panicked in 2004 after M-Systems lowered its guidance, and issued a dramatic “Sell” recommendation that sent the company’s share plunging to $11. He is not following the same course now; he merely expressed cautious concern, and lowered his target price from $41 to $38, while retaining his “Hold” recommendation. Judging by his previous comments, I assume that the gap of $10 between the target price and the market price amounts to a “Buy” recommendation, and I’m waiting for one.
Published by Globes [online] - www.globes.co.il - on January 31, 2006
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