For the FWIW file.
Link: seekingalpha.com
Some Good And Some Bad News For Western Digital
Oct. 10, 2019 10:19 PM ET
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About: Western Digital Corporation (WDC)
MarketGyrations
Long/short equity, value, contrarian, Growth
(882 followers)
Summary
Western Digital is running at a loss, but management is expecting improvement from here on out.
NAND prices seem to have stabilized in September thanks to increased demand, which is a positive sign that a turnaround could indeed be around the corner.
Tougher sanctions on Huawei and the appearance of a new NAND supplier in China are both negative developments for Western Digital.
The good news outweigh the bad news in the short run, but the situation could be different in the more distant future.
Western Digital ( WDC) is currently in a slump. The most recent earnings report makes that clear. However, two major developments and one smaller one have since popped up that are relevant to WDC and its attempts to eliminate losses. These new developments have the potential to alter the road ahead for WDC, only in different directions - one to the upside and the other to the downside. Why the first is more likely to impact WDC, at least in the short run, than the second and cause the stock to appreciate will be explained in detail.
WDC is losing moneyThe company reported a net loss of $197 million for FQ4 2019 and a loss of $754 million for the whole year. Revenue declined by almost 20% in FY2019 because of lower average selling prices for NAND flash memory and reduced sales of HDD products.
(GAAP)
| FQ4 2018
| FQ4 2019
| YoY
| Revenue
| $5117M
| $3634M
| -29.0%
| Net income (loss)
| $756M
| ($197M)
| -126.1%
| | | | | | (GAAP)
| FY2018
| FY2019
| YoY
| Revenue
| $20647M
| $16569M
| -19.8%
| Net income (loss)
| $675M
| ($754M)
| -211.7%
|
(Source: Western Digital)
Further complicating matters are the restrictions imposed on China’s Huawei due to its presence on the Entity List of the U.S. government. Such a designation limits the ability of American companies to do business with Huawei without express permission from the U.S. government. That includes WDC, which counts Huawei as one of its key customers.
Weakness was broad-based in the market for storage, but management expects improvementEven though demand for storage was weak throughout, the flash-based memory segment was a bigger problem than the HDD segment. The latter fell by 18% and the former by 21%, as can be seen in the table below. The big culprit is falling prices for NAND memory chips. They have been trending lower for quite some time, a major problem for manufacturers of NAND chips such as WDC.
| | FY2018
| FY2019
| YoY
| HDD
| $10698M
| $8746M
| -18.3%
| Flash-based
| $9949M
| $7823M
| -21.4%
| Total revenue
| $20647M
| $16569M
| -19.8%
| However, despite weak market conditions, WDC management expects both segments to show improvement in the near future. In the FQ4 2019 earnings call, management stated that:
“Our expectation for a stronger demand environment for the second half of calendar year 2019 remains intact for both our flash and hard drive products.”
A transcript of the FQ4 2019 earnings call can be found here.
Flash memory is showing some signs of recovery The good news is that there have been signs recently that NAND flash memory prices may be on the upswing. For example, Samsung ( OTC:SSNLF) is by far the biggest supplier of NAND memory chips. Its earnings report from October 8th indicates better-than-expected demand for NAND chips. Excess inventories of NAND seem to be on the decline - a positive sign that NAND prices could indeed be on the rise.
According to other industry sources, NAND flash contract prices have stopped falling in the third quarter. In the month of September, NAND prices stayed flat at an average of $4 in comparison to the month before. This based on recent numbers from DRAMeXchange. They could potentially rise as much as 10% in the fourth quarter of 2019.
The driving factors behind the recovery in prices are reduced production of NAND memory chips by suppliers and end-market demand picking up due to seasonality. If Q4 prices do increase, then that would go a long way toward addressing one of the main reasons for the poor performance by WDC in recent quarters. Assuming, of course, that higher prices are sustained and not just a flash in the pan.
There’s also some bad news for WDC According to the company’s Form 10-K, Huawei accounted for about 10% of net accounts receivable as of June 2019. So, it is a significant customer as far as WDC is concerned. Unfortunately for WDC, it looks like the situation with Huawei will not be returning to normal anytime soon.
The U.S. administration had previously allowed a temporary waiver that granted American companies the ability to continue to do business with Huawei. The first waiver was passed in May earlier this year, and the 90-day waiver is now set to expire on November 19 after it was renewed once. But recent news reports indicate that the U.S. government is leaning towards putting more pressure on Huawei. That’s not good news for WDC.
A new supplier of flash memory has entered the market, and more may be coming
As mentioned previously, reduced supplies of NAND memory chips have helped stabilize prices in recent months. Unfortunately for the current crop of NAND suppliers, WDC included, a new player has entered the market by starting production of flash memory in China. On September 2nd, Yangtze Memory Technologies Co. (“YMTC”), a subsidiary of Tsinghua Unigroup, announced that it has started volume production of 64-layer 256Gb TLC 3D-NAND flash memory in Wuhan, China.
Furthermore, YMTC expects to produce 128-layer QLC NAND chips in 2020, which, if achieved, would pretty much close the gap with other NAND suppliers in terms of process technology. The company claims that its NAND chips, made with the Xtacking architecture, offer a number of advantages compared to its peers. They include higher performance with faster read/write speeds, higher storage density and a shorter product manufacturing period.
YMTC is targeting monthly output to be somewhere between 100,000 and 150,000 12-inch wafers in 2020. Capacity will be added in stages, but the fab in Wuhan is supposed to have a monthly production capacity of 300,000 12-inch wafers when fully completed. In comparison, the worldwide production capacity of all NAND manufacturers stands at 1,500,000 wafers per month at the moment.
More NAND suppliers could be coming
Company
| NAND market share
| Samsung
| 29.9%
| Toshiba ( OTCPK:TOSBF)
| 20.2%
| Micron ( MU)
| 16.5%
| WDC
| 14.9%
| SK Hynix ( OTC:HXSCF)
| 9.5%
| Intel ( INTC)
| 8.5%
| Others
| 0.5%
|
(Source: DRAMeXchange)
YMTC will join a group of six companies that currently supply almost all NAND memory, as can be seen in the table above. In addition, Tsinghua Unigroup is building additional fabs in the Chinese cities of Nanjing and Chengdu. Both of them will produce NAND memory chips and are intended to be comparable in size to the one in Wuhan. That implies a monthly production capacity of 300,000 wafers.
Investor takeawaysWDC currently controls about 15% of the NAND memory market, but the entry of one or more suppliers will only increase already stiff competition. Such cut-throat competition may be good news for the consumer looking to snap up cheap SSDs, but it’s not so great for a company like WDC. The company is running at a loss, after all, which means that it could use less and not more competition. Excessive competition will hurt memory prices, making it more difficult for WDC to return to profitability.
The memory industry is already dealing with excess inventory, and NAND manufacturers have been reducing output in an effort to stabilize the market. But the addition of a new supplier will undo some of that effort. Depending on how much production capacity Chinese suppliers are able to bring on-line in the next couple of years, new supplies of NAND memory from China could become a major headache for WDC.
However, all this will not happen overnight. It will take some time for Chinese supplies to reach critical levels before they will start to have an impact on the memory market. In the short run, concern about Chinese NAND suppliers should take a backseat to the more imminent prospect of higher prices for NAND memory due to increased demand.
The latter is much more likely to have an immediate impact on earnings than the former, at least for the next two or three quarters. There are clear signs that the memory market is about to revive and NAND prices are about to go up this quarter. Such a development means much more for WDC than new production from China that is still at least several quarters away from coming to fruition.
Bottom line, recent developments are mostly in favor of WDC, as suggested in this article's introduction. That bodes well for the company’s future prospects and its ability to get out of the red, at least in the short run. If this turns out to be correct, then WDC stock could appreciate based on reduced or even total elimination of current losses - a much-needed turn of the tide. Especially with the company at a loss, a situation no company wants to be in. But longer term, WDC may have to deal with some serious issues that could force the company back into the red. |
