SanDisk Corporation (NASDAQ:SNDK) announced its second quarter earnings on July 22, reporting a 24% year-over-year decline in net revenues to $1.24 billion. Revenues were slightly higher than company’s guidance given at the end March, anticipating weakness in its SSD product sales. As a result of low SSD sales, the company initially expected gross margins to be as low as 37-40% in the June quarter. In line with its expectations, SanDisk’s gross margin (GAAP) stayed at 39.1% for the quarter. 
SanDisk expects its Q3 revenues to be around $1.4 billion, which is over 25% lower than the prior year quarter. The company has maintained its full year revenues guidance at around $5.4-$5.7 billion, which is a 14-18% annual decline. As a result of low SSD sales, gross margins are also likely to be adversely impacted. The company expects expected gross margins (GAAP) to be as low as 37-40% in the latter half of 2015. However, if high-margin sales of both SSDs and X3 memory rise in the coming quarters, it could lead to healthier margins for the company. 
SanDisk’s stock price jumped by 18% following the earnings due to a better-than-anticipated performance of the enterprise segment and improved sales of its retail channel. The Q2 performance, complemented by a positive outlook for the coming quarters, helped drive investor sentiment. We have a $74 price estimate for SanDisk’s stock, which is over 15% higher than the current market price.
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Client SSDs Continue To Suffer, Enterprise Sales Rise
SanDisk’s solid state drive (SSD) division has witnessed explosive growth over the past few years, with revenues growing from around $150 million in 2011 to $1.9 billion in 2014. The company had a solid 2014 for SSD sales, with 60% annual growth in SSD segment revenues to $1.9 billion. Comparatively, SanDisk’s SSD product sales (including both client and enterprise SSDs) fell by 15% year over year to $360 million in the first quarter of 2015. Continuing the trend, the company faced a significant 37% y-o-y decline in SSD revenues to under $300 million during the quarter. As a result the contribution of SSDs to SanDisk’s net revenues stood at 24% for the June quarter, down from 27% in Q1 and 29% in 2014.
Within the SSD division, the client SSD revenues were down by a massive 64% on a year-over-year basis to $124 million for the quarter. The decline was attributable to a production issue related to the material used in a new embedded SSD component, which was in the process of being qualified for use for one of its largest customers. However, the company worked on the fix and completed the internal validation of the product. The company is now working on qualification of the product on the client side, which is expected to finish in Q3. The company expects to finish the requalification at the customer end and start shipping shortly. SanDisk’s management mentioned that this decline was the largest contributor to the company-wide revenue shortfall. Comparatively, the company posted solid results in the client SSD space last year, with revenues growing by 36% year over year to almost $1.3 billion.
On the other hand, SanDisk’s enterprise SSD sales rose by over 32% y-o-y to $173 million in the June quarter. Although the rise in revenues was slightly lower than the 140% annual growth observed in 2014, it partially offset the revenue decline in the client SSD space. The company witnessed a sequential improvement in Fusion-io (PCIe SSD) revenues through the quarter. The company plans to price products more competitively, thereby capturing a larger market in the coming quarters. Furthermore, the company expects customers to shift from low-end SATA enterprise-grade SSDs to PCIe solutions giving SanDisk a larger market to cater to.
Mixed Results For Embedded Storage
SanDisk’s embedded storage division, which includes non-SSD storage products attached to a host board, has witnessed a decline in revenues due to an increasing mix of embedded SSDs used in tablets, smartphones and other portable devices. As a result, the contribution of embedded storage to SanDisk’s net revenues has dropped from 27% in 2013 to 22% in through 2014. Continuing the trend, embedded storage revenues were down by over 20% to $247 million in Q2, while their contribution to net revenues stood at about 20%. SanDisk expects embedded storage products to continue to post healthy numbers through the latter half of the year with a new range of custom embedded 15 nanometer X3 solution lined up for a Q3 release. Additionally, the company plans to implement its 3-D NAND removable client and embedded SSD solutions in the coming quarters.
Declining Removable Storage Revenues
SanDisk’s removable storage division has witnessed mixed demand for storage products in 2014 in the last few years, sales volumes rising across various product categories including USB storage, memory cards for imaging devices and SD and micro SD cards. However, the declining average selling prices have limited revenue growth. As a result, revenues generated by SanDisk’s removable storage division fell by about 6% year over year to $2.5 billion in 2014. Correspondingly, the contribution of removable storage to net revenues declined from 43% of overall revenues in 2013 to about 38% in 2014.
The trend continued in the June quarter with removable storage revenues declining by almost 17% y-o-y to $544 million. SanDisk made efforts to revamp its product line in late 2014 and early 2015 in order to boost revenues with the introduction of the world’s highest-capacity micro SD card in March, the iXpand flash drives for Apple devices and USB flash drives for Android-based devices in December and January, respectively. However, declining prices have cut into top line growth despite a rise in sales volumes. Despite unimpressive figures for the first half of 2014, the company is optimistic about future revenues due the improving mix of products sold via the retail channel. The retail products are relatively higher priced and effectively offer better margins for the company. Moreover, the retail channel is seasonally higher in the latter half of the year, which could help the company generate higher revenues at healthier margins.Notes: