SanDisk Corporation (NASDAQ:SNDK) released a strong set of Q3 results on October 16th, beating guidance with record revenues of $1.63 billion and more than a threefold increase in net income over the same period last year. The out-performance was driven mostly by a well-executed strategy to shift its portfolio towards higher-value products and strong capacity utilization, which significantly improved the supply-demand dynamics. While revenues grew by 28% over the year-ago quarter, a favorable yen and a greater mix of higher-margin enterprise SSD and embedded solutions saw SanDisk’s Q3 gross margins increase to 50% from 31% last year. In fact, the SSD performance has been so good that the company now expects to exceed its SSD mix guidance of 15% for the full-year. As a result, the company also increased its 2013 revenue guidance from the previous range of $5.95-$6.05 billion to $6.1-$6.18 billion. . 
Going forward, we expect the recent acquisition of SMART Storage System to provide a significant boost to SanDisk’s enterprise SSD portfolio. This is in keeping with the management’s strategy of increasing SanDisk’s portfolio mix to the high-end, and should help the company maintain its margins better. On the back of the record results announced Wednesday, SanDisk’s stock made new all-time highs and is now trading close to our revised $70 price estimate.
SSD Mix increases along with ASP
SanDisk showed a 10% sequential increase and a 33% year-on-year increase in its commercial revenue, generated by two sources – SSDs and Embedded products. The revenue contribution of SSD sales for Q3 was 20%, up from 16% in Q3 and the SSD mix increased by more than 80% in the first three quarters of 2013 compared to the first three quarters of the previous year. This clearly highlights the change in strategy of the company to generate higher profit margins.
The growing share of SSDs and Embedded products led to ASPs increasing in the first half of this fiscal year. SanDisk’s blended ASP per gigabyte was up by 12% this quarter on a year-on-year basis for the same reason. On a sequential basis, however, the ASPs declined by 3% this quarter, pointing to the overall industry trend steadily catching up with the company.
Going forward, we expect company’s high ASPs to stabilize or even decline slightly in the near-term as a growing SSD mix offsets some of the impact of a market stabilizing at both the low- and high-end. Over the longer-term however, we expect a maturing market to have a bigger impact on ASP levels unless the company manages to increase its SSD mix significantly from the 2014 estimate of 25%.
Margins Grow on Weak Yen and Improved Mix
Increasing SSD mix, combined with the low cost of sales driven by a favorable Yen, resulted in a substantial increase in gross and operating margins in Q3. The Japanese Yen has declined in value by almost 15% since the start of the year when the new Japanese PM stepped into office. Last quarter alone, SanDisk saw the yen rate in its cost of sales move almost 10% in its favor, helping it sustain its recent increase in margins. Technology advancements, most notably in the use of 19 nanometer technology whose mix in the overall sales improved to 85% from 80% last quarter, also contributed to the margin improvement. As a result, the company’s gross margins improved significantly from 31% in the year-ago quarter to about 50% this quarter. Similarly, the operating margins surged more than 400 basis points sequentially.
While the depreciation in the yen has helped SanDisk immensely so far, any further margin improvement due to this factor alone is likely to be limited in the near term. The company expects the yen to hover around the 97 mark in the coming quarter. Going forward, the company may realize further benefits from the yen devaluation but given that the currency has already depreciated significantly this year, it is unlikely that its fluctuation affects the year on year gross margins in 2014 as much as this year. Margins will instead be more dependent on the company’s ability to grow its SSD mix in the coming years.Notes:
- SanDisk Management Discusses Q3 2013 Results – Earnings Call Transcript, Seeking Alpha, October 16, 2013 [↩]