-----BEGIN PRIVACY-ENHANCED MESSAGE----- Proc-Type: 2001,MIC-CLEAR Originator-Name: webmaster@www.sec.gov Originator-Key-Asymmetric: MFgwCgYEVQgBAQICAf8DSgAwRwJAW2sNKK9AVtBzYZmr6aGjlWyK3XmZv3dTINen TWSM7vrzLADbmYQaionwg5sDW3P6oaM5D3tdezXMm7z1T+B+twIDAQAB MIC-Info: RSA-MD5,RSA, QhOWuEZZIyEI5ZG721IeqAtcYJ9NHczhP2J9mSHgaqyCiia/KJJJr2H56s3L23qa yV+mE9/dIEWcwENqujuBlg== 0000950109-97-006490.txt : 19971028 0000950109-97-006490.hdr.sgml : 19971028 ACCESSION NUMBER: 0000950109-97-006490 CONFORMED SUBMISSION TYPE: S-3 PUBLIC DOCUMENT COUNT: 3 FILED AS OF DATE: 19971027 SROS: NASD FILER: COMPANY DATA: COMPANY CONFORMED NAME: SANDISK CORP CENTRAL INDEX KEY: 0001000180 STANDARD INDUSTRIAL CLASSIFICATION: COMPUTER STORAGE DEVICES [3572] IRS NUMBER: 770191793 STATE OF INCORPORATION: DE FISCAL YEAR END: 1231 FILING VALUES: FORM TYPE: S-3 SEC ACT: SEC FILE NUMBER: 333-38787 FILM NUMBER: 97700901 BUSINESS ADDRESS: STREET 1: 140 CASPIAN COURT CITY: SUNNYVALE STATE: CA ZIP: 94089 BUSINESS PHONE: 4085620500 MAIL ADDRESS: STREET 1: 140 CASPIAN COURT CITY: SUNNYVALE STATE: CA ZIP: 94089 S-3 1 FORM S-3 AS FILED WITH THE SECURITIES AND EXCHANGE COMMISSION ON OCTOBER 27, 1997 REGISTRATION NO. 333- - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- SECURITIES AND EXCHANGE COMMISSION WASHINGTON, D.C. 20549 --------------- FORM S-3 REGISTRATION STATEMENT UNDER THE SECURITIES ACT OF 1933 --------------- SANDISK CORPORATION (EXACT NAME OF REGISTRANT AS SPECIFIED IN ITS CHARTER) ---------------
DELAWARE 3572 77-0191793 (STATE OR OTHER JURISDICTION OF (PRIMARY STANDARD INDUSTRIAL (I.R.S. EMPLOYER INCORPORATION OR ORGANIZATION) CLASSIFICATION CODE NUMBER) IDENTIFICATION NUMBER)
140 CASPIAN COURT, SUNNYVALE, CALIFORNIA 94089 (408) 542-0500 (ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF THE REGISTRANT'S PRINCIPAL EXECUTIVE OFFICES) --------------- DR. ELI HARARI PRESIDENT AND CHIEF EXECUTIVE OFFICER SANDISK CORPORATION 140 CASPIAN COURT, SUNNYVALE, CALIFORNIA 94089 (408) 542-0500 (NAME AND ADDRESS, INCLUDING ZIP CODE, AND TELEPHONE NUMBER, INCLUDING AREA CODE, OF AGENT FOR SERVICE) COPIES TO:
THOMAS W. KELLERMAN, ESQ. DONNA M. PETKANICS, ESQ. TIMOTHY R. CURRY, ESQ. DANIEL R. MITZ, ESQ. KIMBERLEY E. HENNINGSEN, ESQ. IVAN J. BROCKMAN, ESQ. PATRICIA A. MONTALVO, ESQ. DAVID M. CAMPBELL, ESQ. BROBECK, PHLEGER & HARRISON LLP WILSON SONSINI GOODRICH & ROSATI TWO EMBARCADERO PLACE PROFESSIONAL CORPORATION 2200 GENG ROAD 650 PAGE MILL ROAD PALO ALTO, CALIFORNIA 94303 PALO ALTO, CALIFORNIA 94304 (650) 424-0160 (650) 493-9300
--------------- APPROXIMATE DATE OF COMMENCEMENT OF PROPOSED SALE TO THE PUBLIC: As soon as practicable after this Registration Statement becomes effective. If the only securities being registered on this form are being offered pursuant to dividend or interest reinvestment plans, please check the following box. [_] If the securities being registered on this form are to be offered on a delayed or continuous basis pursuant to Rule 415 under the Securities Act of 1933, as amended (the "Securities Act"), other than securities offered only in connection with dividend or interest reinvestment plans, please check the following box. [_] If this form is filed to register additional securities for an offering pursuant to Rule 462(b) under the Securities Act, please check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [_] If this Form is a post-effective amendment filed pursuant to Rule 462(c) under the Securities Act, check the following box and list the Securities Act registration statement number of the earlier effective registration statement for the same offering. [_] If delivery of the prospectus is expected to be made pursuant to Rule 434, please check the following box. [_] --------------- CALCULATION OF REGISTRATION FEE - ------------------------------------------------------------------------------------------- - -------------------------------------------------------------------------------------------
PROPOSED MAXIMUM PROPOSED MAXIMUM TITLE OF SHARES AMOUNT TO BE AGGREGATE PRICE AGGREGATE AMOUNT OF TO BE REGISTERED REGISTERED (1) PER SHARE (2) OFFERING PRICE REGISTRATION FEE - ------------------------------------------------------------------------------------------- Common Stock, $0.001 par value per share....... 3,450,000 28.0625 $96,815,625 $29,339 - ------------------------------------------------------------------------------------------- - -------------------------------------------------------------------------------------------
(1) Includes shares which the Underwriters have the option to purchase solely to cover over-allotments, if any. (2) The proposed maximum offering price per share and the registration fee were calculated in accordance with Rule 457(c) based on the average of the high and low prices for the Company's Common Stock on October 23, 1997, as quoted in the Nasdaq National Market. --------------- THE REGISTRANT HEREBY AMENDS THIS REGISTRATION STATEMENT ON SUCH DATE OR DATES AS MAY BE NECESSARY TO DELAY ITS EFFECTIVE DATE UNTIL THE REGISTRANT SHALL FILE A FURTHER AMENDMENT WHICH SPECIFICALLY STATES THAT THE REGISTRATION STATEMENT SHALL THEREAFTER BECOME EFFECTIVE IN ACCORDANCE WITH SECTION 8(a) OF THE SECURITIES ACT OF 1933 OR UNTIL THE REGISTRATION STATEMENT SHALL BECOME EFFECTIVE ON SUCH DATE AS THE COMMISSION ACTING PURSUANT TO SAID SECTION 8(a) MAY DETERMINE. - ------------------------------------------------------------------------------- - ------------------------------------------------------------------------------- ++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++ +INFORMATION CONTAINED HEREIN IS SUBJECT TO COMPLETION OR AMENDMENT. A + +REGISTRATION STATEMENT RELATING TO THESE SECURITIES HAS BEEN FILED WITH THE + +SECURITIES AND EXCHANGE COMMISSION. THESE SECURITIES MAY NOT BE SOLD NOR MAY + +OFFERS TO BUY BE ACCEPTED PRIOR TO THE TIME THE REGISTRATION STATEMENT + +BECOMES EFFECTIVE. THIS PROSPECTUS SHALL NOT CONSTITUTE AN OFFER TO SELL OR + +THE SOLICITATION OF AN OFFER TO BUY NOR SHALL THERE BE ANY SALE OF THESE + +SECURITIES IN ANY STATE IN WHICH SUCH OFFER, SOLICITATION OR SALE WOULD BE + +UNLAWFUL PRIOR TO REGISTRATION OR QUALIFICATION UNDER THE SECURITIES LAWS OF + +ANY SUCH STATE. + ++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++++ PROSPECTUS (Subject to Completion) Issued October 27, 1997 3,000,000 Shares [LOGO OF SANDISK CORP. APPEARS HERE] COMMON STOCK ----------- ALL OF THE SHARES OF COMMON STOCK OFFERED HEREBY ARE BEING SOLD BY THE COMPANY. THE COMPANY'S COMMON STOCK IS LISTED ON THE NASDAQ NATIONAL MARKET UNDER THE SYMBOL "SNDK." ON OCTOBER 24, 1997, THE LAST SALE PRICE OF THE COMMON STOCK AS REPORTED ON THE NASDAQ NATIONAL MARKET WAS $27 1/2 PER SHARE. SEE "PRICE RANGE OF COMMON STOCK." ----------- THIS OFFERING INVOLVES A HIGH DEGREE OF RISK. SEE "RISK FACTORS" COMMENCING ON PAGE 5 HEREOF. ----------- THESE SECURITIES HAVE NOT BEEN APPROVED OR DISAPPROVED BY THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION NOR HAS THE SECURITIES AND EXCHANGE COMMISSION OR ANY STATE SECURITIES COMMISSION PASSED UPON THE ACCURACY OR ADEQUACY OF THIS PROSPECTUS. ANY REPRESENTATION TO THE CONTRARY IS A CRIMINAL OFFENSE. ----------- PRICE $ A SHARE -----------
UNDERWRITING PRICE TO DISCOUNTS AND PROCEEDS TO PUBLIC COMMISSIONS(1) COMPANY(2) -------- -------------- ----------- Per Share.................... $ $ $ Total(3)..................... $ $ $
- ----- (1) The Company has agreed to indemnify the Underwriters against certain liabilities, including liabilities under the Securities Act of 1933, as amended. See "Underwriters." (2) Before deducting expenses payable by the Company estimated at $400,000. (3) The Company has granted the Underwriters an option, exercisable within 30 days of the date hereof, to purchase up to an aggregate of 450,000 additional Shares at the price to public less underwriting discounts and commissions for the purpose of covering over-allotments, if any. If the Underwriters exercise such option in full, the total price to public, underwriting discounts and commissions and proceeds to Company will be $ , $ and $ , respectively. See "Underwriters." ----------- The Shares are offered, subject to prior sale, when, as and if accepted by the Underwriters named herein, and subject to approval of certain legal matters by Wilson Sonsini Goodrich & Rosati, Professional Corporation, counsel for the Underwriters. It is expected that the delivery of the Shares will be made on or about , 1997 at the office of Morgan Stanley & Co. Incorporated, New York, N.Y., against payment therefor in immediately available funds. ----------- MORGAN STANLEY DEAN WITTER GOLDMAN, SACHS & CO. BANCAMERICA ROBERTSON STEPHENS , 1997 NO DEALER, SALES REPRESENTATIVE OR ANY OTHER PERSON HAS BEEN AUTHORIZED IN CONNECTION WITH ANY OFFERING MADE HEREBY TO GIVE ANY INFORMATION OR TO MAKE ANY REPRESENTATION OTHER THAN AS CONTAINED OR INCORPORATED BY REFERENCE IN THIS PROSPECTUS AND, IF GIVEN OR MADE, SUCH INFORMATION OR REPRESENTATION MUST NOT BE RELIED UPON AS HAVING BEEN AUTHORIZED BY THE COMPANY OR BY ANY UNDERWRITER. THIS PROSPECTUS DOES NOT CONSTITUTE AN OFFER TO SELL OR A SOLICITATION OF AN OFFER TO BUY BY ANY PERSON IN ANY JURISDICTION IN WHICH IT IS UNLAWFUL FOR SUCH PERSON TO MAKE SUCH AN OFFERING OR SOLICITATION. NEITHER THE DELIVERY OF THIS PROSPECTUS NOR ANY SALE MADE HEREUNDER SHALL UNDER ANY CIRCUMSTANCE IMPLY THAT THE INFORMATION CONTAINED HEREIN IS CORRECT AS OF ANY DATE SUBSEQUENT TO THE DATE HEREOF. -------------- TABLE OF CONTENTS
PAGE PAGE ---- ---- Incorporation of Certain Documents by Management's Discussion and Analysis of Reference................................. 2 Financial Prospectus Summary......................... 3 Condition and Results of Operations........ 18 The Company................................ 4 Business................................... 27 Risk Factors............................... 5 Management................................. 41 Use of Proceeds............................ 15 Underwriters............................... 43 Dividend Policy............................ 15 Legal Matters.............................. 45 Price Range of Common Stock................ 15 Experts.................................... 45 Capitalization............................. 16 Available Information...................... 45 Selected Consolidated Financial Data....... 17 Index to Consolidated Financial Statements. F-1
-------------- INCORPORATION OF CERTAIN DOCUMENTS BY REFERENCE The following documents filed by the Company with the Securities and Exchange Commission (the "Commission") pursuant to the Securities Exchange Act of 1934, as amended (the "Exchange Act") are incorporated herein by reference: (i) the Company's Annual Report on Form 10-K for the year ended December 31, 1996; (ii) the Company's Quarterly Reports on Form 10-Q for the quarters ended March 31, 1997, June 30, 1997 and September 30, 1997; (iii) the Company's Current Report on Form 8-K filed with the Commission on October 16, 1997; (iv) the Company's definitive Proxy Statement dated March 13, 1997 filed in connection with the Company's 1997 Annual Meeting of Stockholders; (v) the description of the Company's Common Stock contained in the Company's Registration Statement on Form 8-A filed under Section 12 of the Exchange Act with the Commission on September 8, 1995, including any amendment or report updating such description; and (vi) the description of the Company's stockholder rights contained in its Registration Statement on Form 8-A filed with the Commission on April 28, 1997, as amended on May 15, 1997. Each document filed by the Company pursuant to Sections 13(a), 13(c), 14 or 15(d) of the Exchange Act after the date of this Prospectus and prior to the termination of the offering made hereby shall be deemed to be incorporated by reference into this Prospectus and to be part hereof from the date of filing of such document (all of such documents, and the documents enumerated above, being hereinafter referred to as "Incorporated Documents"). Any statement contained in an Incorporated Document shall be deemed to be modified or superseded for purposes of this Prospectus to the extent that a statement contained herein or in any other subsequently filed Incorporated Document modifies or supersedes such statement. Any statement so modified or superseded shall not be deemed, except as so modified or superseded, to constitute a part of this Prospectus. The Company will provide without charge to each person to whom a copy of the Prospectus is delivered, including any beneficial owner, upon the written or oral request of such person, a copy of any or all of the Incorporated Documents, other than exhibits to such documents unless such exhibits are specifically incorporated by reference therein. Requests for such copies should be submitted in writing or by telephone at (408) 542-0500 to Shareholder Relations, SanDisk Corporation at the principal executive offices of the Company, 140 Caspian Court, Sunnyvale, California 94089. The information relating to the Company contained in this Prospectus does not purport to be comprehensive and should be read together with the information contained in the Incorporated Documents. -------------- Except as set forth in the consolidated financial statements or as otherwise indicated, all information in this Prospectus assumes no exercise of the underwriters' over-allotment option. The Company's fiscal year ends on the Sunday closest to December 31, and each fiscal quarter ends on the Sunday closest to March 31, June 30 and September 30. For ease of presentation, the accompanying financial statements have been shown as ending on the last day of the relevant calendar month. -------------- The SanDisk(R) name and logo, and the CompactFlash(TM) name and logo, are trademarks of the Company. The CompactFlash Association makes the CompactFlash name and logo available royalty-free to member companies. References in this Prospectus to CompactFlash are references only to the Company's products unless otherwise indicated. This Prospectus also includes trademarks of companies other than the Company. -------------- CERTAIN PERSONS PARTICIPATING IN THIS OFFERING MAY ENGAGE IN TRANSACTIONS THAT STABILIZE, MAINTAIN OR OTHERWISE AFFECT THE PRICE OF THE COMMON STOCK. SPECIFICALLY, THE UNDERWRITERS MAY OVERALLOT IN CONNECTION WITH THE OFFERING, AND MAY BID FOR, AND PURCHASE, SHARES OF THE COMMON STOCK IN THE OPEN MARKET. FOR A DESCRIPTION OF THESE ACTIVITIES, SEE "UNDERWRITERS." -------------- IN CONNECTION WITH THIS OFFERING, CERTAIN UNDERWRITERS AND SELLING GROUP MEMBERS MAY ENGAGE IN PASSIVE MARKET MAKING TRANSACTIONS IN THE COMMON STOCK ON THE NASDAQ NATIONAL MARKET IN ACCORDANCE WITH RULE 103 OF REGULATION M. SEE "UNDERWRITERS." 2 PROSPECTUS SUMMARY The following summary should be read in conjunction with, and is qualified in its entirety by, the more detailed information and consolidated financial statements and notes thereto appearing elsewhere herein or incorporated by reference in this Prospectus. Prospective investors should consider carefully the factors described under "Risk Factors." THE COMPANY SanDisk designs, develops and markets flash memory data storage products used in a wide variety of electronic systems. The Company has optimized its flash memory storage solution, known as "system flash," to address the needs of many emerging applications in the consumer electronics and industrial/communications markets. Since its inception, the Company has been actively involved in all aspects of flash memory process development, chip design, controller development and system-level integration to ensure the creation of fully- integrated, broadly interoperable products that are compatible with both existing and new system platforms. The Company believes its core technical competencies are in high-density flash memory process and design, controller design, system-level integration, compact packaging and low-cost system test. The Company's products include removable CompactFlash products and FlashDisk cards, and embedded FlashDrives and Flash ChipSet products. SanDisk has successfully applied its technology to the rapidly growing markets for digital cameras and other consumer electronics devices such as personal digital assistants. The Company was instrumental in the development of the PCMCIA format and the CompactFlash format, which the Company believes is becoming the de facto industry standard storage platform for digital cameras. SanDisk's customers include Boeing Defense & Space Co., Canon Inc., Casio Manufacturing Corporation, Eastman Kodak Company, Epson Hanbai Co., Ltd., Fujitsu-ICL Systems, Hewlett-Packard Company, Kyocera America, Inc., Lucent Technologies, Inc., Matsushita Electric Industrial Co., Ltd., NEC USA, Inc., Norand Corporation, Pentax Corporation, Psion Computers PLC and Telxon Corporation. THE OFFERING Common Stock offered.............................. 3,000,000 shares Common Stock to be outstanding after the offering. 25,720,573 shares(1)(2) Use of proceeds................................... For general corporate purposes, including working capital, product development and capital expenditures. Nasdaq National Market symbol..................... SNDK
SUMMARY CONSOLIDATED FINANCIAL DATA (IN THOUSANDS, EXCEPT PER SHARE DATA)
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ------------------------------------------ --------------- 1992 1993 1994 1995 1996 1996 1997 ------- ------- ------- ------- ------- ------- ------- CONSOLIDATED STATEMENTS OF OPERATIONS DATA: Revenues: Product................ $22,359 $20,551 $35,378 $61,589 $89,599 $67,599 $72,335 License and royalty.... -- -- -- 1,250 8,000 3,750 12,600 ------- ------- ------- ------- ------- ------- ------- Total revenues....... 22,359 20,551 35,378 62,839 97,599 71,349 84,935 Gross profits........... 3,632 1,610 7,304 26,226 38,892 27,811 35,459 Operating income (loss). (6,042) (10,243) (4,781) 7,777 12,474 8,484 12,164 Net income (loss)....... $(5,969) $(9,990) (4,287) 9,065 14,485 10,102 12,617 Net income (loss) per share (3).............. $ (.23) $ .43 $ .60 $ .42 $ .51 Shares used in computing net income (loss) per share (3).............. 18,872 20,856 24,206 24,204 24,504
SEPTEMBER 30, 1997 ----------------------- ACTUAL AS ADJUSTED(4) -------- -------------- CONSOLIDATED BALANCE SHEET DATA: Cash, cash equivalents and short-term investments....... $ 60,323 $138,298 Working capital......................................... 48,022 125,997 Total assets............................................ 152,819 230,794 Long term obligations................................... -- -- Total stockholders' equity.............................. 102,026 180,001
- ------ (1) Based on the number of shares outstanding as of September 30, 1997. Excludes: (i) 2,933,617 shares of Common Stock issuable upon exercise of stock options outstanding under the Company's 1995 Stock Option Plan; (ii) 96,000 shares of Common Stock issuable upon exercise of stock options outstanding under the Company's 1995 Non-employee Directors Stock Option Plan; (iii) warrants to purchase 106,363 shares of Common Stock; (iv) 2,680,801 shares available for future issuance under the Company's 1995 Stock Benefit Plan; (v) 665,186 shares available for future issuance under the Company's Employee Stock Purchase Plan and (vi) 104,000 shares available for future issuance under the Company's 1995 Non-Employee Directors Stock Option Plan. (2) Includes 6,141,374 shares owned by Seagate Technology, Inc., which prior to the completion of this offering represents approximately 25% of the Company's Common Stock on a fully-diluted basis. (3) Amounts are pro forma in 1994. See Note 1 of Notes to Consolidated Financial Statements. (4) Adjusted to reflect the sale of 3,000,000 shares of Common Stock offered by the Company at an assumed public offering price of $27 1/2 per share and after deducting estimated underwriting discounts and commissions and estimated offering expenses. See "Use of Proceeds" and "Capitalization." 3 THE COMPANY SanDisk designs, develops and markets flash memory data storage products used in a wide variety of electronic systems. The Company has optimized its flash memory storage solution, known as "system flash," to address the needs of many emerging applications in the consumer electronics and industrial/communications markets. Since its inception, the Company has been actively involved in all aspects of flash memory process development, chip design, controller development and system-level integration to ensure the creation of fully-integrated, broadly interoperable products that are compatible with both existing and new system platforms. The Company believes its core technical competencies are in high-density flash memory process and design, controller design, system-level integration, compact packaging and low-cost system test. The Company's products include removable CompactFlash products and FlashDisk cards, and embedded FlashDrives and Flash ChipSet products. SanDisk has successfully applied its technology to the rapidly growing markets for digital cameras and other consumer electronics devices such as personal digital assistants ("PDAs"). The Company was instrumental in the development of the PCMCIA format and the CompactFlash format, which the Company believes is becoming the de facto industry standard storage platform for digital cameras. SanDisk's customers include Boeing Defense & Space Co., ("Boeing"), Canon Inc. ("Canon"), Casio Manufacturing Corporation ("Casio"), Eastman Kodak Company ("Kodak"), Epson Hanbai Co., Ltd. ("Epson Hanbai"), Fujitsu-ICL Systems ("Fujitsu"), Hewlett-Packard Company ("Hewlett-Packard"), Kyocera America, Inc. ("Kyocera"), Lucent Technologies, Inc. ("Lucent"), Matsushita Electric Industrial Co., Ltd. ("MEI"), NEC USA Inc. ("NEC USA"), Norand Corporation ("Norand"), Pentax Corporation ("Pentax"), Psion Computers PLC ("Psion") and Telxon Corporation ("Telxon"). In recent years, digital computing has expanded beyond the boundaries of desktop computer systems to include a broad array of electronic systems such as digital cameras, PDAs, cellular telephones, highly portable computers, digital audio recorders, wireless base stations, network computers, communications switches, mobile communication systems, handheld data collection terminals, medical monitors, pay telephones and other electronic systems. These applications have storage requirements that include small form factor, high reliability, low power consumption and the capability to withstand high levels of shock and vibration and extreme temperature fluctuations. Such requirements are not well addressed by traditional storage solutions such as rotating disk drives. Consequently, new market opportunities have been created for data storage products that can satisfy these requirements. The Company's flash data storage products combine patented flash memory chips with an integrated microcontroller in a system design that meets the needs of many existing and emerging applications. The Company's products comply with industry standards and are designed to be universally applicable storage devices that are compatible across a wide range of electronic applications, regardless of hardware platform, software operating system or type of data stored. The use of non-volatile flash memory cells allows the Company's products to retain information without power and to consume a fraction of the power required by rotating disk drives. The Company's flash data storage products are solid-state with no mechanical moving parts and consequently are shock and vibration tolerant and operate in a wide variety of temperature and humidity conditions. The Company's products utilize sophisticated error detection and correction algorithms and dynamic defect management techniques to provide high reliability and read/write endurance, which can translate into decades of read/write usage without loss of data. All of the Company's products offer forward and backward compatibility from one product generation to the next. The Company's flash data storage products are offered with memory capacities ranging from 2MB to 300MB. The Company's strategy includes focusing on technological innovation and reducing the cost of its flash data storage products in order to promote broader acceptance of the Company's products in its target markets. The Company seeks to promote the widespread acceptance of industry standards as a means of developing the market for flash data storage products. The Company has pursued long-term strategic relationships with manufacturing partners that possess leading edge semiconductor technology and high volume manufacturing capacity. This enables the Company to concentrate its resources on product design, development, assembly and testing where the Company believes it has a competitive advantage and eliminates the high cost of owning and operating a semiconductor wafer fabrication facility. In this regard, the Company has developed strategic relationships with Matsushita Electronics Corporation ("Matsushita"), LG Semicon ("LG Semicon"), NEC Corporation ("NEC") and United Silicon, Inc. ("USIC"), a foundry joint venture headed by United Microelectronics Corporation ("UMC"). The Company also has a strategic relationship with Seagate Technology, Inc. ("Seagate"), which owns approximately 25% of the Company's Common Stock on a fully-diluted basis prior to this offering. The Company was incorporated in Delaware in June 1988 under the name SunDisk Corporation and changed its name to SanDisk Corporation in August 1995. The Company's principal executive offices are located at 140 Caspian Court, Sunnyvale, California 94089 and its telephone number is (408) 542-0500. 4 RISK FACTORS In addition to the other information in this Prospectus and in the documents incorporated by reference herein, the following risk factors should be considered carefully in evaluating an investment in the Company and its business before purchasing the Common Stock offered by this Prospectus. The sections entitled "Management's Discussion and Analysis of Financial Condition and Results of Operations" and "Business" in this Prospectus contain forward- looking statements within the meaning of Section 27A of the Securities Act of 1933, as amended (the "Securities Act"), and Section 21E of the Exchange Act. Actual results could differ materially from those projected in the forward- looking statements as a result of the risk factors set forth below and elsewhere in this Prospectus. Fluctuations in Operating Results. SanDisk's operating results have been in the past and are expected to be in the future, subject to quarterly and annual fluctuations due to a variety of factors. For example, the Company's revenues increased each quarter for the first three quarters of 1996 and then decreased in both the last quarter of 1996 and the first quarter of 1997 before increasing in the second and third quarters of 1997. The principal factors that have caused the Company's operating results to fluctuate in the past several quarters and may cause the Company's operating results to fluctuate in the future are the unpredictable demand for the Company's products and anticipated seasonality as sales of products for consumer electronics applications become a greater proportion of the Company's product revenues. The Company must order silicon wafers from its foundries several months prior to the date such wafers are needed. If the Company overestimates the number of silicon wafers it needs to fill product orders and as a result builds excess inventories, gross margins and operating results will be materially adversely affected. If the Company underestimates the number of silicon wafers required in a particular quarter and is unable to fulfill customer orders promptly after receipt of an order, the Company will risk losing potential sales and customers. Since the Company is selling CompactFlash, its largest volume product, into an emerging consumer market and is unable to accurately forecast future sales, there will be a material adverse effect on the Company's operating results if sales fall below the Company's expectations in a particular quarter and the Company is unable to reduce its operating expenses. The portion of the Company's quarterly sales attributable to orders received and fulfilled in the same quarter remains high and product order backlog fluctuates substantially from quarter to quarter. See "--Seasonality and "-- Dependence on Third Party Foundries." Other factors affecting the Company's operating results and gross margins include the volume of product sales, competitive pricing pressures, the ability of the Company to match supply with demand, changes in product and customer mix, market acceptance of new or enhanced versions of the Company's products, changes in the channels through which the Company's products are distributed, timing of new product announcements and introductions by the Company and its competitors, the timing of license and royalty revenue, fluctuations in product costs, availability of foundry capacity, variations in manufacturing cycle time, fluctuations in manufacturing yields and manufacturing utilization, the ability of the Company to achieve manufacturing efficiencies with its new and existing products, increased research and development expenses, exchange rate fluctuations and changes in the Company's effective tax rate. All of these factors are difficult to forecast and these or other factors can materially affect the Company's quarterly or annual operating results or gross margins. The Company has increased its expense levels to support its recent growth, including expenses associated with the expansion of the Company's in-house assembly and test operations. The Company expects to continue to increase its operating expenses by hiring additional personnel to support expected growth, increased marketing efforts and additional research and development activities. If the Company does not achieve increased levels of revenues commensurate with these increased levels of operating expenses, or if the Company's revenues decrease or do not meet the Company's expectations for a particular period, the Company's business, financial condition and results of operations will be materially adversely affected. The mix of the Company's products sold varies from quarter to quarter and will vary in the future, affecting the Company's overall average selling prices and gross margins. Over the last three quarters, the Company experienced a shift in product mix to low capacity (2MB and 4MB) CompactFlash cards that generally have 5 lower average selling prices and lower gross margins than high capacity products. This shift in product mix, coupled with lower pricing due to competition, caused average selling prices to decline. The Company anticipates that lower capacity products will continue to represent a significant portion of its sales as consumer applications such as digital cameras become more popular. The Company has adopted a strategy of cross-licensing its patents to other manufacturers of flash products. Under such arrangements, the Company earns license fees and royalties on terms that are individually negotiated. The timing of recognition of revenues from these payments depends on the terms of each contract, and, in some cases, on the timing of product shipments by the third parties. As a result, license and royalty revenue has fluctuated significantly in the past and is likely to continue to fluctuate in the future. Given the relatively high gross margins associated with license and royalty revenue, gross margins and net income are likely to fluctuate more with changes in license and royalty revenue than with changes in product revenue. Dependence on Emerging Markets and New Products. The Company's success depends to a significant extent upon the development of emerging markets and new applications for flash data storage systems, as well as on its ability to introduce commercially attractive and competitively priced products on a timely basis. The Company believes that continued significant expenditures for research and development will be required in the future. In particular, the Company intends to develop new products with increased memory capacity at a lower cost per megabyte, which the Company believes will be essential to its ability to remain competitive. There can be no assurance that the Company will develop successfully these new products, that new applications or markets for flash data storage will develop as expected by the Company, that prospective customers developing products for any such markets will design the Company's products into their products and successfully introduce such products, or that products or technologies developed by others will not render the Company's products or technologies obsolete or noncompetitive. The failure of new applications or markets to develop or the failure of the Company's products to be accepted by the market would have a material adverse effect on the Company's business, financial condition and results of operations. Increasing Dependence on Consumer Products. During the first nine months of 1997, the portion of the Company's product revenues derived from sales of products for consumer electronics applications, principally digital cameras, increased significantly and over this period represented the largest portion of product revenues and units shipped. There can be no assurance, however, that the Company will achieve large scale market acceptance for its products in the consumer electronics market. The Company anticipates that products sold for consumer applications will generally encounter intense competition and will be more price sensitive than products sold into its other target markets. In addition, consumer markets are more likely to experience seasonality of sales, with potential declines in sales activity during the first quarter of any year. Because of the large number of OEMs entering the digital camera market, it is likely that not all of these manufacturers will be successful in achieving market acceptance of their products. If SanDisk's OEM customers are not successful in this market, such OEM customers may have excess inventories of CompactFlash products, which may preclude follow-on orders or result in sales of their CompactFlash inventories in the open market. In addition, if market acceptance of digital cameras is slower than expected, or if the market for CompactFlash becomes saturated, the Company may encounter reduced demand for CompactFlash products, declining average selling prices or product returns, any of which would have an adverse effect on the Company's results of operations. The Company anticipates that a greater proportion of its sales to the consumer electronics market will be made through distributors and to retailers than is the case with the industrial/communications market. This will be particularly true if the level of after-market sales of flash memory products increases. The Company is currently expending significant resources developing a retail sales channel. The expenditures associated with this development are likely to precede the realization of significant sales through this channel. Moreover, the Company has no prior experience in the development or management of the retail channel or sales through such channel. In addition, a significant portion of retail sales for consumer applications will be made to distributors and retail chains, which typically maintain rights to return unsold inventory. As a result, the Company does not expect to recognize revenues on sales to this channel until after the products have been sold to end users. If the 6 Company's retail customers are not successful in this market, there could be substantial product returns to the Company. The inability to successfully develop and effectively manage the retail sales channel could have a material adverse effect on the Company's business, financial condition and results of operations. Seasonality. The Company has experienced and expects to continue to experience seasonality in its product sales. During the course of 1997, the Company's product mix has increasingly shifted towards CompactFlash products, which are sold principally for consumer electronics applications. The Company anticipates that this trend will continue. As a result, the Company expects that its product sales will be increasingly impacted by seasonal purchasing patterns, with higher sales in the second half of each year as compared to the first half of each such year. The Company believes product revenues during the third quarter of 1997 included purchases by consumer electronics OEM customers in anticipation of new product introductions and the fourth quarter holiday season. In the past, the Company has experienced a reduction in order quantities in the first quarter from Japanese OEM customers, reflecting the fact that most customers in Japan operate on a fiscal year ending in March and prefer to delay purchases until the beginning of their next fiscal year. As a result of these factors, sales for the first quarter of 1998 are uncertain and it is possible that product revenues in that quarter could be below the levels experienced in the third quarter and anticipated in the fourth quarter of 1997. The Company expects that its operating expenses may continue to increase over this time period. Accordingly, a decrease in revenues in any quarter would adversely impact the Company's results of operations in that period. Competition. The flash data storage markets in which the Company competes are characterized by intense competition, rapid technological change, evolving industry standards, declining average selling prices and rapid product obsolescence. The Company's competitors include many large domestic and international companies that have greater access to foundry capacity, substantially greater financial, technical, marketing and other resources, broader product lines and longer standing relationships with customers than the Company. The Company's primary competitors include flash chip producers such as Advanced Micro Devices, Inc. ("AMD"), Hitachi Ltd. ("Hitachi"), Intel Corporation ("Intel"), Micron Technology, Inc. ("Micron"), Mitsubishi Electronic Corporation ("Mitsubishi"), Samsung Electronics Company Ltd. ("Samsung"), Sharp Electronics Corporation ("Sharp") and Toshiba Corporation ("Toshiba"), other companies using data storage techniques such as socket flash, linear flash and system flash components, as well as package assemblers such as LEXAR Technology, Inc. ("LEXAR"), M-Systems, Inc. ("M-Systems"), SIMPLE Technology Inc. ("SIMPLE"), SMART Modular Technologies, Inc. ("SMART Modular") and Viking Components, Inc. ("Viking") that combine controllers and flash memory chips developed by others into flash data storage cards. Hitachi, LEXAR, Mitsubishi and Micron have been certified by the CompactFlash Association ("CFA") to manufacture and sell their own brand of CompactFlash, and the Company believes that other manufacturers will also seek to enter the CompactFlash market in the future. Competing products promoting industry standards that are different from SanDisk's CompactFlash product have been announced, including Intel's Miniature Card, Toshiba's Solid-State Floppy Disk Card and Sony Corporation's recently introduced Memory Stick. A manufacturer of digital cameras that designs-in any one of these alternative competing standards will eliminate CompactFlash from use in its product, as each competing standard is mechanically and electronically incompatible with CompactFlash. In addition, in the third quarter of 1997, Intel announced a 64Mbit flash chip based on its multilevel cell flash. The Company's double density flash ("D2 flash") and Intel's multilevel cell flash are competing technological innovations that allow each flash memory cell to store two bits of information instead of the traditional single bit stored by the industry standard flash technology. In the fourth quarter of 1996, Iomega Corporation ("Iomega") announced plans to introduce n.hand, a miniaturized, mechanical, removable disk drive that may compete directly with SanDisk's flash card products. The Company expects competition to increase in the future from existing competitors and from other companies that may enter the Company's existing or future markets with similar or alternative data storage solutions that may be less costly or provide additional features. Due to the high price sensitivity in the market for consumer products, aggressive price competition has been experienced for these applications. Such competition is expected to result in lower gross margins in the future, if the Company's average selling prices decrease faster than its costs. 7 The Company has entered into patent cross-license agreements with Hitachi, Intel, Samsung, Sharp and Toshiba, pursuant to which each party may manufacture and sell products that incorporate technology covered by each party's patents related to flash memory devices. As the Company continues to license its patents to certain of its competitors, competition will increase. As a result of the above factors, the Company expects to face substantially more competition in the future than it has to date. Increased competition could have a material adverse effect on the Company's business, financial condition and results of operations. The Company believes that its ability to compete successfully depends on a number of factors, which include price and quality, product performance and availability, success in developing new applications for system flash technology, adequate foundry capacity, efficiency of production, timing of new product announcements or introductions by the Company, its customers and its competitors, the ability of the Company's competitors to incorporate their flash data storage systems into their customers' products, the number and nature of the Company's competitors in a given market, successful protection of intellectual property rights and general market and economic conditions. There can be no assurance that the Company will be able to compete successfully against current and future competitors or that competitive pressures faced by the Company will not materially adversely affect its business, financial condition or results of operations. Declining Average Sales Prices. The Company has experienced, and expects to continue to experience, declining average sales prices for its products. The flash data storage markets in which the Company competes are characterized by increasing competition. Therefore, the Company expects to incur increasing pricing pressures from its customers in future periods, which could result in declining average sales prices for the Company's products. To offset declining average sales prices, the Company believes that it must continue to achieve manufacturing cost reductions as well as develop new products that incorporate advanced features and can be sold at higher average gross margins. If, however, the Company is unable to achieve such cost reductions, the Company's gross margins could decline, and such decline could have a material adverse effect on the Company's business, financial condition and results of operations. Customer Concentration. A limited number of customers have historically accounted for a substantial portion of the Company's revenues and the Company expects this trend to continue. The Company's 10 largest customers accounted for 71% and 55% of total revenues in 1996 and the first nine months of 1997, respectively. Sales to the Company's customers are generally made pursuant to standard purchase orders rather than long-term contracts. The Company has also experienced significant changes in the composition of its major customer base from year to year and expects this variability to continue as certain customers increase or decrease their purchases of the Company's products as a result of fluctuations in market demand for such customers' products. Under a joint cooperation agreement signed in January 1993, Seagate has the option to market the Company's products beginning in 1999 and, if exercised, the Company will be required to coordinate sales with Seagate so that up to one-third of the Company's worldwide net revenues could be generated from sales of the Company's flash products through Seagate. Dependence on Third Party Foundries. All of the Company's products require silicon wafers, which are currently supplied by Matsushita in Japan and LG Semicon in Korea. The Company has also entered into a wafer supply agreement with NEC in Japan, pursuant to which the Company expects to receive initial wafer shipments in 1998. In the third quarter of 1997, the Company made an investment in USIC, a semiconductor manufacturing joint venture headed by UMC in Taiwan, which has a fabrication facility currently under construction. The Company is dependent on its foundries to allocate to the Company a portion of their foundry capacity sufficient to meet the Company's needs, to produce wafers of acceptable quality and with acceptable manufacturing yields and to deliver those wafers to the Company on a timely basis. On occasion, the Company has experienced difficulties in each of these areas. The loss or reduction of capacity from Matsushita or LG Semicon or the inability to qualify or receive the anticipated level of capacity from any of its manufacturing partners could have a material adverse effect on the Company's business, financial condition and results of operations. There can be no assurance that the NEC fabrication facility will commence shipments on schedule or that the USIC facility will be completed or will begin production as scheduled, or that the processes needed to fabricate wafers for the Company will be qualified at either facility. Moreover, there can be no assurance that any of the Company's suppliers will be able to maintain acceptable yields or deliver sufficient quantities of wafers on a timely basis. 8 Under each of the Company's wafer supply agreements, the Company is obligated to provide a monthly rolling forecast of anticipated purchase orders. Except in limited circumstances and subject to acceptance by the foundries, the estimates for the first three months of each forecast constitute a binding commitment and the estimates for the remaining months may not increase or decrease by more than a certain percentage from the previous month's forecast. These restrictions limit the Company's ability to react to significant fluctuations in demand for its products. As a result, the Company has not been able to match its purchases of wafers to specific customer orders and therefore the Company has taken write downs for potential excess inventory purchased prior to the receipt of customer orders and may be required to do so in the future. These adjustments decrease gross margins in the quarter reported and have resulted, and could in the future result in fluctuations in gross margins on a quarter to quarter basis. To the extent the Company inaccurately forecasts the number of wafers required, it may have either a shortage or an excess supply of wafers, either of which could have a material adverse effect on the Company's business, financial condition and results of operations. Additionally, if the Company is unable to obtain scheduled quantities of wafers from any foundry with acceptable yields, the Company's business, financial condition and results of operations could be negatively impacted. See "--Fluctuations in Operating Results." Dependence on Sole Source Suppliers and Third Party Subcontractors. The Company purchases several critical components from single or sole source vendors for which alternative sources are not currently available. Even where alternative suppliers are available, a significant amount of time would be required to qualify an additional vendor in the case of certain of the Company's components. The Company does not maintain long-term supply agreements with any of these vendors. The inability to develop alternative sources for these single or sole source components or to obtain sufficient quantities of these components could result in delays or reductions in product shipments which could adversely affect the Company's business, financial condition and results of operations. For example, the Company relies on Motorola, Inc. ("Motorola") as the sole source of microcontrollers, which are critical components in the Company's products. The sole source risk associated with microcontrollers from Motorola is heightened during transitions from one generation of microcontrollers to the next, given the limited safety stock available during these transitions. In the event Motorola were to discontinue shipment of microcontrollers for any reason, the time to design and qualify an alternative source would be approximately nine to twelve months. The Company's reliance on Motorola as its sole source of microcontrollers exposes the Company to interruptions of supply that could have a material adverse effect on the Company's business, financial condition and results of operations. The Company uses third-party subcontractors to assemble the memory components for its products and from time to time uses other subcontractors to perform certain other assembly and test functions. The Company has no long term agreements with these subcontractors. With the significant increases in unit shipments in the last few quarters, the Company has from time to time experienced capacity constraints in the memory assembly area. As a result of this reliance on third party subcontractors for assembly of a portion of its products, the Company cannot directly control product delivery schedules, which can lead to product shortages or quality assurance problems that could increase manufacturing costs of the Company's products. Any problems associated with the delivery, quality or cost of the Company's products could have a material adverse effect on the Company's business, financial condition and results of operations. Risks Associated with Transitioning to New Processes and Products. Successive generations of the Company's products incorporate semiconductor devices with greater memory capacity per chip. In addition, the Company is continually involved in joint development with its foundries to produce semiconductor devices based upon smaller geometry manufacturing processes. Most of the Company's wafers are currently manufactured using 0.5 micron process technology. The Company has started limited production of 0.4 micron flash wafers at Matsushita and expects to begin receiving 0.4 micron wafers from LG Semicon in the first half of 1998. There can be no assurance that the Company and its foundries will successfully complete the transition from 0.5 to 0.4 micron process technology without adversely impacting wafer yields or the effective cost per die, or that any of these suppliers will be able to maintain acceptable yields or deliver sufficient quantities of wafers on a timely basis. Both the development of higher capacity semiconductor devices and the implementation of smaller 9 geometry manufacturing processes are important determinants of the Company's ability to decrease the cost per megabyte of its flash data storage products. The utilization of semiconductor devices with greater memory capacity and the design and implementation of new semiconductor manufacturing processes can entail a number of problems, including lower yields associated with semiconductor device production, problems associated with design and manufacture of products to incorporate such devices, and production delays. Any problems experienced by the Company in its current or future transitions to higher capacity memory devices or to new semiconductor manufacturing processes could have a material adverse effect on the Company's business, financial condition and results of operations. In addition, Matsushita and LG Semicon are shifting their production capacity from six inch wafers to eight inch wafers. Consequently, the Company is planning to shift to volume production of eight inch wafers and discontinue six inch wafer production at both facilities in 1998. There can be no assurance that the transitions from six inch to eight inch wafer production will be completed smoothly and without adversely impacting wafer yields or the effective cost per die, or that any of these suppliers will be able to maintain acceptable yields or deliver sufficient quantities of wafers on a timely basis. The Company has developed new products based on D2 flash technology, a new flash system designed to store two bits in each flash memory cell. The Company believes that D2 flash will be important to the Company's ability to increase the capacity and decrease the cost of certain of its products, maintain its competitive advantage, broaden its target markets and attract strategic partners. High density flash memory, such as D2 flash, is a complex technology requiring tight manufacturing controls and effective test screens. The shift to volume production for new flash products is particularly prone to problems which can impact both reliability and yields, thereby increasing manufacturing costs. There can be no assurance that reliable and cost effective D2 flash products can be manufactured in commercial volumes and with yields sufficient to result in a lower cost per megabyte. Furthermore, flash data storage products designed with D2 flash are expected to initially exhibit approximately one-quarter of the write performance of the Company's existing products when writing data into memory, potentially limiting their use in certain applications. Manufacturing Yields. The fabrication of the Company's products is a complex and precise process requiring wafers that are produced in a highly controlled and clean environment. Semiconductor companies supplying the Company with wafers periodically have experienced problems in achieving acceptable wafer manufacturing yields. Semiconductor manufacturing yields are a function both of design technology, which is developed by the Company, and process technology, which is typically proprietary to the foundry. Because low yields may result from errors in either design or process technology failures, yield problems may not be effectively determined or improved until an actual product exists that can be analyzed and tested to recognize process sensitivities in relation to the design rules that were used. As a result, yield problems may not be identified until the wafers are well into the production process. This risk is increased due to the fact that the Company receives its wafers from independent offshore foundries, increasing the effort and time required to identify, communicate and resolve manufacturing yield problems. There can be no assurance that the Company's foundries will achieve or maintain acceptable manufacturing yields in the future. The inability of the Company to achieve planned yields from its foundries could have a material adverse effect on the Company's business, financial condition and results of operations. Patents, Proprietary Rights and Related Litigation. The Company relies on a combination of patents, trademarks, copyright and trade secret laws, confidentiality procedures and licensing arrangements to protect its intellectual property rights. The Company has been notified in the past and the Company and its foundries may be notified in the future of claims that they may be infringing patents or other intellectual property rights owned by third parties. In the past the Company has been involved in significant disputes regarding its intellectual property rights and believes it may be involved in similar disputes in the future. There can be no assurance that in the future any patents held by the Company will not be invalidated, that patents will be issued for any of the Company's pending applications or that any claims allowed from existing or pending patents will be of sufficient scope or strength or be issued in the primary countries where the Company's products can be sold to provide meaningful protection or any commercial advantage to the Company. Additionally, competitors of the Company may be able to design around the Company's patents. 10 To preserve its intellectual property rights, the Company believes it may be necessary to initiate litigation against one or more third parties, including but not limited to those the Company has already notified of possible patent infringement. In addition, one or more of these parties may bring suit against the Company. In the event of an adverse result in any such litigation, the Company could be required to pay substantial damages, cease the manufacture, use and sale of infringing products, expend significant resources to develop non-infringing technology, discontinue the use of certain processes or obtain licenses to the infringing technology. Any litigation, whether as a plaintiff or as a defendant, would likely result in significant expense to the Company and divert the efforts of the Company's technical and management personnel, whether or not such litigation is ultimately determined in favor of the Company. In addition, the results of any litigation matter are inherently uncertain. For example, in 1995, the Company informed Samsung that the Company believed Samsung infringed certain of its patents. In response, Samsung filed a complaint accusing the Company of infringing two of its patents. The Company then filed a complaint against Samsung with the United States International Trade Commission (the "ITC") alleging that Samsung and its U.S. sales arm were importing and selling products that infringed two of the Company's patents. After a hearing on this matter, the ITC issued an order that both SanDisk patents were valid and that Samsung had infringed such patents, and prohibited the import, sale, marketing, distribution or advertising of Samsung's infringing flash memory circuits in the United States. In August 1997, the Company and Samsung entered into a settlement agreement resolving all aspects of this dispute, pursuant to which the parties agreed to cross-license certain patents and Samsung agreed to make license and royalty payments to the Company. While the Company believes it achieved a favorable result in this matter, the expense and diversion of management attention in connection with its resolution were substantial. In addition, the Company has notified several large flash suppliers that the Company believes certain of their existing or announced products infringe certain of the Company's patents. In the event the Company desires to incorporate third party technology into its products or is found to infringe on others' patents or intellectual property rights, the Company may be required to license such patents or intellectual property rights. The Company may also need to license some or all of its patent portfolio to be able to obtain cross-licenses to the patents of others. The Company currently has patent cross-license agreements with Hitachi, Intel, Samsung, Sharp and Toshiba. From time to time, the Company has also entered into discussions with other companies regarding potential cross- license agreements for the Company's patents. However, there can be no assurance that licenses will be offered or that the terms of any offered licenses will be acceptable to the Company. If the Company obtains licenses from third parties, it may be required to pay license fees or make royalty payments, which could have a material adverse effect on the Company's gross margins. The failure to obtain a license from a third party for technology used by the Company could cause the Company to incur substantial liabilities and to suspend the manufacture of products or the use by the Company's foundries of processes requiring the technology, or to expend substantial resources redesigning its products to eliminate the infringement. There can be no assurance that the Company would be successful in redesigning its products or that such licenses would be available under reasonable terms. Furthermore, any such development or license negotiations could require substantial expenditures of time and other resources by the Company. As is common in the industry, the Company agrees to indemnify certain of its suppliers and customers for alleged patent infringement. The scope of such indemnity varies, but may, in some instances, include indemnification for damages and expenses, including attorneys' fees. The Company may from time to time be engaged in litigation as a result of such indemnification obligations. Third party claims for patent infringement are excluded from coverage under the Company's insurance policies. There can be no assurance that any future obligation to indemnify the Company's customers or suppliers, will not have a material adverse effect on the Company's business, financial condition and results of operations. See "Business--Patents and Licenses." Risks Associated with International Operations. In 1996 and the first nine months of 1997, export sales accounted for approximately 55% of the Company's total revenues. All of the Company's wafers are, and for the foreseeable future will be, produced by foundries located outside the United States. Because the Company currently purchases the majority of its flash wafers in Japanese Yen at set prices, fluctuations in currencies could materially adversely affect the Company's business, financial condition and results of operations. Due to its 11 reliance on export sales and its dependence on foundries outside the United States, the Company is subject to the risks of conducting business internationally, including foreign government regulation and general geopolitical risks such as political and economic instability, potential hostilities and changes in diplomatic and trade relationships. In addition, since most of the Company's international sales are denominated in U.S. dollars, the Company's products may be less competitive in countries with currencies declining in value against the dollar. Manufacturing and sales of the Company's products may also be materially adversely affected by factors such as unexpected changes in, or imposition of, regulatory requirements, tariffs, import and export restrictions and other barriers and restrictions, longer payment cycles, greater difficulty in accounts receivable collection, potentially adverse tax consequences, the burdens of complying with a variety of foreign laws and other factors beyond the Company's control. In addition, the laws of certain foreign countries in which the Company's products are or may be developed, manufactured or sold, including various countries in Asia, may not protect the Company's intellectual property rights to the same extent as do the laws of the United States and thus make piracy of the Company's products a more likely possibility. There can be no assurance that these factors will not have a material adverse effect on the Company's business, financial condition or results of operations. Management of Growth. The Company has recently experienced and may continue to experience rapid growth, which has placed, and could continue to place, a significant strain on the Company's limited personnel and other resources. To manage such growth effectively, the Company will need to continue to implement and improve its operational, financial and management information systems and to hire, train, motivate and manage its employees. In particular, the Company has recently experienced difficulty in hiring the engineering, sales and marketing personnel necessary to support the growth of the Company's business. Competition for such personnel is intense, and there can be no assurance that the Company will be successful in attracting and retaining such personnel or that the Company will be able to manage such growth effectively. The Company's ability to manage its growth will require a significant investment in and expansion of its existing internal information management systems to support increased manufacturing, accounting and other management related functions. The Company recently purchased a new management information system to replace its existing in-house information system, and the implementation of this new system will impact almost all phases of the Company's operations (i.e., planning, manufacturing, finance and accounting). This system is currently scheduled to become operational in the second half of 1998. There can be no assurance that the Company will not experience problems, delays or unanticipated additional costs in implementing the new management information system or in the use of its existing system that could have a material adverse effect on the Company's business, financial condition and results of operations, particularly in the period in which the new system is brought online. In addition, the Company recently brought in-house certain assembly operations that were previously performed by outside vendors. The Company has limited experience in performing these functions and there can be no assurance it will be able successfully integrate these operations into its manufacturing process. In addition, if the Company experiences problems with these in-house operations, it may be difficult to quickly substitute outside vendors. The failure of the Company to successfully manage any of these issues would have a material adverse effect on the Company's business, financial condition and results of operations. Dependence on Key Personnel. The Company's success depends to a significant degree upon the continued contributions of members of its senior management and other key research and development, sales, marketing and operations personnel, including, in particular, Dr. Eli Harari, the Company's founder, President and Chief Executive Officer. The loss of any of such persons could have a material adverse effect on the Company's business, financial condition and results of operations. The Company does not have an employment agreement or non-competition agreement with any of its employees. See "Business-- Employees" and "Management." Volatility of Stock Price. There has been a history of significant volatility in the market prices of the Company's Common Stock on the Nasdaq National Market, and it is likely that the market price of the Company's Common Stock will continue to be subject to significant fluctuations. For example, in 1997, the Company's stock price has fluctuated from a low of $8 7/8 to a high of $39 5/8. The Company believes that future announcements concerning the Company, its competitors or its principal customers, including technological innovations, new product introductions, governmental regulations, litigation or changes in earnings estimated by 12 analysts, may cause the market price of the Common Stock to fluctuate substantially in the future. Sales of substantial amounts of the Company's outstanding Common Stock in the public market could materially adversely affect the market price of the Common Stock. Further, in recent years the stock market has experienced extreme price and volume fluctuations that have particularly affected the market prices of equity securities of many high technology companies and that often have been unrelated to the operating performance of such companies. These fluctuations as well as general economic, political and market conditions such as recessions or international currency fluctuations, may materially adversely affect the market price of the Common Stock. See "Price Range of Common Stock." Year 2000 Compliance. Many currently installed computer systems and software products are coded to accept only two digit entries in the date code field. Beginning in the year 2000, these date code fields will need to accept four digit entries to distinguish 21st century dates from 20th century dates. As a result, in less than three years, computer systems and/or software used by many companies may need to be upgraded to comply with such "Year 2000" requirements. Significant uncertainty exists concerning the potential effects associated with such compliance. The Company is currently implementing a new managment information system that is Year 2000 compliant. Any Year 2000 compliance problem of either the Company or its customers could result in a material adverse effect on the Company's business, operating results and financial condition. Shares Eligible For Future Sale; Registration Rights. Sales of substantial numbers of shares of Common Stock in the public market following this offering could materially adversely affect the market price of the Common Stock. Upon completion of this offering, the Company will have outstanding 25,720,573 shares of Common Stock, all of which will be freely tradeable in the public market, subject to limitations on sales of shares held by "affiliates" of the Company as defined in Rule 144 promulgated under the Securities Act. However, the executive officers, directors and certain other stockholders of the Company, who will together hold 8,629,814 of the outstanding shares upon completion of this offering, have agreed that for a period of 90 days from the date of this Prospectus and without the prior written consent of Morgan Stanley & Co. Incorporated they will not (i) offer, pledge, sell, contract to sell, sell any option contract to purchase, purchase any option or contract to sell, grant any option, right or warrant to purchase or otherwise transfer, lend or dispose of, directly or indirectly, any shares of Common Stock or any securities convertible into or exercisable or exchangeable for Common Stock, or (ii) enter into any swap or other arrangement that transfers to another, in whole or in part, any of the economic consequences of ownership of the Common Stock, whether any such transaction described in clause (i) or (ii) above is to be settled by delivery of Common Stock or such other securities, in cash or otherwise, other than an aggregate of 100,000 shares by all such executive officers and directors which shall include no more than 40,000 shares by any one person. The Company has also agreed, subject to certain exceptions, that without the prior written consent of Morgan Stanley & Co. Incorporated, it will not issue, offer, sell or otherwise dispose of any of the Company's equity securities or any other securities convertible into or exchangeable for the Company's Common Stock for a period of 90 days after the date of this Prospectus. However, the Company may, without such consent, grant options or issue stock upon the exercise of outstanding stock options pursuant to the Company's stock option plans. In addition, Seagate and certain other stockholders who in the aggregate beneficially own 6,874,926 shares of Common Stock hold certain rights with respect to the registration for the offer or sale to the public of such shares. Upon completion of the offering, there will be outstanding options to purchase a total of approximately 3,029,617 shares of the Company's Common Stock under the Company's stock option plans. Effect of Anti-Takeover Provisions. The Company has taken a number of actions that could have the effect of discouraging a takeover attempt that might be beneficial to stockholders who wish to receive a premium for their shares from a potential bidder. The Company has adopted a Shareholder Rights Plan that would cause substantial dilution to a person who attempts to acquire the Company on terms not approved by the Company's Board of Directors. The Shareholder Rights Plan may therefore have the effect of delaying or preventing any change in control and deterring any prospective acquisition of the Company. In addition, the Company's Certificate of Incorporation grants the Board of Directors the authority to issue up to 4,000,000 shares of Preferred Stock and to determine the price, rights, preferences and privileges of those shares without any further 13 vote or action by the Company's stockholders. The rights of the holders of Common Stock will be subject to, and may be adversely affected by, the rights of the holders of any shares of Preferred Stock that may be issued in the future. While the Company has no present intention to issue shares of Preferred Stock, such issuance, while providing desirable flexibility in connection with possible acquisitions and other corporate purposes, could have the effect of making it more difficult or less attractive for a third party to acquire a majority of the outstanding voting stock of the Company. Such Preferred Stock may also have other rights, including economic rights senior to the Common Stock, and, as a result, the issuance thereof could have a material adverse effect on the market value of the Common Stock. Furthermore, the Company is subject to the anti-takeover provisions of Section 203 of the Delaware General Corporation Law ("Section 203"), which prohibits the company from engaging in a "business combination" with an "interested stockholder" for a period of three years after the date of the transaction in which the person first becomes an "interested stockholder," unless the business combination is approved in a prescribed manner. The application of Section 203 also could have the effect of delaying or preventing a change of control of the Company. 14 USE OF PROCEEDS The net proceeds to the Company from the sale of the 3,000,000 shares of Common Stock offered hereby are estimated to be approximately $78.0 million (approximately $89.7 million if the Underwriters' over-allotment option is exercised in full), at an assumed public offering price of $27 1/2 per share and after deducting estimated underwriting discounts and commissions and estimated offering expenses. The purpose of this offering is to obtain additional capital to fund the growth of the Company. The Company intends to use the net proceeds from this offering for general corporate purposes, including working capital, product development and capital expenditures. A portion of the net proceeds may also be used to procure additional wafer supply arrangements with foundry partners, to acquire or invest in complementary businesses or products or to obtain the right to use complementary technologies. The Company has no current plans, agreements or commitments with respect to any such procurements, acquisitions or investments, and the Company is not currently engaged in any negotiations with respect to any such transactions. Pending such uses, the Company plans to invest the net proceeds in investment grade, interest-bearing securities. DIVIDEND POLICY The Company has never declared or paid cash dividends on its Common Stock and does not anticipate paying cash dividends in the foreseeable future. In addition, the Company's existing bank line of credit agreement currently prohibits the payment of cash dividends on its capital stock without the bank's consent. The Company currently intends to retain its earnings, if any, for use in its business. PRICE RANGE OF COMMON STOCK The Company's Common Stock has been traded on the Nasdaq National Market under the symbol "SNDK" since November 8, 1995, the date of the Company's initial public offering. The following table sets forth, for the periods indicated, the high and low closing sale prices for the Common Stock as reported on the Nasdaq National Market:
HIGH LOW ------- ------- Fiscal Year Ended December 31, 1995: Fourth Quarter (from November 8, 1995)..................... $28 $15 Fiscal Year Ended December 29, 1996: First Quarter.............................................. 21 1/2 12 1/2 Second Quarter............................................. 16 3/4 11 Third Quarter.............................................. 16 10 1/8 Fourth Quarter............................................. 15 1/2 11 1/4 Fiscal Year Ending December 31, 1997: First Quarter.............................................. 13 1/4 8 7/8 Second Quarter............................................. 14 1/2 9 3/4 Third Quarter.............................................. 34 1/8 14 3/4 Fourth Quarter (through October 24, 1997).................. 39 5/8 27 1/2
On October 24, 1997, the last reported sale price for the Company's Common Stock on the Nasdaq National Market was $27 1/2 per share. At September 30, 1997, there were approximately 256 holders of record and over 400 beneficial holders of the Common Stock. 15 CAPITALIZATION The following table sets forth the capitalization of the Company as of September 30, 1997 (i) on an actual basis and (ii) as adjusted to reflect the receipt by the Company of the estimated net proceeds from the sale of the 3,000,000 shares of Common Stock offered by the Company hereby at an assumed public offering price of $27 1/2 and after deducting estimated underwriting discounts and commissions and estimated offering expenses:
SEPTEMBER 30, 1997 ----------------- AS ACTUAL ADJUSTED -------- -------- (IN THOUSANDS, EXCEPT SHARE DATA) Stockholders' equity: Common stock, $.001 par value; 40,000,000 shares authorized; 22,720,573 shares issued and outstanding actual; 25,720,573 shares issued and outstanding as adjusted(1)........................................... $ 23 $ 26 Preferred stock, $.001 par value; 4,000,000 shares authorized; none issued and outstanding............... -- -- Capital in excess of par value......................... 99,814 177,786 Retained earnings...................................... 2,189 2,189 -------- -------- Total stockholders' equity............................. 102,026 180,001 -------- -------- Total capitalization................................. $102,026 $180,001 ======== ========
- -------- (1) Excludes as of September 30, 1997: (i) 2,933,617 shares of Common Stock issuable upon exercise of stock options outstanding under the Company's 1995 Stock Option Plan; (ii) 96,000 shares of Common Stock issuable upon exercise of stock options outstanding under the Company's 1995 Non- employee Directors Stock Option Plan; (iii) warrants to purchase 106,363 shares of Common Stock; (iv) 2,680,801 shares available for future issuance under the Company's 1995 Stock Benefit Plan; (v) 665,186 shares available for future issuance under the Company's Employee Stock Purchase Plan; and (vi) 104,000 shares available for future issuance under the Company's 1995 Non-Employee Directors Stock Option Plan. 16 SELECTED CONSOLIDATED FINANCIAL DATA The following selected consolidated financial data should be read in conjunction with the Company's consolidated financial statements and related notes thereto and Management's Discussion and Analysis of Financial Condition and Results of Operations included elsewhere in this Prospectus. The consolidated statements of operations data for each of the three years in the period ended December 31, 1996, and the consolidated balance sheets data at December 31, 1995 and 1996, are derived from the consolidated financial statements of the Company, which have been audited by Ernst & Young LLP, independent auditors, and included elsewhere herein. The consolidated statements of operations data for the years ended December 31, 1992 and 1993 and the consolidated balance sheets data at December 31, 1992, 1993 and 1994 are derived from audited financial statements not included herein. The consolidated statements of operations data for the nine month periods ended September 30, 1996 and 1997, and the consolidated balance sheets data at September 30, 1997 are derived from unaudited consolidated financial statements included elsewhere herein and include, in management's opinion, all adjustments, consisting only of normal recurring adjustments, necessary for a fair presentation of the information. Operating results for the nine month period ended September 30, 1997 are not necessarily indicative of results to be expected for the year ending December 31, 1997 or any future period. The data presented below should be read in conjunction with the financial statements, related notes and other financial information included elsewhere herein and incorporated herein by reference.
NINE MONTHS ENDED YEAR ENDED DECEMBER 31, SEPTEMBER 30, ------------------------------------------- --------------- 1992 1993 1994 1995 1996 1996 1997 ------- ------- ------- ------- ------- ------- ------- (IN THOUSANDS, EXCEPT PER SHARE DATA) CONSOLIDATED STATEMENTS OF OPERATIONS DATA: Revenues: Product................ $22,359 $20,551 $35,378 $61,589 $89,599 $67,599 $72,335 License and royalty.... -- -- -- 1,250 8,000 3,750 12,600 ------- ------- ------- ------- ------- ------- ------- Total revenues....... 22,359 20,551 35,378 62,839 97,599 71,349 84,935 Cost of revenues........ 18,727 18,941 28,074 36,613 58,707 43,538 49,476 ------- ------- ------- ------- ------- ------- ------- Gross profits.......... 3,632 1,610 7,304 26,226 38,892 27,811 35,459 Operating expenses: Research and development........... 6,059 5,750 5,918 8,043 10,181 7,280 9,634 Sales and marketing.... 2,129 3,498 3,996 6,564 8,792 6,467 8,728 General and administrative........ 1,486 2,605 2,171 3,842 7,445 5,580 4,933 ------- ------- ------- ------- ------- ------- ------- Total operating expenses............ 9,674 11,853 12,085 18,449 26,418 19,327 23,295 ------- ------- ------- ------- ------- ------- ------- Operating income (loss). (6,042) (10,243) (4,781) 7,777 12,474 8,484 12,164 Interest and other income, net............ 277 445 593 1,749 3,154 2,320 2,680 Interest expense........ (204) (192) (99) (37) (3) -- -- ------- ------- ------- ------- ------- ------- ------- Income (loss) before taxes.................. (5,969) (9,990) (4,287) 9,489 15,625 10,804 14,844 Provision for income taxes.................. -- -- -- 424 1,140 702 2,227 ------- ------- ------- ------- ------- ------- ------- Net income (loss)....... $(5,969) $(9,990) $(4,287) $ 9,065 $14,485 $10,102 $12,617 ======= ======= ======= ======= ======= ======= ======= Net income (loss) per share(1)............... $ (.23) $ .43 $ .60 $ .42 $ .51 ======= ======= ======= ======= ======= Shares used in computing net income (loss) per share(1)............... 18,872 20,856 24,206 24,204 24,504
DECEMBER 31, ----------------------------------------- SEPT. 30, 1992 1993 1994 1995 1996 1997 ------- ------- ------- -------- -------- --------- (IN THOUSANDS) CONSOLIDATED BALANCE SHEETS DATA: Cash, cash equivalents and short-term investments.... $ 3,566 $21,886 $20,635 $ 68,395 $ 74,288 $ 60,323 Working capital............ 5,527 25,266 20,971 68,002 77,029 48,022 Total assets............... 13,522 32,594 31,861 92,147 108,268 152,819 Long-term obligations...... 957 621 93 -- -- -- Total stockholders' equity .......................... 7,814 27,862 23,672 72,381 87,810 102,026
- -------- (1) See Note 1 of Notes to Consolidated Financial Statements for an explanation of the determination of the shares used in computing net income (loss) per share. Amounts are pro forma in 1994. 17 MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS In addition to the other information in this Prospectus and in the documents incorporated by reference herein, the following discussion should be considered carefully in evaluating the Company and its business before purchasing the Common Stock offered by this Prospectus. This section, including in particular the second paragraph under the discussion of product revenues for the nine months ended September 30, 1996 and 1997, and the sections entitled "Risk Factors" and "Business" in this Prospectus contain forward-looking statements within the meaning of Section 27A of the Securities Act and Section 21E of the Exchange Act. Actual results could differ materially from those projected in the forward-looking statements as a result of the risk factors set forth under "Risk Factors" and elsewhere in this Prospectus. OVERVIEW The Company was founded in 1988 to develop and market flash data storage systems. The Company sells its products to the consumer electronics and industrial/communications markets. During the course of 1997, the percentage of the Company's product sales attributable to the consumer electronics market, particularly sales of CompactFlash for use in digital camera applications, has increased substantially. This increase in sales to the consumer market has resulted in a shift to lower capacity products, which typically have lower average selling prices and gross margins than higher capacity products. In addition, these products are frequently sold into the retail channel, which usually has shorter customer order lead-times than the other channels used by the Company, thereby decreasing the Company's ability to accurately forecast future production needs. Subject to market acceptance of its CompactFlash products, the Company believes these products will continue to represent a majority of the Company's sales as the popularity of consumer applications, including digital cameras, increases. The percentage of sales attributable to orders received and fulfilled in the same quarter has increased over time and, in response, the Company is continuing to work to shorten its manufacturing cycle times. The Company's operating results are affected by a number of factors including the volume of product sales, the timing of significant orders, competitive pricing pressures, the ability of the Company to match supply with demand, changes in product and customer mix, market acceptance of new or enhanced versions of the Company's products, changes in the channels through which the Company's products are distributed, timing of new product announcements and introductions by the Company and its competitors, the timing of license and royalty revenue, fluctuations in product costs, availability of foundry capacity, variations in manufacturing cycle times, fluctuations in manufacturing yields and manufacturing utilization, increased research and development expenses, exchange rate fluctuations and changes in the Company's effective tax rate. In addition, as the proportion of the Company's products sold for use in consumer electronics applications increases, the Company's revenues may become subject to seasonal declines in the first quarter of each year. See "Risk Factors--Fluctuations in Operating Results" and "-- Seasonality." Beginning in late 1995, the Company adopted a strategy of licensing its flash technology, including its patent portfolio, to selected third party manufacturers of flash products. To date, the Company has entered into patent cross-license agreements with five major companies, and it intends to pursue opportunities to enter into additional licenses. The Company's current license agreements provide for the payment of license fees, royalties, or a combination thereof, to the Company. The timing and amount of these payments can vary substantially from quarter to quarter, depending on the terms of each agreement and, in some cases, the timing of sales of products by the other parties. As a result, license and royalty revenues have fluctuated significantly in the past and are likely to continue to fluctuate in the future. Given the relatively high gross margins associated with license and royalty revenues, gross margins and net income are likely to fluctuate more with changes in license and royalty revenues than with changes in product revenues. SanDisk markets its products using a direct sales organization, distributors, manufacturers' representatives, private label partners, OEMs and retailers. The Company expects that sales through the retail channel will 18 comprise an increasing share of total revenues in the future, and that a substantial portion of its sales into the retail channel will be made to participants that will have the right to return unsold products. The Company does not expect to recognize revenues from these sales until the products are sold to the end customers. See "Business--Sales and Distribution." Historically, a majority of the Company's sales have been to a limited number of customers. Sales to the Company's top 10 customers accounted for approximately 80%, 71% and 55%, respectively, of the Company's total revenues for 1995, 1996 and the nine months ended September 30, 1997. The Company expects that sales of its products to a limited number of customers will continue to account for a substantial portion of its total revenues for the foreseeable future. The Company has also experienced significant changes in the composition of its customer base from year to year and expects this pattern to continue as market demand for such customers' products fluctuates. For example, during the fourth quarter of 1996, the volume of large OEM orders decreased due to the timing of customers' product introductions. The loss of, or significant reduction in purchases by, major customers, could have a material adverse effect on the Company's business, financial condition and results of operations. The majority of the Company's sales in 1996 were of FlashDisk cards. However, during the first nine months of 1997, the largest portion of the Company's sales were of CompactFlash products. See "Risk Factors--Customer Concentration" and "Business--Sales and Distribution." Due to the emerging nature of the Company's markets and certain planned product transitions, the Company has had difficulty forecasting future inventory levels required to meet customer demand. As a result of both contractual obligations and manufacturing cycle time, the Company has been required to order wafers from its foundries several months in advance of the ultimate shipment of its products. Under the Company's wafer supply agreements, there are limits on the number of wafers the Company can order and the Company's ability to change that quantity is restricted. Accordingly, the Company's ability to react to significant fluctuations in demand for its products is limited. As a result, the Company has not been able to match its purchases of wafers to specific customer orders and therefore the Company has taken write downs for potential excess inventory purchased prior to the receipt of customer orders. These adjustments decrease gross margins in the quarter reported and have resulted, and could in the future result, in fluctuations in gross margins on a quarter to quarter basis. See "Risk Factors--Fluctuations in Operating Results." Export sales are an important part of the Company's business, constituting 55% of the Company's total revenues in 1996 and in the nine months ended September 30, 1997. While most of the Company's sales are denominated in U.S. Dollars, the Company invoices certain Japanese customers in Japanese Yen and is subject to exchange rate fluctuations on these transactions. To date, a significant portion of the Company's purchases of wafers, which constitute a significant part of its cost of goods sold, have been denominated in Japanese Yen. While this percentage has been decreasing, exchange rate fluctuations can affect the Company's business, financial condition and results of operations. For the foreseeable future, the Company expects to realize a significant portion of its revenues from recently introduced and new products. Typically new products initially have lower gross margins than more mature products because the manufacturing yields are lower at the start of manufacturing each successive product generation. In addition, manufacturing yields are generally lower at the start of manufacturing any product at a new foundry, such as NEC and USIC. To remain competitive, the Company is focusing on a number of programs to lower its manufacturing costs. These include transitioning from single to double density flash designs, from 0.5 to 0.4 micron manufacturing processes, and from six inch to eight inch wafers. These transitions are expected to occur over the next several quarters. As a result of these factors, the Company expects that product gross margins may decline in the near term from the level experienced in the quarter ended September 30, 1997, and product gross margins are expected to be subject to fluctuation for the foreseeable future. Moreover, there can be no assurance that such devices or processes will be successfully developed by the Company or that development of such processes will lower manufacturing costs. In addition, the Company anticipates that price competition will increase in the future, which will likely result in decreased average selling prices and lower gross margins. See "Risk Factors--Manufacturing Yields" and "--Declining Average Sales Prices." 19 RESULTS OF OPERATIONS The following table sets forth, as a percentage of revenues, consolidated statement of operations data for the periods indicated:
NINE MONTHS ENDED YEARS ENDED SEPTEMBER DECEMBER 31, 30, -------------------- ------------ 1994 1995 1996 1996 1997 ----- ----- ----- ----- ----- Revenues: Product................................... 100.0% 98.0% 91.8% 94.7% 85.2% License and royalty....................... -- 2.0 8.2 5.3 14.8 ----- ----- ----- ----- ----- Total revenues.............................. 100.0 100.0 100.0 100.0 100.0 Cost of revenues............................ 79.4 58.3 60.2 61.0 58.3 ----- ----- ----- ----- ----- Gross profits............................... 20.6 41.7 39.8 39.0 41.7 Operating expenses: Research and development.................. 16.7 12.8 10.4 10.2 11.4 Sales and marketing....................... 11.3 10.4 9.0 9.1 10.2 General and administrative................ 6.1 6.1 7.6 7.8 5.8 ----- ----- ----- ----- ----- Total operating expenses................ 34.1 29.3 27.0 27.1 27.4 ----- ----- ----- ----- ----- Operating income (loss)..................... (13.5) 12.4 12.8 11.9 14.3 Interest and other income, net.............. 1.7 2.7 3.2 3.3 3.2 Interest expense............................ (.3) -- -- -- -- ----- ----- ----- ----- ----- Income (loss) before taxes.................. (12.1) 15.1 16.0 15.2 17.5 Provision for income taxes.................. -- .7 1.2 1.0 2.6 ----- ----- ----- ----- ----- Net income (loss)........................... (12.1)% 14.4% 14.8% 14.2% 14.9% ===== ===== ===== ===== =====
NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997 Product Revenues. SanDisk's product revenues were $72.3 million for the first nine months of 1997, up $4.7 million or 7% from the same period in 1996. During the first nine months of 1997, units shipped increased 149% as compared to the same period in 1996. The largest increase came from sales of CompactFlash products, primarily for use in digital cameras and other consumer electronics applications. In the second and third quarters of 1997, sales of CompactFlash products exceeded sales of PCMCIA flash cards. In the first nine months of 1997, CompactFlash products represented approximately 74% of all units shipped and 47% of product revenues. This shift in product mix from PCMCIA flash cards to CompactFlash cards, which have lower capacities, contributed to a decline in average selling prices of 57% in the first nine months of 1997 compared to the same period last year. The Company anticipates that lower capacity products will continue to represent a significant portion of its sales as consumer applications such as digital cameras become more popular. Sales of these lower capacity products generally have lower average selling prices and gross margins than higher capacity products. The mix of products sold varies from quarter to quarter and may vary in the future, affecting the Company's overall average selling prices and gross margins. Orders for the Company's products increased during the third quarter of 1997 as consumer electronics OEM customers increased their inventory of CompactFlash products in preparation for the upcoming holiday season and their new product introductions. Although the Company has limited visibility as to customer orders, the Company expects product revenues in the fourth quarter of 1997 to be flat, or possibly up slightly relative to the third quarter of 1997. Due to a number of factors described herein and in "Risk Factors," the Company's ability to adjust its operating expenses is limited in the short term. As a result, if product revenues are lower than anticipated, the Company's results of operations will be adversely affected. The outlook for product revenues for the first quarter of 1998 is also uncertain due to the unpredictable demand in the new and emerging markets for the Company's products and the anticipated seasonality of the consumer electronics markets. See "Risk Factors--Fluctuations in Operating Results" and "--Seasonality." 20 License and Royalty Revenues. The Company currently earns patent license fees and royalties under five cross-license agreements, of which agreements with Hitachi, Toshiba and Samsung were entered into in the third quarter of 1997. SanDisk also has cross-license agreements with Intel and Sharp. License and royalty revenue from patent cross-license agreements was $12.6 million for the first nine months of 1997, up $8.8 million from $3.8 million in the comparable period of 1996. Revenues from licenses and royalties increased to 15% of total revenues in the first nine months of 1997 from 5% in the comparable period of 1996. Gross Profits. In the first nine months of 1997, gross profits increased to $35.5 million or 42% of total revenues from $27.8 million or 39% of total revenues for the same period in 1996. The growth in overall gross profits resulted from an increase in license and royalty revenues, which was partially offset by a decline in gross profit from product sales. Product gross profits declined as a percentage of product revenues to 32% for the first nine months of 1997 compared to 36% for the same period in 1996. This decline was primarily due to the shift in product mix to lower capacity CompactFlash products that have lower average selling prices and gross margins. This decline in gross margins was partially offset by the Company's shift to more in-house assembly and test. The Company anticipates that lower capacity products will continue to represent a significant portion of its sales as consumer applications such as digital cameras become more popular. The Company expects product gross margins may decrease slightly in the fourth quarter of 1997 due to anticipated increased competition. Research and Development. Research and development expenses consist principally of salaries and payroll related expenses for design and development engineers, prototype supplies and contract services. Research and development expenses increased $2.4 million or 32% to $9.6 million for the first nine months of 1997 from $7.3 million for the same period in 1996. Research and development expenses represented 11% of total revenues for the first nine months of 1997 compared to 10% for the same period in 1996. The increase in research and development expenses was primarily due to an increase in salaries and payroll-related expenses associated with additional personnel. Increased depreciation due to capital equipment additions and higher project related expenses also contributed to the growth in research and development expenses. The Company expects research and development expenses to continue to increase in absolute dollars to support the development of new generations of flash data storage products and the addition of new foundries to manufacture the Company's products. Sales and Marketing. Sales and marketing expenses include salaries, sales commissions, benefits and travel expenses for the Company's sales, marketing, customer service and applications engineering personnel. These expenses also include other selling and marketing expenses, such as independent manufacturer's representative commissions, advertising and tradeshow expenses. Sales and marketing expenses increased $2.3 million or 35% to $8.7 million for the first nine months of 1997 from $6.5 million for the same period in 1996. Sales and marketing expenses represented 10% of total revenues for the first nine months of 1997 compared to 9% for the same period in 1996. The increase in sales and marketing expenses was primarily due to an increase in salaries and payroll related expenses associated with additional personnel. Higher marketing, travel and selling expenses also contributed to this increase. The Company expects sales and marketing expenses to increase in absolute dollars as sales of its products grow and as it develops the retail channel for its products. General and Administrative. General and administrative expenses include the cost of the Company's finance, information systems, human resources, shareholder relations, legal and administrative functions. General and administrative expenses decreased $0.6 million or 12% to $4.9 million in the first nine months of 1997 from $5.6 million for the same period of 1996. General and administrative expenses represented 6% of revenues in the first nine months of 1997 compared to 8% for the same period of 1996. This decrease was primarily due to a reduction in legal fees. The first nine months of 1996 included significant legal fees related to the Samsung litigation. The decrease in legal fees was partially offset by increased salaries and payroll- related expenses associated with increased personnel, increased allowance for doubtful accounts and higher consulting expenses related to the implementation of the Company's new management information system. The Company expects general and administrative expenses to increase in absolute dollars as the general and administrative functions grow to support the overall growth of the Company. General and administrative expenses could also increase substantially in the future if the Company pursues litigation to defend its patent portfolio. See "Risk Factors--Patents, Proprietary Rights and Related Litigation." 21 Interest and Other Income, Net. Interest and other income, net, increased $360,000 for the nine months ended September 30, 1997 compared to the same period in 1996. This was primarily due to higher interest rates on short term investments. Provision for Income Taxes. The Company recorded a provision for income taxes at a 15% effective tax rate for the first nine months of 1997 compared to a 6.5% effective tax rate for the same period of 1996. The effective tax rate for the first nine months of 1997 is substantially below the federal statutory rate due to the utilization of federal and state tax credit carryforwards, foreign sales corporation tax benefits and a reduction in the deferred tax asset valuation allowance. The Company's 1997 effective tax rate is substantially higher than its 1996 rate due to the utilization of all federal net operating loss carryforwards in 1996. Due to increased license and royalty revenues and growth in the Company's net income in 1997, the Company anticipates that it will utilize the remainder of its tax credit carryforwards in the current fiscal year. The Company's effective tax rate is expected to increase significantly in 1998 and is expected to approach the statutory tax rate. YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996 Product Revenues. SanDisk's product revenues grew 45% in 1996 to $89.6 million from $61.6 million in 1995. The increase of $28.0 million consisted of a 126% increase in units shipped offset by a 36% decline in average selling prices. The increase in product revenues in 1996 was due to increased sales of the Company's Chipset, CompactFlash and FlashDisk products. Fiscal year 1995 product revenues of $61.6 million were 74% higher than 1994 due to increased sales of FlashDisk products. License and Royalty Revenues. License and royalty revenues from patent cross-license agreements were $8.0 million in 1996 up from $1.3 million in 1995. Revenues from patent licenses and royalties increased to 8% of total revenues in 1996, up from 2% in 1995. In December 1996, the Company entered into a patent cross license agreement with Sharp. The Company also entered into a patent cross license agreement with Intel in October 1995. Gross Profits. In fiscal 1996, gross profits increased to $38.9 million or 39.8% of total revenues from $26.2 million or 41.7% of total revenues in 1995, and $7.3 million or 20.6% of total revenues in 1994. SanDisk completed its transition from 16Mbit to 32Mbit technology in the third quarter of 1996. For the year ended December 31, 1996, 32Mbit products represented 70% of the Company's units shipped up from 6% in the prior year. Product gross margins declined in 1996 to 34.5% of product revenues from 40.6% in 1995 due to the shift in product mix to lower capacity products where average selling prices declined faster than product costs. Revenues from patent cross-license royalties partially offset the lower product gross margins in 1996. Research and Development. Research and development expenses increased to $10.2 million in 1996 from $8.0 million in 1995 and $5.9 million in 1994. As a percentage of total revenues, research and development costs represented 10.4% in 1996, 12.8% in 1995, and 16.7% in 1994. Research and development expenses increased in 1996 and 1995 primarily due to salary and benefit costs associated with additional personnel. In 1996, increased depreciation due to capital equipment additions during the year and higher contract service expenses also contributed to the increase in research and development expenses. In 1995, increased patent application related expenses and higher prototype supply expenses contributed to the increase. Sales and Marketing. Sales and marketing expenses increased to $8.8 million in 1996 from $6.6 million in 1995 and $4.0 million in 1994. The growth in sales and marketing expenses in both 1996 and 1995 was primarily due to higher payroll and benefit related expenses associated with increased headcount levels, higher outside sales commissions and increased travel expenses. Increased public relations expenses also contributed to the increase in 1995. As a percentage of total revenues, sales and marketing expenses represented 9.0% in 1996, 10.4% in 1995, and 11.3% in 1994. 22 General and Administrative. General and administrative expenses increased to $7.4 million in 1996 from $3.8 million in 1995 and $2.2 million in 1994. As a percentage of total revenues, general and administrative expenses increased to 7.6% of total revenues from 6.1% in 1995 and 1994. The increase in general and administrative expenses in 1996 and 1995 was primarily due to an increase in professional and legal fees associated with the defense of the Company's patents and salary and benefit costs associated with additional personnel. The Company spent approximately $3.0 million on patent related litigation in 1996. A substantial portion of these expenses were related to the Samsung litigation. See Note 4 of Notes to Consolidated Financial Statements. Interest and Other Income, Net. Interest and other income was $3.2 million in 1996, $1.7 million in 1995, and $593,000 in 1994. The increase in interest and other income since 1994 was due to increased cash and investment balances and higher interest rates. Interest Expense. Interest expense of $3,000 in 1996, $37,000 in 1995, and $99,000 in 1994 was related to capital equipment leases which expired at various times during 1995 and 1996. The Company had no outstanding capital leases at December 31, 1996. Provision for Income Taxes. The Company's 1996 and 1995 effective income tax rates were approximately 7.3% and 4.5%, respectively. The 1996 effective tax rate is higher than the 1995 rate primarily due to increased foreign withholding taxes. The effective tax rate is substantially below the federal statutory rate due to the utilization of federal and state net operating loss and tax credit carryforwards. The Company had no tax provision in 1994 due to operating losses incurred. 23 QUARTERLY RESULTS The following tables set forth certain unaudited quarterly consolidated statements of operations data, both in absolute dollars and as a percentage of total revenues, for each of the seven quarters in the period ended September 30, 1997. In the opinion of management, this information has been presented on the same basis as the audited consolidated financial statements appearing elsewhere in this Prospectus, and all necessary adjustments, consisting only of normal recurring adjustments, have been included in the amounts stated below to present fairly the unaudited quarterly results. This data should be read in conjunction with the audited consolidated financial statements of the Company and related notes thereto. The operating results for any quarter are not necessarily indicative of results for any future period. See "Risk Factors--Fluctuations in Operating Results."
QUARTER ENDED --------------------------------------------------------------------- MAR. 31, JUNE 30, SEPT. 30, DEC. 31, MAR. 31, JUNE 30, SEPT. 30, 1996 1996 1996 1996 1997 1997 1997 -------- -------- --------- -------- -------- -------- --------- (IN THOUSANDS, EXCEPT PER SHARE DATA) CONSOLIDATED STATEMENTS OF OPERATIONS DATA: Revenues: Product................ $19,489 $23,312 $24,798 $22,000 $18,194 $23,922 $30,219 License and royalty.... 1,250 1,250 1,250 4,250 3,250 3,425 5,925 ------- ------- ------- ------- ------- ------- ------- Total revenues....... 20,739 24,562 26,048 26,250 21,444 27,347 36,144 Cost of revenues........ 12,722 15,057 15,759 15,169 12,965 16,375 20,135 ------- ------- ------- ------- ------- ------- ------- Gross profits........... 8,017 9,505 10,289 11,081 8,479 10,972 16,009 Operating expenses: Research and development........... 2,145 2,400 2,735 2,901 3,001 3,083 3,550 Sales and marketing.... 2,010 2,296 2,161 2,325 2,561 2,971 3,197 General and administrative........ 1,364 1,937 2,279 1,865 1,377 1,527 2,029 ------- ------- ------- ------- ------- ------- ------- Total operating expenses............ 5,519 6,633 7,175 7,091 6,939 7,581 8,776 ------- ------- ------- ------- ------- ------- ------- Operating income........ 2,498 2,872 3,114 3,990 1,540 3,391 7,233 Interest and other income (expense), net.. 753 771 799 831 955 954 771 Interest expense........ (2) (1) -- -- -- -- -- ------- ------- ------- ------- ------- ------- ------- Income before taxes..... 3,249 3,642 3,913 4,821 2,495 4,345 8,004 Provision for income taxes.................. 195 237 270 438 370 655 1,202 ------- ------- ------- ------- ------- ------- ------- Net income.............. $ 3,054 $ 3,405 $ 3,643 $ 4,383 $ 2,125 $ 3,690 $ 6,802 ======= ======= ======= ======= ======= ======= ======= Net income per share.... $ .13 $ .14 $ .15 $ .18 $ .09 $ .15 $ .27 ======= ======= ======= ======= ======= ======= ======= Shares used in computing net income per share... 24,203 24,141 24,268 24,211 24,107 24,414 24,990 AS A PERCENTAGE OF TOTAL REVENUES: Revenues: Product................ 94.0% 94.9% 95.2% 83.8% 84.8% 87.5% 83.6% License and royalty.... 6.0 5.1 4.8 16.2 15.2 12.5 16.4 ------- ------- ------- ------- ------- ------- ------- Total revenues....... 100.0 100.0 100.0 100.0 100.0 100.0 100.0 Cost of revenues:....... 61.3 61.3 60.5 57.8 60.5 59.9 55.7 ------- ------- ------- ------- ------- ------- ------- Gross profits........... 38.7 38.7 39.5 42.2 39.5 40.1 44.3 Operating expenses: Research and development........... 10.3 9.8 10.5 11.0 14.0 11.2 9.8 Sales and marketing.... 9.7 9.3 8.3 8.9 12.0 10.9 8.8 General and administrative........ 6.6 7.9 8.7 7.1 6.4 5.6 5.6 ------- ------- ------- ------- ------- ------- ------- Total operating expenses............ 26.6 27.0 27.5 27.0 32.4 27.7 24.3 ------- ------- ------- ------- ------- ------- ------- Operating income........ 12.1 11.7 12.0 15.2 7.1 12.4 20.0 Interest and other income (expense), net.. 3.5 3.2 3.0 3.2 4.5 3.5 2.1 Interest expense........ -- -- -- -- -- -- -- ------- ------- ------- ------- ------- ------- ------- Income before taxes..... 15.6 14.9 15.0 18.4 11.6 15.9 22.1 Provision for income taxes.................. 0.9 1.0 1.0 1.7 1.7 2.4 3.3 ------- ------- ------- ------- ------- ------- ------- Net income.............. 14.7% 13.9% 14.0% 16.7% 9.9% 13.5% 18.8% ======= ======= ======= ======= ======= ======= =======
24 The Company's revenues and operating results are subject to quarterly and annual fluctuations due to a variety of factors. The mix of products sold varies from quarter to quarter and may vary in the future affecting the Company's overall average selling prices and gross margins. Beginning in the quarter ended December 31, 1996, the Company experienced a shift in product mix to lower capacity CompactFlash products. Because of their low capacities, CompactFlash products have lower average selling prices and gross margins than the Company's higher capacity Type II PCMCIA cards. This shift caused average selling prices to decline 23% during the fourth quarter of 1996 from the third quarter of 1996. In addition, the volume of large OEM orders during the fourth quarter of 1996 decreased due to the timing of customers' product introductions. In the first quarter of 1997, sales to Japan decreased due to seasonal factors relating to the Japanese fiscal year, a strong dollar and increased competition. As a result of the foregoing factors, product revenues declined quarter on quarter, 11% in the fourth quarter of 1996 and 17% in the first quarter of 1997, despite increases in unit shipments for each quarter. Revenues from CompactFlash products grew significantly in the quarters ended June 30, and September 30, 1997, exceeding revenues from Type II PCMCIA cards for the first time. License and royalty revenues increased substantially in the fourth quarter of 1996 and the third quarter of 1997, due to the recognition of initial license and royalty revenues from Sharp, and Hitachi, Toshiba and Samsung, respectively. General and administrative expenses were particularly high as a percentage of total revenues during the second, third and fourth quarters of 1996 due in part to legal and other expenses associated with the Samsung litigation. LIQUIDITY AND CAPITAL RESOURCES As of September 30, 1997, the Company had working capital of $48.0 million, which included $18.3 million in cash and cash equivalents and $42.0 million in short-term investments. The Company has a line of credit facility with a commercial bank under which it can borrow up to $10.0 million at the bank's prime rate. This line of credit facility expires in July 1998. As of September 30, 1997, the Company had $7.2 million committed under the line of credit facility for standby letters of credit. The facility contains covenants that require the Company to maintain certain financial ratios and levels of net worth, and prohibits the payment of cash dividends to stockholders. At September 30, 1997, the Company was not in compliance with the quick ratio covenant due to the increase in deferred revenue. Following the end of the quarter, the financial covenant was retroactively amended by the bank and the Company is currently in compliance with all financial covenants as amended. Operating activities provided $30.5 million of cash during the first nine months of 1997. In addition to net income, sources of cash included increased deferred revenue of $26.3 million, primarily from the receipt of funds under license and royalty agreements, and an increase in current liabilities of approximately $4.0 million. These were partially offset by increases in accounts receivable, inventory, and prepaid expenses and other assets totaling $15.3 million. Investing activities used $33.1 million of cash in the first nine months of 1997. Investing activities for the period included a $40.2 investment in the USIC foundry joint venture and $5.8 million of capital equipment purchases, which were partially offset by net proceeds from investment activity of $13.0 million. Depending on the demand for the Company's products, the Company may decide to make investments, which could be substantial, in assembly and test manufacturing equipment to support its business in the future. Management believes the existing cash and cash equivalents, short-term investments and available line of credit will be sufficient to meet the Company's currently anticipated working capital and capital expenditure requirements for the next 12 months. 25 IMPACT OF CURRENCY EXCHANGE RATES The Company currently purchases wafers from Matsushita under purchase contracts denominated in Japanese Yen. A portion of the Company's revenues are also denominated in Japanese Yen. Foreign exchange exposures arising from the Company's Japanese Yen denominated commitments and related accounts payable are offset to the extent the Company has Japanese yen denominated accounts receivable and cash balances. To the extent such foreign exchange exposures are not offset, the Company enters into foreign exchange forward contracts to hedge against changes in foreign currency exchange rates. At September 30, 1997, there were no forward contracts outstanding. Future exchange rate fluctuations could have a material adverse effect on the Company's business, financial condition and results of operations. 26 BUSINESS SanDisk designs, develops and markets flash memory data storage products used in a wide variety of electronic systems. The Company has optimized its flash memory storage solution, known as "system flash," to address the needs of many emerging applications in the consumer electronics and industrial/communications markets. Since its inception, the Company has been actively involved in all aspects of flash memory process development, chip design, controller development and system-level integration to ensure the creation of fully-integrated, broadly interoperable products that are compatible with both existing and new system platforms. The Company believes its core technical competencies are in high-density flash memory process and design, controller design, system-level integration, compact packaging and low-cost system test. The Company's products include removable CompactFlash products and FlashDisk cards, and embedded FlashDrives and Flash ChipSet products. SanDisk has successfully applied its technology to the rapidly growing markets for digital cameras and other consumer electronics devices such as PDAs. The Company was instrumental in developing the PCMCIA format and the CompactFlash format, which the Company believes is becoming the de facto industry standard storage platform for digital cameras. The Company's customers include Boeing, Canon, Casio, Kodak, Epson Hanbai, Fujitsu, Hewlett- Packard, Kyocera, Lucent, MEI, NEC USA, Norand, Pentax, Psion and Telxon. INDUSTRY BACKGROUND The traditional data storage market encompasses several types of memory and storage devices designed primarily for specific components of computer systems. Dynamic random access memory ("DRAM") provides main system memory; static random access memory ("SRAM") provides specialized and high speed memory; hard disk drives provide high capacity data storage; and floppy disk drives permit low capacity removable data storage. In recent years, digital computing and processing have expanded beyond the boundaries of desktop computer systems to include a broader array of electronic systems. These new devices include digital cameras, personal digital assistants, highly portable computers, digital audio recorders, wireless base stations, network computers, communication switches, cellular telephones, mobile communication systems, handheld data collection terminals, medical monitors, pay telephones and other electronic systems. These emerging applications have storage requirements that are not well addressed by traditional storage solutions. These requirements include small form factor size, high reliability, low power consumption and the capability to withstand high levels of shock and vibration and extreme temperature fluctuations. Because storage products based on flash semiconductor technology meet those requirements, these devices and systems represent new market opportunities for flash storage systems. In the late 1980s, a new memory technology, known as flash memory, was developed as an extension of ultraviolet erasable programmable read-only memory ("EPROM"). Flash memory is non-volatile, unlike DRAM and SRAM, requiring no power to retain data and is electrically reprogrammable, unlike EPROM. Flash memory has the potential to satisfy the requirements for a variety of data storage applications although the most common types of flash memory, "socket flash" and "linear flash," are not well suited for many purposes. Socket flash is being used as a replacement for EPROMs in applications such as embedded firmware or microcode storage in computer systems. Typical chip densities for socket flash range from 1Mbit to 16Mbit. Socket flash is well suited for read often/write infrequently applications, as the erase times are relatively slow (typically one second per block or sector). In addition, socket flash has not been optimized for defect management. With frequent erase/write operations, bits in flash storage media deteriorate over time. As a result, the longevity and durability of socket flash chips in frequent erase/write applications is limited. Also, socket flash chips, because they are optimized for fast read access rather than low cost, are relatively large and expensive memory chips. More recently, technology known as linear flash has been developed that permits socket flash chips to be used in data storage applications with the use of separate flash file system software. While linear flash cards provide a low cost mass storage solution, they provide limited built-in intelligence, and rely instead on the host microprocessor and the specialized software to manage the socket flash chips as a mass data storage device. This limits the portability of linear flash cards between different systems, as well as their ability to be upgraded for 27 use in future generation products. A linear flash card used for data storage in one system may not be usable in other systems because of potential incompatibilities in the host processors as well as the operating system software used in the two systems. Furthermore, because of differences in the socket flash of various suppliers, linear flash cards from one manufacturer may not function properly with flash file system software designed for linear flash cards from other manufacturers. Customers in the consumer electronics and industrial/communications markets are seeking data storage solutions that satisfy requirements such as small form factor, high reliability, low power consumption and the capability to withstand high levels of shock and vibration and extreme temperature fluctuations, which are not well addressed by traditional storage solutions such as hard disk drives and DRAM or by linear flash cards based on socket flash memory chips. THE SANDISK SOLUTION The Company has optimized its flash memory storage solution known as "system flash," to address the needs of many emerging applications in the consumer electronics and industrial/communications markets. Since its inception, the Company has been actively involved in all aspects of flash memory process development, chip design, controller development and system-level integration to ensure the creation of fully-integrated, broadly interoperable products that are compatible with both existing and new system platforms. The Company believes its core technical competencies are in high-density flash memory process and design, controller design, system-level integration, compact packaging and low-cost system test. To achieve compatibility among various electronic platforms regardless of the host processor or operating system used, the Company has developed new capabilities in flash memory chip design, created a new intelligent controller and developed an architecture that can leverage advances in flash memory process technology to ensure a scaleable, high-yielding, cost-effective and highly reliable manufacturing process. The Company believes that these technical competencies and the Company's system design approach have enabled it to introduce flash data storage products that are better suited for its target markets than linear flash cards based on socket flash chips. The Company believes its products offer the following benefits: Small form factor. SanDisk believes that its products are among the smallest removable mass storage systems. The Company's FlashDisk cards are small and lightweight with a length of 85.6 mm, width of 54.0 mm, thickness of 5.0 mm (PCMCIA Type II) or 10.5 mm (PCMCIA Type III) and weight of less than 2.0 ounces. The Company's CompactFlash products weigh about one-half ounce and are approximately the size of a matchbook (36.4 mm x 42.8 mm x 3.3 mm). Non-volatility. SanDisk products store information in non-volatile memory cells that do not require power to retain information. High degree of ruggedness. SanDisk's devices are among the most rugged in the storage industry with an operating shock rating of 2,000 Gs for CompactFlash and 1,000 Gs for all other products (equivalent to being able to withstand ten foot and eight foot drops onto concrete, respectively). The Company's products are also designed to tolerate extreme temperatures and humidity. Low power consumption. During read/write operations, SanDisk's products use substantially less than the power demanded by the 1.8 inch and 2.5 inch rotating disk drives found in many portable computers. At all other times during system operation, the Company's products require virtually no power. Depending upon the end product making use of the Company's flash data storage, this can translate into significantly more time between battery replacements. High reliability. SanDisk's products utilize sophisticated error detection and correction algorithms and dynamic defect management techniques to provide high data reliability and endurance. SanDisk's devices are highly reliable even after more than 300,000 erase/writes and, based on internal test results, the Company believes the devices have a theoretical product life of several decades in most applications. 28 High performance. The Company believes that the access times of the Company's products meet or exceed the read and write data rates of the majority of consumer and industrial/communication applications. The flash process and flash memory chip designs developed by the Company in cooperation with its development partners make the Company's products scaleable over several generations of semiconductor fabrication processes. This feature has allowed the Company to significantly reduce its cost per megabyte of capacity as each new process generation is qualified. By maintaining the same basic design parameters, each generation of the Company's products maintains full compatibility with prior generations. This chip architecture has allowed the Company to significantly reduce cell size and thereby chip size. This has permitted increased storage capacity in PC Card and smaller platforms. The Company's proprietary flash process requires some modifications to the typical CMOS semiconductor fabrication process, but can be implemented on existing advanced fabrication lines without the need for special materials or equipment. The Company has successfully implemented its processes at Matsushita and at LG Semicon, and is currently implementing its processes at NEC and USIC. The Company also has developed core competencies in low cost micropackaging technology as well as low cost batch testing, both of which are important elements in building high capacity, high reliability flash cards at a competitive cost. SANDISK'S BUSINESS STRATEGY The Company is pursuing the following strategies: Enable New Products in Large and Emerging Markets; Develop and Promote Industry Standards. The Company develops products that it believes will have applications in large, emerging markets such as the markets for digital cameras and PDAs. The Company believes that the widespread acceptance of universal industry standards is important to the development of the market for flash data storage. The Company designs its products to be compatible with existing industry standards and, where appropriate, develops and promotes new standards. The Company was one of the founding members of PCMCIA, where it has worked to establish the ATA standard interface which is globally supported by all PCMCIA card slots. The Company also developed the CompactFlash format and was one of the founding members of the CFA, an organization established in October 1995 to promote CompactFlash as a small form factor flash data storage standard. The Company believes that this format is becoming the de facto industry standard storage platform for digital cameras, where it is used instead of traditional film. All of the Company's products are compatible with IDE and ATA standard interfaces used in all IBM compatible PCs and are compatible with Windows 95, Windows NT, Windows CE, Macintosh System 8.0 and other operating systems. The interoperability afforded by adherence to these industry standards enables users of flash data storage cards to transfer data quickly and easily from one device to another, such as from a digital camera to a desktop computer system equipped with a PCMCIA or CompactFlash slot. The Company believes that working with industry groups to develop widely-adhered to standards will lead to the acceptance of the Company's products in large markets. Maintain Technology Leadership. The Company believes that it was the first to develop and introduce removable flash data storage cards and that it has led the industry with several technological innovations. The Company believes that its technological expertise in flash memory design and process engineering, intelligent controllers and system-level integration, in conjunction with its relationships with its semiconductor manufacturing partners, provides it with a competitive advantage. The Company is actively developing advanced flash data storage technologies designed to enable it to continue to meet evolving customer requirements for flash data storage system products. The Company has developed D2 flash, which is a technological innovation that allows each flash memory cell to store two bits of information instead of the traditional single bit per cell, effectively doubling the amount of storage capacity on approximately the same size chip. The Company plans to use this technology to achieve a significant reduction in the cost per megabyte of flash data storage. The Company began low volume shipments of flash card products employing D2 flash in the third quarter of 1997. 29 Reduce Cost Per Megabyte of Flash Data Storage. The Company is focused on reducing the cost per megabyte of its products in order to increase the number of applications for these products and to enhance the Company's ability to address new markets. The Company has designed its patented flash memory technology and integrated intelligent controller to increase the amount of usable flash storage per wafer. The Company works closely with its manufacturing partners to increase the amount of storage capacity per wafer by utilizing very small flash memory cells, to realize high yields through the built-in ability to utilize partial die and to facilitate the migration to smaller geometry manufacturing processes through several generations of flash technology. The Company is working with its foundries to migrate the process technology from the current 0.5 micron minimum design rules to 0.4 micron minimum design rules over the next several quarters. Virtually all of the Company's products utilize its 32Mbit flash devices. Leverage Intellectual Property. The Company has cross-licensed its flash technology, including its patent portfolio, to selected third parties. The Company believes that permitting other flash memory providers to use its technology will facilitate the development of its target markets, will provide a second source of supply of CompactFlash, which is required by many OEM customers, and can serve as a significant source of license fees and royalty revenues for the Company. To date, the Company has entered into patent cross- license agreements with Hitachi, Intel, Samsung, Sharp and Toshiba, and intends to pursue opportunities to enter into additional licenses. APPLICATIONS AND MARKETS FOR FLASH DATA STORAGE The Company is targeting the consumer electronics and the industrial communications markets for its flash data storage products. Consumer Electronics. The increasing trend towards the use of digital technology in consumer electronics devices has created requirements for new data storage products. For example, a number of major camera and imaging companies have introduced digital cameras that the Company believes will enable professionals and consumers to eliminate the need for standard 35mm photographic film by replacing it with re-usable compact digital data storage devices. Removable and embedded flash data storage products can also be potentially used in PDAs, highly portable computers, digital audio recorders, network computers, cellular telephones, two-way pagers, next-generation smart telephones, digital audio samplers and other devices. These data storage devices need to have a very small form factor, must be lightweight, shock and vibration tolerant, non-volatile and interoperable with computer systems and software that can process, manipulate and print images digitally. The Company co-founded the CompactFlash Association, which actively promotes the development of products using CompactFlash. Other founding members of the CFA are Apple Computer, Inc., Canon, Kodak, Hewlett-Packard, LG Semicon, Matsushita, Motorola, NEC, Polaroid Corp., Seagate and Seiko Epson Corp. During the third quarter of 1997, the number of member companies in the CompactFlash Association reached 85. The Company is currently working with several leading camera and imaging companies to facilitate the use of CompactFlash products in next generation digital cameras. However, there can be no assurance that the digital cameras employing these units will gain significant consumer market acceptance. Industrial/Communications Market. Emerging applications in the industrial market encompass a wide variety of electronic systems used by personnel such as inventory controllers, service technicians, route salesmen, delivery crews, meter readers, car-rental service employees, physicians, real estate agents, insurance agents and public safety officers. The systems used by these workers are often subjected to rough handling, used in a variety of temperature and humidity conditions and required to operate for extended periods of time without external power sources or frequent battery changes. The information collected by these individuals is critical to the successful operation of their business or agency and hence must be stored reliably regardless of the operating environment. In addition, the information is frequently processed at some point (typically the end of the work day or night) by a computer system and must therefore be easily transferable. The communications market has applications that are beginning to require new types of data storage. For example, communications switches and cellular base stations require data storage in environments such as 30 subway stations or outdoor telephone booths that are subject to shock and vibration and a wide range of temperature and humidity conditions. The Company's products are used in consumer electronics applications such as digital cameras, PDAs, highly portable computers, audio recorders, video and electronic games, and digital audio samplers, and in industrial/communications applications such as POS terminals, transportation, medical/instrumentation, automation, telecommunications switches, PHS base stations, cellular base stations and routers. The Company's customers include Boeing, Canon, Casio, Kodak, Epson Hanbai, Fujitsu, Hewlett-Packard, Kyocera, Lucent, MEI, NEC USA, Norand, Pentax, Psion and Telxon. In the nine months ended September 30, 1997, and the fiscal years ended December 31, 1996 and 1995, sales to the Company's top 10 customers accounted for approximately 64%, 71% and 80%, respectively, of the Company's product revenues. For the nine months ended September 30, 1997, no single customer accounted for greater than 10% of total revenues. During 1996, Epson Hanbai accounted for approximately 26% of the Company's total revenues. Three of the Company's customers, Epson Hanbai, Kyocera and Hewlett-Packard, accounted for approximately 26%, 14% and 12% of the Company's total revenues, respectively, in 1995. The Company expects that sales of its products to a limited number of customers will continue to account for a substantial portion of its revenues for the foreseeable future. The Company has also experienced significant changes in the composition of its major customer base from year to year and expects this pattern to continue as certain customers increase or decrease their purchases of the Company's products as a result of fluctuations in market demand for such customers' products. Sales to the Company's customers are generally made pursuant to standard purchase orders rather than long-term contracts. The loss of, or significant reduction in purchases by, the Company's major customers, could have a material adverse effect on the Company's business, financial condition and results of operations. See "Risk Factors--Customer Concentration." PRODUCTS SanDisk's storage products are high capacity, solid-state, non-volatile flash memory devices which comply with PC Card ATA and/or IDE industry standards. The Company offers a broad line of flash data storage system products in terms of capacities, form factors, operating voltage and temperature ranges. The Company's current product families include removable CompactFlash and FlashDisk cards, embedded FlashDrive products, and Flash ChipSets. All products use the Company's proprietary 512 byte sector erase flash memory chips and intelligent controller. The Company's products are compatible with the majority of today's computing and communications systems that are based on industry standards. The Company's products, as of September 30, 1997, are listed in the following table:
PRODUCT FAMILY FORM FACTOR UNCOMPRESSED CAPACITY (IN MEGABYTES) - ----------------------------------------------------------------------------------------------- CompactFlash 36.4 mm x 42.8 mm x 3.3 mm 2, 4, 6, 8, 10, 15, 20, 24 (Removable) - ----------------------------------------------------------------------------------------------- FlashDisk PC Card Type II 2, 4, 6, 8, 10, 20, 40, 60, 85, 150 (Removable) ------------------------------------------------------------------------------- PC Card Type III 110, 175, 220, 300 - ----------------------------------------------------------------------------------------------- Flash ChipSet 2 chips 2, 4, 8 (Embedded) - ----------------------------------------------------------------------------------------------- FlashDrive 1.3 inches 4, 10, 20, 40, 60 (Embedded) ------------------------------------------------------------------------------- 1.8 inches 4, 10, 20, 40, 80, 140, 240
Unlike rotating disk drives, the Company's flash products are solid-state devices. The Company's products are very reliable. They have no moving parts that are subject to mechanical failure. The Company's products are non- volatile, meaning that no on-going source of power is required in order for the products to retain data, images or audio indefinitely. Flash is noiseless, considerably lighter, more rugged and consumes substantially 31 less than the power required by a rotating disk drive. The Company's products are small enough to be employed in mobile systems while the two smallest, CompactFlash and Flash ChipSet, are small enough to be used in many of the newer, miniaturized electronic systems being developed today. The ruggedness levels of the Company's products range from 1,000 Gs to 2,000 Gs. CompactFlash. The Company's CompactFlash products provide full PC Card ATA functionality but are only one-fourth the size of a standard Type II PC card. CompactFlash's compact size, ruggedness and low-power requirements and its ability to operate at either 3.3V or 5V make it well-suited for a range of current and next-generation, small form factor consumer applications such as digital cameras, PDAs, personal communicators, pagers and audio recorders. CompactFlash products provide interoperability with systems based upon the PC Card ATA standard by using a low-cost passive Type II adapter. CompactFlash is available in capacities ranging from 2MB to 24MB. FlashDisk. The Company's FlashDisk products are used in storage, data backup and data transport applications and are among the highest-capacity removable PC Card ATA flash memory cards currently available. FlashDisk products are available in Type II form factor with capacities ranging from 2MB to 150MB and Type III form factor with capacities ranging from 110MB to 300MB. Flash ChipSet. The Flash ChipSet product provides a very small footprint solid-state ATA mass storage system. The Flash ChipSet product consists of a single chip ATA controller and a flash memory chip and is available in 2MB, 4MB and 8MB capacities. It provides full PC Card, ATA and IDE disk drive compatibility in a chip set format. FlashDrive. The Company's FlashDrives in 1.3 inch and 1.8 inch form factors are targeted at applications that require embedded data storage devices. FlashDrives offer rugged, portable, low-power data storage and are "plug and play" replacements for rotating IDE drives making them ideal for mobile computers, communication devices and other systems that require embedded storage. Capacities of the Company's FlashDrive products range between 4MB and 60MB for the 1.3 inch product and between 4MB and 240MB for the 1.8 inch product. TECHNOLOGY Since its inception, the Company has focused its research and development efforts on developing highly reliable and cost-effective flash memory storage products to address a number of emerging markets. The Company has been actively involved in all aspects of this development, including flash memory process development, chip design, controller development and system-level integration, to ensure the creation of fully-integrated, broadly interoperable products that are compatible with both older and newly developed system platforms. The Company believes its core technical competencies are in high density flash memory process and design, controller design, system-level integration, compact packaging and low cost system test. To achieve compatibility among various electronic platforms regardless of the host processors or operating systems used, the Company developed new capabilities in flash memory chip design, created a new intelligent controller and developed an architecture that could leverage advances in process technology to ensure a scaleable, high-yielding, cost-effective and highly reliable manufacturing process. The Company believes that these technical competencies and the Company's system design approach have enabled it to introduce flash data storage products that are better suited for its targeted market than linear flash cards based on socket flash chips. The Company designs its products to be compatible with industry-standard IDE and ATA interfaces used in all IBM compatible PCs. To achieve this design, the Company uses a 512 byte memory sector size that required a departure from the typical socket flash chip design. By decreasing the sector size to be the same as the sector size of all 3.5 inch, 2.5 inch and 1.8 inch hard disk drives, the Company was able to achieve compatibility with DOS and Windows. The Company's patented intelligent controller coupled with the intelligent controller's advanced defect management system permits the Company's products to achieve a high level of reliability and longevity. This 32 defect management system, which currently resides on a single proprietary controller chip, is able to detect bit "wearout," a common problem with flash memory, both immediately following manufacture and late in the product's life. Late bit failure can occur several years into the life of a product and can be difficult to detect with traditional flash technology. The Company's defect management system automatically detects bits that have failed or are likely to fail due to the number of erase/write cycles such bits have undergone and switches memory to spare good bits incorporated into the design. The system also allows the automatic substitution of entire sectors or major blocks of the memory chip. Additionally, the controller generates an error correcting code which is stored simultaneously with the data and is used to detect and correct any errors when the data is read. This design permits the Company's products to maintain error-free operation for hundreds of thousands of erase/write cycles and reduces manufacturing costs by allowing the Company to incorporate partial die with less than 100% of the physical bits on each chip into the products without loss of functionality. All of the Company's controller chips are manufactured by Motorola using a Motorola 16 bit core processor. The flash process and flash memory chip designs developed by the Company in cooperation with its development partners make the Company's products scalable over several generations of semiconductor fabrication processes. This feature has allowed the Company to significantly reduce its cost per megabyte of capacity as each new process generation is qualified. By maintaining the same basic design parameters, each generation of the Company's products maintains full compatibility with prior generations. This chip architecture, which incorporates three polysilicon layers and one metal layer, as well as a virtual ground array and a split gate transistor cell, has allowed the Company to significantly reduce cell size and thereby chip size. This has permitted increased storage capacity in PCMCIA card and smaller platforms. The Company's patented flash process requires some modifications to the typical CMOS semiconductor fabrication process, but can be implemented on existing advanced fabrication lines without the need for special materials or equipment. The Company has successfully implemented its 0.5 micron process at Matsushita and LG Semicon and is currently qualifying its 0.4 micron process at Matsushita, LG Semicon and USIC. The Company is also in the advanced stages of development of its 0.35 micron process at NEC. In the third quarter of 1997, the Company commenced shipment of production units of its D2 flash. D2 is a technological innovation which allows each flash memory cell to store two bits of information instead of the traditional single bit per cell employed by the industry standard flash technology. The D2 flash technology is highly complex, and the write speed of the first generation 64Mbit D2 flash is significantly slower than the Company's current flash products. In addition, D2 flash involves several techniques never proven in a high volume production environment. There can be no assurance that the much slower write speed of D2 flash will be accepted by SanDisk's customers. Any failure by SanDisk's customers to accept the Company's D2 flash products, or any failure to successfully establish volume production of the D2 flash product, could cause a material adverse affect on the Company's business, financial condition and results of operations. See "Risk Factors--Dependence on Emerging Markets and New Products." The Company also has developed core competencies in low cost micropackaging technology as well as low cost batch testing, both of which are important elements in building high capacity flash cards to high reliability standards at competitive cost. STRATEGIC MANUFACTURING RELATIONSHIPS An important element of the Company's strategy has been to establish strategic relationships with leading technology companies that can provide the Company with access to leading edge semiconductor manufacturing capacity and participate in the development of certain products. This enables the Company to concentrate its resources on the product design and development areas where the Company believes it has competitive advantages and eliminates the high cost of owning and operating a semiconductor wafer fabrication facility. The Company has developed strategic relationships with Matsushita, LG Semicon and NEC. In the third quarter of 1997, the Company invested in USIC, a joint venture semiconductor manufacturing facility founded by UMC in Taiwan. 33 All of the Company's products require silicon wafers which are currently supplied by Matsushita and LG Semicon. Most of the Company's wafers are currently manufactured using 0.5 micron process technology. The Company has started limited production of 0.4 micron flash wafers at Matsushita and expects to begin receiving 0.4 micron wafers from LG Semicon in the first half of 1998. Both Matsushita and LG Semicon are also shifting their production capacity from six inch to eight inch wafers. The Company plans to shift to volume production of eight inch wafers at Matsushita by the end of 1997 and at LG Semicon in the first half of 1998. The Company currently has a joint development agreement and a foundry agreement with NEC. The Company expects to receive its first production wafer shipments from NEC in 1998. The Company invested approximately $40.2 million in USIC, which represents an ownership interest of approximately 10% in the joint venture and guarantees the Company access to approximately 12.5% of the facility's wafer output. The USIC facility is currently under construction at the Science Based Industrial Park in Hsin Chu City, Taiwan. The facility is scheduled to start producing limited wafer quantities in late 1998 and is scheduled to reach full monthly production of approximately 20,000 eight inch wafers in 1999. The Company has arranged to receive foundry wafers from a separate UMC fabrication facility during the construction of the USIC plant. The Company expects to begin receiving these wafers in the first half of 1998. Under the general terms of the Company's wafer supply agreements with its foundry partners, the Company is obligated to provide a monthly rolling forecast of anticipated purchase orders. Except in limited circumstances and subject to acceptance by the foundries, the estimates for a portion of the forecast, generally three months, constitute a binding commitment and the estimates for the remaining months may not increase or decrease by more than a certain percentage from the previous months forecast. These requirements limit the Company's ability to react to any significant fluctuations in demand for its products. The Company is dependent upon its foundry partners to deliver wafers and to maintain acceptable yields and quality. The Company believes that shipments of wafers from its foundry partners will be sufficient to meet the Company's anticipated requirements for wafers for the foreseeable future. The Company's ability to increase its revenue and net income in future periods is dependent on receiving an uninterrupted supply of wafers from its manufacturing partnerships. The Company's reliance on third-party wafer manufacturers involves several material risks, including shortages of manufacturing capacity, reduced control over delivery schedules, quality assurance, production yields and costs. In addition, as a result of the Company's dependence on foreign wafer manufacturers, the Company is subject to the risks of conducting business internationally, including exchange rate fluctuations. See "Risk Factors-- Dependence on Third Party Foundries." The Company has also developed a strategic manufacturing relationship with Motorola, the supplier of the microcontroller for all of the Company's products. In 1993, Motorola and the Company agreed to customize the Motorola 68000 core microprocessor to integrate the Company's previous three chip controller into a single chip. The small form factor of this single chip integrated controller is necessary to produce the Company's CompactFlash products as well as its Flash ChipSet products. The Company's reliance on Motorola as its sole source of microcontrollers exposes the Company to interruptions of supply that could have a material adverse effect on the Company's business, financial condition and results of operations. See "Risk Factors--Dependence on Sole Source Suppliers and Third Party Subcontractors." The Company is continuing to identify and establish second sources for its key single and sole source component vendors and subcontractors as sales volumes increase, although there can be no assurance these efforts will be successful. During the next several quarters, if the demand for the Company's products exceeds its suppliers ability to deliver needed components or subassemblies, the Company may be unable to meet customer demand. 34 ASSEMBLY AND TEST The Company tests the majority of its wafers at its headquarters in Sunnyvale, California. Substantially all of the tested wafers are then shipped to the Company's third party memory assembly subcontractors: ISE in Manteca, California, Integrated Packaging Assembly Corporation in San Jose, California and Mitsui in Japan. Monitoring of the assembly process is done by statistical process control and audits by the Company's personnel. The Company performs final assembly, testing and configuration of all products at its headquarters in Sunnyvale, California. The Company has made substantial capital investments and has established in-house surface mount lines for the assembly of the printed circuit boards used in the Company's CompactFlash and FlashDisk products. In July 1996, the Company moved its corporate headquarters from two leased facilities totaling 54,000 square feet in Santa Clara to a leased, 104,000 square foot building in Sunnyvale. The move allowed the Company to substantially expand its manufacturing facility and to move some production work in-house from off-site sub-contractors. The Company currently anticipates that it will continue to make substantial capital investments to further enhance its assembly capabilities. See "Risk Factors--Dependence on Sole Source Suppliers and Third Party Subcontractors." The Company's customers have demanding requirements for quality and reliability. To maximize quality and reliability, the Company monitors electrical and inspection data from its wafer foundries and assembly subcontractors. The Company monitors wafer foundry production for consistent overall quality, reliability and yield levels. Most of the Company's major component suppliers and subcontractors have ISO 9001 or 9002 certification. SEAGATE RELATIONSHIP The Company has a strategic relationship with Seagate, which, prior to this offering, owns approximately 25% of the Company's Common Stock on a fully diluted basis. In January 1993, Seagate acquired a 25% ownership interest in the Company and entered into a joint cooperation agreement that provides for a strategic alliance between the parties. Seagate has the option to market the Company's products commencing in January 1999 and at that time may be established as a distributor for the Company's products. If the option is exercised, the Company and Seagate will coordinate their efforts so that up to one-third of the Company's worldwide net revenues from all flash products could be generated from sales of the Company's flash products through Seagate. The joint cooperation agreement also provides that each party will have the exclusive right to market to certain customers. The joint cooperation agreement will terminate if, among other things, Seagate's ownership interest in the Company falls below 10% or, on or after January 15, 2000, upon at least one year's advance written notice by the Company to Seagate. Seagate has the right to nominate one director to the Company's Board of Directors. Alan F. Shugart, Seagate's Chairman, President and Chief Executive Officer, serves as Seagate's nominee to the Company's Board of Directors. The Shareholder Rights Plan, adopted by the Board of Directors on April 21, 1997, permits Seagate to continue to hold its ownership interest in the Company without triggering the provisions of the plan. RESEARCH AND DEVELOPMENT The Company believes that its future success will depend on the continued development and introduction of new generations of flash memory chips, controllers and products designed specifically for the flash data storage market. To date, the Company has developed and put into production flash data storage products utilizing semiconductor devices with the following memory capacity and geometries: 4Mbit (0.9 micron), 8Mbit (0.8 micron), 16Mbit (0.5 micron), 32Mbit (0.5 and 0.4 micron) and 64Mbit D2 flash (0.5 micron). In addition, the Company has developed several generations of controllers for these flash memory chips. Currently, a majority of the Company's products utilize the 32Mbit device. Because of the complexity of its products, the Company has periodically experienced significant delays in the development and volume production ramp up of its products. There can be no assurance that similar delays will not occur in the future. 35 The Company, along with its current foundry partners (in separate design efforts), is developing a new process to manufacture future generation, higher capacity chips employing 0.35 to 0.4 micron geometries. To date, the Company has not successfully completed the qualification of such a process and there can be no assurance that the Company will be able to successfully commence volume production with such a process in the future. The Company has periodically experienced delays in the development of new processes at its foundry partners and such delays may occur again in the future. The Company's foundry partners may also experience delays in establishing development capabilities for new processes and these delays may have a material adverse effect on the Company's business, financial condition and results of operations. See "Risk Factors--Risks Associated with Transitioning to New Products and Processes." In the fourth quarter of 1996, the Company established a design center in Tefen, Israel to conduct research on product design improvements and new product development. As of September 30, 1997, the center had nine full time employees engaged in research and development activities. During the nine months ended September 30, 1997 and 1996, the Company spent $9.6 million and $7.3 million, respectively, on research and development activities. During the fiscal years ended December 31, 1996, 1995 and 1994, the Company spent $10.2 million, $8.0 million and $5.9 million, respectively, on research and development activities. As of September 30, 1997, the Company had 71 full time employees engaged in research and development activities, including those in its Israel design center. SALES AND DISTRIBUTION The Company markets its products using a direct sales organization, distributors and manufacturers' representatives to serve the multi-faceted customer base and sales channels into which the Company sells its products. The Company also sells products to various customers on a private label basis. The Company's sales efforts are organized as follows: Direct Sales Force. The Company's direct sales force is located in Maitland, Florida; Herndon, Virginia; Dublin, Ohio; Irvine, California; Sunnyvale, California; Branford, Connecticut; Hannover, Germany; Hong Kong; and Yokohama, Japan. This organization supports major OEM customers and the Company's distribution and manufacturers' representative partners. Distributors. In the United States, the Company's products are sold through Anthem Electronics Inc., Arrow/Schweber Electronics Inc., Hamilton- Hallmark Inc. and Bell MicroProducts Inc. to OEM customers for a wide variety of industrial applications. In addition, the Company has distributors in various regions of the world including Europe, Japan, Australia, New Zealand, Taiwan, Korea and Hong Kong. Independent Manufacturers' Representatives. In the United States, Canada and Europe, the Company's direct sales force is supported in its sales efforts by thirty three independent firms. Twenty nine of these independent firms are domestic; eighteen of which support the industrial distribution and OEM channels, and eleven of which support the retail channel. Four of these firms are international. These companies receive a sales commission and provide sales support to the direct sales force and the Company's distributors. The manufacturers' representative companies sell the Company's products as well as products from other manufacturers. Private Label Partners and OEMs. The Company has contractual distribution agreements with Epson Hanbai and Verbatim Corporation to sell the Company's products on a private label basis. These companies sell directly to OEMs, as well as superstores, mass merchants, office clubs, retailers and mail order companies to serve the demand for the Company's products in the various after-market sales channels. In addition, the Company provides private label products to OEMs in the United States and the Pacific Rim. Retail. The Company entered the retail channel in 1997 and is shipping SanDisk brand name product directly to retail superstores, office clubs and selected retail distributors. The Company is also shipping private label product to some retail distributors. Eleven independent manufacturers' representative firms are supporting the Company's sales efforts in the retail channel. 36 CUSTOMER SERVICE AND TECHNICAL SUPPORT The Company provides customers with comprehensive product service and support. The Company provides technical support through its application engineering group located in the United States and Japan. The Company works closely with its customers to monitor the performance of its product designs, to provide application design support and assistance and to gain insight into customer's needs to help in the definition of subsequent generations of products. The Company's support package is generally offered with product sales and includes technical documentation and application design assistance. During an OEM's production phase, the Company provides failure analysis and replacement of defective components. In some cases, the Company offers additional support which includes training, system-level design, implementation and integration support. The Company believes that tailoring the technical support level to its customers' needs is essential for the success of product introductions and to achieve a high level of satisfaction among its customers. The Company generally provides a one-year warranty on its products. PATENTS AND LICENSES The Company relies on a combination of patents, trademarks, copyright and trade secret laws, confidentiality procedures and licensing arrangements to protect its intellectual property rights. The Company vigorously protects and defends its intellectual property rights and in the past has been involved in significant disputes regarding its intellectual property rights and believes it may be involved in similar disputes in the future. In 1988, the Company developed the concept of emulation of a hard disk drive with flash solid state memory. The first related patents were filed in 1988 by Dr. Eli Harari and exclusively licensed to the Company. The Company currently owns or has exclusive rights to fifty-seven United States and thirteen foreign issued patents, seven patent applications allowed and over fifteen patent applications pending in the United States, as well as eighteen pending in foreign patent offices. The Company intends to seek additional international and United States patents on its technology. The Company believes some of its patents are fundamental to the implementation of flash data storage systems, as well as the implementation of D2 flash, independent of the flash technology used. However, there can be no assurance that any patents held by the Company will not be invalidated, that patents will be issued for any of the Company's pending applications or that any claims allowed from existing or pending patents will be of sufficient scope or strength or be issued in the primary countries where the Company's products can be sold to provide meaningful protection or any commercial advantage to the Company. Additionally, competitors of the Company may be able to design around the Company's patents. The semiconductor industry is characterized by vigorous protection and pursuit of intellectual property rights or positions, which have resulted in significant and often protracted and expensive litigation. To preserve its intellectual property rights, the Company believes it may be necessary to initiate litigation against one or more third parties, including but not limited to those the Company has already notified of possible patent infringement. In addition, one or more of these parties may bring suit against the Company. In the event of an adverse result in any such litigation, the Company could be required to pay substantial damages, cease the manufacture, use and sale of infringing products, expend significant resources to develop non-infringing technology, discontinue the use of certain processes or obtain licenses to the infringing technology. Any litigation, whether as a plaintiff or as a defendant, would likely result in significant expense to the Company and divert the efforts of the Company's technical and management personnel, whether or not such litigation is ultimately determined in favor of the Company. In addition, the results of any litigation matter are inherently uncertain. For example, in 1995, the Company informed Samsung that the Company believed Samsung infringed certain of its patents. In response, Samsung filed a complaint accusing the Company of infringing two of its patents. The Company then filed a complaint against Samsung with the ITC alleging that Samsung and its U.S. sales arm were importing and selling products that infringed two of the Company's patents. After a hearing on this matter, the ITC issued an order that both SanDisk patents were valid and that Samsung had infringed such patents, and prohibited the import, 37 sale, marketing, distribution or advertising of Samsung's infringing flash memory circuits, in the United States. In August 1997, the Company and Samsung entered into a settlement agreement resolving all aspects of this dispute, pursuant to which the parties agreed to cross-license certain patents and Samsung agreed to make license and royalty payments to the Company. While the Company believes it achieved a favorable result in this matter, the expense and diversion of management attention in connection with its resolution were substantial. In addition, the Company has notified several large flash suppliers that the Company believes certain of their existing or announced products infringe certain of the Company's patents. In the event the Company desires to incorporate third party technology into its products or is found to infringe on others' patents or intellectual property rights, the Company may be required to license such patents or intellectual property rights. The Company may also need to license some or all of its patent portfolio to be able to obtain cross-licenses to the patents of others. The Company currently has patent cross-license agreements with Hitachi, Intel, Samsung, Sharp and Toshiba. From time to time, the Company has also entered into discussions with other companies regarding potential cross- license agreements for the Company's patents. However, there can be no assurance that licenses will be offered or that the terms of any offered licenses will be acceptable to the Company. If the Company obtains licenses from third parties, it may be required to pay license fees or make royalty payments, which could have a material adverse effect on the Company's gross margins. The failure to obtain a license from a third party for technology used by the Company could cause the Company to incur substantial liabilities and to suspend the manufacture of products or the use by the Company's foundries of processes requiring the technology, or to expend substantial resources redesigning its products to eliminate the infringement. There can be no assurance that the Company would be successful in redesigning its products or that such licenses would be available under reasonable terms. Furthermore, any such development or license negotiations could require substantial expenditures of time and other resources by the Company. As is common in the industry, the Company agrees to indemnify certain of its suppliers and customers for alleged patent infringement. The scope of such indemnity varies, but may in some instances include indemnification for damages and expenses, including attorneys' fees. The Company may from time to time be engaged in litigation as a result of such indemnification obligations. In its efforts to maintain the confidentiality and ownership of trade secrets and other confidential information, the Company requires all employees (regular and temporary), consultants, foundry partners, certain customers, suppliers and partners to execute confidentiality and invention assignment agreements upon commencement of a relationship with the Company and extending for a period of time beyond termination of the relationship. There can be no assurance that these agreements will provide meaningful protection for the Company's trade secrets or other confidential information in the event of unauthorized use or disclosure of such information. See "Risk Factors-- Fluctuations in Operating Results." COMPETITION The flash data storage markets in which the Company competes are characterized by intense competition, rapid technological change, evolving industry standards, rapidly declining average selling prices and rapid product obsolescence. The Company's competitors include many large domestic and international companies that have greater access to wafer fab capacity, substantially greater financial, technical, marketing and other resources, broader product lines and longer standing relationships with customers than the Company. The Company's primary competitors include flash chip producers such as AMD, Hitachi, Intel, Micron, Mitsubishi, Samsung, Sharp and Toshiba, other companies using data storage techniques such as socket flash, linear flash and system flash components, as well as package or card assemblers such as LEXAR, M-Systems, SIMPLE, SMART Modular and Viking that combine controllers and flash memory chips developed by others. Hitachi, LEXAR, Mitsubishi and Micron have been certified by the CFA to manufacture and sell their own brand of CompactFlash, and the Company believes that other manufacturers will also seek to enter the CompactFlash market in the future. Competing products promoting industry standards that are different from SanDisk's CompactFlash product have been announced, including Intel's Miniature Card, Toshiba's Solid-State Floppy Disk Card and Sony Corporation's recently announced Memory Stick. A manufacturer of digital cameras that designs-in any one of 38 these alternative competing standards will eliminate CompactFlash from use in its product, as each competing standard is mechanically and electronically incompatible with CompactFlash. In addition, in the third quarter of 1997, Intel announced a 64Mbit flash chip based on its multilevel cell flash. The Company's D2 flash and Intel's multilevel cell flash are competing technological innovations that allow each flash memory cell to store two bits of information instead of the traditional single bit stored by the industry standard flash technology. In the fourth quarter of 1996, Iomega announced plans to introduce n.hand, a miniaturized, mechanical, removable disk drive that may compete directly with SanDisk's flash card products. The Company expects competition to increase in the future from existing competitors and from other companies that may enter the Company's existing or future markets with similar or alternative data storage solutions that may be less costly or provide additional features. Due to the high price sensitivity in the market for consumer products, aggressive price competition has been experienced for these applications. Such competition is expected to result in lower gross margins in the future, as the Company's average selling prices decrease faster than its costs. The Company has entered into patent cross-license agreements with Hitachi, Intel, Samsung, Sharp and Toshiba, pursuant to which each party may manufacture and sell products that incorporate technology covered by each party's patents related to flash memory devices. As the Company continues to license its patents to certain of its competitors, competition will increase. As a result of the above factors, the Company expects to face substantially more competition in the future than it has to date. Increased competition could have a material adverse effect on the Company's business, financial condition and results of operations. The Company believes that its ability to compete successfully depends on a number of factors, which include price and quality, product performance and availability, success in developing new applications for system flash technology, adequate foundry capacity, efficiency of production, timing of new product announcements or introductions by the Company, its customers and its competitors, the ability of the Company's competitors to incorporate their flash data storage systems into their customers' products, the number and nature of the Company's competitors in a given market, successful protection of intellectual property rights and general market and economic conditions. The Company believes that it competes favorably with other companies with respect to these factors. There can be no assurance that the Company will be able to compete successfully against current and future competitors or that competitive pressures faced by the Company will not materially adversely affect its business, financial condition or results of operations. See "Risk Factors--Competition." EMPLOYEES As of September 30, 1997, the Company had 393 regular, full-time employees and 128 temporary employees, including 71 in research and development, 52 in sales and marketing, 41 in finance and administration and 357 in operations. The Company's success is dependent on its retention of key technical, sales and marketing employees and members of senior management. Additionally, the Company's success is contingent on its ability to attract and recruit skilled employees in a very competitive market. None of the Company's employees are represented by a collective bargaining agreement and the Company has never experienced any work stoppage. The Company believes that its employee relations are good. FACILITIES The Company's principal facilities are presently located in a 104,000 square foot building in Sunnyvale, California. Approximately one half of the space is dedicated to production activities. The remaining space is used for administrative, marketing and development activities. The Company occupies this space under a lease agreement that expires in July 2001. In December 1996, the Company exercised its option to lease an adjacent 50,000 square foot building beginning in 1998. The Company believes that its facilities will be adequate to meet its near term needs and that additional space will be available as required. The Company also leases domestic sales offices in Herndon, Virginia; Irvine, California; Branford, Connecticut; Dublin, Ohio and Maitland, Florida, as well as foreign sales offices in Hannover, Germany; Yokohama, Japan; Hong Kong and a design center in Tefen, Israel. 39 MANAGEMENT EXECUTIVE OFFICERS AND DIRECTORS The executive officers and directors of the Company, and their ages as of October 15, 1997, are as follows:
NAME AGE POSITION ---- --- -------- Dr. Eli Harari........... 52 President, Chief Executive Officer and Director Cindy Burgdorf........... 50 Chief Financial Officer, Senior Vice President, Finance and Administration and Secretary Leon Malmed.............. 60 Senior Vice President, Marketing/Sales Daniel Auclair........... 51 Senior Vice President, Operations/Technology Marianne F. Jackson...... 42 Vice President, Human Resources Irwin Federman(1)........ 62 Chairman of the Board of Directors William V. Campbell(2)... 57 Director Catherine P. Lego(1)..... 41 Director Dr. James D. Meindl...... 64 Director Joseph Rizzi............. 55 Director Alan F. Shugart(2)....... 67 Director
- -------- (1) Member of Audit Committee (2) Member of Compensation Committee Dr. Eli Harari, the founder of the Company, has served as the President and Chief Executive Officer and as a director of the Company since June 1988. Dr. Harari founded Wafer Scale Integration, a privately held semiconductor company, in 1983 and was its President and Chief Executive Officer from 1983 to 1986, and Chairman and Chief Technical Officer from 1986 to 1988. From 1973 to 1983, Dr. Harari held various management positions with Honeywell Inc., Intel and Hughes Aircraft Microelectronics. Dr. Harari also serves as a director of Orbit Semiconductor, Inc. Dr. Harari holds a Ph.D. degree in Solid State Sciences from Princeton University. Ms. Cindy Burgdorf joined the Company as Chief Financial Officer, Vice President, Finance and Secretary in June 1994 and has served as Senior Vice President, Finance and Administration since July 1995. From 1992 to 1994, Ms. Burgdorf was Vice President of Operations Administration and Vice President of Materials and Planning at Maxtor Corp. ("Maxtor"). From 1978 to 1992, Ms. Burgdorf held various financial management positions including Corporate Controller, Group Controller of the Components Group and director of the worldwide customer satisfaction program at Intel. Ms. Burgdorf is a Certified Public Accountant and holds a B.S. degree in Business Administration from San Jose State University. Mr. Leon Malmed joined the Company as Vice President, Worldwide Marketing and Sales in December 1992 and has served as Senior Vice President, Marketing and Sales since July 1995. From 1991 to 1992, Mr. Malmed was Executive Vice President of Marketing/Sales at SyQuest Technology, Inc., a manufacturer of removable-cartridge disk drives. From 1990 to 1991, Mr. Malmed was Senior Vice President, Sales and Marketing at Prairetek, Inc., a manufacturer of disk drives. From 1983 to 1990, Mr. Malmed held various management positions at Maxtor. Mr. Malmed holds a B.S. degree in Mechanical Engineering from the University of Paris. Mr. Daniel Auclair has served as Vice President, Systems Engineering from 1990 to June 1993, Vice President, Engineering and Technology from June 1993 to July 1995 and as Senior Vice President, Operations/Technology since July 1995. From 1988 to 1990, Mr. Auclair was Vice President of Engineering at Anamartic, a company that utilizes wafer scale technology to build DRAM mass storage systems. From 1984 to 1988, Mr. Auclair was Vice President and General Manager of the OMTI division of Scientific Micro Systems, a supplier of disk controllers and disk controller chips to the disk drive industry. Mr. Auclair holds a B.S. degree in Engineering Physics from the University of Maine and an M.S. degree in Computer Science from the University of Santa Clara. 40 Ms. Marianne F. Jackson has served as Vice President of Human Resources since April 1995. From September 1994 to March 1995, Ms. Jackson was President of M.F. Jackson & Associates, a consulting firm that provided human resource and organizational development consulting services. From 1993 to 1994, Ms. Jackson served as Vice President of Worldwide Human Resources at Logitech, Inc., a leading manufacturer of computer accessories and software products. Prior to 1993, Ms. Jackson was Director of Human Resources at Silicon Graphics, Inc. and Sun Microsystems, Inc. Ms. Jackson holds B.A. degrees in Psychology and Sociology from the University of California at Santa Barbara. Mr. Irwin Federman has served as Chairman of the Board of Directors since September 1988. Since April 1990, Mr. Federman has been a general partner in U.S. Venture Partners, a venture capital firm. From 1988 to 1990, he was a Managing Director of Dillon Read & Co., an investment banking firm, and a general partner in its venture capital affiliate, Concord Partners. From August 1987 to December 1987, Mr. Federman was Vice Chairman of AMD, which acquired Monolithic Memories, a corporation engaged in the production of integrated circuits, with which he was affiliated for 16 years. From 1979 to 1987, Mr. Federman was President of Monolithic Memories. Mr. Federman served as Chairman of the Semiconductor Industry Association from 1986 to 1988. He is also a director of Checkpoint Software Technologies Ltd., Komag Incorporated, NeoMagic Corporation, TelCom Semiconductor, Inc., Western Digital Corporation and various private corporations. Mr. Federman holds a B.S. degree from Brooklyn College. Mr. William V. Campbell has served as a director of the Company since October 1993. Mr. Campbell has been President and Chief Executive Officer and a director of Intuit Inc. since April 1994. From 1991 to 1993, Mr. Campbell was President and Chief Executive Officer of GO Corporation, a pen-based computing software company. From 1987 to 1991, Mr. Campbell was President and Chief Executive Officer of Claris Corporation, a software subsidiary of Apple Computer Inc. Mr. Campbell holds both B.A. and M.A. degrees in Economics from Columbia University. Ms. Catherine Lego has served as a director of the Company since March 1989. Ms. Lego has been self-employed with her consulting firm, Lego Ventures, since 1992. From 1981 to 1992, Ms. Lego held various positions with Oak Investment Partners, a venture capital firm and was general partner of several of the venture capital partnerships affiliated with Oak Investment Partners. Ms. Lego is a Certified Public Accountant and holds a B.A. degree in Economics from Williams College and an M.S. degree in Accounting from the New York University Graduate School of Business. Dr. James D. Meindl has served as a director of the Company since March 1989. Dr. Meindl has been the Joseph M. Pettit Chair Professor of Microelectronics at the Georgia Institute of Technology in Atlanta, Georgia since 1993. From 1986 to 1993, Dr. Meindl served as Senior Vice President for Academic Affairs and Provost of Rensselaer Polytechnic Institute. From 1967 to 1986, he was the John M. Fluke Professor of Electrical Engineering at Stanford University. Dr. Meindl serves as a director of Zoran, Inc. Dr. Meindl holds B.S., M.S. and Ph.D. degrees in Electrical Engineering from Carnegie-Mellon University. Mr. Joseph Rizzi has served as a director of the Company since February 1992. Mr. Rizzi has been a general partner of Matrix II L.P. and Matrix III L.P. since 1986. From 1979 to 1986, Mr. Rizzi was Chief Executive Officer of ELXSI Inc., of which is he is a founder. From 1969 to 1978, Mr. Rizzi was Vice President of Intersil Inc., of which he is a founder. Mr. Rizzi also serves as a director of Veritas Software, Inc. Mr. Rizzi holds B.S. and M.S. degrees in Electrical Engineering from the University of New Hampshire. Mr. Alan F. Shugart has served as a director of the Company since January 1993. Mr. Shugart has served as Chief Executive Officer of Seagate since its inception in 1979, President of Seagate since September 1991 and Chairman of the Board of Directors of Seagate since October 1992. He also served as Chairman of the Board of Directors of Seagate from its inception until September 1991 and Chief Operating Officer of Seagate from September 1991 to March 1995. Mr. Shugart is also a director of Valence Technology, Inc. Mr. Shugart holds a B.S. degree in Engineering/Physics from the University of Redlands. 41 UNDERWRITERS Under the terms and subject to conditions contained in an Underwriting Agreement dated the date hereof the ("Underwriting Agreement"), the Underwriters named below the ("Underwriters"), for whom Morgan Stanley & Co. Incorporated, Goldman, Sachs & Co. and BancAmerica Robertson Stephens are serving as Representatives (the "Representatives"), have severally agreed to purchase, and the Company has agreed to sell to the Underwriters, severally, the respective number of shares set forth opposite their names below:
NUMBER OF NAME SHARES ---- --------- Morgan Stanley & Co. Incorporated.................................. Goldman, Sachs & Co................................................ BancAmerica Robertson Stephens..................................... --------- Total.......................................................... 3,000,000 =========
The Underwriting Agreement provides that the obligations of the several Underwriters to pay for and accept delivery of the shares of Common Stock offered hereby are subject to the approval of certain legal matters by counsel, and to certain other conditions. The Underwriters are obligated to take and pay for all of the shares of Common Stock offered hereby (other than those covered by the over-allotment option described below) if any are taken. The Underwriters initially propose to offer part of the shares of Common Stock offered hereby directly to the public at the public offering price set forth on the cover page hereof and part to certain dealers at a price that represents a concession not in excess of $ a share under the public offering price. Any Underwriter may allow, and such dealers may reallow, a concession not in excess of $ a share to other Underwriters or to certain other dealers. After the initial offering of the shares of Common Stock, the offering price and other selling terms may from time to time be varied by the Representatives. Pursuant to the Underwriting Agreement, the Company has granted to the Underwriters an option, exercisable for 30 days from the date of this Prospectus, to purchase up to an aggregate of 450,000 additional shares of Common Stock at the public offering price set forth on the cover page hereof, less underwriting discounts and commissions. The Underwriters may exercise such option to purchase solely for the purpose of covering over-allotments, if any, incurred in the sale of the shares of Common Stock offered hereby. To the extent such option is exercised, each Underwriter will become obligated, subject to certain conditions, to purchase approximately the same percentage of such additional shares as the number set forth next to such Underwriter's name in the preceding table bears to the total number of shares of Common Stock set forth next to the names of all the Underwriters in the preceding table. The Company and the Underwriters have agreed to indemnify each other against certain liabilities, including liabilities under the Securities Act of 1933, as amended. Each of the Company and the directors, executive officers and certain other shareholders of the Company has agreed that, without the prior written consent of Morgan Stanley & Co. Incorporated on behalf of the Underwriters, it will not, during the period ending 90 days after the date of this Prospectus, (i) offer, pledge, sell, contract to sell, sell any option or contract to purchase, purchase any option or contract to sell, grant any option, right or warrant to purchase or otherwise transfer, lend or dispose of, directly or indirectly, any shares of Common Stock or any securities convertible into or exercisable or exchangeable for Common Stock or (ii) enter 42 into any swap or other arrangement that transfers to another, in whole or in part, any of the economic consequences of ownership of the Common Stock, whether any such transaction described in clause (i) or (ii) above is to be settled by delivery of Common Stock or such other securities, in cash or otherwise. However, the executive officers and directors of the Company may, without such consent, sell an aggregate of up to 100,000 shares, which shall include no more than 40,000 shares by any one person. Additionally, the Company may, without such consent, grant options or issue stock upon the exercise of outstanding stock options pursuant to the Company's stock option plans. In order to facilitate the offering of the Common Stock, the Underwriters may engage in transactions that stabilize, maintain or otherwise affect the price of the Common Stock. Specifically, the Underwriters may over-allot in connection with the offering, creating a short position in the Common Stock for their own account. In addition, to cover over-allotments or to stabilize the price of the Common Stock, the Underwriters may bid for, and purchase, shares of Common Stock in the open market. Finally, the underwriting syndicate may reclaim selling concessions allowed to an Underwriter or a dealer for distributing the Common Stock in the offering, if the syndicate repurchases previously distributed Common Stock in transactions to cover syndicate short positions, in stabilization transactions or otherwise. Any of these activities may stabilize or maintain the market price of the Common Stock above independent market levels. The Underwriters are not required to engage in these activities, and may end any of these activities at any time. The Underwriters and dealers may engage in passive market marking, transactions in the Common Stock in accordance with Rule 103 of Regulation M promulgated by the Securities and Exchange Commission (the "Commission"). In general, a passive market maker may not bid for, or purchase, the Common Stock at a price that exceeds the highest independent bid. In addition, the net daily purchases made by any passive market maker generally may not exceed 30% of its average daily trading volume in the Common Stock during a specified two month prior period, or 200 shares, which ever is greater. A passive market maker must indemnify passive market making bids as such on the Nasdaq electronic inter-dealer reporting system. Passive market making may stabilize or maintain the market price of the Common Stock above independent market levels. Underwriters and dealers are not required to engage in passive market making and may end passive market making activities at any time. LEGAL MATTERS The validity of the issuance of the shares of Common Stock offered hereby will be passed upon for the Company by Brobeck, Phleger & Harrison LLP, Palo Alto, California. Members of the firm Brobeck, Phleger & Harrison LLP beneficially own an aggregate of 6,540 shares of the Company's Common Stock. Certain legal matters in connection with this offering will be passed upon for the Underwriters by Wilson Sonsini Goodrich & Rosati, Professional Corporation, Palo Alto, California. EXPERTS The consolidated financial statements of SanDisk Corporation at December 31, 1995 and 1996 and for each of the three years in the period ended December 31, 1996 appearing in this Prospectus and Registration Statement and in SanDisk Corporation's Annual Report (Form 10-K) for the year ended December 31, 1996 have been audited by Ernst & Young LLP, independent auditors, as set forth in their report thereon appearing elsewhere herein and as set forth in their report included in the Form 10-K and incorporated herein by reference. Such consolidated financial statements are included herein and incorporated herein by reference in reliance upon such reports given upon the authority of such firm as experts in accounting and auditing. 43 AVAILABLE INFORMATION The Company is subject to the informational requirements of the Exchange Act, and in accordance therewith files reports, proxy and information statements, and other information with the Commission. Such reports, proxy and information statements, and other information filed by the Company can be inspected and copied at the public reference facilities maintained by the Commission at 450 Fifth Street, N.W., Washington, D.C., as well as the regional offices of the Commission located at Citicorp Center, 500 West Madison Street, Suite 1400, Chicago, Illinois, and Seven World Trade Center, Suite 1300, New York, New York. Copies of such materials can be obtained from the Public Reference Section of the Commission at 450 Fifth Street, N.W., Washington, D.C. 20549 at prescribed rates. The Company's Common Stock is listed on the Nasdaq National Market. The Commission maintains a World Wide Web site that contains reports, proxy and information statements, and other information filed through the Commission's Electronic Data Gathering Analysis and Retrieval System. This Web site can be accessed at http://www.sec.gov. The Company has filed with the Commission a Registration Statement on Form S-3 (together with all amendments and exhibits thereto, the "Registration Statement") under the Securities Act with respect to the Common Stock offered hereby. This Prospectus does not contain all of the information set forth in the Registration Statement and the exhibits and schedules thereto, certain parts of which are omitted in accordance with the rules and regulations of the Commission. For further information with respect to the Company and such Common Stock, reference is made to the Registration Statement and the exhibits and schedules thereto. Statements contained in this Prospectus as to the contents of any contract or any other document referred to are not necessarily complete, and, in each instance, reference is made to the copy of such contract or document filed as an exhibit to the Registration Statement, each such statement being qualified in all respects by such reference. Copies of the Registration Statement, including all exhibits thereto, may be inspected without charge at the Commission's principal office in Washington, D.C., and copies of all or any part thereof may be obtained from the Public Reference Section, Securities and Exchange Commission, Washington, D.C. 20549, upon payment of the prescribed fees. 44 SANDISK CORPORATION CONSOLIDATED FINANCIAL STATEMENTS CONTENTS
PAGE ---- FOR YEARS ENDED DECEMBER 31, 1994, 1995 AND 1996 (AUDITED) Report of Ernst & Young LLP, Independent Auditors......................... F-2 Consolidated Balance Sheets............................................... F-3 Consolidated Statements of Operations..................................... F-4 Consolidated Statements of Stockholders' Equity........................... F-5 Consolidated Statements of Cash Flows..................................... F-6 Notes to Consolidated Financial Statements................................ F-7 FOR THE NINE MONTHS ENDED SEPTEMBER 30, 1996 AND 1997 (UNAUDITED) Condensed Consolidated Balance Sheets..................................... F-19 Condensed Consolidated Statements of Income............................... F-20 Condensed Consolidated Statements of Cash Flows........................... F-21 Notes to Condensed Consolidated Financial Statements...................... F-22
F-1 REPORT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS The Board of Directors and Stockholders SanDisk Corporation We have audited the accompanying consolidated balance sheets of SanDisk Corporation as of December 31, 1995 and 1996, and the related consolidated statements of operations, stockholders' equity, and cash flows for each of the three years in the period ended December 31, 1996. These financial statements are the responsibility of the Company's management. Our responsibility is to express an opinion on these financial statements based on our audits. We conducted our audits in accordance with generally accepted auditing standards. Those standards require that we plan and perform the audit to obtain reasonable assurance about whether the financial statements are free of material misstatement. An audit includes examining, on a test basis, evidence supporting the amounts and disclosures in the financial statements. An audit also includes assessing the accounting principles used and significant estimates made by management, as well as evaluating the overall financial statement presentation. We believe that our audits provide a reasonable basis for our opinion. In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the consolidated financial position of SanDisk Corporation at December 31, 1995 and 1996 and the consolidated results of its operations and its cash flows for each of the three years in the period ended December 31, 1996, in conformity with generally accepted accounting principles. Ernst & Young LLP San Jose, California January 17, 1997, except for Note 4 for which the date is February 26, 1997 F-2 SANDISK CORPORATION CONSOLIDATED BALANCE SHEETS (IN THOUSANDS, EXCEPT SHARE AND PER SHARE AMOUNTS)
YEARS ENDED DECEMBER 31, ----------------- 1995 1996 ------- -------- ASSETS ------ Current assets: Cash and cash equivalents................................. $27,255 $ 19,323 Short-term investments.................................... 41,140 54,965 Accounts receivable, net of allowance for doubtful accounts of $593 in 1995 and 1996........................ 8,428 11,885 Inventories............................................... 10,411 9,630 Prepaid expenses and other current assets................. 534 1,684 ------- -------- Total current assets...................................... 87,768 97,487 Property and equipment, at cost: Machinery and equipment................................... 10,900 17,937 Leasehold improvements.................................... 354 1,695 ------- -------- 11,254 19,632 Accumulated depreciation and amortization................. 7,000 9,347 ------- -------- 4,254 10,285 Deposits and other assets................................... 125 496 ------- -------- Total assets................................................ $92,147 $108,268 ======= ======== LIABILITIES AND STOCKHOLDERS' EQUITY ------------------------------------ Current liabilities: Accounts payable.......................................... $ 9,053 $ 7,595 Accrued payroll and related expenses...................... 1,946 2,857 Other accrued liabilities................................. 2,862 4,354 Deferred income........................................... 5,905 5,652 ------- -------- Total current liabilities................................. 19,766 20,458 Commitments and contingencies Stockholders' equity: Preferred stock, $0.001 par value Authorized shares: 4,000,000 Issued and outstanding: none............................. -- -- Common stock, $0.001 par value Authorized shares: 40,000,000 Issued and outstanding: 22,004,820 in 1995 and 22,326,584 in 1996.................................................. 22 22 Capital in excess of par value............................ 97,272 98,211 Accumulated deficit....................................... (24,913) (10,423) ------- -------- Total stockholders' equity.................................. 72,381 87,810 ------- -------- Total liabilities and stockholders' equity.................. $92,147 $108,268 ======= ========
The accompanying notes are an integral part of these consolidated financial statements F-3 SANDISK CORPORATION CONSOLIDATED STATEMENTS OF OPERATIONS (IN THOUSANDS, EXCEPT PER SHARE DATA)
YEARS ENDED DECEMBER 31, ------------------------- 1994 1995 1996 ------- ------- ------- Revenues Product.......................................... $35,378 $61,589 $89,599 Royalties........................................ -- 1,250 8,000 ------- ------- ------- Total revenues..................................... 35,378 62,839 97,599 Cost of revenues................................... 28,074 36,613 58,707 ------- ------- ------- Gross profits...................................... 7,304 26,226 38,892 Operating expenses Research and development......................... 5,918 8,043 10,181 Sales and marketing.............................. 3,996 6,564 8,792 General and administrative....................... 2,171 3,842 7,445 ------- ------- ------- Total operating expenses........................... 12,085 18,449 26,418 ------- ------- ------- Operating income (loss)............................ (4,781) 7,777 12,474 Interest and other income, net..................... 593 1,749 3,154 Interest expense................................... (99) (37) (3) ------- ------- ------- Income (loss) before taxes......................... (4,287) 9,489 15,625 Provision for income taxes......................... -- 424 1,140 ------- ------- ------- Net income (loss).................................. $(4,287) $ 9,065 $14,485 ------- ------- ------- Net income (loss) per share (pro forma for 1994) Primary.......................................... $ (0.23) $ 0.91 $ 0.60 Fully diluted.................................... $ (0.23) $ 0.43 $ 0.60 ------- ------- ------- Shares used in computing net income (loss) per share (pro forma for 1994) Primary.......................................... 18,872 9,983 24,206 Fully diluted.................................... 18,872 20,856 24,206 ------- ------- -------
The accompanying notes are an integral part of these consolidated financial statements F-4 SANDISK CORPORATION CONSOLIDATED STATEMENTS OF STOCKHOLDERS' EQUITY (IN THOUSANDS)
CONVERTIBLE PREFERRED STOCK COMMON STOCK CAPITAL IN TOTAL --------------- ------------- EXCESS OF ACCUMULATED STOCKHOLDERS' SHARES AMOUNT SHARES AMOUNT PAR VALUE DEFICIT EQUITY ------- ------ ------ ------ ---------- ----------- ------------- Balance at January 1, 1994................... 14,649 $ 15 2,722 $ 3 $57,535 $(29,691) $27,862 Exercise of preferred stock warrants......... 15 -- -- -- 62 -- 62 Exercise of common stock grants and options for cash, net of repurchases............ -- -- 111 -- 35 -- 35 Net loss................ -- -- -- -- -- (4,287) (4,287) ------- ---- ------ --- ------- -------- ------- Balance at December 31, 1994................... 14,664 15 2,833 3 57,632 (33,978) 23,672 Sale of preferred stock, net of issuance costs.. 665 -- -- -- 6,215 -- 6,215 Conversion of preferred stock into common stock at IPO................. (15,329) (15) 15,329 15 -- -- -- Initial Public Offering, net of issuance costs.. -- -- 3,701 4 33,336 -- 33,340 Exercise of common stock grants and options for cash, net of repurchases............ -- -- 142 -- 89 -- 89 Net income.............. -- -- -- -- -- 9,065 9,065 ------- ---- ------ --- ------- -------- ------- Balance at December 31, 1995................... -- -- 22,005 22 97,272 (24,913) 72,381 Exercise of common stock grants and options by employees for cash..... -- -- 168 -- 95 -- 95 Issuance of stock pursuant to employee stock purchase plan.... -- -- 92 -- 783 -- 783 Exercise of common stock warrants............... -- -- 62 -- -- -- -- Income tax benefit from stock options exercised.............. -- -- -- -- 61 -- 61 Unrealized gain on available for sale securities............. -- -- -- -- -- 5 5 Net income.............. -- -- -- -- -- 14,485 14,485 ------- ---- ------ --- ------- -------- ------- Balance at December 31, 1996................... -- $-- 22,327 $22 $98,211 $(10,423) $87,810 ======= ==== ====== === ======= ======== =======
The accompanying notes are an integral part of these consolidated financial statements F-5 SANDISK CORPORATION CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS)
YEARS ENDED DECEMBER 31, ---------------------------- 1994 1995 1996 -------- -------- -------- CASH FLOWS FROM OPERATING ACTIVITIES: Net income (loss)............................... $ (4,287) $ 9,065 $ 14,485 Adjustments to reconcile net income (loss) to net cash provided by operating activities: Depreciation.................................. 1,952 1,625 2,347 Deferred tax.................................. -- -- (1,000) Changes in assets and liabilities: Accounts receivable......................... (1,396) (4,311) (3,457) Inventory................................... 325 (6,337) 781 Prepaid expenses and other current assets... 130 (293) (250) Deposits and other assets................... (161) 581 (271) Accounts payable............................ 2,167 4,721 (1,458) Accrued payroll and related expenses........ 422 1,000 911 Other accrued liabilities................... 940 1,031 1,590 Deferred income............................. 558 5,348 (253) Pledged cash................................ 1,000 -- -- -------- -------- -------- Total adjustments............................. 5,937 3,365 (1,060) -------- -------- -------- Net cash provided by operating activities....... 1,650 12,430 13,425 -------- -------- -------- CASH FLOWS FROM INVESTING ACTIVITIES: Purchases of short-term investments (23,867) (40,326) (47,977) Proceeds from short-term investments............ 29,155 8,711 34,157 Acquisition of property and equipment........... (1,369) (3,791) (8,378) -------- -------- -------- Net cash provided by (used in) investing activities..................................... 3,919 (35,406) (22,198) -------- -------- -------- CASH FLOWS FROM FINANCING ACTIVITIES: Sale of common stock and warrants, net of repurchases.................................... 35 33,429 939 Sale of convertible preferred stock, net of issuance costs................................. 62 6,215 -- Principal payments under capital leases......... (629) (523) (98) -------- -------- -------- Net cash provided by (used in) financing activities..................................... (532) 39,121 841 -------- -------- -------- Net increase (decrease) in cash and cash equivalents.................................... 5,037 16,145 (7,932) -------- -------- -------- Cash and cash equivalents at beginning of year.. 6,073 11,110 27,255 -------- -------- -------- Cash and cash equivalents at end of year........ $ 11,110 $ 27,255 $ 19,323 ======== ======== ======== SUPPLEMENTAL DISCLOSURE OF CASH FLOW INFORMATION: Cash paid during the period for interest........ $ 99 $ 37 $ 3 Cash paid for income taxes...................... -- $ 219 $ 451 Conversion of preferred stock to common stock... -- $ 63,683 $ --
The accompanying notes are an integral part of these consolidated financial statements F-6 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS NOTE 1: ORGANIZATION AND SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES Organization and Nature of Operations SanDisk Corporation (the Company) was incorporated in Delaware on June 1, 1988, to design, manufacture, and market industry-standard, solid-state mass storage products using proprietary, high-density flash memory technology. The Company serves customers in the industrial, communications, highly portable computing and consumer electronics markets. Principal geographic markets for the Company's products include the United States, Japan, the Far East and Europe. In August 1995, the Company changed its name from SunDisk Corporation to SanDisk Corporation. Supplier and Customer Concentrations A limited number of customers historically have accounted for a substantial portion of the Company's revenues. Epson Hanbai, Hewlett Packard and NEC USA, Inc. accounted for approximately 20%, 19% and 11%, respectively, of total revenues in 1994. Three of the Company's customers, Epson Hanbai, Kyocera and Hewlett Packard accounted for approximately 26%, 14% and 12%, respectively, of total revenues in 1995. Epson Hanbai accounted for approximately 26% of total revenues in 1996. No other distributor or OEM customer constituted 10% or more of revenues in the periods presented. Sales of the Company's products will vary as a result of fluctuations in market demand for such customers' products. Further, the flash data storage markets in which the Company competes are characterized by rapid technological change, evolving industry standards, declining average selling prices and rapid technological obsolescence. Certain of the raw materials used by the Company in the manufacture of its products are available from a limited number of suppliers. For example, all of the Company's products require silicon wafers which are currently supplied by two foundries, Matsushita in Japan and LG Semicon in Korea. As well, certain key components such as controllers, are purchased from single source vendors for which alternative sources are currently not available. Shortages could occur in these essential materials due to the interruption of supply or increased demand in the industry. If the Company were unable to procure certain of such materials, it would be required to reduce its manufacturing operations which could have a material adverse effect upon its results of operations. Use of Estimates The preparation of financial statements in conformity with generally accepted accounting principles requires management to make estimates and assumptions that affect the amounts reported in the financial statements and accompanying notes. Actual results could differ from those estimates. Basis of Presentation The Company's fiscal year ends on the Sunday closest to December 31. Fiscal year 1996 ended on December 29, 1996. Fiscal years 1995 and 1994 ended on December 31, 1995 and January 1, 1995, respectively. For ease of presentation, the accompanying financial statements have been shown as ending on the last day of the calendar month. Principles of Consolidation The consolidated financial statements include the accounts of the Company and its wholly owned subsidiaries. All significant intercompany balances and transactions have been eliminated. F-7 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Foreign Currency Transactions Foreign operations are measured using the U.S. dollar as the functional currency. Accordingly, monetary accounts (principally cash, receivables, and liabilities) are remeasured using the foreign exchange rate at the balance sheet date. Operations accounts and nonmonetary balance sheet accounts are remeasured at the rate in effect at the date of transaction. The effects of foreign currency remeasurement are reported in current operations and have not been material in the periods presented. Cash Equivalents and Short-Term Investments Cash equivalents consist of short-term, highly liquid financial instruments with insignificant interest rate risk that are readily convertible to cash and have maturities of three months or less from the date of purchase. Cash equivalents and short-term investments consist of money market funds, taxable commercial paper, U.S. Treasury bills, U.S. government agency obligations, corporate notes and bonds with high-credit quality institutions and auction rate preferred stock. The fair market value, based on quoted market prices, of cash equivalents and short-term investments is substantially equal to their carrying value at December 31, 1996 and 1995. Under FAS 115, management classifies investments as available-for-sale at the time of purchase and periodically reevaluates such designation. Debt securities classified as available-for-sale and are reported at fair value. Unrecognized gains or losses on available-for-sale securities are included, net of tax, in equity until their disposition. Realized gains and losses and declines in value judged to be other than temporary on available-for-sale securities are included in interest income. The cost of securities sold is based on the specific identification method. All cash equivalents and short-term investments as of December 31, 1995 and 1996 are classified as available-for-sale securities and consist of the following:
DECEMBER 31, --------------- 1995 1996 ------- ------- (IN THOUSANDS) Cash equivalents: Money market fund......................................... $ 1,198 $ 4,639 Commercial paper.......................................... -- 6,370 Corporate notes/bonds..................................... 2,000 5,894 ------- ------- Total................................................... $ 3,198 $16,903 ======= ======= Short term investments: U.S. Treasury bills and U.S. government agency obligations.............................................. $ 7,515 $ 4,183 Corporate notes/bonds..................................... 30,625 49,782 Auction rate preferred stock.............................. 3,000 1,000 ------- ------- Total................................................... $41,140 $54,965 ======= =======
Unrealized holding gains and losses on available-for-sale securities at December 31, 1996 and 1995 and gross realized gains and losses on sales of available-for-sale securities during the years ended December 31, 1996 and 1995 were immaterial. F-8 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Debt securities at December 31, 1995 and 1996, by contractual maturity, are shown below. Expected maturities may differ from contractual maturities because issuers of the securities may have the right to prepay obligations.
DECEMBER 31, --------------- 1995 1996 ------- ------- (IN THOUSANDS) Short-term investments: Due in one year or less................................... $24,854 $49,675 Due after one year through two years...................... 16,286 5,290 ------- ------- Total................................................... $41,140 $54,965 ======= =======
Inventories Inventories are stated at the lower of cost or market. Cost is computed on a currently adjusted standard basis (which approximates actual costs on a first- in, first-out basis). Market value is based upon an estimated average selling price reduced by normal gross margins. Inventories are as follows:
DECEMBER 31, -------------- 1995 1996 ------- ------ (IN THOUSANDS) Raw materials................................................. $ 2,753 $3,858 Work-in-process............................................... 6,921 3,475 Finished goods................................................ 737 2,297 ------- ------ $10,411 $9,630 ======= ======
Given the volatility of the market, the Company makes inventory provisions for potentially excess and obsolete inventory based on backlog and forecasted demand. However, backlog is subject to revisions, cancellations and rescheduling. Actual demand may differ from forecasted demand and such differences may have a material effect on the financial statements. Depreciation and Amortization Depreciation is computed using the straight-line method over the estimated useful lives of the assets, generally two to seven years. Equipment under capital leases is amortized over the shorter of the estimated useful life of the asset or the term of the lease. Revenue Recognition Product revenue is generally recognized at the time of shipment, less a provision for estimated sales returns. However, revenue on shipments to distributors, subject to certain rights of return and price protection, is deferred until the merchandise is sold by the distributors or the rights expire. The Company earns royalties under certain patent cross license agreements. Royalty revenue is recognized when earned. Net Income (Loss) Per Share Primary net income (loss) per share is computed using the weighted average number of shares of common stock outstanding. In addition, common equivalent shares from Series C convertible preferred stock (using the if-converted method) and from stock options and warrants (using the treasury stock method or modified treasury F-9 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) stock method where applicable) have been included in the computation when dilutive. Pursuant to the Securities and Exchange Commission Staff Accounting Bulletins, common and common equivalent (common stock options and Series G preferred stock) shares issued by the Company at prices below the assumed public offering price during the twelve-month period prior to the offering have been included in the calculation as if they were outstanding for all periods presented prior to their issuance regardless of whether they are dilutive (using the treasury stock method and the anticipated initial public offering price). Pro forma net loss per share is presented for 1994. Per share information calculated on the above basis is as follows (shares in thousands):
YEARS ENDED DECEMBER 31, --------------------- 1994 1995 1996 ------ ------ ------ Primary net income (loss) per share applicable to common stockholders.................................. $(1.02) $ 0.91 $ 0.60 Shares used in computing primary net income (loss) per share................................................ 4,208 9,983 24,206 Fully diluted net income (loss) per share applicable to common stockholders............................... $(1.02) $ 0.43 $ 0.60 Shares used in computing fully diluted net income (loss) per share..................................... 4,208 20,856 24,206
Fully diluted earnings per share is calculated using net income and the shares used in the primary calculation, as well as other dilutive preferred stock (Series A, B, D, E, and F) which is not deemed to be a common stock equivalent for purposes of the primary earnings per share calculation. Supplemental net income per share for 1995 computed to give effect to the conversion of redeemable convertible preferred shares as of January 1, 1995 (using the if-converted method) was $0.43. Pro Forma Net Loss Per Share Pro forma net loss per share has been computed as described above and also gives effect, even if antidilutive, to common equivalent shares from convertible preferred stock that automatically converted upon the closing of the Company's initial public offering (using the if-converted method). All of the convertible preferred stock outstanding as of the closing date of the offering automatically converted on a one-for-one basis into shares of common stock, based on the number of shares of convertible preferred stock outstanding at the date of the offering. Stock Based Compensation The Company accounts for employee stock based compensation under APB Opinion No. 25, "Accounting for Stock Issued to Employees" and related interpretations. Pro forma net income and earnings per share are disclosures required by Statement of Financial Accounting Standards No. 123, "Accounting for Stock Based Compensation," and are included in Note 5. NOTE 2: FINANCIAL INSTRUMENTS Concentration of Credit Risk The Company's concentration of credit risk consists principally of cash, cash equivalents, short-term investments, and trade receivables. The Company's investment policy restricts investments to high-credit quality investments and limits the amounts invested with any one issuer. The Company sells primarily to original equipment manufacturers in the United States and Japan, performs ongoing credit evaluations of its customers' financial condition, and generally requires no collateral. Reserves are maintained for potential credit losses. F-10 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Off Balance Sheet Risk In connection with the credit agreement discussed in Note 3, the Company has a foreign exchange contract line in the amount of $15,000,000 at December 31, 1996. Under this line, the Company may enter into forward exchange contracts which require the Company to sell or purchase foreign currencies. There were no forward exchange contracts outstanding at December 31, 1996 and 1995. Certain of the Company's purchase commitments and balance sheet accounts are denominated in yen. Foreign exchange exposures arising from the Company's yen denominated purchase commitments and related accounts payable are mitigated to the extent the Company has yen denominated current assets. To the extent such foreign exchange exposures are not mitigated, the Company enters into foreign exchange contracts to hedge against changes in foreign currency exchange rates. The effects of movements in currency exchange rates on these instruments are recognized when the related operating revenues and expenses are recognized. The impact of movements in currency exchange rates on foreign exchange contracts substantially mitigates the related impact on the underlying items hedged. The Company had net transaction gains (losses) of approximately $109,000, ($20,000) and ($193,000) for the years ended December 31, 1994, 1995, and 1996, respectively. These amounts are included in interest and other income, net in the statement of operations. NOTE 3: LINE OF CREDIT The Company has a credit agreement (the Agreement) with a bank, which expires in July 1997. Under the provisions of the Agreement, the Company may borrow up to $10,000,000 on a revolving line of credit at the bank's prime interest rate (8.25% at December 31, 1996). Amounts under the revolving line of credit can be applied to the issuance of letters of credit of up to $10,000,000. At December 31, 1996, $6,200,000 in letters of credit were outstanding. In addition, under the Agreement, the Company also has a $15,000,000 foreign exchange contract line (see Note 2) under which the Company may enter into forward exchange contracts. No amounts were outstanding under the revolving line of credit portion of the Agreement and the foreign exchange contract portion of the line at December 31, 1996. The Agreement contains covenants that require the Company to maintain certain financial ratios and levels of net worth. The Agreement also does not permit the payment of cash dividends to stockholders. As of December 31, 1996, the Company was in compliance with the covenants. Based on available collateral and outstanding letters of credit, the amount available under the Agreement at December 31, 1996 was approximately $3,800,000. NOTE 4: COMMITMENTS AND CONTINGENCIES Commitments The Company leases its headquarters and sales offices under operating leases that expire at various dates through 2002. Future minimum lease payments under operating leases at December 31, 1996 are as follows:
YEAR ENDING DECEMBER 31, ------------------------ 1997........................................................ $1,049,784 1998........................................................ 1,595,320 1999........................................................ 1,623,644 2000........................................................ 1,666,440 2001........................................................ 1,211,110 Thereafter.................................................. 573,648 ---------- Total..................................................... $7,719,946 ==========
Rental expense under all operating leases was $730,000, $789,000 and $1,050,000 for the years ended December 31, 1994, 1995 and 1996 respectively. F-11 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Contingencies The Company is party to various legal proceedings. In October 1995, Samsung Electronics Company Ltd. filed a complaint against the Company in the Northern District of California accusing the Company of infringing two Samsung patents, seeking declaratory relief with respect to five Company patents and alleging unspecified damages for certain other related claims. As written, the complaint potentially implicates products that comprised substantially all of the Company's revenues for 1996 and 1995. The Company has received opinions from its patent counsel that, based on information currently known, the Company's products do not infringe one of these Samsung patents and that, based on certain assumptions as to how Samsung would claim infringement, the particular patent claim in the other Samsung patent that Samsung has accused the Company of infringing is invalid and that the Company's products do not infringe any of the other claims of such patent. Nonetheless, the Company anticipates that Samsung will continue to pursue litigation with respect to such claims. On January 11, 1996, the Company filed a complaint against Samsung with the United States International Trade Commission alleging that Samsung and its U.S. sales arm, are importing and selling products that infringe two of the Company's patents. By its complaint, the Company seeks a judgment by the International Trade Commission that Samsung is infringing the Company's patents and an order precluding Samsung from importing those infringing products into the United States. The U.S. International Trade Commission initiated an investigation based upon the Company's complaint against Samsung. On February 26, 1997, the Administrative Law Judge assigned to the case issued an Initial Determination finding both SanDisk patents valid and infringed and further finding a violation of Section 337 of the Trade Act. This decision will go to the International Trade Commission which will decide whether to approve the ruling and enter an exclusion or cease and desist order barring importation of Samsung flash memory devices. While the ruling is important, no assurance can be given that the Commission will enter an exclusion or cease and desist order. A final decision is expected in May, 1997. The Company relies on a combination of patents, mask work protection, trademarks, copyright and trade secret laws, confidentiality procedures and licensing arrangements to protect its intellectual property rights. There can be no assurance that there will not be any disputes regarding the Company's intellectual property rights. Specifically, there can be no assurance that any patents held by the Company will not be invalidated, that patents will be issued for any of the Company's pending applications or that any claims allowed from existing or pending patents will be of sufficient scope or strength or be issued in the primary countries where the Company's products can be sold to provide meaningful protection or any commercial advantage to the Company. Additionally, competitors of the Company may be able to design around the Company's patents. To preserve its intellectual property rights, the Company believes it may be necessary to initiate litigation with one or more third parties, including but not limited to those the Company has notified of possible patent infringement. In addition, one or more of these parties may bring suit against the Company. Any litigation, whether as a plaintiff or as a defendant, would likely result in significant expense to the Company and divert the efforts of the Company's technical and management personnel, whether or not such litigation is ultimately determined in favor of the Company. In the event of an adverse result in any such litigation, the Company could be required to pay substantial damages, cease the manufacture, use and sale of infringing products, expend significant resources to develop non-infringing technology, discontinue the use of certain processes or obtain licenses to the infringing technology. From time to time the Company agrees to indemnify certain of its suppliers and customers for alleged patent infringement. The scope of such indemnity varies but may in some instances include indemnification for damages and expenses, including attorneys fees. The Company may from time to time be engaged in litigation as a result of such indemnification obligations. Third party claims for patent infringement are excluded from coverage under the Company's insurance policies. There can be no assurance that any future obligation to indemnify the F-12 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Company's customers or suppliers, will not have a material adverse effect on the Company's business, financial condition and results of operations. Litigation frequently involves substantial expenditures and can require significant management attention, even if the Company ultimately prevails. In addition, the results of any litigation matters are inherently uncertain. Accordingly, there can be no assurance that any of the foregoing matters, or any future litigation, will not have a material adverse effect on the Company's business, financial condition and results of operations. NOTE 5: STOCKHOLDERS' EQUITY Stock Purchase Agreements Prior to the adoption of the 1989 Stock Benefit Plan, the Company entered into stock purchase agreements with certain eligible individuals. Under the stock purchase agreements, the Company authorized the sale of common stock to certain employees, directors, and consultants at the fair value on the date of grant, as determined by the Board of Directors. The shares sold under these agreements generally vest over four years as determined by the Board of Directors. Upon the termination of employment, director services, or consultant services, unvested shares are subject to repurchase by the Company at the original purchase price. Stock Benefit Plan The 1989 Stock Benefit Plan, in effect through August 1995, comprised two separate programs, the Stock Issuance Program and the Option Grant Program. The Stock Issuance Program allowed eligible individuals to immediately purchase the Company's common stock at a fair value as determined by the Board of Directors. Such shares may be fully vested when issued or may vest over time as determined by the Board of Directors. Under the Option Grant Program, eligible individuals were granted options to purchase shares of the Company's common stock at a fair value, as determined by the Board of Directors, of such shares on the date of grant. The options generally vest over a four-year period, expiring no later than ten years from the date of grant. Unexercised options are canceled upon the termination of employment or services. Options that are canceled under this plan will be available for future grants under the 1995 Stock Option Plan. There were no shares available for option grants under this plan at December 31, 1996. The 1995 Stock Option Plan provides for the issuance of incentive stock options and nonqualified stock options. Under this plan, the vesting and exercise provisions of option grants are determined by the Board of Directors. The options generally vest over a four-year period, expiring no later than ten years from the date of grant. 1995 Non-employee Directors Stock Option Plan In August 1995, the Company adopted the 1995 Non-employee Directors Stock Option Plan (the Directors' Plan) and reserved 150,000 shares of common stock for issuance thereunder. Under this plan, automatic option grants are made at periodic intervals to eligible non-employee members of the Board of Directors. The options vest over a four-year period and expire ten years after the date of grant. At December 31, 1996, a total of 72,000 options had been granted at an exercise prices of $10.00 and $13.375 per share. F-13 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) A summary of activity under all stock option plans follows:
TOTAL AVAILABLE FOR WEIGHTED FUTURE TOTAL AVERAGE GRANT/ISSUANCE OUTSTANDING EXERCISE PRICE -------------- ----------- -------------- (SHARES IN THOUSANDS) Balance at December 31, 1993....... 174 1,481 $ 0.46 Increase in authorized shares.... 667 -- Granted.......................... (715) 715 $ 1.58 Exercised........................ -- (113) $ 0.31 Canceled......................... 215 (215) $ 0.46 ----- ----- Balance at December 31, 1994....... 341 1,868 $ 0.89 Increase in authorized shares.... 1,566 -- Granted.......................... (790) 790 $ 6.41 Exercised........................ -- (141) $ 0.64 Canceled......................... 59 (59) $ 1.35 ----- ----- Balance at December 31, 1995....... 1,176 2,458 $ 2.67 Granted.......................... (922) 922 $12.35 Exercised........................ -- (168) $ 0.57 Canceled......................... 68 (68) $ 8.46 ----- ----- Balance at December 31, 1996....... 322 3,144 $ 5.49 ===== =====
At December 31, 1996, options outstanding were as follows:
OPTIONS OUTSTANDING OPTIONS EXERCISABLE ----------------------------------- -------------------------------- NUMBER WEIGHTED WEIGHTED NUMBER WEIGHTED RANGE OF OUTSTANDING AS OF AVERAGE REMAINING AVERAGE EXERCISABLE AS OF AVERAGE EXERCISE PRICES DECEMBER 31, 1996 CONTRACTUAL LIFE EXERCISE PRICE DECEMBER 31, 1996 EXERCISE PRICE --------------- ----------------- ----------------- -------------- ----------------- -------------- $ 0.15-$ 0.75 1,125,350 6.33 $ 0.5315 1,106,684 $ 0.54 $ 2.25-$ 4.50 466,453 8.04 $ 2.3467 462,153 $ 2.35 $ 6.75-$10.00 663,555 8.61 $ 6.9850 661,555 $ 6.99 $11.50-$14.62 886,050 9.87 $12.1884 24,000 $13.38 $17.25-$20.50 22,000 9.11 $17.3829 224 $20.50 --------- ---- -------- --------- ------ $ 0.15-$20.50 3,143,408 8.06 $ 5.4927 2,254,616 $ 2.94
There were 22,259 shares subject to repurchase under the Stock Benefit Plan or under stock purchase agreements at December 31, 1996. Approximately 46,359 shares were subject to repurchase at December 31, 1995. Employee Stock Purchase Plan In August 1995, the Company adopted the Employee Stock Purchase Plan (the Purchase Plan) and reserved 433,333 shares of common stock for issuance thereunder. Under the Purchase Plan, qualified employees are entitled to purchase shares through payroll deductions at 85% of the fair market value at the beginning or end of the offering period, whichever is lower. As of December 31, 1996, shares issued under the Purchase Plan totaled 92,350. F-14 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Accounting for Stock Based Compensation The Company has elected to follow APB 25 and related interpretations in accounting for its employee stock options because, as discussed below, the alternative fair value accounting provided for under SFAS 123 "Accounting for Stock-Based Compensation," requires use of option valuation models that were not developed for use in valuing employee stock options. Under APB 25, because the exercise price of the Company's stock options equals the market price of the underlying stock on the date of grant, no compensation expense is recognized. Pro forma information regarding net income and earnings per share is required by SFAS 123, which also requires that the information be determined as if the Company has accounted for its employee stock options granted subsequent to December 31, 1994 under the fair value method of this Statement. For all grants subsequent to December 31, 1994 that were granted prior to the Company's initial public offering in November 1995, the fair value of these options was determined using the minimum value method with a weighted average risk free interest rate of 6.32% and an expected life of 5 years. The fair value for the options granted subsequent to the Company's initial public offering in November 1995 was estimated at the date of grant using a Black-Scholes single option pricing model with the following weighted average assumptions: risk-free interest rates of 6.23% and 6.37% for 1996 and 1995, respectively; a dividend yield of 0.0%, a volatility factor of the expected market price of the Company's common stock of 0.588 and 0.513 for 1996 and 1995, respectively; and a weighted-average expected life of the option of 5 years. The weighted average fair value of those options granted were $6.80 and $3.34 for 1996 and 1995, respectively. The Black-Scholes option valuation model was developed for use in estimating the fair value of traded options which have no vesting restrictions and are fully transferable. In addition, option models require the input of highly subjective assumptions including the expected stock price volatility. Because the Company's employee stock options have characteristics significantly different from those of traded options, and because changes in the subjective assumptions can materially affect the fair value estimate, in management's opinion, the existing models do not necessarily provide a reliable single measure of the fair value of its employee stock options. Under the 1995 Employee Stock Purchase Plan, the Company is authorized to issue up to 433,333 shares of common stock to participating employees. Under the terms of the Plan, employees can choose to have up to 10% of their annual base earnings withheld to purchase the Company's common stock. The purchase price of the stock is 85% of the lower of the subscription date fair market value and the purchase date fair market value. Approximately 86% of eligible employees have participated in the plan in 1996 and 1995. Under the Plan, the Company sold 92,350 shares to employees in 1996. Pursuant to APB 25 and related interpretations, the Company does not recognize compensation cost related to employee purchase rights under the Plan. To comply with the pro forma reporting requirements of SFAS 123, compensation cost is estimated for the fair value of the employees' purchase rights using the Black-Scholes model with the following assumptions for those rights granted in 1996 and 1995: dividend yield of 0.0%; and expected life of 6 months; expected volatility factor of 0.588 in 1996 and 0.513 in 1995; and a risk free interest rate ranging from 5.36% to 5.48%. The weighted average fair value of those purchase rights granted in November 1995, February 1996 and August 1996 were $2.01, $2.47, and $2.52, respectively. F-15 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) Had compensation cost for the Company's stock-based compensation plans been determined based on the fair value at the grant dates for awards under those plans consistent with the method of SFAS 123, the Company's net income and earnings per share would have been reduced to the pro forma amounts indicated below:
YEARS ENDED DECEMBER 31, ---------------------- 1995 1996 ---------- ----------- Pro forma net income................................. $8,915,000 $13,553,000 Pro forma earnings per share......................... $ 0.43 $ 0.56
Because SFAS 123 is applicable only to options granted subsequent to December 31, 1994, its pro forma effect will not be fully reflected until 1999. Warrants The Company has periodically granted warrants in connection with the sale of its stock and certain lease and bank agreements. The Company has the following warrants outstanding to purchase capital stock at December 31, 1996:
ISSUANCE CAPITAL NUMBER OF PRICE PER EXPIRATION DATE STOCK SHARES SHARE DATE -------- ------- --------- --------- ------------- May 1990........................... Common 12,094 $6.615 May 2000 June 1990.......................... Common 66,665 $6.000 None June 1991.......................... Common 6,666 $6.615 June 1999 November 1991...................... Common 13,363 $6.615 November 1999 November 1992...................... Common 7,575 $3.300 June 1998
During 1996, the Company issued 61,744 shares of common stock for no proceeds in the net issuance of shares upon the exercise of 91,211 warrants with a weighted average exercise price of $4.17 per share. NOTE 6: RETIREMENT PLAN Effective January 1, 1992, the Company adopted a tax-deferred savings plan, the SanDisk 401(k) Plan, for the benefit of qualified employees. The plan is designed to provide employees with an accumulation of funds at retirement. Qualified employees may elect to make contributions to the plan on a monthly basis. The Company may make annual contributions to the plan at the discretion of the Board of Directors. No contributions were made by the Company for the years ended December 31, 1996, 1995 and 1994. NOTE 7: INCOME TAXES The provision for income taxes computed under Statement of Financial Accounting Standard No. 109 consists of the following:
DECEMBER 31, -------------------- 1995 1996 -------- ----------- Current: Federal.............................................. $312,000 $ 1,701,000 State................................................ 66,000 42,000 Foreign.............................................. 46,000 397,000 -------- ----------- $424,000 $ 2,140,000 Deferred: Federal.............................................. -- (1,000,000) -------- ----------- Provision for income taxes............................. $424,000 $ 1,140,000 ======== ===========
F-16 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) The Company's provision for income taxes differs from the amount computed by applying the federal statutory rates of 35% for 1996 and 1995 and 34% for 1994 to income before taxes as follows:
DECEMBER 31, -------------------- 1994 1995 1996 ----- ----- ----- Tax at U.S. statutory rate............................. (34.0)% 35.0% 35.0% Operating losses (utilized)/not utilized............... 34.0 (31.4) (17.4) Research credit........................................ -- -- (5.6) Valuation allowance.................................... -- -- (8.0) Foreign taxes in excess of U.S. rate................... -- -- 2.1 Other individually immaterial items.................... -- .9 1.2 ----- ----- ----- 0.0% 4.5% 7.3% ===== ===== =====
As of December 31, 1996, the Company had federal and state tax credit carryforwards of approximately $750,000 and $75,000, respectively. The tax credit carryforwards will expire at various dates beginning in years 2008 though 2011, if not utilized. Deferred income taxes reflect the net tax effects of temporary differences between the carrying amounts of assets and liabilities for financial reporting purposes and the amount used for income tax purposes. Significant components of the Company's deferred tax assets as of December 31, 1996 and 1995 are as follows:
DECEMBER 31, ----------------- 1995 1996 -------- ------- (IN THOUSANDS) Deferred tax assets: Inventory reserves...................................... $ 2,500 $ 2,500 Deferred revenue........................................ 2,300 2,000 Other................................................... 1,100 1,500 Tax credit carryforwards................................ 1,400 800 Fixed assets............................................ 800 350 Capitalized research and development.................... 500 300 Net operating loss carryforwards........................ 2,600 -- -------- ------- Total deferred tax assets............................. 11,200 7,450 Valuation allowance................................... (11,200) (6,450) -------- ------- Net deferred tax assets............................... $ -- $ 1,000 ======== =======
The valuation allowance increased $2,600,000 in 1994 and decreased by approximately $3,000,000 and $4,750,000 for 1995 and 1996, respectively. Management has determined, based on the Company's history of prior operating earnings and its expectations for the future, that a partial valuation allowance for deferred tax assets should be provided. Approximately $500,000 of the valuation allowance is attributable to stock option deductions, the benefit of which will be credited to paid in capital when realized. NOTE 8: RELATED PARTY TRANSACTIONS In January 1993, the Company entered into a joint cooperation agreement with a stockholder. Under the terms of the agreement, the stockholder had a nonexclusive right to distribute flash memory products produced by the Company. Revenues under the agreement were approximately $3,234,000 in 1994. There were no revenues attributable to this agreement in 1995 and 1996. The agreement was amended in October 1994. Under F-17 SANDISK CORPORATION NOTES TO CONSOLIDATED FINANCIAL STATEMENTS--(CONTINUED) the terms of the amended agreement, the stockholder relinquished its right to distribute flash memory products but has the option to reinstate this right in January 1999. In addition, under the terms of the amended agreement, the Stockholder returned approximately $0.8 million of inventory in November 1994. The Company sold the majority of this returned inventory in December 1994. Accordingly, the returned inventory did not have a material impact on the Company's statement of operations for the year ended December 31, 1994. NOTE 9: INDUSTRY AND GEOGRAPHIC INFORMATION The Company markets its products in the United States and in foreign countries through its sales personnel, dealers, distributors, and its subsidiaries. Export sales account for a significant portion of the Company's revenues. Geographic revenue information is as follows:
YEARS ENDED DECEMBER 31, -------------------------- 1994 1995 1996 -------- -------- -------- (IN THOUSANDS) United States..................................... $ 21,799 $ 27,230 $ 43,999 Export: Japan........................................... 11,300 24,255 43,947 Far East........................................ 1,689 8,125 4,314 Europe.......................................... 590 3,229 5,339 -------- -------- -------- Total............................................. $ 35,378 $ 62,839 $ 97,599 ======== ======== ========
NOTE 10: MAJOR CUSTOMERS Customers who accounted for at least 10% of total revenues were as follows:
YEARS ENDED DECEMBER 31, ---------------- 1994 1995 1996 ---- ---- ---- Epson Hanbai Co., Ltd......................................... 20% 26% 26% Hewlett-Packard Company....................................... 19% 12% * NEC USA, Inc.................................................. 11% * * Kyocera America, Inc.......................................... * 14% *
- -------- * Revenues were less than 10% F-18 SANDISK CORPORATION CONDENSED CONSOLIDATED BALANCE SHEETS (IN THOUSANDS)
DECEMBER 31, SEPTEMBER 30, 1996* 1997 ------------ ------------- (UNAUDITED) ASSETS ------ Current Assets: Cash and cash equivalents.......................... $ 19,323 $ 18,337 Short-term investments............................. 54,965 41,986 Accounts receivable, net........................... 11,885 22,681 Inventories, net................................... 9,630 11,320 Prepaid expenses and other current assets.......... 1,684 4,491 -------- -------- Total current assets................................. 97,487 98,815 Property and equipment, net.......................... 10,285 13,284 Investment in joint venture.......................... -- 40,231 Deposits and other assets............................ 496 489 -------- -------- Total Assets..................................... $108,268 $152,819 ======== ======== LIABILITIES AND STOCKHOLDERS' EQUITY ------------------------------------ Current Liabilities: Accounts payable................................... $ 7,595 $ 11,165 Accrued payroll and related expenses............... 2,857 4,240 Other accrued liabilities.......................... 4,354 3,394 Deferred revenue................................... 5,652 31,994 -------- -------- Total current liabilities............................ 20,458 50,793 Stockholders' Equity: Common stock....................................... 98,233 99,837 Retained earnings (accumulated deficit)............ (10,423) 2,189 -------- -------- Total stockholders' equity........................... 87,810 102,026 -------- -------- Total Liabilities and Stockholders' Equity....... $108,268 $152,819 ======== ========
- -------- * Information derived from the audited Consolidated Financial Statements. The accompanying notes are an integral part of these condensed consolidated financial statements. F-19 SANDISK CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF INCOME (IN THOUSANDS, EXCEPT PER SHARE DATA; UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, 1996 1997 -------- -------- Revenues: Product.................................................... $ 67,599 $ 72,335 License and royalty........................................ 3,750 12,600 -------- -------- Total revenues............................................... 71,349 84,935 Cost of sales................................................ 43,538 49,476 -------- -------- Gross profits................................................ 27,811 35,459 Operating expenses: Research and development................................... 7,280 9,634 Sales and marketing........................................ 6,467 8,728 General and administrative................................. 5,580 4,933 -------- -------- Total operating expenses..................................... 19,327 23,295 Operating income............................................. 8,484 12,164 Interest and other income, net............................... 2,320 2,680 -------- -------- Income before taxes.......................................... 10,804 14,844 Provision for income taxes................................... 702 2,227 -------- -------- Net income................................................... $10,102 $12,617 ======== ======== Net income per share......................................... $ 0.42 $ 0.51 ======== ======== Shares used in computing net income per share................ 24,204 24,504 ======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements. F-20 SANDISK CORPORATION CONDENSED CONSOLIDATED STATEMENTS OF CASH FLOWS (IN THOUSANDS; UNAUDITED)
NINE MONTHS ENDED SEPTEMBER 30, ------------------ 1996 1997 -------- -------- Cash flows provided by (used in) operating activities: Net income................................................ $ 10,102 $ 12,617 Adjustments to reconcile net income to net cash used in operating activities: Depreciation............................................ 1,641 2,839 Accounts receivable, net................................ (1,407) (10,796) Inventory............................................... 1,294 (1,690) Prepaids and other assets............................... (412) (2,800) Accounts payable........................................ (398) 3,570 Accrued payroll and related expenses.................... 858 1,383 Other accrued liabilities............................... 320 (960) Deferred revenue........................................ 141 26,342 -------- -------- Total adjustments.................................... 2,037 17,888 -------- -------- Net cash provided by operating activities................. 12,139 30,505 Cash flows provided by (used in) investing activities: Purchase of short term investments...................... (34,520) (17,859) Proceeds from sale of short term investments............ 26,695 30,833 Acquisition of capital equipment........................ (6,025) (5,838) Investment in joint venture............................. -- (40,231) -------- -------- Net cash used in investing activities..................... (13,850) (33,095) Cash flows provided by (used in) financing activities: Sale of common stock, net of repurchases................ 855 1,604 Principal payments under capital leases................. (98) -- -------- -------- Net cash provided by financing activities................. 757 1,604 -------- -------- Net decrease in cash and cash equivalents................. (954) (986) Cash and cash equivalents at beginning of period.......... 27,255 19,323 -------- -------- Cash and cash equivalents at end of period................ $ 26,301 $ 18,337 ======== ========
The accompanying notes are an integral part of these condensed consolidated financial statements. F-21 SANDISK CORPORATION NOTES TO CONDENSED CONSOLIDATED FINANCIAL STATEMENTS 1. These interim condensed consolidated financial statements are unaudited but reflect, in the opinion of management, all normal recurring adjustments necessary to present fairly the financial position of SanDisk Corporation and Subsidiaries (the "Company") as of September 30, 1997, and the results of operations and cash flows for the nine month periods ended September 30, 1997 and 1996. Because all the disclosures required by generally accepted accounting principles are not included, these interim condensed consolidated financial statements should be read in conjunction with the audited financial statements and notes thereto included elsewhere herein. The condensed consolidated balance sheet data as of December 31, 1996 was derived from the audited financial statements. The results of operations and the statement of cash flows for the nine months ended September 30, 1997 are not necessarily indicative of results of operations and cash flows for any future period. 2. The Company's fiscal year ends on the Sunday closest to December 31, and each fiscal quarter ends on the Sunday closest to March 31, June 30, and September 30. The third fiscal quarter of 1997 and 1996 ended on September 28, 1997 and September 29, 1996, respectively. Fiscal year 1996 ended on December 29, 1996. For ease of presentation, the accompanying financial statements have been shown as ending on the last day of the calendar month. 3. The components of inventory consist of the following:
DECEMBER 31, SEPTEMBER 30, 1996 1997 ------------ ------------- (IN THOUSANDS) Raw materials................................. $3,858 $ 2,246 Work-in-process............................... 3,475 7,757 Finished goods................................ 2,297 1,317 ------ ------- $9,630 $11,320 ====== =======
4. In February 1997, the Financial Accounting Standards Board issued Statement No. 128, Earnings per Share ("SFAS 128"), which is required to be adopted on December 31, 1997. At that time, the Company will be required to change the method currently used to compute earnings per share and to restate all prior periods. Under the new requirements for calculating primary earnings per share, the dilutive effect of stock options will be excluded. The impact is expected to result in an increase of $0.05 in net income per share for the nine month periods ended September 30, 1997 and 1996. The calculation of diluted earnings per share under SFAS 128 is not materially different from net income per share for the periods presented. 5. In October 1995, Samsung Electronics Company Ltd. filed a complaint against the Company in the Northern District of California accusing the Company of infringing two Samsung patents, seeking declaratory relief with respect to five Company patents and alleging unspecified damages for certain other related claims. On January 11, 1996, the Company filed a complaint against Samsung with the United States International Trade Commission alleging that Samsung and its U.S. sales arm, were importing and selling products that infringe two of the Company's patents. On February 26, 1997, the Administrative Law Judge assigned to the case issued an Initial Determination finding both SanDisk patents valid and infringed and further finding a violation of Section 337 of the Trade Act. On June 2, 1997, the Commission issued a limited exclusion order prohibiting the unlicensed entry of infringing flash memory circuits, and carriers and circuit boards containing such circuits, that are manufactured by or on behalf of Samsung. On August 14, 1997, in connection with the settlement of all disputes between them, the Company and Samsung announced the signing of a patent cross license agreement for flash memory related patents. Under the agreement, the Company and Samsung have licensed each others patents covering the design and manufacture of flash memory products. F-22 The Company also entered into other cross-license agreements during the nine months ended September 30, 1997. Under these agreements, the Company received payments, portions of which were recognized as license and royalty revenues and portions of which are deferred revenue. Recognition of deferred revenue is expected to occur in future periods as the Company meets certain obligations as provided in the various agreements. Litigation frequently involves substantial expenditures and can require significant management attention, even if the Company ultimately prevails. In addition, the results of any litigation matters are inherently uncertain. Accordingly, there can be no assurance that any future litigation, will not have a material adverse effect on the Company's business, financial condition and results of operations. 6. On April 21, 1997, the Company adopted a shareholder rights plan (the Rights Agreement). Under the Rights Agreement, rights were distributed as a dividend at the rate of one right for each share of common stock of the Company held by stockholders of record as of the close of business on April 28, 1997. The rights will expire on April 28, 2007 unless redeemed or exchanged. Under the Rights Agreement, each right will initially entitle the registered holder to buy one one-hundredth of a share of Series A Junior Participating Preferred Stock for $65.00. The rights will become exercisable only if a person or group (other than Seagate Corporation which is permitted to maintain its 25% stake in the Company) acquires beneficial ownership of 15 percent or more of the Company's common stock or commences a tender or exchange offer upon consummation of which such person or group would beneficially own 15 percent or more of the Company's common stock. 7. The Company recorded a provision for income taxes at a 15% effective tax rate for the first nine months of 1997 compared to a 6.5% effective tax rate for the same period of 1996. The effective tax rate for the first nine months of 1997 is substantially below the federal statutory rate due to the utilization of federal and state tax credit carryforwards, Foreign Sales Corporation tax benefits and a reduction in the deferred tax asset valuation allowance. 8. In the third quarter of 1997, the Company invested $40.2 million in United Silicon, Inc. ("USIC"), a semiconductor manufacturing joint venture headed by United Microelectronics Corporation in Taiwan. The transaction gives the Company an equity stake of approximately 10% in the joint venture (which will be accounted for on the cost basis) and guarantees access to approximately 12.5% of the wafer output from the facility. 9. The Company has a credit agreement (the Agreement) with a bank, which was renewed in July 1997. Under the provisions of the Agreement, which expires in July 1998, the Company may borrow up to $10,000,000 on a revolving line of credit at the bank's prime interest rate. Amounts under the revolving line of credit can be applied to the issuance of letters of credit of up to the full amount of the credit line. At September 30, 1997, $7,200,000 in letters of credit were outstanding. In addition, under the Agreement, the Company also has a $15,000,000 foreign exchange contract line under which the Company may enter into foreign exchange contracts. No amounts were outstanding under the revolving line of credit portion of the Agreement and the foreign exchange contract portion of the line at September 30, 1997. The Agreement contains covenants that require the Company to maintain certain financial ratios and levels of net worth. The Agreement prohibits the payment of cash dividends to stockholders. At September 30, 1997 the Company was not in compliance with the quick ratio covenant due to the increase in deferred revenue. Following the end of the quarter, the financial covenants were retroactively amended by the bank and the Company was in compliance with all financial covenants as amended. F-23 PART II INFORMATION NOT REQUIRED IN PROSPECTUS ITEM 13. OTHER EXPENSES OF ISSUANCE AND DISTRIBUTION The following table sets forth the costs and expenses, other than underwriting discounts and commissions, payable by the Company in connection with the sale of Common Stock being registered. All amounts are estimates except the SEC registration fee, the NASD filing fees and the Nasdaq Listing fee. SEC Registration fee.............................................. $ 29,339 NASD fee.......................................................... 10,182 Nasdaq Listing fee................................................ 17,500 Printing and engraving............................................ 90,000 Legal fees and expenses of the Company............................ 100,000 Accounting fees and expenses...................................... 75,000 Blue sky fees and expenses........................................ 5,000 Transfer agent fees............................................... 5,000 Miscellaneous..................................................... 67,979 -------- Total........................................................... $400,000 ========
ITEM 14. INDEMNIFICATION OF DIRECTORS AND OFFICERS Section 145 of the Delaware General Corporation Law authorizes a court to award or a corporation's Board of Directors to grant indemnification to directors and officers in terms sufficiently broad to permit such indemnification under certain circumstances for liabilities (including reimbursement for expenses incurred) arising under the Securities Act of 1933, as amended (the "Securities Act"). Article VII of the Company's Bylaws provides for mandatory indemnification of its directors and officers and permissible indemnification of employees and other agents to the maximum extent permitted by the Delaware General Corporation Law. The Company's Certificate of Incorporation provides that, subject to Delaware law, its directors shall not be personally liable for monetary damages for breach of the directors' fiduciary duty as directors to the Company and its stockholders. This provision in the Certificate of Incorporation does not eliminate the directors' fiduciary duty, and in appropriate circumstances equitable remedies such as injunctive or other forms of non-monetary relief will remain available under Delaware law. In addition, each director will continue to be subject to liability for breach of the director's duty of loyalty to the Company or its stockholders for acts or omissions not in good faith or involving intentional misconduct, for knowing violations of law, for actions leading to improper personal benefit to the director, and for payment of dividends or approval of stock repurchases or redemptions that are unlawful under Delaware law. The provision also does not affect a director's responsibilities under any other law, such as the federal securities laws or state or federal environmental laws. The Company has entered into indemnification agreements with its officers and directors, a form of which was previously filed with the Securities and Exchange Commission as an Exhibit to the Registrant's Registration Statement on Form S-1 (No. 33-96298)(the "Indemnification Agreements"). The Indemnification Agreements provide the Company's officers and directors with further indemnification to the maximum extent permitted by the Delaware General Corporation Law. Reference is also made to Section VIII of the Underwriting Agreement contained in Exhibit 1.1 hereto, indemnifying officers and directors of the Company against certain liabilities, and Section 10 of the Amended and Restated Registration Rights Agreement contained in Exhibit 4.3 hereto, indemnifying certain of the Company's stockholders, including controlling stockholders, against certain liabilities. II-1 ITEM 16. EXHIBITS AND FINANCIAL STATEMENT SCHEDULES The exhibits listed in the Exhibit Index as filed as part of this Registration Statement. (a) EXHIBITS
EXHIBIT NUMBER EXHIBIT TITLE ------- ------------- 1.1* Form of Underwriting Agreement among the Registrant, Morgan Stanley & Co. Incorporated, Goldman, Sachs & Co. and BancAmerica Robertson Stephens. 4.1 Reserved. 4.2 Registrant's Specimen Stock Certificate.(1) 4.3 Amended and Restated Registration Rights Agreement, among the Registrant and the investors and founders named therein, dated March 3, 1995.(1) 4.4 Amendment No. 1 to the Stock Purchase Agreements among the Registrant and the holders of Series A, B and D Preferred Stock, and certain holders of Series E Preferred Stock, dated January 15, 1993.(1) 4.5 Series F Preferred Stock Purchase Agreement between Seagate Technology, Inc. and the Registrant, dated January 15, 1993.(1) 4.6 Amendment Agreement between Seagate Technology, Inc. and the Registrant, dated August 23, 1995.(1) Form of Stock Purchase Agreement between the Registrant and Seagate 4.7 Technology, Inc.(3) 4.8 Rights Agreement, dated as of April 18, 1997, between the Company and Harris Trust and Savings Bank.(3) 5.1* Legal Opinion of Brobeck, Phleger & Harrison LLP, counsel for the Registrant. 21.1 Subsidiaries of the Registrant.(2) 23.1* Consent of Ernst & Young LLP, Independent Auditors (see page II-6). 23.2* Consent of Counsel (see Exhibit 5.1). 24.1* Power of Attorney (see page II-4).
- -------- * Filed herewith. (1) Previously filed as an Exhibit to the Registrant's Registration Statement on Form S-1 (No. 33-96298). (2) Previously filed as an Exhibit to the Registrant's 1996 Annual Report on Form 10-K. (3) Previously filed as an Exhibit to the Registrant's Current Report on Form 8-K/A dated April 18, 1997. II-2 ITEM 17. UNDERTAKINGS The Company hereby undertakes to provide to the Underwriters at the closing specified in the Underwriting Agreement, certificates in such denominations and registered in such names as required by the Underwriters to permit prompt delivery to each purchaser. Insofar as indemnification for liabilities arising under the Securities Act may be permitted to directors, officers and controlling persons of the Company pursuant to the Delaware General Corporation Law, the Certificate of Incorporation or the Bylaws of the Company, Indemnification Agreements entered into between the Company and its officers and directors, the Underwriting Agreement, or otherwise, the Company has been advised that in the opinion of the Securities and Exchange Commission such indemnification is against public policy as expressed in the Securities Act, and is, therefore, unenforceable. In the event that a claim for indemnification against such liabilities (other than the payment by the Company of expenses incurred or paid by a director, officer, or controlling person of the Company in the successful defense of any action, suit or proceeding) is asserted by such director, officer or controlling person in connection with the securities being registered hereunder, the Company will, unless in the opinion of its counsel the matter has been settled by controlling precedent, submit to a court of appropriate jurisdiction the question of whether such indemnification by it is against public policy as expressed in the Securities Act and will be governed by the final adjudication of such issue. The undersigned Registrant hereby undertakes that, for purposes of determining any liability under the Securities Act of 1933, each filing of the Registrant's annual report pursuant to Section 13(a) or Section 15(d) of the Exchange Act of 1934, (and, where applicable, each filing of an employee benefit plan's annual report pursuant to Section 15(d) of the Exchange Act) that is incorporated by reference in the Registration Statement shall be deemed to be a new registration statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. The Company hereby undertakes that: (1) For purposes of determining any liability under the Securities Act of 1933, the information omitted from the form of Prospectus filed as part of this Registration Statement in reliance upon Rule 430A and contained in a form of Prospectus filed by the Company pursuant to Rule 424(b)(1) or (4) or 497(h) under the Securities Act shall be deemed to be part of this Registration Statement as of the time it was declared effective. (2) For the purpose of determining any liability under the Securities Act of 1933, each post-effective amendment that contains a form of Prospectus shall be deemed to be a new Registration Statement relating to the securities offered therein, and the offering of such securities at that time shall be deemed to be the initial bona fide offering thereof. II-3 SIGNATURES Pursuant to the requirements of the Securities Act of 1933, as amended, the Registrant certifies that it has reasonable grounds to believe that it meets all the requirements for filing on Form S-3 and has duly caused this Registration Statement to be signed on its behalf by the undersigned, thereunto duly authorized, in the City of Sunnyvale, State of California, on this 24th day of October, 1997. SANDISK CORPORATION By: /s/ Eliyahou Harari ___________________________________ Eliyahou Harari President and Chief Executive Officer KNOW ALL PERSONS BY THESE PRESENTS, that each person whose signature appears below constitutes and appoints, jointly and severally, Eliyahou Harari and Cindy Burgdorf, and each one of them, his or her true and lawful attorneys-in- fact and agents, each with full power of substitution, for him or her and in his or her name, place and stead, in any and all capacities, to sign any and all amendments (including post-effective amendments) to this Registration Statement, and to sign any registration statement for the same offering covered by this Registration Statement that is to be effective upon filing pursuant to Rule 462(b) promulgated under the Securities Act of 1933, as amended, and all post-effective amendments thereto, and to file the same, with all exhibits thereto and all documents in connection therewith, with the Securities and Exchange Commission, granting unto said attorneys-in-fact and agents, and each of them full power and authority to do and perform each and every act and thing requisite and necessary to be done in and about the premises, as fully to all intents and purposes as he might or could do in person, hereby ratifying and confirming that each of said attorneys-in-fact and agents or any of them, or his or their substitute or substitutes, may lawfully do or cause to be done by virtue hereof. IN WITNESS WHEREOF, each of the undersigned has executed this Power of Attorney as of the date indicated. Pursuant to the requirements of the Securities Act of 1933, as amended, this Registration Statement has been signed by the persons whose signatures appear below, which persons have signed such Registration Statement in the capacities and on the dates indicated:
SIGNATURE TITLE DATE --------- ----- ---- /s/ Eliyahou Harari President, Chief Executive Officer October 24, 1997 ____________________________________ (Principal Executive Officer) (Eliyahou Harari) /s/ Cindy Burgdorf Senior Vice President, Finance and October 24, 1997 ____________________________________ Administration, Chief Financial (Cindy Burgdorf) Officer (Principal Financial and Accounting Officer), and Secretary /s/ Irwin Federman Director October 24, 1997 ____________________________________ (Irwin Federman)
II-4
SIGNATURE TITLE DATE --------- ----- ---- /s/ William V. Campbell Director October 24, 1997 ____________________________________ (William V. Campbell) /s/ Dr. James D. Meindl Director October 24, 1997 ____________________________________ (Dr. James D. Meindl) /s/ Catherine P. Lego Director October 24, 1997 ____________________________________ Catherine P. Lego /s/ Joseph Rizzi Director October 24, 1997 ____________________________________ Joseph Rizzi /s/ Alan F. Shugart Director October 24, 1997 ____________________________________ Alan F. Shugart
II-5 EXHIBIT 23.1 CONSENT OF ERNST & YOUNG LLP, INDEPENDENT AUDITORS We consent to the reference to our firm under the captions "Selected Consolidated Financial Data" and "Experts" and to the use of our report dated January 17, 1997, except for Note 4 for which the date is February 26, 1997 in the Registration Statement (Form S-3) and related Prospectus of SanDisk Corporation for the registration of 3,450,000 shares of its Common Stock and to the incorporation by reference therein of our report dated January 17, 1997, except for Note 4 for which the date is February 26, 1997, with respect to the consolidated financial statements and schedule of SanDisk Corporation included in its Annual Report (Form 10-K) for the year ended December 31, 1996, filed with the Securities and Exchange Commission. ERNST & YOUNG LLP San Jose, California October 24, 1997 II-6 EXHIBIT INDEX EXHIBIT DESCRIPTION SEQUENTIALLY NO. ----------- NUMBERED PAGE ------- ------------- 1.1* Form of Underwriting Agreement among the Registrant, Morgan Stanley & Co. Incorporated, Goldman, Sachs & Co. and BankAmerica Robertson Stephens. 4.1 Reserved. 4.2 Registrant's Specimen Stock Certificate.(1) 4.3 Amended and Restated Registration Rights Agreement, among the Registrant and the investors and founders named therein, dated March 3, 1995.(1) 4.4 Amendment No. 1 to the Stock Purchase Agreements among the Registrant and the holders of Series A, B and D Preferred Stock, and certain holders of Series E Preferred Stock, dated January 15, 1993.(1) 4.5 Series F Preferred Stock Purchase Agreement between Seagate Technology, Inc. and the Registrant, dated January 15, 1993.(1) 4.6 Amendment Agreement between Seagate Technology, Inc. and the Registrant, dated August 23, 1995.(1) Form of Stock Purchase Agreement between the Registrant and Seagate 4.7 Technology, Inc.(3) 4.8 Rights Agreement, dated as of April 18, 1997, between the Company and Harris Trust and Savings Bank.(3) 5.1* Legal Opinion of Brobeck, Phleger & Harrison LLP, counsel for the Registrant. 21.1 Subsidiaries of the Registrant.(2) 23.1* Consent of Ernst & Young LLP, Independent Auditors (see page II-6). 23.2* Consent of Counsel (see Exhibit 5.1). 24.1* Power of Attorney (see page II-4).
- -------- * Filed herewith. (1) Previously filed as an Exhibit to the Registrant's Registration Statement on Form S-1 (No. 33-96298). (2) Previously filed as an Exhibit to the Registrant's 1996 Annual Report on Form 10-K. (3) Previously filed as an Exhibit to the Registrant's Current Report on Form 8-K/A dated April 18, 1997. EX-1.1 2 FORM OF UNDERWRITING AGREEMENT 3,000,000 Shares SANDISK CORPORATION Common Stock, $.001 par value UNDERWRITING AGREEMENT November __, 1997 November __, 1997 Morgan Stanley & Co. Incorporated Goldman, Sachs & Co. BancAmerica Robertson Stephens c/o Morgan Stanley & Co. Incorporated 1585 Broadway New York, New York 10036 Ladies and Gentlemen: SanDisk Corporation, a Delaware corporation (the "Company"), proposes to issue and sell to the several Underwriters named in Schedule I hereto (the "Underwriters"), an aggregate of 3,000,000 shares of the common stock, $.001 par value, of the Company (the "Firm Shares"). The Company also proposes to issue and sell to the several Underwriters not more than an additional 450,000 shares of its common stock, $.001 par value (the "Additional Shares"), if and to the extent that you, as Managers of the offering, shall have determined to exercise, on behalf of the Underwriters, the right to purchase such shares of common stock granted to the Underwriters in Section 2 hereof. The Firm Shares and the Additional Shares are hereinafter collectively referred to as the "Shares." The shares of common stock, $.001 par value, of the Company to be outstanding after giving effect to the sales contemplated hereby are hereinafter referred to as the "Common Stock." The Company has filed with the Securities and Exchange Commission (the "Commission") a registration statement (Commission File No. 333-_____ ), including a prospectus, relating to the Shares. The registration statement as amended at the time it becomes effective, including the information (if any) deemed to be part of the registration statement at the time of effectiveness pursuant to Rule 430A under the Securities Act of 1933, as amended (the "Securities Act"), is hereinafter referred to as the "Registration Statement;" the prospectus in the form first used to confirm sales of Shares is hereinafter referred to as the "Prospectus." As used herein, the terms "Registration Statement," "Prospectus" and "preliminary prospectus" shall include in each case the documents, if any, incorporated by reference therein (the "Incorporated Documents") that the Company has filed pursuant to the Securities Exchange Act of 1934, as amended (the "Exchange Act"). The terms "supplement," "amendment" and "amend" as used herein shall include all documents deemed to be incorporated by reference in the Prospectus that are filed subsequent to the date of the Prospectus by the Company with the Commission pursuant to the Exchange Act. If the Company has filed an abbreviated registration statement to register additional shares of Common Stock pursuant to Rule 462(b) under the Securities Act (the "Rule 462 Registration Statement"), then any reference herein to the term "Registration Statement" shall be deemed to include such Rule 462 Registration Statement. 1. REPRESENTATIONS AND WARRANTIES OF THE COMPANY. The Company represents and warrants to each of the Underwriters that: a. The Company meets the requirements for filing a Registration Statement on Form S-3 and such Registration Statement has become effective, no stop order suspending the effectiveness of the Registration Statement is in effect, and no proceedings for such purpose are pending before or threatened by the Commission. b. (i) Each document filed or to be filed pursuant to the Exchange Act and incorporated by reference in the Prospectus complied or will comply when so filed in all material respects with the Exchange Act and the applicable rules and regulations of the Commission thereunder; (ii) each part of the Registration Statement, when such part became effective, did not contain and each such part, as amended or supplemented, if applicable, will not contain any untrue statement of a material fact or omit to state a material fact required to be stated therein or necessary to make the statements therein not misleading, (iii) the Registration Statement and the Prospectus comply and, as amended or supplemented, if applicable, will comply in all material respects with the Securities Act and the applicable rules and regulations of the Commission thereunder and (iv) the Prospectus does not contain and, as amended or supplemented, if applicable, will not contain any untrue statement of a material fact or omit to state a material fact necessary in order to make the statements therein, in the light of the circumstances under which they were made, not misleading, except that the representations and warranties set forth in this paragraph (b) do not apply to statements or omissions in the Registration Statement or the Prospectus based upon information relating to any Underwriter furnished to the Company in writing by such Underwriter through you expressly for use therein. c. The Company has been duly incorporated, is validly existing as a corporation in good standing under the laws of the State of Delaware, has the corporate power and authority to own its property and to conduct its business as described in the Prospectus and is duly qualified to transact business and is in good standing in each jurisdiction in which the conduct of its business or its ownership or leasing of property requires such qualification, except to the extent that the failure to be so qualified or be in good standing would not have a material adverse effect on the Company and its subsidiaries, taken as a whole. d. Each subsidiary of the Company has been duly incorporated, is validly existing as a corporation in good standing under the laws of the jurisdiction of its incorporation, has the corporate power and authority to own its property and to conduct its business as described in the Prospectus and is duly qualified to transact business and is in good standing in each jurisdiction in which the conduct of its business or its ownership or leasing of property requires such qualification, except to the extent that the failure to be so qualified or be in good standing would not have a material adverse effect on the Company and its subsidiaries, taken as a whole; all of the issued shares of capital stock of each subsidiary of the Company have been duly and validly authorized and issued, are fully paid and non-assessable and are owned directly by the Company, free and clear of all liens, encumbrances, equities or claims. e. The Company and its subsidiaries have good and marketable title in fee simple to all real property and good and marketable title to all personal property owned by them which is material to the business of the Company and its subsidiaries, in each case free and clear of all liens, encumbrances and defects except such as are described in the Prospectus or such as do not materially affect the value of such property and do not interfere with the use made and proposed to be made of such 3 property by the Company and its subsidiaries; and any real property and buildings held under lease by the Company and its subsidiaries are held by them under valid, subsisting and enforceable leases with such exceptions as are not material and do not interfere with the use made and proposed to be made of such property and buildings by the Company and its subsidiaries, in each case except as described in or contemplated by the Prospectus. f. The authorized capital stock of the Company conforms as to legal matters to the description thereof contained in the Prospectus. g. The shares of Common Stock outstanding prior to the issuance of the Shares to be sold by the Company have been duly authorized and are validly issued, fully paid and non-assessable. Except as set forth in the Prospectus, neither the Company nor any subsidiary has outstanding any options to purchase, or any preemptive rights or other rights to subscribe for or to purchase, any securities or obligations convertible into, or any contracts or commitments to issue or sell, shares of its capital stock or any such options, rights, convertible securities or obligations. All outstanding shares of capital stock and options and other rights to acquire capital stock have been issued in compliance with the registration and qualification provisions of all applicable securities laws and were not issued in violation of any preemptive rights, rights of first refusal or other similar rights. h. The Shares to be sold by the Company have been duly authorized and when issued and delivered in accordance with the terms of this Agreement will be, validly issued, fully paid and non-assessable, and the issuance of such Shares will not be subject to any preemptive rights, rights of first refusal or similar rights. i. This Agreement has been duly authorized, executed and delivered by the Company. j. The execution and delivery by the Company of, and the performance by the Company of its obligations under, this Agreement will not contravene any provision of applicable law or the certificate of incorporation or bylaws of the Company or any subsidiary, or any agreement or other instrument binding upon the Company or any of its subsidiaries that is material to the Company and its subsidiaries, taken as a whole, or any judgment, order or decree of any governmental body, agency or court having jurisdiction over the Company or any subsidiary, and no consent, approval, authorization or order of or qualification with any governmental body or agency is required for the performance by the Company of its obligations under this Agreement, except such as may be required by the securities or Blue Sky laws of the various states in connection with the offer and sale of the Shares. k. There has not occurred any material adverse change, or any development involving a prospective material adverse change, in the condition, financial or otherwise, or in the earnings, business or operations of the Company and its subsidiaries, taken as a whole, from that set forth in the Prospectus. l. Subsequent to the respective dates as of which information is given in the Registration Statement and the Prospectus, (i) the Company and its subsidiaries have not incurred any material liability or obligation, direct or contingent, nor entered into any material transaction not in the ordinary course of business; (ii) the Company has not purchased any of its outstanding capital stock, nor declared, paid or otherwise made any dividend or distribution of any kind on its capital stock other than 4 ordinary and customary dividends; and (iii) there has not been any material change in the capital stock, short-term debt or long-term debt of the Company and its consolidated subsidiaries, except in each case as described in or contemplated by the Prospectus. m. There are no legal or governmental proceedings pending or threatened to which the Company or any of its subsidiaries is a party or to which any of the properties of the Company or any of its subsidiaries is subject that are required to be described in the Registration Statement or the Prospectus and are not so described or any statutes, regulations, contracts or other documents that are required to be described in the Registration Statement or the Prospectus or to be filed as exhibits to the Registration Statement that are not described or filed as required. n. Each of the Company and its subsidiaries has all necessary consents, authorizations, approvals, orders, certificates and permits of and from, and has made all declarations and filings with, all federal, state, local and other governmental authorities, all self-regulatory organizations and all courts and other tribunals, to own, lease, license and use its properties and assets and to conduct its business in the manner described in the Prospectus, except to the extent that the failure to obtain or file would not have a material adverse effect on the Company and its subsidiaries, taken as a whole. o. Each preliminary prospectus filed as part of the registration statement as originally filed or as part of any amendment thereto, or filed pursuant to Rule 424 or Rule 462 under the Securities Act, complied when so filed in all material respects with the Securities Act and the rules and regulations of the Commission thereunder. The Incorporated Documents heretofore filed, when they were filed (or, if any amendment with respect to any such document was filed, when such amendment was filed), conformed in all material respects with the requirements of the Exchange Act and the rules and regulations of the Commission thereunder; any further Incorporated Documents so filed will, when they are filed, conform in all material respects with the requirements of the Exchange Act and the rules and regulations of the Commission thereunder. p. The Company is not and, after giving effect to the offering and sale of the Shares and the application of the proceeds therefrom as described in the Prospectus, will not be an "investment company" as such term is defined in the Investment Company Act of 1940, as amended. q. There is no owner of any securities of the Company who has any rights, not effectively satisfied or waived, to require registration of any shares of capital stock of the Company in connection with the filing of the Registration Statement. r. The Company and each of its subsidiaries are insured by insurers of recognized financial responsibility against such losses and risks and in such amounts as are prudent and customary in the businesses in which they are engaged; neither the Company nor any such subsidiary has been refused any insurance coverage sought or applied for; and neither the Company nor any such subsidiary has any reason to believe that it will not be able to renew its existing insurance coverage as and when such coverage expires or to obtain similar coverage from similar insurers as may be necessary to continue its business at a cost that would not materially and adversely affect the condition, financial or otherwise, or the earnings, business or operations of the Company and its subsidiaries, taken as a whole, except as described in or contemplated by the Prospectus. 5 s. The Company and its subsidiaries (i) are in compliance with any and all applicable foreign, federal, state and local laws and regulations relating to the protection of human health and safety, the environment or hazardous or toxic substances or wastes, pollutants or contaminants (collectively, "Environmental Laws"), (ii) have received all permits, licenses or other approvals required of them under applicable Environmental Laws to conduct their respective businesses and (iii) are in compliance with all terms and conditions of any such permit, license or approval, except where such noncompliance with Environmental Laws, failure to receive required permits, licenses or other approvals or failure to comply with the terms and conditions of such permits, licenses or approvals would not, singly or in the aggregate, have a material adverse effect on the Company and its subsidiaries, taken as a whole. t. The costs and liabilities, if any, associated with Environmental Laws on the business, operations and properties of the Company (including, without limitation, any capital or operating expenditures required for clean-up, closure of properties or compliance with Environmental Laws or any permit, license or approval, any related constraints on operating activities and any potential liabilities to third parties) would not, singly or in the aggregate, have a material adverse effect on the Company and its subsidiaries, taken as a whole. u. Except as described in the Prospectus, the Company and each of its subsidiaries owns or possesses or can acquire on reasonable terms all material licenses or other rights to use all patents, copyrights, trademarks, service marks, trade names, mask work rights, technology and know-how necessary to conduct its business in the manner described in the Prospectus and, neither the Company nor any of its subsidiaries has received any notice of infringement or conflict with (and neither the Company nor any of its subsidiaries knows of any infringement or conflict with) asserted rights of others with respect to any patents, copyrights, trademarks, service marks, trade names, mask work rights, technology or know-how which could result in any material adverse effect upon the Company and its subsidiaries, taken as a whole; and, except as disclosed in the Prospectus, the discoveries, inventions, products or processes of the Company and its subsidiaries referred to in the Prospectus do not, to the best knowledge of the Company or any of its subsidiaries, infringe or conflict with any right or patent of any third party, or any discovery, invention, product or process which is the subject of a patent application filed by any third party, known to the Company or any of its subsidiaries which could have a material adverse effect on the Company and its subsidiaries, taken as a whole. v. The Company and its subsidiaries possess all certificates, authorizations and permits issued by the appropriate federal, state or foreign regulatory authorities necessary to conduct their respective businesses, and neither the Company nor any such subsidiary has received any notice of proceedings related to the revocation or modification of any such certificate, authorization or permit which, singly or in the aggregate, if the subject of any unfavorable decision, ruling or finding, would result in a material adverse change in the condition, financial or otherwise, or in the earnings, business or operations of the Company and its subsidiaries, taken as a whole, except as described in or contemplated by the Prospectus. w. The Company and each of its subsidiaries maintain a system of internal accounting controls sufficient to provide reasonable assurance that (i) transactions are executed in accordance with management's general or specific authorizations; (ii) transactions are recorded as necessary to permit preparation of financial statements in conformity with generally accepted accounting principles and to maintain asset accountability; (iii) access to assets is permitted only in accordance with 6 management's general or specific authorization; and (iv) the recorded accountability for assets is compared with the existing assets at reasonable intervals and appropriate action is taken with respect to any differences. x. As of the date the Registration Statement becomes effective, the Common Stock will be authorized for listing on the Nasdaq National Market upon official notice of issuance. y. The Company has complied with all provisions of Section 517.075, Florida Statutes (Chapter 92-198, Laws of Florida), relating to issuers doing business with the Government of Cuba or with any person or affiliate located in Cuba. z. No material labor dispute with the employees of the Company or any of its subsidiaries exists, except as described in or contemplated by the Prospectus, or, to the knowledge of the Company, is imminent; and the Company is not aware of any existing, threatened or imminent labor disturbance by the employees of any of its principal suppliers, manufacturers or contractors that could result in any material adverse change in the condition, financial or otherwise, or in the earnings, business or operations of the Company and its subsidiaries, taken as a whole. 2. AGREEMENTS TO SELL AND PURCHASE. The Company hereby agrees to sell to the several Underwriters, and each Underwriter, upon the basis of the representations and warranties herein contained, but subject to the conditions hereinafter stated, agrees, severally and not jointly, to purchase from the Company at $_______ a share (the "Purchase Price") the number of Firm Shares (subject to such adjustments to eliminate fractional shares as you may determine) that bear the same proportion to the number of Firm Shares to be sold by the Company as the number of Firm Shares set forth in Schedule II hereto opposite the name of such Underwriter bears to the total number of Firm Shares. On the basis of the representations and warranties contained in this Agreement, and subject to its terms and conditions, the Company hereby agrees to sell to the several Underwriters the Additional Shares, and the Underwriters shall have a one-time right to purchase, severally and not jointly, up to 450,000 Additional Shares at the Purchase Price. If you, on behalf of the Underwriters, elect to exercise such option, you shall so notify the Company in writing not later than 30 days after the date of this Agreement, which notice shall specify the number of Additional Shares to be purchased by the Underwriters and the date on which such shares are to be purchased. Such date may be the same as the Closing Date (as defined below) but not earlier than the Closing Date nor later than ten business days after the date of such notice. Additional Shares may be purchased as provided in Section 4 hereof solely for the purpose of covering over-allotments made in connection with the offering of the Firm Shares. If any Additional Shares are to be purchased, each Underwriter agrees, severally and not jointly, to purchase the number of Additional Shares (subject to such adjustments to eliminate fractional shares as you may determine) that bears the same proportion to the total number of Additional Shares to be purchased as the number of Firm Shares set forth in Schedule II hereto opposite the name of such Underwriter bears to the total number of Firm Shares. The Company hereby agrees that, without the prior written consent of Morgan Stanley & Co. Incorporated on behalf of the Underwriters, it will not, for a period of 90 days subsequent to the date of the final Prospectus (i) offer, pledge, sell, contract to sell, sell any option or contract to purchase, purchase any option or contract to sell, grant any option, right or warrant to purchase, lend, or otherwise transfer or dispose of, directly or indirectly, any shares of Common Stock or any securities convertible into or exercisable or exchangeable for 7 Common Stock, or (ii) enter into any swap or other arrangement that transfers to another, in whole or in part, any of the economic consequences of ownership of the Common Stock, whether any such transaction described in clause (i) or (ii) above is to be settled by delivery of Common Stock or such other securities, in cash or otherwise, other than (A) the Shares to be sold hereunder, (B) any shares of Common Stock sold by the Company upon the exercise of an option or warrant or the conversion of a security outstanding on the date hereof of which the Underwriters have been advised in writing. 3. TERMS OF PUBLIC OFFERING. The Company is advised by you that the Underwriters propose to make a public offering of their respective portions of the Shares as soon after the Registration Statement and this Agreement have become effective as in your judgment is advisable. The Company is further advised by you that the Shares are to be offered to the public initially at $__________ a share (the "Public Offering Price") and to certain dealers selected by you at a price that represents a concession not in excess of $______ a share under the Public Offering Price, and that any Underwriter may allow, and such dealers may reallow, a concession, not in excess of $_______ a share, to any Underwriter or to certain other dealers. 4. PAYMENT AND DELIVERY. Payment for the Firm Shares shall be made to the Company in Federal or other funds immediately available in New York City against delivery of such Firm Shares for the respective accounts of the several Underwriters at 10:00 a.m., New York City time, on November ___, 1997, or at such other time on the same or such other date, not later than November ___ , 1997, as shall be designated in writing by you. The time and date of such payment are hereinafter referred to as the "Closing Date." Payment for any Additional Shares shall be made to the Company in Federal or other funds immediately available in New York City against delivery of such Additional Shares for the respective accounts of the several Underwriters at 10:00 a.m., New York City time, on the date specified in the notice described in Section 2 or at such other time on the same or on such other date, in any event not later than December ___, 1997 as shall be designated in writing by you. The time and date of such payment are hereinafter referred to as the "Option Closing Date." Certificates for the Firm Shares and Additional Shares shall be in definitive form and registered in such names and in such denominations as you shall request in writing not later than one full business day prior to the Closing Date or the Option Closing Date, as the case may be. The certificates evidencing the Firm Shares and Additional Shares shall be delivered to you on the Closing Date or the Option Closing Date, as the case may be, for the respective accounts of the several Underwriters, with any transfer taxes payable in connection with the transfer of the Shares to the Underwriters duly paid, against payment of the Purchase Price therefor. 5. CONDITIONS TO THE UNDERWRITERS' OBLIGATIONS. The obligations of the Company to sell the Shares to the Underwriters and the several obligations of the Underwriters to purchase and pay for the Shares on the Closing Date are subject to the condition that the Registration Statement shall have become effective not later than 5:30 p.m. (New York City time) on the date hereof. The several obligations of the Underwriters are subject to the following further conditions: a. Subsequent to the execution and delivery of this Agreement and prior to the Closing Date: 8 (i) there shall not have occurred any downgrading, nor shall any notice have been given of any intended or potential downgrading or of any review for a possible change that does not indicate the direction of the possible change, in the rating accorded any of the Company's securities by any "nationally recognized statistical rating organization," as such term is defined for purposes of Rule 436(g)(2) under the Securities Act, and (ii) there shall not have occurred any change, or any development involving a prospective change, in the condition, financial or otherwise, or in the earnings, business or operations, of the Company and its subsidiaries, taken as a whole, from that set forth in the Prospectus (exclusive of any amendments or supplements thereto subsequent to the date of this Agreement) that, in your judgment, is material and adverse and that makes it, in your judgment, impracticable to market the Shares on the terms and in the manner contemplated in the Prospectus. b. The Underwriters shall have received on the Closing Date and on the Option Closing Date, as the case may be, a certificate, dated the Closing Date or on the Option Closing Date, as the case may be, and signed by the chief executive officer and the chief financial officer of the Company, to the effect set forth in clause (a) above, and to the effect that the representations and warranties of the Company contained in this Agreement are true and correct as of the Closing Date or as of the Option Closing Date, as the case may be, and that the Company has complied with all of the agreements and satisfied all of the conditions on its part to be performed or satisfied hereunder on or before the Closing Date or the Option Closing Date, as the case may be. The executive officers signing and delivering such certificate may rely upon the best of their knowledge as to proceedings threatened. c. The Underwriters shall have received on the Closing Date an opinion of Brobeck, Phleger & Harrison, LLP ("Brobeck, Phleger & Harrison"), counsel for the Company, dated the Closing Date, to the effect that: (i) the Company has been duly incorporated, is validly existing as a corporation in good standing under the laws of the State of Delaware, has the corporate power and authority to own its property and to conduct its business as described in the Prospectus and is duly qualified to transact business and is in good standing in California and, to the knowledge of such counsel, in each other jurisdiction in which the conduct of its business or its ownership or leasing of property requires such qualification, except to the extent that the failure to be so qualified or be in good standing would not have a material adverse effect on the Company and its subsidiaries, taken as a whole; (ii) the Company owns all of the shares of capital stock of each subsidiary of the Company and each subsidiary of the Company has been duly incorporated, is validly existing as a corporation in good standing under the laws of the jurisdiction of its incorporation, has the corporate power and authority to own its property and to conduct its business as described in the Prospectus and is duly qualified to transact business and is in good standing in each jurisdiction in which the conduct of its business or its ownership or leasing of property requires such qualification, except to the extent that the failure to be so qualified or be in good 9 standing would not have a material adverse effect on the Company and its subsidiaries, taken as a whole; (ii) the authorized capital stock of the Company conforms as to legal matters to the description thereof contained in the Prospectus; (iv) the shares of Common Stock outstanding prior to the issuance of the Shares to be sold by the Company have been duly authorized and are validly issued, fully paid and non-assessable; (v) all of the issued shares of capital stock of each subsidiary of the Company have been duly and validly authorized and issued, are fully paid and non-assessable and are owned directly by the Company, free and clear of all liens, encumbrances, equities or claims; (vi) the Shares to be sold by the Company have been duly authorized, and when issued and delivered in accordance with the terms of this Agreement will be, validly issued, fully paid and non- assessable, and the issuance of such Shares will not be subject to any preemptive or similar rights; (vii) the Company has corporate power and authority to enter into this Agreement and to issue, sell and deliver to the Underwriters the Shares to be issued and sold by the Company; (viii) this Agreement has been duly authorized, executed and delivered by the Company; (ix) the execution and delivery by the Company of, and the performance by the Company of its obligations under, this Agreement will not contravene any provision of applicable law or the certificate of incorporation or bylaws of the Company or, to such counsel's knowledge, any agreement or other instrument binding upon the Company or any of its subsidiaries that is material to the Company and its subsidiaries, taken as a whole (with such agreements and instruments being set forth on a schedule to such counsel's opinion), or, to such counsel's knowledge, any judgment, order or decree of any governmental body, agency or court having jurisdiction over the Company or any subsidiary, and no consent, approval, authorization or order of or qualification with any governmental body or agency is required for the performance by the Company of its obligations under this Agreement, except such as may be required by the securities or Blue Sky laws of the various states and jurisdictions in connection with the offer and sale of the Shares; (x) the statements (A) in the Prospectus under the captions "Risk Factors -- Effect of Anti-Takeover Provisions," "Risk Factors -- Shares Eligible for Future Sale;" "Business -- Manufacturing," "Business --Strategic Manufacturing Relationships," "Business -- Seagate Relationship," (B) in the Registration Statement in Item 15 and (C) in the Company's Registration Statement on Form 8-A, as amended, filed under the Exchange Act, in each case insofar as such statements constitute summaries of the legal matters, documents or proceedings referred to therein, fairly present the information called for with respect to such legal matters, documents and proceedings and fairly summarize the matters referred to therein; 10 (xi) such counsel does not know of any legal, regulatory or governmental proceeding pending or threatened to which the Company or any of its subsidiaries is a party or to which any of the properties of the Company or any of its subsidiaries is subject that are required to be described in the Registration Statement or the Prospectus and are not so described or of any statutes, regulations, contracts or other documents that are required to be described in the Registration Statement or the Prospectus or to be filed as exhibits to the Registration Statement that are not described or filed as required; (xii) the Company is not and, after giving effect to the offering and sale of the Shares and the application of the net proceeds therefrom as described in the Prospectus will not be, an "investment company" as such term is defined in the Investment Company Act of 1940, as amended; (xiii) to the knowledge of such counsel, there is no legal or beneficial owner of any securities of the Company who has any rights, not effectively satisfied or waived, to require registration of any shares of capital stock of the Company in connection with the filing of the Registration Statement; (xiv) nothing has come to the attention of such counsel that would lead it to believe that the Company and its subsidiaries (A) are not in compliance with any and all applicable Environmental Laws, (B) have not received all permits, licenses or other approvals required of them under applicable Environmental Laws to conduct their respective businesses and (C) are not in compliance with all terms and conditions of any such permit, license or approval, except where such noncompliance with Environmental Laws, failure to receive required permits, licenses or other approvals or failure to comply with the terms and conditions of such permits, licenses or approvals would not, singly or in the aggregate, have a material adverse effect of the Company and its subsidiaries, taken as a whole; and (xv) to such counsel's knowledge (A) the Registration Statement has become effective under the Securities Act, (B) no stop order proceedings with respect thereto have been instituted or are pending or threatened under the Securities Act and nothing has come to such counsel's attention to lead it to believe that such proceedings are contemplated; and (C) any required filing of the Prospectus and any supplement thereto pursuant to Rule 424(b) under the Securities Act has been made in the manner and within the time period required by such Rule 424(b); (xvi) the Shares to be sold under this Agreement to the Underwriters are duly authorized for quotation on the Nasdaq National Market; and (xvii) such counsel shall also state that (A) it believes that the Registration Statement and Prospectus (except for financial statements and schedules included therein as to which such counsel need not express any opinion) comply as to form in all material respects with the Securities Act and the rules and regulations of the Commission thereunder and (B) nothing has come to its attention that would cause it to believe that (except for financial statements and schedules as to which such counsel need not express any belief) the Registration Statement and the Prospectus included therein at the time the Registration Statement became effective contained any untrue statement of a material fact or omitted to state a material fact 11 required to be stated therein or necessary to make the statements therein not misleading or that (except for financial statements and schedules as to which such counsel need not express any belief) the Prospectus as of its date or as of the Closing Date contained any untrue statement of a material fact or omitted to state a material fact necessary in order to make the statements therein, in light of the circumstances under which they were made, not misleading. d. The Underwriters shall have received on the Closing Date an opinion of Wilson Sonsini Goodrich & Rosati, Professional Corporation ("Wilson Sonsini Goodrich & Rosati"), counsel for the Underwriters, dated the Closing Date, covering the matters referred to in subparagraphs (vi), (viii), (x) (but only as to the statements in the Prospectus under "Underwriters") and (xvii) of paragraph (c) above. With respect to subparagraph (xvii) of paragraph (c) above, Brobeck, Phleger & Harrison and Wilson Sonsini Goodrich & Rosati may state that their opinion and belief are based upon their participation in the preparation of the Registration Statement and Prospectus and any amendments or supplements thereto and review and discussion of the contents thereof, but are without independent check or verification except as specified. The opinion of Brobeck, Phleger & Harrison described in paragraph (c) above and the opinion of Yuasa and Hara described in paragraph (e) below, the opinions of Majestic, Parsons, Siebert & Hsue described in paragraph (f) below shall be rendered to you at the request of the Company, and shall so state therein. e. The Underwriters shall have received, on the Closing Date, a letter dated the Closing Date, an opinion of Yuasa and Hara, special Japanese counsel to the Company, dated the Closing Date, to the effect that SanDisk KK has been duly incorporated, is validly existing as a corporation in good standing under the laws of Japan, has the corporate power and authority to own its property and to conduct its business as described in the Prospectus and is duly qualified to transact business and is in good standing in each jurisdiction in which the conduct of its business or its ownership or leasing of property requires such qualification, except to the extent that the failure to be so qualified or be in good standing would not have a material adverse effect on the Company and its subsidiaries taken as a whole. f. The Underwriters shall have received on the Closing Date an opinion of Majestic, Parsons, Siebert & Hsue, patent counsel to the Company, dated the Closing Date, to the effect that: (i) the Company is listed in the records of the United States Patent and Trademark Office ("PTO") as the holder of record of the patent applications listed in Exhibit A hereto (the "Patent Applications"). [Five] of such Patent Applications, listed on Exhibit B hereto, have been allowed or indicated as containing allowable subject matter. To the best of such counsel's knowledge, written assignments to the Company of all ownership interests in the Patent Applications have been duly authorized, executed and delivered by all of the inventors in accordance with their terms. To the best of such counsel's knowledge, there is no claim of any party other than the Company to any ownership interest or lien with respect to any of the Patent Applications except as noted on Exhibit A; 12 (ii) to such counsel's knowledge, other than in connection with assertions or inquiries made by patent office examiners in the ordinary course of the prosecution of the Company's Patent Applications and except as set forth on Exhibit C hereto, there is not pending or threatened in writing any action, suit, proceeding or claim by others (A) challenging the validity or scope of the Patent Applications held by or licensed to the Company, or (B) asserting that any third party patent is infringed by the activities of the Company described in the Prospectus or by the manufacture, use or sale of any of the Company's products or other items made and used according to the Patent Applications held by or licensed to the Company; (iii) to such counsel's knowledge and except as set forth on Exhibit C hereto, there is not pending or threatened in writing any action, suit, proceeding or claim by the Company asserting infringement on the part of any third party of the Patent Applications; and (iv) the statements in the Prospectus under the captions "Risk Factors -- Patents, Proprietary Rights and Related Litigation" and "Business -- Patents and Licenses" (the "Intellectual Property Portions") to the best of such counsel's knowledge, insofar as such statements relate to the Patent Applications or any legal matters, documents and proceedings relating thereto, fairly present the information called for with respect to such legal matters, documents and proceedings and fairly summarize the matters referred to therein. g. The Underwriters shall have received on the Closing Date an opinion of Wilson Sonsini Goodrich & Rosati, special intellectual property counsel to the Company, dated the Closing Date, to the effect that: (i) the statements in the Prospectus under the captions "Risk Factors -- Patents, Proprietary Rights and Related Litigation," and "Business -- Patents and Licenses," to such counsel's knowledge, insofar as such statements relate to the patents listed in Exhibit A (the "Patents") or any legal matters, documents and proceedings relating thereto, fairly present the information called for with respect to such legal matters, documents and proceedings and fairly summarize the matters referred to therein; (ii) to such counsel's knowledge, other than in connection with assertions or inquiries made by patent office examiners in the ordinary course of the prosecution of the Company's Patent Applications and except as set forth on Exhibit B hereto, there is not pending or threatened in writing any action, suit, proceeding or claim by others (A) challenging the validity or scope of the Patents held by or licensed to the Company, or (B) asserting that any third party patent is infringed by the activities of the Company described in the Prospectus or by the manufacture, use or sale of any of the Company's products or other items made and used according to the Patents held by or licensed to the Company. (iii) to such counsel's knowledge and except as set forth on Exhibit C hereto, there is not pending or threatened in writing any action, suit, proceeding or claim by the Company asserting infringement on the part of any third party of the Patents. 13 h. The Underwriters shall have received, on each of the date hereof and the Closing Date, a letter dated the date hereof or the Closing Date, as the case may be, in form and substance satisfactory to you, from Ernst and Young LLP, independent public accountants, containing statements and information of the type ordinarily included in accountants' "comfort letters" to underwriters with respect to the financial statements and certain financial information contained in the Registration Statement and the Prospectus; provided that the letter delivered on the Closing Date shall use a "cut off date" not earlier than the date hereof. i. The Lock-up agreements each substantially in the form of Exhibit D hereto, between you and certain stockholders, officers and directors of the Company relating to sales of shares and certain other dispositions of shares of Common Stock or certain other securities, delivered to you on or before the date hereof, shall be in full force and effect on the Closing Date. j. The shares of Common Stock of the Company shall have received authorization for listing, upon official notice of issuance, on the Nasdaq National Market. k. The Company shall have complied with the provisions of Section 6(a) hereof with respect to the furnishing of prospectuses on the business day next succeeding the date of this Agreement in such quantities as you may reasonably request. All the agreements, opinions, certificates and letters mentioned above or elsewhere in this Agreement shall be deemed in compliance with the provisions hereof only if Wilson Sonsini Goodrich & Rosati, counsel for the Underwriters, shall be reasonably satisfied that they comply in form and scope. The several obligations of the Underwriters to purchase Additional Shares hereunder are subject to the delivery to you on the Option Closing Date of such documents as you may reasonably request with respect to the good standing of the Company, the due authorization and issuance of the Additional Shares, other matters related to the issuance of the Additional Shares and an opinion or opinions of Brobeck, Phleger & Harrison, Majestic, Parsons, Siebert & Hsue and Yuasa and Hara in form and substance satisfactory to Wilson Sonsini Goodrich & Rosati, counsel for the Underwriters. 6. COVENANTS OF THE COMPANY. In further consideration of the agreements of the Underwriters herein contained, the Company covenants with each Underwriter as follows: a. To furnish to you, without charge, four signed copies of the Registration Statement (including exhibits thereto) and for delivery to each other Underwriter a conformed copy of the Registration Statement (without exhibits thereto) and to furnish to you in New York City, without charge, prior to 10:00 a.m. New York City time on the business day next succeeding the date of this Agreement and during the period mentioned in Section 6(c) below, as many copies of the Prospectus and any supplements and amendments thereto or to the Registration Statement as you may reasonably request. b. Before amending or supplementing the Registration Statement or the Prospectus, to furnish to you a copy of each such proposed amendment or supplement and to file no such proposed amendment or supplement to which you reasonably object and to file with the Commission within the 14 applicable period specified in Rule 424(b) under the Securities Act any prospectus required to be filed pursuant to such Rule. c. If, during such period after the first date of the public offering of the Shares as in the opinion of counsel for the Underwriters the Prospectus is required by law to be delivered in connection with sales by an Underwriter or dealer, any event shall occur or condition exist as a result of which it is necessary to amend or supplement the Prospectus in order to make the statements therein, in the light of the circumstances when the Prospectus is delivered to a purchaser, not misleading, or if, in the opinion of counsel for the Underwriters, it is necessary to amend or supplement the Prospectus to comply with applicable law, forthwith to prepare, file with the Commission and furnish, at its own expense, to the Underwriters and to the dealers (whose names and addresses you will furnish to the Company) to which Shares may have been sold by you on behalf of the Underwriters and to any other dealers upon request, either amendments or supplements to the Prospectus so that the statements in the Prospectus as so amended or supplemented will not, in the light of the circumstances when the Prospectus is delivered to a purchaser, be misleading or so that the Prospectus, as amended or supplemented, will comply with law. d. To endeavor to qualify the Shares for offer and sale under the securities or Blue Sky laws of such jurisdictions as you shall reasonably request and to pay all expenses (including fees and disbursements of counsel) in connection with such qualification and in connection with any review of the offering of the Shares by the National Association of Securities Dealers, Inc.; provided, however, that the Company shall not be required to register or qualify as a foreign corporation in any jurisdiction where it is not now so registered or qualified. e. To make generally available to the Company's security holders and to you as soon as practicable an earnings statement covering the twelve- month period ending December 31, 1998 that satisfies the provisions of Section 11(a) of the Securities Act and the rules and regulations of the Commission thereunder. f. During a period of three years from the effective date of the Registration Statement, the Company will furnish to you copies of (i) all reports to its stockholders and (ii) all reports, financial statements and proxy or information statements filed by the Company with the Commission or any national securities exchange. g. The Company will use its best efforts to obtain and maintain in effect the quotation of the Shares on the Nasdaq National Market and will take all necessary steps to cause the Shares to be included on the Nasdaq National Market as promptly as practicable and to maintain such inclusion for a period of three years after the date hereof or until such earlier date as the Shares shall be listed for regular trading privileges on another national securities exchange approved by you. h. The Company will comply with all provisions of all undertakings contained in the Registration Statement. i. The Company agrees: (i) to enforce the terms of each Lock-up Agreement and (ii) issue stop-transfer instructions to the transfer agent for the Common Stock with respect to any transaction or contemplated transaction that would constitute a breach of or default under the applicable Lock-up Agreement. In addition, except with the prior written consent of Morgan Stanley, 15 the Company agrees (i) not to amend or terminate, or waive any right under, any Lock-up Agreement, or take any other action that would directly or indirectly have the same effect as an amendment or termination, or waiver of any right under, any Lock-up Agreement, that would permit any holder of shares of Common Stock, or securities convertible into or exercisable or exchangeable for Common Stock, to sell, make any short sale of, grant any option for the purchase of, or otherwise transfer or dispose of, any of such shares of Common Stock or other securities prior to the expiration of 90 days after the date of the Prospectus, and (ii) not to consent to any sale, short sale, grant of an option for the purchase of, or other disposition or transfer of shares of Common Stock, or securities convertible into or exercisable or exchangeable for Common Stock, subject to a Lock-up Agreement. 7. EXPENSES. The Company agrees, whether or not the transactions contemplated in this Agreement are consummated or this Agreement is terminated, to pay or cause to be paid all expenses incident to the performance of its obligations under this Agreement, including: (i) the fees, disbursements and expenses of the Company's counsel and the Company's accountants in connection with the registration and delivery of the Shares under the Securities Act and all other fees or expenses in connection with the preparation and filing of the Registration Statement, any preliminary prospectus, the Prospectus and amendments and supplements to any of the foregoing, including all printing costs associated therewith, and the mailing and delivering of copies thereof to the Underwriters and dealers, in the quantities hereinabove specified, (ii) all costs and expenses related to the transfer and delivery of the Shares to the Underwriters, including any transfer or other taxes payable thereon, (iii) the cost of printing or producing any Blue Sky or Legal Investment memorandum in connection with the offer and sale of the Shares under state securities laws, including filing fees and the reasonable fees and disbursements of counsel for the Underwriters in connection with the Blue Sky or Legal Investment memorandum, (iv) all filing fees and the reasonable fees and disbursements (including filing fees) of counsel to the Underwriters incurred in connection with the review and qualification of the offering of the Shares by the National Association of Securities Dealers, Inc., (v) all costs and expenses incident to listing the Shares on the Nasdaq National Market, (vi) the cost of printing certificates representing the Shares, (vii) the costs and charges of any transfer agent, registrar or depositary, (viii) the costs and expenses of the Company relating to investor presentations on any "road show" undertaken in connection with the marketing of the offering of the Shares, including, without limitation, expenses associated with the production of road show slides and graphics, fees and expenses of any consultants engaged in connection with the road show presentations with the prior approval of the Company, travel and lodging expenses of the representatives and officers of the Company and any such consultants, and the cost of any aircraft chartered in connection with the road show, and (ix) all other costs and expenses incident to the performance of the obligations of the Company hereunder for which provision is not otherwise made in this Section 7. It is understood, however, that except as provided in this Section 7, Section 8 and the last paragraph of Section 10 below, the Underwriters will pay all of their costs and expenses, including fees and disbursements of their counsel, stock transfer taxes payable on resale of any of the Shares by them and any advertising expenses connected with any offers they may make. 8. INDEMNITY AND CONTRIBUTION. a. The Company agrees to indemnify and hold harmless each Underwriter and each person, if any, who controls any Underwriter within the meaning of either Section 15 of the Securities Act or Section 20 of the Securities Exchange Act of 1934, as amended (the "Exchange Act"), or is under common control with, or is controlled by, any Underwriter, from and against any and all losses, 16 claims, damages and liabilities (including, without limitation, any legal or other expenses reasonably incurred in connection with defending or investigating any such action or claim) caused by any untrue statement or alleged untrue statement of a material fact contained in the Registration Statement or any amendment thereof, including any Incorporated Document, any preliminary prospectus or the Prospectus (as amended or supplemented if the Company shall have furnished any amendments or supplements thereto), including any Incorporated Document, or caused by any omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, except insofar as such losses, claims, damages or liabilities are caused by any such untrue statement or omission or alleged untrue statement or omission based upon information relating to any Underwriter furnished to the Company in writing by such Underwriter through you expressly for use therein; provided, however, that the foregoing indemnity agreement with respect to any preliminary prospectus shall not inure to the benefit of any Underwriter, or any person controlling such Underwriter, from whom the person asserting any such losses, claims, damages, or liabilities purchased Shares, if a copy of the Prospectus (as then amended or supplemented if the Company shall have furnished any amendments or supplements thereto) was not sent or given by or on behalf of such Underwriter to such person, if required by law so to have been delivered, at or prior to the written confirmation of the sale of the shares to such person, and if the Prospectus (as so amended or supplement) would have cured the defect given rise to such loss, claim, damage or liability except that such provision shall inure to the benefit of the Underwriters if the Company failed to deliver by 5:00 p.m. one day following the date hereof as many copies of any such preliminary prospectus, the Prospectus or the Registration Statement as the Underwriters may so request. b. Each Underwriter agrees, severally and not jointly, to indemnify and hold harmless the Company, the directors of the Company, the officers of the Company who sign the Registration Statement and each person, if any, who controls the Company within the meaning of either Section 15 of the Securities Act or Section 20 of the Exchange Act, from and against any and all losses, claims, damages and liabilities (including, without limitation, any legal or other expenses reasonably incurred in connection with defending or investigating any such action or claim) caused by any untrue statement or alleged untrue statement of a material fact contained in the Registration Statement or any amendment thereof, any preliminary prospectus or the Prospectus (as amended or supplemented if the Company shall have furnished any amendments or supplements thereto), or caused by any omission or alleged omission to state therein a material fact required to be stated therein or necessary to make the statements therein not misleading, but only with reference to information relating to such Underwriter furnished to the Company in writing by such Underwriter through you expressly for use in the Registration Statement, any preliminary prospectus, the Prospectus or any amendments or supplements thereto. c. In case any proceeding (including any governmental investigation) shall be instituted involving any person in respect of which indemnity may be sought pursuant to paragraphs (a) or (b) of this Section 8, such person (the "Indemnified Party") shall promptly notify the person against whom such indemnity may be sought (the "Indemnifying Party") in writing and the Indemnifying Party, upon request of the Indemnified Party, shall retain counsel reasonably satisfactory to the Indemnified Party to represent the Indemnified Party and any others the Indemnifying Party may designate in such proceeding and shall pay the fees and disbursements of such counsel related to such proceeding. In any such proceeding, any Indemnified Party shall have the right to retain its own counsel, but the fees and expenses of such counsel shall be at the expense of such Indemnified Party 17 unless (i) the Indemnifying Party and the Indemnified Party shall have mutually agreed to the retention of such counsel or (ii) the named parties to any such proceeding (including any impleaded parties) include both the Indemnifying Party and the Indemnified Party and representation of both parties by the same counsel would be inappropriate due to actual or potential differing interests between them. It is understood that the Indemnifying Party shall not, in respect of the legal expenses of any Indemnified Party in connection with any proceeding or related proceedings in the same jurisdiction, be liable for (a) the fees and expenses of more than one separate firm (in addition to any local counsel) for all Underwriters and all persons, if any, who control any Underwriter within the meaning of either Section 15 of the Securities Act or Section 20 of the Exchange Act and (b) the fees and expenses of more than one separate firm (in addition to any local counsel) for the Company, its directors, its officers who sign the Registration Statement and each person, if any, who controls the Company within the meaning of either such Section. In the case of any such separate firm for the Underwriters and such control persons of Underwriters, such firm shall be designated in writing by Morgan Stanley & Co. Incorporated. In the case of any such separate firm for the Company, and such directors, officers and control persons of the Company, such firm shall be designated in writing by the Company. The Indemnifying Party shall not be liable for any settlement of any proceeding effected without its written consent, but if settled with such consent or if there be a final judgment for the plaintiff, the Indemnifying Party agrees to indemnify the Indemnified Party from and against any loss or liability by reason of such settlement or judgment. Notwithstanding the foregoing sentence, if at any time an Indemnified Party shall have requested an Indemnifying Party to reimburse the Indemnified Party for fees and expenses of counsel as contemplated by the second and third sentences of this paragraph, the Indemnifying Party agrees that it shall be liable for any settlement of any proceeding effected without its written consent if (i) such settlement is entered into more than 30 days after receipt by such Indemnifying Party of the aforesaid request and (ii) such Indemnifying Party shall not have reimbursed the Indemnified Party in accordance with such request prior to the date of such settlement. No Indemnifying Party shall, without the prior written consent of the Indemnified Party, effect any settlement of any pending or threatened proceeding in respect of which any Indemnified Party is or could have been a party and indemnity could have been sought hereunder by such Indemnified Party, unless such settlement includes an unconditional release of such Indemnified Party from all liability on claims that are the subject matter of such proceeding. d. To the extent the indemnification provided for in paragraph (a), (b) or (c) of this Section 8 is unavailable to an Indemnified Party or insufficient in respect of any losses, claims, damages or liabilities referred to therein, then each Indemnifying Party under such paragraph, in lieu of indemnifying such Indemnified Party thereunder, shall contribute to the amount paid or payable by such Indemnified Party as a result of such losses, claims, damages or liabilities (i) in such proportion as is appropriate to reflect the relative benefits received by the Indemnifying Party or parties on the one hand and the Indemnified Party or parties on the other hand from the offering of the Shares or (ii) if the allocation provided by clause (i) above is not permitted by applicable law, in such proportion as is appropriate to reflect not only the relative benefits referred to in clause (i) above but also the relative fault of the Indemnifying Party or parties on the one hand and of the Indemnified Party or parties on the other hand in connection with the statements or omissions that resulted in such losses, claims, damages or liabilities, as well as any other relevant equitable considerations. The relative benefits received by the Company on the one hand and the Underwriters on the other hand in connection with the offering of the Shares shall be deemed to be in the same respective proportions as the net proceeds from the offering of the Shares (before deducting expenses) received by the Company and the total underwriting discounts and commissions received by the Underwriters, in each 18 case as set forth in the table on the cover of the Prospectus, bear to the aggregate Public Offering Price of the Shares. The relative fault of the Company on the one hand and the Underwriters on the other hand shall be determined by reference to, among other things, whether the untrue or alleged untrue statement of a material fact or the omission or alleged omission to state a material fact relates to information supplied by the Company or by the Underwriters and the parties' relative intent, knowledge, access to information and opportunity to correct or prevent such statement or omission. The Underwriters' respective obligations to contribute pursuant to this Section 8 are several in proportion to the respective number of Shares they have purchased hereunder, and not joint. e. The Company and the Underwriters agree that it would not be just or equitable if contribution pursuant to this Section 8 were determined by pro rata allocation (even if the Underwriters were treated as one entity for such purpose) or by any other method of allocation that does not take account of the equitable considerations referred to in the immediately preceding paragraph. The amount paid or payable by an Indemnified Party as a result of the losses, claims, damages and liabilities referred to in the immediately preceding paragraph shall be deemed to include, subject to the limitations set forth above, any legal or other expenses reasonably incurred by such Indemnified Party in connection with investigating or defending any such action or claim. Notwithstanding the provisions of this Section 8, no Underwriter shall be required to contribute any amount in excess of the amount by which the total price at which the Shares underwritten by it and distributed to the public were offered to the public exceeds the amount of any damages that such Underwriter has otherwise been required to pay by reason of such untrue or alleged untrue statement or omission or alleged omission. No person guilty of fraudulent misrepresentation (within the meaning of Section 11(f) of the Securities Act) shall be entitled to contribution from any person who was not guilty of such fraudulent misrepresentation. The remedies provided for in this Section 8 are not exclusive and shall not limit any rights or remedies which may otherwise be available to any Indemnified Party at law or in equity. f. The indemnity and contribution provisions contained in this Section 8 and the representations and warranties and other statements of the Company contained in this Agreement shall remain operative and in full force and effect regardless of (i) any termination of this Agreement, (ii) any investigation made by or on behalf of any Underwriter or any person controlling any Underwriter, or by or on behalf of the Company, its officers or directors or any person controlling the Company and (iii) acceptance of and payment for any of the Shares. 9. TERMINATION. This Agreement shall be subject to termination, by notice given by you to the Company, if (a) after the execution and delivery of this Agreement and prior to the Closing Date (i) trading generally shall have been suspended or materially limited on or by, as the case may be, any of the New York Stock Exchange, the American Stock Exchange, the National Association of Securities Dealers, Inc., the Chicago Board of Options Exchange, the Chicago Mercantile Exchange or the Chicago Board of Trade, (ii) trading of any securities of the Company shall have been suspended on any exchange or in any over-the-counter market, (iii) a general moratorium on commercial banking activities in New York shall have been declared by either Federal or New York State authorities, or (iv) there shall have occurred any outbreak or escalation of hostilities or any change in financial markets or any calamity or crisis that, in your sole judgment, is material and adverse and (b) in the case of any of the events specified in clauses (a)(i) through (iv), such event singly or together with any other such event makes it, in your sole judgment, impracticable to market the Shares on the terms and in the manner contemplated in the Prospectus. 19 10. EFFECTIVENESS; DEFAULTING UNDERWRITERS. This Agreement shall become effective upon the later of (i) execution and delivery hereof by the parties hereto and (ii) release of notification of the effectiveness of the Registration Statement by the Commission. If, on the Closing Date or the Option Closing Date, as the case may be, any one or more of the Underwriters shall fail or refuse to purchase Shares that it or they have agreed to purchase hereunder on such date, and the aggregate number of Shares which such defaulting Underwriter or Underwriters agreed but failed or refused to purchase is not more than one-tenth of the aggregate number of the Shares to be purchased on such date, the other Underwriters shall be obligated severally in the proportions that the number of Firm Shares set forth opposite their respective names in Schedule I bears to the aggregate number of Firm Shares set forth opposite the names of all such non- defaulting Underwriters, or in such other proportions as you may specify, to purchase the Shares which such defaulting Underwriter or Underwriters agreed but failed or refused to purchase on such date; provided, that in no event shall the number of Shares that any Underwriter has agreed to purchase pursuant to this Agreement be increased pursuant to this Section 10 by an amount in excess of one-ninth of such number of Shares without the written consent of such Underwriter. If, on the Closing Date any Underwriter or Underwriters shall fail or refuse to purchase Firm Shares and the aggregate number of Firm Shares with respect to which such default occurs is more than one-tenth of the aggregate number of Firm Shares to be purchased on such date, and arrangements satisfactory to you and the Company for the purchase of such Firm Shares are not made within 36 hours after such default, this Agreement shall terminate without liability on the part of any non-defaulting Underwriter or the Company. In any such case either you or the Company shall have the right to postpone the Closing Date or the Option Closing Date, as the case may be, but in no event for longer than seven days, in order that the required changes, if any, in the Registration Statement and in the Prospectus or in any other documents or arrangements may be effected. If, on the Option Closing Date, any Underwriter or Underwriters shall fail or refuse to purchase Additional Shares and the aggregate number of Additional Shares with respect to which such default occurs is more than one- tenth of the aggregate number of Additional Shares to be purchased, the non- defaulting Underwriters shall have the option to (i) terminate their obligation to purchase Additional Shares or (ii) purchase not less than the number of Additional Shares that such non-defaulting Underwriters would have been obligated to purchase in the absence of such default. Any action taken under this paragraph shall not relieve any defaulting Underwriter from liability in respect of any default of such Underwriter under this Agreement. If this Agreement shall be terminated by the Underwriters, or any of them, because of any failure or refusal on the part of the Company to comply with the terms or to fulfill any of the conditions of this Agreement, or if for any reason the Company shall be unable to perform its obligations under this Agreement, the Company will reimburse the Underwriters or such Underwriters as have so terminated this Agreement with respect to themselves, severally, for all out-of-pocket expenses (including the fees and disbursements of their counsel) reasonably incurred by such Underwriters in connection with this Agreement or the offering contemplated hereunder. 11. COUNTERPARTS. This Agreement may be signed in two or more counterparts, each of which shall be an original, with the same effect as if the signatures thereto and hereto were upon the same instrument. 20 12. APPLICABLE LAW. This Agreement shall be governed by and construed in accordance with the internal laws of the State of New York. 13. HEADINGS. The headings of the sections of this Agreement have been inserted for convenience of reference only and shall not be deemed a part of this Agreement. Very truly yours, SANDISK CORPORATION By: ________________________________ Name: Title: Accepted as of the date hereof. MORGAN STANLEY & CO. INCORPORATED GOLDMAN, SACHS & CO. BANCAMERICA ROBERTSON STEPHENS Acting severally on behalf of themselves and the several Underwriters named herein. By: MORGAN STANLEY & CO. INCORPORATED By: __________________________________ Name: Title: 21 SCHEDULE I ---------- SCHEDULE OF UNDERWRITERS Name Number of ----------------------------------- Shares --------- Morgan Stanley & Co. Incorporated.............................. Goldman, Sachs & Co............................................ BancAmerica Robertson Stephens................................. TOTAL: --------- EXHIBIT A --------- PATENT APPLICATIONS EXHIBIT B --------- ALLOWED PATENT APPLICATIONS EXHIBIT C --------- LITIGATION EXHIBIT D --------- FORM OF LOCK-UP AGREEMENT October 17, 1997 Morgan Stanley & Co. Incorporated Goldman, Sachs & Co. BancAmerica Robertson Stephens c/o Morgan Stanley & Co. Incorporated 1585 Broadway New York, NY 10036 Ladies and Gentlemen: The undersigned understands that Morgan Stanley & Co. Incorporated ("Morgan Stanley") proposes to enter into an Underwriting Agreement (the "Underwriting Agreement") with SanDisk Corporation, a Delaware corporation (the "Company"), providing for the public offering (the "Public Offering") by the several Underwriters, including Morgan Stanley (the "Underwriters"), of 3,000,000 shares (the "Shares") of the Common Stock, $.001 par value, of the Company ("Common Stock"). To induce the Underwriters that may participate in the Public Offering to continue their efforts in connection with the Public Offering, the undersigned hereby agrees that, without the prior written consent of Morgan Stanley on behalf of the Underwriters, he, she or it will not, during the period commencing on the date hereof and ending 90 days after the date of the final prospectus (the "Prospectus") relating to the Public Offering, (1) offer, pledge, sell, contract to sell, sell any option or contract to purchase, purchase any option or contract to sell, grant any option, right or warrant to purchase, lend, or otherwise transfer or dispose of, directly or indirectly, any shares of Common Stock or any securities convertible into or exercisable or exchangeable for Common Stock or (2) enter into any swap or other arrangement that transfers to another, in whole or in part, any of the economic consequences of ownership of Common Stock, whether any such transaction described in clause (1) or (2) above is to be settled by delivery of Common Stock or such other securities, in cash or otherwise. However, the executive officers and directors of the Company may, without such consent, sell an aggregate of up to 100,000 shares, which shall include no more than 40,000 shares by any one person. The foregoing sentence shall not apply to (1) the sale of any Shares to the Underwriters pursuant to the Underwriting Agreement, (2) transactions relating to shares of Common Stock or other securities acquired in open market transactions after the completion of the Public Offering. In addition, the undersigned agrees that, without the prior written consent of Morgan Stanley, on behalf of the Underwriters, he, she or it will not, during the period commencing on the date hereof and ending 90 days after the date of the Prospectus, make any demand for or exercise any right with respect to, the registration of any shares of Common Stock or any security convertible into or exercisable or exchangeable for Common Stock. Notwithstanding the foregoing, the undersigned may transfer any securities of the Company either during his or her lifetime or on death by gift, will or intestacy to his or her immediate family or to a trust, the beneficiaries of which are exclusively the undersigned and/or a member of his or her immediate family; provided, however, that in each such case described in this paragraph the transferee agrees in writing to be bound by the provisions of this Agreement. For purposes of this Agreement, "immediate family" shall mean spouse, lineal descendant, father, mother, brother or sister of the transferee. The undersigned hereby acknowledges that this Agreement is valid and binding notwithstanding any prior agreements relating to this matter and further agrees and consents to the entry of stop transfer instructions with the Company's transfer agent against the transfer of shares of Common Stock held by the undersigned except in compliance with this Agreement. The undersigned also understands that the Company and the Underwriters will proceed with the Public Offering in reliance on this Lock-Up Agreement. Whether or not the Public Offering actually occurs depends on a number of factors, including market conditions. Any Public Offering will only be made pursuant to the Underwriting Agreement, the terms of which are subject to negotiation between the Company and the Underwriters. Very truly yours, _________________________________ (Name) _________________________________ (Address) EX-5.1 3 LEGAL OPINION OF BROBECK PHLEGER & HARRISON EXHIBIT 5.1 October 24, 1997 SanDisk Corporation 140 Caspian Court Sunnyvale, CA 94089 Re: Registration Statement on Form S-3 ---------------------------------- Ladies and Gentlemen: We have examined the Registration Statement on Form S-3 filed by SanDisk Corporation (the "Company") with the Securities and Exchange Commission (the "Commission") on October 27, 1997, (the "Registration Statement") in connection with the registration under the Securities Act of 1933, as amended, of 3,450,000 shares of the Company's common stock (the "Shares"). The Shares include an over-allotment option to purchase 450,000 shares granted to the Underwriters as described in said Registration Statement for resale to the public. As your counsel in connection with this transaction, we have examined the proceedings taken and are familiar with the proceedings proposed to be taken by you in connection with the sale and issuance of the Shares. Based on the foregoing, it is our opinion that, upon conclusion of the proceedings being taken or contemplated by us, as your counsel, to be taken prior to the issuance of the Shares, and upon completion of the proceedings being taken in order to permit such transactions to be carried out in accordance with the securities laws of the various states where required, the Shares, when issued and sold in the manner described in the Registration Statement, will be legally and validly issued, fully paid and non-assessable. We consent to the use of this opinion as an exhibit to said Registration Statement, and further consent to the use of our name wherever appearing in said Registration Statement, including the prospectus constituting a part thereof, and in any amendment thereto. Very truly yours, BROBECK, PHLEGER & HARRISON LLP -----END PRIVACY-ENHANCED MESSAGE-----