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SanDisk Corp. (SNDK - Analyst Report) reported second quarter 2013 adjusted earnings of $1.14 per share, surpassing the Zacks Consensus Estimate of 88 cents and the year-ago quarter earnings of 15 cents a share. Adjusted or non-GAAP earnings per share exclude amortization of acquisition-related intangible assets, convertible debt interest and tax gains but include stock-based compensation expense.

The beat was mainly attributable to strong solid state drive (SSD) sales, strength in retail businesses and favorable supply/demand metrics. Share price jumped 6.66% in after-hours trading.

Revenues

Total revenue for the second quarter was $1.48 billion, up 43.0% on a year-over-year basis and 10.1% from the previous quarter. The quarter’s result came above the Zacks Consensus Estimate of $1.39 billion and the company’s guidance. The year-over-year revenue improvement was mainly due to strong performances in both the OEM (original equipment manufacturer) and Retail verticals.

OEM sales grew 57.0% year over year with strong support from the sales of SSD and mobile embedded solutions. Sales from the Retail vertical witnessed 22.0% year over year growth.

Operating Results

Reported gross margin in the quarter was 45.8%, up from 27.2% in the year-ago quarter. The year-over-year margin growth was due to lower bit cost and weaker yen, partially offset by product mix and weak pricing.

Operating margin was 26.6% versus 3.5% in the year-ago quarter. The company’s total operating expenses increased 16.2% on a year-over-year basis. Research and development expenses, selling and general expenses and general and administrative expenses witnessed year-over-year increases of 12.9%, 21.7% and 24.4%, respectively.

Net income on a GAAP basis was $261.8 million or $1.06 per share compared with $13.0 million or 5 cents in the year-ago quarter.

Excluding the amortization of acquisition-related intangible assets, convertible debt interest expense and related tax adjustments but including stock-based compensation expense, non-GAAP net income for the second quarter was $281.7 million or $1.14 per share compared with $36.8 million or 15 cents in the year-ago quarter.

Balance Sheet & Cash Flow

SanDisk generated $390.8 million in cash from operating activities compared with $473.7 million in the prior quarter. Capital expenditure was $71.5 million. Cash and short-term investments were $2.59 billion versus $3.31 billion in the previous quarter. Long-term marketable securities were $2.77 billion. Convertible debt for the quarter was $809.6 million, down from $1.72 billion in the previous quarter.

SanDisk repurchased 5.07 million of common stock for $55.27 each, amounting to $280.4 million.

Outlook

Management is positive about SSD revenue growth, favorable product mix (retail and OEM) and better supply/demand metrics in 2013. The company also stated that it will cap wafer capacity addition to keep the supply level restricted. This will boost pricing. SanDisk also expects a ramp in the demand for its latest 19-nm technology.

Apart from this, SanDisk is planning to focus more on iNAND technology as  it will drive its mobile-embedded products. It expects the launch of several new smartphones and tablets, Ultrabooks and other end-client PCs running on SSDs. This will boost demand for NAND flash gadgets aka SSD.

The company also expects its total SSD contribution to be roughly 25.0% of total revenue moving into 2014.

SanDisk now expects third quarter revenues to be within $1.525–$1.575 billion. For fiscal 2013, SanDisk expects revenues in the range of $5.95–$6.05 billion (previously $5.60–$5.75 billion).

For the third quarter, the company expects non-GAAP gross margin of 47.0%–48.0%. Non-GAAP operating expenses will be in the range of $285.0-$290.0 million for the third quarter, which reflects continued investments and the acquisition of SMART Storage Systems. The tax rate is projected at approximately 32.0% on a non-GAAP basis.

For fiscal 2013, non-GAAP gross margin is expected to be higher than 45.0% (previously 42.0%–44.0%). Gross margin expansion reflects decent pricing environment and a weaker yen during the second half. Non-GAAP operating expenses will be roughly $1.10 billion (previously $1.05 billion).

The Zacks Consensus Estimate for third quarter and fiscal 2013 are pegged at $1.08 and $3.89 per share, respectively.

Our Take

SanDisk posted solid second quarter results with both its top and bottom lines surpassing the Zacks Consensus Estimate. Revenues from OEMs and Retail were strong, aided by higher mobile embedded and SSD sales. Fiscal 2013 guidance was encouraging too, citing growing demand for SSDs and ramp of its 19-nm technology.

Though lackluster PC sales, European issues, competition from Micron Technology Inc. (MU - Analyst Report) and currency fluctuations could hurt the fundamentals a bit, we remain positive on management’s commentary of a turnaround story in the coming quarter and beyond and strong secular demand for NAND flash.

Currently, SanDisk holds a Zacks Rank #1 (Strong Buy). Apart from SanDisk, we also expect earnings beat from the following stocks.

Rambus Inc. (RMBS - Snapshot Report), Earnings ESP of +9.09% and Zacks Rank #1 (Strong Buy).

Zynga Inc. (ZNGA - Snapshot Report), Earnings ESP of +14.29% and Zacks Rank #1 (Strong Buy).

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