Why a SanDisk-Kodak deal could click
Kodak needs to find a future beyond film. SanDisk needs to sell more memory chips. Together, they could make a pretty picture.
By Owen Thomas, Business 2.0 Magazine online editor

SAN FRANCISCO (Business 2.0 Magazine) - Kodak can't go digital fast enough. And there's a company that could speed that process up: SanDisk.

The clearest snapshot of Kodak's plight came Thursday, when the company reported a $298 million loss and announced it would seek a buyer for its healthcare-imaging division. While its digital revenues are growing fast, they're not making up for its disappearing sales of film.

And therein lies Kodak's problem: It hasn't found the digital equivalent of film.

While Kodak (Research) has had success selling digital cameras and printers, consumers aren't printing nearly as many photos as Kodak and other industry players hoped. The hope was that sales of photo paper and other supplies would replace lost film revenues.

Meanwhile, SanDisk (Research), a Silicon Valley chipmaker, believes it has found the formula for replacing film. The flash-memory cards it makes for digital cameras will soon become cheap enough, CEO Eli Harari believes, that they'll be the equivalent of photo scrapbooks and film negatives, used to stash digital photos away permanently, not just for storage on a digital camera until they're transferred to a PC.

SanDisk's secret to success -- revenues grew 30% to $2.3 billion last year -- has been that it both makes memory chips for other companies and for its own use in SanDisk branded flash memory cards, MP3 players, keychain USB storage devices, and other gadgets. Surpringly, it has actually become the No. 2 maker of MP3 players in the U.S. behind Apple (Research).

By making its own SanDisk-branded devices, it's been able to generate demand that keeps its chip-fabrication plants humming.

But lately, the memory-chip industry has hit one of its periodic product gluts, sending SanDisk's inventories soaring and prompting Wall Street to send its shares down 22% from its recent high of $79.80.

Picturing a deal

That's where Kodak comes into the picture. By buying Kodak -- a larger company in terms of revenues, but one whose $8 billion market capitalization is a third smaller than SanDisk's $12 billion -- SanDisk could market digital cameras, photo printers, and other devices that ultimately drive demand for its memory chips. Rather than depending on digital-camera makers to create a market for it, SanDisk could make its own market.

"It's an interesting idea," says Ruben Roy, senior research analyst at investment bank Pacific Crest Securities. "When you look at the demand for the kind of memory SanDisk makes, digital cameras are 35% of the market."

Roy notes that while he initially questioned why SanDisk was getting into the highly competitive MP3 player business, its devices have sold well, especially in price-sensitive emerging markets overseas. "It's a good place for SanDisk flash memory to end up," says Roy. "Bringing digital cameras in-house as another product that consumes SanDisk memory makes a lot of sense."

A combination of Kodak with SanDisk could help in other areas: SanDisk already sells flash memory to cell-phone makers, where Kodak is hoping to market its digital-imaging technology for cameraphones. A merged company could offer cell-phone makers a package deal.

And while SanDisk already sells products at 150,000 retailers, Kodak would give it a nearly ubiquitous retail presence around the globe, offering stores memory cards, photo-printing kiosks, digital cameras, and more.

And by buying Kodak, SanDisk would be dealing a blow to rivals. Competitor Lexar Media, which Micron is in the process of acquiring, currently makes Kodak-branded memory cards for instance. SanDisk could deal a blow to Micron and Lexar by buying Kodak.

Selling off the parts

How would a SanDisk-Kodak deal go down? A sale of Kodak's healthcare and commercial-printing divisions would bring down the purchase price, while private-equity firms could conceivably buy the film division to harvest the cash thrown off by that shrinking but profitable business.

And whatever price SanDisk pays, it will get the storied Kodak brand, still worth nearly $5 billion according to research firm Interbrand. SanDisk is spending heavily to advertise its brand to gain the worldwide recognition that Kodak already enjoys.

The picture isn't entirely perfect, however. An acquisition would be costly and SanDisk already has some steep capital commitments for its core memory business. The company manufactures its chips through a joint venture with Toshiba, and is spending heavily to increase production capacity. On Wednesday, it announced plans to spend an additional $300 million to expand production, on top of a $1.25 billion commitment it had already made.

And Kodak is weighed down by $3.6 billion in debt, mostly accumulated through the expansion of its commercial-printing business.

Given its plans to expand production, "I don't know if SanDisk will be able to pull off a huge acquisition or merger at this point," says Pacific Crest's Roy. "But I think the conclusion is that something like Kodak under the SanDisk umbrella would make sense."

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SanDisk was recently rumored to be exploring a bid for LexarTop of page

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Most stock quote data provided by BATS. Market indices are shown in real time, except for the DJIA, which is delayed by two minutes. All times are ET. Disclaimer.

Morningstar: © 2014 Morningstar, Inc. All Rights Reserved.

Factset: FactSet Research Systems Inc. 2014. All rights reserved.

Chicago Mercantile Association: Certain market data is the property of Chicago Mercantile Exchange Inc. and its licensors. All rights reserved.

Dow Jones: The Dow Jones branded indices are proprietary to and are calculated, distributed and marketed by DJI Opco, a subsidiary of S&P Dow Jones Indices LLC and have been licensed for use to S&P Opco, LLC and CNN. Standard & Poor's and S&P are registered trademarks of Standard & Poor’s Financial Services LLC and Dow Jones is a registered trademark of Dow Jones Trademark Holdings LLC. All content of the Dow Jones branded indices © S&P Dow Jones Indices LLC 2014 and/or its affiliates.