Pangea is Born: How will it Impact the Flash Memory Supply Chain?

If the planned $18 billion sale of Toshiba Corp.’s flash memory unit to a consortium led by Bain Capital Private Equity, LP survives legal objections and receives regulatory approval, the deal can be expected to result in higher component supplies within the next year, helping to allay OEM fears of tightening purchasing conditions for the component.

It also has the potentials to curb Samsung Electronics’ rising NAND flash market share by opening a stronger supply stream from the Japanese manufacturer, which has for years been crippled by the inability of Toshiba to fund new capital expenditure in what is shaping up as one of the more vibrant segments of the semiconductor industry.

The new company, named K.K. Pangea, will inherit the assets of Toshiba Memory Corp., the joint venture between Toshiba, the majority owner of the entity, and SanDisk Corp., a wholly owned division of Western Digital Corp. Pangea will start out as an interesting entity with multiple corporate owners – OEMs and chipmakers alike – from all major regions of the semiconductor world.

The company is expected to retain its headquarters in Japan and receive investment funding from Toshiba, foreign OEMs and IC vendors and potentially from Japanese banking entities. This ownership structure is designed to smoothen concerns about foreign takeover of a major Japanese chip manufacturer.

“With the aim of ensuring a stable business transfer, Toshiba will invest 350.5 billion yen ($3.1 billion) in Pangea, and Toshiba will also be entitled to related financial benefits, such as dividends,” Toshiba said, in a statement. “Prior to the transfer of TMC’s stock to Pangea, Bain Capital, Japanese and non-Japanese companies, and Toshiba intend to make investments into Pangea, acquiring Pangea’s common stock, convertible preferred stock and non-convertible preferred stock.”

Like other leveraged, private equity funded transactions, Pangea may start life with a boatload of debts. While Toshiba touts the investments that buyers will pour into the company, the reality is a bit more shaded. As Toshiba noted, “Pangea intends to secure loans from financial institutions and banks,” which means the company is likely to start life with debts on its balance sheet. This may impact future operations and reduce its ability to raise money from the equity market until the enterprise sheds off the loans through an initial public offering.

For flash memory buyers, any transaction that results in the injection of fresh funds into the flash memory market would be a good development. That is why major flash buyers such as Apple Corp. and Dell Inc. have reportedly backed the Toshiba-Bain Capital deal while quietly signaling strong opposition to a counter acquisition offer from Western Digital Corp. The Bain-consortium is composed of the private equity firm, some OEMs and major semiconductor industry players, including South Korea’s Hynix and storage maker Seagate Technology. Toshiba cited the involvement of customers, other suppliers and Japanese financing authorities as one of the key reasons behind its decision to accept the Bain Capital-led offer. It said further, in a statement:

Toshiba evaluated bids from multiple consortia based on a comprehensive consideration of many factors, including: the estimated value of the business; the ability to secure continued and stable growth for the memory business, including in relationships with key customers and suppliers; employment security for TMC’s employees; the likelihood of securing competition law approvals in key jurisdictions; the likelihood of clearing required processes specified by key authorities; and likelihood of closing by the end of March 2018.

Based on thorough consideration of these factors, Toshiba’s Board of Directors has determined that the Consortium’s bid provides the highest degree of closing certainty, including by limiting the future voting and governance or control rights of certain non-Japanese companies. Toshiba places significant value on the fact that this proposal will allow TMC to maintain its independence, which is important for the future growth of the memory business.

Western Digital Checkmated?

Toshiba structured the sale of the memory division in such a way as to limit the negative impacts of any counter moves by SanDisk Corp., a joint venture partner that is now owned by Western Digital. The Japanese company agreed to transfer 100 percent of Toshiba Memory Corp. (TMC) – including SanDisk’s stake, apparently – to Pangea.

By forming a new company in which Toshiba maintains a shareholding interest, the company moved to shield Pangea from the previous JV it had with SanDisk. It tried to legally reduce the Toshiba-SanDisk JV to its core memory manufacturing and supply engagement terms, eliminating the impression that the JV had veto authority over the sale of TMC.

What this means is that the supply engagement with SanDisk could be satisfied by Pangea without threatening the transfer of TMC’s outstanding shares held totally in trust by Toshiba to the company. Toshiba’s position is that Western Digital may challenge and possibly derail only parts of the deal but not the sale of TMC.

“Western Digital has sought an injunction preventing the transfer of the Joint Venture interests in the US courts and has also initiated arbitration against Toshiba before the International Chamber of Commerce’s International Court of Arbitration,” Toshiba said. “The SPA [share purchase agreement with Bain] contemplates that the sale of TMC may be consummated pursuant to the terms of the SPA, even if the Joint Venture interests have not been transferred to TMC prior to the closing.”

That’s the way Toshiba sees the transaction playing out but that’s not what Western Digital wants. With Toshiba making it clear acquisition discussions are over, however, the American storage device manufacturer is left with only two options: accept the sale is final – subject to regulatory approval – or deepen its legal fight. It chose the latter option and has filed another arbitration hearing against Toshiba.

“It is unfortunate that SanDisk is forced to initiate binding arbitration to remedy Toshiba's retaliatory breach of the JV agreement entered into by both SanDisk and Toshiba,” Western Digital said, in a statement. “The terms of the agreement and our related legal rights are clear. The agreement gives SanDisk the right to participate in expansions and conversions of manufacturing capacity for BiCS 3D NAND flash memory products through joint investments in Fab 6 equipment. Toshiba has improperly denied SanDisk its rights to joint investment by unilaterally investing in manufacturing equipment at Fab 6.”

Western Digital may not be able to derail the sale of TMC to the Bain Capital-led consortium, though. The company’s lawsuit and arbitration hearing will drag on for months and perhaps years by which time Toshiba expects to have closed the deal. Unable to unravel it, Western Digital may instead opt for more favorable supply agreements and compensation terms from Toshiba and the Bain Capital consortium.

That’s the most likely scenario, which would be positive for flash memory buyers. The alternative is a protracted legal tussle that will make the consortium less interested in pouring additional manufacturing and R&D funds into Pangea. To reduce the uncertainty, Western Digital’s current customers could pressure the company into supporting the deal, in the hope of lessening Samsung’s grip on the market.

Nevertheless, notwithstanding Toshiba’s latest move, all the companies involved have months to go before Pangea, or its successor – whatever it is eventually named – is shorn of the cloud of disagreement surrounding the creation of the new flash company.