Contents - AL-Tax

108 7 Performance of Intercompany Servicesaffairs, coupled with the fact that suppliers intermittently have excess capacity,means that customers can exercise a significant amount of market power vis-a-vistheir suppliers. As expressed by Western Digital Corporation, “[c]ustomers have avariety of suppliers to choose from and therefore can make substantial demands onus, including demands on product pricing and on contractual terms ....” 97.3.2 Rapid Rates of Technological ChangeThe introduction of new products is a common form of non-price competition. If agiven firm is first to market with a new disk drive or magnetic disk with expandedfunctionality, it will make substantial gains in market share and realize the associatedscale economies. New product introductions are also a means of counterbalancingdeclining prices over the life cycle of a product. At any point in time, asupplier’s revenue stream is a volume-weighted average of revenues earned on thesale of products at various phases of their respective life cycles.There are also several factors specific to the computer industry that motivate verylarge investments in R&D throughout the supply chain. Demand for computers isdriven in large part by new functionality (greater storage capacity, faster computingspeed, faster access to data, higher screen resolution, greater reliability, etc.). Suchimprovements render installed systems obsolete. Stated differently, the economicallyuseful lives of computers must be significantly shorter than their physical livesto sustain the current level of demand for computers. The functionality of computersdepends principally on the functionality of disk drives (and certain other componentry).The functionality of disk drives, in turn, is highly dependent on the areal densityof magnetic media (the number of bits that can be stored per square inch of disk),as is evident in a general sense from Western Digital Corporation’s commentary:[T]he success of our [disk drive] products depends on our ability to gain access to andintegrate parts [magnetic media and heads] that are “best in class” from reliable componentsuppliers. 10This technological interdependence throughout the supply chain induces computermanufacturers and disk drive manufacturers to exert a great deal of pressure ontheir respective suppliers to innovate continuously. Moreover, because components(e.g., disks and heads) must be compatible, technological innovations must be synchronized.Such alignment of “product roadmaps” requires very close collaborationbetween computer manufacturers and disk drive suppliers, on the one hand, and diskdrive suppliers and magnetic media (and head) suppliers, on the other.9 See Western Digital Corporation’s Form 10-K filing with the Securities and Exchange Commission,covering its 2006 taxable year.10 Ibid, p. 26.