Wednesday, November 04, 2009

STEC Inc (NASDAQ:STEC): Colour on quarter - Setting up for a bounce?

Wanted to highlight some comments on STEC Inc (NASDAQ:STEC) following results (stock was down 30% in after hours trading):

- Needham says they remain positive about enterprise SSD opportunity in 2010, but recognize that the EMC inventory overhang clouds the story temporarily. Despite this dynamic, they are comfortable with at least $2 in earnings power for 2010, leaving the stock compelling following the overreaction to 3Q/4Q earnings.

ZeusIOPS revenue improves slightly. ZEUSIOPS revenues were approximately $60.7 million, up from roughly $57 million in the previous quarter but below firm's original estimate for $68 million.

Estimated reserves announced against recent $120 million supply arrangement (who they believe is EMC) for sales & marketing efforts to facilitate sell-through at customer, which indicated it may now carry inventory into 1Q2010.

Adjusting estimates. Revising 4Q estimates to $102 million in revenue and $0.52 in non-GAAP EPS, vs. their prior $105 million and $0.50. For 2009, their forecast becomes $350 million and $1.60, vs. prior $351 million and $1.57.2010 estimates revised to $420 million and $2.00 fro previous $464 million and $2.30.

Nevertheless the downdraft in the stock in the aftermarket presents an opportunity to investors that can see through the inventory noise. Needham sees this opportunity and maintain their Strong Buy, but lower their target to $30 from $46 based on 15x C2010 EPS of $2.00, a conservative multiple given 30-50% EPS growth.

- J.P. Morgan maintains their Overweight rating but lowers target to $42 (prev. $50) saying STEC’s 3Q earnings call did not offer any antidote to keep the bears from roaring. They expect the stock to be down in the near term. The company reported a solid print, but the outlook lacked major upside, which the stock has been built to expect. More important, the sudden cloudiness around its top customer is not a positive development. Excess inventory at EMC and the establishment of a new marketing program stand to fuel investors’ concerns of growing pains or competitive shifts in the making. The company suggested the former, but in any event, firm's view on STEC stands to be bruised in the near term.

Customer concentration exacts a toll on the near term. STEC commented that there is an undisclosed level of excess inventory of its ZeusIOPS SSDs at EMC, which could spill into 2010. JPM expects investors to be disappointed, and the news could raise the specter of competitive risks in the making or EMC customers adopting SSDs at lower rates. All this comes in the face of recent comments out of EMC that its SSD-related business has gained traction.

Outlook lacks upside potential to the Street consensus. STEC shares have been under pressure the past two months. Investors’ expectations have been reduced but still tuned for upside. For the Dec. qtr, STEC’s guidance likely is not enough to prop up the stock, despite the reduced expectations. STEC expects revs of $101-103 million and non-GAAP EPS of $0.51-0.53. The Street consensus had been at $107 million in revs and EPS of $0.52 prior to yesterday’s call.

STEC stands to be in the penalty box. JPM maintains their Overweight rating on STEC. They continue to believe that the enterprise SSD market is a high-growth market and that STEC should be a lead beneficiary. This central part of their thesis stands to be overshadowed in the near term by the EMC set back. STEC’s stock stands to languish pending greater clarity on the EMC and IBM ramps.

Notablecalls: I see at least 2 downgrades (ThinkEquity & Oppenheimer) on STEC this morning so playing the bounce here is not for the faint hearted. Yet, with 50% short interest and with the stock now more than halved from its $40 peak levels, we may witness one.

If one can bring himself or herself to looking past the EMC inventory issue, SSD is still an interesting opportunity in the longer-term. The stock is not expensive here considering $2+ EPS power.

I think the shorts will not be scrambling to cover just yet but some will ring the register, given the huge gains they are sitting on. What I have learned over the years is that shorts have a lot of patience. More than most longs, for that matter.

SSD is a new tech so give it some wiggle room.

Personally, I'm keeping it small buying some around $16 and adding some possibly closer to $15 level. Again, this is NOT for the faint hearted.

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