Exercise Caution Ahead Of STEC's Earnings Report

| About: STEC, Inc. (STEC)

STEC, Inc. (NASDAQ:STEC), a maker of solid state drives for enterprise use, is set to report earnings after market close on August 7, 2012. The company has guided for revenues in the range of $40 to $42 million and a non-GAAP diluted loss per share between $0.26 and $0.28.

Volatility Ahead

I recommend that investors and traders looking to hold either long or short positions this earnings report, exercise extreme caution. On one hand, such low expectations set the company up to beat the analyst estimates for the quarter and/or for forward guidance. Coupled with a high short interest of roughly 16%, such a beat could very well lead to a short squeeze.

On the flip side, any slip up is very likely to be used to drive the stock further downward. In any case, I predict a violent move to either direction, especially given what we saw with the recent earnings report of peer OCZ Technology Group (NASDAQ:OCZ), where a slight miss on the top and bottom lines caused the stock to plummet over 20% before bouncing back on buyout speculation.

Earnings History

In FY2011, the company reported in-line earnings in FQ1, FQ2, and FQ4 and posted an upside surprise in FQ3. In the first quarter of FY2012, the company posted a negative surprise, losing $0.17 per share against analyst estimates of a loss of $0.14 per share.

Fierce Competition, Shrinking Revenues, and Pessimism

Analysts estimate that FY2012 will be unprofitable, with the company losing $0.71 per share. Fiscal years 2009, 2010, and 2011 were profitable, with the company earning $1.60, $0.67, and $0.67 in those years, respectively, which makes the analyst pessimism particularly troubling.

The company has, unfortunately, seen shrinking revenues in the face of strong competition in the enterprise SSD field such as from Fusion-IO (NYSE:FIO), Violin Memory, Intel (NASDAQ:INTC), OCZ, and a host of others (it also doesn't help that Seagate (NASDAQ:STX) and Western Digital (NYSE:WDC) are finally taking solid state storage seriously).

But There's Hope

Despite the gloomy outlook, the company still has valuable intellectual property, and given that at least one hard disk maker is looking to acquire solid state drive providers in order to increase its exposure in the field, I would not be surprised if STEC were a prime acquisition target, either as the first shot or as a retaliatory move once the first major SSD maker gets acquired. With a market capitalization of just under $400M, the company could be scooped up fairly inexpensively.

Bottom Line

In short, I expect a volatile move post earnings, and I urge all investors and traders to exercise extreme risk-management acumen going into this uncertain report for this company with an unclear future.

Disclosure: I am long INTC, OCZ.

Additional disclosure: I may initiate long positions in STEC and STX within the next 24 hours.