November 4, 2009

November 4, 2009

Company Report Change in Recommendation

STEC, Inc.

STEC: $15.76 Semiconductors

Hold STEC: Believe Competition And Pricing Imply More Downside; Downgrade To Hold THINK ACTION: STEC reported September-quarter results ahead of the Street. But, revenue guidance for F4Q09(Dec) at $102M is below the consensus of $106M. STEC attributed weak guidance to Zeus Inventory at EMC. Also, STEC said it will probably take through 1Q10 to clear out inventory. We believe new competing solutions in 1Q/1H10 could make ZeusIOPs a tougher sell, with solutions at SAS, PCIe from Seagate, Micron, SMOD, Pliant, FusionIO, Samsung, and Intel and alternative solutions from the storage OEMs Sun, NetApp. We got this one wrong, and lower our rating from Buy to Hold. KEY POINTS: STEC reported September-quarter revenues/EPS of $98M/$0.50 versus the consensus of $94M/$0.47. Revenues grew 14% Q/Q and gross margins flat at 49.8% versus 50% last quarter. STEC did $67M in ZeusIOPS SSD revenue in the September quarter with $55M from EMC. STEC also saying now qualified at EMC, IBM, Sun, HPQ and Hitachi. STEC guiding December quarter to $101-103M versus consensus of $106M. Company saying weaker guidance due to inventory of ZeusIOPS storage solutions at EMC as it has not been able to sell through all the solutions. STEC saying the slower sell through on the ZeusIOPS has been due to customer perception of a longer payback period on the more expensive SSD investment. STEC is therefore setting up a sales team to jointly market the SSD solutions with EMC and other storage OEMs to potential customers. We believe 1) the fact that the ZeusIOPs SSD has not been able to sell through on its lower cost of ownership merits could imply more pricing pressure on the Zeus solutions, which combined with higher marketing expense make for a less profitable enterprise opportunity. 2) STEC also saying could take through 1Q10 to clear out the ZeusIOPs SSD at EMC, which could enable the competition to close the technology gap. 3) By 1Q/1H10, we believe there would be multiple solutions in the market from Seagate, Micron, SMOD, Intel, Pliant, FusionIO and Samsung for both the Server and storage markets in SAS and PCIe to compete with ZeusIOPS FC SSDs. 4) We believe the competitive offerings could imply market share and pricing risk for STEC, also 5) other Storage OEMs not as keen on SSDs. Given the increasing competitive pressures and risk of pricing, market share, inventory risk, continuous pressures on lowering cost of ownership from competing solutions the risk to the downside. While we believe STEC has an extremely large market opportunity ahead of it, we believe the competition is catching up with the slower market adoption of existing solutions and other Storage OEMs almost a year behind EMC in adopting SSDs. Lowering our 2010E from $489M/$2.28 to $435M/$1.96. We believe a per-share fair value on STEC shares is $15, with $2.54 in net cash per share and tangible book of $4.77.

Vijay Rakesh 312-201-3133, [email protected] Christopher Eberle 212-468-7010, [email protected]

Changes

Current

Rating

FY09E REV (M) FY10E REV (M) FY09E EPS FY10E EPS

Previous

Hold

Buy

$350.2E $435.0E $1.62E $1.96E

$350.9E $489.2E $1.54E $2.28E

52-Week High: 52-Week Low: Shares O/S-Diluted (M): Market Cap (M): Average Daily Volume: Short Interest: Debt/Total Cap: Net Cash Per Share: P/E (12-month forward): Est. Long-Term EPS Growth: P/E/G: Fiscal Year-End: After-market price REV (M) $

Mar Jun Sep Dec FY CY FY P/S CY P/S EPS $

Mar Jun Sep Dec FY CY FY P/E CY P/E

$42.50 $3.42 50.0 $788.0 4,848,763 16.5% 0.0% $2.54 13.0x 20.0% 65% Dec

2008A 50.7A 56.2A 63.7A 56.9A 227.5A NA

2009E 63.5A 86.4A 98.3A 102.0E 350.2E NA

2010E 95.0E 105.0E 112.0E 123.0E 435.0E NA

3.5x 3.5x

2.3x 2.3x

1.8x 1.8x

2008A 0.07A 0.09A 0.10A 0.05A 0.31A NA

2009E 0.17A 0.42A 0.50A 0.52E 1.62E NA

2010E 0.43E 0.49E 0.50E 0.54E 1.96E NA

50.8x 50.8x

9.7x 9.7x

8.0x 8.0x

Please see analyst certification (Reg. AC) and other important disclosures on pages 5-6 of this report.

November 4, 2009

Company Report Change in Recommendation

VALUATION: We believe a per-share fair value on STEC shares is $15 based on 8x our 2010 EPS estimate of $1.96, in line with STEC's EPS growing 20% Y/Y. We believe that is a significant earnings deceleration versus the 400% EPS growth in 2009. STEC shares have historically traded between 10x and 20x forward P/E, our discount P/E primarily the result of increasing new competition from multiple new players could affect market share, gross margins and proprietary value of STEC's solutions. INVESTMENT RISKS: STEC competes in a cyclical, technologically intensive industry and sells to a concentrated customer base. Its ability to meet our financial expectations and achieve future growth is subject to a number of risk factors, including, but not limited to, the following: Market Risks • STEC's continued success of its research and development efforts and timely execution of its new products; • STEC has a high customer concentration with Cisco, at almost 40% of revenues; • Cyclical growth in semiconductor demand and production, as well as growth in key consumer electronics markets; • Competition and pricing pressure from other low-cost OEMs, ODMs, and suppliers and possible new market entrants from Asia-Pacific, including China and Taiwan; and • Unexpected changes in legal and regulatory requirements, tariffs, and exchange rates, political and economic stability, staffing and management issues, and potentially adverse tax consequences for its international operations. Technology Risks • Potential loss of its intellectual property; • Startup costs and execution on the Malaysian manufacturing facility; • NAND-based solid state drive competition from upstream NAND majors; and • Commercialization of competing technologies. COMPANY DESCRIPTION: STEC, Inc. designs, develops, manufactures, and markets custom memory solutions based on flash memory and dynamic random access memory (DRAM) technologies in the United States and internationally. Its flash products include ZeusIOPS solid state drives that provide enterprise-class data storage solutions; Zeus solid state drives, which are designed to meet the data storage requirements of a range of industries, including defense and aerospace, automotive and transportation, industrial, and communications industries; and MACH solid state drives, which are small form factor storage solution for mission-critical systems in a variety of industries.

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Exhibit 1: STEC Inc. Income Statement (in $ 000s, except per-share data) 2008 Mar Q1

Year

Jun Q2

2009E Sep Q3

Street Consensus (Thomson First Call) THINK Difference 86,350

95,770 2.6% 98,293

2010E

2010E

Year

Mar Q1-E

Jun Q2-E

Sep Q3-E

Dec Q4

Year

109,550 (6.9%)

358,530 (2.3%)

112,630 (15.7%)

119,210 (11.9%)

126,940 (11.8%)

135,020 (8.9%)

478,150 (9.0%)

102,000

350,179

95,000

105,000

112,000

123,000

435,000

REVENUES

227,465

Cost of Goods Sold GROSS PROFIT

149,935 77,530

38,233 25,303

43,105 43,245

49,368 48,925

51,000 51,000

181,706 168,473

49,400 45,600

54,600 50,400

59,920 52,080

67,035 55,965

230,955 204,045

19,804 13,647 20,210 53,661

4,772 3,876 5,520 14,168

5,031 5,749 5,423 16,203

5,162 5,616 6,569 17,347

5,300 4,500 6,300 16,100

20,265 19,741 23,812 63,818

5,900 4,700 6,500 17,100

6,100 5,000 6,800 17,900

6,500 5,400 7,200 19,100

6,800 5,800 7,800 20,400

25,300 20,900 28,300 74,500

OPERATING EXPENSES Sales & Marketing G&A R&D TOTAL OPEX

63,536

2009E Dec Q4-E

OPERATING INCOME

23,869

11,135

27,042

31,578

34,900

104,655

28,500

32,500

32,980

35,565

129,545

INTEREST INCOME Interest Expense Other Income/(Expense) Total Other Income

1,280 0 0 1,280

(12) 0 0 (12)

614 0 (560) 54

14 0 0 14

210 0 0 210

826 0 (560) 266

220 0 0 220

225 0 0 225

230 0 0 230

235 0 0 235

910 0 0 910

PRETAX INCOME TAX EXPENSE

25,149 9,449

11,123 2,636

27,096 5,796

31,592 5,570

35,110 7,514

104,921 21,516

28,720 5,744

32,725 6,545

33,210 6,642

35,800 7,160

130,455 26,091

Pro-Forma Net Income

15,700

8,487

21,300

26,022

27,596

83,405

22,976

26,180

26,568

28,640

104,364

DILUTED SHARES (000's)51,130

49,063

50,702

52,239

52,639

51,161

52,839

53,039

53,239

53,439

53,139

EPS (Fully Diluted)

$0.17

$0.42

$0.50

$0.52

$1.62

$0.43

$0.49

$0.50

$0.54

$1.96

$0.39 27.7%

$0.45 16.5%

$1.39 16.2%

$0.48 (9.4%)

$0.51 (3.2%)

$0.54 (7.6%)

$0.56 (4.3%)

$1.95 0.7%

270,452 50,034 37,244 $0.74

305,094 73,930 58,329 $1.14

CY09E 350,179 104,655 83,405 $1.62

381,643 122,020 97,894 $1.88

400,293 127,478 102,774 $1.95

414,000 128,880 103,320 $1.95

CY10E 435,000 129,545 104,364 $1.96

40.4%

41.6%

42.1%

41.1%

41.6%

41.6%

41.6%

40.6%

49.8% 5.3% 5.7% 6.7% 32.1% 32.1% 26.5% 17.6%

50.0% 5.2% 4.4% 6.2% 34.2% 34.4% 27.1% 21.4%

48.0% 6.2% 4.9% 6.8% 30.0% 30.2% 24.2% 20.0%

48.0% 5.8% 4.8% 6.5% 31.0% 31.2% 24.9% 20.0%

46.5% 5.8% 4.8% 6.4% 29.4% 29.7% 23.7% 20.0%

45.5% 5.5% 4.7% 6.3% 28.9% 29.1% 23.3% 20.0%

46.9% 5.8% 4.8% 6.5% 29.8% 30.0% 24.0% 20.0%

13.8% 14.5% 2.6% (2.3%) 21.1% 16.8% (97.7%) 16.6% 22.2% 18.6%

3.8% 3.3% 2.7% (19.9%) (4.1%) 10.5% 1,400.0% 11.1% 6.1% 5.2%

(6.9%) (3.1%) 11.3% 4.4% 3.2% (18.3%) 4.8% (18.2%) (16.7%) (17.1%)

10.5% 10.5% 3.4% 6.4% 4.6% 14.0% 2.3% 13.9% 13.9% 13.5%

6.7% 9.7% 6.6% 8.0% 5.9% 1.5% 2.2% 1.5% 1.5% 1.1%

9.8% 11.9% 4.6% 7.4% 8.3% 7.8% 2.2% 7.8% 7.8% 7.4%

$0.31

Street Consensus (Thomson First Call) THINK Difference Trailing Twelve Month Data Net Revenues Operating Income Net Income Diluted EPS

240,301 29,704 20,387 $0.41

35.8% Street Margin Consensus (Thomson First Call)

Margin Data Gross Margin 34.1% 39.8% 50.1% Sales and Marketing 8.7% 7.5% 5.8% G&A 6.0% 6.1% 6.7% R&D 8.9% 8.7% 6.3% Operating Margins 10.5% 17.5% 31.3% Pre-Tax Margin 11.1% 17.5% 31.4% Net Margin 6.9% 13.4% 24.7% Tax Rate 37.6% 23.7% 21.4% Q/Q Growth Revenue 11.6% 35.9% Cost of Goods Sold (0.7%) 12.7% Sales and Marketing (0.6%) 5.4% G&A 13.3% 48.3% R&D (8.1%) (1.8%) Operating Income 166.7% 142.9% Interest Income (85.2%) NMF Pre-Tax Income 171.7% 143.6% Net Income 236.8% 151.0% EPS 247.0% 142.9% Source: Company reports & ThinkEquity LLC estimates

48.1% 5.8% 5.6% 6.8% 29.9% 30.0% 23.8% 20.5%

Page 3

Exhibit 2: STEC Inc. Balance Sheet

Balance Sheet FY Ends December Mar (000's) Q1 Cash and Cash Equivalents 73,669 Marketable Securities Held to Maturity Accounts Receivable 32,064 Inventory 39,272 Deferred Income Taxes 638 Other Current Assets 5,897 Total Current Assets 151,540 Marketable Securities 6,808 Leasehold Interests in Land 2,618.0 Furniture, Fixtures, and Equipment 38,093 Intangible Assets, net 965 Deferred Income Taxes 3,590 Goodwill 1,682 Other Long-Term Assets 1,207 Total Non-Current Assets 54,963 Total Assets 206,503

2008

33,379 43,516 63,985 1,302 8,264 150,446

Mar Q1 62,663 37,897 44,699 1,593 6,637 153,489

2009 Jun Q2 93,703 50,500 37,656 2,992 2,769 187,620

Sep Q3 132,925 51,856 35,555 1,946 8,206 230,488

2,595.0 44,152 775 4,633 1,682 1,698 55,535 220,734

2,587.0 44,406 573 4,407 1,682 1,784 55,439 205,885

2,618.0 42,537 496 4,473 1,682 2,735 54,541 208,030

2,562.0 39,899 419 4,144 1,682 3,544 52,250 239,870

2,551.0 39,056 349 5,669 1,682 4,288 53,595 284,083

40,243 8,070 48,313

22,562 9,612 32,174

13,097 9,795 22,892

10,674 10,648 21,322

10,028 13,875 23,903

17,068 13,529 30,597

875

1,067

1,430

1,494

1,538

2,484

-

-

-

-

-

Sep Q3

Dec Q4

62,847 32,901 78,915 1,980 4,210 180,853

29,359 49,767 80,248 1,652 4,173 165,199

2,607.0 43,169 870 3,644 1,682 1,689 53,661 234,514

22,709 7,184 29,893

Long-Term Income Taxes Payable 862

Current Liabilities Accounts Payable Accrued and Other Liabilities Total Liabilities

Commitments & Contingencies Shareholders' Equity Preferred Stock Common Stock 49 Additional Paid in Capital 126,052 Retained Earnings 49,647 Total Shareholders' equity 175,748 Total Liabilities & Shareholders' 206,503 Equity Check DSO Q/Q Inventory Q/Q Sales Days of Inventory Inventory Turns Current Ratio Return on Equity Return on Sales Return on Assets Net Cash per share TBV/Share Source: Company reports

58 24.5% (4.4%) 108 3 5 2.10% 10.45% 1.84% $1.44 $3.39

Jun Q2

50 134,464 50,812 185,326

50 135,427 52,016 187,493

48 129,670 51,845 181,563

48 130,342 54,824 185,214

49 140,193 74,187 214,429

50 152,287 98,665 251,002

234,514

220,734

205,885

208,030

239,870

284,083

71 1.7% 13.3% 174 2 5 2.72% 12.07% 2.24% $0.57 $3.60

70 (20.3%) (10.6%) 151 2 7 1.37% 7.34% 1.22% $0.66 $3.55

54 (30.1%) 11.6% 106 3 7 4.55% 17.53% 4.08% $1.28 $3.74

53 (15.8%) 35.9% 79 5 8 10.76% 31.32% 8.88% $1.85 $4.20

48 (5.6%) 13.8% 66 6 8 11.93% 32.13% 9.16% $2.54 $4.77

53 100.9% 10.8% 197 2 4 2.40% 11.94% 1.89% $1.23 $3.57

Page 4

November 4, 2009

Company Report Change in Recommendation COMPANIES MENTIONED IN THIS REPORT: Company

Exchange

Symbol

Price

Rating

EMC Corporation

NYSE

EMC

$16.55

Buy

Intel Corporation

NASDAQ

INTC

$18.50

Hold

NYSE

MU

$6.65

Buy

NetApp, Inc.

NASDAQ

NTAP

$27.80

Buy

SMART Modular Technologies (WWH), Inc.

NASDAQ

SMOD

$3.92

Hold

Micron Technology, Inc.

Important Disclosures Analyst Certification I, Vijay Rakesh, hereby certify that all of the views expressed in this research report accurately reflect my personal views about the subject securities and issuers. I also certify that no part of my compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed in this research report. I, Christopher Eberle, hereby certify that all of the views expressed in this research report accurately reflect my personal views about the subject securities and issuers. I also certify that no part of my compensation was, is, or will be directly or indirectly related to the specific recommendations or views expressed in this research report. The analyst(s) responsible for preparing this report has/have received compensation based on various factors, including the firm's total revenues, a portion of which is generated by investment banking activities. ThinkEquity LLC makes a market in Micron Technology, Inc., Intel Corporation, SMART Modular Technologies (WWH), Inc., NetApp, Inc., EMC Corporation, and STEC, Inc. securities; and/or associated persons may sell to or buy from customers on a principal basis.

Rating Definitions Effective October 7, 2009, ThinkEquity LLC moved from a four-tier Buy/Accumulate/Source of Funds/Sell rating system to a three-tier Buy/Hold/Sell system. The new ratings appear in our Distribution of Ratings, Firmwide chart. To request historical information, including previously published reports or statistical information, please call: 866-288-8206, or write to: Director of Research, ThinkEquity LLC, 600 Montgomery Street, San Francisco, California, 94111. Buy: ThinkEquity expects the stock to generate positive risk-adjusted returns of more than 10% over the next 12 months. ThinkEquity recommends initiating or increasing exposure to the stock. Hold: ThinkEquity expects the stock to generate risk-adjusted returns of +/-10% over the next 12 months. ThinkEquity believes the stock is fairly valued. Sell: ThinkEquity expects the stock to generate negative risk-adjusted returns of more than 10% during the next 12 months. ThinkEquity recommends decreasing exposure to the stock. Distribution of Ratings, Firmwide ThinkEquity LLC IB Serv./Past 12 Mos. Rating

BUY [B] HOLD [H] SELL [S]

Count

Percent

Count

Percent

119 54 6

66.50 30.20 3.40

13 2 0

10.92 3.70 0.00

This report does not purport to be a complete statement of all material facts related to any company, industry, or security mentioned. The information provided, while not guaranteed as to accuracy or completeness, has been obtained from sources believed to be reliable. The opinions expressed reflect our judgment at this time and are subject to change without notice and may or may not be updated. Past performance should not be taken as an indication or guarantee of future performance, and no representation or warranty, express or implied, is made regarding future performance. This notice shall not constitute an offer to sell or the solicitation of an offer to buy, nor shall there be any sale of these securities in any state in which said offer, solicitation, or sale would be unlawful prior to registration or qualification under the securities laws of any such state. This research report was originally prepared and distributed to institutional clients of ThinkEquity LLC.

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November 4, 2009

Company Report Change in Recommendation Recipients who are not market professionals or institutional clients of ThinkEquity LLC should seek the advice of their personal financial advisors before making any investment decisions based on this report. Stocks mentioned in this report are not covered by ThinkEquity LLC unless otherwise mentioned. Additional information on the securities mentioned is available on request. In the event that this is a compendium report (covers more than six ThinkEquity LLC-covered subject companies), ThinkEquity LLC may choose to provide specific disclosures for the subject companies by reference. To request more information regarding these disclosures, please call: 866-288-8206, or write to: Director of Research, ThinkEquity LLC, 600 Montgomery Street, San Francisco, California, 94111. Stocks mentioned in this report are not covered by ThinkEquity LLC unless otherwise mentioned. Member of FINRA and SIPC. Copyright 2009 ThinkEquity LLC, A Panmure Gordon Company

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