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Dissident Aims for Founders’ Seats on STEC Board

The largest independent investor in Santa Ana-based STEC Inc. is seeking to replace three of the company’s eight board members, setting the stage for a proxy battle next month as the company struggles to regain its strength in a changing market.

San Francisco-based private equity firm Balch Hill Capital LLC last week sent a letter to shareholders and executives of the disk drive maker signaling its intent to oust brothers Mark and Manouchehr Moshayedi, who cofounded the company, as well Matthew Witte, a managing partner of Newport Beach-based private equity firm Marwit Investment Management LLC who has chaired STEC’s nominating and governance committee since 2009.

“The current board has overseen a dramatic deterioration of the company’s stock price and operating and financial performance,” the June 10 letter said. “We are seeking to improve the composition of the board by electing directors who will bring much needed accountability and transparency.”

Balch, which holds a 9.9% stake in STEC, has nominated three replacements:

• Adam Leventhal, the chief technology officer for Delphix Corp., a Menlo Park-based maker of software that is billed to improve data management. Leventhal has had management stints with Sun Microsystems and Oracle Corp. and has 11 patents filed or pending.

• Clark Masters, a 30-year industry veteran who serves as senior vice president of a cloud computing division at German-based business software maker SAP AG. Masters is a former director at SonicWALL Inc., a San Jose IT security firm acquired by Dell Inc. last month for a reported $1.2 billion, and an executive at Sun Microsystems.

• Eric Singer, a co-manager of Potomac Capital Advisors in New York and board chairman of Milpitas-based chipmaker Sigma Designs Inc.

Potomac, which has a 1% stake in STEC, has joined Balch in pushing for major changes at STEC that include calling for a sale of the company and replacing the management team. The dissidents have criticized STEC’s response to increased competition by going into new product lines and boosting spending on research and development, with little to show. In a dual regulatory filing earlier this year, they contended “shareholder value is at risk without a reconstituted board.”

STEC makes flash memory drives for corporate data networks. The products are known as solid-state drives and use chips instead of spinning disks to store data.

The recent disclosures on Balch’s board nominations followed a letter that STEC Chairman Kevin Daly sent to shareholders last week urging them to retain all seven of the company’s directors and to approve the addition of Alan Baratz, a former senior manager at Cisco and Sun Microsystems.

“Given the significant ongoing changes in our industry, we believe continuity of leadership is of paramount importance at this time,” Daly’s letter said. “We do not endorse the election of any of Balch Hill-Potomac’s nominees.”

The shareholder meeting is scheduled for July 12 at the Irvine Marriott Hotel. The two sides appear set on a collision course after several months of public jousting.

Balch earlier this year called for replacing all seven STEC directors.

STEC in February offered to nominate two directors from a slate of seven Balch proposed.

“The board believes its offer was more than equitable, and that their demand for three of eight board seats for holders aggregating less than 10% of the company’s shares is overreaching,” STEC’s latest letter said, referring to Balch’s proposal.

STEC’s decline has been swift and unrelenting.

The company once had a big lead in what’s referred to as enterprise-grade solid-state drives, or flash drives, used in corporate data rooms.

Its top three customers—EMC, IBM and Hitachi—accounted for about 70.2%, or some $216.2 million, of its $308 million in sales in 2011.

The company recently disclosed in its annual report that those customers accounted for 45.7% of its $168.3 million in sales in 2012, or roughly $76.9 million. That amounts to a 65% drop in revenue from those key companies in one year.

STEC’s segment is growing, but bigger companies have entered the market and siphoned off some of the gains it earned when it became one of the first suppliers of solid-state drives to corporate customers.

The company recently initiated a direct sales program in a bid to move beyond original equipment manufacturer customers and win business in the oil and gas, federal government, telecommunications, financial services, cloud and social media markets.

Last month, the company reported sales of $22 million in the first quarter, down 56.3% from a year earlier.

It recorded a net loss of about $19 million compared to a net loss of $7.8 million a year earlier.

STEC projects sales in the range of $23 million to $26 million in the current quarter, in line with Wall Street expectations.

It projects a loss of between $19.1 million and $20.1 million, above analyst estimates.

Its shares have fallen more than 52% in the past year to a recent market value of about $164 million.

The company’s market value in its boom days in 2009 topped $1.5 billion as share prices skyrocketed more than 800%. That year, it posted record sales of $354.1 million.

The push for a new board comes as former STEC Chief Executive and Chairman Manouchehr Moshayedi faces insider-trading accusations levied by the Securities and Exchange Commission.

Mark Moshayedi, who was named interim chief last year, recently told the Business Journal that the company is prepared for a battle.

“If it comes down to a proxy fight,” he said, “then it comes down to a proxy fight.”

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