Failed to generate a user instance of SQL Server due to failure in retrieving the user's local application data path. Please make sure the user has a local user profile on the computer. The connection will be closed.
If you have a problem with Microsoft SQL Express & IIS on Windows 7 then follow this solution ...
1- Run the Internet Information Services (IIS) Manager tool. This tool can be accessed either from the Administrative start menu, or by typing "inetmgr" in the Windows Start-->Search textbox and selecting the inetmgr tool.
2- In the left-hand pane of the IIS Manager tool expand the machine node.
3- Click on the "Application Pools" node so that the application pools display in the main window of the management tool.
4- If you are troubleshooting an ASP.NET 2.0/3.0/3.5 application select the "DefaultAppPool" application pool. For ASP.NET v4 select the "ASP.NET v4.0" application pool.
5- Right-click on the selected application pool and choose "Advanced Settings"
6- In the "Advanced Settings" dialog box find the category called "Process Model". The first row in the category will be the "Identity" row.
7- Click on the "Identity" row and then click on the small button that shows on the right-hand side of the value cell. The button displays the text "…"
8- A dialog box called "Application Pool Identity" will popup. Within that dialog box there are two radio buttons. Make sure the first radio button titled "Built-in Account" is selected.
9- In the dropdown box below the radio button choose "Network Service" for the identity.
10- Click "Ok" to close out the "Application Pool Identity" dialog box.
11- Click "Ok" to close out the "Advanced Settings" dialog box.
12- At this point the changes to the application pool identity will have been saved to IIS 7.5's configuration store.
Reference Link: http://support.microsoft.com/kb/2002980