Most investors are probably aware that the healthcare industry slowed significantly during the recession and has been very slow in coming back. Hospitals have pulled back on capital spending and procedure counts have dropped as would-be patients worry about inadequate insurance coverage, higher co-pays and/or the opportunity to take time off for recuperation.

There's another segment of the healthcare industry, though; one built around elective procedures that is generally not covered by health insurance. Aesthetics is a big part of this segment, and the market for skin tightening, rejuvenation and so on nearly collapsed in the recession. Procedure counts are starting to come back, though, and Solta Medical (Nasdaq:SLTM) is a risky name worth checking out by virtue of its differentiated business model and new LipoSonix body-sculpting line.

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The Opportunity to Fatten up from LipoSonix
One of the biggest changes to Solta in recent times has come from the acquisition and launch of the LipoSonix body-sculpting system. LipoSonix was developed for a time by large dermatology and aesthetics company Medicis (NYSE:MRX), but the company made modest progress and ultimately decided that it was outside of the core focus. Solta stepped up and acquired the platform for $35 million in cash and various earn-outs that will stretch over a number of years.

LipoSonix uses high intensity focused ultrasound (HIFU) to destroy fat cells. It's not medically equivalent to liposuction, but it is a safe and is a relatively comfortable way of reducing fat deposits under the skin and can be used for so-called "body sculpting" procedures.

Solta is neither alone nor first to market; Zeltiq (Nasdaq:ZLTQ) has been marketing its CoolSculpting product for a little while now, while companies like Syneron (Nasdaq:ELOS) and Palomar (Nasdaq:PMTI) market laser-based body sculpting products. Nevertheless, Solta's newest LipoSonix is off to a good start; a worldwide launch in the first quarter of 2012 saw better-than-expected demand and nearly 80 system installations.

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Will a Differentiated Model Pay off?
In the aesthetics industry, the historical norm has been to build and sell relatively expensive systems with reusable (and expensive) hand pieces. This requires the doctor to make a relatively large upfront capital commitment and then earn that back with per-procedure costs.

Solta has tried a different approach. While Solta's systems are not cheap, the company's Thermage, Fraxel and Isolaz platforms feature much cheaper disposable tips. This reduces the upfront cost for the doctor, and allows Solta to book a lucrative ongoing stream of high-margin revenue that is directly correlated to system usage. The company still has to deal with the fact that rivals like Syneron and Cynosure (Nasdaq:CYNO) have larger share (and Palomar reaps substantial licensing revenue for its technology), but there is a fair bit of turnover in this market and the useful life of the systems is around five to 10 years.

Solta has also tried to build its brand by marketing directly to potential aesthetics procedure customers. While there's some legitimacy to the idea that an "ask for it by name" campaign could lead practitioners to buy Solta systems if enough customers ask about it, the reality is that this is very much a market that is driven by word of mouth and direct recommendations. In other words, patrons of aesthetic procedures are more likely to recommend the doc and the procedure and by relatively little notice to the name on the hand piece.

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The Bottom Line
The aesthetic procedure market is definitely still well below its heyday, but the market isn't as bad as the stock valuations suggest. There has been a recovery in procedure counts, and the market seems to be getting slowly better. What's more, Solta has the advantage of fresh LipoSonix revenue to drive better growth.

At less than 1.5 times trailing revenue, Solta is not getting much regard by the market, and that could spell opportunity for aggressive risk-tolerant investors. I'd like to see a quarter or two of margin outperformance (as well as stronger disposables sales) before really buying in, but a strong launch of LipoSonix and a larger aesthetics market recovery could fuel strong gains here in time.

At the time of writing, Stephen Simpson did not own shares in any of the companies mentioned in this article.



Tickers in this Article: SLTM, ZLTQ, MRX, ELOS, PMTI

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