How to Invest In Tattoo Removal: Soliton

Soliton (SOLY) is a research and development (R&D) company, also known as a “pre-revenue stage company”, specializing in a medical device using Rapid Acoustic Pulse (RAP) technology. The company licensed the technology from MD Anderson as a method for removing tattoos. Apparently the company also fortuitously discovered the potential for using its RAP device for fat and cellulite reduction.

The technology sounds promising, but investing in this promise comes with a high level of risk. The company’s latest financial results (quarter-ending March 31, 2019) show zero revenues as expected for such a company. The IPO brought much needed cash to the company and inflated its balance sheet from just $133,435 in cash and equivalents at the end of 2018 to $4.9M at the end of March this year. Yet, with massive operating losses like the $2.4M lost last quarter (versus $1.2M lost in the year-ago quarter), the company needs to get to market soon and earn cash. Otherwise, the company will need to continue selling shares to fund its operations.

The company is still an FDA approval away from getting product out to market. The company filed for this approval on March 4, 2019. Here is how the company describes its prospective revenue model:

“Our business model anticipates generating revenue from the sale of our RAP console to dermatologists, plastic surgeons, and other physician offices, as well as medi-spas under the supervision of a doctor. Our model contemplates recurring revenues will be generated by the sale of disposable cartridges that are utilized with each patient visit and treatment. We believe additional revenues will result from maintenance services to our customers. Our system comprises a control unit with a hand piece and our consumable treatment cartridges, which are designed to allow a physician to perform a single office visit involving multiple laser passes on an average-sized tattoo or a single stand-alone treatment for cellulite reduction. In simple terms, we expect this to translate into approximately one treatment cartridge per patient, per visit. “

In other words, the company came to the public markets in desperate need of funding to leap the final hurdle of getting a viable product to market. The upside is tremendous. The potential downside goes all the way to zero. In the financial industry this is called a binary option: either you win big or you lose it all – there is little to nothing in between. It is in this precarious state of affairs that influential voices can make or break a company’s ability to achieve success. Such a moment may have come with the publication of a piece in Seeking Alpha questioning Soliton’s viability while slapping a $6, 2-week price target on shares. The report helped drive the stock down 31.5% in one day. The stock closed the week at $7.23/share.

I have been following the trading drama in Soliton (SOLY) since its IPO. Post-IPO trading rules suggest buying into a breakout from a solid base. SOLY generated a decent 16-day trading base before its breakout. Still, I failed to pull the trigger. From there, I just watched and watched, more and more astounded. One month later, the stock finally topped out with a 151% gain from the breakout. I even missed a buyable dip in late March. So after the stock dropped back to those late March levels, I jumped to consider the opportunity. I am also intrigued that the short-seller’s $6 target coincides exactly with the breakout point I should have bought back in March.

Also interesting is the low short interest in SOLY. Yahoo Finance reports that only 5.4% of the float was sold short as of April 20th. If other short sellers pile on based on the piece on Seeking Alpha, SOLY could go a lot lower from current levels before hitting some kind of climactic low. Before this drama, I would have assumed the low level of short interest represented the market’s general vote of confidence in the company.

The price drop was sharp and devastating enough to compel Soliton to respond to the short-seller’s accusations. The company mounted a vigorous, point-by-point defense of the business and the technology. Given the drama, I decided to press a good friend of mine who is an expert in tattoo removal for more information on the industry to help me assess the overall risks of getting involved in this story. She uses the traditional light laser solution.

Here are some highlights of what she explained to me:

• The efficacy of the current technology largely depends on the skill of the operator of the laser. This person must be a medical doctor or a Nurse Practitioner (NP) or Physician’s Assistant (PA).
• Efficacy also depends on the type of ink in the tattoo and the skin type.
• Nothing takes out green and red tattoo colors, they just fade.
• A tattoo must be at least 6 months old before it can be removed (no instant regret allowed!)
• The light laser costs almost $200K, several more thousand dollars for eye protection and accessories.
• Maintenance of the laser costs about $10K per year.
• My friend’s office used two different lasers, neither of which worked quite as advertised.
• The pioneer in the laser technology was Dr. Vic Narukar who unfortunately passed away just last January right before his 51st birthday.
• The cost of each treatment is about $500 to $1000. It takes about an average of 12 treatments for full removal. The process takes a minimum of two years to properly space out the treatments.
• My friend has seen one case resolve after one treatment but most take 3 to 4 years.
• My friend is a little concerned that Soliton’s technology may also work to reduce cellulite. That capability suggests the technology may not be as effective on tattoo removal as hoped (or perhaps it will not end up working as well as desired on cellulite reduction).

In other words, tattoo removal is an arduous and extremely expensive process. There is a tremendous opportunity for Soliton if it can improve on just a few of these metrics like reducing cost, shortening times, lowering the required skill levels for operations, etc..

So what does the company have to say about its advantages? Here are two key points from the marketing prepared for clinicians:

• The Soliton Multi-Pass Therapy resulted in an average tattoo fading of 80% vs 44% in laser-only therapy after only 2 office visits.
• 100% of patients achieved complete removal (75% or greater) in just 2 or 3 office visits.

These metrics suggest some significant improvements over today’s state-of-the-art. The key wildcard of course will be the cost of the equipment and the total cost of treatment per patient. I could not find information on this, and I have to assume that these metrics cannot (or will not) be known until after required regulatory approvals allow the company to rev up its sales process.

At Friday’s closing price, SOLY has a market cap of $110M. At that valuation, SOLY is worth about 550 tattoo laser removal machines. Reliable statistics on tattoo removal are hard to come by, but I did find this useful quote from a 2015 Marketwatch article:

Revenue for tattoo removals has surged 440% to an estimated $75.5 million over the last decade. Spending on tattoo removals is still growing and is expected to hit $83.2 million in 2018, keeping pace with growth in the overall tattoo industry, according to research firm IBISWorld. Revenue for the industry overall was an estimated $3.4 billion in 2014, an annualized growth rate of just 2.9%…There are nearly 8,000 tattoo businesses in the U.S., with no dominant player.

If spending on tattoo removal did indeed hit $83.2M in the U.S. last year, then SOLY is worth more than one year of spending across the entire domestic market. In other words, the numbers confirm the speculative nature of investing in SOLY at this point. Even after the regulatory hurdles, I will want to see rapid adoption in the first year to get convinced to invest more than a speculative amount of money in the business. For now, I am targeting a few hundred shares somewhere between here and $6. I think any future steep rallies should be sold until there is definitive and quantified information on the company’s viability and market opportunity.

Be careful out there!

Full disclosure: no positions