Activist Investors Seeking to Force Sale Of Solta Medical

Submitted by Scott Matusow as part of our contributors program.

In my last article concerning Solta Medical Devices (SLTM), I remarked several times how I feel the company has good assets and the potential to grab significant market share in various segments. However, I do feel the company and its shareholders would be best served to officially hire a reputable investment banker and issue a subsequent press release to inform the market of such action. Both Voce Capital management and David Callan, who are activist investors, are seeking to convince the company to sell now. Callan has recently sent me a copy of his certified letter he wrote to Solta’s Board of Directors (BOD), and with his permission, it is shown here.

Attn: Members of the Board of Directors
25881 Industrial Boulevard
Hayward, CA 94545
Ladies and Gentlemen:

“This is my second letter to the board. My first letter went without response or acknowledgement, as did several calls to both Mark Sieckarek and Jack Glenn. I interpret this as further evidence of your unwillingness to properly perform your duties. The Chairman believes hiring a replacement for Stephen Fanning and some marketing tweaks are sufficient. I suggest a bolder strategy is now required. Yes, this may result in some uncomfortable moments in your board meetings but your duties require you to be skeptical of the strategy being presented to you by a Management that has continually failed in its efforts to turn the company around.
I recently listened to Mr. Sieckarek’s presentation at the Canaccord Growth conference on August 15, 2013. I had a particular issue with slide 24 where Mark disclosed: “leverage potential”. Mark stated that when doing $185M in sales, Solta Medical will generate $0.23/share of net income.

This is exactly what I imagine he presented to this board as reason to either over inflate the true value of the company, to not sell the company and/or reason to continue as an ongoing stand-alone entity. More concerning is the fact that Mr. Sieczkarek is presenting these figures as the interim CEO, the “want to be” CEO (in my opinion), as well as Chairman of the Board, which is an obvious conflict of interest. Per my original letter where I described my personal experience with another company (which resulted in my filing of a 13D with the SEC), this is sadly an almost identical
action to what I would expect from another entrenched Management team attempting to further their self serving interests at shareholder expense without challenge from independent directors.

Rather than argue my belief that these figures are completely inaccurate, I will leave this to the professional analysts that cover the company. Your analysts forecast that next year you will do just over $183M, and yet make only $0.06/ share based on the same accounting principles. I don’t think I would be out of line to call that a major difference from $.23/share! Since nobody at the company would take the time to discuss this with me directly, I took it upon myself to speak to several of your analysts. Not one of them had a
basis to support these numbers and had no plans to change their forecasts. Their opinions of the company and the Management are consistent with mine; while the company prospects are positive, there is a seeming inability to execute on them properly. Looking back at these numbers, I think they are unrealistic and frankly question whether there is any reasonable basis for them.

I also question why such an important projection was made public only at this conference when it is so obvious it has never been publicly discussed elsewhere, disclosed to the shareholders or filed with the SEC. This is guidance that if it were realistic, should have been discussed on the quarterly conference call to excite the general public about a stellar 2014 to look forward to, and filed with the SEC.

As the analysts, shareholders, attendees at the presentation, and general public do not believe these numbers (stock down approximately 4% since presentation), I can only hope you are not blinded to the reality everyone else has seen in the past and lack of any measurable change to positively effect trends for the future. In my first letter to you I described why we no longer have the luxury to “wait and hope” that future earnings trend will be different than past trends. This economy, both in the U.S. and internationally, remains far too fragile to bear false hope on the same people with the same theories and plans to change the dynamics and future results.

This board needs to weigh the risk exposure by continuing along the same failed course of action at shareholder expense. More disappointing to all at the conference was that there was no mentioning the fact that the company
has the “mechanisms to explore strategic options” (as stated “somewhere” in the quarterly press release).

Announcing that this strategy will be formally explored by no means indicates the company is desperate for a sale, but simply that it continues to remain undervalued and in order to maximize shareholder value, the board feels it is in the best interest to explore its’ options. The numbers presented at the conference in my opinion are actually extremely low when in the hands of many suitable acquirers.

This company cannot and should not wait and hope to see if you can correct years of failed efforts to create value for your shareholders. Not only do I personally think this is exercising bad business judgment, but much of the investment community feels the same. They fear exactly what I fear, that there is the chance of continuing operational loss (for internal reasons or circumstances outside company control) as opposed to planned profit. This would financially stretch this company too far which could result in either negotiating the sale of the company from a weak position, or a costly attempt to raise capital at levels further depressed from where you already have us today.

While this may or may not be the case, it is your responsibility to mitigate our risk. This is coming from Wall Street professionals, as well as your shareholders. At what point will you recognize you are placing your shareholders and employees in further danger
each and every day you do not form a special committee, hire a professional M&A bank, and announce that to maximize shareholder value you will explore strategic alternatives? The company’s history does not provide confidence that the Chairman’s business as usual strategy will succeed. I will remind you all again that you have a fiduciary responsibility to use your best business judgment to protect the company and your shareholders.

The obvious remaining factor that keeps everyone positive on the company is that it is extremely undervalued with regard to its’ product lines, the scalability in the hands of a larger firm, and demand and growth of the aesthetics sector, as well as the margins for profitability.

I have reached out to both colleagues in the medical field, as well as the investment community, and have confirmed there would be significant interest from private equity, foreign investment from places like China, and the obvious competitors that could take this company to levels never seen or within reach with the current Solta team and strategy in place. There is a history of successful acquisitions in your industry, and the time has come to hand Solta Medical off to a company or group that can take this company, the products, and its employees to the next level of success.

In closing, it is in the best interest of shareholders to explore the potential sale of Solta Medical, Inc. Companies that are looking to make acquisitions through full or partial methods of debt financing are extremely aware of the changing economic climate and rise of interest rates now, and going forward. The window for some suitors may be closing should you continue to neglect your responsibilities to maximize shareholder value immediately. The action of the
stock and your lack of action, is extremely telling, so this is not just my opinion. The fact that an insider purchased shares recently tells me the trading window is open, and you are doing nothing to pursue positive action on our behalf. If you continue to be unwilling to protect us and want to continue to ignore your fiduciary responsibility, I suggest you step down from your duties to shareholders in order to prevent further loss. The significant defeat of the proposed increase in the authorized share count of Solta Medical on June 5, 2013 is clear evidence that shareholders have no confidence in this board. Your sole purpose is to serve shareholder needs and immediate bold action on our behalf is required now.

Of course, you and your management team are certainly allowed to purchase the company on your own accord if you are so inclined to ignore your shareholder requests and needs. In fact, most would welcome your offer measured along side with the others!

Respectfully,
David Callan
Private Investor
Cc: Joel Bernstein, Esquire”

David Callan in the above letter, points out one issue I have taken a serious look at. The issue falls under “Best business judgment,”

From Wikipedia we read:

“The business judgment rule is a United States case law-derived concept in corporations law whereby the “directors of a corporation . . . are clothed with [the] presumption, which the law accords to them, of being [motivated] in their conduct by a bona fide regard for the interests of the corporation whose affairs the stockholders have committed to their charge”.

To challenge the actions of a corporation’s board of directors, a plaintiff assumes “the burden of providing evidence that directors, in reaching their challenged decision, breached any one of the triads of their fiduciary duty ? good faith, loyalty, or due care“.”

The presumption of best business judgment is making business decisions not involving direct self-interest or self-dealing. Corporate directors act on an informed basis, in good faith, and in the honest belief that their actions are in the corporation’s best interest.

It’s hard to believe Solta is engaging in the best judgment in this case. Along with Callan, I have to ask “is risking more shareholder value destruction with the same management team in the shareholder’s best interest?”

In an article I wrote covering Voce’s successful fight in getting Obagi sold, I questioned whether or not Obagi’s BOD was acting in the interest of shareholders or self-dealing, mainly because its CEO was also a CEO of another company that had an on-going contract with Obagi. In Solta’s case, I question whether directors are acting in the best interests of shareholders. If Callan decides to engage in legal action, I’m sure he would hire private investigators to look thoroughly at the actions of the BOD of Solta to determine if in fact, they have been self-dealing or not.

Chairman of The Board and Solta “interim” CEO Mark Sieckarek should consider not only Callan’s involvement, but Voce Capital’s involvement as well in this matter. Sources indicate to me that Sieckarek could be open to a sale of the company, but may be hesitant to hire a specialist investment banker to explore a sale of the company because of the fear of losing employees. Although my source may have been told this by Sieckarek, I have a hard time believing this is in fact a sincere concern. Voce indicates that there are at least three companies with interest in acquiring Solta now, so an acquisition now would mean employees may leave anyways. I believe a fair price of $3.75 to $4 should not be hard to negotiate currently.

Seeing there are potential interested suitors out there now while trying to turn around a company in which the current BOD has overseen years of shareholder destruction may in fact be a violation of legal fiduciary duties. I have to ask myself if Solta really wants to engage in a potential legal battle with both David Callan and Voce Capital. Voce was successful in getting Obagi to sell for a good price, and I have no question that it will succeed here. The question is how much potential pain the Solta BOD wants to endure here before being voted out by shareholders.

In June of 2010, Callan filed a 13d with the SEC urging the sale of SRI Surgical (Formely Nasdaq listed STRC). Afterwards, SRI decided to adopt a shareholder rights plan (poison pill) when an unsolicited offer came in only four months later.

Soon after the time the unsolicited offer came in, the stock rallied to trade above $6.00 a share. However, at the time, the CEO and BOD felt that it was not the right time to sell the company. Instead they chose to follow what they described as a “strategic plan” which included the usual realignment, and minor shifts in personnel. A year later after their “strategic plan” failed, they agreed to hire an investment bank and sell the company. As a result of their delay, shareholders accepted an offer of $3.70, a far cry from where the stock had traded just a year earlier. While Callan feels Solta is in a much stronger position than SRI was when he called for the sale, he feels the Solta board is obligated to explore an acquisition option while the company is in a desirable position. After years of failure to build shareholder value, the Solta BOD should now be compelled more than ever to maximize shareholder value. Solta is in a position of a revenue upswing, so only fair offers are worthy of consideration I feel Solta Medical owes it to their shareholders and employees to explore this option now, while there is strong interest as Voce has identified. Callan’s strong medical device background and financial experience led him to urge the exploration of strategic alternatives in this case, and he hopes another lengthy and costly battle with another BOD is not necessary.

Case in point

BlackBerry (BBRY) recently received an offer of $4.7B, or roughly $9 a share from Fairfax Financial Holdings, a Canadian insurance firm.

BlackBerry’s BOD had ample opportunity over a year ago to sell its company for a much higher price. Now, long term shareholders of BlackBerry may be getting the shaft here, as it’s my opinion BlackBerry should have been actively seeking to be acquired last year, when many companies were in a prime position to engage into a merger/acquisition due to continued lower interest rates and sector consolidation.

Many companies in BlackBerry’s market segment have made several key acquisitions over the last year. BlackBerry could have, and should have been one of these acquisitions, but management was “stubborn” and did not use its best judgment in my opinion to do what was best for its shareholders. Instead, it believed it could “turn the company around” and increase shareholder value, in which it failed miserably.

The current domestic economic conditions still see interest rates at record lows. Many larger companies in Solta’s segment have taken advantage of this with levered/debt financed buy-outs of smaller companies.

Valeant (VRX) has aggressively expanded itself recently through various smaller acquisitions, making around 25 levered/debt financed deals a year since 2010. These are mainly focused on specialized high-margin markets, lately with its focus on the aesthetics market.

Valeant’s recent strategy has been to buy high-margin health care product businesses that are strong in emerging markets ? for example, Asia. In these markets, customers tend to pay directly for products and services rather than relying on government health plans.

Allegan (AGN) might be interested in acquiring Solta. Allegan is the well-known maker and seller of Botox, with a global market forecast to reach $2.9 billion by 2018, and the entire global market for facial aesthetics predicted to reach $4.7 billion. Solta recently announced a new product called the Thermage Total Tip 3.0. Thermage uses radiofrequency technology to non-invasively help smooth, and contour the skin, as well as temporarily reduce the appearance of cellulite, in a single treatment with little to no downtime. The Thermage Total Tip is effective for facial treatments because it delivers uniform, volumetric bulk heating. Targeted, uniform, bulk heating could allow dermatologists to treat patients effectively while maintaining patient comfort.

I believe Allegan is one of the three interested companies in Solta as mentioned in a letter from Voce released July 19th of this year. Another potential bidder for Solta could be Nu Skin Enterprises Inc. (NUS). Nu Skin develops and distributes anti-aging personal care products and a wide range of skin-care systems and treatment products, including Spa Systems, Body Spas, Body Shaping Gels, Dermatic Effects Body Contouring Lotion, and Transformation anti-aging skin care systems.

Nu Skin had a very good 2nd quarter this year which seems to be a common theme among companies in the beauty and skin care segment. Nu Skin is also seeing accelerated growth in Asia as the conference call comments confirm:

“Turning our attention to a few geographic markets, greater China’s growth obviously continues to be very strong. Sales in the second quarter in Mainland China were $198 million. And as we announced a few weeks ago, we’re pleased that China recently approved 5 additional direct-selling licenses, which will become increasingly important as our business develops throughout China. We continue to invest to sustain growth in this market and are committed to working to ensure our long-term success there. From what we’re seeing, we believe that the market continues to have significant upside potential.

Our north Asia region also had a very strong quarter. South Korea generated an impressive 54% quarterly gain in local currency and continues its long run as a stellar market for us. And Japan had another solid quarter with 5% revenue growth. The weakness of the yen against the dollar is obviously hurting our reported results, but we feel good about the direction of our business in Japan and we believe that North Asia can be $1 billion market for us in the next few years.”

In my opinion, the Asian market is where Solta’s products can really generate significant revenues and profits moving forward.

Solta is on track to do around $190M in revenues over the next year. There is no question the company under different management can be very successful. This would include every single BOD member being replaced, along with hiring a well-known competent CEO. The current BOD has been present in the past and current destruction of Solta shareholder value; therefore they are responsible as the captains of the Solta ship.

Voce was in the process of replacing Obagi’s BOD before it decided to finally cave in, and sell its company. We can expect Voce to engage in the same tactics here with Solta. As I consider David Callan a personal friend, I also know his views line up with Voce’s. The Solta BOD needs to fully understand its fiduciary duty to its shareholders it has continually wrecked. When a company agrees to be a publicly traded one, it has legal responsibilities it must adhere to. Both David and I feel that if the company chooses to continue forward and not officially hire an investment banker, it would not be using its best judgment.

Voce has stated that if it’s necessary, it would force a sale of the company.

From Voce’s last letter we read:

“While we continue to believe Solta’s assets are attractive, the only way to unlock their value is in the hands of a more successful operator; fortunately, there are several that are interested and shareholders can share in at least some of that value now through a strategic premium. By comparison, even if one were to believe meaningful stand-alone improvements were possible, the time and risks involved would have to be discounted heavily before concluding shareholders were better served waiting for those to potentially materialize versus taking the certain value in a sale today. During that time, one would also need to account for the risk that Solta’s exit options might narrow as industry consolidation proceeds around it. Finally, anyone pining for the “good old days” should remember there are now 30% more shares outstanding versus a year ago. Getting back there is not only operationally, but mathematically, much more difficult now.

The only thing that has increased the stock price this year has been the expectation the Company would be sold. Recall Solta touched $2.89 not that long ago ? solely on take-over speculation. Attempting to rebuild the stock through a complex turnaround, at the hands of a dubious leader, in the hope of then selling the Company off of a marginally higher base is worth neither the time nor the risks. We agree with the final assessment of yet another research analyst who said: “SLTM’s stock performance is more heavily linked to take-out prospects, which very well may be SLTM’s best option given that a turnaround as a stand-alone ? even under new leadership ? could prove challenging and lengthy. The decision to appoint Mr. Sieczkarek as CEO was disappointing enough, but we were appalled by his statements during the conference call. Mr. Sieczkarek made clear that his true intention is to become Solta’s permanent CEO and, not coincidentally, that the Company will not explore a sale unless it is forced to do so. If necessary, that’s exactly what we shall do.”

Voce would likely force a sale by first applying pressure for a special shareholders meeting to vote out the entire current BOD of Solta. Solta’s BOD cannot afford to wait until the official shareholders meeting next year considering interest rates may be significantly higher, along with a possible downturn in economic conditions by that time. At the very least, if an unsolicited offer has been made, the company has a duty to reveal this information publicly and let shareholders decide if any such offer is fair or not. By not exploring a sale now, it’s my opinion the entire Solta BOD places itself in legal peril under a Best Judgment potential lawsuit.

Conclusion

Sieczkarek and the board has a decision to make here. They can risk moving forward with Solta independently and most likely fail, get the boot from the BOD, and face potential legal battles and/or personal lawsuits. Or, sell and let shareholders decide on offers now as the current economic conditions are favorable. Sieczkarek also needs to consider his future prospects, as failure with Solta would likely mean he would be hard-pressed to find a new job, let alone to sit on any BOD again. However, selling Solta would likely gain him favor with many in the industry, and assure him continued employment in the sector.

Sieczkarek needs to take a closer look at what happened with SRI and BlackBerry while considering his fiduciary responsibilities to his shareholders and his future in the industry. In other words, put his ego aside and do the responsible thing as he is required to by law.

It’s a virtual certainty that if Sieczkarek chooses to wait until next year’s required shareholder meeting, he, along with the rest of Solta’s BOD will be voted out and replaced at that meeting. Additionally, if the share price of Solta has significantly dropped by then, the entire Solta BOD would likely be facing numerous lawsuits. I am continually baffled with these types of corporate executives “not getting it.” As Voce as mentioned, there is strong interest and sector consolidation, meaning the time is now to negotiate a deal that is satisfactory for the majority of Solta shareholders.

The majority of Solta’s shareholders seem to want a sale now based on those I have spoken with. I call on Sieczkarek do the best thing for him and shareholders, and to carefully consider the possible negative outcomes if he fails to act properly.

We are long $SLTM

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