Soliton (SOLY) – Merger Arbitrage – 10% Upside

Current Price: $20.52

Offer Price: $22.60

Upside: 10%

Expected Closing Q4 2021

Proxy

 

Medical device development company Soliton is subject to an acquisition by a $200bn market cap biopharma giant Abbvie. Consideration stands at $22.60 in cash for a total of $550m. Shareholder approval has already been received and the only major remaining hurdle is antitrust consent. The merger was announced on the 10th of May. For 2 months since the announcement, SOLY was trading at basically zero spread to the offer price. Then in July regulators announced that more time might be needed to review the merger and on the 6th of August, FTC issued a second request launching a deeper probe into the transaction. As a result, the spread widened to current levels. Although historically, a large number of mergers that receive the second FTC request fail (62%-89% from 2015 to 2019), there are several aspects that suggest that a positive outcome is more likely than it seems.

  • SOLY's technology and device target tattoo removal and cellulite treatment markets. ABBV is strong in the aesthetics market due to the Allergan acquisition last year ($63bn market cap), however, operates in different segments. Abbvie's closest asset to SOLI's technologies is the body contouring business Coolsculpture, however, this business focuses on targeted fat removal and is not even effective for cellulite treatment.
  • The prolonged review is mostly a result of the FTC's pharma mergers crackdown announced in March. Driven by high number of recent mega-merger M&As in the industry regulators have now increased the scrutiny of pharma/biopharma transactions and will look not only at product-by-product competition issues but will also put more thought into whether the consolidations harms R&D development, innovation or has any other anti-competitive conducts (competitive product elimination, price-fixing, product hopping, etc.). None of these risks are attributable to a combination between ABBV and SOLY's current products or future pipeline. There is no product/market overlap here and the transaction is simply ABBV's entrance into a new market right after SOLY received the FDA clearance.
  • This is a fairly small merger and SOLY is still in the first stages of commercialization having launched its first product only two months ago. I believe given the points explained above, the chances that FTC will challenge a deal like that is very low and the earlier second request was probably more of a show of power to put pressure on pharma giants.
  • Judging by the way termination/extension fees were structured, the buyer seems pretty confident in the eventual approval (however, they always are!). The termination/extension fees are to be paid in several deadline-based tranches. The first deadline passed the on 8th of September and ABBV had paid SOLY $6m. The initial outside date was set on the 8th of Nov and in order to extend it to the 8th of Feb'22, ABBV had to pay another $11.5m. In the latest press release parties stated that they still "continue to expect to complete the transaction in the second half of 2021". In the Q3 call, ABBV CEO also made a convincing statement (quote below) regarding the antitrust review. Overall, 3 months have already passed since the second request and I doubt that ABBV's CEO would throw a statement like that together with an $11.5m payment for outside date extension if he wasn't sure that talks with FDA are going in the positive direction (source):

On Soliton, as you know, we obviously announced the -- our intention to acquire the Company and submitted it for approval. We did receive a second request. Maybe just to frame a bit why we're interested in this area.

We tend to look at this market where the third major leg of the stool in a stage is body contouring. And this is a good fit with CoolSculpting, and CoolTones. Obviously, CoolSculpting is focused more on reduction of fat in targeted areas, and CoolTones more focused on the area of enhancing muscle tone in specific areas.

This particular asset is designed to reduce cellulite. We don't have a position in cellulite now so there's not any kind of competitive overlap in that area. Having said that, we are responding to the FTC's inquiry. We believe that's going reasonably well, so we would expect this to be resolved at some point here in the future. I can't tell you a specific date, but I would expect it to have a positive outcome over a period of time here.

Meanwhile, the downside to the pre-announcement price is just 10%, including the termination fee, but could be lower after the attention/spotlight from ABBV's proposal. Merger's background includes 5 other interested parties, none of which proceeded to more advanced discussions, however, the negotiations took place before the FDA's approval for cellulite treatment (February'21). SOLY's CEO Brad Hauser used to work as a senior exec in Allergan (which was acquired by ABBV in 2020) and Allergan kept track of SOLY's progress (had various discussions, product presentations, etc.) since 2018. Apparently, the buyer was simply waiting for the FDA's approval before making the offer. ABBV initially offered $19/share and then raised the offer to $21.75/share. SOLY tried to ask for $23.90, but ABBV's final offer ended up at $22.60 with "a willingness to work expeditiously towards the signing of a definitive transaction agreement". Shareholders vote was almost singlehandedly guaranteed by SOLY's largest shareholder - biopharma VC fund Remeditex (little info available) with a 43.5% stake.

So overall, assuming closure in December, the situation offers a really attractive IRR.

 

SOLY

Soliton is a medical device company, which develops its proprietary rapid acoustic pulse (RAP) technology. The technology uses pulses of designed acoustic shockwaves to disrupt cellular structures in the dermal and subdermal tissue. The technology is useful in tattoo removal and cellulite treatment and is superior to current market products due to being non-invasive, low pain, not requiring anesthesia, and having minimal downtime for the patient.

Tattoo removal is a $0.5bn market (globally) and is expected to grow very fast - 19.3% CAGR from 2020 to 2027, whereas cellulite treatment (US), is a $1.5bn market expected to grow at 11% CAGR from 2019 to 2026. However, SOLY's investor presentation from March'21 mentions a bit different numbers - $4bn cellulite treatment market expected by 2025 and says that with 1.5% target penetration it could have $280m cartridge revenue (recurring). Tattoo removal's global market is estimated at $4bn as well by 2023 and with 5% market share SOLY estimated $200m revenue from this segment.

In tattoo removal, the RAP device is used in conjunction with a laser and disperses both tattoo ink particles and superficial/dermal vacuoles that are formed when a laser interacts with the ink particles. Removal of the vacuoles allows for subsequent laser treatment passes in the same session, which reduces the total required visits from 10 to 2-3. After 3 visits, 100% of respondents had a complete response (76%-100% fading vs 16% with laser-only).

In cellulite treatment, RAP's acoustic shock waves shear the stiff septa structures that run through the fat layer causing dimples and ridges associated with cellulite. The treatment is non-invasive and doesn't damage the skin, achieves similar results with 1/3rd of visits vs competing products, and is relatively cheaper.

Comparison vs competing cellulite treatment products:

FDA clearance for using the technology for tattoo removal was received in mid-2019 and for short-term improvement in the appearance of cellulite - in February 2021. On the 29th of April'21, FDA has finally approved the final version of SOLY's Resonic system console (see picture below). The product was launched in Sep'21 and until the end of the month (Q3), it generated $370k revenues. The company says that it is a "razor and blade" revenue model as aside from the whole system sales, it will also have recurring revenues from cartridge sales (1 cartridge per client, different cartridges for tattoo and cellulite treatments).

Recently, SOLY has also submitted an FDA application for a long-term cellulite treatment. Besides that, the company also believes that RAP has the potential to reduce the effects of fibrosis and can treat target fibrotic (keloid/hypertrophic) scars. The company currently runs early trials.

 

ABBV

Abbvie is one of the largest biopharma companies in the world. It operates in 4 markets - immunology, hematologic oncology, neuroscience, and aesthetics (Allergan Aesthetics).

Allergan Aesthetics has these 5 divisions:

Body contouring division with its' industry-leading Coolsclupting technology focuses on freezing fat cells in targeted areas. The cells die and are then removed through the natural body processes. Importantly, even the Coolsculpting service providers say that the technology doesn't work for cellulite treatment (here and here):

The FDA shows promise in improving the appearance of cellulite along the sides of the body by freezing the fat cells. But there’s not as much promise for CoolSculpting cellulite in the legs if you want our opinion. Of course, if there’s less fat, it’s less noticeable. But we wouldn’t recommend seeking CoolSculpting for cellulite.

But, does CoolSculpting work on cellulite? The short answer: No, it does not.

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