The crushing 17% drop in the shares of Cutera (NASDAQ: CUTR ) on Aug. 7 will get the attention of value investors specializing in the medical appliances and equipment space. The decline came in response to the company's second-quarter results. Despite Cutera's 16.9% year-over-year revenue growth, investors bailed on CUTR. With the stock trading at a price-earnings ratio of about 13.9, is it in value territory?
Cutera, which sells face and body aesthetic solutions, reported revenue of $42.6 million, as revenue from its TruSculpt 3D product rose 29% YOY. The company lost $1.6 million, or 11 cents per share, while its non-GAAP earnings per share came in at 12 cents. Cutera maintained its full-year revenue guidance of $178 million - $181 million. The decline in the company's gross margin (which dropped to 53%-54%, down from 57%-58%) spooked investors.
But a closer look reveals that the company is investing in infrastructure and revamping its sales strategy. The company's decision to use more overseas resellers will hurt its profitability, and its expansion into China will be especially costly.
Cutera said on its conference call that investments in its business will further lower its gross margin. The company will also invest in its manufacturing process, which will hurt its short-term results but will significantly lower its cost of goods in the long-term.
Despite the company's explanation, the nearly 50% reduction in Cutera's non-GAAP EPS forecast - which fell from $1.03-$1.11 to between 50 cents and 60 cents - disturbed investors even more.
The reduction more than doubles its forward price-earnings ratio to about 68 from around 26. Shareholders will have a hard time justifying that lofty multiple in light of the company's lack of near-term growth. Looking at the second half of this year, however, management is confident that its global services team and the updated manufacturing process will boost Cutera's results.
CUTR Has a Moat
Revenue generated by the truSculpt iD system, a device which uses radio frequency technology and heat to reduce fat in a non-invasive manner, grew around 30% YOY, despite the launch of the latest version of the product in July. TruSculpt iD has a moat that sets it apart from the competition.
The latest version of the device has hands-free functionality and has delivered strong results in clinical trials. Moreover, patients are comfortable when they are treated with the device, and the total treatment time can be as low as 15 minutes, seven times faster than the market leader.
On its Q2 results conference call, CUTR said, "We believe truSculpt iD will impress customers and their patients with its simple setup, its diversity of placement options, and the comfortable yet rapid procedure time."
The market is not pricing in the revenue potential of the product. Patients who pay $2000 - $3000 for the procedure may get in and out of the doctor's office in under 30 minutes. Cutera has an upbeat sales team who believes that this is the biggest launch in the company's history. Customers have given positive feedback about the device after it was released in a limited number of markets.
CUTR Has Reasonable Expenses
Even though the company reported that its gross margins had fallen due to a shift in its sales mix towards its international distributor network, its costs were reasonable overall. Cutera's G&A expenses rose to 12% of its revenue, or $4.9 million, up from 10% last year. Its R&D costs jumped 37% to $4.1 million, but this investment in engineering and clinical research will drive new product innovation and keep Cutera ahead of the competition.
Cutera ended the quarter with $29 million in cash and investments. It has no debt.
Its stock-based compensation is reasonable, too, as it rose to $10 million, up from around $9 million last year.
The only analyst who appears to be covering CUTR had a price target of $60 on the shares five months ago. Assuming Cutera's investments pay off and the iD system takes off, the company's revenue should rise at least 10% over the next year.
Applying a discount rate of up to 13%, we calculate a fair value of $51 per share for CUTR, representing a 50% premium above its current level.
After the dip in CUTR stock, value investors will definitely want to look for an entry point in this company.
As of this writing, Chris Lau did not own shares of CUTR stock.
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