The Best Small Cap for 2007: Syneron

If you're not familiar with Israel-based Syneron (Nasdaq: ELOS  ) , its ticker may appear distinctly foreign. In fact, the ticker is the name of the company's technology -- elos, or electro-optical synergy. The elos technology uses a combination of optical energy and RF energy in order to more precisely target areas of the body for aesthetic laser treatments.

The arena of aesthetic tweaking -- whether you're talking about reducing signs of aging, enhancing (or reducing) certain physical attributes, removing scars or lesions, removing hair, or any of a plethora of other menu items -- is big, big business. As my favorite TV doctor, Christian Troy of Nip/Tuck, could tell you, people want the fantasy of the perfect body -- and Syneron hopes to bring that fantasy in a quicker, easier, and less painful way.

Syneron's current products include eLight, eLaser, eMax, VelaSmooth, and LiteTouch. The main set of products, eLight, eLaser, and eMax, are "aesthetic workstations" that allow doctors to perform a number of treatments, including hair removal, skin rejuvenation and tightening, and treatment of leg veins, vascular lesions, and acne. The VelaSmooth, which accounts for about 20% of the company's revenue, is a device used for the treatment and reduction of cellulite. And the LiteTouch, which the FDA just cleared in October, is for use in certain dental procedures and is expected to open up the dental market to the company.

On the lookout for things to come, Syneron is working to extend its reach into non-medical and spa environments with its eStyle product, which can do a subset of what the full units can do. The company is also starting to go through the approval process for a home-treatment unit and is potentially looking for a partner in the consume-products industry.

Bread and butter
But let's get real here. I'm no medical-devices expert, and so it wasn't Syneron's hot technology that caught my attention. A quick look at the financials reveals the following: $158 million of cash and equivalents, no debt, 85% gross margins, 43% operating margins, a run rate 21% return on equity and 18% return on assets, strong operating cash flow, and compounded annual revenue growth of 46% over the past three years. Despite all of that financial strength, you can still pick up shares at less than $24 per share, which is just 16 times projected 2006 EPS.

This is particularly impressive when you take a look at Syneron's competitors. Palomar Medical (Nasdaq: PMTI  ) and Cutera (Nasdaq: CUTR  ) both trade at higher multiples than Syneron on both an EBIT multiple and P/E basis, yet both trail Syneron on the margin front. While both Palomar and Cutera are projected to grow at a faster pace than Syneron is going forward, it's a questionable projection, given that Syneron has grown more rapidly than both historically.

The drop and skid
Of course, there's rarely a stock that trades at such a low multiple without any reason -- good or otherwise. In Syneron's case, the company has started to bulk up on sales and marketing spending in a big way and, as a result, ended up missing EPS projections for the fourth quarter of 2005 and the first quarter of 2006. After peaking at around $46, the stock made a sharp drop to below $30 after the December results were pre-announced and slid down to less than $20 on the March results. Timing was not great, either, given that these two misses led to the general decline in equities this year, as well as the escalated Israel-Palestine conflict.

The stock has bounced slightly since then, but it is still trading at about half of what it once was. In 2007, Syneron will likely continue to bulk up sales and marketing, but the company should also start to benefit from the increased spending in 2006. There were definitely some hiccups in '06, but going into '07 I see this as great growth at a nice price.

Agree with me? Disagree? Let the world know at The Motley Fool's community-based stock rating service, CAPS. Based on your thoughts, we'll declare the best small cap of 2007 early next week.

Long live the small cap:

Seen our other contenders for best small cap? If not, click here.

Fool contributor Matt Koppenheffer isn't using any elos technology ... yet. He does not own shares of any of the companies mentioned. The Fool's disclosure policy is naturally beautiful.


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