Accuray Inc (ARAY) 2008 Q2 法說會逐字稿

Thank you, ladies and gentlemen, for standing by and welcome to the Accuray Incorporated earnings conference call for the second quarter fiscal 2008 conference call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time. (OPERATOR INSTRUCTIONS). As a reminder, today's program is being recorded.

And at this time for opening remarks and introductions, I'd like to turn the program over to Mr. Tom Rathjen. Please go ahead, sir.

Thank you and good afternoon. Thank you for joining us today for Accuray's second quarter fiscal 2008 conference call. Joining us this afternoon is Dr. Euan Thompson, Accuray's President and Chief Executive Officer, and Bob McNamara, Senior Vice President and Chief Financial Officer.

Before we begin, I need to remind you that except for the historical information, the information that follows contains certain forward-looking statements that involve risks and uncertainties that could cause actual results to differ materially from those projected. Such risks and uncertainties include the matters described in the Risk Factors section of our report on Form 10-K for the 2007 fiscal year, as updated from time to time by our quarterly reports on Form 10-Q and other filings with the Securities and Exchange Commission.

And now I would like to turn the call over to our President and Chief Executive Officer, Dr. Euan Thompson. Euan?

Thank you, Tom. And thank you to everyone for joining our call today.

In Q2 '08, we achieved our fourth consecutive quarter with record revenue and backlog. Revenue for the quarter was $52 million, up 98% from $26.3 million during the same period last year. For the first half of the year, revenue surpassed $100 million, representing an increase of approximately 70% from the $59 million achieved during the first half of FY '07. Backlog grew to a record $660 million, a 29% increase on backlog in Q2 '07.

Following my remarks, our CFO, Bob McNamara, will provide more detailed analysis on our second quarter results. However, I would like to start by sharing a few additional highlights.

There were 12 insulations during the second fiscal quarter, bringing the total installed base of CyberKnife systems to 126 worldwide. We were profitable for our third consecutive quarter. Net income was $2.3 million or $0.04 per diluted share compared with the loss of $7.3 million or $0.45 per share during the same period last year.

Service revenue during Q2 increased 144% year-over-year to $9 million. And we expect that it will continue to become a more significant source of revenue for the Company. It's still the case that more than 90% of all of our U.S. customers offer high level service offerings, which includes upgrades. Currently we generate $460,000 in service revenue per year at each CyberKnife site with a Diamond contract in place. And as a reminder, these are four to five year contracts.

I will now give an overview of clinical, technical and sales developments during the quarter. I will finish with an overview of how we believe the near-term tightening of the credit markets in the United States has led us to modify our full year revenue guidance. I'll discuss this in more detail before turning the call to Bob McNamara.

Supporting the growth in the acceptance of CyberKnife radiosurgery is increasingly strong clinical data. At our 2008 CyberKnife users meeting last week, eight presentations reported on large-scale studies of 100 or more patients with intercranial, lung, prostate or spine tumors. Clinical data were presented, showing two and three year follow-up results of patients treated for prostate cancer. The data showed durable PSA reduction and no significant side effects for men treated with the CyberKnife system during that time period.

The data comparison of patients with acoustic neuromas treated by either CyberKnife or Gamma Knife demonstrated superior hearing preservations in the patients treated with the CyberKnife. In addition, seven presentations demonstrated promising results in emerging applications treating patients with breast cancer, bone cancer, kidney cancer and various pain syndromes.

Clinical utilization data for Q2 demonstrates continued significant increases in CyberKnife treatments of lung and prostate cancer. This data underscores the continued acceptance of the role of CyberKnife radiosurgery as a practical and preferred method of treating tumors throughout the body. For the first time in the United States, more prostate treatments and spine treatments were delivered using the CyberKnife, despite continued strong utilization for spine. In Q2, prostate cancer was therefore the third most frequently treated condition in the United States behind brain and lung tumors.

And it's not just the number of patients treated that indicates strong acceptance of CyberKnife radiosurgery for key cancer sites. We've seen an increase of approximately 75% in the number of CyberKnife centers treating prostate cancer since Q2 last year. In fact, this is the first quarter where more than one-half of CyberKnife centers in the U.S. are treating prostate cancer.

Since Q2 last year, the number of centers treating lung cancer has increased by nearly 40%. And the number of total patients treated continues to accelerate. During the quarter, we announced that more than 4,000 patients have now received CyberKnife radiosurgery treatments for lung cancer. With the exception of those units in Japan, where only head and neck treatments were approved, more than 90% of all CyberKnife centers worldwide now treat lung cancer patients.

Also in the field of lung radiosurgery, we have received a great response to the study that we recently announced, that is to investigate whether the non-invasive CyberKnife radiosurgery treatment could be considered a true alternative to surgery for medically operable early stage lung cancer patients. As you may remember, in October, we announced that MD Anderson Cancer Center was going to serve as lead investigator in this international randomized trial. Protocol developments of this study is now complete and enrollment in the study is expected to begin in fiscal Q4.

I can reveal today that more than 40 sites around the world have now stated their intention to participate in this study, which is a great endorsement to their enthusiasm for the CyberKnife and their clear belief in its potential for treating lung cancer.

To summarize, clinical interest in the field of CyberKnife radiosurgery continues its dramatic expansion. At our users meeting last week, we had more than 540 non-Accuray attendees, including surgeons, radiation oncologists, physicists and administrators. On a year-on-year basis, this represents an increase in attendance of around 25%. There were 74 papers presented, and around 75% of the clinical papers described extra cranial radiosurgery.

On the technical front, during Q2, Accuray was honored by the World Economic Forum as a technology pioneer. The award is given to a select group of companies that have developed life changing technology and innovations that have the potential for long-term impact on society.

Q2 also included the annual meeting of the American Society for Therapeutic Radiology and Oncology or ASTRO, of which Accuray announced four new products. These four brought the total of new products to six during calendar year 2007. They included a mix of software and hardware with the general theme of faster treatment delivery and accuracy.

I've spent some time describing the new releases during the last earnings call, so I'm not going to spend significant time on them today. However, I can report that we've had an exceptional market response to all of them. As an example, 100% of the new U.S. contracts generated during Q2 included our treatment delivery optimization software and our Monte Carlo Treatment Planning Software. 87% of new orders included our new high output (inaudible) accelerator and 40% included our robotic couch. As a reminder, we expect the combined effect of the products' launch at ASTRO to be a decrease in treatment time on the CyberKnife of up to 50%.

On the services front, last week we announced that we will now be initiating a treatment planning service for our customers. This will use a centralized group of specialized scientists to plan individual patient treatments. We feel that this service will be embraced by our existing customers as they grow, and also take away a significant barrier to entry for new sites. Importantly, in addition to these customer benefits, the treatment planning service will become another recurring revenue stream for Accuray. Treatment planning services are currently reimbursed in the U.S. at a rate of approximately [$2,500] per patient. We estimate the current potential market size is approximately $60 million. I should point out, however, it will enter this market slowly and carefully, and then it may be some time before the economic impact of this new service is seen.

Moving on to sales. New contracts continue to be generated at an even faster rate than revenue is recognized. And there has been a significant upturn in our international business. This quarter, we announced the sale of the first CyberKnife systems in India and Russia and the installation of our fifth system in China. These examples are representative of the growing strength internationally that results from broader clinical acceptance and a stronger international market presence.

At the end of Q2, we had direct sales personnel or distribution channels established in more than 50 countries worldwide. Backlog this quarter increased to approximately $660 million, an increase of approximately 29% from Q2 last year. This, against a backdrop of revenue increasing by 98% in the same time period, is a very strong indicator of future growth. As Bob will explain in a minute, this increase in backlog also occurred at a time when the changing financial environment resulted in us removing several purchased contracts from backlog.

And with that as an introduction, I would like to now give an overview of the state of the market from Accuray's perspective to put this quarter's achievements into their full context.

While we have continued to grow our revenue, net income and backlog, we now feel it's sensible to adjust our expectations for the remainder of the year. At the start of this fiscal year, we stated revenue guidance of between $250 million and $270 million for fiscal year 2007. And we stated that we anticipated flat to moderate growth in revenue for the first half of the year. Revenue in Q1 was $49 million, up from a prior quarter value of $44 million. Q2 increased further to $52 million. Our total year-to-date revenue is in excess of $100 million. Today, however, we are adjusting the revenue guidance for FY 2008 to $210 million to $230 million, which would represent annual revenue growth of 50% to 64%.

The primary reason for this change is that those customers requiring credit to finance either their equipment purchase or the construction of their facility, are having greater than expected challenges. As a result, some of our U.S. customers who had committed to installation timetables have slowed their installation plans. This inevitably has affected our revenue forecast for the year.

For the most part, we feel that these customers are still committed to purchasing a CyberKnife. As I have indicated, this is specifically a U.S. effect and the group of customers affected most by these credit pressures is generally the freestanding centers, owned and managed by non-hospital-based personnel.

Additionally, we have always stated that we review backlog on a quarterly basis and only include those contracts that we feel confident will lead to future revenue. This quarter we felt it sensible to remove a number of contracts from backlog in order to give our investors greater visibility into the potential effect of this market adjustment. The $660 million of quoted backlog is a number calculated after this adjustment. Though encouraging, the backlog growth in Q2 is achieved despite converting record revenue from our backlog on a downward adjustment of our previously quoted backlog level.

Coincidentally, the group of customers experiencing credit issues is the same group of customers who earlier in the year where affected by the proposed rule change by CMS. This rule change, which is still uncertain, as CMS continues its review, would impact the ability of hospitals to bill Medicare for patients it sends to freestanding centers.

Now, as future mitigation of this combination of circumstances for freestanding centers, we did receive some good news during the quarter regarding reimbursement. Last month, two regions published G-code payment rate for robotic radiosurgery under the physician's C schedule. This schedule covers technical and professional fees in freestanding centers. Prior to this publication of payment rates, reimbursement levels were negotiated with Medicare on a case-by-case basis. So this publication has made for a much more certain business case for freestanding centers.

For the states concerned, which include California and Massachusetts, upstate New York, Maine, New Hampshire and Vermont, the fees are supportive of robotic radiosurgery, paying at an equal or higher rate than the hospital outpatient rate. Our expectation will be that in due course this will mitigate the impact of the other pressure that the freestanding market segment has come under.

To finish, I would say that we fully expect U.S. sales growth to continue despite these changing economic conditions. In reviewing our sales pipeline for coming quarters, it is obvious that there are more customers in the purchase cycle than ever before. Our U.S. sales force is now focusing their attention on those customers who have less of a need for credit to complete purchase and construction. Internationally, sales are very positive, and we'll continue to share with you some of the strategic sales and installation highlights that occur in all territories.

Now I'd like to turn the call over to Accuray Senior Vice President and Chief Financial Officer, Bob McNamara, who will provide a review of our financials. Bob?

Thank you, Euan, and again, thank you all for joining us on today's call. This afternoon, I will review our financial and operating results for the second quarter of fiscal 2008. Before I do that, I'd like to reiterate a few key aspects of our business. First, we have achieved solid financial performance with significant revenue growth, industry-leading gross margins, and a strong balance sheet. Second, we have a robust business model, driven by a differentiated product and service offering. And third, our business model generates significant backlog, providing visibility into future revenues.

As Euan mentioned, in the second quarter, Accuray achieved its fourth consecutive quarter of record revenue. Revenue was $52 million, reflecting a 98% year-over-year increase from $26.3 million in the prior year, and a 7% sequential increase over last quarter.

Net income was $2.3 million or $0.04 per diluted share compared to a loss of $7.3 million or a loss of $0.45 per share during the same period last year. This quarter marks Accuray's third consecutive profitable quarter since becoming a public company.

Taking a closer look at second quarter's revenue -- $39.1 million was generated from product revenue, which increased significantly from the $19.3 million during the same period last year, and was up 6% sequentially. Service revenue contributed $9 million during the second quarter, a 144% year-over-year increase from $3.7 million. As the number of installed units increases, we expect service revenue to contribute more significantly to total revenue. Service revenues are primarily derived from our long-term service agreements, which over 90% of our U.S. customers purchase. These four to five year contracts provide our U.S. customers with high-quality technical support and six upgrades, when and if available, over the life of the contract. Our customers benefit from this program because it keeps their CyberKnife platform updated with the latest technology, enabling them to broaden clinical applications, improve treatment times, and increase patient comfort.

We benefit from the service payments of $460,000 per unit, per year, over the life of the service contract, which provides a significant stream of recurring revenue. This premiere service program sets Accuray apart from the rest of the industry and enhances our very important long-term customer relationships.

Shared ownership revenue increased to $3 million this quarter, compared to $2.6 million in the second quarter of last year. Sequentially, it grew $732,000 or 32% over last quarter. The contribution to total revenue for the quarter was 5.8%. During the second fiscal quarter, two shared ownership systems were purchased and we added two new installations, leaving a total of 11 current shared ownership programs; the same as last quarter.

The last component of revenue -- other revenue -- contributed $913,000 in the second quarter. This compared to $792,000 during the same period last year, and $2.4 million in the fiscal first quarter of 2008, which included an upgrade customization for two units in Japan. So in the second quarter of fiscal 2008, we saw an overall continuation of revenue growth, both sequentially and year-over-year.

Looking at six month numbers, total revenue at the end of the first half of the year was $100.7 million, increasing 70% from $59.1 million during the same period last year. Gross margin for the second quarter increased slightly to $53.5% sequentially from last quarter's 53.3%. Accuray's overall gross margins are the highest in the industry.

Operating expenses for Q2 '08 were $27.3 million or 52% of revenues, a slight improvement in comparison to last quarter at 53%, and showing considerable improvement year-over-year when operating expenses were 84% of revenues.

Our investment in R&D, research and development, was $8.1 million during the second quarter or 16% of revenue. Selling, general and administrative expenses were $19.1 million or 37% of revenue for the quarter. This positive trend demonstrates the potential leverage in our business model and potential for increasing operating profitability.

During the second quarter of fiscal 2008, we recorded non-cash stock-based compensation of $4.3 million or $0.07 per diluted share. Net income for the first six months of fiscal 2008 was $4.6 million or $0.08 per diluted share. Net income showed great improvement over last year's first half loss of $5.3 million or loss of $0.33 per share. At the end of Accuray's second quarter, there were 61.3 million fully diluted shares outstanding. During the second quarter of fiscal 2008, Accuray installed 12 units, six in the U.S. and six in Asia and Japan, bringing our total worldwide installation to 126. At the end of December, our installation base included 82 units in the Americas; 12 in Europe; 17 in Japan; and 15 in the rest of Asia.

During the second quarter, our sales effort generated new contracts valued at $101.3 million, consisting of 22 new CyberKnife contracts. Separate from this, however, a number of older contracts were taken out of backlog due to concerns over the tightening of the credit markets. We reviewed the backlog and the contracts most affected by the tightening economy were removed. These customers were generally those whose financing is now delayed or in question.

Backlog at the end of the second quarter of fiscal 2008 was $660 million, up 29% from the $513 million from the same period last year. Sequentially, ending backlog for the second quarter rose $18 million from the ending backlog last quarter. The CyberKnife system component of backlog is $365 million or 55% of total backlog. The recurring portion of backlog is $295 million, consisting of $238 million in services and shared ownership of $57 million.

As a reminder, the CyberKnife portion of backlog will generally be realized over the next 18 months, and the recurring portion over the next 60 months. Since essentially all revenue flows out of backlog, this metric provides excellent visibility into future revenue.

Moving to our balance sheet, cash and cash equivalents at the end of the second quarter was $187.5 million. Deferred revenue was $124.3 million with $77 million in current deferred revenue. Total assets for the quarter were $310.5 million, and the Company continues to have zero debt.

Last August, Accuray's Board of Directors approved a stock purchase plan, under which the Company has the ability to acquire up to $25 million worth of common shares in the open market for a period of one year. Through December 29 we have repurchased approximately 220,000 shares or $3.3 million worth of our shares. Under the plan, Accuray is not obligated to acquire any particular amount of common stock, but the plan demonstrates our willingness to buy our shares when we feel the stock is particularly undervalued; reconfirming our confidence in Accuray's future.

Now turning to our updated guidance for fiscal 2008, last August, we provided topline guidance in the coming year ending June 30, 2008. Guidance was based upon our estimate of pending and anticipated installations and the existing recurring revenue in backlog.

As we have mentioned in the past, we closely monitor each contract in backlog, based on the input we receive from both our customers and our sales team. Based on our assessment of pending and anticipated installations, and the effects of the tightening U.S. credit markets we began to see at the end of the quarter in the past two weeks, we now expect full year fiscal 2008 revenue to be in the range of $210 million to $230 million. This decrease of 15% to 16% still represents a growth of 50% to 64% year-over-year, continuing to lead the industry. Based upon installation and revenue projections for the second half of fiscal 2008, we are confident in our ability to achieve these goals.

In summary, Accuray has had its fourth consecutive quarter of record revenues and continues to achieve both backlog and revenue growth. This marked our third consecutive quarter of profitability and our balance sheet remains strong. In backlog, driven by new order growth, is expanding, despite some economic concerns impacting customers in the U.S.

And with that, I would like to turn the call back to Euan.

Thank you, Bob. I'd like to add that we're disappointed by the need to modify guidance, but we hope that all of our investors understand that we're doing so in the interest of clarity and as a result of circumstances that did not exist at the time the initial guidance was given. We do view the effect of this changing credit environment on our forecast growth rate as temporary, and we fully expect U.S. sales growth to continue despite the changing economic conditions.

I'd repeat, that in reviewing our sales pipeline for coming quarters, it's obvious that there are more customers in the purchase cycle than ever before. Our U.S. sales force is focusing their attention on those customers who have less of a need for credit to complete purchase and construction. Internationally, sales are very positive and we will continue to share with you some of the strategic sales and installation highlights that occur in all territories.

On balance, despite removing some contracts from backlog this quarter and achieving record revenue conversion from backlog, our final backlog number still increased from last quarter.

So in summary, Q2 was characterized by record revenue in backlog, a strengthening of our sales pipeline, and international growth. Despite temporary economic conditions impacting one sector of the U.S. market, we believe Accuray is well positioned for the future. We have a strong service portfolio, increasing demand for our product upgrades, and we are widely recognized as a technology of choice for the expanding extracranial radiosurgery market.

At this point we'll take questions.

(OPERATOR INSTRUCTIONS). Thom Gunderson, Piper Jaffray.

The focus is going to be, as you said in your summary, Euan, is going to be on the change in guidance. Midpoint to midpoint it's down $40 million. Was there $40 million taken out of the backlog assumption on the creditworthiness of the CyberKnifes that you took out?

It was less than that. If you -- in the past, we've shown kind of how to calculate the change in backlog. If you start with beginning backlog, you back out revenue and compare that to the ending backlog, you will come up with the difference of the net-net new value contribution. And that compared to the $101 million will give you that number.

I want to point out as often as I can as well that we're obviously disappointed to have to do that. But at the same time, there's still, we believe, significant and probably industry-leading growth in the guidance that we are giving.

Oh, I know. It's just all about expectations and then changing expectations. So, we've all been through this before.

Is the assumption then that of the CyberKnifes that are in backlog six months ago, the ones that were in backlog, some of them had a contingency and the contingency was the ability to raise the money to pay for it?

Yes, some of them. But also there are other factors here. We're not saying that everything that affected our guidance adjustment has come out of backlog. What we are seeing in many cases is people are just taking longer to get their financing resolved. So the net effect on the guidance is not just people canceling contracts, it is really about us assuming that they are not going to be install. It is really about doing a balanced overview of what we think will happen for the rest of the fiscal year. And that simply includes people that have been telling us that their financing is on its way. And when we look at it and we talk to them, we think, you know what? It may be but we now don't think you're going to be able to complete your initial installation objective.

And help me understand why it's having such an impact on the short term, in the next six months, when as I understand you have to place an order, you have to put money down and then you've got to get your contractor to build the CyberKnife house for you; all of that takes time. One would think that these adjustments to credit and pushing out would have more impact in the 12 and 18 month period rather than the next six months.

Well, it does. Although there are payments that are made upon installation. So if a customer wants to push that payment out, it is very easy to push it out by pushing out the installation.

Okay, but they already have a bunker all set and ready to go but they don't want the installation? Is that the way we should look at it? In some cases, at least?

In some cases, yes. But if the installation is meant to take place six months from now but the bunk probably isn't ready.

Okay. And then I will just ask one quick arithmetic question and get back in line. You said 12 new installations, six in the U.S., which I assume are revenue generating. Were the six in Asia and Japan also revenue generating? Or did they come from distributors where we already counted the revenue?

They were from -- it's a mix. Some of them were revenue generating. Some of them would have come from the previous quarter.

We pointed that out last quarter. There tends to be a mix in every quarter.

Right. So, can you tell us if -- there's only six units. Can you tell us how many were revenue generating?

Well, if you look at the total, the total revenue units, they were actually 18 that touched revenue. In other words, it was the first point that we would be recognizing revenue and that included both installs. It might have included shipments or even platinum units where they had completed all the upgrades and now we can began recognizing revenue.

Mark Richter, Jefferies & Co.

You recently held a CyberKnife users meeting on the 23rd to the 27th. My understanding is there were more than 500 medical specialists. There's clearly a lot of interest in the CyberKnife product. I guess my question is, why can't we get more of that interest converted into backlog growth, unit placements and revenues in a faster, more expeditious way? I mean, is it -- is the Novalis TX impacting things at all? Or can you just help us understand sort of why things are taking longer than expected?

Well, there is a couple of questions rolled into one there. So, actually probably there's three all in all, but -- the delays that we've talked about are due to the reasons we've talked about. So I don't want to try and link them to any plan changing clinical trends.

Taking the question backwards, you also asked about Novalis and the impact on the market. And I think I say that with a great deal of confidence, Novalis has been there for the whole of the period of growth of the CyberKnife. This version of Novalis, the last session, Novalis, the functional capabilities as it links to clinical treatment are really not much different, if at all different. We are not certainly internally able to see any difference at all. So they certainly changed the hardware platform on which it is based by using a different model and accelerator and using a different [model economimator]. But the overall on whether that will be able to deliver more treatments is pretty negligible.

So we are not experiencing any major or even minor sales impact as a result of Novalis. Like I said, it has been there for the whole period of our growth and we are very used to dealing with questions about that.

As far as the clinical changes are concerned and how quickly they result in sales and installations, I do want everybody to understand, we are building a clinical program here. We are not the same company as other radiation producing companies. Varian, TomoTherapy, Elekta, these companies are to a much greater extent selling into an existing clinical market. We know that the major companies in the field say that they sell about 70% of their sales or so are to repeat orders to the same customer. They're just replacement units going into an existing bunker. They're going to treat exactly the same clinical conditions. So the budget for them is predetermined. The room configuration is right.

We are not in that field. There are pluses and minuses to that. The plus is we have a huge potential market. And the more the clinical treatments grow, the bigger that market becomes.

To link it back to the users meeting, which was the start of your questions, we had an amazing users meeting. You think of installed base of not much more than 100, and we have users there and customers and so on pf more than 500. That means that people are sending four to five people on average per site. That is a massive investment. And I think it really demonstrates the level of enthusiasm and interest there is in CyberKnife as a whole.

And the people that attended I can tell you were absolutely blown away by the level of clinical presentations that there were there. And I think what you'll see over the next six months to a year is some real impact from the kind of clinical data that was presented pretty much for the first time at that users meeting as it reaches a broader audience.

But I think the initial impact of any new clinical data is amongst the existing user base. And that's why when we look at the changing trends in the market, we start off by looking at utilization. When we see as in prostate cancer, utilization on the ramp up, which it is in a dramatic fashion, we help those sites to become even more successful. And we encourage them to publish their data and their experiences.

Once that data are out in the broader audience, that's when you can use it to for sales efforts. Once you have used it for sales and you've got new contracts, then you're still stuck in the same environment of needing the hospital to build a room to house the CyberKnife. And that is the world we live in. These new construction programs, major new projects to every single customer. And I said, we're not in the same business as the other companies.

Okay. Perfect. And then, I mean, just as a follow-up, did the clinical data out of Naples comparing CyberKnife versus prostate cancer, was that presented at that user conference? Or will that be something to follow shortly?

It was presented at our conference but I would rather leave it for them to release the full details about it, other than to repeat what I just stated in the scripted version of the conference, which is all the data was very, very positive in terms of PSA response from all of the prostate papers that were presented with minimal side effects.

Got you. And then last question and it is a follow-up to the others, I just want to make sure I'm clear on this. So how many revenue generating systems did you place this quarter? And then can you break it down for us -- U.S. versus OUS?

So, there were 18 revenue units where it was the first time that we were recognizing revenue on that. And so it was 10 in the U.S. -- or in the Americas; one in Europe; and 7 in Asia. And in the U.S. that could be because it was installed. It could be because it was a placement we first started recognizing revenue on. Or it could be a platinum where they have now received all of their upgrades and we can begin recognizing revenue.

Okay, perfect. Thanks, guys.

Tycho Peterson, JPMorgan.

Maybe starting off with just some of the credit issues you have talked about. Have you guys shifted your sales strategy? You talked a little bit more on focusing on accounts that had financing in place but how do we think about shared ownership? Do you start to push the shared ownership potential customers more? And then also to the extent you are changing your sales expectations in terms of costs for this year, that would be helpful.

So, in terms of sales focus, as I said just now, I think our sales force was finding that there were real opportunities for linking up with people who had definite financial interest in building a medical program. Those sales -- let's go back 12 months where -- I wouldn't say easy, but they were the ones which were presented to them as opportunities. And they were very positive passed to completed contract. And I think that became a very -- for one of our market segments, at least, for certain regions of the country, that became a particular focus for them. And I think as naturally as things have tightened up in those areas, then they have naturally moved away toward the ones which are not requiring credit, so it has been kind of a natural evolution. And as we've really become more aware of the situation over the last few months, we've really done some serious hard looking at both our backlog and at our future sales pipeline.

The effect on backlog is the one we've described. We felt it sensible to make those adjustments just to a greater level of uncertainty. In the sales pipeline, I think the changes had already taken place. People were already focusing as we look forward to our forecast for the next couple of quarters, hardly any of those types of deals were really amongst the mix of customers that they were bringing to our attention.

And so then in terms of the CyberKnife backlog that you quoted, is it fair to assume that none of that is contingent on financing? Or how do we handicap that?

No, there's still some that requires financing. But we looked at the credibility and creditworthiness of the customer and can see that it is, in fact -- they should be able to get financing and they don't believe that it is going to be an issue for them. So we have rolled that into the analysis that we did on all of the backlog.

We haven't always been given credit for this. So we actually have I think a very conservative approach to backlog and what you're seeing this quarter is a result of that. We don't believe that many of these customers have gone away completely, but we want to give maximum clarity to everybody. And if we don't feel that within the kind of timeframes we've always quoted for backlog rollout, that those customers are going to be ready, because they're still sort of finalizing things. We don't necessarily have confidence that they can complete in the original timetable. That is when we have really taken some fairly firm action and said it's just best not to have those in our backlog number.

It should be clear that it isn't that the interest in CyberKnife is waned, it's their ability, potentially, to get the financing for CyberKnife.

And again, of course it is a big focus for everybody. And of course it is disappointing that it's resulted in a turning down of our guidance for this year. But at the same time, it is one market segment. And we sell to -- it doesn't affect the international markets. And it doesn't affect the vast majority of our U.S. deals either. It is one market segment.

Okay. And then in terms of your outlook on spending then for the year, given the revenue reduction in guidance, any real change there in terms of how you're going to be building up sales force?

I don't think it's so much in terms of sales, but I mean, clearly we -- Bob, do you want to --?

Yes, yes. It's -- yes, we still want to invest properly in the sales effort as well as the R&D effort. I think -- but we're going to take a look at all the numbers for the next six months of this fiscal year and decide, okay, well, what is discretionary here? What can we pull back on in order to maintain our current profitable growth rates?

We already have I think a very strong and -- say complete, because it's never complete -- but it's a very strong sales force in the United States. And as we progress internationally, I mean much of the territory expansion we have been able to achieve over the last few quarters has been through additional distributors. So we put in place in order to find the best distributors, we put in place the territory managers some time ago. And they are the ones who have now been identifying which of the distributors who would like to sell our products are going to be the best ones for us. And that is how a lot of the geographic expansion is taking place.

So completing the job, which we will be doing over coming quarters, is not necessarily one globally that requires a huge level of additional investment.

Okay. You commented on Novalis a moment ago, but can you just give us a sense as to how often you're getting in a bake-off with Varian and how you're addressing competitive noise that may be in the market?

Sure. There's not really been any change since last quarter. I would say that and I talked about this quite a lot I think in the last quarter. Varian are present when we try to make a sale in many cases. But primarily in the cases where a hospital is deciding to switch from what would have been a traditional replacement of the standard accelerator unit in a bunker that already exists. When hospitals are deciding that neither because they see radiosurgery as a clinical opportunity or they see radiosurgery as a business expansion opportunity for them, they are deciding to use one of their existing bunkers for a CyberKnife instead.

In then of course, we compete pretty strongly for budgets and for space inside the hospital. And all competitors in that environment, their arguments tend to be you really don't need to treat many radiosurgery patients. And the low hanging fruit can be treated on our systems and you'll be able to do radiotherapy as well. And our counter-arguments to that, which are generally successful, are that you have plenty of patients here. And many radiosurgery cases, most radiosurgery cases, are extremely complex. They involve moving targets. They involve very precise treatments close to vital structures such as the spinal cord, which will be moving during treatment. CyberKnife is the best unit for you. It's a robotic system that is going to monitor patient position and organ position throughout the treatment and correct for it automatically without an interruption. You are clearly going to get more accuracy, a high level of accuracy. And therefore CyberKnife is the right program.

So it really -- in the end of it, it tends to come down to whether they are ready to make the jump. And even those customers that decide that they'll stick with one of the existing sort of more conventional combination units, they tend to come back to us at some point in the future anyway. Because they're just dipping their toes into the radiosurgery world. And they want to I think build that and realize what they want to do, because the patients are there, they would tend to migrate back.

Okay. And then finally, I may have missed this, but on the international front, the six orders for last quarter that were not in the installed base, they are now part of it, is that right?

The ones that were installed, yes.

Junaid Husain, Soleil Securities.

I'm sorry if I missed this -- how many instruments did you take out of backlog? I think you said you pulled less than $40 million in contract value? (multiple speakers)

We didn't actually identify the number of contracts. But if you do the math, it comes out to kind of net-net about $30 million.

Got you. And then, are all of these U.S. freestanding centers then?

Yes.

Pretty much, yes.

The majority certainly.

That's not an exact write-down, but yes, and that's the impact within the U.S. And those are the ones we examined hard and those are the ones we decided should be taken out.

And I am assuming that these are recently placed systems, so centers that perhaps haven't started building out their room. Is that actually how we should be thinking about this?

The ones that would have to been removed would tended to have been in the early stages, because they're still in the financing phase. But there are others as we mentioned which are just delaying. So there are kind of two effects going on.

So what happens to these customers? Could they still come back later in the year, when they --?

Completely. Completely. Absolutely. And it's just because, like I said, we want to include in backlog, we have more of a conservative approach. And we only want to include those when you tell investors about backlog, we want to include the ones which we have a high degree of confidence will roll out in the way that we expect contracts to roll out. And if there's a higher degree of uncertainty than we feel is acceptable, then we will remove them.

Okay. And then with regards to the tightening of the credit markets, I guess I'm trying to understand what has changed from the fiscal first quarter to the fiscal second quarter. I guess the tightening of the credit markets is more or less well known. So what has really changed with your customers? Was it that after you issued guidance in the first quarter, you went back to your customers and did a more rigorous statistical analysis of what could convert to recognized revenue? And did you just see as these customers were getting closer to purchasing, their creditors were playing hardball? I'm just trying to understand what went on in the interim between quarters (multiple speakers) --?

Well, yes, sure. I think it's more of a -- now there is very much of a public recognition of the very, very tight credit markets. And before, yes, sure, of course there were hints of it, but as we sort of approached our customers and our customers were still very optimistic, and so we said, okay, well.

And then as we pursued a little more detail, a little more information, it just became clear that, in fact, they were going to be affected by the tight market. So over the late, late in the quarter and over the last few weeks, it's just become much clearer, both sort of privately and publicly that the credit markets aren't necessarily available to everybody.

Got you. And then Bob, with regards to the platinum and gold contracts out there, how many of these legacy accounts do we still have sitting on the balance sheet? Is it still about 45 in total? 30 Platinum, 15 gold?

That's exactly right.

And then how many of these contracts signed on to or these accounts signed on to their sixth and final upgrade in the quarter? I guess none of them did.

No, actually, some of them did sign on to their final upgrades. About 90% have ordered and have less than two or less upgrades remaining. And so -- yes. So, okay, so 16 platinums are complete right now.

Got you. And then the golds?

The gold is -- that's just, yes. That's just an ongoing revenue recognition. We're getting all of those on an ongoing basis.

Okay. Good enough. That's all I've got. Thanks.

Amit Hazan, Oppenheimer.

I guess first of all, just to be very clear on the guidance, is there anything in the new guidance, in the reduction of guidance that comes from the write off of new orders that you -- the $30 million or $34 million or so that you were writing off? Or is it all -- is the reduction all tied to the delays?

Well, I think it is a combination. If you look at some of the systems that were in our backlog that we thought they would be able to install by June 30, clearly the credit markets have affected that because they can push out that installation. Now, they might not go away, but they've gone away for this fiscal year. So, to the extent that they are pushing out their installation, or we believe that their installation is going to be pushed out, that does affect our outlook.

And then the backlog, it's really looked at almost -- well, as a separate entity looking at each of the contracts. Not so much as a key that they are going to be installed, because that's a different process, but just looking at each of the contracts and saying okay, should this, will this turn into revenue? So if a contract is pushing out their installation, they would probably still -- well, they would -- still be in backlog. But if we felt that their financing was at risk in its entirety, then in fact we would take them out of backlog. So it isn't a -- I mean, they're related but at the same time they're somewhat separate.

But what is your specific criteria for deciding if to take a unit out or to delay a unit?

Well, to delay a unit is simply to talk to the customer and decide whether or not they are going to be ready for installation. And so that's pretty straightforward. To take a unit out, that's our decision -- that doesn't -- I mean, it involves the customer but that's not the customer's decision, per se.

So you're taking unit out that the customer hasn't told you that they don't want the order yet?

In some cases, correct.

But it usually involves -- if a customer comes into doubt in the way that we've described, we will investigate it pretty thoroughly, usually involving a discussion with the local sales representative who may well go to the customer and get a full update on where they are and what their challenges are. We dig into this in some detail. We don't take it lightly.

And we go through the backlog on a monthly, quarterly basis. And then we assess, we assign them a quality number, if you will. And if they fall out of the range, then they come out of backlog.

Okay. So I mean, this obviously begs the question of how we get any kind of confidence in your backlog? So I'm trying -- if you can give us some clarity on maybe how much of your backlog is related to freestanding clinics? Or how much of your backlog is related to contingent contracts? Just so we get an idea of what your backlog really is. Because how do you give us or investors confidence that this won't happen again?

Well, I think you can gain confidence in the fact we've done this. I mean, we're demonstrating that we don't have soft orders or anything that turns soft. We don't leave it in backlog. So if you didn't see us doing this, then you should be worried. And I think that (multiple speakers) --

With all due respect, you did this a couple of months ago and you didn't find these. So this is happening in real time.

I think if you look at the -- again, the competitive companies in the industry, I mean they, for the most part, do remove orders from backlog when either customers cancel or they judge them not to be moving ahead. So I don't think there's anything unique in this. We can point to some pretty big players in the field who do exactly the same thing.

I think under these circumstances when we saw people pushing their installation dates, it was a good policy for us to go in and really look in detail at that particular category of customer. And to weed out ones that we just didn't feel confident enough in sitting here today telling the Street that these were customers that we felt highly confident we're going to move ahead with the installation process.

We've always done it. We've given it particular focus this quarter for that particular market segment. And we will continue to do that. Which means that as you look at our new contract value every quarter and you look at our backlog value every quarter, you should feel very confident that we've been through this process and it's a solid one.

Can you give us a sense generally of how much of your backlog is related to contingent orders?

We don't break that out on a public basis.

Okay. Just moving to, I guess, new orders. Even if we assume your $100 million in new orders, that's flat year-over-year, and if we think about the $40 million you just removed and with some of your comments, get a sense that that $40 million in backlog that you just removed was new orders over the last six months or so, I've got two out of the last three quarters that were flat in terms of new orders. I've got $40 million that are coming out of new orders. I'm not seeing much growth here at all, but you're painting a picture as if there's some robust growth going on in terms of interest in your product. What am I missing?

I'm not really sure where you're coming from, Amit, which is not unusual. But -- what Bob I think released there was 22 new contracts this quarter amounting to more than $100 million. And I think if you look back over previous quarters, that's an exceptionally good quarter. I know you might do a comparison Q2 last year to Q2 this year. But Q1 last year was fairly minor in terms of new contract generation. Q1 was about 37; Q2 was around about 100. When you look at the overall trend, the trend is very positive.

You take our last four quarters and roll them off and compare them to the previous four quarters before that, a time period that's somewhat meaningful and you're going to see very, very strong growth. And this quarter we've given additional visibility into the actual contract number as well as the actual new contract value as a dollar amount, which we haven't done before, which I think is a very, very positive -- both of those numbers are extremely positive.

Eric Schneider, UBS.

You actually just noted that for the first time you provided actual order -- or contract numbers and actual new contract revenue. Is that something you plan to do going forward?

We're not necessarily making that commitment right now. We did it obviously under the circumstance of having removed such a significant amount from our backlog for the reasons that we discussed. We really wanted to give people the level of confidence that we feel people deserve. And this quarter was actually a very positive one from a sales side. And we felt if we hadn't done that, then the numbers would have been distorted. And there's a particular reason why we do it this quarter. And we're not committing to do it necessarily going forward.

And this contract count and revenue number seems to suggest $4.6 million per order versus the number you'd said before was about $4 million? Does that number come up? Or were you rounding previously?

The ASP has come up but it does depend on the mix, whether it is more international versus -- or direct/indirect; domestic/international. It does depend.

Yes, the highest number we get of all is probably on the product side. It's an international system that we -- systems installed internationally direct by us and not through a distributor. Then after that probably comes down to U.S. with Platinum -- also with Diamond, rather. And then one fell through a distributor where perhaps they're not buying a service contract -- committing to a service contract up front, we got the lowest amount.

And I think I've heard this asked a couple of different ways, but maybe this is a version you'll answer. How much of the backlog depends on U.S. freestanding centers versus OUS or hospital-associated centers? 20%? 10%? 40%? You said it was less than a majority, but -- is it de minimis? Or is a major factor?

We're not avoiding that because we don't want to answer it; I think we haven't got a precise number on that one. I would estimate probably, I don't know, 15%, something like that. Because by the time you look at international systems are really not in this category, they're not freestanding centers and they're going to represent probably one-third or more of our overall backlog. And then you've got the centers in the U.S. I'm going to estimate, it's like 15%, 20%. I'm not being invasive. We just don't have the breakdown.

Okay. And then just a follow-up on where I think Tycho and Amit were together going on really the -- it seems like the point of shared services for customers who have difficulty financing systems. So to the extent that you've pulled revenue out of this year in your guidance, that would seem to suggest that these are people who basically hadn't even started building their centers, is that right?

Yes, we've seen delays, but of course, it's not the initial start of construction that determines when the system will be installed. It's the completion of construction. So that's not always the case. I mean, we could have somebody who's started but they started late. We expected them to have started last quarter and they might be breaking ground now. And we just don't feel confident they're going to finish. And there's really not much we can do about that if they're delaying things.

Okay. And if all of these people who have signed up, whether it's -- I calculate it's somewhere between 8 and 12 units probably -- all paid upfront amounts, I think it was -- you normally get 10% on deposits? Will you return those if they end up not purchasing? Or will you keep them?

It depends on the situation. I mean, we're not out to upset our customer base.

I just want to -- again, because I don't want this to get confused. The issue of a customer delaying and us taking the customers out of backlog are different things. And obviously this, what we're seeing I guess in terms of guidance is more delay.

But the backlog removal you think is orders that have permanently gone away?

No, not necessarily. It's just at this point in time, they may not have the financing they thought they were going to get. And therefore, we've set them aside and said, you know what? This, right now, given the information we have, based on conversations with the customer as well as kind of our sales organization, we feel that this customer is not at the stage that we can predict with high probability that this will turn into revenue. So it's sitting on the sideline, so to speak. And we'll see if it comes back to a point where they do get their financing and then they can move forward.

But it doesn't necessarily mean that the interest has gone away. It just means that their ability to act on that interest in the CyberKnife has been delayed.

At this time that would conclude our question-and-answer session. I'd like to turn the program back to our speakers for any additional or closing comments.

Okay, so in closing, Accuray continued to make substantial progress in their strategy to build the market for radiosurgery. And the CyberKnife continued to demonstrate clear market leadership. Despite some short-term challenges to one segment of our U.S. market, overall growth continues to be strong. We believe that our sale successes and technology advances provide great platforms for future growth.

Thank you for your time today and we look forward to talking to you on our next quarterly call.

Thank you, everyone, for your participation in today's program and you may disconnect at this time.