Accuray Inc (ARAY) 2012 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the second quarter 2012 Accuray Incorporated earnings conference call. My name is Regina and I will be your conference operator for today. At this time all participants are in a listen-only mode. Later we will be conducting a question-and-answer session. (Operator Instructions) Today's event is being recorded for replay purposes.

I would now like to turn the conference over to your host for today, Mr. Thomas Rathjen, Vice President of Investor Relations. Please go ahead, sir.

Thank you, Regina. Hello and thank you for joining our conference call this afternoon as we review Accuray's second quarter of fiscal 2012. Joining us today are Dr. Euan Thomson, Accuray's President and Chief Executive Officer, and Derek Bertocci, Accuray's Senior Vice President and Chief Financial Officer.

Please note that today we will be referring to financial data, which can be found on a summary slide deck on the Investor Relations page of the Accuray web site at accuray.com/investors.

Before we begin, I need to remind you that our presentation includes forward-looking statements that involve risks and uncertainties. There are a number of factors that could cause actual results to differ materially from our expectations, including risks related to our ability to successfully integrate TomoTherapy, our ability to achieve projected revenue, gross margin and profitability targets, and our ability to implement our long-term growth strategy. These risks are more fully described in the press release we issued earlier this afternoon, our Form 10-K for fiscal 2011, and our other filings with the Securities and Exchange Commission. We assume no obligation to update any forward-looking statement.

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

Thank you, Tom. And thanks to everyone for joining us today for Accuray's second quarter of fiscal year 2012 conference call.

Now since we're in a time of rapid transition, we have also posted some slides on our web site to help illustrate the main points I'll be discussing.

During the call, we'll provide both GAAP and non-GAAP numbers. When Derek talks later, he'll refer to both measures. But for the sake of clarity, I will refer only to the non-GAAP numbers since they give you a clear picture of Accuray's ongoing core operations.

Today I'm pleased to report that Accuray delivered a good second quarter marked by solid revenue, continued improvements in gross margins, effective management of operating expenses, and positive cash flow. Today's results give us an even greater confidence in both our path to profitability and our long-term growth strategy.

This afternoon I'll update you on our integration of TomoTherapy. I'll then discuss the global sales environment for our technologies, review growth metrics for the Company, and comment on a recent development in Medicare's CyberKnife coverage. I'll then turn the call over to Derek Bertocci, who will give a detailed financial review.

Our June 2011 acquisition of TomoTherapy dramatically increased Accuray's global presence, added innovative new technologies to our portfolio, and created exciting new revenue opportunities. Shortly after we announced the acquisition of TomoTherapy, we laid out three milestones to help you measure our progress through integration and track our return to profitability. The first milestone is to maintain or modestly grow revenue while generating a book-to-bill ratio greater than 1. We are meeting that goal.

For the second quarter, total revenue was $102.9 million and the book-to-bill ratio was approximately 1.1. Pro forma revenues for the equivalent quarter a year ago were higher, but this reflects a specific pattern in TomoTherapy's historic fourth quarter revenues. For the two years prior to the acquisition, TomoTherapy revenues were 50% higher in the December quarter than the average of the other quarters of the year. Therefore we believe it's more meaningful to look over a longer time period. Year-to-date revenues for fiscal 2012 were $198.6 million, slightly higher than the same period last year on a pro forma basis. That places us in a strong position to achieve our revenue guidance of $400 million to $415 million for the year.

During the second quarter, Accuray added $70.3 million of net new system orders to backlog, expanding total backlog to $276.8 million. Year to date our book-to-bill ratio is approximately 1, which reflects our customary pattern of fewer new orders in Q1 and higher new order flow in Q2 and subsequent quarters.

During Q2 we shipped 25 systems while installing 23. Our installed base now stands at 616 units worldwide. During calendar year 2011 our installed base increased by 15%. That growth came from our equipment being placed in newly-constructed rooms and Accuray replacing competitive systems in existing treatment rooms. The majority of our growth in our installed base resulted from replacing competitive systems in previously-constructed treatment rooms.

As our installed base continues to grow, service revenue becomes an increasingly significant and stable part of our overall revenues and a larger contributor to our overall profitability.

Compared to the same period a year ago, the installed base grew by 15%, service revenue in Q2 increased by 17%. Clearly this growing service revenue needs to generate profit and our second integration milestone is that we will achieve 10% service gross margin by the end of this fiscal year.

As our Q2 results demonstrated, we are on track to outperform on that goal. In Q2, we achieved a positive service gross margin of 12.3% compared with a negative 7.9% last year, which is a testament to the significant progress that we've made in reducing the maintenance costs of the TomoTherapy system. In fact, the maintenance costs associated with recently-shipped TomoTherapy systems are now approximately the same as those of the CyberKnife, which has an extremely positive reputation for reliability.

We are now implementing three initiatives to improve service gross margin even further. The first is to improve the reliability of new TomoTherapy systems beyond their current level and our engineering and manufacturing teams remain focused on this objective.

Second is to roll out the reliability improvements that we have made in new systems into the active installed base. As I indicated last quarter, this will require a continued investment on our part. During Q2, for example, we made great progress in installing improved radio frequency components to existing customers' systems. This particular improvement, which we talked about last quarter, is now installed on more than 75% of TomoTherapy units. The 12.3% positive gross margin for service was achieved despite this investment. There are other similar improvements, which we'll be making in the future.

The third task to improve service gross margin is to continue introducing industry standard service contracts for TomoTherapy systems. We have now sold a number of industry standard Emerald contracts for the first time to existing TomoTherapy customers. And of particular significance, in January we sold our first TomoTherapy Diamond contract, which gives customers access to certain TomoTherapy upgrades.

Importantly, the increase in service revenue that will result from the rollout of these new standard and premium-level service contracts is not yet reflected in our reported service revenue or gross margin. So as I've indicated, we now believe that we will exceed our target of 10% service gross margin by the fourth quarter of this fiscal year and will achieve our target of at least 20% service gross margin by the end of next fiscal year. We commit to keeping you fully informed of our progress.

Our third and final milestone is a return to profitability during the latter part of fiscal 2013. In addition to improving service and overall gross margins, we aim to manage operating expenses to approximately 45% or less of revenues by the end of fiscal 2013 with a longer-term goal of managing operating expenses to approximately 40% of revenues.

In the second quarter we held operating expenses to a level of 44.4% of revenues despite our accelerated investment in R&D. Year-to-date R&D expenditure has increased by approximately 15% compared with a pro forma expenditure in the same period last year. We expect to further accelerate our investment in R&D over the next few quarters as we work on features that continue to improve reliability and consolidate the position of our CyberKnife and TomoTherapy treatment systems as the premier radiation oncology products.

As a result of our sequential revenue growth, improved gross margins, and moderate operating expenses, we reported a net loss attributable to stockholders for the quarter of $7.1 million or $0.10 per share. This compares with a net loss of $11 million or $0.16 per share in Q1, which is a clear indicator of our progress toward a return to profitability.

The quarter was cash flow positive, a further indicator of our progress. This was the first cash flow-positive quarter since the acquisition. And Derek will give a full explanation of our cash flows in a few minutes.

Turning now to the global sales environment, in the US, we are still not seeing the growth that we have seen in other parts of the world. Economic uncertainty continues to make US customers more cautious and sales of both products necessitate lengthy discussion periods and detailed business plans. Neither of our products have been sold extensively into the US freestanding market in the past. And this is the environment which we perceive to be most impacted by access to capital. However, although hospitals do have access to capital, as I've said, spending patterns remain cautious.

As you know, over the past few years, the generally good Medicare coverage for both our systems has had one important exception, coverage for CyberKnife treatment of prostate cancer. With the announcement in January, the TrailBlazer, Medicare's regional administrator for Texas, Oklahoma, Colorado, and New Mexico, will cover CyberKnife treatment for prostate cancer. All but one Medicare region now covers the treatment. This opens the door for thousands of men to receive the benefits of effective, noninvasive cancer care with low incidence of side effects and enhances sales prospects for CyberKnife.

In Europe we have seen only limited impact in major European markets from the current economic and fiscal uncertainty, which we believe is a sign that the market for technologies treating cancer patients is more robust than other capital equipment markets in the region. In addition, we are starting to benefit from the impact of Siemens' announced exit from the radiation oncology market.

During Q2 we entered into a new contract with Siemens that allows the sale of both TomoTherapy systems and CyberKnife systems with Siemens bundled multisystem sales. Separately we have already sold two systems that will replace Siemens systems.

We remain committed to a long-term growth strategy that we're confident will create significant value to our shareholders. This strategy includes creating innovative next-generation technologies backed by IP protection, expanding clinical acceptance as we've done for CyberKnife treatment of prostate cancer, and increasing our market penetration through cross-selling opportunities and geographic expansion into some of the world's fastest-growing markets.

Let me summarize the four key points from our second quarter. First, integration is proceeding on or ahead of schedule. Second, we are maintaining our revenue guidance and our positive book-to-bill ratio guidance. Third, we are making significant progress on improving service gross margins. And fourth, we are on track to return to profitability on schedule.

And with that I'll turn the call over to Derek.

Thank you, Euan.

Today I will be reviewing our non-GAAP results, which we believe are most representative of our ongoing core business. If I refer to GAAP results, I will specifically state so. In our press release announcing our results for this quarter, we provided details of the adjustments between GAAP and non-GAAP results. We also provided pro forma results for the three- and six-month periods ended December 31, 2010. Unless stated otherwise, all results for prior-year periods represent the combined total of the results reported separately by Accuray and TomoTherapy as standalone companies excluding expenses related to the acquisition that were incurred during those periods.

Results of operations for Q2 were on track or ahead of our expectations as we continue to make steady progress with the integration of TomoTherapy. These results demonstrate the progress we are making towards the goals we identified when we first announced our agreement to acquire TomoTherapy.

For the second quarter of fiscal 2012, total revenue and product revenue were lower than in the same quarter of the prior year mainly due to the large seasonal increase in TomoTherapy product revenue in the December 2010 quarter as previously noted by Euan. As our product portfolio and geographic presence become more diversified, we expect this seasonality to smooth out and for revenues to be more evenly distributed throughout the year.

Service revenue in the second quarter grew 17% from the prior year due to continued growth in the installed base of both CyberKnife and TomoTherapy systems. Service revenue recognized as a result of payments received from cash-basis customers had been unusually high in the first quarter of this fiscal year, but was relatively normal in the second quarter. This sequential decrease masked the ongoing growth in service revenue achieved in the second quarter, which we expect to continue as we install new systems in future quarters.

The overall gross profit margin in the second quarter of fiscal 2012 rose to 39.6% from 38.1% in the same quarter of the prior year. Our strong products gross profit margin of 55.8% in the second quarter of this year was virtually unchanged from 56.3% in the comparable quarter of last year, indicating that our overall product revenue and costs remained in good balance.

The service gross profit margin of 12.3% in the second quarter represents an impressive 20.2 percentage point improvement in gross profit margin from the negative 7.9% service gross margin in the second quarter of the prior year. This was the second consecutive quarter of improving service gross profit margins, reflecting the significant improvements we have made to the reliability of TomoTherapy systems already installed at customer sites.

Our upgrades of systems already in the field will continue throughout this fiscal year and we are completing these upgrades more efficiently and at lower cost than we originally anticipated.

We forecast our service gross profit margin will continue our trend of ongoing improvement over the next year and a half, exceeding our 10% target during the fourth quarter of fiscal 2012 and 20% or better during the fourth quarter of fiscal 2013.

We continue to manage operating expenses prudently, generating $2.9 million of savings in expenses in the second quarter compared to the same period of the prior year. We reduced sales, marketing, and G&A expenses by $4.1 million, which reflects the progress we are making in realizing operating expense synergies from the combination of the two companies. This enabled us to expand our investment in R&D by $1.2 million from the prior-year quarter to support our continued development of new technologies for both our CyberKnife and TomoTherapy products. We believe these new technologies will be instrumental in helping us keep our technological edge and grow revenue and profits from the sale of systems and service contracts in the future.

The improvements that we have made enabled Accuray to lower the sequential net loss attributable to shareholders to $7.1 million or $0.10 per share from a first quarter loss of $11.1 million or $0.16 per share. These results demonstrate the progress we are making towards the goals we identified when we first announced our agreement to acquire TomoTherapy.

During our second quarter, cash increased by approximately $8.5 million. This was due principally to the reduction in our operating loss, solid collections of receivables, reductions in prepaid expenses, and increases in deferred revenue due to shipments not yet recognizable as revenue. We will see quarterly fluctuations in receivables, but these will balance out over time. Cash at the end of the quarter, including restricted cash, totaled approximately $152 million. We expect that noncash expenses such as depreciation and amortization will offset to varying degrees cash required for capital expenditures in manufacturing and R&D, as well as for working capital to support revenue growth.

Our transition to profitability therefore is the key to sustained positive cash flow for Accuray in the future. We continue to forecast that revenue will be in the range of $400 million to $415 million for fiscal 2012 and expect this will be driven by higher revenue in the fourth quarter. For GAAP reporting purposes, we expect that $9 million of revenue related to purchase accounting adjustments will be recognized in fiscal 2012, bringing GAAP revenue to the range of $409 million to $424 million for fiscal 2012.

During the second half of fiscal 2012, we anticipate that R&D expenses will be approximately $4 million higher per quarter than in the first half of fiscal 2012. We also anticipate somewhat higher spending in sales and marketing during this period as we pursue increased bookings of new orders. We continue to believe that Accuray will return to profitability on a non-GAAP basis during the latter part of fiscal 2013.

Now I will turn the call back to Euan.

Thank you, Derek.

As we've discussed, during the second quarter Accuray remained on target to achieve the three milestones established for you to measure our success. We delivered solid revenue and a book-to-bill ratio greater than 1. Our 12.3% gross margin is helping create a profitable service business and is ahead of this year's projection. Through effective management of operating expenses, we are on track to return the Company to profitability by the end of fiscal 2013.

Finally you will see that the slides we posted today on the Investor Relations page of our web site will include an indicative picture of what the financials of the Company could look like once we reach an installed base of 1,000 systems.

And with that, we'll now be happy to take your questions.

(Operator Instructions) And your first question today, gentlemen, comes from the line of Steve Beuchaw with Morgan Stanley.

Hi, good afternoon. Thanks for taking the questions.

Hi Steve.

Hi Steve.

One follow-up on the TrailBlazer coverage. In past instances have you seen an expansion of coverage in a region drive new orders over the next 6 months, 12 months, 18 months? What's a logical expectation for any impact there?

Yes, I don't know that we've got that level of granularity in our data to be honest. I think that overall we see the sales environment generally sort of loosening up. And the business case for CyberKnife is very dependent on the level of coverage that can be achieved. So I think we would definitely expect it to be a positive move. Exactly how it would transition into new orders is a little bit tougher to say, but it's certainly a positive.

Okay. Following up on your comments, Derek -- I'm sorry, Euan, on the freestanding center market, could you go into a bit more detail there? I appreciate that it's less than 10% of your business, but could you spend a little bit more time on the balance of the issues that you're seeing and their impact?

Well, I think we're responding to what others have quoted as sort of a decline in the market and trying to analyze why that might be. And I think that one of the factors that we've come up with is that we feel that the majority of financial pressure in sort of tough economic climate and tough times for obtaining capital is felt within those smaller freestanding centers that are more dependent on sort of independent financing.

Our business is primarily with hospitals as I indicated. And what we're hearing from our customers is that yes, they have access to capital. Sales -- the impact that we're seeing on our sales environment is that we find that they're very, very detailed in terms of their business plan. They're looking at returns on investment. And with fewer deals, there's certainly kind of increased competition. But overall we're not forecasting a change in the forecast that we entered the year with in terms of either product line in the United States at this point.

Okay, great. Thank you, again, and have a great evening.

Thanks.

Your next question is from the line of Tycho Peterson with JPMorgan.

Hi, good afternoon. It's Evan Lodes in for Tycho. I had a couple questions. I guess first could you maybe talk some about some of the data that you were expecting to come out specifically on prostate this year and where and when we might see some of the larger studies that are now maturing through five years? Thanks.

Sure. I think the key thing is that the data will actually be there. I think we're -- we know that the three key sort of independent studies -- the one from Stanford, the one from Naples, and the one from Winthrop -- all have the -- have all reached the point where the follow-up will mature through the five-year point. And, of course, that's seen as a natural milestone in cancer treatment. As to the timing of the release of the data or even the details of the data itself, it's a little bit harder for me to be specific other than to say that from what we know, we haven't seen any changes in the trends, which are very positive, from a clinical standpoint I mean, an effective treatment and one which produces very low side effects even compared to more established treatment modalities.

Okay. And then could you talk a little bit more about, give some more color on orders either by product or by geography, I guess mostly where are you seeing strength with Tomo versus where are you seeing strength with CyberKnife? Thanks.

So we're not, as I think you know, breaking things down by individual product line. I think what I can say is that we're anticipating that we -- for both product lines that we will reach the end of the year achieving our initial sales forecast. And in fact overall I would say we're seeing some very encouraging signs, particularly around the TomoTherapy product since the acquisition was completed. I don't think it would going too far to say that we're feeling actually pretty positive about the way things are panning out for the TomoTherapy product since the acquisition.

Thank you.

(Operator Instructions) Your next question comes from the line of Anthony Petrone with Jefferies.

Thanks, gentlemen. I'm going to begin with backlog for a moment. Can you elaborate how many Tomo systems were dropped out of the backlog this quarter and how many reentered that were dropped out last quarter? I just want to get a handle on that new system backlog number of $70.3 million.

So there aren't any that were dropped out in -- last quarter that came in this quarter. There were a couple of orders that we did not have full deposits and so forth on that shipped this quarter, but they're just -- they would be recorded as orders this quarter.

So we didn't actually have any cancellations --

Right.

-- in Q2.

So no cancellations and no reentries just to be sure that new system number (multiple speakers) --

Yes, these -- as Derek says, these are all new orders.

Okay. And then just in terms of the revenue I guess to go back to that for a moment, it -- I know you're not breaking things down to that level, but it seems that it was a little bit light relative to the individual companies' reported results last year. And I'm just wondering if there was either a moderation in CyberKnifes in the Q and/or not a similar acceleration in Tomo systems that we saw last quarter. I don't know if you can give a little bit more color on system revenues in the Q?

So the factors that led us to have a stronger quarter last quarter relative to the prior year have -- and this quarter looking a little less strong are related. So the biggest thing going on is that TomoTherapy prior to the acquisition had a very unusual seasonal pattern in their shipment of systems. Their December quarter in the last two years was approximately 50% higher on average than other quarters in the year. They just happened to have a lot of shipments that went out in the December quarter. What you saw in the pattern of shipments that has occurred since Accuray has acquired TomoTherapy is a more balanced shipment of those units across both the first and second quarters.

As far as also if we look into our shipments, our backlog is still very solid. We did notice and we had mentioned this in prior calls that on our CyberKnife product line as we have been evolving and growing our business from a more US-focused business to a worldwide-focused business that orders from customers as we expand around the world on average are taking a little bit longer to go from order to install. So that also somewhat tempered the results this quarter.

As far as our sales pipeline, it -- we continue to see it as a very strong pipeline in terms of new customer prospects. So we look at this more as a timing issue than anything else.

That's very helpful. And just two quick follow-ups if I may, just to stay on products for a moment and in relation to Siemens, in light of the extended distribution agreement with Siemens, what is the approach now to go after that new business? Should we assume now that the Accuray sales force kind of does not go after that business and just leaves it up to Siemens? Or is it going to be a dual effort by the Siemens sales force as well as Accuray's?

I think we're far from leaving it to Siemens. I think that we are going to be very focused on talking to the people who really make the decisions. And those are the customers. The Siemens arrangement will really help us in environments where they're having a -- where they're doing kind of a bundled sale. In the past they might have done CT scanners, MRI scanners in a link bundled in with their radiation oncology product. And not that it will always be the case, but at least they have it as an option now to bundle in our products under those circumstances with some pre-agreed business conditions. So that may well help us in the future. But our main efforts around capitalizing on the increased opportunity from Siemens' exit are really focused on individual customer discussions.

All right, gentleman, the last one from me is on the service margins. So you had the increase this quarter. If you care to break that out, did you -- how close are you to profitability specifically on the Tomo side? And then a follow-up there would be what are the short- and medium-term targets for Diamond and Emerald penetration into the 350-plus or so Tomo accounts? Thanks again.

Well, as far as the TomoTherapy service product line and its margins, as we had indicated, we expected to have that product line transition from a very significant loss, 47% in 2010 calendar year, to a breakeven or slight profit in the latter part of our fiscal '13 year. As you can see from the reported results, we are ahead of our target. And so -- and we expect that we will be slightly ahead of our target, that 20% target, next year overall, which would imply that it would become profitable -- breakeven or profitable in the latter part of fiscal '13.

As far as the Emerald and Diamond contracts, it is the first quarter that we have those contracts. We are seeing the initial uptake from customers. It's still a little bit early after only a couple of months selling to draw a lot of conclusions as to the effect on the P&L, but it will be a positive impact.

Any other questions?

There are no further questions at this time. I'll go ahead and turn the call back over to management for some closing remarks.

Thank you for joining us on this afternoon's call. I want to take a moment to acknowledge Accuray employees for their continued hard work and dedication to success as we improve the lives of cancer patients globally. We look forward to speaking with you on our next call.

Ladies and gentlemen, thank you for your participation in today's conference. This does conclude the presentation and you may now disconnect. Have a great day.