Accuray Inc (ARAY) 2012 Q3 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the third quarter 2012 Accuray Incorporated earnings conference call. My name is Sonia and I will be your coordinator for today. At this time our participants are in a listen-only mode. We will facilitate a question-and-answer session towards the end of today's conference. (Operator Instructions) I will now turn the presentation over to your host for today's conference, Tom Rathjen, Vice President of Investor Relations. Please proceed.

Thank you, Sonia. Hello and thank you for joining our conference call this afternoon as we review Accuray's third-quarter of fiscal year 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 in the summary slide deck on the investor relations page of the Accuray website at Accuray.com/investors.

Before we begin I need to remind you our presentation includes forward-looking statements that involve risks and uncertainties and there are a certain number of factors that could cause actual events results to differ materially from our expectations including risks related to our ability to achieve projected revenue, gross margin and profitability targets, achieve our TomoTherapy integration goals and improved performance in the US through a realignment of our sales organization. These and other risks are more fully described in the press release we issued earlier this afternoon on Form 10-K for fiscal 2012 and our other filings with the Securities and Exchange Commission. We assume no obligation to update any forward-looking statements. Now I would like to turn the call over to our President and Chief Executive Officer, Dr. Euan Thomson.

Thank you, Tom. And thanks to everyone for joining us today for Accuray's third quarter of fiscal year 2012 conference call. To help illustrate the main points discussed this afternoon, we have posted slides to the investor relations page of the Accuray website. This afternoon I will update you on our integration metrics for TomoTherapy, discuss the global sales environment for our technologies and comment on the initiation of a landmark clinical study. I will then turn the call over to Derek Bertocci who will provide a detailed financial review. During the call we will provide both GAAP and non-GAAP numbers.

When Derek talks later, he will 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. We are pleased that both our financial and non-financial metrics meet or exceed what we have previously outlined for the investment community. Perhaps most importantly, our key forward indicators including our installed base growth, our shipments, our service margin and our book-to-bill ratio are all positive. While the integration of TomoTherapy is a complex undertaking, we have a clear strategy in place to drive future growth and deliver value to our shareholders.

Unlike other companies in our industry, the majority of our installed base is less than 10 years old. As a result, only a fraction of our revenue is generated from replacing our own systems. Our strategy relies on successfully competing to win space in new or existing vaults and to do this we have to have the best technologies.

Our Q3 performance demonstrates the success of this strategy. Year on year, our installed base has increased by approximately 14%, which along with other initiatives has increased our service revenue by 19%. Importantly, we have further improved service gross margins to 16.1% in Q3 from 12.3% in Q2. Our growing service business is becoming an increasingly significant and stable contributor to our overall financial performance.

Our June 2011 acquisition of TomoTherapy dramatically increased Accuray's global presence, added innovative technologies to our portfolio and created new cross-selling 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. I am pleased to report that we are meeting or exceeding all three of these. The first milestone is to maintain or modestly grow revenue while generating a book-to-bill ratio greater than one. On a pro forma basis, total revenue for the third quarter of $101.6 million and year-to-date revenue of $302 million were essentially unchanged from comparable periods of the prior year. We maintain our guidance that revenue will be in the range of $400 million to $415 million for fiscal 2012.

During the third quarter Accuray added $64.2 million of net new system orders to backlog, expanding total backlog by $2.8 million to $279.6 million. A book-to-bill ratio for the third quarter was 1.05 and for the rolling four quarters was 1.02. For the first nine months of fiscal 2012, there has been a 10% increase in revenue units when compared with the same period last year. However, product revenue growth does not match the increase in shipments or revenue units. So I'd like to spend a few minutes explaining this.

First, Accuray and TomoTherapy accounted for warranty training and installation differently. Accuray defers service revenue for the warranty training and installation provided with the sale of the equipment whereas prior to the acquisition, TomoTherapy included these in product revenue recognized at the time of sale of a system.

As a result, during the first three quarters of fiscal 2011, TomoTherapy recorded approximately $11 million more product revenue for Tomo systems sold than we would have recorded in the same period. We recognize deferred service revenue over the term of the service coverage.

The second point to note is that last year's results included recognition of approximately $2 million of product revenue previously deferred for systems sold with platinum service agreements, which was the last of our platinum product revenue. These revenue factors are unique to the comparison of our fiscal year 2012 results with our fiscal year 2011 results and therefore will not occur in fiscal year 2013.

Finally, there are some business factors to note. We have reduced our vault construction this year as compared to last and we have deferred some revenue due to extending some payment terms. Together these account for approximately $4 million of revenue reduction between last year and this.

Moving on, during Q3 we shipped 18 systems while installing 22 units. As of March 31, our installed base stood at 635 units worldwide. Only one of the installations in Q3 was a trade-in system. All other systems replaced competitive systems in existing treatment rooms or in newly constructed rooms.

Looking to the future, in addition to these sales to new customers we expect to grow our replacement sales as our installed base ages and customers seek to upgrade their systems with us. This will further accelerate our product revenue growth.

Our second integration milestone is that we will achieve at least a 10% service gross margin by the end of this fiscal year. In Q3 we achieved a service gross margin of 16.1%, compared with 4.4% last year. This marks the third consecutive quarter of improving service gross margins and we continue to implement initiatives to further improve service gross margins on TomoTherapy systems.

As I mentioned last quarter, maintenance cost of new TomoTherapy systems are now approximately the same as those of the CyberKnife which has a very positive reputation for reliability and for generating strong service gross margins. Reliability improvements that are included in the new systems are also being introduced to the active installed TomoTherapy base.

The most recent improvements we have begun to add to the installed TomoTherapy base include utilization of remote monitoring hardware and software, a fixed target linac and a dose control stability, an upgrade that stabilizes radiation dose rate. These improvements increase the stability and reliability of the systems and significantly lower the number of times our field service engineers need to visit customer sites.

In parallel to reducing the cost of service on TomoTherapy systems, we're increasing service revenue through the sale of new service contracts at industry standard prices. As of today, 31 TomoTherapy customers have purchased our new service offerings to replace their previous contract. Three customers selected our premium diamond contract which provides access to certain TomoTherapy upgrades. Only a small portion of this additional revenue from these enhanced service contracts has begun to flow through our reported service revenue.

As a result of our continued progress we are confident that we will exceed our original goal of a 10% service gross margin by the end of the current fiscal year, giving us a strong base from which to reach or exceed our target of at least 20% service gross margin by the end of our next fiscal year.

Our third and final milestone is return to profitability during the latter part of fiscal 2013, which ends June 30, 2013. We intend to achieve that milestone through increasing revenue, improving service and overall gross margins, as well as by reducing operating expenses. We aim to reduce operating expenses to approximately 45% or less of revenues by the end of fiscal 2013 with a longer-term goal of reducing operating expenses to approximately 40% of revenues.

In the third quarter, operating expenses were 48.1% of revenues largely due to our accelerated investment in R&D. You should interpret this increased R&D investment, which we expect to maintain over the next several quarters, as a positive sign of the innovations that are underway to enhance and strengthen the position of the CyberKnife and TomoTherapy treatment systems and build on their positions as the premier radiation oncology technologies.

In the third quarter we reported a net loss attributable to stockholders of $9.2 million or $0.13 per share. For the second consecutive quarter, Accuray was cash flow positive. Derek will give a full explanation of our cash flow in a few minutes.

Turning now to the global sales environment, we see areas of strength and areas of challenge. We have grown strongly in Japan, and Japan has now become the first international market to install more than 50 Accuray systems with a nice balance between our two technologies. Going forward, we expect CyberKnife sales in Japan to benefit from the increased payment rate that the Japanese Ministry of Health introduced on April 1 in recognition of CyberKnife's motion management capability.

EMEA and APAC have maintained the momentum of prior quarters. In the US we have seen inconsistent results between territories. We, therefore, realigned the sales force in recent weeks, to leverage the best practices of our most successful sales teams. We remain conservative in our outlook for the US as the environment is still cautious, but we expect to see the benefits of this realignment over the next several quarters.

Accuray continues to benefit from Siemens's announcement to exit from the radiation oncology market. Accuray's agreement with Siemens remains in place despite a recent announcement by a competitor. During the third quarter Accuray added into backlog two additional contracts from previous Siemens customers replacing old linacs with Accuray technology.

While our corporate sales arrangement with Siemens remains intact, we continue to believe it is our customer relationships rather than corporate relationships that drive sales. Our team is very focused on demonstrating to customers the significant benefits of our technologies over the more traditional, competitive systems.

In line with our commitment to clinical data which differentiates Accuray, we have recently announced a landmark study in prostate cancer treatment. The PACE study, is a multicenter, randomized study that will compare the outcomes of CyberKnife's prostate SBRT, in terms of efficacy, toxicity and quality of life, to da Vinci prostatectomy, manual laparoscopic prostatectomy, and IMRT.

There are already 14 peer-reviewed studies involving more than 700 patients demonstrating the long-term effectiveness and quality-of-life benefits of the CyberKnife system for the treatment of prostate cancer, including the preservation of sexual function. The PACE study is intended to create the first comparative evidence to support CyberKnife as a gold standard for the treatment of organ confined prostate cancer in a field currently dominated by surgery.

We remain committed to a long-term growth strategy on both of our products that we are 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 and other forms of cancer, and increasing our market penetration through cross-selling opportunities and geographic expansion into some of the world's fastest-growing markets. In addition, we will use this clinical data to continue to drive our future development, yet another differentiator between Accuray and its competitors.

Let me summarize the four key points from our third quarter. First, we continue to see healthy growth in our installed base which has grown 14% year on year thereby growing our service revenue. This growth has come from capturing new customers. Secondly, we continue to make progress against our integration milestones, which are all proceeding on or ahead of schedule. Third, we are maintaining our revenue guidance for the fiscal year. Fourth, we remain on track to return to profitability by the latter part of our next fiscal year ending in June 2013. With that I will 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 operations. If I refer to GAAP results I will specifically state so. In our press release announcing our results for this quarter, we provide details of the adjustments between GAAP and non-GAAP results. We also provided pro forma results for the three and nine-month periods ended March 31, 2012. 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 these periods.

Results for Q3 indicate that we remained on track or ahead of our expectations to achieve the integration milestones we identified when we agreed to acquire TomoTherapy. For the third quarter and first nine months of fiscal 2012, total revenue was approximately unchanged from the prior year despite an increase in service revenue. This was caused by a number of factors.

Prior to the acquisition, Accuray and TomoTherapy accounted for warranty, training and installation services differently. We defer revenue for warranty, training and installation services included in the sale of a system, whereas prior to the acquisition TomoTherapy recognized the full product contract price as product revenue when its system was shipped or installed and accrued the cost of warranty, training and installation services to be provided after the shipment or installation.

As a result, during the first three and nine-month periods ended March 31, 2011, TomoTherapy recorded approximately $3 million and $11 million more product revenue for TomoTherapy systems sold than we would've recorded in the same period respectively. We recognize deferred service revenue as warranty services are provided over the term of the warranty. These changes in accounting practices will not impact product revenue in fiscal 2013.

In addition, in the third quarter of the prior year, we earned approximately $1 million of revenue from constructing a customer's vault but recorded no such revenue in the third quarter of this fiscal year.

Finally, the average product revenue recognized per system through the first nine months of fiscal 2012 was also impacted by an increase in the deferral of revenue for systems sold with extended payment terms and changes in product and customer mix. We have not seen any fundamental change in the selling prices for our products in the markets we serve.

Service revenue in the third quarter grew 19% from the prior year due to a combination of factors. The installed base of both CyberKnife and TomoTherapy systems increased a combined 14%. The average revenue for TomoTherapy service contract has increased modestly due to two main factors. After the acquisition we implemented a policy of not discounting service contract pricing. In addition, in November 2011, we introduced new service contract offerings on the TomoTherapy product line which provided different service provisions and were sold at higher prices more in line with industry norms.

Revenue increases from these new TomoTherapy service contract offerings are not yet significant. In addition, in prior years we implemented price changes on CyberKnife service programs. Contracts at these higher prices are now increasing the average revenue per CyberKnife service contract.

Overall gross margin in the third quarter of fiscal 2012 decreased slightly to 38.6% from 39.4% in the same quarter of the prior year, due to a decline in the product gross margin which was partially offset by a significant improvement in the service gross margin. Our products gross margin of 53.5% in the third quarter of this year was down from 57.7% in the comparable quarter of last year, due mainly to the sale of two TomoTherapy mobile systems. Price charged for the mobile trailers that accompanied these systems was approximately the same as their cost, bringing down the overall margin.

The service gross margin of 16.1% in the third quarter continued our strong record of improvement, up 3.8 percentage points from the prior quarter and 11.7 percentage points from the comparable quarter of the prior year. This was the third consecutive quarter of improving service gross margins, reflecting the significant improvements that 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 margin will continue our trend of ongoing improvement throughout fiscal 2013, exceeding our 10% target during the fourth quarter of fiscal 2012, and reaching 20% or better during the fourth quarter of fiscal 2013.

We continue to manage operating expenses prudently. Sales, marketing and G&A expenses are down by $3.4 million from the third quarter of the prior year, 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 $6.7 million from the prior-year quarter to support our continued development of new technologies for both our CyberKnife and TomoTherapy products. We believe these investments will be instrumental in helping us further develop our technological advantage and grow revenue and profits from the sale of systems and service contracts in the future.

The net loss attributable to shareholders in the third quarter was $9.2 million or $0.13 per share compared to a loss of $3.6 million or $0.05 per share during the same quarter last year. During our third quarter cash increased by $2.8 million. This was due principally to changes in working capital and lower than expected capital expenditures. We do not expect to continue to see cash generated from changes in working capital in the next few quarters.

Cash at the end of the quarter, including restricted cash, totaled approximately $155 million. We expect that non-cash 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. Therefore, our transition to profitability in the latter part of the fiscal year ending June 2013 is the key to sustained positive cash flow for Accuray in the future.

We maintain our guidance that revenue will be in the range of $400 million to $415 million for fiscal 2012. 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 $420 million for fiscal 2012. As Euan noted, we anticipate that R&D expenses will be maintained over the next several quarters. We also anticipate somewhat higher spending in sales and marketing during this period, as we pursue increased bookings of new orders. We reaffirm our belief that Accuray will return to profitability on a non-GAAP basis during the latter part of our fiscal year ending June 30, 2013. I will now turn the call back to Euan.

Thank you, Derek. As we discussed, during the third quarter Accuray remained on target to achieve the three milestones established for you to measure our success. We are on track to achieve our revenue guidance and maintain a book-to-bill ratio greater than one. Our 16.1% service gross margin is ahead of this year's projection and helping to create a profitable service business. We are on track to return the Company to profitability by the latter part of fiscal 2013, ending June 30, 2013. With that we will now be happy to take your questions.

Operator, before we take questions, there has been some noise coming from your end of the line. Can you address that if you could and make sure we have some quiet?

Not a problem.

(Operator Instructions) Your first question comes from the line of Tycho Peterson with JPMorgan. Please proceed.

Good afternoon, it's Evan Lodes in for Tycho. Can you talk first about if you expect book-to-bill to be over one for the year as a whole or is that only a comment for the fiscal fourth quarter?

Yes, we are expecting the book-to-bill ratio to be over one for the full year.

In terms of the product gross margin, there's been a lot of focus on the service gross margin but can you give us some color on the product gross margin, how we should expect that going forward? And then within product any mix color between legacy Accuray, CyberKnife and Tomo products would be great, thank you.

The product margin has been fairly steady through these quarters. As I said we did have some of these mobile units which, essentially, is similar to the vault construction and include a mobile vault, if you will. We don't make any money on that to speak of, but other than that, the margins had been fairly steady and we would expect them to be reasonably steady in the future.

There is always some variability quarter to quarter but not anything I would think of as significant. And in terms of the profitability of the two products, historically there has been slightly higher margins on the CK product line than the TomoTherapy product line and that might continue for a while.

Your next question comes from the line of Steve Beuchaw with Morgan Stanley.

This is Bill Carlisle in for Steve. On the Siemens dynamic, could you go into maybe a little more detail on how the software dynamics are working there, particularly with regard to the Varian/Siemens agreement that's now in place? Are you guys any more or less able to take replacement vaults now that they have a little bit more joined together business?

I would say no change. The software issue is obviously their approach to gaining Siemens customers. It doesn't impact our approach. Our approach is to really get in front of the customers themselves and explain that our products offer significant advantages over what are fairly old architecture systems, the old gantry-based systems and we continue to do that. The corporate relationship we have with Siemens remains intact, as I indicated. The focus for us is certainly to work that to some extent but also to focus primarily on our contacts with customers. They, in the end, make the decisions.

All right. On pricing, you guys had mentioned broadly pricing of ASPs were flat across geographies. One of your competitors had highlighted an increasingly price aggressive dynamic in the United States and I was wondering if there was more pressure in certain geographies than others with maybe a little offset?

There has really been no change, as I think Derek indicated. I think when I look globally at price pressure, I think the biggest price pressure tends to be in the emerging markets. We don't really have products for large-scale sales into emerging markets. That is a battle that is fought at the lower end of the technology spectrum and our products tend to be the premium products that are focused on more developed markets.

Overall, I would say no macroscopic changes in pricing, no competitive elements forcing pricing changes. We really sell our systems based on their technological advantages. When people recognize those, I won't say there's no price negotiation, but it's not really as much of a competitive price dynamic.

All right, that's helpful, thanks.

The next question comes from the line of Anthony Petrone with Jefferies. Please proceed.

Just a couple on the PACE study you initiated and I wonder if you can share with us, specifically, when enrollment begins on that study and what are the major time hurdles where you will accrue and publish data over the 10-year horizon?

The study has begun enrollment at the lead center in the UK, the Royal Marsden Hospital, and will expand to other centers. We have some centers going through their review boards and they will be the first to start enrolling patients, in addition to the Royal Marsden. We also have actually a fairly large number of centers, both in Europe and actually in the United States as well, who are going through the early stages but have given us a verbal commitment they will enroll patients.

In terms of milestones and timelines, overall the study needs to accrue a little over 1,000 patients. We don't really want to put too detailed a timeline on that. You could think of it in terms of two to three years probably for accrual to be completed. But that doesn't mean two to three years prior before any data comes out. The first group of patients -- cohort of patients at some reasonable number you would expect the early centers to think about publishing early information about, say, side effects and acute impacts of treatment. That could happen within a couple of years.

Okay, and then the R&D ramp is sequentially -- was any related to the commencement of PACE and from this level that you recognize in the quarter, what could we expect for R&D expenses?

There was nothing in the quarter related to PACE. I think as Derek indicated, you can think about this level carrying on. We don't have any anticipated dramatic increases in R&D expenditure but we recognize significantly up over prior quarters. We want people to be prepared for that level to increase. The key is we are extremely excited about the rate at which we are developing new technologies and we are very bullish about the impact of those technologies once they are released.

Just to clarify, we expect that level of R&D spending to remain at that level for the next several quarters.

The last one for me, you mentioned in the release and your prepared comments, Euan, about the sales force realignment. Last quarter you had Tomo shipping patterns seemed to impact product sales to an extent, so I am wondering what was the impetus behind having to realign the sales force and specifically where are you see weakness and of the changes you made, how do you see that benefiting the overall business going forward? Thanks.

I'm not sure about the comment you made about the TomoTherapy system but I will address the global sales environment, and perhaps, how well our sales force is aligned with it. I think the environment for selling two products versus one product when we went through the acquisition was different in different parts of the world.

In distributor territories, our preferred mode of operating was to maintain both distribution channels and that has proven to be very effective. As we indicated, Japan is actually doing extremely well, APAC and EMEA are maintaining their momentum. In the US we had a merged, combined direct sales force selling the two different products. I think you can take this realignment as an indication that we are really learning what works and what doesn't work.

We have seen territories where we are having success in selling. We've got certain other territories within the United States where we are seeing less success. And the purpose of the realignment is really to replicate the success across the entire US market. Of course, the boundaries on expansion of sales in the United States are the macroeconomic environment. However, even with those constraints in place, we were seeing differences which we felt gave us opportunity to improve in certain of the underperforming territories.

We've got in place now -- we'll have approximately the same number of people, it is not a reduction. We are aligning teams which replicate the successful territories and they are teams of people with different skill sets who were brought in at different times in the sales process and I think it reflects how much we have learned over the past three quarters.

Your next question comes from the line of Charles Croson with Sidoti & Company. Please proceed.

Thanks for taking questions here. The first one -- if you could just talk about where some of the purchase orders are coming from -- where these key wins are coming from? Are they largely newer customers? I know you don't break this out numerically, but if you can give us directionally which had stronger orders, was it the CyberKnife or the TomoTherapy device? Thanks.

We don't break out the orders between product, but I can say, as we've indicated before, we are particularly pleased with the way in which the TomoTherapy system orders are tracking. In terms of geographic mix, I think we have sort of covered that. Overall I would say EMEA tends to be a very strong performer for us. We are very pleased with the progress we have made in Japan. And APAC is certainly there as a stalwart as well. Those are the real strengths.

The type of customer, I would say, hasn't changed very much. Certainly, in the US we are focused still on the hospitals rather than the freestanding centers. Internationally, we are very successful at the larger centers but also at the smaller centers as well. Centers generally, internationally, tend to be larger than the US. You don't tend to get the small, independent, stand-alone free-standing vaults so much in the US. None of those dynamics, I would say, have really changed within the last quarter or two.

Okay, thanks for that. Just the cross-selling opportunities, have you really got the sales force trained on cross-selling both of these? And have you seen a pretty good improvement with that and what you think that might do going forward?

They are definitely there. Those types of sales that resulted from cross-selling are not necessarily quick wins. People still have to get a budget together and get to know the product, so we are definitely seeing an increase in activity. We've had some wins from cross-selling and we've had some very good indicators that there are customers there that will, in fact, buy the other product. There is definitely a lot of activity there. I would say that will probably be something that feeds us into next year.

Your next question comes from the line of Sean Lavin with Lazard Capital Markets.

Hello, it is Marie Thibeault on for Sean Lavin. Congrats on the improvement in the service gross margin. I recall last quarter you said that as a result of the field upgrades of the Tomo systems there could be lumpiness in that metric from quarter to quarter. I just want to confirm, should we still expect some lumpiness there or in the near term or will it be more steady improvement as we have seen over the last few quarters?

I think there will be some lumpiness in the amount of the improvement, but overall I think you can expect this trend to continue. I think it has been a real success story for us so far and all the indicators are that that should carry on. We are very pleased. I think for those of you who have had feedback from customers, I think you'll find increasingly that customers are recognizing that. And we would attribute some of that recognition of the improving reliability of TomoTherapy Systems to ongoing sales success of that product line.

I'm just curious to hear a few more details on the strong growth you mentioned in Japan. Was it a recent ramp in order growth, and do you think this increased payment that came on April 1 is going to have a near-term impact on order growth in the country?

As you probably know, nothing in Japan happens at lightning speed, so we don't expect it to impact things overnight. We have generally found that we are steadily building momentum in Japan. We released the G4 CyberKnife product. We've had a focus now on increasing number of clinical applications. We are seeing increased use of the Stereotactic Body Radiotherapy throughout the body, which is steadily increasing demand.

We have formed now a very good relationship from a sales standpoint with Hitachi, our TomoTherapy distributor in Japan. They seem really engaged and hard-working. Overall, I think we are just seeing a very solid foundation and it's already starting to impact new orders, certainly when we compare it year on year. And I think we feel pretty positive about the way the Japanese market is going for us right now.

Your next question comes from the line of Junaid Husain with Dougherty. Please proceed.

Derek, on the gross margin line, is there any way you can help us think through just the TomoTherapy service margins for the quarter relative to the prior-year period?

We are not breaking out the product lines, but are you looking at the TomoTherapy service improvement?

Correct.

The TomoTherapy service improvement has been following along the path we had laid out which was basically to take it from where we inherited it at the end of calendar 2010 minus 47%. Our goal was to get it to zero or slightly above zero to hit our 20% target by the fourth quarter of fiscal '13. We still feel that we are on track for that, to at least achieve that or beat it. We certainly think that we are on track for hitting those numbers for the TomoTherapy service business.

It becomes slightly harder to break out one particular product line as we bring the two service teams together, because there are shared overall resources and costs and so on. We do have a certain number of service engineers even servicing both product lines, so it becomes a little harder to break it out.

I think the data we have given, which should help you, is the data we showed last quarter, which is up on our slide set again today which shows the cost of servicing a new TomoTherapy system compared to the cost of servicing the overall installed base, and that compares with the cost of the CyberKnife. You've got there three pools of machine that you can use for a relative comparison.

That's helpful. With regards to the higher installed base, I know your engineers have been looking at ways to improve the reliability of this machine and to some extent they've been very successful. At what point do you retrofit the higher installed base with the new linac or have you already started doing this, stay with the Twin Peak Accelerator linac?

We will slowly put those new linacs into the installed base. Obviously, our priority is to make sure we have enough of those linear accelerators to go into all the new systems we ship. With the surplus in capacity that is starting to arise, we will actually start to feed those into the installed base. The radio frequency upgrade that we talked about a couple of quarters ago is now completed. That was a cost that we incurred to actively upgrade the installed base with a related improvement.

Okay. Derek, could you tell me, what's the -- the Twin Peaks Accelerator, what is the cost of utilization currently? Are you basically selling everything you make there or (technical difficulties)

The new linac from our Twin Peaks facility has been on every new system we've produced since the beginning of calendar 2011. We are also then now getting production to the point where as Euan mentioned we have some capacity to handle service replacements. So all new systems from a year and a quarter ago forward have the new Twin Peaks linac.

At this time I show no questions in the queue.

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

Ladies and gentlemen, this concludes today's conference. Thank you for your participation. Have a wonderful day.