ICAD Inc (ICAD) 2014 Q2 法說會逐字稿

Good day, ladies and gentlemen, and welcome to the iCAD Second Quarter 2014 Financial Results 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 follow at that time. If anyone should require operator assistance, please press star then the zero key on your touch-tone telephone. As a reminder, this conference call is being recorded.

I would now like to introduce your host for today's conference, Anne Marie Fields with LHA. Ma'am, you may begin.

Thank you. Good afternoon. This is Anne Marie Fields with LHA. Thank you all for participating in today's call. Joining me from iCAD are Ken Ferry, Chief Executive Officer; and Kevin Burns, Chief Operating Officer, Executive Vice President Finance and Chief Financial Officer.

Following the market close today, iCAD announced financial results for the three and six months ended June 30, 2014. If you've not received this news release or if you'd like to be added to the company's distribution list, please call LHA in New York at 212-838-3777 and speak with Carolyn Curran.

Before we begin, I would like to caution that comments made during this conference call by management will contain forward-looking statements that involve risks and uncertainties regarding the operations and future results of iCAD. I encourage you to review the company's filings with the Securities and Exchange Commission, including, without limitation, the company's Forms 10-K and 10-Q, which identify specific factors that may cause actual results or events to differ materially from those described in the forward-looking statements.

Furthermore, the content of this conference call contains time-sensitive information that is accurate only as of the date of the live broadcast, July 30, 2014. iCAD undertakes no obligation to revise or update any statements to reflect events or circumstances after the date of this conference call.

With that said, I would now like to turn the call over to Ken Ferry. Ken?

Good afternoon, everyone, and thank you for joining us. We're pleased today to be reporting very strong second quarter financial results which mark our eighth consecutive quarter of year-over-year growth and adjusted EBITDA profitability. This sustained positive performance underscores that our strategy is sound and execution continues to go well.

For the quarter, we achieved significant growth in both detection and therapy revenues. Detection revenue growth was attributable to a large digital mammography CAD order, increased upgrade traction in our installed base and higher sales of breast density and MRI software products. Therapy revenue growth was driven by strong demand for new system placements, particularly in the dermatology segment as well as to recurring revenue from a rapidly growing installed base.

Strategically during the first half of the year, we made significant progress positioning the business for sustained growth and increased profitability. In March, we successfully raised $28 million in a secondary stock offering. Following this, we terminated the royalty portion of our debt facility with Deerfield Management which substantially reduced our interest expense.

And mostly recently we announced the acquisition of DermEbx and Radion which further strengthens our leadership position in the dermatology therapy segment and adds a significant and growing stream of recurring revenue.

I will talk more about business and our progress in a moment. First, let me turn things over Kevin Burns, our Chief Operating Officer and Financial Officer, who will provide a detailed review of the second quarter and first half results for 2014. Kevin?

Thank you, Ken, and good afternoon, everyone. We are pleased to be reporting yet another quarter for solid financial and operational performance, led by strong revenue growth in both our therapy and cancer detection businesses. We are very pleased with the recurring revenue in our therapy business, which continued to almost double compared with last year.

Over the past several months, we have completed a number of important initiatives that has strengthened our balance sheet and positioned us to further accelerate growth. As Ken mentioned, in March, we raised $28 million in a public offering. In April, we bought back the revenue-sharing component of our debt facility, and two weeks ago we expanded our skin offering via the acquisition of DermEbx and Radion.

Consequently, these events vastly improved our media financial performance and provide significant upside for growth in revenue and profitability while allowing us to make additional strategic investments in key areas of our business to drive further growth and market adoption.

Now let me move onto our quarterly financial performance. As you know, we report revenues by the two main oncology areas in which we operate, cancer detection and therapy. Our cancer detection revenue includes all of our image analysis and workflow products including mammography, MRI and CT CAD platforms and as well as service revenue from these product lines.

Our cancer therapy revenue includes the Xoft Axxent Brachytherapy System, related accessories and service and source agreements. Effective as of the first quarter 2014, we reclassified balloon applicator sales so that they are included in therapy service and supply revenue and we moved the associated expenses to cost of service and supply revenue.

Turning now to a review of our revenue. Total revenue for the second quarter increased 25% to $9.7 million, up from $7.7 million in the second quarter of 2013. This was driven by a 24% increase in our therapy revenue and a 27% increase in cancer detection revenue.

Total revenue for the first six months of 2014 increased 16% to $18.2 million compared to $15.6 million in the first six months of 2013. Importantly, recurring services revenue grew by 27% for the second quarter and by 33% for the first half. Recurring revenue now represents 48% of our total revenue for the first half of 2014 and continues to build a stronger foundation for future growth.

During the second quarter, therapy revenue increased 24% from $3.9 million last year to $4.8 million in the second quarter of 2014. We sold 14 systems in the quarter, up from 11 in the second quarter of 2013. On a year-over-year basis, skin placement increased from eight to 12 controllers and IORT placements declined from three last year to two in the second quarter.

As you may recall, we sold 15 skin systems through the end of 2012. We added 34 skin systems in 2013. And by adding another 21 from the first half of 2014, this brings our total skin controller sales to 70 systems. Again, each sale adds high margin recurring service revenue of approximately $100,000 per system per year.

Moving back to revenue, therapy products revenue declined slightly on a year-over-year basis due to lower average selling prices on our controllers. Service and supply revenue increased 85% to $2.4 million.

The growth in our recurring revenue reflects increased sales of balloon applicators combined with the growing installed base and associated service and source revenue particularly in the non-melanoma skin cancer market.

Therapy revenue in the first half of 2014 increased 28% to $9.2 million, with therapy product sales declining 3% to $4.6 million and therapy service and supply revenue increasing 89% to $4.6 million.

Total revenue for our cancer detection business in the second quarter was $4.8 million, a 27% increase compared with last year's second quarter. Product sales in the second quarter of $2.8 million were up 71%, while our service revenue was off 6% to $2 million.

Growth in cancer detection product sales was positively impacted by a large PowerLook Mammography CAD order as well as growing revenues from breast density and MRI products.

In addition, we are pleased with the growth in service contract revenues which was 7% in the quarter and 12% for the first half of 2014. These positive service revenue results were offset by lower time and materials and consulting revenue which tend to vary from quarter-to-quarter. Moving forward, we continue to expect this recurring service revenue to grow and become an important contributor for our detection business.

Cancer detection revenues for the first half of 2014 increased 7%, with product revenue increasing 13% to $4.9 million, and service and supply revenue essentially flat at $4.1 million. In the short term, we expect single-digit growth to continue in this business moving forward.

Looking now to the rest of the P&L, gross profit for the second quarter of 2014 increased to $6.8 million or 70.7% of revenue, up from $5.2 million or 67.7% of revenue for the second quarter of 2013. A $1.6 million and 300 basis points increase in gross margin was primarily due to a higher detection products and therapy service and supply revenue, both having a high gross margin impact. Overall for the second quarter, our product margin increased slightly to 72.4% and our service margin increased 500 basis points to 74% compared to last year.

Gross profit for the first half of 2014 was $12.8 million or 70.2% of revenue compared with gross profit for the first half of 2013 of $10.9 million or 69.5% of revenue.

Total operating expenses for the second quarter of 2014 increased to $7 million from $5.7 million for the same period of 2013. In the second quarter we incurred approximately $200,000 of expense related to the acquisitions. Excluding these costs, total operating expenses were approximately $6.8 million and reflects the ongoing growth investments including IORT and skin seminars, clinical trials, sales team expansion, trade shows and incremental product development.

Total operating expenses for the first half increased to $13.4 million from $11.7 million for the same period in 2013.

Turning now to our profit metrics. Adjusted EBITDA was $917,000 or 9.5% of revenue for the second quarter of 2014, up from $434,000 or 5.6% of revenue for the second quarter of last year. For the first half of 2014, adjusted EBITDA was $1.4 million compared with $1 million for the first half of 2013.

Looking at other income and expense items during the second quarter, we reported a $699,000 gain due to the change in the fair value of warrants that we issued as part of our financing arrangement. These warrants were exercised in the second quarter of 2014 and there are no remaining warrants.

Interest expense in the second quarter was $614,000, of which $219,000 was cash payable related to financing and capital lease obligations. The balance of $395,000 represented non-cash amortization of financing costs and settlement obligations. In addition, we recognized a $903,000 loss related to the extinguishment of the revenue purchase agreement with Deerfield in April.

For the next two quarters and assuming no change with our debt facility, interest expense will be approximately $575,000 per quarter of which $215,000 is cash interest expense and the balance is non-cash.

On a per share basis, our non-GAAP adjusted net loss for the second quarter of 2014 was $0.04 per share compared to $0.12 per share last year.

For the first six months of 2014, non-GAAP adjusted net loss per share was $0.15 compared with a loss of $0.23 per share for the first six months of 2013.

As of June 30th, we had 14.2 million shares outstanding and we issued another 1.2 million shares in July for the acquisition of DermEbx and Radion. This resulted in total shares outstanding of approximately 15.4 million.

Using the treasury method and assuming a $9 share price to our value our outstanding options, there are approximately another 1 million shares that we would add to use -- to calculate the fully diluted share account.

Moving onto the balance sheet. We ended the second quarter with $34.9 million in cash and cash equivalents and this compares with $11.9 million as of December 31st, 2013. Net cash used by operations during the first half of 2014 was $2.3 million, of which $1.6 million was used in the first quarter and approximately $700,000 in the second quarter. DSOs increased to approximately 90 days at the end of June.

As a reminder, let me give you a quick recap of the buyout of the revenue-sharing component of our debt facility. Previously there were two components to this facility. First, there was a $15 million note payable with a 5.75% interest rate on the outstanding principal which has an annual cash cost to iCAD of $862,000. And second, there was a revenue-sharing agreement under which we paid on average 3.5% of revenue to Deerfield. In April, we paid $4.1 million to Deerfield to terminate the revenue-sharing component of the facility. This amount reflects an appropriate discount based on our future projected revenue.

In addition, Deerfield exercised their warrants which gave us approximately $1.6 million of cash, resulting in a net cash impact of the transaction to iCAD of approximately $2.5 million.

Let me now do a quick summary of our recent acquisitions. On July 15th, we acquired DermEbx and Radion for approximately $12.6 million based on our then-current share price. This consisted of $3.8 million in cash plus 1.2 million shares of our common stock.

As we discussed at the time, the acquisitions will be immediately accretive to revenues and operating cash flow. The current annual recurring revenue run rate for DermEbx and Radion is between $12 million to $14 million, and these businesses have EBITDA margins north of 25%.

As of June 30th, DermEbx and Radion serviced 23 locations and had a backlog of approximately 10 customers that will come on board over the coming months. Combined with our current Therapy business, these acquisitions should provide us with a go-forward Therapy recurring revenue annual run rate of $20 million to $22 million.

All this leads me now to our outlook. Today, we introduced financial guidance for the second half of 2014. We expect total GAAP revenue to be in the range of $23 million to $25 million and we expect to have adjusted EBITDA margin in the range of 10% to 15%. We continue to be pleased with our financial and operating performance. We are making progress advancing both areas of our business and now have an even stronger financial foundation from which to build on the momentum we have achieved.

With that overview, let me now turn the call back to Ken. Ken?

Thanks, Kevin. First, I would like to provide some color on the cancer detection products area. As we have noted, the very strong sales growth in the quarter was driven by a large digital mammography CAD order for multisite imaging center, increased demand for upgrades to PowerLook, our second generation 2D mammography CAD system, increased sales of Volpara, our breast density assessment solution, and higher MRI software sales to our strategic partner Invivo, a Philips Healthcare company.

While total service revenue was down slightly versus the prior year, service agreement revenue actually increased 7%. This is the largest and most important component of our cancer detection service revenue as it typically represents the increasing number of customers under multiyear service contracts.

For the balance of the year, we anticipate continued higher demand for PowerLook upgrades, Volpara breast density and MRI software and service agreements. Looking to the longer term, we are making good progress in the development of workflow tools that will assist radiologists in reading 3D mammographic images or tomosynthesis. We plan to have our tomosynthesis products commercially available sometime in the first half of 2015 in international markets, with plans for US release sometime later in the year.

We remain very excited about the market's expected conversion from 2D digital to 3D digital mammography and look forward to offering a complete suite of workflow tools for the interpretation of 3D images. This opportunity should be considerable as we liken it to the market conversion of film-based CAD to 2D digital CAD which provides us with considerable growth over a number of years as our CAD tools were purchased on nearly one to one basis with the 2D machines. We'll keep you posted as to our progress in this area.

Regarding therapy products, as Kevin described, our therapy business continues to achieve very strong growth which has primarily been fueled by the use of the Axxent system to treat non-melanoma skin cancer. Of the more than 3 million cases of non-melanoma skin cancer that are treated annually in the US, approximately one-third or 1 million cases are candidates for electronic brachytherapy treatment as an alternative to most surgery.

With the majority of these lesions presented in cosmetically sensitive areas like the face, nose or ears, patients typically benefit from the excellent cosmetic outcomes with eBx therapy.

Today we are still in the early adoption phase as we estimate that only 6,000 to 7,000 patients have been treated with eBx. With that said, we continue to be encouraged by the growing body of positive clinical data supporting eBx to treat non-melanoma skin cancer. To date, there are three published studies reporting on 747 patients with more than 1,500 lesions treated and with up to 38 months of patient follow-up, all showing very little recurrence in overall excellent cosmetic outcomes.

This positive clinical data has clearly helped to advance reimbursement decisions, as we had 10 states with positive Medicare reimbursement policy back in July of 2013, and as of August 1st of this year, that number will have grown to 21 states. This expansion has considerably increased the size of our addressable market, particularly in the Midwest states.

For dermatologists who are interested in starting an eBx practice, clinical data and reimbursement haven't necessary been negating factors. We found that one of the barriers to entry has been access to radiation oncology services and support needed to incorporate eBx into their practices.

Moving forward, our commercial strategy in this market is to offer comprehensive end-to-end solutions to dermatologists and radiation oncologists. The recent acquisition of DermEbx and Radion allow us to do so immediately.

DermEbx has been a leader in providing all of the necessary consultative services and technologies to get a skin eBx practice up and running smoothly. These services and technologies may include professional services agreements, program development, operational logistics, training, [physic] support, X-ray source calibration and access to radiation oncologists and radiation therapists for the dermatology practice.

In addition, the Radion Hub which is a cloud-based e-collaborative platform provides a scalable plug and play software solution for eBx's treatment management for dermatology practices that has been customized to accept Axxent system information. This web-based platform enables the treatment center to improve treatment planning and management workflow as well as gain insight into clinical operations.

With all of these capabilities, we can now tailor solutions to each customer's specific needs. The results will be lower barriers to entry for a practice to get up and running, more sites treating over time and a considerable increase in new product and most importantly in recurring revenue for iCAD.

As we have had a longstanding and productive relationship with DermEbx and Radion, we expect the integration of these businesses to continue to be relatively seamless. We will leverage our current sales and marketing infrastructure to grow this comprehensive offering. We also expect our teams will be able to scale with the growing demand more effectively as one organization to the customer, and as a result enhance productivity over time.

Moving now to a brief update on breast intraoperative radiation therapy or IORT. We continue to grow our installed base of users, but the pace has not been as rapid as we would have liked. That said, the customers with active treatment programs are growing patient procedure volumes substantially as evidenced by the 53% increase in disposable applicators sales in the United States in the first half of 2014. This success is something we are working to build on and share with prospective new customers going forward.

On the international front, we are actually treating patients in United Kingdom, Germany, Portugal and Taiwan. In the near term we have plans underway to target Canada, France, Spain, Italy and Turkey where IORT has already gained acceptance and we plan to add other European countries as well as Australia, Russia, India and China over the 2015 timeframe.

So to summarize before opening the call to questions, we have made substantial progress with the execution of our strategy, particularly over the past two years. This progress has produced strong organic growth, enabled us to strengthen our balance sheet and make a strategic acquisition to help sustain and even accelerate this momentum.

Operator, please open the line for questions.

Thank you, sir. Ladies and gentlemen, if you have a question at this time, please press star then the one key on your touch-tone telephone. If your question has been answered or you wish to remove yourself from the queue, please press the pound key. Our first question comes from Bill Bonello of Craig-Hallum. Your line is now open.

Hey, good afternoon, guys, and congratulations on a good quarter. Couple of follow-up questions. I just wanted to touch on what you talked about there at the very, very end, Ken, on expanding internationally. Can you just tell us and maybe I missed it and you said it, but just a little bit more about how you are doing that? And maybe just expand on that a bit.

Sure. I mean, we're obviously looking at each country and understanding the clinical practice around cancer therapy, specifically more on breast, I would say, internationally. Although, skin is certainly something we're investigating. We're looking at the footprint of linear accelerators, the amount of therapies being provided from what I call more traditional approaches, and we're looking at the demographics of whether an IORT approach would really make sense in that country.

Once we kind of understand the potential addressable market in terms of the number of patients and existing technologies, we move on to understanding what the regulatory environment is like, what would it take to basically get proper distribution partners in place that could represent our product from a sales and service standpoint and we go through kind of a checklist, Bill, of all these different criteria.

So, the countries that I mentioned, we're either treating, have had acceptance and are treating with other competitive products as an example, or we believe over time will adopt the technology, it makes sense for us to enter.

What I would say is there's a number of irons in the fire so to speak, but we're doing this in a very, very focused and methodical fashion country-by-country. We have two individuals focused on international and we are doing it I think in a methodical fashion, that over time we think will open up the market for breast IORT for us in a global fashion, hopefully, in skin in certain countries as well and also GYN, where we have applicators for endometrial and cervical.

So, today it's not a big revenue generator for us. I believe in the second quarter we sold one system internationally. But I think if you look out three to five years, it could be a very, very big revenue generating opportunity.

One of the nice things about our technology, particularly for breast care is in the markets where there is not what I would call this bunker infrastructure. Having an isotope-free technology that's mobile will allow us to move the technology in a much more flexible fashion to patients, where in many large countries they may have to move over very, very large geography just to get treated and often do not end up with treatment.

So, we think the architecture of the product has a very, very attractive feature set for international markets and it would be a very much a nice additional capability to get more radiation and more compliance with radiation, particularly in countries where its either not offered as a standard of care or where patients just for a whole host of reasons would not be able to travel or invest the time to get the care.

So, we're excited about international. We're realistic it's going to be may be a three to five year process, but down the road, it could be a very, very strong revenue generator, well beyond what is obvious momentum today in the United States.

Okay. That's helpful. And then just a couple of points of clarification around the guidance. But first thing I just want to make sure I understand a number you gave. Kevin, you said that with the acquisition therapy run rate of $20 million to $22 million, I'm assuming that's just the therapy service and supply revenue, correct, not total therapy revenue?

Yes, it is. So, our current run rate on our pre-acquisition was north of $8 million and then that's for service and source and supply revenue and then we're adding another $12 million to $14 million. So, that is correct. It's $20 million to $22 million of recurring service.

Okay, good. And then does the guidance assume any contribution from the customers that are in the DermEbx backlog and/or any revenue synergies from cross-selling Radion hub to your current customers, or is it kind of just laying in DermEbx at what they were doing net of any revenue that you got from them in the past?

The guidance at this point assumes -- we convert most of those customers through the end of the year. But at this point, we're not assuming any new contribution from selling additional solutions and service to existing customers. And we're also not assuming any new additional customers, which obviously we do plan on doing; we're just not sure what the ramp on that is going to be and when those customers will come live from a revenue standpoint.

Okay. And then just the -- how about in terms of sort of sales model, are you -- you mentioned that sort of revenue per system came down a little bit and obviously, DermEbx had the placement model and you work through that. Is the guidance sort of assume a fairly significant shift to sort of a lease versus outright sale or a pretty decent mix between the two?

So, it assumes that more of our business in the short-term will come from a monthly subscription rental fee. We're still very focused on selling capital deals. In an ideal world, our sales would be they by the equipment and then they pay a monthly fee for the services. So, that's where we're going to go, but that's going to take a little bit of time to get there, Bill.

So I think in the short-term, it's more focused and we think more of the revenue is going to be coming from monthly subscription as opposed to capital. But we think maybe in a quarter or two, that capital number is going to be rebound and start to really grow as well from where we have been in the past.

Okay. And then just a final thing. The big increase that you cited in the service gross margins, was that related to the -- what was that related to?

So the service gross margins are just increasing over time, really just based on the volume and would be -- I think we're just being more effective from an operational standpoint in delivering the services, so, we're lowering our cost of the sources on a daily basis, they're running longer. So, we're getting efficiency there and that's why we're -- we've being seeing the service margin trend from around 70% up to about 74%, 75% where they are today.

Okay. So that's not any abnormal anomaly around the quarter?

No, just -- really a continued trend both from a revenue standpoint and from an efficiency standpoint.

Sounds great. Thank you.

Thanks, Bill.

Thank you. Our next question comes from Brian Marckx of Zacks Investment Research. Your line is now open.

Hey guys, great quarter. Can you tell me how much revenue came from the big PowerLook order in the quarter?

The PowerLook order, Brian, was around $600,000. And it was a large imaging center that has multiple sites. And actually this customer was not using CAD. It's hard these days almost to find a digital system in the United States that is not using it, but this group had not adopted it, and one of their regions adopted it in the Western part of the country.

We're actually trying to work with some of their other regions to see if we could also get it adopted. But just for the sake of being conservative, we've not really factored any incremental large orders of that nature into our guidance.

Okay. The detection service and supply revenue, I think you touched on a little bit that it was timing related, it was down a little bit relative to recent history. Is there anything more you can talk about there? And is that something that you would expect to, I guess, come back up to sort of historical norms?

I mean when you look at it, Brian, the most important component is service contract revenue and we continue to do a really good job growing it. If you go back to last year, our overall service business, I believe, grew probably around 11% to 12%. And what we've mentioned in the first half of this year as we had double-digit growth, I believe it was 12% on total service contract revenue growth which was great. And that represents more than 90% of our service revenue.

Where we fell short was two areas. We sell replacement computers as part of our service agreement with GE and last year in the first two quarters, GE did a very broad based upgrade to their installed base and bought a significant number of replacement computers from us, I want to say probably north of 20. And that represented quite a bit of revenue.

They've only bought two which is more or less their normal run rate in the first half of this year. So, that falls into the service line. And obviously, it was quite a discrepancy because the failure rate on these is very, very low. So that offset combined with the T&M line, and what we also put in the T&M line is the NRE money that we get from Invivo. And Invivo's NRE money timing-wise is subject to when we complete projects, we recognize it. And so we had quite a bit more of that NRE money in the first half of last year versus what we have in the first half of this year.

Now, the good thing about that with Invivo is our software royalty revenue went up more than 2x what we did with them in the first half of last year. So, if you net all that out, our business with Invivo has grown substantially this year.

But when you look at those two variables as Kevin said, they kind of have some volatility, it dampened what was the more important component I think to remember, which is we had 7% growth in contract revenue in the second quarter and 12% contract revenue growth for the whole first half compared to last year.

And the contracts for the most -- almost all the contracts were signed that are new are multi-year agreements as part of a PowerLook purchase. So we get the PowerLook purchase, we give the customer a special pricing if they buy a three-year service contract post-warranty. So, we're building up a nice backlog of multiyear service agreements and we see that continuing as we still only really tapped into a small percentage of the total installed base of our systems that can convert to PowerLook.

So, the service piece of the detection business really was strong. We had a couple of variables that are smaller components that were soft and we think that as we go forward, we'll see stronger performance in that category.

Okay. Great. Thank you for providing the revenue guidance with the combined companies and EBITDA margins. Kevin, is there anything more, I guess, granular that you can provide relative to operating expenses, SG&A, and R&D of the combined companies on an annual basis?

I think, Brian, what we'll do is probably in the next quarter once we have a quarter under our belt with the combined company, we'll start to get into a little bit more detail in terms of the guidance, but at this point, we're just going to maintain the revenue and EBITDA.

Okay. Can you tell me if there's going to be -- if there was goodwill recognized with the transaction?

So we're still in the process of completing that accounting and we will probably be filing some preliminary numbers in late September around the opening balance sheet, what's going to be assigned to the intangibles and including goodwill. So you'll know all about it.

Okay. So, you still have a fairly sizable cash balance; you alluded to potential additional strategic opportunities in the prepared comments. Is there anything more that you can talk about that you potentially have your eye on relative to any other future near-term acquisitions?

I think what we're trying to emphasize is that we raised money, we decided that the Deerfield note had to be adjusted which really reduced interest expense. We saw a very attractive acquisition which we clearly made a move on and made happen.

And we just have a strong balance sheet with a strong cash position, Brian. And I think what we're just trying to say in a philosophical sense is we're well-positioned. If we were to do something, what I think we'll probably do in the near-term is invest more in clinical trials, invest more in reimbursement lobbying if you will.

And I don't necessarily see anything on the horizon that we would be looking at in the near-term. I think we have plenty on our plate. I think we have a lot of momentum with what we have. As I mentioned, the integration of DermEbx and Radion is going exceptionally well. It's a very natural fit. It's not a distracting or resource absorbing activity, but there's tremendous commercial activity going out there and we want as many resources as possible focusing on the commercial opportunities across our new company.

And that's really where almost all of our effort is going. So, I wouldn't expect any kind of acquisitions in the near-term, but I would probably expect we would increase our investment for the longer term in those categories that I mentioned because it's extremely important to further your validation at this stage of the market through the trials and it's also important to continue to lobby for reimbursement because when you have a technology that's not pervasively adopted, you need to be certain that those that set the reimbursement rates are well versed in your technology so that the proper decisions get made.

So, those are the areas we'll probably increase our investment, but nothing inorganically is on horizon at the moment.

Okay, great. Thanks a lot, guys. That's all I had.

Thanks, Brian.

Thank you. And as a reminder, ladies and gentlemen, if you do have a question, please press star then one on your touch-tone telephone. Our next question comes from Brandon Osten of Venator. Your line is now open.

Close enough. Hey, guys. How are you doing?

Good. How are you doing?

Good afternoon.

Hello? Got you. Okay, good. Can you just -- sorry, I was -- you guys talk a little quickly. What was the number of controllers and applicators you guys moved around in the quarter?

So in the quarter we sold 14 controllers, 12 of those were skin and two of them were IORT.

Okay. And what were the applicators?

The applicator sales were about 240 in the quarter.

Okay. So -- sorry, so what was the--?

I would say the applicator sales were up 17% in the quarter overall. But on a year-to-date basis applicator sales are actually up 53% in the United States. And so we've really got some great traction in the sites that we have installed really doing considerable more procedure volumes, so that was the real plus.

International from a applicator sales was fairly weak, so that had something to do with it. The US balloons were 223 of the 233 that we actually sold in the quarter, and that was 53% increase for the United States and then for the half -- I'm sorry, for the half and then internationally brought it down to 17%. So we've had some good progress.

Our sites are out there marketing this service and they're getting really good traction, not to mention they are getting lot of referrals in general, which is helping their business even if they're not providing IORT as a breast service.

Okay. So I must have misheard you, because early in the conference call it sounded you were somewhat apologizing for unit sales. It looks like controller sales are actually pretty strong.

No, what I was saying is, we've been disappointed we're not getting more new placements. So Kevin mentioned, we sold 2 IORT systems in the quarter and obviously we would like to be selling a lot more. Our first half, I think, we sold somewhere around five or six and we would like to be selling twice that as an example.

So we would like more new system placements. We are very pleased with the performance within the placements that we have.

Okay. And if I'm looking at -- and again, I was away when you guys made the acquisition, but if I'm looking at what happens after the acquisition. I mean, a sold unit by you guys was a leased unit by the company you're acquiring. So now that you're talking about a more subscription type of sale, I'm just trying to figure out how that works from an accounting standpoint.

Because, I guess, we're just sort of -- I guess, we look at it in terms of units, right? But to the extent that's -- we're looking at subscribing units. When I'm looking at the guidance, it's almost like what used to be a several hundred thousand dollar sale now becomes a tens of thousands dollar lease for the rest of the year.

I'm just kind of -- I'm trying to get a sense of how that would affect the guide? I mean, if you would have guided for $1 million of hardware sold before, but now you are guiding on the same amount of units sold, you'd be guiding for $300,000 of lease/subscription. Is that how I should be looking at it?

What I would think about, Brandon, is it's a blend of new product sales and call it the subscription model going forward, and we are putting significant emphasis on new product or capital sales upfront as our highest priority, wrapping all of the services and the new services we have through the Radion and DermEbx acquisition into that mix. The following --

Right, sorry, so--

(inaudible) that would be the bundle in the equipment is part of the subscription. But for us the best transaction which we're pursuing our commercial strategy, is to sell the equipment to the customer upfront and then bundle this expanded capability of services which then dramatically increases the amount of recurring revenue we get on a monthly basis.

The fallback, if you will, if the customer doesn't want to buy a capital purchase with these services is to then bundle the equipment in with the monthly subscription fee. We're not looking to transition us into a subscription business. What we're basically trying to do is preserve as many new capital transactions as possible, but expand our businesses in total significantly with those customers that would otherwise not have done a deal so to speak because they did not want to make such a big capital investment.

Okay. So sorry, let me put it in other way. So in the scenario that existed before you guys made the acquisition and I'll just throw hypothetical numbers out there. But, let's say, you sold a -- let's say you made that initial sale and let's say that sale was $300,000, hypothetically. And it went through the company that you just acquired, right? So you were to record, say, $300,000 of revenue, but the company you just acquired would be effectively leasing it out and recognizing revenue as the money came in over the course of, say, a three-year lease.

So when you guys make the acquisition, because it's an intercompany thing, you guys theoretically wouldn't be able to recognize the full $300,000 upfront. Now you'd have to recognize the money as it comes in at $100,000 a year, say, for three years.

So, I'm just trying to figure out, like a unit sale, when I'm looking at your guidance, a unit sale might get recognized over three years. Whereas previously when you were selling it to the guy leasing it, then he was reselling you got to recognize it all upfront. Like I'm I looking at this the wrong way or is that somewhat accurate?

It's somewhat accurate, but let me try to broaden it little bit, Brandon. First of all when it comes to IORT sales, obviously those would be direct sales. When it comes to national sales, those would be direct sales. In this dermatology market we have a number of partners, not just the one that we acquired through DermEbx and Radion. We have a number of partners.

We still expect to be selling capital to all of those other partners, several of which are fairly substantial in size that buy multiple systems from us each quarter. In the transactions that we're working in concert with DermEbx now as part of our company, we will try to get the customer to buy the capital upfront. And if they don't, then we can bundle it in as part of the monthly subscription.

Keep in mind though, when you do a whole subscription transaction with all of the elements all in, that can represent about $0.5 million in ratably recognized revenue for us per year. So, it's not $6,000 to $8,000 a month. It could be $40,000 a month, over the course of 12 months, $0.5 million.

So the goal is to maximize the sale of as many capital systems as possible through this different channels that I just mentioned and certainly the incremental business that we couldn't close on the capital will be put through a subscription-based model. And the sum of that is certainly going to be much, much bigger than it would have been otherwise in terms of revenue without DermEbx in the mix.

But, we do certainly have to subtract out those number of systems that we used to sell to them, DermEbx, right, and then we do ratably recognize those sales if those sales are not sold as part of a capital transaction upfront. I hope that helps clarify.

Yes. No, that helps. I'm just trying to figure it out. It's always tough when you buy a reseller and it becomes an intercompany transaction. I guess, the last thing I would ask is, I mean, you talked about how you'd like to sell more units upfront and only two were sold in the quarter. But, I mean, we're talking about the difference between not being happy with two and being happy with six, like we are talking small numbers. So, can you give us a sense of what that process is or how many potential buyers of your system we're actively engaged with or did you find. I mean, it's such a small number, it's tough for us to figure anything out other than anecdotal conversations you may have had with people who had an intent to purchase.

Is there any more color you can give us with that? Is it a timing thing, is your pipeline bigger than it's ever been? Anything like that?

The pipeline for -- I'm assuming you are talking about breast IORT systems. We definitely have a strong and growing pipeline. It has been challenging to get customers across the chasm and make the commitment to purchase in the first couple of quarters. We expect to improve on that over the course of the year and we are also looking at providing the same type of services that we offer in skin to, again, make that hurdle, if you will, easier for the customers that want to ramp up a program without making a large capital investment.

The overall clinical data is strong in that space. Reimbursement really -- with the July 1 preliminary rule in United States, really didn't change. It was roughly same reimbursement as last year.

What we did this year is we've dedicated four sales specialists where last year our reps were generalists that sold both skin and IORT. And we think over the course of the second half and into next year IORT system sales will grow. And we just said we were bit disappointed. One of the things we're clearly going to do more of is take advantage of the number of customers today that are growing their program substantially. To have a 53% increase in procedure volume in the United States in the first half with the installed base and to be going from about 700 balloon annualized run rate to close to 1,000, that's very considerable.

So there's a lot of things we're going to do to continue to promote whether it's at the trade shows or regional seminars and so forth and we think that business is a still a very, very solid business to be in and to invest in. But, clearly, it's obvious that our bigger investment is skin and the results we're seeing reflect that investment.

But we're happy with skin, the units sold in skin, the controller, everything is looking very good in skin, right?

Well, just think of it this way. In skin we sold six systems in 2011. We sold nine in 2012. We sold 34 in 2013 and we sold 21 in the first half of this year versus 14 in the first half of last year. So, yes, we're very excited. And our installed base, as Kevin mentioned, is up to 70 systems.

Our major competitor, we certainly don't take lightly that will eventually have a more competitive product, Elekta we believe has somewhere around two or three systems sold. So, we're sitting here as the market leader with 70 systems sold and now we can add all these comprehensive services as they quite frankly are challenged to get a channel in all these services available to them in that particular market as it's growing at a nice clip.

So, yes, we feel well positioned. We think this added capability with DermEbx and Radion really helps to accelerate our position in the market. So we're very happy with skin, we're very happy with the progress and we're going to continue to invest in education awareness.

And think of another point, as I mentioned in my comments, a year ago we had 10 states in United States with Medicare positive reimbursement. As of August 1, we'll have 21. So we have some substantial markets where we can go to now with positive payment policy that we haven't done business with in the past, and they're pretty sizable ones, particularly in the Midwest.

So, yes, we're bullish on this business.

Guys -- sorry it's [Steve]. How are you? Of those 20 plus units you've sold in the first six months this year. How many have been sold to your channel partner that you just acquired that DermEbx and Radion?

Hi, Steve, it's Kevin. So of the 21, seven were placed with DermEbx.

So, of those seven that were placed with them, how much of those would have gone to a lease versus a straight up sale?

So of those seven, two of them were actually sold on to end-user customers and five of them were put into -- or will be put into use for end-user customers. And again, each controller typically services two customers because they treat Monday, Wednesday, Tuesday, Thursday. So, at the end of the day those controllers will service anywhere between eight and 10 locations.

Okay.

And these locations will be generating between $400,000 and $600,000 of revenue per year.

Per year. Okay, no, I'm just trying to understand from Brandon's previous questioning, how many of those would go as outright sales versus the different model that we're going to see now flowing through your books? Okay. That's great. Thanks, guys.

Thanks. This is great. Thank you.

Thank you.

Okay. Thanks, guys.

Thank you. At this time I'm showing no further questions. I'd like to turn the call back to Mr. Ferry for closing comments.

Thanks, operator. Well, we're very pleased to have reported our second quarter and our first half results. The progress is evident. We're very, very pleased with it and at the same time we think we have the ability through the guidance that we've communicated to step it up to another level and perform that much stronger in the second half and be extremely well positioned, particularly with the strong base of recurring revenue for the future.

So thank you all very much for your questions. Thank you for your interest in iCAD, and we look forward to updating you again on our progress at the conclusion of the third quarter. Have a good day.

Thank you, sir. Ladies and gentlemen, thank you for participating in today's conference. This does conclude today's presentation. You may all disconnect. Everyone have a wonderful day.