Good day ladies and gentlemen, and welcome to the Q4 2013 Accuray Incorporated Earnings Conference Call. My name is Jackie, and I will be your coordinator today. At this time, all participants are in a listen-only mode. Following the prepared remarks, there will be a question-and-answer session (Operator Instructions) As a reminder, this conference is being recorded for replay purposes. I will now turn the call over to Ms. Lynn Pieper. You may proceed.

Thank you, Jackie. This is Lynn Pieper, Accuray's Investor [Capital] from Westwicke Partners. Thank you for joining us today on our conference call as we review Accuray’s fourth quarter and fiscal year 2013. Joining us today is, Josh Levine, 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 information, which can be found on a summary slide deck on the Investor Relations page of the Accuray website at accuray.com/investors. Before we begin, I need to remind you that our call today 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 associated with the effects of the introduction of the new CyberKnife and TomoTherapy Systems; commercial execution; future order growth, future revenue growth, future profitability; and guidance for fiscal 2014. These and other risks are more fully described in the press release, we issued earlier this afternoon as well as in our 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 Accuray's President and Chief Executive Officer, Josh Levine.

Thank you, Lynn, and thanks to everyone for joining us today as we review our results for the fourth quarter and year end of fiscal 2013. I’ll begin with an overview of the third quarter with Derek providing a more detailed financial review later in the call. I’ll then wrap up with some commentary on our strategy and outlook and then we will open the call up for questions. I am pleased that we are continuing to make solid progress on our path to achieve sustainable growth in revenue and improvements in profitability. In the fourth quarter, we experienced continued strength in new orders. We treated our first patients with both, the new CyberKnife M6 and TomoTherapy H series systems, and we maintained solid financial discipline and operating expense control. This is the second quarter in which we are showing growth and momentum in new order volume driven by the early benefits of our improved commercial focus. While we have more work to do, I am encouraged by the early progress we have made. In the fourth quarter, we saw a noticeable improvement in new order volume. Gross new product orders totaled $71.6 million, up from $53.8 million in the third fiscal quarter and $39.8 million during the second fiscal quarter of 2013. Net product orders added to backlog totaled $58.1 million, up from $44.1 million in the third quarter and $17.9 million in the second quarter. Importantly, we are seeing enhanced selling focus and an improving order pipeline across all four of our regions. We are seeing strong demand for our new models, which are positively impacting pricing trends. Net new orders were up 32% from the third quarter, reflecting our growing sales pipeline and interest in our new products that we introduced last October. Our reported fourth quarter…

Thank you, Josh. In reviewing the financial results for the quarter, we focus on our non-GAAP results, because we believe they are the best indicators of ongoing progress in operations and cash flow as well as trend that may influence future results. Our press release provides details in the adjustments between GAAP and non-GAAP results. It will specifically make mention [please] refer to GAAP results. As we have previously forecast, our product business improved during the fourth quarter with product revenue up 54% from the low level reported in the third quarter. This increase resulted mainly from shipments of the new models we introduced at ASTRO in late October 2012. We shipped and installed several of our new TomoTherapy H series systems, plus additional CyberKnife M6 series systems. The gross profit margin for the product business improved to 41.7% in the fourth quarter from 34.7% in the third quarter. The improvement was due mainly to higher margins realized on the new model shipped in the fourth quarter. However, the margin was still below our historical norms. Accuray's gross profit margin for products was 50% during the first half of 2013 and 53.6% during fiscal 2012. The factors depressing the gross profit margin in the fourth quarter were inventory write-downs, mainly related to the CyberKnife MLC and continued low manufacturing levels resulted in the higher overhead per unit take in the revenue. Our service business showed continued improvement. Revenue increased 2% in the third quarter and 17% from the fourth quarter of the prior year. This growth in service revenue was driven mainly by the continued growth in the installed base of Accuray systems, up 9% from the fourth quarter of the prior year, the impact of transitioning to a direct service model for our TomoTherapy service business in Japan and…

Thank you, Derek. I am encouraged that the actions we have taken have produced positive results over the last two quarters. Our order pipeline and new order momentum are both improving. We are also encouraged by feedback that the extended feature set and functionality of our new products is driving improved clinical benefits for patients and economic value for customers. Additionally, we have seen positive trends in overall financial results in Q4, including increase in revenues and gross profit and substantially reduced operating losses and cash use. As identified in my early analysis of the company and its operations, establishing the goal of driving the business for sustainable growth in revenue and profitability was a key priority. While we have made reasonable progress towards that goal, we clearly recognize that there is more work ahead. We look forward to updating you on our progress when we release our results for Q1. Finally, as many of you are aware, the American Society for Radiation Oncology or ASTRO Annual Meeting is taking place in Atlanta from September 22nd through September 25th. Accuray will be hosting an investor breakfast on Monday morning September 23rd, where we will be providing an update on our commercial strategy and we will have customer presentations providing feedback on their experiences with the CyberKnife M6 and TomoTherapy HDA systems. We hope you can join us in person or if not can at least participate via webcast. Thank you for participating in today's call. We are now ready to take your questions.

Ladies and gentlemen, we are ready to open the line for your questions. (Operator Instructions) Your first question comes from the line of Steve Beuchaw with Morgan Stanley. Please proceed.

Hi. Thanks for taking the questions. I apologize for focusing on the negative initially, but as we reflect in the comments that you've made around the MLC, I wonder if you could give us a sense for how it is you derive comfort that what would you have as your production issue as opposed to a design issue. Said another way, are you comfortable that getting the right manufacturer is what it takes and all it takes to make the MLC production ready?

Yes. So, Steve, we have been I think very transparent from reasonably early on that we had a, what we believe, was a manufacturing yield, or manufacturability issue with the device. Just to be clear, that product that would be the current supplier or the initial supplier was providing us. It met all of our ongoing technical specification, so I mean it past much around that level. Where we really started that challenge is with [confidence] with it was really around the durability testing that resulted from focusing on lifecycle testing and we have did really exhaustive amount of work in that area. At moments we thought we were seeing improvement, but quite frankly over an extended period of time, the product just did not have the durability it needed to quite frankly satisfy our requirements and the customer requirements for durability and reliability and our decision was really based more on wanting to not disrupt workflow and patient treatment schedules for our customers. I mean, the product would run, it just wouldn't run long enough quite frankly. A bit of color I provide here would be that, I think as we recognized early on that there was a yield issue, we at that point, started to think about exploring other alternatives for vendor and manufacturing options here and none of what we are looking at is design change or fundamental design related. It's really more producing quite frankly through whatever source we need to a robust product and more durable reliable product. So, just to be clear on that, we are not looking at design change in transition here.

Thanks. Very helpful. Derek, on outlook for fiscal '14, the comments that you and Josh made around the plan for operating spend are very clear. Could you spend a bit of time kind of walking through how you think about gross margins and how they might trend over the balance of the year.

As far as gross margin goes, we expect moderate improvement during the year. The factors that are affecting gross margin are the biggest are the ongoing improvement in the service business, which we would expect to continue to see some improvement, although as we've made tremendous improvements to-date. There comes a point where that growth in improvement in service margins begins to slow. The second area is in product side, and the product margins were affected this quarter by some write-offs in inventory, particularly related to the MLC program, but a problem that we have faced which is the low production level related to the coming from the low bookings level that's driving the lower shipped levels right now. We would expect that that low production level results in under absorption of manufacturing overhead will be a pattern that we slowly go out of. It won't be an overnight transition from that. So, during fiscal '14, therefore we would expect both of those trends to improve moderately across the year and that's why we are expecting improvement in margin. If you look at the outlook for us, we indicated where we were historically, where we were this quarter, I think that we are going to improve but not immediately get back to our historical levels in fiscal '14.

As you think about over the next two to three years, what kind of [ebbs and] should we be looking for? Is it back to the mid-40s with the new product mix? Is that somewhere we could get to over time?

I think in terms of the product side of the business, I would think that's getting back to our sort of an historical norm of 50% is a good longer term goal. Don't have a timeframe that I want to give on that. And, as far as the service business goes, well it would be a few years out, we would expect that our target for the service business would be the 40% gross profit margin. That's okay for the long-term target there.

Okay. Thanks so much everyone.

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

Thank you and good afternoon. Just to go back to the MLC issue here that you mentioned, Josh. Can you maybe give us an idea of timing on when you may actually switch vendors and what that means for meaningful orders coming from M6? Should we expect now that the M6 is really a fiscal '15 event due to the change here?

Well, so let me be clear on this. You have got two different pieces, Anthony, in your question. Let me start with the latter portion of this which is, we would start to suggest that we really don't have a product to sell without an MLC, and I want to be as clear about as I can possibly be. I couldn't disagree with you more about that. We have got a really, really great, from a functionality and feature set product M6 in the FI configuration. We now I think five, I think, it's actually six reference sites in place and installed, which are products that were ordered with MLC or that had MLC in the backlog and people are taking delivery and installation of those devices with an fixed and Iris collimator and the ones that have the longest timeline of experience in terms of patient treatment are thrilled with the functionality and the improved performance of the equipment versus the previous generation device. So, I am disappointed in the delay of the MLC, but I don't think that we have a really, really significant degree of exposure in terms of our backlog or our commercial viability quite frankly of the product, because even in the space form with fixed and Iris collimator, it's a great product and you are going to hear if you talked to people at ASTRO, you are going to hear them talk about their direct experiences with this, so you don't have to take my word for it. The reality is that really up until today's release, we haven't been able to engage customers with orders in the backlog, with regards to, their views and their needs regarding timing, regarding functionality and potential impact to their order in the backlog. The delay in MLC affects each one of the customers in a slightly different way depending on case mix, the timing of their installation. There are a number of variables there obviously. We, again, as of today's release, we intend that to be very strategic and proactive with our sales force in terms of interactions with customers and working with them to find the right solutions for each one of them individually, so our goal is clearly to retain as much of the backlog as possible and I think again it's reasonably attainable goal when you think about the fact that all of our early M6 installations are FI versions of the product that are awaiting MLCs, and we think that's a pretty good indicator quite frankly regarding likelihood of retaining those MLC capable devices that are currently in the backlog, so.

That's helpful. Maybe one follow-up there on the MLC and what sounds potentially like a redesign specifically of the MLC business. Does this that at all potentially change the performance capabilities of the final product that were sort of captured in various simulation studies using a CyberKnife with an MLC.

Anthony, I am going to go back to, I think the response I gave to Steve Beuchaw just a little bit ago, there is no product redesign contemplated in this transition. We have had unfortunately and I am disappointed by it and I am frustrated by it, but we have had quite frankly a vendor and a manufacturing ramp or yield problem with an initial vendor that we believe we are going to have solutions for that we can talk more granularly or specifically with regards to what they mean timing wise for us in terms of availability of that device, but it is really more vendor transition and supply chain related than it is product design or redesign related, so I just want to be really strong in clarifying that.

Absolutely fair enough. Last one for me and I'll hop back in queue, is Josh any just high level comments about the potential consolidation of SRS and SBRT code should they go into effect next year based on the CMS proposals issued in June. Thanks.

Yes. I think, in previous comments, previous market interactions we basically characterized the proposed rules that came down from CMS as I would say generally neutral to reasonably modestly positive for us. We think that the SRS/SBRT codes certainly as it relates to outpatient department type settings, and the payments themselves single fractions are up from a payment rate standpoint reasonably substantially in single fraction scenarios down modestly in three to five fraction scenario, so we don't think we have a large or significant degree of exposure there. On the freestanding centers side, as I think you are probably aware, we don't have a very large presence in freestanding centers in terms of that channel at all, so I think our downside is again pretty minimal in terms of exposure there relative to what CMS has proposed and I think we feel strongly that as it relates to CyberKnife specifically, we actually have seen reasonably positive impacts in changes over time. Prostate as a specific discussion, prostate is now covered by all the Medicare contractors for CyberKnife and we have had coverage decisions and reimbursement in places like Blue Cross, Blue Shield of North Carolina that changed policy as of July 1 to basically endorse CyberKnife for early prostate treatment, so I think that the trends there momentum-wise are actually moving in our direction. If you believe the hypofractionnation is really where the market has ultimate added and there is an argument we made that it is. We think we are well positioned quite frankly in this business.

Your next question comes from the line of Jason Wittes with Brean Capital. Please proceed.

Hi. Thanks for taking my questions. Josh, question about the backlog. How we should be thinking about it. I know that you guys have a pretty strong policy to think about this over three months old. I believe it's 30 month old. I am looking through backlog and it seems like the term of every backlog definitely influx, so it seems like that's probably a pretty reliable backlog, but in terms of the CyberKnife, partly due to the delay in the MLC et cetera, that seems like it's been pretty consistent. I am guessing that there is still quite few orders that haven't been filled. So, in general, should we consider it as a reliable backlog especially and how we should thinking about it between TomoTherapy and CyberKnife?

So, if you looked, Jason, from a trend standpoint, basically between 2012 and 2013, growth in the ending backlog CyberKnife actually was relatively flat and Tomo represented the biggest piece of the increase in the backlog, so directionally in terms of product mix, that's really what we saw. If you look back, revenue conversion in terms of moving revenue out of the backlog on to the P&L, you probably have a longer time line for transition in terms of that revenue conversion activity with CyberKnife, because more of those installations are either requiring reasonably significant bunker modification or new bunker construction and if you are a facility that really is just start up a full body radio surgery practice and using the CyberKnife as the vehicle, if you will, to be able to build that practice around. By definition it's really more of a missionary type of this development exercise that requires bunker build out or modification all of which is going to take longer amount of time to kind of consummate. The Tomo side of house, product wise is really more of a replacement product type of a sale and therefore it's a more abbreviated. It tends to be comparatively abbreviated in its timeline from backlog to our P&L.

Okay. But, I assume that you are in touch with these customers and you know feeling that these orders are somewhere within that sort of what? 12 to 16 months time horizon for getting filled.

Yes.

Okay. Great. In terms of the $8 million of spend this year. I assume from what your comments made earlier that's for basically setting up an account manager etcetera for dealing with the national accounts? Could you give a little more detail in terms of how you envision that working?

I think actually we talked about it in broader terms than just the national account or strategic account fees. I mean, that clearly is one area. We believe that improved visibility, market visibility and deal visibility will result from having more a regular presence quite frankly inside of GPO strategic account national account types of customers, so that's an important thought process for us in terms a lever in our growth agenda. But, if you look at where else we are talking about making incremental investments is investing in a bigger group of people in terms of supporting the installed base of customers globally. That's one focal point for it as well as building more selling infrastructure and the market development resources in growth markets like China and Japan. So, as we started to look at some of the things we've started to do in the first several quarters and start to assess the progress that's been made and the traction we have gotten, we believe that some incremental investment in '14 is the right thing to do as long as we are talking about things that will power up the top line of this business going forward. We are not investing in G&A, we are not investing in things that don't get a return. We are investing in things quite frankly that are the precursor investments and resources related to building a bigger business long-term.

Okay. Last question. When went around with you, you seemed pretty satisfied with the way the sales force were shaping up. Just one indicator I wanted to ask about would be turnover. How does that look right now in terms of the U.S. and international markets for the sales force?

We don't have a turnover problem. We basically have all of the commercial leadership roles that we have talked about over the last couple of quarters, all of those commercial leadership roles are filled. We've got full [compliment] structure in place net of or independent of the incremental investments I just talked about related to national contracting, installed base, et cetera, but we've got a very stable, probably more stable now than it's been in the last two years. A group in the U.S. and in Western Europe, so I feel good and I know Kelly Londy, our Chief Commercial Officer feels good about the team and where it sits right now.

Okay. Great. I'll Jump back in queue. Thank you.

Your next question comes from the line of Tycho Peterson with JPMorgan. Please proceed.

This is actually Patrick Daniello in for Tycho. Thanks for taking the question. I guess, first just on 2014 product revenue, I mean, how do you guys see the seasonality next year playing out with the new products rolling out in the beginning of the year?

I'll start this, Patrick, maybe Derek can amplify on it, but in my view, again,, we are still in the early phases of our commercial ramp, commercial launch if you want to describe it that way. I mean, we've got the initial commercial reference sites for both, CyberKnife and Tomo H series in place, but quite frankly those customers depending on when they were installed, those customers have a varying degree of experience, treatment experience on patients from account to account, and ultimately it would be our goal that we would have probably at least two reference sites per region and we are still building to that level if you look at overall. So, it's still early. The feedback of our both products and the improved functionality is very positive on both ends, but we missed, I am going to say at least two quarters, quite frankly of lead time or ramp time in again the delays of the products, the commercial release dating back to last October and so we've got the right level of activity in terms of the reference site establishment, but we need more experience and more real time with patient treatment for those accounts before they can really start to be at least the ones that have been installed more recently before they can really start to provide the kind of leverage for us in terms of selling, expansion of sales momentum.

Okay. Great. Then talking about the first few installations, I know you said at ASTRO, there's going to be a deeper dive into customer feedback, but maybe can you just discuss how initial customer feedback as compared to your expectations?

Again, from our view, all of the feedback we have gotten is positive. I mean, again, there are people that were existing CyberKnife users they had earlier generations of CyberKnife, so they understood the product in its earlier form and its earlier functionality and a couple of them in very large volume patient situations that have experienced the M6, they commissioned that device in one account that I am thinking of with fixed and Iris collimators, so MLC obviously and had seen just with the fixed and Iris collimator capability, the dramatic differences in treatment times and throughput, in user interface, in terms of software, so very, very strong feedback about the product and how it performs. Robust experience in terms of up time, very little of what you normally see in terms of debugging, a brand new platform and our service organization and our installation teams are recommended for that, so we feel good about the momentum at least in terms of initial customer feedback and where we sit right now. Again, we need to get a little further downstream in terms of build out of broader number of locations inside of each region, but momentum in terms of the activity level and interest level about these products definitely on the rise.

Your next question comes from the line of Toby Wann of Obsidian Research Group. Please proceed.

Thanks for taking my question. Just kind of want to go around the globe quickly. Kind of talk about pace of order activity, any pockets of weakness you are seeing geographically? Any comment on the pace of activity here and some others out there, the U.S. continue to be a bit of challenge with the affordable care act being implemented and reimbursement budget being tightened, CapEx budgets being tight, so maybe you would kind of shed through light on kind of pace of activity from a geographic standpoint?

Yes. I would say that we feel very good and what we've seen is really a pretty even balance across the globe in terms of the order act, the new order activity and the sales funnel build that we've got taken place. In other words, we have been working hard at brining obviously new teams around the world up to speed, but also putting in place some of the more improved go-to-market capabilities that we talked about early on and I think that we are seeing the benefits and the impact of those go-to-market capabilities and again the interest in the new products reasonably balanced way geographically. I mean, the order growth and the activity, the pipeline activity is strong in all regions, so we are not seeing anything that's geographically limited to one region or another. It's growth across the system for us geographically. In terms of hospital, some of the macro trends you have talked about. I have read the same reports that you have and listened to the same earnings call if you have and quite frankly I don't think we are seeing the constrains at least today hospital CapEx pressures. Those pressures may be there, but I am going to guess that we have products that quite frankly people want to learn more about and know about and I am not seeing we are not seeing that the impact of a really big economic in this discussion. Obviously depending on the region of the world, there are perhaps watch outs, but across the board in general, we feel pretty good about the general climate that we are selling into.

Okay. That's good. That's helpful. I appreciate that, especially that color. Then just quickly a couple other housekeeping items, in terms of the inventory write-down that we are taking this quarter, did you guys quantify that maybe?

Well, it was approximately $3 million and the biggest chunk of it related to as we said earlier the MLC product that we got ahead of ourselves on.

Then in terms of kind of how you guys have been I guess lighting the ship so to speak in terms of products and getting the company back on track with the new product launch. I know we've kind of seen the product revenue and the service revenue mix kind of shift pretty significantly here over the past year. How should we kind of think about that from a modeling standpoint going forward? Any color there would be helpful.

I mean form an FY'14 standpoint, the revenue that's forecasted in '14 obviously represents for the most part things have been in the backlog for some period of time. It's just the nature of the, from order to installation cycle, we are dealing with things that have their genesis and order going into the backlog from in some cases a year before or maybe even more. The most significant focus we have, Toby, is on growing the installed base in this business. Growth in the installed base, growth of that footprint drives not just product revenue, but it drives recurring revenue stream impact from new service revenue and we are focused quite frankly on competitive sockets. This fourth quarter we took away more sockets than we gave up that's obviously that's a win loss ratio that we want to keep driving, but I would characterize this as still reasonably early phase in our turnaround. We have made some progress and we are pleased with what we've seen, but we still have work to do. We are not naïve and we are respectful of fact that we compete against companies that they are not going to lay down for us. I think we are going to show up and compete in ways that Accuray hasn't competed in the past and I think that we are starting to see that, but our focus clearly is on in the context of the product revenue side of the house, the service revenue side of the house, all roads lead back to in my mind growing the installed base. That's what makes the difference longer term and it's going to take some period of time to get the ongoing revenue generation capabilities of this business model back to where it had been, so we are talking about reasonably modest growth in service and product revenue in fiscal '14.

Okay. That's helpful. Thank you. Thanks for taking the question. Congratulations on the continued progress.

Thank you.

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

Hi. It's actually Karen Koski in for Sean. Two quick questions, have you made any changes to your sales force compensation structure in the past two quarters?

The answer is yes. Basically, coming into this current fiscal cycle, yes, and actually there were adjustments made to it about the time that I landed here in October, Karen. At that time, we talked about improved and renewed focus by product platform. We talked about separating the selling responsibilities for the two product lines, we also talked about the import separating, selling responsibilities for installed base versus new product, new equipment sales and there were different compensation drivers that were put into place and adjustments made to existing comp plans at that time that I think quite frankly have been significant in terms of impact on getting people focused on the right things quite frankly. If you have confusion on the part of your sales force, when they swing their legs at bed in the morning about what it is they should be focused, my experience on that is that you can end up with a good outcome and I think that the folks that have run our commercial organization have made a lot of really good decisions about selling focus and lining up the compensation in ways that the drivers, the incentives, line goes up in ways that frankly are influencing behaviors in a very, very positive way.

Okay. So, it's fair to say we are starting to see some traction there?

Yes.

Okay. Then regarding the incremental spend in Japan and China, should we think of this as kind of a shift in strategy or nothing has really changed this has always kind of been in the plan and you are just choosing to highlight it now?

The answer simply put is no. It's not a change in strategy. We've just finished the strategic business planning process and we've recognized really from the beginning and we really just validated those assumptions in this planning process, but Job one or post the job one was making sure that we fixed our situation and our ability to grow in the U.S. marketplace. We don't have a strategic growth agenda quite frankly unless we can fix our position in the U.S. market, so that was clearly an anchor need and an anchor strategy and it remains that, so there has been no shift in that discussion at all. The truth is for a company given where we are at right now and given that the limited resource we have, we need to place our bets in those markets where we can get the very best impact and when you look at the opportunities available to us in China and Japan, we think those are essentially outsized opportunities for us in terms of the investments required and on the other end the kind of impacts they will generate.

Okay. That's all I had. Thanks so much.

Ladies and gentlemen, with no further questions, I would like to turn this presentation over to Mr. Josh Levine for closing remarks.

Thanks for joining us on this afternoon's call. We are aggressively focused on those activities that we believe will unlock the value in our new products and allow us to become a profitable growth-oriented business. We look forward to speaking with you on our first quarter fiscal '14 update. Thanks very much.

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