Good day and welcome to the Accuray Q2 Fiscal Year 2015 Financial Results Call. Today’s conference is being recorded. At this time, I would like to turn the conference over to Mr. Doug Sherk. Please go ahead, sir.

Thank you, Vickie, and good afternoon, everyone. Thank you for joining us today on our conference call, as we review Accuray’s second quarter fiscal 2015 financial results. Participating on today’s call are Josh Levine, Accuray’s President and Chief Executive Officer; and Greg Lichtwardt, Accuray’s Executive Vice President of Operations and Chief Financial Officer. Before we begin, I need to remind you that our call today includes forward-looking statements that involve risks and uncertainties including statements regarding our business plans and strategies as well as our outlook for fiscal third quarter and fiscal 2015. 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 adoption of the new CyberKnife and TomoTherapy Systems, commercial execution, future order growth, future revenue growth, future profitability and guidance for fiscal 2015. 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. The forward-looking statements on this call are based on information available to us as of today’s date, and we assume no obligation to update any forward-looking statements. We are allocating an hour for today’s call. So it would be helpful if during the question-and-answer session questioners would limit themselves to two questions and then re-queue if you have any follow-ups. We thank everyone in advance for their cooperation with this process. And now, I would like to turn the call over to Accuray’s President and Chief Executive Officer, Josh Levine.

Good afternoon, everyone, and thanks everyone for joining us today. I’ll lead off with the review of our second quarter gross orders and provide an update on some of our key initiatives. Then Greg will provide a review of our financial highlights, after that we’ll open the call up for questions. Results for the second quarter demonstrate we’re delivering on our strategy to transform the Accuray business by refining our commercial execution, improve the positioning and overall value proposition of our unique technologies to a broader target market and implementing the financial discipline required to transition the business to a sustainable level of profitability and consistent financial performance. For the second quarter we reported gross orders of $72.3 million, which represents significant increase over the first quarter level of $59 million and is in line with our internal expectations. In terms of the composition of our gross orders for the quarter 27% of this dollar value represents TomoTherapy System orders from single- or dual-vault settings which is a key strategic focus for us, due to improvements in TomoTherapy’s reliability and performance as validated by independent third-party research, we are starting to see more small- and mid-size hospitals consider the TomoTherapy System as a viable choice as a workhorse product solution. The ability to target even two-vault hospitals provides us with access to 750 more customer locations in the U.S. alone increasing our market opportunity by a factor of three. Ultimately, we believe we will be able to tap into the even larger single-vault segment of the market that is normally associated with local community or regional hospitals. This would further increase our market opportunity by adding another 1,300 potential customer locations. We are also making progress in expanding and diversifying our customer base. Fully 26% of our gross orders for…

Thank you, Josh, and good afternoon, everyone. Before I talk about our financial results I want to highlight a couple of factors related to our product orders. We are once again providing a tabular format in our quarterly release reporting gross orders, net orders and ending backlog. Josh has provided the color around our gross orders, which is the best measure of our current commercial performance and what we are most focused on. But I’m going to confine my remarks here to the three other items that impact ending backlog, namely age-outs, which are the orders that have not gone to revenue in 30 months since recorded. Cancellations, which is one that customer proactively notifies us to cancel an order and we’ve returned the deposit, and lastly, foreign currency fluctuations. In our most current Form 10-Q, we put forth that age-outs in the second quarter would be comparable to the first quarter. As expected, we experienced $17.8 million in age-outs in the second quarter compared to $18.1 million in the first quarter. These age-outs will vary from quarter-to-quarter and is also possible that an age-out order can go to revenue in a later period. To reinforce my remarks from prior quarters, over the past two years, we have made numerous changes to the order-taking process, including increased oversight responsibility for and management of distributors, changes in timing as to when we enter distributor orders to the backlog, and a higher standard of internal management of the revenue process for distributor orders. We believe, these changes will improve the quality of backlog over time and subsequently reduce the level of age-outs. Currently, we expect age-outs in the second-half of this fiscal year to decline to a range of $16 million to $25 million as compared to the $36 million in age-outs…

Thanks, Greg. In summary, we are encouraged that our commercial strategy is related to product positioning and customer base expansion, are generating results. Our products are uniquely positioned to play a vital role in delivering on the priorities of the current healthcare environment, where improved patient outcomes must be delivered at a rationale cost. Maintaining our commercial momentum and increasing U.S. market share while simultaneously pursuing additional growth opportunities outside the U.S. will be the driving force behind our ability to improve the organizations financial performance in fiscal 2015 and beyond. And now, we’ll open the call up for questions.

[Operator Instructions] We’ll take our first question from Jason Wittes with Brean Capital.

Hi, thank you very much. Can you hear me?

Yes.

Hello, oh, great. So I just wanted ask a little more color on the TomoTherapy sales this quarter. You mentioned, I think it was 28% that went to smaller single- and dual-vault centers. And then you also mentioned that – but you mentioned that – you mentioned that, that was about 750 units – additional units in the U.S. And then you mentioned, if you go smaller, it’d be about 1,300 units. So can you just characterize sort of this area that you’ve kind of recently penetrated? How many vaults do they have? And what kind – and just sort of what type of customer it is?

Sure, Jason. So the gradient, if you will, in terms of the market segmentation, really in the number of locations that essentially, if you will, we’re planning for, if you look at where we have had TomoTherapy most strongly positioned, it’s been in three-plus-vault settings, primarily academic or university-related research type facilities. Going to that next level which we described in our prepared remarks brings you to primarily dual-vault locations, which adds another 350, at least in the U.S. market alone 350 accounts with that kind of a bunker footprint if you will, two-plus-vaults. If you take it to the next level of penetration in terms of hospital configuration or account configuration, you’re talking about primarily single-vault customers that would really normally be associated with either community-based hospitals or in some cases maybe smaller regional types of hospitals.

Okay. That’s helpful. And I mean, it sounds to me like you are saying this – you are implying this is somewhat – this is confirmation that you basically established yourself now – in that market, of that 350 units in the U.S. I mean, it sounds like…

If you go back to where we were two-plus years ago, it really – quite frankly, it would have been impossible for us given the reliability profile historically of the device, the functionality of the device to even be considered in anything other than a large multi-vault facility, three-plus kind of bunker configuration with the old Tomo device. So I think what we’re seeing is an absolute recognition that our message is growing in terms of customer recognition of the fact that the device can be a normal workhorse everyday product in small- to mid-size types of hospital configurations.

Okay. That’s very helpful and I just want to push you on one more point. In terms of single vault discussions, are you having them, and do you think that that is a viable reality for Accuray in the next, say, 6 months to 12 months for orders?

The answer is we are having those conversations. And matter of fact, we actually have installed TomoHDA in a number of single vault facilities. The ones that I can think of quite frankly are freestanding in nature as opposed to more institutional setting but I will tell you that, again if you look comparatively at how the thought process from the customer-end has changed in terms of our – the perception of our product, it’s moving in that kind of direction with regards to more open thought process around workhorse product, everyday kind of mainstream device, which eventually means we should be able to compete effectively in single-vault type settings. I think we realized though that the way you get the market convinced from a confidence standpoint that we can be there from a functionality and a reliability perspective is probably to prove ourselves in dual-vault settings first.

We’ll go next to Steve Beuchaw with Morgan Stanley.

Hi, guys. Good afternoon and thanks for taking the questions.

Hey, Steve.

Josh, I wonder if we could go into just a bit more detail, first off, on the MLC. Now that you had a chance to see the InCise in action and clearly you’re more comfortable with the design and the reliability of the device. How is your thinking evolving in terms of what it means for throughput, what it means for the breadth of the applicability of the CyberKnife in different types of cases, and ultimately what the sales pitch is for the M6 with an MLC?

Steve, the two primary areas of product functionality or impact around improved functionality are really as we’ve said before, first and foremost on our treatment speed, and second, the ability because of having a larger field-size being able to treat a larger universe of patients and a diverse, a more diverse case mix. We got – to date, we’ve got computer modeling of verification and validation for both of these data points. Treatment speed, we would expect treatment speed to improve somewhere in the neighborhood of 30% to 40% from where it currently resides. And from a patient universe in terms of the mix of cases or the mix of patients that can be treated, we think that there is an equally substantial impact to the patient population that we would be able to treat with the device as well. In specific case mix terms, I mean, it would look – it would vary obviously from location to location but an MLC is an example. An MLC in a situation where you’re treating a significant number of prostate cases, if you had organ contained cancer you wouldn’t need an MLC to treat that kind of a case. If you got more a broader involvement from a disease progression standpoint throughout the pelvis then you’d have – in that kind of a case example, you’d have the need and the ability to treat that case with the MLC. So both treatment speed and patient diversity and case mix are both impacted in a really positive way by having this component on the device.

Thanks, Josh, that’s what we needed there. And then a question on the outlook for orders. You made a comment in the press release as you did last quarter, talking about your comfort with the progress that you expect over the next couple of quarters in terms of order growth. It’s always a little tricky knowing that order patterns can be lumpy here and there to know how to interpret that. It’s helpful, I’d find, if you could talk about what you’re seeing in terms of the growth of the funnel. Then how are you thinking about order growth not in just over the balance of the fiscal year but let’s say over the medium term and how has that been evolving lately. Thanks so much.

I think, Steve, consistent with what we communicated this time last quarter there were several drivers or levers that we highlighted, that were really catalysts for improved order momentum going forward. And no specific order – I would take you back to those thoughts. One is China, we clearly believe that we will be seeing more order activity, gross order activity coming out of China. There will be other incremental Class A radiotherapy license issued and we think we’re going to compete pretty effectively for our fair share of those, so China would be one. I think that with the eminent impact or the eminent release of the InCise MLC for CyberKnife, we should start to see impact from people that might have been quite frankly waiting or sitting, waiting to see the device in use and understand what it can do. We quite frankly, just to be clear the customer sites that we chose for the MLC testing evaluation are already expressing – two of the three are already expressing interest in having the results that they’ve seen published in upcoming scientific meetings and congresses. And we’re intending to support them in those activities in any way that we can. We also have a growing number of prospective customers interested in making site visits to those evaluation sites to see the device operate, once those locations are actually treating patients in that next phase of the evaluation. So I think MLC will be a catalyst for order momentum. And then last but not least, well not maybe in the next quarter or two, but certainly in the intermediate term, we believe that some of the early work that we’ve done with GPO contract implementation and activation. And I would highlight, particularly with the Premier group and Amerinet. I’m sorry, with the Premier group and Novation, we believe that, that both of those should contribute to order activity over the course of the next two or three quarters. So I would say those would be the three primary catalysts for order momentum going forward.

We’ll go next to Tycho Peterson with JPMorgan.

Hi, thanks, guys. It’s actually Patrick [ph] in for Tycho. I just wanted to ask on the cancellations. Greg, I know you mentioned, there were no competitive losses, but three is a bit higher than the normal kind of one per quarter. So maybe just a bit more color as to why this was higher. And then also what your visibility is for future cancellations and expectations for the second-half?

So we really don’t see any kind of a macro explanation or necessarily even competitive factors on cancellations. These were all three distributor orders they cancelled. They were in customers in Turkey, Greece and the Ukraine, all three countries that are experiencing extremely difficult economic conditions and political turmoil probably not surprising that this is, how they wound up. I gave examples in my prepared remarks of why an order would cancel, and our belief is that for those three projects, it would fall into one of these explanation. So the recent history of the company up through the first quarter of this year is a run rate of about one cancellation a quarter and that is our expectation going forward. But as with any of our metrics, there can be quarter-to-quarter variability, and I think this quarter kind of falls into that category.

All right, great. And then you touched on the minor reorganization kind of $500,000 charge. Can you give a little more color on what exactly happened there and where it was targeted?

It’s really just personnel-related changes that are in line with our strategic vision for providing better customer service. I think it makes us more efficient and productive, and so, I think that’s all that’s needed to be said.

We’ll go next to Brooks O’Neil with Dougherty & Company. Brooks O’Neil: Good afternoon. I’m guessing by now it’s becoming more clear to your competitors that that important changes are taking place in your company. Are you seeing any changed response from them in the marketplace that you consider significant? And if so, could you tell us a little bit about what you are seeing?

Brooks, this is Josh. If you go back probably four to six quarters ago, I think you would see that we had – we were seeing and were communicating, quite frankly that there was a reasonable degree of competitive activity – aggressive competitive activity. At that point really mostly coming from the elective side of the world, really targeting Varian. It started out in more the emerging market kind of geographies, but it ultimately really spread over, maybe six or eight quarters to be more of a broad-based type of a take share type of strategy, and it was pretty aggressive. I think today, that actually has balanced out and the pendulum has swung perhaps in the other direction. There is a significant amount, I think, of aggressiveness that we see on the part of Varian in the marketplace, really more focused on Elekta in the – in a pushback sense, if you will, based on some of the earlier trends that I just described. We’re not, by specific target, we’re not really finding ourselves in the midst of a lot of that. I mean, obviously, we want to stay as clear away from that as possible quite frankly, being a distant third in a three horse race, that doesn’t help us a whole lot to get into that kind of a, aggressive positioning and pricing. So generally, I would say, the competition that we see and the aggressiveness that we see is really between the two major players and we are kind of on the periphery of that. Brooks O’Neil: And from a product capability standpoint, are you seeing them do anything to try to respond to some of the innovations you brought to the market or will bring?

I mean, most recently, if you think about some of the publicly available information in the last several weeks, I know the folks at Elekta in R&D event basically got more public about what they are doing with their MRI-enabled LINAC, but nothing there was surprising quite frankly to us. I mean, I think that we feel very good about where we’re at from a product – competitive product positioning and product functionality standpoint. And, in terms of both on the image-guided IMRT side with Tomo and on the stereotactic radiosurgery or SBRT side with CyberKnife. So we’re comfortable going forward with where we’re at. It doesn’t mean our product pipeline and our product roadmap isn’t advancing in its own right, but we don’t see anything in the near-term that represents a really strategic or competitive threat. Brooks O’Neil: That’s great. And then just lastly, my sense is you’ve kind of gone through the bulk of the weeding out of the stale backlog. But could you just refresh my memory on how much came out this quarter and sort of how much you think might come out over the next couple of quarters?

So I have said in my prepared remarks that for Q2, we had about $18 million in age-outs, $7 million in cancellations, and $6 million in foreign currency loss, so that’s a total delta between gross and net orders of $31 million. Can’t really predict cancellations or foreign currency, but the dollar does continue to strengthen and I imagine depending on where it winds up at the end of the quarter, there will be some foreign currency loss. Age-outs I did address specifically to say that where in the first-half the year, we had seen $36 million in age-outs. We were projecting in the back-half of the year a range of $16 million to $25 million in age-outs. That’s a reasonably wide range, but that just so happens that there is two systems that we believe are nearing the point of being able to be revenue, meaning they are in the process of being installed. But if we miss that by a week or two, they could age-out first before they go to revenues, so we’re being cautious by including them in that range. But it would represent a fairly significant step down in age-outs from $36 million in the first-half of the year to $16 million to $25 million in the back-half of the year. And then I think it continues to improve from there on as some of the changes that we’ve made to our backlog policy would not have been reflected in all of the backlog that we have as of yet.

We’ll go next to Amit Hazan with SunTrust.

Hi, this is Chris in for Amit. Can you hear me?

Yes. Hi, Chris

If I see the valuation going well at your first three customer sites, but can we get an update on the timing of the second-gen MLC?

So our – we haven’t really given much color on second gen. We have a, like, most companies from a continuous improvement and a continuous product development standpoint in terms of improvement and greater functionality, we’ve got another range of product capabilities in mind, and we continue to push that program forward. But that program is really separate and distinct from what we’re talking about now, and all of our energies, Chris, are focused on the current MLC. We are getting great results and the people that are using it are seeing great results with it and we are excited about it. So we’re really – I would think or position the thought process around what had started out perhaps as really more of a Plan B type of an approach, as really kind of just a naturally evolving product development progression and that one is still off on the horizon.

Okay, thanks. And I guess, as it pertains to replacement cycle, you mentioned that approximately 9% were trade-ins. When is the right time to sort of thinking about a replacement cycle kicking in? Is it now, is it imminent? Just your thoughts there would be very helpful.

So it varies obviously by – in our installed base by region of the world. Ultimately, typically you would start to see customers start to engage in the thought process around replacement cycle somewhere in the 8-year to 10-year range with their existing devices. In the U.S. market, in parts of Western Europe, we have products that probably over the next 24 months are entering into that 8-year to 10-year replacement cycle, probably more prevalent on the TomoTherapy side than anywhere else, although there probably are in certain pockets, some early generation CyberKnifes that will fall into that bucket as well. So there is a significant degree of recognition and focus on our part. We want to protect our installed base. We want to make sure that we are having customers that have good experiences both in terms of product reliability, product performance with their current devices, because we won’t get a chance to sell them another device if they don’t have an experience in the near-term. So, but these are areas where our installed base sales team is very focused. And again, I would predict that, we’ll start to see over time a bigger percentage of order activity coming from installed base activity, either product upgrades or trade-in/trade up, forklift upgrades that would be similar to what we described in our prepared remarks.

[Operator Instructions] And we’ll go next to Anthony Petrone with Jefferies Group.

Thanks, and good afternoon. Maybe, Greg, just to go back to the age-out question again and just to clarify. So the low-end of the guidance for the second-half is $16 million and it will sort of moderate from there. So should we assume that is sort of normalized run rate will – may be in the $5 million to $7 million range going forward once the new policy kicks in? And then another follow up there for backlog.

So we’ve been trying to put together where we think age-outs settle out to in the long-term for us. And it’s a little bit difficult to get a handle on it, to be honest with you. But this is a fact of the industry that we are in. Our competitors have age-outs. It’s just not as big a percentage of their reported gross orders as it is for us right now. But if we think about how our business is different from theirs, we know that we use distributors to a much greater degree. So we do believe that our run rate once it’s normalized will be higher than it is for our competitors. But we also believe that it will be substantially lower than it is right now or it will be even in the back-half of this year. I’ve kind of thrown around a number, it’s a bit of a wide range, but saying something like 7% to 10% of backlog aging out on an annual basis. So that might be something on the order of $8 million a quarter. And what we are projecting here for the back-half of the year is probably more like $10 million or $12 million a quarter. So there will be future improvements. But I think that we are going to wind up with something around $6 million, $8 million a quarter and age-outs even once we’ve normalized. And for our business, that would probably be appropriate and would be as tight as we’re going to get on that.

Very helpful. And then just a follow up there real quick would be on the M6 with MLC and the MLC itself. I mean, what percent of the backlog is currently made up of those solutions, and just given the delays here and MLC availability, is there a risk that some of those age-out?

Anthony, I don’t have off the top of my head or in front of me right now, I don’t have the percentage of the backlog overall that is MLC related. Greg?

So there is a large MLC backlog number in our backlog, it’s in the $40 million range, and that includes both upgrade orders and systems. Depending upon when we release for the commercial market and depending upon how our supply chain and manufacturing ramps, and our ability to resolve some of those backorders this year, there may or may not be MLC-related orders that age-out. I think that was your fundamental question. It’s not a big number and it’s included in the guidance that I’ve given for age-outs in the back-half of the year to the extent that we are anticipating it. But there – we are in a period of time where we have had orders on the books for a long time and we are now starting to ramp up. And it’s a race against the clock to see if we can get these installed before the age-out.

That’s helpful. And then one for Josh, and I’ll get back in queue just sort of an offensive question here. Can you give us a sense of which products actually have received the licenses in China, and which additional products eventually could receive licenses? And then maybe just a high level comment on where you think, say, annual order flow could be out of that country? Thanks a lot.

So to be clear, we’ve received Class A licenses both in December and earlier in this fiscal cycle basically from – for both products. So the licenses covered both the CyberKnife and the TomoTherapy platform, so, and I would expect that to continue, Anthony, I don’t see that, kind of gravitating or evolving to either one or the other. I would say that the answer is both. We are – I think we’ve talked a little bit about this in prior calls. We are looking at a range of possibilities around participating in categories – product categories or segments that would be other than Class A radiotherapy in China, which is really still a – I would call it in an analytical phase on our part. But interesting in that, if you participate in Class B radiotherapy, you are really not limited or constrained by these – the license mechanism, it really becomes a much more of an open sell-in kind of an environment. So it really is – it’s kind of where the larger volume is, we would guess, but it requires a different configuration product to be able to get there with regards to product specification, product design requirements, and that’s really where our attention is right now trying to understand those and determine whether or not, one, we can get there, and two, if we can get there from a design standpoint, what does that translate into in terms of economics? And is it a business model that make sense for us, given where we’re at right now and what the opportunity looks like. So in general, I would say, in the near-term, we should continue to think about our opportunity in China really as a Class A opportunity until further notice, so to speak. With regards to longer-term forecast, we talked a little bit, I think I gave some indication in my – the talk and presentation at JP Morgan. When you look at the installed base of radiotherapy capacity in the country and the number of newly reported cases that would be – patients that would be eligible for radiotherapy, you’ve got really, really disproportionate disconnects there with regards to capacity and need. And even the most conservative estimates suggest that over the course of the next decade many, many thousands of linear accelerators are going to be needed to be able to keep up with the patient demand. And I think that, regardless of whether it’s Varian or Elekta or ourselves, and there is an opportunity there, quite frankly, that’s large enough for everybody. For us, we don’t see anywhere in the world the bigger opportunity in terms of longer-range upside than we see in China.

We’ll go next to Toby Wann with Obsidian Research Group.

Hey, god afternoon, guys, congratulations on the quarter. Just quickly on the – in your prepared remarks, I think, Greg, you said something about the fact that legal costs were up 10%. Can you kind of expand on that in any way, shape or form?

Yeah, sure, so the company is involved in two litigations. They’re detailed in our SEC filings, so I’ll let you read about them there in terms of all the background or what the current status is but of those two, the Sarif Biomedical patent infringement litigation was settled during the second quarter. So we have not only the legal fees but the settlement costs associated to bringing that to a conclusion. And now, we will not have legal fees going forward associated with that one. That’s good to get behind us. The other one which is more significant is the company’s termination of Cowealth Medical as a distributor; that is in arbitration. And we have several executives in Hong Kong right now and are probably in about the heaviest spend period for that particular litigation and hopefully that will be resolved in the near future and we’ll stop paying the lawyers for that as well. But that is basically those two.

Okay. No, I just wanted to make sure that there wasn’t anything else going on. And then just kind of as we think about it from a macro standpoint, global economy seems to be, I guess, probably tepid is the best way to describe it. And how does that impact you all’s thinking, if at all? Probably not, but I just wanted to get your all’s thoughts about any pockets of weakness that might have crept up lately that weren’t there before.

Toby, when you think about the installed or the server market in our business, as of 2014 it was about $3.5 billion market in terms of product and service. We estimate that within that $3.5 billion roughly 25% to 30% is comprised of premium and specialty products segments of which TomoTherapy or CyberKnife really are the – those are the products that we compete with in those segments. They have interestingly enough premium and specialty. The premium segment being IMRT, you’ve got growth, procedure growth rates in that market segment or that treatment segment, if you will, growing in the high 20% range, 25% to 30%, in terms of procedure growth. And on the specialty side with CyberKnife in stereotactic radiosurgery or SBRT, that’s also growing at very, very healthy rates, north of 20%. So we feel good about where we’re positioned relative to the market and the market growth rates that we project. We happen to believe that the too fast is growing treatment areas image-guided IMRT and stereotactic radiosurgery cut across kind of the sweet-spot of our product portfolio. So we think market conditions and movements in clinical preference and adaptation in terms of standard of care are actually, it’s good news story for us. And obviously, that will vary perhaps from region to region based on some macro drivers but in general we think we’re positioned well, given current market conditions and current practices in the radiotherapy space.

Okay. Thanks. That’s helpful.

[Operator Instructions] At this time we have no more questions, so I turn the call back over to our speakers for any additional or closing remarks.

Thank you, operator. For everyone listening in, thanks for joining us on this afternoon’s call and we look forward to speaking with you again on our third quarter call.

That does conclude today’s conference. We thank you for your participation.