Varex Imaging Corporation (NASDAQ:VREX) Q2 2024 Earnings Call Transcript May 4, 2024
Varex Imaging Corporation isn’t one of the 30 most popular stocks among hedge funds at the end of the third quarter (see the details here).
Operator: Greetings and welcome to the Varex Imaging Second Quarter Full Year 2024 Earnings Call. At this time all participants are in a listen-only mode. A brief question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Chris Belfiore, Director of Investor Relations. Thank you, sir. You may begin.
Chris Belfiore: Good afternoon, and welcome to Varex Imaging Corporation’s earnings conference call for the second quarter of fiscal year 2024. With me today are Sunny Sanyal, our President and CEO; and Sam Maheshwari, our CFO. Please note that the live webcast of this conference call includes a supplemental slide presentation that can be accessed at Varex’s website at vareximaging.com. The webcast and supplemental slide presentation will be archived on Varex’s website. To simplify our discussion, unless otherwise stated, all references to the quarter are for the second quarter of fiscal year 2024. In addition, unless otherwise stated, quarterly comparisons are made year-over-year from the second quarter of fiscal year 2024 to the second quarter of fiscal year 2023.
Finally, all references to the year are to the fiscal year and not the calendar year, unless otherwise stated. Please be advised that during this call, we will be making forward-looking statements, which are predictions or projections about future events. These statements are based on current expectations and assumptions that are subject to risks and uncertainties that could cause actual results to differ materially from those anticipated. Risks relating to our business are described in our quarterly earnings release and our filings with the SEC. Additional information concerning the factors that could cause actual results to materially differ from those anticipated is contained in our SEC filings, including Item 1A, Risk Factors of our quarterly reports on Form 10-Q and our Annual Report on Form 10-K.
The information in this discussion speaks as of today’s date, and we assume no obligation to update or revise the forward-looking statements in this discussion. On today’s call, we will be discussing certain non-GAAP financial measures. These non-GAAP measures are not presented in accordance with, nor are they a substitute for, GAAP financial measures. We will provide a reconciliation of each non-GAAP financial measure to the most directly comparable GAAP financial measure in our earnings press release, which is posted on our website. I will now turn the call over to Sunny.
Sunny Sanyal: Thank you, Chris. Good afternoon, everyone, and thank you for joining us for our second quarter earnings call. Sales in the second quarter was in line with our expectations, resulting in revenue of $206 million. Non-GAAP gross margin of 33% was within the guided range, and non-GAAP earnings per share was $0.16 in the quarter. Revenue in the second quarter was down 10% year-over-year. Revenue in the Medical segment decreased 15% year-over-year, while the Industrial segment revenue increased 6%. Non-GAAP gross margin in the second quarter was 33%, which was flat compared to the same quarter last year, and non-GAAP EPS was $0.16 compared to $0.26 last year. We ended the second quarter with $190 million worth of cash, cash equivalents, and marketable securities on the balance sheet, up $68 million compared to the second quarter of fiscal 2023.
Now let me give you some insights into the sales detail by modality in the quarter compared to a five-quarter average, which we will refer to as the sales trend. Sales in our Medical segment was down in the quarter due to cautious purchasing behavior by our customers in addition to the continued softness in China. Global sales of CT tubes improved in the quarter and is now in line with the sales trend. Fluoroscopy and mammography were both in line with their respective sales trends. Oncology, radiographic, and dental modalities were all below their respective sales trends. Global sales of our industrial products were solid in the quarter and in line with our sales trend. Our cargo inspection products and industrial tubes continued to see strong sales while we experienced some softness in other industrial end markets, primarily in semiconductor, electronics, and battery inspection.
Now I’d like to take a moment to give you an update on our photon-counting technology. As we highlighted in the past quarters, photon-counting detector technologies are a significant focus across the entire imaging industry. Both medical and industrial OEMs continue to explore the use of photon-counting in imaging applications across various modalities, from food inspection to full body medical CT. Engagement with our OEM customers has accelerated over the past year, and we believe Varex continues to be well positioned to benefit from these trends given our innovative technology and breadth of our product portfolio. Our Industrial segment, where technology adoption tends to be faster, continues to be the main driver of our photon-counting detector sales.
The technology is being adopted in high growth niche verticals where there’s a need for high speed and high sensitivity imaging. Our photon-counting detectors continue to be integrated into new customer systems, and we expect industrial applications to remain solid source of sales of Varex’s photon-counting products in the future. In addition, last year we provided an overview of two collaborative photon-counting projects in our industrial business, PARSEC and GRINNER. These projects are sponsored under the Horizon Europe program, the European Union’s key funding program for research and innovation. Both projects are focused on the speed of imaging and material discrimination, which are distinctive strengths of photon-counting. The PARSEC project, aimed at addressing the potential abuse of postal and express courier services by criminals and terrorists, is making solid progress.
The material discrimination capability of our photon-counting technology, coupled with AI software, is being used to test the detection of illicit substances within clusters of parcels. The GRINNER project, which is aimed at preventing battery-caused fires in the electronics waste management chain, is also progressing well. A prototype incorporating our photon-counting technology is expected to be deployed to an end user facility in Europe for gathering data and field-testing. Once testing at the recycling facility is complete in late fiscal 2024, we expect to work with our customer on commercialization of the final system. In our Medical segment, our photon-counting technology is being used in full body scans and panoramic dental imaging. As we noted on our first quarter earnings call, we’re working with a major OEM to integrate our photon-counting technology in their next generation of CT scanners.
This process is moving along as planned. We also now have other prospects in the pipeline who are in various stages in assessing our technology for CT applications. We expect new and existing applications of our photon-counting technology to contribute strong sales growth over the next five years. Specifically, we expect additional applications in medical, including CT, to add over $100 million of revenue over this timeframe. Coupled with traction in our industrial markets, we expect our photon-counting portfolio to contribute more than $150 million of revenue annually by fiscal 2029. We continue to be encouraged by the acceptance of photon-counting technologies for medical and industrial applications. With that, let me hand over the call to Sam.
Sam Maheshwari: Thanks, Sunny, and hello, everyone. Our revenues in the second quarter were $206 million at the midpoint of our guidance, while non-GAAP gross margin was 33%, within our guided range. Non-GAAP EPS was $0.16 below the midpoint of our guided range. Second quarter revenues decreased 10% compared to the second quarter of fiscal 2023. Medical revenues were $149 million and Industrial revenues were $57 million. Medical revenues were 72%, and Industrial revenues were 28% of our total revenues for the quarter. Looking at revenues by region. Americas increased 1% compared to the second quarter of fiscal 2023, while EMEA increased 2% and APAC decreased 27%. The decline in APAC was primarily the result of lower sales in China due to the government’s anticorruption campaign there and investigation into its healthcare system.
China accounted for 12% of overall revenues in the second quarter, compared to 17% in the second quarter of prior fiscal year. Further, sales to China in the second quarter declined sequentially from the first quarter. Given this trend, we no longer expect a pickup in China sales before the start of our next fiscal year. We remain optimistic about the prospects of long-term healthcare-related growth in China. Let me now cover our results on a GAAP basis. Second quarter gross margin was 32%, flat year-over-year. Operating expenses were $58 million, up $1 million compared to the second quarter of fiscal 2023, and operating income was $8 million, down $8 million from Q2 of 2023. GAAP net earnings were $1 million, and EPS was $0.03 per share, based on a fully diluted 41 million shares.
Moving on to the non-GAAP results for the quarter. Gross margin was 33% flat compared to the second quarter of fiscal 2023. Gross margin benefited by approximately 1 percentage point due to a reclassification of fixed expense related to our joint venture dpiX from cost of goods sold to SG&A expense. This change is expected to remain in place for foreseeable future, and we are assessing ways to reduce this expense. This benefit to gross margin was offset by approximately one percentage point of higher warranty expense in the quarter. We expect the higher warranty expense to taper off and return to historical levels by the end of our fiscal year. R&D spending was $23 million, flat compared to the second quarter of fiscal 20’23. R&D was 11% of revenues.
In the second quarter, we made the fourth milestone payment of $1 million to Micro-X. Generally, our target for R&D spending is 8% to 10% of revenue on an annual basis, R&D spending is expected to remain around current levels. However, R&D as a percentage of sales may fluctuate due to overall sales levels. SG&A expense was approximately $32 million, up $3 million compared to the second quarter of fiscal 2023. SG&A was 16% of revenues. The increase in SG&A in the quarter was primarily the result of the aforementioned reclassification of fixed expense related to our joint venture dpiX. Operating expenses were $54 million, or 26% of revenues, above our expectations for the quarter. Operating income was $13 million, down $10 million compared to the same quarter last year.
Operating margin was 6% of revenue, compared to 10% in the second quarter of fiscal 2023. Tax expense was $2 million, or 19% of pre-tax income, compared to $4 million, or 28%, in the second quarter of the prior year. We continue to expect a tax rate of 21% to 23% for full fiscal year 2024. Net earnings were $7 million, or $0.16 per diluted share, down $0.10 year-over-year. Average diluted shares for the quarter were 41 million on a non-GAAP basis. Now, turning to the balance sheet, accounts receivables increased by $12 million from the first quarter of fiscal 2024, primarily the result of higher sales in the quarter. Days sales outstanding remained flat at 67 days. Inventory decreased $4 million sequentially in the second quarter, and days of inventory decreased by 13 days to 185 days.
Accounts payable decreased by $5 million, and days payable decreased five days to forty-five days. Now moving to debt and cash flow information, net cash flow from operations was $3 million. We ended the quarter with cash, cash equivalents, and marketable securities of $190 million, up $68 million compared to the second quarter of the prior year, and down $5 million compared to the first quarter of fiscal 2024. Please note that $190 million includes $142 million of cash and cash equivalents and $47 million of marketable securities, which is now broken out as a separate line item on our balance sheet. Gross debt outstanding at the end of the quarter was $447 million and debt, net of $190 million of cash and marketable securities, was $257 million.
Regarding capital structure, we implemented a $155 million revolver on March 26. Separately, we recently secured an additional $20 million financing as a delayed draw term loan. Both of these actions put us in a comfortable liquidity position as we approach refinancing of our convertible bonds. Now moving on to the outlook for the third quarter and the remainder of fiscal 2024, as discussed by Sunny, due to cautious purchasing behavior by our customers broadly, in addition to continued softness in China, we are reducing our expectations for the remainder of the fiscal year. Based on our current visibility, we expect revenue in the fourth fiscal quarter of 2024 to be flat with that of the third quarter. While demand is soft in the near term, we continue to be optimistic in the long term and continue to invest in promising technologies such as photon counting.
With the above context, guidance for the third quarter is: revenues are expected between $200 million and $220 million; and non-GAAP earnings per diluted share are expected between $0.05 and $0.25. Our expectations are based on non-GAAP gross margin in a range of 33% to 34%; non-GAAP operating expenses in a range of $52 million to $53 million; tax rate of about 22% for the third quarter; and non-GAAP diluted share count of about $41 million shares. And with that, we’ll now open the call for your questions.
Operator: Thank you. We will now conduct a question-and-answer session. [Operator Instructions] Our first question comes from Suraj Kalia with Oppenheimer. Please proceed.
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