Varex Imaging Corp Q3 FY2024 earnings call

• Third quarter revenues were in line with expectations, with strong cargo inspection business in the Industrial segment. Medical segment customers adjusted inventory levels, reducing demand for some medical products, expected to subside in early 2025. - Gross margin was lower than anticipated due to unfavorable product sales mix in the Industrial segment. - China market was soft in the third quarter but saw modest sequential improvement, optimistic about medical imaging market recovery in China. - Continued focus on innovation, particularly photon counting, and cost leadership, expanding presence in India.

Third quarter revenues were $209 million, down 10% year-over-year. Medical segment revenue decreased 15% year-over-year to $149 million, accounting for 71% of total revenues. Industrial segment revenue increased 6% year-over-year to $60 million, accounting for 29% of total revenues. In the Medical segment, sales in China were affected by ongoing anti-corruption actions and investigations in the healthcare system, with softness but slight sequential improvement. In the Industrial segment, sales of cargo inspection products remained solid, but other industrial end markets such as semiconductor, electronics, and battery inspection were soft. In the Medical segment, CT tube global sales improved slightly, radiographic sales were above trend, while fluoroscopy, oncology, mammography, and dental modalities were below their respective sales trends. In the Industrial segment, cargo inspection product sales were solid, but other industrial end markets were soft.

• Fourth quarter revenues expected between $190 million and $210 million. - Non-GAAP earnings per diluted share expected between $0.00 and $0.15. - Non-GAAP gross margin expected in the range of 33% to 34%. - Non-GAAP operating expenses expected in the range of $53 million to $54 million. - Interest and other expense, net expected in the range of $7 million to $8 million. - Tax rate expected to be about 21% to 23% for the fourth quarter. - Non-GAAP diluted share count expected to be about 41 million shares.

• Ongoing anti-corruption actions and investigations in China affecting sales. - Inventory adjustments by customers impacting demand. - Continued competition from Asia-based detector manufacturers. - Challenging market conditions including softness in China, inventory adjustments by customers, and competition from Asia-based detector manufacturers.

Q: I guess to start, wanted to get a little bit more color on China. I mean, it's moderately sequentially improved, still down year-over-year, but seemed to be better than last quarter. So kind of bottom last quarter. Just your comment on not seeing any improvements in the foreseeable future in China? Can you maybe reconcile that a little bit versus it's been a year since the anticorruption campaign. Eventually it's going to go away. There's talk about stimulus in China as well, although we might not know all the details. And then, also your comment on the competitive pressures there in APAC? Maybe you can just help us understand the China comment a little bit more?

A: This is Sunny. I'll get started and ask Sam to give a little bit more color. So we did see sequential -- slight uptick sequentially in our orders and sells from China, but that we don't see that as a trend for the next few quarters. As we've said, the effects of the audits are still continuing. However, look, as we go into next year, we expect that this will start to taper off. But for now in the foreseeable future, we don't see a significant movement there. The stimulus by itself, there's a lot of things undefined about the stimulus program. So we are not seeing any direct impact of that yet. However, for us, any investment in health care that impacts -- that can have a positive impact on buying of equipment is good for us. So overall, on balance we would say that the stimulus program should be good for us. But we don't have any indication of when that will kick in, in terms of having an effect on orders and sales for us. And then, in terms of the competition from Asia-Pacific players. This is, it's -- we've talked about the competitive intensity in detectors in the past with Asian players. And we're just seeing continued intensity of competition there, particularly in the low end modalities such as radiographic, dental. And that's in a market where demand is soft and muted, this is not unusual that we find more aggressiveness from our competitors in detectors.

Q: Unidentified Analyst: Great. And then, just one quick question on the traction you see in Industrial. You mentioned that it's driven by cargo with industrial softness outside of cargo. Could you remind us the percentage of Industrial that is cargo and maybe what indications of stability there you see going forward?

A: Yes, so Industrial business, grew quite a bit last year and this year also we expect it to grow over last year. So there is a decent bit of traction there. Within Industrial, though there are pockets, particularly in semiconductors and electronics, where we've been seeing some softness, predominantly because of the capacity digestion that happened, the capacity being digested as it was shipped. So we are seeing some softness there in the last quarter, this quarter. However, as we mentioned, cargo business is strong and we have reasonably good visibility for that strength to continue over the next few quarters for sure. So cargo business, we have disclosed full year fiscal '23 numbers for cargo area previously, although that cargo business' proportion in our overall FY -- fiscal year sales has been increasing. I think you just need to give us one more quarter when we complete our full year and be able to disclose those proportions to you. But we did disclose FY '23 previously and we expect in FY '24 cargo business proportion would be much higher than what it was in '23.

Q: Jim Sidoti: I think what I hear you saying is China business, you don't expect it to improve in the near-term. But I think I'm hearing you say you don't expect another step-down over the next couple quarters. Is that right?

A: That's correct, Jim. I think that's what we are saying, yes. It's already running at low levels and we need to see very specific and definitive indicators before we are able to say that it's going to improve on a sustained basis.

Q: Jim Sidoti: All right. Any update on the new products with the photon counting technology? You've talked about that in the past. On the Medical side, are you making any headway there?

A: Yes. So as that's part of our long-term strategy, we're making very good progress there. And last quarter we had given some color in terms of what we expect its contribution to our growth in the longer term. And that is still looking good for us. And we're very optimistic and excited. I think, in the near-term though, as once we get past these destocking levels, the thing that we are continuing to be excited about is the cost-out initiatives that we've launched with our investments in India. We expect that to give us ability to regain market share in radiographic, dental and areas where we have lost share and lost ground. We expect to make those up in the mid-term time frame. So all these investments, both in near-term -- mid-term and long-term are looking good and we're continuing to be optimistic about it.

Q: Jim Sidoti: And then last one for Sam. What's the update on refinancing some of that debt?

A: Yes, sure. So, Jim, we -- a few months ago we completed the -- we completed credit financing. And so we have sufficient flexibility around that. And our revolver, our convertible bonds are maturing in June of 2025. So we have some time here. And as and when we make a decision, we'll be sure to inform you, but we have a reasonably good flexibility at this time when it comes to refinancing.

Q: Young Li: All right. I guess maybe just following up on the prior question, Jim's question. I guess, what is your capital allocation priorities after the balance sheet becomes stronger from the refinancing?

A: Yes. So right now, between now, say next 12 months, our priorities are to continue to fund all of the business needs, operating needs, completely fund all the capital expenditure requirements. We are right now investing CapEx in India and also for automation in our factory in Salt Lake here. So beyond the operating needs, priorities are deleveraging. We expect to deleverage. The quantum of the deleveraging is yet to be decided, but we do want to deleverage in the next 12 months. And beyond that I think we would -- once we are at an optimal debt structure, which we have said in the past, anywhere between $300 million to $350 million in total debt, once we are there, then I think we would be looking at growth opportunities in terms of M&A and also further deleveraging at that time. So those are the two main areas of deployment of cash beyond operating needs, beyond the 12 months' time frame.