Accuray Incorporated (ARAY) Q3 2012 Earnings Report, Transcript and Summary

Good day, ladies and gentlemen, and welcome to the Third Quarter 2012 Accuray Incorporated Earnings Conference Call. My name is Sonya and I will be your coordinator for today. [Operator Instructions] I will now turn the presentation over to your host for today’s conference, Tom Rathjen, Vice President of Investor Relations. Please proceed.

Thank you, Sonya. Hello and thank you for joining our conference call this afternoon as we review Accuray’s third quarter of fiscal year 2012. Joining us today are Dr. Euan Thomson, 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 financial data which can be found in the 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 presentation includes forward-looking statements that involve risks and uncertainties. There are certain number of factors that could cause actual events, results to differ materially from our expectations including risks related to our ability to achieve projected revenue, gross margin and profitability targets, achieve our TomoTherapy integration goals and improved performance in the U.S. through a realignment of our sales organization. These and other risks are more fully described in the press release we issued earlier this afternoon, our Form-10-K for fiscal 2012 and our other filings with the Security and Exchange Commission. We assume no obligation to update any forward-looking statements. And now, I would like to turn the call over to our President and Chief Executive Officer, Dr. Euan Thomson. Euan?

Thank you, Tom, and thanks to everyone for joining us today for Accuray’s third quarter of fiscal year 2012 conference call. To help illustrate the main points discussed this afternoon, we have posted slides on the Investor Relations page of the Accuray website. This afternoon I will update you on our integration metrics for TomoTherapy, discuss the global sales environment for our technologies and comment on the initiation of a landmark clinical study. I will then turn the call over to Derek Bertocci, who will provide a detailed financial review. During the call we will provide both GAAP and non-GAAP numbers. When Derek talks later, he will refer to both measures. But for the sake of clarity, I will refer only to the non-GAAP numbers since they give you a clear picture of Accuray’s ongoing core operations. We are pleased that both our financial and non-financial metrics meet or exceed what we have previously outlined for the investment community. Perhaps most importantly, our key forward indicators including our installed base growth, our shipments, our service margin and our book-to-bill ratio are all positive. While the integration of TomoTherapy is a complex undertaking, we have a clear strategy in place to drive future growth and deliver value to our shareholders. Unlike other companies in our industry, the majority of our installed base is less than 10 years old. As a result, only a fraction of our revenue is generated from replacing our own systems. Our strategy relies on successfully competing to win space in new or existing vaults and to do this we have to have the best technologies. Our Q3 performance demonstrates the success of this strategy. Year-on-year our installed base has increased by approximately 14%, which along with other initiatives, has increased our service revenue by 19%. Importantly, we have further improved service growth margins to 16.1% in Q3 from 12.3% in Q2. Our growing service business is becoming an increasingly significant and stable contributor to our overall financial performance. Our June 2011 acquisition of TomoTheraphy dramatically increased Accuray’s global presence, added innovative technologies to our portfolio and created new cross selling revenue opportunities. Shortly after we announced the acquisition of TomoTherapy, we laid out 3 milestones to help you measure our progress through integration and track our return to profitability. I’m pleased to report that we are meeting or exceeding all 3 of these. The first milestone is to maintain or modestly grow revenue while generating a book-to-bill ratio greater than one. On a pro-forma basis, total revenue for the third quarter of $101.6 million and year-to-date revenue of $302 million were essentially unchanged from comparable periods of the prior year. We maintain our guidance that revenue will be in the range of $400 million to $415 million for fiscal 2012. During the third quarter, Accuray added $64.2 million of net new system orders to backlog expanding total backlog by $2.8 million to $279.6 million. Our book-to-bill ratio for the third quarter was 1.05 and for the rolling 4 quarters is 1.02. For the first 9 months of fiscal 2012, there has been a 10% increase in revenue units when compared with the same period last year. However, product revenue growth does not match the increasing shipments or revenue units. So I would like to spend a few minutes explaining this. First, Accuray and TomoTherapy accounted for warranty, training and installation differently. Accuray deferred service revenue for the warranty training and installation provided with the sale of the equipment whereas prior to the acquisition TomoTherapy included these in product revenue recognized at the time of sale of a system. As a result, during the first 3 quarters of fiscal 2011, TomoTheraphy recorded approximately $11 million more product revenue for Tomo systems sold than we have recorded -- we would have recorded in the same period. We recognized deferred service revenue over the term of the service coverage. Second point to note is that last year’s results included recognition of approximately $2 million of product revenue previously deferred for systems sold with platinum service agreements which was the last of our platinum product revenue. These revenue factors are unique to the comparison of our fiscal year 2012 results with our fiscal year 2011 results and that will not occur in fiscal year 2013. Finally there are some business factors to note. We have reduced our bulk construction this year as compared to last and we have deferred some revenue due to extending some payment terms. Together these account for approximately $4 million of revenue reduction between last year and this. Moving on, during Q3 we shipped 18 systems while installing 22 units. As of March 31 our installed base stood at 635 units worldwide. Only one of the installations in Q3 was a trade-in system. All other systems replaced competitive systems and existing treatment rooms over a newly constructed rooms. Looking to the future, in addition to these sales to new customers, we expect to grow our replacement sales as our installed base ages and customer seek to upgrade their systems with us. This will further accelerate our product revenue growth. Our second integration milestone is that we will achieve at least a 10% service gross margin by the end of this fiscal year. In Q3, we achieved a service gross margin of 16.1% compared with 4.4% last year. This marks the third consecutive quarter of improving service gross margins and we continue to implement initiatives to further improve service gross margins on TomoTheraphy systems. As I mentioned last quarter, maintenance costs of new TomoTherapy systems are now approximately the same as those of the CyberKnife, which has a very positive reputation for reliability and for generating strong service gross margins. Reliability improvements that are included in the new systems are also being introduced to the active installed TomoTherapy base. The most recent improvements we have begun to add to the installed TomoTherapy base include utilization of remote monitoring hardware and software, a fixed target Linac and a dose controlled stability, an upgrade that stabilizes radiation dose rate. These improvements increase the stability and reliability of the systems and significantly lower the number of times our field service engineers need to visit customer’s sites. In parallel for reducing the cost of service on TomoTherapy system, we are increasing service revenue through the sale of new service contracts at industry standard prices. As of today, 31 TomoTherapy customers have purchased our new service offerings to replace their previous contract. Three customers select to that premium diamond contract, which provides access to certain TomoTherapy upgrades. Only a small portion of this additional revenue from these enhanced service contracts has begun to flow through our reported service revenue. As a result of that continued progress, we are confident that we will exceed our original goal of 10% service gross margin by the end of the current fiscal year giving us a strong base from which to reach or exceed our target of at least 20% service gross margin by the end of our next fiscal year. Our third and final milestone is return to profitability during the later part of fiscal 2013, which ends June 30, 2013. We intend to achieve that milestone through increasing revenue, improving service and overall gross margin, as well as by reducing operating expenses. We aim to reduce operating expenses to approximately 45% or less of revenues by the end of fiscal 2013 with the longer term goal of reducing operating expenses to approximately 40% of revenues. In third quarter, operating expenses were 48.1% of revenues largely due to our accelerated investment in R&D. You should interpret this increased R&D investment, which we expect to maintain over the next several quarters, as a positive sign of the innovations that are underway to enhance and strengthen the position of the CyberKnife and TomoTherapy treatment systems, and build on their positions as premier radiation oncology technologies. In third quarter, we reported a net loss attributable to stockholders at $9.2 million or $0.13 per share. For the second consecutive quarter Accuray was cash flow positive. Derek will give the full explanation of our cash flow in a few minutes. Turning now to the global sales environment, we see areas of strength and areas of challenge. We’ve grown strongly in Japan and Japan is now become the first international market to install more than 50 Accuray systems with a nice balance between our 2 technologies. Going forward, we expect CyberKnife sales in Japan to benefit from the increased payment rate to the Japanese Ministry of Health introduced on April 1 in recognition of CyberKnife motion management capability. EMEA and APAC have maintained the momentum of prior quarters. In the U.S., we have seen inconsistent results between territories. We therefore realigned the sales force in recent weeks to leverage the best practices of our most successful sales teams. We remain conservative in our outlook for the U.S. as the environment is still cautious, but we expect to see the benefit for the realignment over the next several quarters. Accuray continues to benefit from Siemens announcement to exit from the radiation oncology market. Accuray’s agreement with Siemens remains in place, despite the recent announcement by competitor. During the third quarter, Accuray added into backlog 2 additional contracts from previous Siemens customers replacing old Linac with Accuray technology. While corporate sales arrangement with Siemens remains intact, we continue to believe, it is our customer relationship rather than corporate relationship that drives sales. Our team is very focused on demonstrating to customers, the significant benefits of our technologies over the more traditional competitive systems. In line with our commitment to clinical data, which differentiates Accuray, we have recently announced a landmark study in prostate cancer treatment. The PACE study is a multi-center, randomized study that will compare the outcomes of CyberKnife prostate SBRT in terms of efficacy, toxicity and quality of life to da Vinci prostatectomy, manual laparoscopic prostatectomy and IMRT. There are already 14 peer reviewed studies involving more than 700 patients demonstrating the long-term effectiveness and quality of life benefits of the CyberKnife System for the treatment of prostate cancer, including the preservation of sexual function. The PACE study is intended to create the first comparative evidence to support CyberKnife as a gold standard for the treatment of organ confined prostate cancer in a field currently dominated by surgery. We remain committed to a long term growth strategy on both of our products but we are confident it will create significant value to our shareholders. This strategy includes creating innovative next generation technologies backed by IP protection, expanding clinical acceptance as we’ve done with CyberKnife treatment of prostate and other forms of cancer and increasing our market penetration through cross selling opportunities and geographic expansion into some of the world’s fastest growing markets. In addition, we will use this clinical data to continue to drive that future development, yet another differentiator between Accuray and its competitors. Let me summarize the 4 key points from our third quarter. First we continue to see healthy growth in our installed base, which has grown 14% year-on-year, thereby growing our service revenue. This growth has come from capturing new customers. Secondly, we continue to make progress against our integration milestones, which are proceeding on or ahead of schedule. Third, we are maintaining our revenue guidance for the fiscal year. And fourth, we remain on track to return to profitability by the latter part of our next fiscal year ending in June 2013. With that, I will turn the call over to Derek.

Thank you, Euan. Today, I will be reviewing our non-GAAP results which we believe are most representative of our ongoing core business operations. If I refer to GAAP results, I will specifically say so. In our press release announcing our results for this quarter, we provide details of the adjustments between GAAP and non-GAAP results. We also provided pro forma results for the 3 and 9 month periods ended March 31, 2012. Unless stated otherwise, all results for prior year periods represent the combined total of the results reported separately by Accuray and TomoTherapy as stand lone companies, excluding expenses related to the acquisition that were incurred during these periods. Results for Q3 indicate that we remained on track. We’re ahead our expectations to achieve the integration milestones we identified when we agree to acquire TomoTherapy. For the third quarter and first 9 months of fiscal 2012 total revenue was approximately unchanged from the prior year despite an increase in service revenue. This was caused by a number of factors. Prior to the acquisition Accuray and TomoTherapy accounted for warranty, training and installation services differently. We defer revenue for warranty, training and installation services included in the sale of a system whereas prior to the acquisition TomoTherapy recognized the full product contract price as product revenue, when the system was shipped or installed and accrued the cost of warranty training and installation services to be provided after the shipment or installation. As a result, during the first 3 and 9 month period ended March 31, 2011, TomoTherapy recorded approximately $3 million and $11 million more product revenue for TomoTherapy systems sold then we would have recorded in the same period respectively. We’ve recognized deferred service revenue as warranty services are provided over the term of the warranty. These changes in accounting practices will not impact product revenue in fiscal 2013. In addition, in the third quarter of the prior year, we earned approximately $1 million of revenue from constructing a customer's vault but recorded no such revenue in the third quarter of this fiscal year. Finally, the average product revenue recognized per system through the first 9 months of fiscal 2012 was also impacted by an increase in the deferral of revenue for systems sold with extended payment terms and changes in product and customer mix. We have not seen any fundamental change in the selling prices for our products in the markets we serve. Service revenue in the third quarter grew 19% from the prior year due to a combination of factors. The installed base of both CyberKnife and TomoTherapy systems increased a combined 14%. The average revenue for TomoTherapy service contract has increased modestly due to 2 main factors. After the acquisition, we implemented a policy of not discounting service contract pricing. In addition, in November 2011, we introduced new service contract offerings on the TomoTherapy product line, which provided different service provisions and were sold at higher prices more in line with industry norms. Revenue increases from these new TomoTherapy service contract offerings are not yet significant. In addition, in prior years we implemented price changes on CyberKnife service programs. Contracts at these higher prices are now increasing average revenue per CyberKnife service contract. Overall gross margin in the third quarter of fiscal 2012 decreased slightly to 38.6% from 39.4% in the same quarter the prior year due to a decline in the product gross margin, which was partially offset by a significant improvement in the service gross margin. Our products gross margin of 53.5% in the third quarter of this year was down from 57.7% in the comparable quarter last year due mainly to the sale of 2 TomoTherapy mobile systems. Price charge for the mobile trailers that accompanied these systems was approximately the same as their cost, bringing down the overall margin. The service gross margin of 16.1% in the third quarter continued our strong record of improvement, up 3.8 percentage points from the prior quarter and 11.7 percentage points from the comparable quarter of the prior year. This was the third consecutive quarter of improving service gross margins, reflecting the significant improvements that we have made the reliability of TomoTherapy systems already installed at customer sites. Our upgrades of systems already in the field will continue throughout this fiscal year and we are completing these upgrades more efficiently and at lower cost than we originally anticipated. Our service gross margin will continue our trend of ongoing improvement throughout fiscal 2013, exceeding our 10% target during the fourth quarter of fiscal 2012 and leasing 20% or better during the fourth quarter of this fiscal year. We continue to manage operating expenses prudently. Sales, marketing and G&A expenses are down by $3.4 million from the third quarter of the prior year, which reflects the progress we are making in realizing operating expense synergies from the combination of the 2 companies. This enabled us to expand our investment in R&D by $6.7 million from the prior year quarter to support our continued development of new technologies for both our CyberKnife and TomoTherapy products. We believe these investments will be instrumental in helping us further develop our technological advantage and grow revenue and profits from the sale of systems and service contracts in the future. The net loss attributable to shareholders in the third quarter was $9.2 million or $0.13 per share compared to a loss of $3.6 million or $0.05 per share during the same quarter last year. During our third quarter, cash increased by $2.8 million. This was due principally to changes in working capital and lower-than-expected capital expenditures. We do not expect to continue to see cash generated from changes in working capital in the next few quarters. Cash at the end of the quarter including restricted cash totaled approximately $155 million. We expect that non-cash expenses such as depreciation and amortization will offset in varying degrees cash required for capital expenditures in Manufacturing and R&D as well as for working capital to support revenue growth. Therefore our transition to profitability in the latter part of the fiscal year ending June 2013 is the key to sustained positive cash flow for Accuray in the future. We maintain our guidance that revenue will be in the range of $400 million to $415 million for fiscal 2012. For GAAP reporting purposes, we expect that $9 million of revenue related to purchase accounting adjustments will be recognized in fiscal 2012, bringing GAAP revenue to the range of $409 million to $420 million for fiscal 2012. As Euan noted, we anticipate that R&D expenses will be maintained over the next several quarters. We also anticipate somewhat higher spending in sales and marketing during this period, as we pursue increased bookings of new orders. We reaffirm our belief that Accuray will return to profitability on a non-GAAP basis during the latter part of our fiscal year ending June 30, 2013. I will now turn the call back to Euan.

Thank you, Derek. As we discussed during the third quarter, Accuray remained on target to achieve the 3 milestones established for you to measure our success. We are on track to achieve our revenue guidance and maintain a book-to-bill ratio, greater than one. Our 16.1% service gross margin is ahead of this year’s projection and helping to create a profitable service business. We are on track to return the company to profitability by the latter part of fiscal 2013, ending June 30 2013. And with that we’ll now be happy to take your questions.

[Operator Instructions] Your first question comes from the line of Tycho Peterson with JP Morgan.

It’s Evan Lodes in for Tyco. Can you talk first about, if you expect book-to-bill to be over one for the year as a whole or does that only account for the fiscal fourth quarter?

Yes, we are expecting the book-to-bill ratio to be over one for the full year.

Okay. And then in terms of the product gross margin, there has been a lot of focus on the service gross margin, but can you give us some color on the product gross margin, how we should expect that going forward. And then within product any mix color between Accuray and legacy Accuray, CyberKnife and Tomo approach would be great.

So the product margin has been fairly steady through these quarters and, as I said, we did have some of these mobile units, which essentially similar to the vault construction include a mobile vault, if you will. We don’t make any money on that to speak of, but other than that, the margins have been fairly steady and we would expect them to be reasonably steady in the future. There is always some variability quarter-to-quarter, but not anything that I would think of as significant. And in terms of the profitability of the 2 products, historically there has been slightly higher margins on the CK product line than the TomoTherapy product line, and that might continue for a while.

Your next question comes from the line of Steve Beuchaw with Morgan Stanley.

This is Bill Carlile in for Steve. And so on the Siemens dynamic, could you go into maybe a little more detail on how the software dynamics are working there, particularly with regard to the variance Siemens agreements that’s now in place? Are you guys any more or less able to take replacement vaults now that they have a little bit more joined together business?

I would say no change. The software issue is obviously -- is their approach to gaining Siemens customers, it doesn’t impact our approach. Our approach is to really get in front of the customer themselves and explain that our products offer significant advantages over what are fairly old architecture systems -- [indiscernible] based systems, and we continue to do that. So the corporate relationship we have with Siemens remains intact as I indicated. The focus for us is certainly to work that to some extent but also to focus primarily on our contacts with customers. They in the end make the decisions.

All right. And on pricing you guys have mentioned broadly pricing ASPs were flat, I think across geographies. One of your competitors had highlighted an increasingly price aggressive dynamic in the United States. And I was wondering if there is more pressure in certain geographies than others with maybe a little offset?

There has really been no change, as I think Derek indicated and I think when I look globally at price pressure, I think the biggest price pressure tends to be in the emerging markets and we don’t really have products for large scale sales into emerging markets. That is a battle that is fought for the lower end of the technology spectrum and our products tend to be the premium products that are focused on more developed markets. So overall, I would say no macroscopic changes in pricing, no competitive elements forcing pricing changes. We really sell our systems based on their technological advantages, when people recognize those, I won’t say there is no price negotiation, but it’s not really as much of a competitive price dynamic.

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

Just a couple on the PACE study that you initiated and I wondered if you could share with us specifically when enrollment begins on that study and what are the major time hurdles where you’ll accrue and publish data over the 10 year horizon?

Sure. So the study has begun enrollment at the Leeds Center in the U.K., the Royal Marsden Hospital and we’ll expand to other centers. We have some centers going through their review board and they will be the first to bring -- to start enrolling patients in addition to the Royal Marsden. We also have a actually a fairly large number of centers both in Europe and actually in the United States as well. And who are going through the early stages but as given us the verbal commitment they will enroll patients. In terms of milestones and timelines the overall the study needs to accrue still over a 1,000 patients we don’t really want to the too detailed of timeline on that you could think of it in terms of 2 to 3 years probably for total accruals to be completed, but that doesn’t mean 2 to 3 years prior and before any data comes out. First group of patients -- cohort of patients that's some reasonable number you would expect the early census to think about publishing sort of early information about say, side-effects and acute impacts of treatment. So that could happen within a couple of years.

Okay. And then the R&D ramp sequentially, was any related to the commencement of PACE and from this level that you recognized in the quarter, what do we expect for R&D expenses?

There was nothing in the quarter related to PACE. I think as Derek indicated, you can think about this level carrying on. We don’t have any anticipated dramatic increases in R&D expenditure, but we are, we recognize significantly up over prior quarters and we want people to be prepared for, for that level to increase. The key is that we’re, I think that we are extremely excited about the rate at which we’re developing new technologies and we’re very bullish about the impact of those technologies once they are released.

Just to clarify Anthony, we expect that level of R&D spending to be -- remain at that level for the next several quarters.

Great and then last one from me is, you mentioned in the release and your prepared comments, Euan, about the sales force realignment and in last quarter you had sort of a Tomo shifting pattern seem to impact product sales to an extent. So I am wondering what was the impetus behind having to realign the sales force and where specifically were you are seeing weakness and of all the changes you have made, how do you see that sort of benefiting the overall business going forward?

I am not sure about the comment you made about TomoTherapy System, but I’ll address the -- sort of the global sales environment and perhaps our -- and how our sales force is aligned with it. I think the environment to selling 2 products versus one product, when we went through the acquisition was different in different parts of the world. In distributed territories preferred mode of operating was to maintain both distribution channels, and that’s proving to be very effective. So, as we indicated Japan, is actually doing extremely well, APAC and EMEA maintaining the momentum. In the U.S., we had a merged, combined direct sales force selling 2 different products. I think you can take this realignment as an indication that we’ve -- we’re really learning what works and what doesn’t work. We've seen territories where we are having success in selling. We got certain other territories in the United States where we’re seeing less success. And the purpose of the realignment is really to replicate success across the entire U.S. market. And of course, the boundaries on expansion of sales in the United States are sort of the macroeconomic environment, however, even with those constraints in place we were seeing differences which we felt gave us opportunity to improve in certain of the underperforming territories. So we’ve got in place now. We’ll have approximately the same number of people, it’s not a reduction. We are aligning teams which replicate the successful territories, and there are teams of people with different skill sets who are brought in at different times in the sales process, and I think it reflects how much we’ve learned over the past 3 quarters.

Your next question comes from the line of Charles Croson with Sidoti & Company.

Okay. The first one on the -- if we can just kind of talk about where were some of the purchase orders are coming from, where these key wins coming from a day, they largely newer customers and I know direction, I know you don’t break this out some numerically, but if you can give us directionally, which had stronger orders, was it the CyberKnife or TomoTherapy device?

So, we don’t break out the orders between products, but I can say that and I think as we’ve indicated before where we’re particularly pleased with the way in which the TomoTherapy system orders are tracking. In terms of geographic mix I think we’ve sort of covered that. Overall, I would say the EMEA tends to be a very strong performer for us. We are very pleased with the progress we’ve made in Japan and APAC is certainly there as sort of a stalwart as well. So those are the real strengths. The type of customer I would say hasn’t changed very much. Concerning [ph] The U.S., we are focused still on the hospitals rather than the free standing centers. Internationally, we are very successful at the larger centers, but also at the smaller centers as well. Centers generally internationally tend to be larger than the U.S. You then tend to get the small independent standalone free standing vault so much in the U.S. So none of those dynamics I would say have really changed during the last quarter or 2.

I see, okay. And then just the cross selling opportunities, have you really seen -- got the sales force trained on cross selling both of these and have you seen a pretty good improvement with that and what you think that might do going forward?

Yes, they are definitely there. Now those types of sales that resulted from cross selling are not necessarily quick wins. They still -- people still have to get budget together and get to know the product. So we are definitely seeing an increase in activity. We have had some wins from cross selling and we’ve had some very good indicators that our customers there that will in fact buy the other product. So there is definitely a lot of activity there, I would say that will probably be something that feeds us into next year.

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

It’s Marie Thibault for Sean Lavin. Congrats on the improvement in the service gross margin. I recall last quarter you said that as a result of the field upgrade to the Tomo Systems, there could be lumpiness in that metric from quarter-to-quarter. I just want to confirm. Should we still expect some lumpiness there or in the near term or will it be more steady improvements as we’ve seen over the last few quarters.

I think there will be some lumpiness in the amount of the improvement but overall I think you can expect this trend to continue. I think it’s been a real success story for us so far and all the indicators are that, that should carry on. We are very pleased and I think for those of you that have had feedback from customers I think you’ll find increasingly that customers are recognizing that and we would attribute some of that recognition of the improving reliability of TomoTherapy systems to sort of on-going sales success of that product line.

Okay. Great and I am just curious to hear a few more details on the strong growth you mentioned at Japan. Was it a recent ramp in order growth and do you think this increased payment that came on April 1 is going to have a near-term impact on order growth in the country?

As you probably know, nothing in Japan happens at lightning speed. So we don’t expect it to impact things overnight, but I think we’ve generally found that we’re just steadily building momentum in Japan. We released the G4 CyberKnife product. We’ve had a focus now on an increasing number of clinical applications. We are seeing increased use of the Stereotactic Body Radiotherapy throughout the body, which is slow and steadily increasing demand. We have formed now a very good relationship from a sales standpoint with Hitachi, our TomoTherapy distributor in Japan. They seem really engaged and hardworking. And so overall, I think we’re just seeing a very solid foundation, and it’s already starting to impact sort of new orders. So when we compare it year-on-year, and I think we feel, we feel pretty positive about the way the Japanese market is going for us right now.

Your next question comes from the line of Junaid Husain with Dougherty.

Yes, Derek on the gross margin line, is there any way that you can help us things grew just the -- just the TomoTherapy service margins in the quarter relative to the prior year period?

In turn, well, we’re not breaking out the product lines, but are you looking at the TomoTherapy service improvement?

Correct.

So the TomoTherapy service improvement has been following along the path that we had laid out, which was basically to take it from where we inherited it at the end of calendar 2010 minus 47%, our goal was to get it to 0, or slightly above 0, to hit our 20% target by the fourth quarter of fiscal ‘13. We still feel that we’re on track for that to at least achieve that or beat it. So we certainly think that we’re on track for hitting those numbers for the TomoTherapy service business.

It becomes slightly harder to break out one particular product line, as we bring the 2 service teams together, because they are shared overall resources and costs and so on, and we do now have a certain number of service engineers even servicing both product lines. So it becomes a little harder to break it out. I think the data that we’ve given, which should help you is the data we showed last quarter, which is up our slide set again today, which shows the cost of servicing a new TomoTherapy system compared to the cost of servicing the overall installed base. And that compares with the cost of the CyberKnife, so you’ve got there to the 3 pools of machine that you can use for a relative comparison.

Got it, that’s helpful. And then with regards to the higher installed base, I know your engineers have been looking at ways to improve the reliability of the machine and freestanding centers. Internationally, we are very successful. At what point, do you retrofit the higher installed base within the new Linac and have you already started

Yes, so we will slowly put those new Linacs into the installed base. Obviously our priority is to make sure we have enough of those new Linac accelerators to go into all the new systems we ship. With the surplus in capacity that’s starting to arise, we will actually start to feed those into the base. On the radio frequency, the radio frequency upgrades that we talked about a couple of quarters ago is now completed that was a cost that we incurred to actively upgrade the installed base with a related improvement.

Okay. And then Derek could you tell me what’s the - the [indiscernible] accelerator -- what’s your cost utilization currently are you basically selling everything you make there? Or taking the old Linacs and putting on every [indiscernible]?

So the new Linac from our Twin Peaks facility has been on every new system we produced since the beginning of calendar 2011. We are also then now getting productions to the point where as Euan mentioned we have some capacity to handle service replacements. So all new systems from 1 year and a quarter ago forward, has the new Twin Peaks Linac.

At this time, I show no questions in the queue.

Okay. Thank you for joining us on this afternoon's call. I want to take a moment to acknowledge Accuray employees for their continued dedication to success and to a continued focus on improving the life of cancer patients globally. We look forward to speaking with you on our next call.

Ladies and gentlemen, this concludes today’s conference. Thank you for your participation. Have a wonderful day.