Ladies and gentlemen, thank you for standing by, and welcome to the Q1 fiscal 2020 Accuray Incorporated Earnings Conference Call. [Operator Instructions]. I would now like to introduce your host for today's conference call, Mr. Doug Sherk. You may begin.

Thank you, Kevin, and good afternoon everyone. Welcome to Accuray's conference call to review financial results for the first quarter of fiscal year 2020, which ended September 30, 2019. In addition, during our call this afternoon, management will review recent corporate developments. Joining us today are Josh Levine, Accuray's President and Chief Executive Officer; and Shig Hamamatsu, Accuray's Senior Vice President and Chief Financial Officer. Before we begin, I'd like to remind you that our call today includes forward-looking statements that involve risks and uncertainties, including statements regarding our fiscal 2020 guidance, including factors that could affect such guidance, expectations regarding market conditions in China, expectations related to new product shipments and future business plans and strategies. There are a number of factors that could cause actual results to differ materially from our expectations, including, but not limited to, risks associated with the adoption of the CyberKnife, TomoTherapy and Radixact System's commercial execution; operationalizing the China joint venture and overall strategy in China; timing of China user license issuances and tenders, the company's ability to take advantage of the issuance of such licenses; future order growth; future revenue growth; profitability and macroeconomic factors outside of the company's control. These and other risks are more fully described in the news release we issued just after the market closed 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 to reflect actual performance or results, changes in assumptions or changes and other factors affected forward-looking information, except to the extent required by the applicable securities laws. Two housekeeping items for today's call. First, during the Q&A session, we request the participants limit themselves to two questions and then requeue with any follow-ups. Second, all references we make to specific quarters in the prepared remarks are to our fiscal year quarters. For example, statements regarding our first quarter referred to our fiscal first quarter ended September 30, 2019. Now I'd like to turn the call over to Accuray's President and Chief Executive Officer, Josh Levine.

Thank you, Doug. Good afternoon, everyone, and thank you for joining us on today's call. Accuray's Q1 performance represented a reasonably solid start to our fiscal 2020. As we shared with you during our year-end earnings release in late August, we expected fiscal 2020 to be characterized by revenue growth, primarily occurring in the second half of the year due to timing of China Type A license issuance and revenue recognition, and we believe that projected timing is still valid. First quarter gross orders exceeded our internal plan, and revenue was in line with our plan for the quarter. Gross orders were $78.5 million, representing a 28% growth over prior year first quarter. Order growth was primarily driven by our CyberKnife System, while Radixact maintained strong momentum representing over 60% of the total orders for the quarter. Geographically, in fiscal Q1, our EMEA and AMS regions were meaningful contributors to gross orders, and we continue to see strong order growth from China, which contributed 11 new systems, 9 Type A and 2 Type B. On the revenue side, revenue for the quarter was $89.6 million, which was in line with our internal plan expectations. Turning to significant highlights. On October 9, the China National Health Commission announced the first round of Type A radiotherapy license awards for hospitals who had applications in the system for equipment. Of the 58 licenses that were awarded, 50 of them were for Accuray systems with TomoTherapy/Radixact Systems representing 60% of the awards, and CyberKnife Systems, the remaining 40%. We need to remember that the process identified by the Ministry of Health requires a tender process following the license awards for all participating end-user hospitals prior to being able to take receipt of a Type A device. This tender process has been put in place…

Thank you, Josh, and good afternoon, everyone. I will start with some detail on our gross order performance for the first quarter and then focus on certain highlights for the period. As Josh noted, gross orders for the first quarter was $78.5 million, up 28% over the prior year period. On a regional basis, orders in Americas approximately doubled compared to the prior year with South America being the largest contributor. The Japan and APAC each grew at healthy double-digit rates over the prior year period. Within APAC, orders in China were $24 million compared to $11 million during the first quarter of last year. Orders in EMEA were a meaningful contributor to our Q1 gross orders, but down compared to the prior year period due mostly to the customer timing. From a product mix perspective, CyberKnife contributed approximately 40% of total gross orders in Q1, which was an increase from 15% of gross orders in the first quarter last year. The TomoTherapy platform led by Radixact accounted for approximately 60% of the gross orders during the quarter. Net age-outs for the quarter were $35.9 million, consistent with the forecast we provided during our fiscal 2019 fourth quarter call. As we expected, more than 40% of this total came from China. We continue to believe that a meaningful number of the orders from China that aced out during the past 2 years will eventually convert to revenue. The 50 Type A licenses recently awarded to hospitals for Accuray systems included several systems that were aced out of our backlog as of September 30, 2019. During the first quarter, we also recorded $3.6 million of cancellations and other adjustments. As a result, on a net basis, we generated $39 million of orders in the first quarter. We ended the first quarter…

Thank you, Shig. Operator, we're now ready to open the line for questions.

[Operator Instructions]. Our first question comes from Josh Jennings with Cowen.

Bryan here for Josh. With respect to being named in 50 out of the 58 Class A licenses, can you share how that compares to the level of participation you originally assumed?

Our reference point for original assumptions really has to go back to where we were during the period of time roughly 2.5 or 3 years ago when the government was still actually issuing licenses for Type A radiotherapy products. And if you go back to that stage, we were operating at a place where we were -- - we had a win rate of roughly low to mid-80s kind of wins across both platforms. So this is very consistent with where we were in that prior period of time, and we're pleased -- very pleased with what ultimately now has become visible with regards to license awards starting to flow. I think the other thing in just -- in addition to overall win rate, the fact that it's balanced across both platforms, we think, is another good indication of how important our products are to the more academically-oriented medical centers and the larger public hospitals there in the local market.

Great. And with respect to the guidance, can you clarify what percentage of the total opportunity associated with these 50 Class A licenses that you expect to impact revenue in the fiscal fourth quarter?

Yes. This is Shig. I obviously can't be very specific about it, but I'll characterize that as a modest amount of Type A revenue in the fourth quarter in the guidance number based on awareness back in August when we provided original guidance, how many license applications for our system have been turned in. We obviously have a great news of the 50 licenses won, which is really higher than what we had expected, but we have not really built in any incremental units from that good news that received into the guidance at this point because of the tender timing, which is still uncertain that you heard about. So all we want to do right now is, we want to see the pace of that tender process play out before we make any revenue forecast revision.

Okay. Great. And then just last one on the tender process itself. Just can you speak to Accuray's capacity to deal with multiple processes at once?

When you're referring to multiple processes, I'm not sure that the tender process is -- the interaction there is basically between the end-user hospital and TomoKnife, our distributor, who you know, as we've stated in prior discussions, we've basically involved in a transition kind of a format as they're winding down and the JV is winding up. So the primary interactions for those -- the tender process will be TomoKnife directly with those end-user hospitals, but I think we stated on prior year-end call in August, we have inventory staged, we have a high degree of readiness relative to once the tender process is complete in a given hospital situation, once they are ready to take receipt, we have the ability to shift and be active at that, hit the ground running, so to speak, right from the beginning.

Our next question comes from Anthony Petrone with Jefferies.

Congratulations on the traction in China. And maybe to start there with a few questions, just on exactly how this process plays out. And so in terms of license awards, should we actually be looking at the license award as essentially a precursor to a booking? So is that a good way to look at it? And then you mentioned last quarter, Josh, just in terms of Class B licenses, that's going to take a bit longer and part of that had to do with just the infrastructure that was in the process of essentially being put together to handle the tender process. If you can provide an update there, that would be helpful.

Yes. So Anthony, I think that the answer on the Type B discussion is essentially our Type B activity has been probably about 10% of the overall order activity that we've been generating in China. And again, as you've heard us talk about in the past, the primary focus for TomoKnife as they wind down the distribution relationship with us has really been on Type A. The primary focus for the Type B products will be the distribution network that the JV has established and the product longer term -- the product that's going to built in Tianjin at the facility that's now under construction with China Isotope & Radiation Corp. So the -- again in the reported numbers for the quarter, there were 9 orders on Type A, there were 2 on type B. And -- but I think, ultimately, we will start to see Type B start to ramp up more significantly as we get deeper into this. There are still -- if you go back to the number of orders or quotas that were established for Type A and Type B, you'll recognize that this is really just scratching the surface. I mean the orders or the awards that have been identified in this first round of award or licenses in the first round of awards basically were 1/3 of the total Type A licenses that were identified in the quota. And on the Type B side, there was a total of almost 1,300 licenses identified for Type B products. So we're really, really at early stages here, but we're pleased with where we're at in general. On the first part of your question...

Yes. Josh, I'm going to give a clarification. So Anthony, the 50 licenses awarded for end users, a vast majority of that is represented by the orders we had already booked into our backlog. I would say, as of June 30 last year, I mean, excuse me -- the past fiscal year, so 3, 4 months ago, because you might recall that the 50 licenses issued were related to the applications turned in at the end of July -- this past July. So vast majority of that 50 relates to the orders we already had in our books 3, 4 months ago.

Okay. That's helpful. And then one quick follow-up, if I may, just America orders nearly doubled. Obviously, there was concern on the CMS radiation oncology bundle. It doesn't look like at least from the reported results so far that there was any hiccup or impact to orders. So any update on what you -- what Accuray is hearing around the RO bundle and the lack of impact in the quarter? Or what the expectations are in terms of implication for orders going forward?

Yes. Anthony, it's a great question. I think you'll remember the conversation we had in Chicago during the IR event at ASTRO. And our view then and our view still today very consistently with what you heard from us already is that we actually think that we are, from a portfolio standpoint, very, very well positioned to deal with the alternative payment model situation. In general, from a directional standpoint, we believe that what will happen over time is you will see people that have been more predisposed to look at IMRT with greater number of fractions historically, they will be encouraged to move to SBRT-related treatments, probably using either moderately or ultra-hypofractionated treatment plans. And we think that favors our product portfolio, both platforms really strongly. So we've seen no negative overhang, if you will, or no negative feedback at all from customers relative to the APM announcement. And we're still bullish on longer term on our positioning from a portfolio standpoint related to that.

Our next question comes from Brooks O'Neil with Lake Street Capital Markets.

I want to just zone in on China a little bit more. I have really 2 questions. Obviously, we've been talking about your disproportionate market share of Class A licenses so far for a number of years, but if you could just remind us why your competitive position is so strong in China right now? And then obviously, the next phase is going to be this tendering process and I'm curious if you could shed any light on whether the joint venture you expect that to be a positive force in getting through the tendering process successfully? Or how do you view that right now?

So Brooks, the Type A discussion really goes back to the company's roots or the early days of both product platforms, both on the CyberKnife side and on the Tomo side. Both platforms had been very distinctly focused on larger academic medical centers. There was a significant amount of work in the early days done in building relationships with key opinion leaders across both of the technologies. If you remember some earlier conversations we've had, essentially we had in addition to academic medical centers with strong KOL endorsement, we had a very strong position in the PLA Military Hospital channel and the reason for that was that -- if you go back 10, 12 years ago, those hospitals were from a budgetary standpoint. Essentially, they had open checkbooks. They had the best equipment you could find in the best technologies you could find across all the categories, and they were rarely, if ever, constrained from a budgetary standpoint. So you found a disproportionate number of the most important military hospitals and academic hospitals with both CyberKnife and TomoTherapy devices, really well represented in both of those customer profile types. We did some market research early on after I got to Accuray and one of the interesting things that we found was that, for a company of our size, given the market share we had, the brand awareness statistics and data from the market research that we did said that the awareness, both at the -- on the clinical side of the world, but also in a more general sense, population wise, was disproportionate. Awareness of our products and brands were disproportionate to our size relative to market share, which I thought was very interesting, and I think that, that has continued to play itself out. When you think about where high-ranking government officials in China where they go or where their families go for treatment, they end up in PLA military channel hospitals or they end up in the large academic centers. And so there's a high level of awareness across the MOH and the health care side of the government from a public health policy standpoint. High level of awareness about our products to this very day that we think is an important kind of a foundational aspect or foundational advantage for us, given our positioning. So that I think is kind of the answer to the first part of your question.

Yes.

The second part is really around the tendering processes as you asked about and the JV, the JV infrastructure will be assisting in some of the tender process, but I'm not believing that they're going to take the primary leading. I think that our existing distributor, TomoKnife, is because they have the relationships with the hospitals that have received the Type A licenses, they actually assisted those customers in application process, getting themselves in the queue for Type A licenses, they have the strongest relationship and working background with those accounts. And I think that they're -- as a consequence, they're better positioned to support the efficient negotiation, if you will, or process management related to the tendering. And I know, while it sounds like there's a lot -- if you look at 50 different accounts, it sounds like a lot, but the bottom line is, I don't think we've got a big concern that there are going to be challenges to that tendering process in terms of infrastructure support and focus. I mean the TomoKnife guys, as you might imagine, are 110% focused on ensuring that those licenses get or the tenders get completed, and so that they can put themselves in a first available position, if you will, to be able to receive a device.

That's great. That sounds like there's a high probability you can get those things across the goal line, which is fantastic.

Yes, I would agree with that assessment.

[Operator Instructions]. Our next question comes from Tycho Peterson with JPMorgan.

This is Eleni on for Tycho. Going back to your questions on China, can you maybe just talk about why your expectations on the time line for the tendering process have changed with revenue recognition pushed out to your fiscal fourth quarter? And then what is the initial pacing and cadence we should expect, given the pent-up demand and how rapidly could you respond once the tender -- tendering process concludes?

So Eleni, I would -- let me just kind of start by saying, I don't think our expectations or our view of the timing related to revenue impact in this discussion. I don't think they changed really at all. I think if you go back to our prepared remarks and some of you what you heard from us in Q&A over the last couple of quarters, the one thing we've been pretty consistent about is that every time we've tried to make grand predictions about timing related to China, we've been wrong, we've been disappointed. And so if anything we've taken a stance that says, and I think it's been consistent over the last several quarters, we're going to take the long view on this. We're going to be conservative about it. And if things happen in a more rapid fashion, that's terrific, there's upside there. But -- so if you go back to, again, remarks from the prior earnings call, we said that we expected the -- between the timing of the license awards announcement and the tendering process, we were expecting that there was going to be impact -- revenue impact late in our fiscal year, it was difficult to predict or near impossible to predict with any precision how much revenue impact and that's -- this still kind of where we're at, at this point. The good news is we have today prior to the end of the calendar year, we've got license awards that say that we've been a disproportionate winner, if you will, in the selection in Type A equipment. That's the good news. The challenges that we still have some activities, process wise that have to be worked through, the tendering piece specifically, again, I don't -- we don't have any information or any…

Okay. And then can you talk about the give and take on guidance? Believe you previously included some assumption for tariffs on 150 basis points top line headwind and then also 150 basis points gross margin headwind. So just wondering how you're assuming given the tariff exemption.

Yes. So we had a discussion and some review internally on this topic, Eleni, and we basically -- we put a press release out, I think, in early to mid-September, you'll probably remember, that we said that we expect to benefit from the tariff exemption, that has not changed. We do expect to benefit from the tariff exemption, but we are waiting for final clarification from the Chinese government on our exemption status. I think we've got a very high degree of confidence on the Tomo-Radixact products. I think again because the CyberKnife is a little bit different animal than a conventional linac, we wanted to make sure that we had confirmation -- full confirmation from the government that the CyberKnife has -- will achieve the same level of exemption status that we're expecting on the Tomo-Radixact products. And until we have that clarification in hand, we think it's premature to change the guidance situation. Your estimate though of about 150 basis points is in the ZIP Code range of what that benefit should be once we have clarification.

I'm not showing any further questions at this time, I'd like to turn the call back over to Josh Levine.

Okay. Just want to thank everybody for participating today. Look forward to speaking with you again in January when we attend the JPMorgan Annual Healthcare Conference and report our fiscal 2020 second quarter results later in that month. Thanks very much for your participation.

Ladies and gentlemen, this does conclude today's presentation. You may now disconnect, and have a wonderful day.