Greetings. Welcome to the Varex Third Quarter Fiscal Year 2021 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note, this conference is being recorded. I will now turn the call over to your host, Howard Goldman. Please go ahead.

Good afternoon. And welcome to Varex Imaging Corporation’s earnings conference calls for the third quarter of fiscal year 2021. With me today are Sunny Sanyal, our President and CEO; Sam Maheshwari, our CFO; and Chris Belfiore, our new Director of Investor Relations. Before turning the call over to Chris, as many of you know, I will soon be retiring from Varex. I want to thank the Varex leadership team for the opportunity to Head our Investor Relations mission that began several months prior to our spin-off. It’s been an honor to work with all of you. Chris?

Thank you, Howard. Please note that the live webcast of this conference call includes a supplemental slide presentation that can be accessed from our Varex’s website at investors.vareximaging.com. The webcasts 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 third quarter of fiscal year 2021. In addition, unless otherwise stated, quarterly comparisons are made sequentially from the third quarter of fiscal year 2021 to the second quarter of fiscal year 2021 rather than to the same quarter of the prior year. 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 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 discuss 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 provided 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.

Thank you. Good afternoon, everyone. And please join me in welcoming Chris Belfiore to the team and Howard thank you very much for all your contributions over the last four years. We wish you all the best in your retirement. I’m pleased to report that sales momentum continued in the third quarter of fiscal 2021, with revenues reaching $211 million, driven by strong demand in both Medical and Industrial segments. Higher sales volume and continued execution on expense management led to margin and profitability expansion in the quarter. We continue to see strong demand for CT tubes globally during the quarter, as well as robust detector sales for both medical and industrial applications. In the third quarter, all medical modalities except dental returned to pre-COVID sales levels or better. Our revenues in the third quarter increased 4% sequentially, driven mainly by gains in the Medical segment. Revenues increased 23% year-over-year, by improvement in both Medical and Industrial segments. Our non-GAAP gross margin increased to 36%, due to higher volume and productivity, partially offset by unfavorable product mix. Our non-GAAP operating margin improved to 14% of revenues. As a result, non-GAAP EPS was $0.40 and exceeded the top end of our guidance range. Let me give you some high level insight into how different modalities and applications trended during the quarter. Medical segment revenues increased 7% sequentially and 22% year-over-year. The strong trend in CT tubes sales continued during the third quarter, enabling our already large installed base to grow further. Since many of the tubes were for new systems, it bodes well for our future sales related to replacement tubes. In our other medical modalities, oncology, fluoroscopy and mammography posted healthy potential growth, and are back to or above pre-COVID levels. We believe growth in Medical segments was driven in…

Thanks, Sunny, and hello, everyone. As a reminder, unless otherwise indicated, I’ll provide sequential comparison of our results for the third quarter of fiscal year 2021 with those of our second quarter of fiscal 2021. Varex continued to deliver strong results in the quarter and we saw solid demand across all modalities. For the quarter revenue was above the guidance midpoint and non-GAAP EPS was above the top end of the guidance range. Third quarter revenues were $211 million, an increase of 4% from the second quarter, medical revenues were 160 $7 million and industrial revenues were $44 million. But for both Varex in total and the medical segment, this is the highest revenue level in three years. This translated to 9% medical and 21% overall industrial sales. Sequentially medical sales grew 7%, while industrial sales declined 6%. The decline in industrial sales was due to the timing of shipments, which is more of a quarter-to-quarter aberration. Revenue levels in all three regions remained strong. Americas was down 7% sequentially, while EMEA grew 13% and APAC grew 6%. Let me now cover our results on a GAAP basis. Third quarter gross margin was 35% and up over 300 basis points sequentially from the previous quarter. Operating income increased $10 million compared to the second quarter and operating margin increased 400 basis points sequentially to 12%. Net earnings increased $9 million compared to the previous quarter and earnings per diluted share were $0.29 compared to $0.08 in the second quarter. Moving on to non-GAAP results for the quarter, gross margin was 36%, a sequential improvement of 150 basis points from the second quarter, driven by higher sales volume and improved productivity in manufacturing and service areas, partially offset by unfavorable product mix. Our gross margin has improved sequentially from 28% in…

Thank you. [Operator Instructions] Your first question comes from Anthony Petrone with Jefferies. Please go ahead.

Thanks and congratulations on strong quarter. Hope everyone is doing well. Maybe Sunny or Sam we can start with just sort of the dynamic between the underlying demand and maybe that’s mostly on the CT side in China and just your comments on the supply chain, it just seems that while on the one hand, we do have an elevated level of demand that’s perhaps linked to some level of backlog recapture out of the pandemic, there’s still some uncertainties on the supply chain. So maybe a little bit more details on underlying CT tube and component demand? And where you see the specific bottlenecks in supply chain and how do you think it sort of trends over the next 12 months? Thanks.

Hey, Anthony. This is Sunny. So we’re in a strong demand environment and at this point, it feel good about, as we head into Q -- to the fourth quarter and looking into next year, we feel good about the demand side. And the issues with supply chain are fairly similar to what you would have been hearing from other companies and that there’s two categories of supply chain issues, one, where just there’s a shortage of commodities. And we have been dealing with it for quite some time. I mean, you find sometimes coppers were -- there is a shortage of copper or furgo [ph] aluminum and castings. And it’s a daily discussion with suppliers and making sure we have a good handle on their delivery dates and what they’re doing. They understand our demand side and we’re placing -- we’re doing all the right things, placing appropriate orders and lead times, et cetera. And that’s what we’re battling and we’ve been doing that. But lately, semiconductor side has also become an issue. So the way I would summarize this is, there are supply chain issues that are broader than what we faced maybe a couple of quarters ago with more commodities, more materials and more suppliers that are every now and then becoming delinquent and we’re -- their shipments. And we -- but going into the fourth quarter, we have accounted for that and we have tried to deal with that. So we have visibility to our supplies, as we look forward to at least the next quarter. But as we look further out, we just sense that the risks are broader than they were a quarter ago. We’re managing our way through it. We’re doing all the things that we can. We are aligning up alternate suppliers, qualifying alternate sources. But I just wanted to highlight that we’re -- at this point, given the strength of the demand side, we’re not demand constrained right now in the near-term and we will continue to work the supply chain side.

It’s helpful. And just a couple of follow-ups for Sam, if we can get it in, the adjusted gross margin 36%, even with the supply chain issues, having an impact in the quarter. How much of that benefit was just sales volume related versus cost savings on Santa Clara? And then the last one for me would be on the R&D side, 9% of the higher sales basis was ahead of the recent trend. I’m just wondering is that linked to additional tenders or was it a pull-forward on other R&D initiatives? Thanks again.

Yeah. Thanks, Anthony. So taking your first question related to gross margin. Yes, definitely gross margin is benefiting from higher sales volume and it has continued to benefit over the last few quarters as we are increasing sales every quarter. So that is definitely beneficial. In terms of cost reduction and Santa Clara update, we have completed all of that migration or all the migration of manufacturing from Santa Clara to Salt Lake. That is pretty much, that is fully done at this point and we are benefiting, say, around $14 million, $15 million on an annualized basis. So that’s comes to around $3.5 million a quarter. So say 150 basis points. So that we are benefiting and that is fully flowing through the P&L at this time. I would say that, we have previously committed 100-basis-point gross margin improvement towards the end of this fiscal year. So around Q4 for FY 2021, related to streamlining our manufacturing and servicing activities. And I would say that, we are pleased to say that, we have achieved that a bit sooner. We have achieved that in Q3. So that was a very big factor in terms of productivity improvements a bit sooner than initial plan or initial commit and so that is benefiting gross margin so that was about 100 basis points. And the things that are hurting gross margin or what I would call it headwinds to the gross margin it’s clearly freight-related items, freight is continuing to run high. As you know there is uncertainty related to timeliness of ocean related freight and until all of that gets sorted out, those delays and those uncertainties, we are using a bit too much of what I call our air freight and either definitely more expensive. So, currently, freight is a headwind…

Thank you.

Your next question Larry Solow with CJS Securities.

Good afternoon. Thanks for taking the questions. Howard, best to luck to you, and Chris, welcome aboard. I just had two follow up on Anthony’s question on -- just on the supply chain constraints or whatnot. Just in terms of guidance, you mentioned that Q3 the mix is a little bit of a headwind or a little bit down. Just trying to parse out with your guidance for Q4, just at the high level, it seems like you need to get the high level of sales to kind of match the Q3 EPS with more or less just the supply chain concerns and trade concerns or is there any other issues just as we look sequentially from Q3 to Q4, that would great?

Yeah. So let me take this question. Sam here. Hey -- so -- yeah, in terms of Q3, there was a little bit of an unfavorable mix and that is really driven by less of an industrial sales as compared to the prior quarter. So that is what that related to. So, as you know, industrial is a higher margin segment for us. So that is…

Absolutely.

… not unfavorable mix there, okay. And then in terms of gross margin, I have shared with you that -- I shared with you maybe two or three, maybe even a year ago, that our gross margins when we get back to pre-COVID levels in terms of revenue, say, $205 million, $210 million or something like that, in that range, we are expecting gross margin 35 percentage plus minus, 1 percentage points, because we have different customer concentration, different product concentration and a number of other things, and things can move from one quarter to another, customer can…

Yeah.

… push out shipments. So we are still within that range.

Yeah.

In Q3 we came out at around 36 and we instead of guiding 35 plus minus 1, we are guiding 35 to 36. So compared to what we had set expectations on, I think, we are a little bit on the higher side there and there isn’t really nothing else beyond that at this time, Larry.

Okay. All right. Fair enough. Just maybe a couple of just questions in terms of China, you guys are obviously meeting or exceeding expectations that you’ve spoken about for years. Just trying to figure out, is there any sort of clarity, obviously, in terms of without getting into specifics, you’re doing 100 this year, sounds like more than 50% of that is from tubes. In terms of market share gains or not, I think -- and the players who are sort of serving their local OEMs, is it just Varex and Phillips, can you give us any more clarity or other GE, Siemens in there and the mix between you guys and Phillips, I don’t know if you want to speak to that. But are they enjoying the same kind of numbers that you guys are, I mean, how that greater visibility enough. Any color there would be great?

So, Larry, you can frame it -- I mean, one way to frame it would be, the local OEMs are gaining share in CTs in China, in aggregate, right? If we take all the local OEMs combined, where they were a few years ago versus where they are today vis-à-vis the local versus -- local OEMs versus global OEMs, the local OEMs have gained share. We have a very large share of those local OEMs consumption of tubes. So from our perspective, we’re gaining share in tubes in a very nice way in China and I feel good about that. So that’s on a very good path, good trend and these are all going into new sockets. So the market share position to keep growing and we’re bullish about that. On the detector side, I mentioned that, I am happy to say that, our detectors business has come back to the pre-trade war levels, where -- then we are -- remember a couple of years ago with the trade war hit we -- there were tariffs on both sides and we were hit by those and we pulled back in some areas some because we just couldn’t compete with extra costs. Since then our actions have allowed us to increase. But that has been broad-based. It hasn’t been in any one particular modality. Radiographic continues to be challenged with the pricing as we’ve talked about particularly in the China markets low end. But then there is dental, the oncology…

Yeah.

… the fluoroscopy and so our strength and growth in detectors in China has been broad-based. Now in terms of how we’re doing versus overall market share, my -- I’d say we’re keeping up with market growth rates better. But at this point, I would -- I am not in a point to call out how we’re doing versus others specifically. I was going to say that I am really happy with the progress we’ve made with detectors and…

Okay.

…and particularly, we’ve also seen a growth in industrial detectors in China.

Is there any way to tell other global OEMs outside of China. They still providing -- China has this whole, right? You should have local home growing equipment, but -- or GE and Siemens or neither mentioned name, there are other global OEMs still providing new equipment to the market or you have mostly, yeah?

Absolutely. The global OEMs have established, global OEMs are still selling in China. They’re still selling their CT systems and other modalities. Our revenues in China come mostly from the local players there. But also we also get our share of China sales through some of these global OEMs. But, yeah, they are there. There are still…

Yeah.

.. a significant player in that market.

Okay. And last question maybe Sunny for you while you took up the platform here. Just remember I look back I think it was in early 2018, you guys are continue -- you got the reduced tax outlook and you take some of that savings and yet to reinvest in the business and you did further investment into multiple price points on the CT, and CT machines in China and multiple different new detectors, and you certainly in the last couple of calls been calling out certainly on a qualitative basis, a lot of newer products coming out. And I think if I look back three years ago, you had spoken about, it should be, we should an acceleration in revenue as we look out sort of three years from now, some of these new product sort of start maturing from prototype to get into commercialization. I realize COVID and find the exact science. But you still kind of feel that over the next couple of years, we should see this acceleration of hopefully revenue growth that certainly have new product contributions?

Yeah. So we -- if you recall, we took some of the benefits from reduced tax rates and said we would invest in R&D. So we put in some additional money to R&D to accelerate development upon the new platforms. And what you’re seeing us talk about currently with our new Detector Platform, the LUMEN Platform, the Z Platform, the work we’re doing with photon counting. There have been a number -- we accelerated some of that work. I mean those products would have been otherwise, would it be longer to bring to market. So we are expecting future growth out of those products and we -- I think we pulled in the launch of those products by taking those earlier investments. There were also investments that went into supply chain qualification validation to set up our presence in China and you’re seeing some of that play out in the form of our growth in China. The China CT was a growth in across multiple tiers, the 16 slices mid-tier high end. And so we invested in -- heavily in the segments that we thought would play out the best in China. I’m happy to say that our assessments and the feedback and input that we got from our local OEMs has served us well and we’re hitting the sweet spot of the market. It was going to be 16 slices for mass adoption and that’s how it’s been, there has been tremendous growth there. And going forward, as I said, we are expecting in addition to ongoing new socket sales and penetration of CT, there is going to be -- and has already begun wave of, we’ll see the early 16 slice CT systems get replaced by 64, 128 slice CT is the more feature rich ones. And so all of that, I’d say, Larry, has been enabled by us being at the right place at the right time with the products and that’s where otherwise we would have probably had a more muted success in China.

Fair enough. Great. Thanks for the color. I appreciate it.

Operator? She lost her connection. Yeah, hey, our operator loss her connection. She is getting back on. So just hang in there. There is additional questions, please hold for a second.

Ladies and gentlemen we do apologize for this technical difficulty. I’ll move onto our next question, which is coming from the line of Suraj Kalia with Oppenheimer. Please proceed with your question.

Hi, Suraj.

Good afternoon, Sunny, Sam. Hope you’re well. Congrats on the quarter.

Thank you.

Thank you.

Hey. So, Sunny, a lot of questions have been asked. Maybe if I can just phrase it differently. Sunny the demand, obviously, if there is demand and the supply issues that you talked about. On the demand side, is the pickup, I mean, it just seems like Varex is moving into the next gear? Is the demand pick up more sort of catch up in nature or are you seeing any structural changes that would be more durable, so to speak, and I’m not talking about two quarters, I’m talking more multiple, multiple quarters?

Yeah. So it’s a function of three different vectors. There is a little bit of a catch-up that there was -- in modalities where there was some pause. For example, there was a quarter where we had lower sales in oncology and there were some catch-up in the product. But CT demand continues to be strong and it’s not just a catch-up, there was no catch up in CT, it is just an expansion of health care services and it has been global. People are buying CTs and -- at demand rate that is higher than that was expected and there based on the forward-looking views that we’re getting from our customers. We -- as you know our customers give us their annual plan, give us six months of estimates. We see -- continue to see strong demand for our CT and for an extended fair time, this is not us trying to catch up on the backlog or not being able to deliver and hence a pile up. In other modalities, like dental, the recovery has been in different -- at different levels and different velocities, at different points in time. So dental has been just ongoing, still catch-up in some markets. And so I could go, I mean, so every modality has its story, right? Rad has had tremendous uptake during COVID. There was a gap there. There is a little bit of slowing down and then it’s picking back up. So it’s hard to pinpoint one thing down, but as we look at it in aggregate, we see that the demand side is strong and our expectation is that our customers who have taken a lot of orders during this time and they carry backlog that they are also going to continue to have to deliver on what they’ve taken over the next six months to nine months. So as we look forward, we continue to feel strong about -- feel good about the demand side. And then lastly, there was the technology side of it. We’ve launched some new products and anytime we launched new product to get some -- you see an uptick in demand for some of those products and we should --we expect that will continue into next year as well.

Suraj, I would also like to add here is that, if you remember six, nine -- six months ago or so we added that our response to the pandemic might be that country’s and communities’ would be spending on health care infrastructure and imaging and hence us would benefit through that as a result of that. So we feel it’s not just one country situation. It’s broad-based across region and modalities and seems to have strong legs to it. There is no one country that can say that strong, et cetera. So I think the strength in China somewhat new for us. The strength is broad-based, which is driven by, say, health care response, that is aiding and then obviously the new product that Sunny had just said. So added altogether and that makes the different, let me…

And...

That’s…

And if you take the, look at the industrial side, a lot of the demand that we’ve seen has come from market expansion, I mean, expanded activity in the market, like, electronics inspection, battery inspection, the semiconductor inspections that has driven also additional volumes. And realize that we haven’t yet caught up on the security and inspection side and airports has still been soft. So there is some more headroom there. So as we look at the overall demand profile, we feel good that there is some, there is real momentum there and market driven momentum.

Got it. Some the Delta variant concerned you on the industrial side of the equation?

Not particularly and the reason for that is, if at all travel it’s is an area that gets impacted first as you know, and for us, the security-related side of our business has been slow. I mean it’s still -- we’re still waiting for any significant recovery there. So, if at all, it will be status quo for us on the cargo and security side. On the industrial side, where the demand has been strong despite COVID, after the initial blip, but when the initial -- initially when COVID hit, there was just a shock to the whole system and all the factories sort of stop and people were frozen and we saw a couple of quarters of industrial, it’s pretty sharp slowdown in industrial, since then the recovery has been almost despite COVID.

Got it.

So I don’t think that we will experience the same, it would be hard to pin it down, but the demand side of industrial on this particularly with semiconductor inspections, battery inspections -- inspection that doesn’t seem to be COVID related, oil and gas did slow down, but that was because of a peak oil prices more so than COVID.

Got it. And Sam final two, I’ll just put both of them together. Sunny at RSNA, are we going to get an update on the core cathode status and Sam maybe this has already been asked. Please forgive me if this is redundant. The components of the $205 million to $225 million guide, how do you all thing through the Medical and Industrial segments. Gentlemen, thank you for taking my questions and congrats once again.

Let me answer the first one. We saw on the cold cathode technologies. What we are our status is that we are continuing on with the foundational technology development and now we’re past the validation of the meters and strength of the meters. We’re now into tube development and more of the validation like testing there and we are in the mode next phase of our and new product introduction mode, but we start building products sample, I mean, prototypes for our customers. We’re in that mode. Obviously, really two months -- a couple of months away, so you’re not going to hear anything significantly different. You’ll hear more of the second, but we’re working on customer prototypes getting customers engaged and looking at development agreements with customers.

And Suraj, coming back to your question in terms of the industrial and medical breakdown of the guide. Generally, as you know, Industrial is 21% or somewhere around that of overall revenues for us. And so I would say that is still our expectation, but stuff moves around here and there from quarter-to-quarter. So I would say 21% of industrial plus-minus 1% that would be the normal expectation. So the guide and the growth is not necessarily pegged to medical only or industrial only, both of them are growing for us and it may not exactly looked at we want to go from one quarter to another. But as you look forward multiple quarters, you would see that both have growing and we would expect both to grow and demand is pretty good on both sides. It will just come down to what we can supply through the factory and we have, but demand wise, we feel good about both of the segment.

[Operator Instructions] Your next question comes from Jim Sidoti with Sidoti & Company. Please go ahead.

Oh! Hi. Good afternoon.

Good afternoon.

Yeah. I’m going to try and ask the question, I think it’s been asked a couple of times and ask it a little bit different. You just had two strong quarters over that $200 million mark. You’re guiding for incurred one over that $200 million mark for the fourth quarter. Is there anything such as supply constraints or any other kind of headwind out there that you’re concerned about that would cause you to dip below that $200 million per quarter mark over the next year or so or is there anything like that you are aware off?

Let me try to address that, Jim. So when it comes to Q4, we only guide to the -- so we are guiding on the Q4 right now. And in terms of Q4, the demand and of course on the supply side, we feel good about based on the visibility that we have. So that is how we are balanced over guidance for Q4. But as you know, there can be 100-year event or something can happen. So we would never say that it is 100% assured or anything like that there can be a chance that something happens, which is completely unforeseen to us and we dipped below $200 million that can happen to any business and we would never say that. But overall, in terms of balancing the guidance, balancing the numbers that’s how we are providing the guidance for Q4. Beyond Q4 and the visibility -- less from supply chain and all of those issues as well as the farther out we go, the visibility is lower. Currently, we are operating in a supply constrained environment as opposed to a demand constrained environment. And we feel good about our situation and position, so the $200 million watermark that you kind of highlighted. But there isn’t anything that tells us that, hey, there is a significant this thing or that thing coming, but that doesn’t mean that it may not happen. It may happen, which may be unknown to us and as and when it happens will share with you. But far where we sit as of today, we feel good about our guidance and good about our business going forward would be on there. I guess that’s as much as I can add, I don’t know Sunny if you like to add something else.

No. I think nothing more to add there, Jim. We are -- demand trajectories in the right direction and so let me just leave it at that.

Okay. And then last one detail on the balance sheet your cash receivables picked up in the quarter. Is that due to the timing of shipments? Can you just add a little color to that?

Yeah. I can add a little bit more color to that, Jim. Good question. Thank you. Yes. So, obviously, the sales is growing, so when sales grow the AR picks up. That’s just normal working capital that’s there. There is one large customer of ours that decided for their own balance sheet purpose is to pay us a significant amount of cash, just the one week after the quarter ended. So the AR was a little bit higher in terms of DSO than I would have liked. But it’s just stuff that happens. So there is that, beyond that, there is nothing else to there.

All right. That’s it from me.

Thank you.

Thank you. I would like to turn the floor over to Chris for closing remarks.

Thank you for your questions and participating in our earnings conference call for the third quarter of fiscal year 2021. The webcast and supplemental slide presentation will be archived on Varex website. A replay of the quarterly conference call will be available through August 17th and can be accessed at the company’s website or by calling 877-660-6853 from anywhere in the United States or 201-612-7415 from non-U.S. locations. The replay conference call access code is 13721643 Thank you and good-bye.

This concludes today’s teleconference. You may disconnect your lines at this time and thank you for your participation.