Varex Imaging Q4 2023 Earnings Call Transcript

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Provided by Quartr
November 14, 2023

There are 8 speakers on the call.

Operator

Greetings, and welcome to the Verix Fourth Quarter and Fiscal Year 2023 Earnings Call. At this time, all participants are in a listen only mode. A question and answer session will follow the formal presentation. As a reminder, this conference is being recorded. It is now my pleasure to introduce Christopher Belfiori, Director of Investor Relations.

Operator

Thank you. You may begin.

Speaker 1

Good afternoon, and welcome to Varex Imaging Corporation's Earnings Conference Call for the Q4 of fiscal year 2023. With me today are Sunny Sanyal, our President and CEO and Sam Maheshwari, our CFO. Please note that the live webcast of this conference call includes a supplemental slide presentation that can be accessed at Verix's website at veriximaging.com/news. The webcast and supplemental slide presentation will be archived on Beryx's website. To simplify our discussion, unless otherwise stated, All references to the quarter are for the Q4 of fiscal year 2023.

Speaker 1

In addition, unless otherwise stated, Quarterly comparisons are made sequentially from the Q4 of fiscal year 2023 to the Q3 of fiscal year 2023, rather than to the same quarter of the prior year. Finally, all references to the year are to the fiscal year and not calendar year unless otherwise 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 Risk Factors of our quarterly reports on Form 10 Q and our annual report on Form 10 ks.

Speaker 1

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.

Speaker 2

Thanks, Chris. Good afternoon, everyone, and thank you for joining us for our Q4 earnings call. I'm pleased to announce another solid quarter for Varex. Revenue of $227,000,000 in the quarter was a result of strong performance in our Industrial segment, offset by lower revenue in China in our Medical segment. Non GAAP gross margin of 36% and non GAAP earnings per share of $0.45 Exceeded our expectations.

Speaker 2

Revenue in the 4th quarter decreased 2% both sequentially and year over year. Revenue in the Medical segment decreased 7% sequentially and 10% year over year, while Industrial segment revenue increased 12% sequentially And 27% year over year. Non GAAP gross margin of 36% was solid in the 4th quarter and above the high end of our expectations. This is primarily due to a beneficial segment and product mix led by higher proportion of industrial sales as well as further realization of results of our pricing initiatives. Adjusted EBITDA in the 4th Quarter was $38,000,000 and non GAAP EPS was $0.45 We ended the 4th quarter and the fiscal year with $195,000,000 of cash, Cash equivalents and marketable securities on the balance sheet, which was $42,000,000 higher sequentially and $82,000,000 From the fiscal 2022 year end, the increase was primarily due to higher profitability and the reduction of inventory in the quarter year.

Speaker 2

Let me give you some insights into sales detail by modality in the quarter compared to a 5 quarter average, which we refer to as the sales trend. In our Medical segment, global sales of CT tubes remained flat compared to the trend in the quarter, As the lower sales in China was offset by strength in the rest of the world. Mammography remained strong with sales above the trend in the quarter. Oncology improved in the quarter and was above its sales trend. Fluoroscopy remained flat, While radiographic sales were below the trend in the quarter.

Speaker 2

Dental remained soft and was also below the sales trend in the quarter. We saw strong performance in our Industrial segment with record revenue of $64,000,000 in the quarter. Non destructive inspection, specifically cargo screening was a bright spot for the Industrial segment. Similar to last quarter, we also continue to see increased adoption of photon counting detectors across various industrial verticals, including Food, Battery and Electronics Inspection. Our Medical segment finished the fiscal year at $673,000,000 in revenue, which was flat year over year and represented approximately 75% of total Varex revenues for the year.

Speaker 2

The global CT market continues to be a significant driver of overall sales, accounting for nearly 40% of medical sales in fiscal 2023. We expect CT to continue to be a key driver of our medical sales as developing countries expand their healthcare services. In addition to the new installations and upgrades, we expect replacement tubes sold into our extensive and growing installed base provide solid baseline for future CT tube sales. Our photon counting technologies continues to gain OEM interest And we are working with several of our customers on a range of potential medical applications for Photon Counting, particularly where Speed and high contrast imaging can make a difference. We expect photon counting technologies to once again be a main focal point at our SNH show in Couple of weeks and we believe our position at the table is very strong.

Speaker 2

While there are many potential medical applications for photon counting technology, Use of photon counting detectors in CT is a significant focus for our customers, and we are actively engaged in their design discussions. We look forward to meeting with our customers and colleagues in Chicago at RSNA to discuss how we can enable their innovation in imaging. Moving to our software business, I'm happy to say that our majority owned subsidiary, Mevis Medical Solutions, recently received U. S. FDA 510 clearance for an innovative new software product named Mavis LiverSuite.

Speaker 2

This is an AI based software application, which enables physicians and radiologists to create detailed visualizations and volumetric quantification For evaluation of liver surgery strategies, treatment planning and for post procedure follow-up assessment. The innovative AI based software technology and 3 d medical visualization driven approach is applicable to both CT and MR imaging and can help daily workflow for liver surgery and post procedure evaluation. Let me turn now to our Industrial segment. In the recent quarters, the strength of our Industrial segment has been a highlight for Varex. In fiscal 2023, our Industrial segment grew to $220,000,000 in revenue, up 19% year over year And accounted for approximately 25 percent of total Varex revenue.

Speaker 2

This growth has been due to broad based Strength in various non destructive inspection verticals driven by our investment in X-ray tubes, linear accelerators as well as photon counting detectors. In the past, we expressed intention to provide more integrated solutions, including full systems To our customers across various industrial verticals. One of the verticals we highlighted was irradiation of consumer facing goods like Today, I'm excited to announce a new industrial irradiation system that we will offer directly to end customers that is a novel application of our X-ray technology. We expect system solutions to potentially add nearly $1,000,000,000 to our addressable market within 5 years. This new irradiation system, XR Pure offered by one of our subsidiaries can be used to reduce microbial loads in agricultural and other products.

Speaker 2

One of the applications of this system is for decontaminating cannabis, which is becoming a significant market in the U. S. Across the United States where cannabis is legal, state regulators have established limits on various types of microbial contamination In the interest of public health and safety, cannabis growers are therefore required to submit a sample from each batch grown to be tested for microbial load before the product can be sold. This process is critical to growers As a failing cannabis lot can potentially lead to financial and reputational issues as well as patients' health and safety concerns. There are many benefits of using X-ray irradiation to decontaminate an organic product.

Speaker 2

Traditional decontamination methods may use chemical or heat based Technologies which can degrade the end product. In contrast, X-ray irradiation decontaminates the product by Killing the microbes and pathogens without compromising the efficacy of the product. Cannabis cultivation for both medical and legal Creational uses has grown significantly in the United States over the last several years. With an estimated 13,000 growers nationwide, we believe Market for cannabis irradiation using X-ray technology is approximately $225,000,000 per year and growing at double digits. With a subscription model for XR Pure, we expect to be able to reach a run rate of $25,000,000 to $50,000,000 in annual revenues in the next 5 years.

Speaker 2

We believe our advanced X-ray technology can make XR Pure a significant player in this space. In the coming weeks, our team will commercially launch the XRPO product at the 12th Annual MJ BizCon Show, which is the largest cannabis conference and We are very excited at the potential of this new system and believe this is just one of the many applications where X-ray radiation can be utilized. If you'd like to learn more about XR Pure, please visit the website at www.xrpure.com. In fiscal 2023, we made solid progress with innovation, strengthened our financial position and generated solid cash flow. As we look to fiscal 2024 and the future of Varex, We remain focused on executing on our existing and new initiatives to drive profitable growth and continued free cash flow generation.

Speaker 2

We are expanding investment in our industrial segment where new technology tends to be adopted at a much more rapid pace. Much like what we have done with our photon counting technologies, we believe we can leverage the more rapid adoption and feedback from industrial customers To accelerate development of new products in medical. As we highlighted earlier, there are many applications of our X-ray technologies across the industrial landscape From non destructive inspection to decontamination of organic products, our intention is to invest in full systems in select industrial verticals that can create Differentiated workflow solutions. In due course, we will share more with you as we continue to make progress on this initiative. We intend to continue to invest in photon counting technology, which is gaining solid traction across our nondestructive inspection applications in our Industrial segment and expand its use in medical applications.

Speaker 2

Photon counting CT detectors is an example of an application that can Become a potentially meaningful growth driver for us in the future. Similarly, we're taking a page from our playbook in China and investing in our future in India. We intend to leverage the local for local approach to engage emerging local OEMs and build our footprint in India. We're making progress with our efforts and expect to manufacture tubes and detectors in India in the next 18 months. India is a very large end user market for diagnostic imaging where modality penetration per million of population is very low.

Speaker 2

The Indian government has made a public commitment to expand health care services and gain independence in medical device technologies. We see new OEMs emerging in India, making it an attractive market for us to invest in a local presence To seek out new OEMs and to grow with them. We improved our gross margins in fiscal 2023 with our pricing initiatives. We expect to continue to see gross margins improve for the full fiscal 2024 as select pricing actions are implemented. Our freight related expenses as well as efficiencies across our manufacturing platform continue to be a tailwind to overall gross margins.

Speaker 2

We are pleased with our inventory reduction efforts in fiscal 2023, and we remain focused on further reducing inventory levels in fiscal 2024. Ultimately, our goal is to maintain efficient inventory levels associated with demand and new product introductions. Finally, fiscal 2023 was a record year for Varex in terms of cash generation. With initiatives around margin expansion and inventory management, we expect to see continued cash generation going forward into fiscal 2024. While there are some challenges to growth in China in fiscal 2024, which we will touch on in a bit, We are well positioned to navigate these uncertainties while continuing to support our customers.

Speaker 2

With that, Let me hand over the call to our CFO, Sam.

Speaker 3

Thanks, Sunny, and hello, everyone. As a reminder, unless otherwise indicated, I'll provide comparison of our results for the Q4 of fiscal year 2023 with those of our Q3 of fiscal 2023. The Q4 was another solid quarter for us. While revenue was below the guidance midpoint, gross margin and non GAAP EPS Continued strength in our Industrial segment was the primary driver of strength in the quarter. As a result, we reported sales of $227,000,000 non GAAP gross margin of 36% and non GAAP EPS of $0.45 which was also helped by an unusually low tax rate in the quarter.

Speaker 3

Cash generation remained strong with $47,000,000 of Operating cash flow in the quarter. 4th quarter revenues decreased 2% compared to the 3rd quarter. Medical revenues were $164,000,000 and industrial revenues were $64,000,000 Sequentially, medical sales decreased 7% Looking at revenue by region, Americas increased 1% sequentially, while EMEA increased 1% and APAC declined 8%. The decline in APAC was primarily the result of lower sales in our China business due to the anti corruption campaign there. China sales were 13% of 4th quarter revenues.

Speaker 3

For full fiscal year 2023, sales to China totaled $147,000,000 which is up 5% year over year And represents 16% of total Varex sales. Given the anticorruption campaign, we expect China sales to be down in fiscal 2024 compared to fiscal 2023. Visibility to the magnitude and duration of the impact from this campaign is unclear, but we expect this to be temporary and currently believe the market may improve in the second half of our fiscal year twenty twenty four. We remain focused on executing our long term strategy in China and support its efforts to improve the overall healthcare infrastructure. Let me now cover our results on a GAAP basis.

Speaker 3

4th quarter gross margin was 34%, up 100 basis points from the previous quarter. Operating expenses increased $2,000,000 sequentially to $54,000,000 and operating income was $24,000,000 Flat sequentially. Net earnings were $32,000,000 and GAAP EPS was $0.66 based on fully diluted 51,000,000 shares. Moving on to non GAAP results for the quarter. We are pleased with our gross margin of 36% in the quarter.

Speaker 3

This was up 200 basis points from the previous quarter and above the high end of our guidance. The higher gross margin was primarily due to beneficial mix led by the higher Our quarterly gross margin can fluctuate depending upon segment mix, Product mix, customer concentration and factory productivity. For fiscal 2023, our gross margin was 33%, slightly down compared to fiscal 2022. R and D spending in the 4th quarter was $22,000,000 up $2,000,000 compared to the prior quarter and represented 10% of revenues. The higher R and D Expense was due to higher spending on R and D Materials in Industrial Systems as well as for the supplier diversification efforts.

Speaker 3

SG and A was $30,000,000 up approximately $1,000,000 compared to the prior quarter and represented 13% of revenue. As a result, operating expenses were $51,000,000 up $2,000,000 from the prior quarter and represented 23% of revenue. For fiscal 2023, operating expenses were $199,000,000 up 11% compared to fiscal 2022 And represented 22 percent of revenues. Operating income was $30,000,000 and operating margin was 13% of revenue, similar to the previous quarter. Full year operating income was $99,000,000 and operating margin was 11% of revenue.

Speaker 3

Tax expense in the 4th quarter was low at $1,000,000 or 6% of pretax income compared to $5,000,000 or 21 The lower tax rate in the 4th quarter was primarily a result of favorable credits Related to R and D and foreign taxes and favorable book to tax differences as a result of the Tax Reform Act. For fiscal 2023, the tax expense of $12,000,000 was 17% of pretax income. Net earnings were $21,000,000 or $0.45 per diluted share, up $0.08 from the 3rd quarter. Average diluted shares for the quarter on a non GAAP basis were 51,000,000. Now turning to the balance sheet.

Speaker 3

Accounts receivable increased $1,000,000 and days sales outstanding increased by one day to 65 days in the quarter. Inventory decreased by $20,000,000 in the 4th quarter and days of inventory decreased by 5 days to 169 days. We are happy with the result of our inventory reduction efforts in fiscal 2023 and expect to remain focused on maintaining efficient inventory management. Accounts payable decreased by $10,000,000 and days payable decreased by 5 days to 39 days due to reduced incoming inventory receipt. Now moving to debt and cash flow information.

Speaker 3

Net cash flow from operations was a robust $47,000,000 in the 4th quarter due primarily to profitability and a $20,000,000 reduction in inventory. We ended the quarter with cash, Cash equivalents and marketable securities of $195,000,000 an increase of $42,000,000 from the prior quarter and $82,000,000 from fiscal year end 2022. Please note the $195,000,000 includes the $153,000,000 of Cash and cash equivalents shown on the balance sheet, dollars 41,000,000 of marketable securities And $1,000,000 of certificates of deposit. Gross debt outstanding at the end of the quarter was $448,000,000 and debt net of $195,000,000 of cash and securities was $253,000,000 Adjusted EBITDA for the quarter was $38,000,000 and adjusted EBITDA margin was 17% of sales. Our fiscal 2023 adjusted EBITDA was $132,000,000 and our net debt leverage Show was 1.9 times on a trailing 12 months basis.

Speaker 3

Now moving on to outlook for the Q1 of fiscal year 2024 And the full fiscal year. Under the backdrop of the anti corruption campaign in China, we expect the following: 1st, Revenues for the Q1 of fiscal 2024 are expected to be down approximately 8% at the midpoint compared to the Q1 of fiscal 2023. This is largely the result of lower sales in our China Medical business. We expect the second half of fiscal twenty twenty four to improve over the first half of fiscal twenty twenty four, With full fiscal year, revenues down approximately 3% to 5% compared to full fiscal 2023. This expectation assumes business in China improves in the second half of fiscal twenty twenty four.

Speaker 3

2nd, We made significant progress on improving our gross margin in fiscal 2023, and we expect this to continue in fiscal 2024. We expect to see gross margin improve in fiscal 2024, and we are targeting 35% in the second half of fiscal 2024. 3rd, we expect a tax rate of approximately 21% to 23% for full fiscal year. Lastly, we expect to continue to generate cash flow while investing in our future. For fiscal 2024, we expect CapEx of $25,000,000 to $30,000,000 and free cash flow generation above 90% of non GAAP net income.

Speaker 3

Now moving on to guidance for the Q1 of fiscal 2024. As a reminder, in addition to lower sales in our China Medical business, The first fiscal quarter is generally a seasonally low quarter for shipments for us. With that in mind, our guidance for Q1 is as follows: Revenues are expected between $180,000,000 $200,000,000 and non GAAP earnings per diluted share is expected between 0 $0.20 Our expectations are based on non GAAP gross margin in the range of 33% to 34%, Non GAAP operating expenses in a range of $49,000,000 to $50,000,000 tax rate of about 22% for the Q1, Non GAAP diluted share count of about 41,000,000 shares. With that, we'll now open the call for your questions.

Operator

Thank you. Ladies and gentlemen, at this time, we will be conducting a question and answer session. Our first question comes from the line of James Sidoti with Sidoti and Company. Please proceed with your question.

Speaker 4

Hi, good afternoon. Can you hear me? Yes. Hello, Jim. Hi, Jim.

Speaker 4

Hi. Thanks for taking the questions. Well, Let's start out with China because I think that's the thing people are going to focus on most. It sounds like revenue at 16% of Sales was around $36,000,000 in the quarter. Sorry if you said it, but what was it a year ago?

Speaker 3

The revenue a year ago in China was Just give me one second here, Jim. It was A year ago, it was Q4 'twenty two, it was about $37,000,000 And in Q4 $23,000,000 not $36,000,000 $31,000,000

Speaker 4

$31,000,000 Okay. Yes. And was the decline Primarily related to the anti corruption or can you break that out?

Speaker 3

To what we see, Jim, it is mostly related to anti corruption measure. But at the same time, we know the economy in China is also soft, But it is very difficult for us to parse out the two issues. They might be connected. So But mostly, we would say it is anticorruption measures based on what we are hearing through our sales channel who have been talking to customers

Speaker 4

And in the past, when China has implemented these anti corruption initiatives and sales have declined, Have you seen a rebound relatively quickly in 2 or 3 quarters? Or how long do you think it takes for the sales to come back Hey, Stathis, I

Speaker 2

think last time we saw this was somewhere around 2014 timeframe. And as we look at our revenues from 2014 to It seemed to have bounced back. It felt fairly quickly bounced back. But at that time, we also had a very Small amount of business in China, nothing like what we have today.

Speaker 4

Okay. All right. And then if we move on to the AI, It sounds like you got an application approved for liver surgery. What about applications for things like breast cancer detection or prostate cancer detection? How far are you from Some of those projects?

Speaker 2

Yes. So our software business has 2 channels, one where we go through OEMs. So our breast, prostate, those are sold through OEMs. Our lung screening workstation is a standalone workstation, full workflow solution that we Go direct and that continues on and we're bidding on tenders as we've described previously. And this is also another new standalone solution For to support liver surgery, transplants, etcetera.

Speaker 2

This is a direct to market channel. And that's why we went for the full 510 for this.

Speaker 4

Okay. So for the other applications, The OEMs will do the FDA submissions?

Speaker 2

Correct. We also sell lung screening modules and applications So our software business in summary has 2 parts. There's acquisition and diagnostics. And the acquisition is our what we call as our Nexus platform. It's a combination of Tube detectors, integration with generators, it's a full blown acquisition system that we sell also through the OEM channel.

Speaker 2

Those are mostly through And then the pure AI software, historically was sold through the OEMs over the last few years. We've started Going directly to bidding directly on tenders and selling directly to hospitals. All right.

Speaker 4

And then, the industrial business, I mean, another very strong quarter. What's driving that? And are these growth rates sustainable?

Speaker 2

So we had an exceptionally strong Q4 for Industrial, which was more than actually what we had forecasted. The strength was broad based. We saw it in many of the non destructive inspection verticals as well as cargo was As we said, it was a bright spot this quarter. We expect for the year, we expect industrial to still grow. So we're going to have a growth year for But the Q1 is will be down and it will be down because of actually a lot of Strength in the Q4.

Speaker 2

So there tends to be monthly puts and takes. And we had some customers That we're up against some deadlines and pushed us very hard to ship some additional products, which is what we did in the Q4. And So we're going to have a we're going to see a softer Q1, but overall for the full fiscal year, we're expecting a growth out of Industrial, year over year growth.

Speaker 4

All right. So it seems like big picture, the margins are getting better. The industrial business continues to grow and you have a short term hiccup in China. But long term, you still think China is going to be a growing market for you? Is that correct?

Speaker 2

Absolutely. We believe so. The Chinese government continues to assert their commitment to expansion of health care. We're very well Positioned there, our installed base is large and keeps growing. We are making a lot of advances with products with our Chinese OEM customers in Cardiovascular and some of the some additional modalities like dental, etcetera.

Speaker 2

So China continues to be a good market for us. We're well positioned for 2025. We just need to get past this current malaise. And so we're anticipating the second half of next year is when That's what we're hearing, where the recovery will begin.

Speaker 4

And then last question for me on the balance sheet. I know you have Some debt pay downs coming up. What's your plan for capital allocation? Are you going to continue to build up the cash balance So you can pay down some of that debt? Or do you think you'll be more active on the acquisition front in the next 4 or 5 quarters?

Speaker 3

Yes, Jim. So yes, our overall cash balance at the end of Q4 was $195,000,000 And I just I want to remind that looking at the balance sheet, you may not be able to get to that because it's distributed amongst couple of lines, but the total cash was $195,000,000 and we clearly are in an excess cash situation. But as you rightly said, we are Essentially preparing for upcoming refinancing because the debt is Supposed to mature in June of 'twenty five, but it would go current in June of 2024. So essentially, we are building up the cash balance to approach refinancing with strength and at the same time, take care of some of the The priority is to fully fund the operations and then followed by deleveraging. And lastly, and then beyond that would be any inorganic growth.

Speaker 4

Okay. All right. Well, thank you. Thank you for taking the questions.

Speaker 3

Thank you, Jim.

Operator

Our next Question comes from the line of Larry Solow with CJS. Please proceed with your question.

Speaker 5

Good morning, Larry. Thank you. And Hey, good evening, guys. I guess, first question, just on the medical Weakness on revenue, is it it sounds like you guys are feel like it's mostly China, whether it's Economic related or mostly just the increased scrutiny in the anti corruption environment. But Anything on just on the U.

Speaker 5

S. Side of it? And I've seen a lot of hospital based companies just having issues with Hospital spending, budgets, I know being a little bit tight, obviously hospitals aren't doing well in a high interest rate environment either. And I know you guys in 'twenty three, I think we started out good, then we got a little bit more conservative and then left In Q3, things were a lot better. So any but it feels like you haven't spoken too much about negatives there, but I'm just trying to connect those dots.

Speaker 5

Thanks.

Speaker 2

Let me make a comment, and I'll ask Sam to chime in. So there are many puts and takes, Larry. First of all, Q1 is a Seasonally lower quarter. And secondly, the situation in China puts additional burden on the medical side. So that is what's driving the pressure on the Medical in the Q1.

Speaker 2

And then of course, then compounding the fact that Industrial had Strong Q4 and we're just seeing a month to month kind of issue there. In terms of the U. S. And the hospital market, our general perception and what we're hearing and seeing is that the hospitals Health of the hospitals is improving. They're reporting better operating expenses controls.

Speaker 2

So We think that they're in a better position going forward into next year to for capital deployments. So no real concerns there. What we want to make what we were trying to get our head around is How and when the Chinese situation will turn around.

Speaker 3

Larry, I would add that if you look at our Q4 results, revenues in Americas Improved sequentially over

Speaker 5

the Q3.

Speaker 3

And then EMEA also improved over the Q3. The place where you typically would want to See a growth, but a decline in Q4 was APAC, and we talked about China driving that. So Americas and EMEA, they both grew, And the impact was through China reflected in APAC. And from Q4 into Q1, there's a seasonality that is Coming in and we then expect to resume the growth from there in Americas, EMEA, etcetera. And then the China, as we've already talked about, It is somewhat of situation dependent and as and when the Santac corruption campaign gets over, we Hope to begin to grow from there in that region.

Speaker 5

And specifically China, and I know you're not guiding as we look at the 25, but It feels like the next few quarters, it's hard to time exactly when this shakes out. But any concern, I mean, that Wino, as we get back to normalization that we're at a lower level, it feels like I know the has there been Any change in sort of that mid- to longer term outlook for the build out of CT in China, Anything there of significance?

Speaker 2

Larry, nothing particular. First of all, If you based on the Anecdotal and customer feedback, we think what's been happening over the last several months is a significant reduction in new system placements. So that means the volume of business that we're getting from China has been primarily China for us is mostly tubes and mostly CT tubes. So The business that the volume of business that we've been seeing has been replacement tubes to keep their hospitals and health care systems running. So that we think is a good baseline for us.

Speaker 2

So from here on, as business comes back, there is going to be Some amount of pent up demand, which will adjust the levels back up, and then we expect it to grow back from there. Now we've grown China China business has grown at 20% plus per year. We don't and we've said before that, that is not We expect growth to come to what would be kind of secular levels for China, which is in the 8% to 10% type of a range. So that's what we think will happen. It will bounce back.

Speaker 2

It will be a little bit of pent up demand, which will raise the baseline and then go back to a little bit more traditional growth rates.

Speaker 5

Right. Okay. I know you're not guiding. Yes, yes, I'm here. Yes, sorry.

Speaker 3

No, go ahead, Larry. Go ahead, please.

Speaker 5

No, I was just going to say, I know you're not guiding sorry to interrupt, I know you're not guiding on the revenue line specifically, but just from a high level, If you decline 4% at the midpoint, right, if the rest of your business is flat and China is down 25%, you'll decline 4%. That's just the way the math works out, like almost to a tee. So am I again, it sounds like the rest of your business might actually be up. So it feels like China could actually be down more than 25 and bigger in the beginning of the year. Am I thinking about that kind of right?

Speaker 3

Larry, we are not guiding by geography or anything, but in some ways, you are thinking in a right way. We are Expecting China full year to be a down year for 'twenty four. In terms of percentages, etcetera, we are not guiding. But broadly, you're thinking about it, right? Yes.

Speaker 5

Okay. Okay. And I interrupt you. I don't know, were you trying to fit something before that? I'm sorry about

Speaker 3

I was trying to say something, Larry, but now I forgot what your question was.

Speaker 5

That's okay. All right. I'll move on. I'll let someone else get into the queue. Thank you, guys.

Speaker 3

Sure.

Operator

Our next question comes from the line of Suraj Kalia with Oppenheimer. Please proceed with your question.

Speaker 6

Sam, Sunny, can you hear me all right?

Speaker 2

Yes. Hello, Suraj.

Speaker 6

Good afternoon, gentlemen. So, Sunny, did I hear you correctly that the expectation of the anti corruption wave To abate is roughly around 2 quarters or did I get that wrong?

Speaker 2

We're expecting that we will start to see Things pick up again in our beginning of our Q3. So that's again, the situation is It's fluid. We will know better in the upcoming months, but the current expectation is that in Q3, beginning of Q3 onwards, we would start to see Pick back

Speaker 6

up. Got it. Sam, I know there are a lot of moving parts, appreciate that. But to the extent that China contribution is soft, does it necessarily now should we start looking at Gross margin, there should be an uptick?

Speaker 3

Yes. So that's right, Suraj. China Lack of China revenues or less proportion of China revenues is actually a tailwind for the gross margin. But We also need to keep in mind the volume effect of it, so the two aspects intersect. But part of the reason Q4 gross margin were Much higher than our expectation is because China mix went lower than what we were expecting at the beginning of the quarter.

Speaker 3

So your intuition is right there that less China revenue does help gross margin, but only to the extent that the volume Not is not lack of volume is not becoming the driving factor.

Speaker 6

Got it. Sunny, in terms of tubes and detector manufacturing in India, is this strategy local for local or local for international?

Speaker 2

Now India is going to be 1st local for global and then later also local for local. So the India strategy is an extent is slightly different from that of China. In this case, we're setting India up As a full capability operating center, so full manufacturing For extending our capacity from Salt Lake to India and then also, business functions, R and D, etcetera. So India is going to become a full blown hub for us for South Asia.

Speaker 6

Got it. Got it. Final question, Sam, and I'll hop back in queue. So Sam, since the time that I've picked up Varex, I think it's almost 3 years ago to now, just ballparking it, okay. Industrial has gone from almost 20% contribution to let's say around 30% contribution, right, To overall sales, obviously, there are respective growth rates in these two buckets.

Speaker 6

As we look forward over, let's say, the next 4, 8 quarters. Is this a trajectory that we should continue to expect, I. E, Increasing contribution of industrials and that's really how we should start thinking about the overall business Or do you think like to steal Sunny's words that some temporary malaise, but then it should revert back to the eightytwenty? Gentlemen, thank you for taking my

Speaker 3

Yes. Suraj, very good question. In general, industrial business growth Trade for us is higher than the Medical business growth rate. So I expect the overall contribution of Industrial segment to our revenues To continue to climb and in the next 3 to 5 years, it might cross 30%. So that is the right way to think about it.

Speaker 3

There are just a lot of applications that we are seeing that X-ray Technology can be very successfully applied in for the industrial business. So right now, we are thinking that Eventually, industrial could go 30% or somewhat even higher than that in terms of the overall revenue proportion.

Speaker 6

Thank you.

Speaker 3

Thanks, Suraj.

Operator

Our next question comes from the line of Anthony Petrone with Mizuho. Please proceed with your question.

Speaker 7

Thanks and good afternoon. Maybe just to segue back to China. Sunny, you mentioned it's tubes are still sort of trending well here, but it's been a slowdown on the capital front. But I just want to confirm, We've heard actually both headwinds throughout the quarter due to anti corruption, meaning that procedures were down Through the Q3, but also the capital purchases slowed down. So I know you mentioned tubes were still Trending well.

Speaker 7

Has there been any slowdown in tubes? And do you expect actually tubes can also see a catch up once Things normalize into next year. And I have one follow-up.

Speaker 2

Let me clarify. Tubes has been down. So that's what's led China to the decline in sales for us. However, when we ask our customers, Where are these going? We are not sensing strong placement of new systems.

Speaker 2

So our understanding is this is mostly going into replacement and wherever there might have been a smaller percentage of those than normal So hard for us to tease this apart, but the general sense is that new business or new systems placements is down And replacements have continued, but tubes overall have been down as a result.

Speaker 7

That's helpful. And then maybe just when you think about the global manufacturing footprint, You know, new disclosure tonight on India. How does that play with Wuxi? Is Wuxi only going to exclusively supply to China? Will India supply to India?

Speaker 7

What happens to Salt Lake over time? Or will India and Wuxi Just larger global hubs. Thanks again.

Speaker 2

Yes. So China and Wuxi was our Footprint in Wuxi was set up for China. So we optimized it for the specific products that were needed in China And to the extent, particularly for detectors, the detectors that we make in China, we've also been shipping to other places where we needed lower cost Detectors. So from that perspective, Wuxi is mainly for China. India, the capacity that we're adding to India actually moves out some capacity from Salt Lake, frees up Salt Lake for some other products.

Speaker 2

Salt Lake is running the tubes production at Salt Lake is running at very high Capacity levels. So this frees up space here and then the production in India is initially intended Phase 1 is intended for global sales. And these will be at a lower cost with lower cost supply chain over the last 3 years during the COVID phase. And since then, we have been diversifying our supplier base. And one of the things we did was qualified a lot of suppliers in India.

Speaker 2

So this is this gives us access to Lower cost supply chain, lower manufacturing costs and makes us more competitive. That's the intention. And then for many of the newer tubes, The innovation and some of the high end tubes, we will use up the capacity freed up in Salt Lake for that.

Speaker 7

Thanks again.

Speaker 2

Thanks, Anthony.

Operator

There are no further questions in the queue. I'd like to hand the call back to management for closing remarks.

Speaker 1

Great. Thank you for your questions. Sunny, do you have any final comments?

Speaker 2

Yes. Just a short comment. Thanks, Chris. So in closing, we're really pleased with the results we achieved in fiscal 2023. And as always, I'd really like to thank our Employees all over the world for their efforts during this during the year.

Speaker 2

Everyone worked really hard to contribute to our results. Thank you for taking the time to join us today and for your continued interest in Varex.

Speaker 1

Thank you, Sunny, and thank you all for participating in our earnings conference call for the 4th Call will be available through November 28 and can be accessed at aberiximaging.com/investorrelations. Thank you, and have a great evening.

Operator

Ladies and gentlemen, this does conclude today's teleconference. Thank you for your participation. You may disconnect your lines at this time and have a wonderful day.

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Earnings Conference Call
Varex Imaging Q4 2023
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