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Edited Transcript of VREX.OQ earnings conference call or presentation 6-Aug-19 9:00pm GMT

Q3 2019 Varex Imaging Corp Earnings Call

SALT LAKE CITY Aug 14, 2019 (Thomson StreetEvents) -- Edited Transcript of Varex Imaging Corp earnings conference call or presentation Tuesday, August 6, 2019 at 9:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Clarence R. Verhoef

Varex Imaging Corporation - Senior VP & CFO

* Howard A. Goldman

Varex Imaging Corporation - Director of Investor & Public Relations

* Sunny S. Sanyal

Varex Imaging Corporation - CEO, President & Director

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Conference Call Participants

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* Anthony Charles Petrone

Jefferies LLC, Research Division - Equity Analyst

* James Philip Sidoti

Sidoti & Company, LLC - Research Analyst

* Lawrence Scott Solow

CJS Securities, Inc. - MD

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Presentation

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Operator [1]

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Greetings, and welcome to the Varex Imaging Corporation Third Quarter Fiscal Year 2019 Earnings Call. (Operator Instructions) As a reminder, this conference is being recorded.

It is now my pleasure to introduce your host, Howard Goldman, Director of Investor Relations. Thank you, Mr. Goldman. You may begin.

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Howard A. Goldman, Varex Imaging Corporation - Director of Investor & Public Relations [2]

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Good afternoon, and welcome to Varex Imaging Corporation's earnings conference call for the third quarter of fiscal year 2019.

With me today are Sunny Sanyal, our President and CEO; and Clarence Verhoef, our CFO.

To simplify our discussion, unless otherwise stated, all references to the quarter are fiscal quarters. Quarterly comparisons are for the third quarter of fiscal year 2019 versus the third quarter of fiscal year 2018, unless otherwise stated.

On today's call, we will discuss certain non-GAAP financial measures. These adjusted measures are not presented in accordance with, nor are they a substitute for, GAAP financial measures. We provided a reconciliation of each adjusted financial measure to the most directly comparable GAAP financial measure in our earnings press release, which is posted on our website.

Guidance for our net earnings per diluted share is provided on an adjusted basis only. This adjusted financial measure is forward-looking, and we are unable to provide a meaningful or accurate compilation of reconciling items to guidance for GAAP net earnings per diluted share due to the uncertainty of the amount and timing of the unusual items.

Please be advised that during this call, we will be making forward-looking statements, which are predicting -- 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.

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 report filed with fiscal 2019 and our annual report on Form 10-K for fiscal year 2018. 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.

And now I'll turn the call over to Sunny.

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Sunny S. Sanyal, Varex Imaging Corporation - CEO, President & Director [3]

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Thank you, Howard, and good afternoon, everyone, and welcome.

Our business had solid gains in revenues in the third quarter, and operating earnings were comparable to the prior year. Quarterly revenues increased 3% driven by record-level global CT tube sales, along with double-digit sales growth in oncology and mammography imaging products.

Revenues in both our Medical and Industrial segments increased to 3% from the prior year quarter.

The Direct Conversion acquisition that we completed during the quarter contributed approximately $2 million of revenues, as expected, and integration activities are well underway. Offsetting these gains were significantly lower sales of radiographic digital detectors.

Turning now to tariffs. The trade situation between the U.S. and China is very dynamic. The tariff increases that occurred in May did not have any incremental effect on the cost of our products, and we're watching closely the news of the past few days. Please remember that we are affected primarily by tariffs on our products that are shipped to China. The impact from tariffs that we experienced in the third quarter was consistent with the prior quarter, and our plans to mitigate the impact of tariffs remain on track.

Our CT tube business continued to gain momentum across global markets. In China, shipments of our OEM customers -- shipments to our OEM customers expanded during the third quarter, and we remain on pace to ship more than twice the number of units this year than we shipped last year.

In addition to CT tubes for 16-slice systems that we discussed during our prior call, we also saw demand in China for CT tubes for more advanced systems as well as an increase in demand for our tubes from global OEM customers who are introducing CT systems in emerging markets.

Third quarter growth in our Industrial segment was led by increased sales of our X-ray tubes. In the first 9 months of this year, we shipped more tubes for airport security applications than we have ever sold in a full year. This quarter, we also began shipping the new small footprint lightweight linear accelerator with fast dose and energy switching capabilities that we discussed last quarter. This product has the potential to expand the use of mobile screening applications at sites beyond ports and border checkpoints and enables quicker scanning. As an example, our technology can provide imaging systems with capabilities to scan a truck cab in low-dose mode and then instantly ramp up to high-dose mode to scan the trailer. It can also be used to scan a train moving up to 30 kilometers per hour.

In our nondestructive inspection business, we're developing imaging solutions for several industry verticals with a current emphasis on the oil and gas space. Recently, our VMI team field-tested a ruggedized portable detector, optimized to detect corrosion in pipelines with promising results.

In the third quarter, we launched 3 new industrial digital detectors and 1 detector for 3D dental applications. We're also making progress on our new IGZO detectors, which are cost-effective and offer high performance. This technology has potential in multiple medical and industrial applications. We have a number of key customer projects running with positive feedback based on early demonstrations.

Our global detector business continued to be weighed down by the tariff-related loss of radiographic detector sales in China. To counter this, we're in the late stages of setting up production of radiographic detectors in Wuxi. We expect to launch these products at the end of the calendar year. This is an example of our local-for-local strategy, which involves getting as close to our customers as possible by establishing local commercial relationships, delivering local service and support and sourcing from local suppliers. We believe this strategy will provide us with competitive products that, over time, will allow us to recapture much of the lost radiographic business in China.

As you may recall that at the end of April, we acquired Direct Conversion, a leading developer and manufacturer of linear array detectors based in Stockholm. Last month, Direct opened its Application Innovation Centre located in the biotech triangle in Munich, Germany. This facility will showcase Direct's advanced photon-counting X-ray products and provide deeper insight into how this innovative and disruptive imaging technology can benefit health care professionals and patients. For specifically, medical specialists, imaging research experts and representatives from the health care industry will be able to discover how photon-counting detectors offer sharper X-ray images at lower dose rates than conventional detectors. This facility will encompass lab tours, workshops and training as well as ongoing proof-of-concept assessments.

On the manufacturing side of our business, we recently announced plans to close our digital detector manufacturing operations in Santa Clara, California. Completion of these activities will provide significant benefits to our business going forward. I want to thank all employees at these facilities for their hard work since the acquisition and through upcoming transition period, and we truly appreciate your efforts.

With that, let me hand over the call to our CFO, Clarence Verhoef, to talk about the financial performance in greater detail.

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [4]

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Thanks, Sunny, and hello, everyone. In summary, Q3 was another quarter with good top line performance. Operating profit was in line with the year ago quarter, but restructuring charges and an unusual increase in tax expenses compared to the prior period impacted our earnings in the quarter.

Before I go into the details of the quarterly financials, let me walk you through the math of our restructuring activities.

As you may recall, one of the synergies related to our acquisition of the imaging business from PerkinElmer was the potential for site consolidation. Last December, we completed the transfer of our glass fabrication production from Santa Clara to our joint venture dpiX. A few weeks ago, we announced the transfer of the remaining manufacturing operations in Santa Clara to other Varex locations, with the majority going to Salt Lake City. It will take some time to complete the transfer and get customer validation completed, so we expect to cease operations and close the facility by mid-2021.

Total overhead costs for the Santa Clara operations were about $36 million per year. The elimination of these costs will be partially offset by product costs from dpiX and various additions of equipment and support personnel in the other Varex locations. We have estimated that the net annual benefit, once the facility is closed, should be in the range of $21 million to $27 million. This will be a critical part of our ongoing cost reduction efforts in the competitive detector market.

In the third quarter, we recorded $7 million of restructuring charges, bringing the total restructuring charges related to the Santa Clara facility to $23 million, of which less than $3 million was cash-based. We expect to incur another $13 million to $17 million related to closing this facility, of which approximately $9 million will be cash-based.

Turning to the quarter results. Medical segment revenues for the third quarter increased 3%, with higher sales of CT, oncology and mammography products that were partially offset by lower sales of radiographic detectors.

Industrial segment revenues were also up 3%, mostly driven by increased demand for X-ray tubes for airport security.

For the third quarter, our gross margin was 31% compared to 33% in the prior year. The adjusted gross margin was 34% compared to 35% in the prior year. The margin reduction was primarily due to higher manufacturing variances.

R&D expenses were $21 million and comparable to the prior year quarter. With the addition of Direct Conversion, R&D increased to -- in the current quarter to be more than 10% of revenues. Third quarter SG&A expenses were $35 million and similar to the prior year quarter. Both periods included additional expenses related to impairments and restructuring-related costs, with approximately $7 million in each quarter.

Depreciation and amortization totaled $9 million for the third quarter compared to $10 million in the prior year quarter. Including the impact of restructuring costs in both quarters, our operating earnings for the third quarter of fiscal year 2019 were $5 million, down from $7 million in the same quarter a year ago. For the third quarter, our adjusted operating earnings were $19 million, which was comparable to the prior year. Interest expense in the third quarter was $5 million, which was similar to the year ago quarter.

Turning to tax. In the third quarter of last fiscal year, we had a tax benefit of approximately $1 million due to the implementation of a tax accounting method change. This year, we had tax expense of approximately $1 million despite having a loss in earnings before tax. This was due to the nondeductible nature of losses for certain jurisdictions, particularly China, where we are seeing both increases in the local payment of tariffs and a ramp-up of operating costs. Based on this, we now expect our effective tax rate for the fiscal year 2019 to be approximately 26%.

Again including the impact of the restructuring costs, we recorded a net loss of $1 million or $0.04 per diluted share in the third quarter compared to net earnings of $4 million or $0.10 per diluted share in the prior year quarter.

Adjusted net earnings for the quarter were $9 million or $0.24 per diluted share compared to $13 million or $0.34 per diluted share in the prior year quarter. Diluted shares outstanding were 38.8 million shares versus 38.4 million shares in the prior year quarter.

Looking at our working capital, accounts receivable decreased by $7 million during the quarter. Days sales outstanding were -- was 60 days compared to 62 days in the prior year quarter. Inventory increased $2 million in the third quarter to $263 million, which included $6 million with the addition of Direct Conversion.

We ended the third quarter with cash and cash equivalents of $29 million. For the quarter, we had cash flow from operations of approximately $15 million and spent $6 million for property, plant and equipment.

During the quarter, we borrowed $64 million to complete the acquisition of Direct Conversion. Even with this, year-to-date, our total debt outstanding has only increased $20 million to $410 million.

We are not changing our revenue outlook for fiscal year 2019. As a reminder, the guidance we'd previously provided was revenues in the range of $760 million to $785 million. We continue to believe that our adjusted gross margins will be in the range of 34% to 35%, that R&D expense will be about 10% of revenues, and SG&A expense will be around 13.5% of revenues, excluding unusual items. We now expect our tax rate to be approximately 26%. Based on year-to-date results and an anticipated higher effective tax rate, we now expect that adjusted net earnings per diluted share will be in the range of $1.25 to $1.45.

We will now open up the call for your questions.

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Questions and Answers

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Operator [1]

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We will now be conducting a question-and-answer session. (Operator Instructions) Our first question is from Larry Solow with CJS Securities.

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Lawrence Scott Solow, CJS Securities, Inc. - MD [2]

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Clarence, just to summarize on the guidance. So has anything other than the tax rate actually changed? It sounds like the operating expenses numbers, I thought, seemed a little bit higher to me than they were, but can you clarify that?

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [3]

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Sure. Let me go through it again a little bit. So actually, in terms of expectations for gross margins and operating expenses, they're the same as prior. So no changes from that perspective. So the fundamental change is really around the tax impact as such. And how I look at it is, is that when I look at the midpoint of guidance, I took it down by $0.05 -- took the midpoint down by $0.05, which is exactly tied to the tax changes.

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Lawrence Scott Solow, CJS Securities, Inc. - MD [4]

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And how about the -- sort of a pretty wide range for Q4, sort of $0.40 to $0.60, can you maybe discuss some of the factors that would drive it maybe to the lower side -- or to the upper end of that pretty wide range for one quarter?

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [5]

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Yes. Let me kind of just -- I maybe just clarify for a moment because we give guidance on an annual basis, and that's kind of our -- we set that at the beginning of the year, and we're not going to make changes unless we take into effect the impact of any known events. So the known event that happened back a quarter ago is, is that we acquired Direct Conversion. So we increased the range of the revenue guidance by $5 million at the -- both the bottom and the top. And so the other impact now that's going on is we know about the tax change -- the tax rate change, and so that's the only other change.

So fundamentally, we're staying with the guidance that we started the year with.

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Lawrence Scott Solow, CJS Securities, Inc. - MD [6]

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Okay. How about on the gross margin side, sort of flat, sequential margin's a little bit down from Q1. But I know that was a little bit on dose, so I think, unusually strong. Did you get any benefit this quarter from the exit of Santa Clara on the fabs -- on the Santa Clara fab or is that sort of just been pushed down a little bit on timing?

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [7]

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Yes. It's a good question. So let me kind of walk through that a little bit because, yes, there was an expectation when we had announced the closure of the fab almost a year ago that we would be starting to see a benefit from that by this point in time. What is kind of becoming more apparent as we're going along is, is much of that benefit will not probably happen until the full facility closure. I mean we have to -- there's some overhead costs that are associated there that don't go away until the facility is fully closed.

So we had a little bit of the stranded overhead as such, in my mind, is kind of how I think about it, that I had planned to have all be gone, but that's still -- some of that's still there. So not as much impact as I would have liked, I would say. I do think that when I look at the R&D line, in particular, we do see improvement in the R&D. And some of that is due to restructurings that happened in association with the announcements of restructurings a year ago. So we're -- we are seeing a lower R&D rate because of that. And I mean I think that, fundamentally, it clarifies or explains the impact on the closure of the fab.

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Lawrence Scott Solow, CJS Securities, Inc. - MD [8]

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Okay. So the -- and the -- so essentially the $21 million to $27 million, which is sort of is the combination -- you sort of combined the 2 ranges that you had given, looks like maybe slightly tweaked it, but that's a rounding error. That -- most of that savings won't really begin until you completely exit? Or would you expect some of that -- a little bit or some, I don't know, in 2020? Or is that all going to be, sounds like, a fiscal '21 event? Is that fair to say?

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [9]

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Yes. I think, realistically, the vast majority of it is going to happen when the facility is closed. Because you have a lot of costs that are associated with the facility and the building itself and some of the -- and production continues there, right? So it's not that we're ramping down the production. It's more that we have to transfer that production from one site to another.

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Lawrence Scott Solow, CJS Securities, Inc. - MD [10]

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But you have transferred the production to the dpiX on the fab side, right? So you -- but you still like -- is there sort of double counting there a little bit or double expensing that you have been going on that you won't really get that benefit until it fully closes? Is that what the deal is?

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [11]

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No, if -- so I'll go into a little bit of detail on the math here a little bit because we did have overhead reduction in Santa Clara with the closure of the fab, and we had reduction of other direct labor costs and the like and material costs as well. That was offset by new costs coming from dpiX. Basically the material that we buy from dpiX, it was fundamentally offset there. So it's a relatively a wash from that perspective. But the remaining overhead that we had anticipated to be reduced will not be reduced until later on.

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Lawrence Scott Solow, CJS Securities, Inc. - MD [12]

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Okay. Okay. And just last question on that. You had -- I think, you said in the 8-K, it was going to -- you were going to exit at the end of calendar year '20. Is that still the right time line?

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [13]

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Yes. And so there's a -- some nuances around the wording there because we will be stopping production at that point in time. We will not exit that facility because you have to decommission equipment, do some cleanup, all those kinds of things. So it'll be into the calendar year 2021 until we're fully out of the facility.

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Lawrence Scott Solow, CJS Securities, Inc. - MD [14]

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Okay. And then just lastly, the Direct, was that a -- you mentioned $2 million revenues bottom line, was that a drag on earnings at all or is it basically a wash?

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [15]

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Yes, it was a little bit of a drag in the quarter just because they had some R&D expenses that they were incurring. And so I think, overall, the perception for our outlook for the fiscal year is, is that it's roughly still a breakeven transaction.

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Lawrence Scott Solow, CJS Securities, Inc. - MD [16]

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Okay. I thought maybe a 1% or 2%-type deal wasn't that much for the quarter?

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [17]

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Yes, it's -- exactly. It's in that kind of range.

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Operator [18]

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Our next question is from Anthony Petrone with Jefferies.

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Anthony Charles Petrone, Jefferies LLC, Research Division - Equity Analyst [19]

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Maybe just to take up one on Direct Conversion. I guess $2 million based on the run rate they were doing at the time of the close seems a little bit light. Is that just timing of when it actually closed? And is that the total acquisition contribution in the quarter? So just to clarify that number.

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [20]

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Yes. The second part of your question, I'm assuming you're asking if there's any other synergies kinds of things where we got some additional add-on business, and I would say no.

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Anthony Charles Petrone, Jefferies LLC, Research Division - Equity Analyst [21]

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Yes. No, I guess, VMI, right? So you had VMI, which I was -- we were still rolling in and then Direct Conversion. So the combination of those, what was the total acquisition contribution in the quarter?

And then just the $2 million specifically for Direct Conversion, it seemed just a little bit light based on the run rate. So just -- was that just a timing issue or was something else going on there?

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [22]

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Yes. First of all, let's just remember that it closed at the end of April, so we only had 2 months' worth and it was just a kind of a start of the -- of there. We're still comfortable with the $5 million to $8 million that we had said for the revenue for the 5 months of the year.

The VMI is not included in those numbers. When I talk about -- VMI, basically, we've already fully integrated and it's just kind of rolled into our overall detector business -- or our overall Industrial business, excuse me.

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Anthony Charles Petrone, Jefferies LLC, Research Division - Equity Analyst [23]

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No. That's helpful. And maybe just to shift gears on the tube business specifically and the China OEM order book. So when you look at that number and just given sort of the most recent headlines on tariffs or whether it'd be even currency fluctuations over in China, I mean, can you give us an update on how many China OEMs the company has orders with, the size of the order book? And is there anything incremental-based on the last week or so as it relates to trade wars?

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Sunny S. Sanyal, Varex Imaging Corporation - CEO, President & Director [24]

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Yes. Hey, Anthony, this is Sunny. In terms of just the general temperature and how things are going for us with tubes in China, there's -- frankly, there's really no change. The tariff situation since May, we've seen no -- the announcements in May did not impact us in any way. And as far as the tubes business is concerned, things are just progressing the way we had anticipated. All OEMs are continuing on with their R&D work and the release work, they're still continuing to make progress. We have -- we've had people move one or 2 steps in their R&D, and they're going into -- we see some going into their regulatory planning process. So that's moving forward. And our momentum and shipments of tubes to these customers have continued on. We've said that we were anticipating double the volume, we're clearly on track for that.

So I didn't have anything much to add other than to say the trade war so far hasn't impacted us beyond what was already factored-in a while back.

The most recent discussions, if you look at the List 4 that went into effect, the $300 billion, our products aren't in that list. The specific impact of that list isn't significant for us. I think what's still a wait-and-see is, is China done with its retaliatory actions or are there more to come? That's the part we don't know. But so far, since the May release didn't impact us, this current announcement didn't impact us. And frankly, the currency devaluation, the impact of that is not known. But at the same time, I don't expect that the Chinese OEMs, who are in the middle of all of this, will -- it'll matter much to them, the devaluation was a few percentage points.

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [25]

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Hey, Anthony, let me add one other thing around that because I do think it's kind of interesting is, is that when you look at China as a percentage of our business, last year, it was 10%. It's probably 1 point lower right now, and we've got a big shift going on. So we have significantly lower radiographic detectors being sold to Chinese customers, but it's offset by a significant increase in the amount of CT tubes that are going there.

So I mean it's a -- when we look forward and say, okay, as we ramp up production of radiographic detectors in Wuxi, we've got some opportunity there going forward. I think that's kind of the key point around that is, is that we have a chance to get that back as time goes on and then at the same time, leverage the continuing growth of CT tubes in China.

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Anthony Charles Petrone, Jefferies LLC, Research Division - Equity Analyst [26]

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Maybe just to shift over to -- on the Industrial side, it was a little light versus expectation, but the comp was certainly difficult just considering the performance last year. If you go back to last quarter and the comments here today that the last quarter, for instance, and earlier this year, you had some linear accelerate of placements on the security end, nondestructive testing was doing well and then CT tubes into airport security checkpoints for checked baggage, that has been doing well. So is there anything to read into the performance in Industrial in any one of those areas or was it just the tough comp?

And as you look forward, specifically in airport security, can you just give an update on the various different tender processes that are going on for checked baggage?

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Sunny S. Sanyal, Varex Imaging Corporation - CEO, President & Director [27]

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Yes. Hey, so let me take this -- Anthony, let me take a stab at that. By the way, Anthony, in your previous question, you asked about how are we doing with -- on the contracts to Chinese customers. As we had said that 8 out of 10 have some form of a contract with us. It's 3-year purchase agreements and that's stayed that way and those -- all those customers are still moving forward. So backlog, $140 million or so.

So in terms of the Industrial business, so there's the 2 parts, as we mentioned, the tubes for security versus cargo linear accelerators. It's the cargo linear accelerators business that is generally more lumpier. So we're battling 2 things, one is a really strong comp for -- from last year and a flattish cargo linear accelerator.

But the tubes -- the security side of the business, the battery side of the tubes business continues to be strong, continued momentum. The -- we don't have good visibility to our OEMs tender activity, but the demand for that is strong. I mean all I can say is, we were seeing very strong demand and the activity is fairly broad-based.

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Operator [28]

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Our next question is from Jim Sidoti with Sidoti & Company.

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James Philip Sidoti, Sidoti & Company, LLC - Research Analyst [29]

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Can you hear me?

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Sunny S. Sanyal, Varex Imaging Corporation - CEO, President & Director [30]

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Yes, Jim.

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Clarence R. Verhoef, Varex Imaging Corporation - Senior VP & CFO [31]

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Yes, I got you, Jim.

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James Philip Sidoti, Sidoti & Company, LLC - Research Analyst [32]

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Great. You talked a little bit about some new industrial products at least in the quarter. Can you give us a little more color on what they were?

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Sunny S. Sanyal, Varex Imaging Corporation - CEO, President & Director [33]

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Yes, there were -- we talked about 2 groups of products. One was a new linear accelerator. In the last -- last quarterly call, we announced that we had a new linear accelerator model that we're releasing. And this quarter, we actually had the first shipments of that, so we're very excited. But this product is, is -- and if you look at a traditional linear accelerator, it takes up a lot of space. It'd be pretty massive, very heavy, lots of parts and pieces. What we rolled out is a very svelte, small footprint. You're talking about 4 feet by 4 feet-type of a footprint and stands up tall, about 6 feet tall, occupies very little space, much lighter. So as a result, it can go into a very -- a much smaller vehicle. You don't need a massive tractor trailer to put this thing on. It can be -- so it can be fashioned into -- it can go into applications that are much more mobile.

Typically, for cargo scanning and security inspection, you need a big setup with -- it's fixed in the ground. But here, if you can put it on a small truck -- on the back of a small truck, then you can create mobile applications, and that's what we're excited about.

So it's no more about ports and borders. And the applications that our OEMs are looking at would be, to put them at crossings, anywhere on the road, you can -- wherever you can drive a truck up to, maybe in front of a bridge or before a parking garage or on -- at any venues like ball games, et cetera. So these are pretty -- it's a pretty flexible and dynamic and -- lin acc. So we're excited about it.

And then others group of products were just new digital detectors. We've -- in order to stay ahead of everyone and the competitors, we're -- we keep the pressure on by a continuous introduction of new models of digital detectors. So we launched some for general NDT, high-resolution detectors for NDT, and then also a ruggedized detector for oil and gas applications. We're -- as we said in our different verticals of the Industrial, we're focusing on a few different verticals, but the focus right now -- the current focus is on oil and gas. And we're launching application -- I mean products for scanning pipelines and small, large pipelines and oil fields and refineries. And so that -- those were the products.

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James Philip Sidoti, Sidoti & Company, LLC - Research Analyst [34]

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Okay. And then with regard to the recent news about tariffs, can you just go into a little more detail how the whole process, dealing with the OEMs in China works? And I mean are they sensitive to news like this? Or is this something where it takes 6 or 12 months to sign a deal and the short-term ups and downs really don't have a big effect on the negotiations?

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Sunny S. Sanyal, Varex Imaging Corporation - CEO, President & Director [35]

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Yes. So let me start by saying our OEM customers in the medical space particularly don't react quickly to any change because they've got to go through their -- even China has pretty cumbersome, very cumbersome regulatory process. In fact, it's much more cumbersome than the U.S. And they -- it takes them -- it can take as much as 12 months, in some cases, to get a CT system qualified or through the regulatory process. So they do not react quickly, and more so for tubes. Tubes are far more, I'd say, ingrained in their system design. And at the same time, the tariff for tubes is not -- is a small -- lower amount, 5%. So they have not been sensitive to it at all. And the day-to-day news, we're not seeing our customers reacting at all to those.

Where we see some impact is in the low-end radiographic detectors space where the integration is a lot easier. So people -- our clients can swap out these low-end radiographic detectors. And beginning of the year -- well, I'm sorry, beginning of this whole tariff trade war situation, which is almost a year ago now, we responded to our customers and entered into commercial agreements with them, where in some cases, they sucked up the tariffs; in some cases, we did; in some cases it was 50-50. And then as time went on and there was further escalation and trade war, I think customers started getting nervous about, well, there are other sources available of detectors.

So we then decided to backdown from just giving full-blown -- absorbing all the tariffs. And we decided not to, and that's why we pulled out a -- we pulled back from the low-end value radiographic digital detector business, which is a very small part of our overall business. But there, it was basically our call that we didn't want lose money on those detectors. But since this -- that particular space is easy to get back into, we're going to double down on this by building these detectors in China with local supply chain, with local manufacturing. And at the end of this year, we expect to launch the made-in-China products for China, and we'll get back in there with -- and win these customers back with margins.

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James Philip Sidoti, Sidoti & Company, LLC - Research Analyst [36]

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All right. And then the last one from me. With regards to M&A, you've done a couple of deals now this year in the past 18 months. Do you think you have enough on your plate right now and that you'll take a break from M&A? Or do you still continue to look for inorganic opportunities?

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Sunny S. Sanyal, Varex Imaging Corporation - CEO, President & Director [37]

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Yes. So we have an active pipeline. That said, our focus on -- with the free cash, is to pay down debt. And I think we've said that in our conversation, that we'd like to pay down the debt over the next 12, 18 months. That said, we'll keep an eye out for small tuck-ins. We may do some small tuck-ins at this point, we want to give that a little bit of a breather on the financials or the financing side and work on our debt a little bit.

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Operator [38]

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(Operator Instructions) Okay. At this time, there are no further questions. I would like to turn the floor back to Mr. Goldman for closing comments.

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Howard A. Goldman, Varex Imaging Corporation - Director of Investor & Public Relations [39]

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Thank you for your questions and participating in our earnings conference call for the third quarter of fiscal year 2019. A replay of this quarterly conference call will be available from today through August 20, and can be accessed at the company's website or by calling 1 (877) 660 6853 from anywhere in the U.S. or 1 (201) 612 7415 from non-U. S. locations. The replay conference access code is 13692630. Goodbye.

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Operator [40]

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This concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.