Varian Medical Systems Inc
Q3 2008 Earnings Call Transcript

Published: 24 Jul 2008

[Operator:]

Good day, ladies and gentlemen, and welcome to the third quarter Varian Medical Systems’ Earnings Conference Call. My name is Katie, and I will be your coordinator for today. At this time, all participants are in a listen-only mode. We will be facilitating a question-and-answer session towards the end of this conference. [Operator Instructions]. I would like to now turn the call over to your host for today, Mr. Spencer Sias. Sir, you may proceed.

[Spencer Sias:]

Thank you. Good afternoon, and welcome to Varian Medical Systems' conference call for the third quarter of fiscal year 2008. With me are Tim Guertin, President and CEO; Elisha Finney, CFO; and Tai Chen, our Corporate Controller. Tim will start this afternoon by summarizing our financial results and operational highlights for the quarter. Elisha will detail the P&L and balance sheet. And Tim will finish with the company's outlook for the fourth quarter and full fiscal year 2008, and our preliminary outlook for fiscal year 2009. We will take your questions following the presentation. To simplify our discussion, unless otherwise stated, all references to the quarter or year or fiscal quarters and fiscal years, quarterly comparisons are for the third quarter of fiscal year 2008 versus the third quarter of fiscal year 2007. Please be advised that this presentation and discussion contains predictions, estimates, and other forward-looking statements. Our use of words and phrases such as outlook, expect, believe, can, could, optimistic, should, estimate, confident, potential, and similar expressions are intended to identify those statements which represent our current judgment on future performance. While we believe them to be reasonable, these statements are subject to risks and uncertainties that could cause actual results to differ materially. Some of the risks relating to our business are described in our quarterly earnings release and in our filings with the SEC. We assume no obligation to update or revise the forward-looking statements because of new information, future events or otherwise. And now, here is Tim.

[Timothy E. Guertin:]

Good afternoon and welcome. Today we are reporting terrific performance for the third quarter of fiscal 2008. Net orders rose 15% to $575 million. Revenues rose 21% to $513 million. Operating earnings rose 35% to $89 million. Net earnings rose 47% to $74 million. And our quarter-ending backlog rose 13% to $1.8 billion. Our company hit on all cylinders, crossed [ph] all major businesses, as we address lifesaving needs are focused, X-ray energy and cancer therapy, filmless imaging and stronger security measures at ports and borders. Starting with cancer therapy. Our Oncology Systems businesses' third quarter rose… orders rose 12% to $461 million. Net order growth was 12% in North America and 13% in international markets or constant currency growth was 1% with gains in all regions but Europe. Year-to-date and trailing 12-month net order growth for this business was 13%. Oncology's net order growth was driven by unit volume for high-energy treatment machines, higher OB On Board Imagers for image-guided radiotherapy, and our new RapidArc products for faster, more conformal image-guided IMRT. Service also contributed significantly to Oncology Systems' orders growth during the quarter with the help of increasing customer adoption of software service agreements. RapidArc demand remained quite strong during the quarter. We now have more than 150 orders for RapidArc, including about 70 orders taken with new machines during the third quarter, in addition to the approximately 60 orders on new machines last quarter when we introduced the product. As expected, orders for RapidArc upgrades were down sequentially from the bolus [ph] of upgrade orders we experienced in the second quarter. RapidArc installations are underway, and treatments have already commenced at centers in Alabama, California, New York, Illinois, Texas, and Florida, as well as outside the U.S. in Denmark and the Netherlands. Clinicians are beginning to use RapidArc to treat prostate, head and neck and brain cancer, as well as soft tissue sarcomas. Doctors are also talking about using it for certain cases of pancreatic and lung cancer. We expect additional RapidArc treatment protocols will be developed as this technology is deployed more broadly in the clinical environment. Our RapidArc upgrade opportunity expanded during the quarter with order growth for our OB accessory, which is a prerequisite for RapidArc. The OB was included on nearly 80% of the high-energy treatment machines ordered during the quarter, and OB upgrade orders also rose above totals in the year ago quarter. As of the end of the quarter, we had completed 930 OB installations and we remain on track to complete 1,000 installations by the end of the fiscal year. These are already… these are ready candidates for RapidArc upgrades. Suffice it to say we are pleased with the market response to this new technology and we think it’s going to make a big difference to hundreds of thousands of cancer patients and caregivers around the world. Subsequent to the close of the quarter, we announced that our ARIA database and software for managing cancer clinics received the top ranking in a study released by KLAS, an independent research firm that monitors performance of healthcare vendors. Categories where ARIA excelled included ease-of-use, quality of releases and upgrades and compatibility of third-party… with third-party products. According to KLAS, Varian is considered by many providers to have the most developed and comprehensive oncology solution. This results from our commitment to continuous improvements and to making it easier and easier for all members of the clinical team to plan, deliver, and manage even the most advanced treatment protocols. As a result of our most recent improvements, ARIA now enables physicians to review patient images, plans, and records from their offices. There is a big timesaver that only Varian offers. We’ve also made it easier for clinicians working in paperless environments to tailor electronic medical records and reports that support their specific work processes. Now with our electronic scheduling tool, changes are reflected throughout the department within a shared database immediately without the need to distribute updates. We expect ARIA and all of our products will get better and better all the time. So, one of the key… which is one of the keys to making radiotherapy accessible to more patients. Touching briefly on reimbursements, CMS has had proposed new rates for calendar year 2009 released and these are in line with our expectations for a modest reduction in the code for daily IMRT delivery with increases in other codes, including basic treatment delivery. This validates our strategy of offering customers more versatile, high-throughput machines capable of treating the broadest possible range of cases with the lowest cost per procedure. All-in-all, the radiation oncology market looks very healthy. And our outlook for continued growth in this arena is optimistic. Before ending my remarks about oncology, I just want to say that we are energized by the lifesaving work that we're doing, and sometimes by the patients themselves. To give you a recent example, Raisagar [ph], a 66-year-old expat and prostate cancer patient visited our plant in England where he is now living, so he could see and learn more about the technologies being used to treat his disease. To quote him, I lay on that machine during my treatment and thought, this is absolutely incredible, to be able to focus the beam with the in-point… pinpoint accuracy shows how far this treatment has come. This is the kind of thing that makes Varian employees feel very good about what they do. Turning now to X-Ray Products, our flat panel business had a spectacular quarter. Net orders for X-Ray Products rose 45% to $85 million, including a more than $11 million order from a large new customer, who is launching a multi-modality imaging system for medical diagnostics. Year-to-date, X-Ray Products’ net orders have grown 25%. We’ve added new products… customers for our flat-panel products while many existing customers have increased their order volumes. Meanwhile we continue to work on commercializing a new line of radiographic panels that is now starting to contribute to our orders growth rate. It should begin to impact sales growth in this business in fiscal 2009. The market is transitioning from film based imaging to flat panel digital imaging. Our customers in the X-ray imaging manufacturing industry are updating their product portfolios to go filmless, and we are a partner in many of these endeavors. As an example, a major Chinese equipment manufacturer is now incorporating our new radiographic panels into digital X-ray machines going to hospitals across China. For patients around the globe, our flat panel technology should enable faster, more cost effective imaging that reduces the time needed to take… to see a medical problem, make a diagnosis, and begin treatments. There's a lot of potential here. As we pointed out, flat panels could become a several hundred million dollar business for Varian, and the X-Ray Products team has made excellent progress on our strategy to realize this potential. I’ll finish up my comments by covering our other category, including our SIP, Security and Inspection Products business, the ACCEL proton therapy unit, and our Ginzton Technology Center. Total third quarter net orders for this category were $29 million, down 2% from the year-ago quarter when we acquired $3 million of BIR backlog. Excluding this acquired backlog, net orders for this category were up 8% versus the year-ago quarter, and 12% increase in SIP net orders. Year-to-date, SIP net orders are up 33% versus the comparable period in 2007. Volume deployments of security systems for ports and borders in Europe, the U.S. and the Far East drove orders for our SIP products. We are continuing to invest in our ACCEL proton therapy technology as planned, and we're talking with several institutions that are planning to build proton therapy centers. So, now I’ll turn it over to Elisha for a review of the numbers, and then come back to you with our outlook for the balance of the fiscal year.

[Elisha W. Finney:]

Thanks, Tim, and hello everyone. As usual, I will walk you through the income statement, as well as cover a few balance sheet items. As a reminder, we will only compare quarter-over-quarter results on a GAAP basis. These comparisons include the impact of option expensing, the acquisition of ACCEL in the second quarter of fiscal year '07, and the acquisition of BIR in the year-ago third quarter. Third quarter revenues of $513 million increased 21%. Oncology Systems posted an increase of 21% over a weak year-ago quarter. X-Ray Products posted a gain of 22% and revenues from businesses under the Other category increased by 23%. In constant currency, total company revenues increased 17% from the year-ago quarter. The third quarter gross margin for the company increased by almost a point to 41%. Even with continued losses from currency hedging, Oncology Systems' gross margin increased by more than a point to 43%, due primarily to product mix and higher volumes. X-Ray Products’ gross margin rose half a point to 40%, due to the higher proportion of flat panel revenues. Year-to-date, total company gross margin is almost even with the year-ago period at 41%. Third quarter SG&A expenses were $85 million or 17% of revenues, a full point improvement from the year-ago quarter. Year-to-date, SG&A as a percentage of revenues also improved by almost a point to 16%. R&D expenses were $36 million or 7% of revenues, even with the year-ago period, and year-to-date, R&D expenses are up 15% in absolute dollars, but down slightly as a percentage to 6% of revenues. Third quarter operating earnings rose 35% to $89 million or 17% of revenues, up almost two points from the year-ago quarter. Our Oncology Systems and X-Ray Products businesses together contributed $112 million in operating earnings while our Other category and corporate consumed a net $23 million. Year-to-date, operating earnings rose 24% to $277 million or 18% of revenues. Depreciation and amortization totaled $9 million for the quarter and $27 million year-to-date. Net interest income was $1 million for the quarter. The effective tax rate was an unusually low 18% due to significant discrete tax benefits stemming primarily from our adoption of FIN 48 earlier in the year, and a positive resolution of a foreign tax audit. We now expect the tax rate for fiscal year 2008 to be about 30%. Compared to the year-ago quarter, diluted shares dropped by almost 3 million to 127 million due to the ongoing share repurchase program. Diluted earnings per share rose 49% to $0.58. Now turning to the balance sheet, we ended the quarter with cash and cash equivalents of $406 million, combined short and long-term debt of $107 million, and stockholders’ equity of $952 million. DSO for the quarter was 79 days, down 14 days from the year-ago quarter. This improvement was due to the exceptionally strong collections during the quarter. Cash flow from operations was a third quarter record, $114 million. The primary sources of cash were net earnings and a reduction in accounts receivable. Primary uses of cash were $62 million for the stock repurchase program and $21 million for capital expenditures. During the quarter, we spent $62 million to repurchase 1.2 million shares under a 12 million-share repurchase authorization that extends through the end of this calendar year. Since fiscal year 2001, we have repurchased 35 million shares at a weighted average price of just over $39 per share. Now, I will turn it back over to Tim for the outlook.

[Timothy E. Guertin:]

Thanks, Elisha. Given the strong results from the third quarter and a positive outlook in our major businesses, we believe that for 2008 total company revenue should increase by about 17% to 18% above 2007, net earnings per diluted share for 2008 should grow by about 22% over the total for 2007. At this very early stage, we estimate that revenues for fiscal 2009 could grow by about 12%, and earnings per diluted share should grow at a slightly faster rate than revenues. We are confident in our growth strategy. We are well positioned to improve cancer therapy treatment around the world, support the transition to digital imaging and strengthen security measures at ports and borders, our outlook for the quarter and the year ahead is optimistic. It’s a great time to be part of Varian Medical Systems. And we will now take your questions. Question and Answer

[Operator:]

[Operator Instructions]. Your first question comes from the line of Amit Hazan from Oppenheimer. Please proceed.

[Amit Hazan:]

Thank you, hi. Good afternoon, guys.

[Timothy E. Guertin:]

Hi, Amit.

[Amit Hazan:]

I thought maybe first on, on RapidArc, just for housekeeping, if you can help us out. I think I heard a few numbers, I heard a 150 number for orders, but I heard 70 orders in the quarter. So, can you help us get to that number if there was 60 in March and 70 now? Just to reconcile that and if you can help us by also breaking out those 70 units in the quarter like you did last time between the units that were ordered on…new units ordered during the quarter and those on the units sitting in backlog?

[Timothy E. Guertin:]

Yeah, Amit, this is Tim. Well, I will try to help you and then Elisha will fix what I say. The…last quarter, we had about six…I think, we said we had more than 60. About 60 were the orders that came with new machines, we had more than 60 and the rest were…were upgrades and we didn't specify the exact number. We just said more than 60. This quarter we had about 70 that came with machines and the reason why we are saying it that way is, because we are drawing… we are trying to draw attention to the fact that last quarter, we had this bolus of upgrade orders, and I didn't expect that to continue, and I think, I had been saying that consistently that that was, I felt a one-time event. So the trend that I am paying attention to is the trend of the take grade that goes with new machines and that number has risen from about 60 last quarter to about 70 this quarter. So that's good news. It means it's going in the right direction. Upgrades went the other direction, they went down from quarter-to-quarter. So, if you have the 60 and the 70 and compared to 150, you get an idea about what I am talking about, but remember all of the numbers I am giving you are approximate and we in…for the 150, we got more than that and last time when we said 60, we got more than that. So I am not giving you exact numbers, but I am giving you the trends.

[Amit Hazan:]

Okay, great. And then, just in terms of RapidArc and how it impacted your P&L, I am wondering if you can tell us how many have been installed in the quarter and whether that was a component of helping gross margin and then likewise, how we should think about that going forward, maybe how many units you expect to install in September and even next year, just general thoughts on how that's going to impact the gross margin line and then operating margin line?

[Elisha W. Finney:]

Yeah, Amit, the good news is that really had only a very insignificant impact on the margin in Q3. So as you know for it's offered product, we are going to take the revenue on installation and acceptance of which by the end of the third there were a handful, there was a… some revenue taken in the quarter, it was tiny relative to the total on quality. It was less than 1%, one should say that, so we really have yet to see the P&L impact of RapidArc other than coming to on these orders in the backlog line, but it really has not been reflected in the sales and margin line as of yet.

[Amit Hazan:]

And going forward?

[Elisha W. Finney:]

Going forward, clearly as we ramp up and as we get more acceptances of the product, Q4 there will more than Q1, I would still claim, it's going to be pretty insignificant in the scheme of how big Q4 typically is. It's really more than FY '09 and FY '10 story.

[Amit Hazan:]

Okay, great and then just one more from me. On the unit side in terms of the actual orders for systems, I think, Tim, you mentioned that, you had that was one of the reasons that you had growth in the quarter, I am assuming that means that you had positive volume unit growth in the quarter, if you can just comment on that and also of course as it relates to what we get past about a lot in terms of hospital spending if you've seen any impact at all either in the order side or the installation side?

[Timothy E. Guertin:]

Yes, there was positive unit growth in the quarter as the U.S. continues to not display the problem for us that some other companies have seen, and we don't see any indications at the end of the third quarter of that problem manifesting in radiation oncology, I think I've said in the past that radiation oncology is part of cancer therapy and cancer therapy along with cardiology and emergency rooms are an important attract... a way to attract patients to hospitals. And so this is one of the areas where hospitals are inventing... investing. We've also seen good growth internationally in Asia, for example, we have had some very nice growth this year, I think and as we mentioned, I think the only area where in constant currency, we're just not seeing the growth that we might hope for this year would be in Europe and that's just because we just have a super competitive environment there.

[Amit Hazan:]

Okay, great. Thanks very much.

[Timothy E. Guertin:]

Thank you.

[Operator:]

Your next question comes from the line of Tycho Peterson from JPMorgan. Please proceed.

[Tycho Peterson:]

Hi, good afternoon.

[Timothy E. Guertin:]

Hi, Tycho.

[Tycho Peterson:]

Maybe, just I guess, following up on your last comment there, Tim, on just on the competitive landscape, I mean you have left that out there now, and can you just comment on whether the level of kind of competitive activities picked up and maybe if there is any underlying dynamic with regards to pricing that would be helpful?

[Timothy E. Guertin:]

Yeah. The competitive environment is pretty fierce especially in Europe. We are seeing some really almost desperation discounting on the part of competitors, and I expect that that would be hurting their future margins. They are taking deals that are pretty frightening. And so we are fighting with good products and we are fighting with what we think is reasonable pricing, and so I do think that that will affect the competitive environment. It means that you don't... you can't just walk in and offer better products and hope that customers will always do it, you have to fight. So in the U.S., I think pricing is fine. In the U.S., I think that people have accepted the new products and they have accepted our pricing, and since most of our competitors are manufacturing their machines outside the U.S., I think that helps in terms of what pricing they are willing to offer here.

[Tycho Peterson:]

Okay. And as I guess, maybe we think about high end to the market, can you just comment in and get a light, if you don't want to talk quantitatively about Novalis and what you are seeing there?

[Timothy E. Guertin:]

Well, the Novalis... we have a lot of interest on Novalis. This stereotactic market remains good, and so we are optimistic that that will remain important. I spend some time at a meeting. I went to a BrainLAB meeting and that's called the Novalis Circle in Santa Barbara a few weeks ago and it was a very... it's a very interesting meeting for me. I talked to some neurosurgeons who, like one neurosurgeon was telling me how she was able to dramatically reduce the pain that people were suffering and not necessarily always from cancer, sometimes there were benign diseases, and she just was incredibly enthusiastic about her ability to do that, and I talked to a lot of other neurosurgeons who were just feeling really good about using radiation surgery... as a method of surgery rather than using knives and drills. And so this is the kind of thing you want to hear. You want to know that surgeons are seeing your technology as appropriate for their patients and are fighting with radiation therapy, but are grateful to have it, and I'll add that the funnel for neurosurgical business looks very good.

[Tycho Peterson:]

Okay, maybe just then shifting gears quickly to the X-Ray business, you talked a little bit about bringing some costs out of that business at your analyst meeting here in New York, and so, I'm just wondering if you can talk as to where you are in terms of the input costs and end point costs out of flat panel and then also on the Toshiba agreement, how we should think about that ramping?

[Timothy E. Guertin:]

Well, in terms to flat panels, of course this has... that's a good gross margin business for us right now, and I think when you see these gross margins improvements, it's really because the mix of this business is changing favorably toward flat panels. On X-Ray tubes themselves, our guys are putting up the good fight there. They are putting in constant design changes when I go to the meetings with them, it is a litany of micro changes to the design to try to take this precious material out and add precious material out, and still have the reliability improve and these kinds of things. It's a very tough challenge that they have. But so far, I think we probably are still seeing some changes... some increases in costs for X-Ray tubes and they are trying to surmount that by having a better mix of high performance tubes at their higher margin. And what was the second part of your question?

[Tycho Peterson:]

It is on the Toshiba agreement that you announced at your analyst day?

[Timothy E. Guertin:]

Yeah, we, well, we have a long-term agreement with Toshiba, and it lasts for a couple of years, and so you will be seeing us book orders even as we go along. We will break into pieces as we get close to delivery and that's how we generally handle these kinds of contracts.

[Tycho Peterson:]

Okay. And then, I guess, just one, last one on cargo screening, are you seeing any activity around air cargo? I know that you talked a little bit about that in the past.

[Timothy E. Guertin:]

Well, there is interest in air cargo. We are so far have been focused on containers and trucks going through borders, and there are that the advantage that we would have for air cargo as you get these very large crates and strap-together boxes for air cargo, were are using our machines to X-ray them would be extremely valuable. But I would have to say that process is much slower than the process for ports and borders.

[Tycho Peterson:]

Okay.

[Timothy E. Guertin:]

I am not saying it's not going to happen, I am saying it's future growth potential, but I need future growth potential in the next three months.

[Tycho Peterson:]

Fair enough, all right. Thank you very much.

[Operator:]

Your next question comes from the line of Junaid Husain from Soleil Securities. Please proceed.

[Junaid Husain:]

Hi, guys.

[Timothy E. Guertin:]

Hi, how are you?

[Junaid Husain:]

Good. Just a few questions for you on RapidArc, I think you talked about that half of that performing roughly, two to three RapidArc conciliation per week. So easy math conservatively assuming that you are doing two to three insulations per week and assuming the insulation as began as call it May 1, is it fair to assume that you guys have probably have recognized sales on 50 to 50 [inaudible]?

[Timothy E. Guertin:]

It would not be fair to make that assumption. Let me explain, we... it is our typical method, when we introduce a new product to the market to ship a certain number to customers and then pause. And the reason why we pause is because we want to get feedback from those customers and make sure that when we start shipping in very large quantities, we are ready and the reason... there is a lot of reasons why that can happen, we can think that the product is ready, but then discover that different people have different network environments or different education needs or that the documentation can be improved or that certain questions ought to be answered or that certain additional training is needed, that sort of thing. So it's our procedure to see a fair number installed in the first month and a half and then a pause and that is what we have done. And so, I would expect us to pick up again here in the fourth quarter, but the real on slot [ph] RapidArc installation is going to happen in Q1.

[Junaid Husain:]

Okay, that's helpful. And then just shifting gears a little bit, Elisha, on the SG&A front given that the ASTRO meeting is about a month sooner than usual, and you have also got AAPM coming up next week, both of which in your fiscal fourth quarter. How should we be thinking about SG&A spend?

[Elisha W. Finney:]

Well, Junaid, I think you just come back to where we are year-to-date, which is down as a percentage of sales almost to full point and clearly those kinds of expenses are built into any guidance that we give you either for this year or next year. I would just say that's going to be in the noise level when you look at the total of Q4 being as large as it is for us.

[Timothy E. Guertin:]

Yeah, and a lot of the spending that we make for these thing starts sooner, way sooner than the meeting starts, three to six some times nine months out from the meetings.

[Junaid Husain:]

Okay, fair enough, and then just following-up on Tycho's question, I forgot to... Toshiba for X-ray tubes, I guess, I am little surprised by the deal relative to the overall sales in the X-ray franchise. so you can access the deals worth about a $100 million per year over the three-year life of the contract, which would make Toshiba, I guess, one-third of total X-ray products sales, am I reading that correctly?

[Elisha W. Finney:]

Absolutely yes.

[Timothy E. Guertin:]

They have that for a while, yeah.

[Junaid Husain:]

Is that what has been historically, it's been about a third?

[Timothy E. Guertin:]

I think, a third is probably about right, I'm trying to do the math in my head, but I think that's about right. They are very important customer for us and a very good, very important customer for us and what we like about them is that they have... they see the future and they...so they are very avant-garde in their thinking and they heavily emphasize quality in what they do and they work very closely with us to create good products. So we have a very collaborative relationship with them and we are just very pleased and I think they have a good management team.

[Junaid Husain:]

Great. And I guess, Tim, last question for you. We got AAPM next week in Houston, anything that we should be on the lookout for. I know it's a tad early to see any RapidArc data points, but anything that your academic guys are doing that should be on our radar screen?

[Timothy E. Guertin:]

Well, I think this is probably going to be another all RapidArc all the time AAPM for us. People are going to be coming and talking about, looking at plans, asking questions. A lot of people still can't quite figure out how we did it. And so there will be a... try and do explain it without explaining too much those kind of conversations. And there will be a users meeting on Saturday and that meeting will probably be a lot on the subject to RapidArc as well, along with other technology that we are having. I wouldn't want to give you the impression that RapidArc is the only thing we are doing. We are doing lots of other things that are also very important, but I suspect that AAPM will for us, we'll be spending well over half our time dealing with RapidArc-related questions.

[Junaid Husain:]

Great. Thanks so much guys. That's all I've got.

[Timothy E. Guertin:]

Thank you.

[Operator:]

Your next question comes from the line of Dalton Chandler from Needham & Company.

[Dalton Chandler:]

Hi, good afternoon.

[Timothy E. Guertin:]

Hi Dalton.

[Dalton Chandler:]

I guess, we couldn't have a call with the question about proton?

[Timothy E. Guertin:]

Elisha that's for you.

[Elisha W. Finney:]

[inaudible]

[Dalton Chandler:]

Well it's a last one on my list... so I think we are stuck with it... You announced the letter of intent on your first deal several weeks ago and I guess that deal hasn't closed yet. Is that... you think that's a typical timeframe in these kind of deals and then if you could comment on what you see in the pipeline how that might have changed since last quarter?

[Timothy E. Guertin:]

Yeah, it is a typical timeline. Proton agreements are some of the most exhaustively negotiated, time consuming agreements that occur in all of medicine. It's just a huge amount of money and everything needs to be nailed down and even though you have 95% of the details nailed down, that last 5% can be an enormous amount work. So I 'd say this is typical, I mean, we all understand the importance of getting these orders and doing it, but we also understand the importance of having the order be just right so... and by the way, so does NIU as an example. And we are talking to other people in addition to NIU and so we are confident that is going to happen, but we are not able to give you any accurate predictions as to the day and week in which you'll see an order come down.

[Dalton Chandler:]

When you say, you are talking to others in addition to NIU, you mean you are also had a letter of intent stage with others?

[Timothy E. Guertin:]

Yeah, I would say...I am looking at our proton person here and I guess the answer to your question is, yes.

[Dalton Chandler:]

Okay, good. Glad you are not looking at the attorney.

[Timothy E. Guertin:]

He is sitting right next to the attorney.

[Dalton Chandler:]

Okay, thanks a lot.

[Timothy E. Guertin:]

Thank you.

[Operator:]

Your next question comes from the line of Julie Hoggatt from Noble Financial. Please proceed.

[Julie Hoggatt:]

Good quarter. Most of my questions have been answered, but I just want to know a bit... the 1000 OB installations that you said you expected by year-end. How many were in this third quarter?

[Timothy E. Guertin:]

Oh boy, I only know the number that we ended with in the third quarter, which was 930...

[Elisha W. Finney:]

Versus was it 830 in the prior quarter.

[Timothy E. Guertin:]

So assuming that we haven't forgotten the number looks like it's about a 100.

[Julie Hoggatt:]

Okay. And then consolidating catches [ph] earlier, what percentage of the 70 RapidArc quarters this quarter was for upgrade?

[Timothy E. Guertin:]

That's 70 years [ph] with new machines.

[Julie Hoggatt:]

Okay. And can you give us an idea what the upgrades were like this quarter.

[Timothy E. Guertin:]

Well, that's why I gave you the number 150, I said more than a 150 so you can sort of figure that if it was about 60 last quarter and about 70 this quarter and there is more than 150, the difference would be upgrades. But you have to remember all these numbers are about and when I say 150, I said more than a 150. So I am being a little evasive about upgrades. I will say once again that the number of upgrades was down from the first quarter, we had bullish of upgrade business, which is what I expected when you introduce a new product you can get this bullish of upgrade, because of high interest but then you go back to a more normal number. Going forward, I expect that upgrades for a while will be a fairly small piece of RapidArc quarters, just simply because people haven't had time to put together their budgets for RapidArc and so they are adding RapidArc into their budgets for new machines that's more straightforward for them to do, but the budget for upgrades will be a relatively small number probably for another year.

[Julie Hoggatt:]

Okay. That's all I've got. Thank so much.

[Timothy E. Guertin:]

Thank you, Julie.

[Operator:]

Your next question comes from the line of Amit Bhalla from Citigroup. Please proceed.

[Amit Bhalla:]

Hi. Thanks for taking the question. I just start with a quick one on RapidArc. Did you already give the geographic mix of orders in the quarter, if you could repeat that'll be helpful?

[Elisha W. Finney:]

We did on for Q3 North America for Oncology is up 12%. International markets, up 13% in U.S. dollars.

[Amit Bhalla:]

Well I was just taking about RapidArc...?

[Elisha W. Finney:]

No. sorry. No we did not. It's... suffice it to say that majority in the U.S. as is typical with any new roll out of a new technology.

[Timothy E. Guertin:]

But we determine they were in all territories.

[Elisha W. Finney:]

All territories.

[Timothy E. Guertin:]

All territories contributed but most of the orders were in North America.

[Amit Bhalla:]

Okay, just wanted to go back to a comment you made in your preview, you talked about long-term growth and 11% to 12% range. Can you break out some of the components that you are assuming for the Radiation Oncology market. What are your assumptions for units, pricing, maybe if you get some numbers around that or even ranges, that will be helpful?

[Timothy E. Guertin:]

Well, just to give you an idea, we are expecting moderate unit growth in the Oncology business. Most of the growth is going to be not necessarily in this order in services because software is becoming a bigger and bigger piece of what we do and so software service agreements are becoming important to what we do and just software business in general and the more software business.... software business is good gross margin business so it tends to add profit faster. And once again in international territories the number of units is still not... these are the drivers related to units there are not enough units internationally and so we expect international growth well in the long-term would be stronger than it will in North America and that's one of the reasons, of course, why we invested in a plant in Asia was to try to accommodate that. So I think the big growth drivers will be software and software service agreements and product like RapidArc if you think about it have a substantial software element and then there are a number of new products that we see coming in future years that we are not talking about today and can't talk about today, that we think will enlarge the Radiation Oncology marketplace.

[Amit Bhalla:]

Okay. And just pricing, I just have one other follow-up after that?

[Timothy E. Guertin:]

Pricing, well. Pricing in North America remains good. Pricing internationally remains low and--

[Amit Bhalla:]

Sorry, Tim, I just meant pricing longer term what are the assumptions you have for pricing in the market?

[Timothy E. Guertin:]

Oh...pricing longer term. In aggregate, as the mix of pricing moves international that will tend to have a slight reduction effect in pricing internationally, I mean, in pricing. However, we plan to introduce new products and new capabilities in the future that we hope will increase the ASP for deals. ASP has gone up and we hope to continue to have it go up. I'm just saying it depends upon how you... what estimates and assumptions you make about the mix of international versus North America. And we hope to get even developing world, see the nice thing about our product line RapidArc is that if you think about the developing world, I think, I have told this story, I went to a hospital in China a few years ago and they were treating 120 patients a day on a machine and it was like a 16-hour day or maybe longer and that was not, and the result was because they had so many patients to treat because they didn't have enough machines, they had to really move patients through those machines, and it wasn't world class state-of-the-art radiation therapy. What…and once again, I will say that the best Chinese institutions do practice world-class radiation therapy, but what RapidArc can do is it can enable even small facilities in the developing world to treat patients really fast and get a high volume of patients per hour, and if they can get along patients an hour through those machines and deliver world-class radiation therapy and then they can run eight or... ten to 12-hour days. They should be able to handle a lot of patients and do a really good job for them. So, I think that that holds the potential for the developing world to buy maybe not as an expense of a machine is the trilogy of the neurology experts still buy a fairly high-end machine because the cost for patients becomes so low.

[Amit Bhalla:]

And, Tim, I just had a quick follow-up. In the press release, you did talk about faster-than-expected Oncology product acceptances. Does it mean there was the bigger than normal drawdown out of backlog, and if so can you give us, could you quantify that?

[Elisha W. Finney:]

No. I mean backlog is up 13% quarter-over-quarter and was up sequentially as well. So positive book-to-bill. I think this is just a reflection of getting back to a more normal cycle of getting products installed and accepted. As you recall last year, we had a tough couple of quarters [inaudible] backlog longer. This is just returning to our more normal pattern and getting the installations done quicker.

[Timothy E. Guertin:]

But, yeah I do...we do want to credit to the installation people. The installation people were heroic, and they have really cut down the cycle times for certain processes in a way that, I think surprised the management team a little bit as to how good they were, and so we are very pleased and we are very thankful, but it did create a little surprise for us there.

[Amit Bhalla:]

And thank you.

[Timothy E. Guertin:]

Thank you.

[Operator:]

Your next question comes from the line of Philip Legendy of Thomas Weisel Partners.

[Philip Legendy:]

Hi, good afternoon.

[Timothy E. Guertin:]

Good afternoon.

[Philip Legendy:]

I was wondering if you would comment on the prices you are able to get for RapidArc. I know you would at some point said you were listing at a 300, is it just, I'm wondering how that's playing out.

[Timothy E. Guertin:]

Yeah. This list price for RapidArc is 400,000, but what you have to remember is if people buy two, the price for the second one less than the price for the first one, and so that matters in the calculation. We are not giving out the actual achieved price, but I will tell they were right on what we expected.

[Philip Legendy:]

Okay. And is that... are you getting the same pricing for... upgrade orders as you are getting for systems that are sold as a complete package, I mean for the RapidArc component?

[Timothy E. Guertin:]

Yes. Mathematically you should treat those as the same.

[Philip Legendy:]

Okay. And then just to be sorry to come back to this, but the 150 systems, just want to make it sure I understand that is that, that includes all upgrades and all new systems to-date.

[Timothy E. Guertin:]

And when I say more than 150 that includes all upgrades and all that are sold with machines.

[Philip Legendy:]

Got it. And then last question, I wonder if you would comment just on your read of the health of the market generally in the United States and internationally and what do you think the market is growing at this point?

[Timothy E. Guertin:]

We think the market is growing north of 10%, so we think we probably gained a little share year-to-date. So, that gives us some reason for optimism. We think the market is growing well in Asia, in general, in Asia. Not, China itself is having a slow year; although, we have done well in China. China itself is having a slow year and that... that's just affected the way licenses are granted in China. The U.S. is, I think above where we have been saying it was in the north of 10% range.

[Philip Legendy:]

Okay. Thank you.

[Timothy E. Guertin:]

Thank you.

[Operator:]

At this time, I am showing we have no further questions, I would like to now turn the call back over to Mr. Spencer Sias for closing remarks.

[Spencer Sias:]

Thank you for participating. For listeners who may have come in late, this call has been taped and it will be available for replay on the Investor Relations page of our website at www.varian.com/investor beginning at 4

[Operator:]

Ladies and gentlemen, thank you for your participation in today's conference. This concludes the presentation. You may now disconnect. Have a wonderful day.