Greetings and welcome to the Varex Imaging Corporation Fourth Quarter and Fiscal Year 2019 Earnings Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] Please note this conference is being recorded. I’ll now turn the conference over to your host, Mr.

Howard Goldman, Director of Investor Relations. You may begin..

Good afternoon, and welcome to Varex Imaging Corporation’s earnings conference call for the fourth quarter and 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 annual comparisons are for fiscal year 2019 versus fiscal year 2018. Similarly, all references to the quarter are comparisons for the fourth quarter of fiscal 2019 versus the fourth quarter of fiscal 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. Outlook 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 our outlook for GAP 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 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 reports on Form 10-Q in our annual report on Form 10-K.

The information in this discussion speaks as of today's date and we assume no obligation to update or revise the forward-looking statements in this discussion. And now I’ll turn the call over to Sunny..

Thank you, Howard. Good afternoon and welcome. Fiscal year 2019 was a good year for us as revenues continued to grow despite a sizable tariff related headwind while our margins and profitability were consistent with the prior year. For the year revenues increased to $781 million from $773 million in the prior year.

Medical revenues declined 1% and industrial revenues increased 7%. Industrial now represents nearly 25% of our total revenues. Gross margins were comparable with the prior year.

Year-over-year we experienced strong revenue growth from oncology, CT and dental products as well as industrial imaging products for airport baggage screening and nondestructive testing. Direct conversion contributed $6 million of revenue in the second half of the year.

Partially offsetting these gains was a decline in digital detector sales primarily due to a tariff related reduction in radiographic detector sales in China. For comparison purposes, the tariff impact reduced our total revenues by nearly 3%.

Our industrial segment had a strong year with revenue growth driven by the continued adoption of next generation technology and digitization of inspection processes across multiple vertical markets.

A higher volume of our X-ray imaging products were purchased for checked baggage screening systems at airports as well as inspection applications in oil and gas, food, and manufacturing verticals. Our recent VMI and direct conversion acquisitions performed well in the Industrial segment.

VMI continues to expand our footprint in the oil and gas vertical by combining their industry specific software with other Varex products to provide a package solution to customers. We're also working closely with direct conversions photon counting customers to introduce our X-ray tubes and connect and control products for their imaging applications.

The integration of these acquisitions is going well, and we're pleased with their overall performance. In our medical segment, revenues declined despite good performance in global sales of CT and oncology products. We experienced lower sales of radiographic detectors and products for the non-OEM aftermarket.

Other medical modalities generally performed in line with our expectations. Looking at our China business, we saw a good quarterly sequential growth in CT tubes during the year, but we experienced the tariff related revenue reduction of nearly $20 million in radiographic digital detector sales.

All together for the fiscal year 8% of total company revenues were generated by product sales in China. Our Chinese OEM customers continue to make progress in bringing their CT systems to market. And I'm pleased to confirm that in fiscal year 2019 shipments of our CT tubes to local OEMs more than doubled from the prior year.

Consistent with demand from other world markets about two-thirds of the units shipped were for value and mid-level CT systems. During the past year we continued to expand manufacturing capabilities at our facilities in China, Germany and the Philippines.

In Wuxi, we're on track to be production ready for radiographic digital detectors by the end of the calendar year. In the meantime, our local sales team continues to aggressively pursue opportunities to recapture radiographic detector revenues.

In addition to China, we’re also extending our local for local strategy to Europe where we continue to expand the digital detector manufacturing in Germany. In addition we're shifting the manufacturing of other products such as heat exchangers to the Philippines where a number of our connect and control products are currently manufactured.

Among other things, these global footprint changes are intended to help us manage the impact of trade war between the US and China. While on and off discussions continue between the countries, I'm happy to report that we received a temporary exclusion from Section 301 tariffs on certain parts and components imported from China into the US.

One of our OEM customers recently renewed its multi-year agreement with us for digital detectors and has added X-ray tubes to the mix. We will become their lead supplier for these components and align our production with their imaging system manufacturing centers in Asia and Europe.

This is a nice example of the success of our strategy to get geographically close to our customers and offer locally manufactured products, providing service and support on a local basis was also a contributing factor to their decision.

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

Thanks, Sunny. And hello everyone. I'll focus primarily on the Q4 results, and the fiscal year financials can be found in our press release. After discussion of the results I'll provide our FY 2020 outlook. And then Sunny will provide a bit more information on our vision for the future.

In summary Q4 was another good quarter for revenue while gross margin improvements drove operating profits to their highest level in two years. For the fourth quarter revenues were $202 million compared to $205 million in the prior year quarter.

Medical revenues for the quarter declined 3% $152 million reflecting higher sales of CT, oncology and dental products that were more than offset by lower sales of products were radiographic, mammography and veterinary applications.

Industrial revenues increased 4% to $50 million mainly due to higher sales for airport security and nondestructive testing applications while sales for cargo security declined compared to strong results in the prior year quarter. For the fourth quarter our gross margin was 35% compared to 29% in the prior year quarter.

Medical segment gross margin improved by about eight points over a soft quarter a year ago which included restructuring charges that amount to approximately three points of gross margin.

The remaining improvement was primarily due to product cost reductions and favorable manufacturing variances in the detector business and to a lesser extent contributions from the software business. Industrial segment gross margin improved by about one point versus the prior year also due to the improvements in the detector business.

Overall the adjusted gross margin was 36% compared to 33% in the prior year quarter.

R&D expenses were $19 million in the fourth quarter a decrease of $2 million dollars from the prior year quarter, for the fiscal year R&D expense was under 10% of revenues even with the addition of direct conversion which has had a higher rate R&D rate than our organic business.

Fourth quarter SG&A expenses were $35 million and included approximately $7 million of additional expenses related to restructuring and other non-operational costs.

SG&A expense for the prior quarter were $32 million and also included approximately $7 million of similar additional expenses Specifically in the fourth quarter we recorded $3 million of restructuring costs associated with the closure of the Santa Clara facility.

The project remains on track to cease operations by the end of the calendar year 2020 and to have all closure activities completed by mid-2021. Depreciation and amortization totaled $9 million for the fourth quarter in line with the prior year quarter.

Our operating earnings for the fourth quarter were $17 million compared to $6 million in the year ago quarter. Our adjusted operating earnings for the fourth quarter were $27 million compared to $21 million in the year ago quarter. Interest expense in the fourth quarter was $5 million, which is comparable to the year ago quarter.

Tax expense for the quarter – fourth quarter was $2 million compared to a tax benefit of less than $1 million in the prior year quarter. For fiscal year 2019 our effective tax rate was 21% compared to 20% in the prior fiscal year.

We recorded net income of $9 million or $0.24 per diluted share in the fourth quarter compared to net earnings of less than $1 million or $0.01 per diluted share in the prior year quarter. Adjusted net earnings for the quarter were $18 million of $0.46 per diluted share compared to $11 million or $0.29 cents a share in the prior year quarter.

Diluted shares outstanding were 38.9 million shares versus 38.4 million shares in the prior year. Looking at our working capital accounts receivables increased by $15 million during the quarter. Days sales outstanding was 62 days compared to 60 days in the year – in the prior year quarter.

Inventory decreased $12 million in the fourth quarter to $251 million. We ended the fourth quarter with cash and cash equivalents of $30 million. For the fiscal year, we had cash flow from operations of $71 million.

We spent $73 million to fund the Direct Conversion acquisition and invest in joint ventures and we used $20 million for property, plant and equipment During the quarter we’ve reduced debt by a $15 million and ended the year with total debt outstanding of $395 million compared $390 million at the end of the prior fiscal year.

Our outlook for fiscal year 2020 is that we expect revenues to be in the range of $790 million to $805 million, and we expect adjusted net earnings per diluted share to be between the $1.30 and a $1.45. To help you with your modeling, we anticipate that our adjusted gross margin will be in a range of 34.8% to 34 – 35.3% of revenues.

Our R&D investment to be about 10% of revenues and SG&A expense to be around 13.5% of revenues excluding unusual items. We expect interest from other expense to be in the range of $20 million to $22 million, and our effective tax rate to be approximately 22% to 24%.

Additionally included in our EPS outlook is an impact of approximately $0.05 to $0.07 for overlapping costs related to the transition of operations from Santa Clara to Salt Lake City. Now I'd like to turn the call back over to sunny for some closing remarks..

Thank you for that Clarence. Before we get to Q&A, I'd like to take a few minutes to outline some longer term thoughts for Varex.

As we think about how the future may unfold for Varex, a number of things get us excited about our business, first we play in two large healthy and growing markets, an established medical imaging market, and an emerging industrial imaging market, second we have the ability to out innovate competitors and provide an advantage to our OEM customers due to our focus as a pure-play x-ray technology company and our R&D investments, third are customer relationships which have lasted for decades provide us recurring business that give us the potential to be a significant part of their future product releases.

So let's look at each of these areas, first we get a 360 degree view of the we did a 360 degree view of the X-ray imaging markets, and we see continued growth in diagnostic imaging procedures and increasing investments being made in healthcare globally.

Developed markets such as US and Europe are inviting in newer systems that deliver better imaging with lower radiation exposure and improved workflow while emerging markets like China and India are making significant national commitments to health care for their people.

At the same time the growing middle class globally is now seeking out cutting edge dental care, mammography and cardiovascular treatment. We continue to believe that the medical imaging market will grow around 3% annually for the foreseeable future with some areas such as CT and oncology growing faster than that.

In China, we’re well-positioned to take advantage of the growth opportunities as the expansion of rural healthcare services and replacement of older CT systems are driving sales growth. Over the next year we expect to begin seeing sales of replacement CT tubes for our customer’s systems shipped during the previous 12 months to 18 months.

We also expect to see Chinese OEMs beginning to export their CT systems utilizing our tubes to other global markets. While the medical market is largely mature, we see the industrial market as a greenfield space that is growing twice as fast as the medical market.

Here we see the potential for our components to be included in new applications in a variety of verticals such as security, oil and gas, electronics, food inspection, automotive and aerospace.

Our new photon counting detector technology which enables multi-energy imaging for more precise material discrimination at high speeds is ideal for real time inspections such as those in assembly line settings and food inspection. Over time we expect this type of inspection to become widely adopted across many industry verticals.

Long term our opportunity in industrial imaging market could be as big or perhaps even bigger than our currently addressable medical imaging market.

Second, as an innovator we feel confident that our R&D investments in new platforms such as IGZO; CMOS; photon counting and carbon nanotubes will enable us to continue to leapfrog and outpace the competition.

We believe that in the long run IGZ0 has the potential to displace amorphous silicon as the predominant platform for detectors due to its inherent performance advantage and cost effectiveness. Similarly, we see flexible substrates replacing glass in detectors and making them lighter and more robust.

We are now actively engaging with OEMs to introduce commercial versions of these detectors using these technologies. Beyond fiscal year 2020 we expect photon counting and carbon nanotubes to start making their way into innovative applications.

Photon counting detectors are capable of imaging up to 10,000 frames per second and different shaped materials more precisely making them ideal for high speed imaging applications in industrial. We also intend to reinvent how x-rays are generated using carbon nanotube technology.

We can envision a future where x-ray tubes will not need heated filaments and be more like solid state devices that can be turned on and off at high speeds. Third, our customer relationships are stronger than ever.

During the course of the year, our business development activities resulted in several new footprint expansion projects with existing customers. We have a pipeline of customers who are working on bringing 3D imaging capabilities in mammography and dental as well as advances in high resolution imaging and surgery and cardiovascular.

Our CT tube customers are introducing new systems which feature cost effective, dual energy imaging with reduced dose. We also see our customers reinventing diagnostic radiography with high definition, 3D and soft tissue imaging.

We believe these new platforms will allow us to continue to differentiate ourselves competitively as we bring to our OEM customers significant new capabilities that will enable them to bring more advanced systems to market.

At the end of November we will be at RSNA in Chicago where we will be showcasing these expanded technological capabilities that I've just outlined. RSNA is the largest trade show event of the year for the medical imaging industry and many of our medical customers will be displaying new products which incorporate one or more of our components.

In summary we're well-positioned to excel in two large healthy and growing market segments, to lead with innovation and to continue to expand our customer relationships. We will now open up the call for your questions..

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

Great, thank you and maybe I'll start with a couple on guidance for Clarence and Sunny both the near and long-term guidance, it’s just as it relates to the gross margin guidance for fiscal 2020 – how much of that is coming from the Santa Clara facility being shuttered as opposed to stabilization in the price outlook and or mix so that would be the first question then and the second question on the longer-term guidance Sunny would be –the comment on industrial potentially being bigger than medical over time that's intriguing I'm wondering is that organic overall or do you need additional bolt on M&A to sort of see that through and then I'll have a couple of follow ups.

Thanks..

Sure. Let me start with first one and then I'll it over to Sunny so I think your question was a little bit trying to understand what if – what if any of their impact is on the gross margin from the Santa Clara facility in the FY 2020 guidance.

Fundamentally, it's continuing as is because most of the benefit from closure doesn't happen till the end of the calendar year, which puts it into our fiscal year 2021.

And we've got a little bit of a headwind there with the overlap costs, so we're hiring some folks in Salt Lake and adding some expense in Salt Lake to ramp up the activities here as we close down and slow down operations there.

And that works out to be something in the order of magnitude of 40 basis points to 50 basis points of gross margin impact associated with that. And beyond that I'd say that it's the rest of it is business as usual for the operations..

Okay..

Hey, Anthony. Regarding the industrial comment, couple of things, we're seeing a very healthy uptake of digital imaging technologies in the industrial space and it's and it's – and it's in a way accelerating driven by the technologies becoming faster and imaging can be now be done at high speed, in real time while products are being manufactured.

And so that's number one. We're seeing adoption increasing in many verticals, right.

If you’ve seen we’ve talked a lot about the security vertical, we’ve talked about oil and gas, and food, and what we are realizing as we get into each of these verticals is how profound the potential opportunity is to grow in these segments and the opportunities for new applications, and our learning with the acquisitions of VMI and Direct Conversion is giving us that insight into these verticals.

We have barely touched - we feel like we’ve barely touched the surface of that potential market opportunity because we're playing in a very few verticals where there are a lots of other verticals like electronics inspection, like sterilization, like aerospace, automotive where you know where we haven't yet put that type of rigor and focus on.

So that's why we feel very bullish that long term the industrial market will continue to grow, we will continue to grow with adoption of technologies and we feel well-positioned there.

Now your second comment about will it be organic or inorganic? The best way for us to get into these spaces would obviously be if you want to accelerate our entry into these spaces would be to continue to do small tuck-ins like the VMI acquisitions that not only gets us some key know-how or our product in the space but also a knowledge of the space, the applications expertise and the relationships and the channels and we will -- we keep an eye on these types of opportunities and we will continue to do that.

We just want to make sure that we can -- as we get into any vertical that we position ourselves in a way that where we can be a market leader in that vertical. And lastly what we’ve learned through the VMI acquisition and through direct conversion is that there is an opportunity for us to bring multiple of our components together into these spaces.

So it's not just about selling tubes or selling detectors. We're able to grow, expand the size of the pie, expand our addressable market by bringing multiple components into this space.

We had anticipated doing that with PerkinElmer and as we've started so for example PerkinElmer had detectors and our intention was also to continue to drive sales of our tubes in the space where our customers are using PerkinElmer detectors and we're doing the same thing with VMI customers that use VMI software are now considering our bigger packages with software detectors and tubes all package together.

So that’s why we are bullish about the long-term opportunities in the industrial space..

That's very helpful and then just two follow-ups would be – again just going back to fiscal 2020 guidance, I’m just wondering if you can give us an idea of what is in there for acquisition contribution at this point.

I think there's just this (inaudible) quarter for I think it’s VMI and then the last question would be just on China OEMs, no just an update on where the order book sits today I think last quarter was $140 million and maybe how that that order book has changed over the past 90 days? Thanks again..

Sure I'll touch on the first one and then I’ll let Sunny kind of give a little bit of further color on that – on the China topic so it wasn't VMI, VMI actually got closed almost a year ago.

A little bit more than a year ago so it was actually the direct conversion that we did in April that we closed in April so we had about five months of direct conversion in the FY 2019 results and so we did a full year benefit out of that.

Somewhere on the order magnitude of probably about – $8 million to $12 million is the expectation for the revenue impact from that and a little more accretive from a gross margin perspective. It has it has a good gross margin profile in that business..

So Anthony just first of all – we don't give orders or backlog information typically. In the past we've talked about our – kind of deals in China mainly to give a feel for how we're doing in the Chinese market, what the opportunities are so we had said that we had signed purchase agreements of about $140 million or so in – with Chinese OEMs.

Now that was for mainly for CT since then we've continued on with our business development activities and – as I mentioned earlier we've seen new projects with existing customers and we've continued on to grow our presence globally which includes China, we've signed – we've continued on with signing customers in – you know with – in several other areas of our products.

So our business in China is – you know I would say looks very healthy, short of that $20 million or so in lower value rad detectors that we lost because of the – you know the trade – the tariff – trade war and the tariffs, short of that – we would have had a really nice healthy growth in China.

So I would characterize it as our existing customers have continued to do well as expected, and we're continuing to see progress being made by them and we've continued to leverage our facilities in Wuxi to push the local for local type of commercial relationships, and we're seeing a nice traction there and we hope that we will continue to extend that to the radiographic detectors in the future as well and recoup that business..

Well, thanks again. Thank you..

Thank you. The next question comes from Larry Solow with CJS Securities. Please go ahead..

Good afternoon. Just a quick follow up, and then I had a few questions on the direct conversion. Just to clarify you sir – you said $8 million this year in the five months, and then it would be an incremental $8 million year to $12 million next year or so like $16 million to $20 million.

Is that right?.

No I didn't say $8 million for the current year, I said it's – but it's more – it was actually around $6 million for this year….

Okay..

A little bit north of $60 million ….

Okay..

And so – but the rest your math is right..

And then – so what – but I thought when you acquired it trailing 12 month revenue was $18 million.

So why is it lower now?.

Yes, I would say that it's not necessarily lower for next year as much as it – they got off to a little bit of a slow start this year just in the timing of – as they're introducing photon counting with new customers and new products there customers customers and new products.

Their customers have been a little bit slow in bringing those products to market, a little more and typical that we see in – in these complex products is there's a fair amount of development work around those. And so, that's not – have the same growth rate that we had expected in the second half of FY 2019.

And so at the end of the day though, I think it's – it's got a ton of opportunity in terms of where it's going and we're very excited about the direct conversion business. Photon counting is definitely a technology that the industry is excited about and we see a ton of opportunity there..

Okay. And then, just taking a step back, just looking at your revenue guidance as a whole and I know you don't guide per segment per se. But if we sort of take out the – you know it's basically like 1% to 3% top line growth and essentially flat 2% or plus or minus if we take out the Direct Conversion. So organically 0 to 2%.

Is the medical side growing because you know you can almost argue that if you're growing at normal growth rates in industrial, medical is probably based on your guidance declining next year, which would be kind of a surprise considering I assume China you know perhaps you know you should continue to get growth on the x-ray tube side and or maybe not? So maybe that's a question for you.

And then maybe capture some of this $20 million from the – that you lost from the detectors even a few million. You know so I'm just trying to grasp the difference between you know how to parse out your – your outlook on the revenue side..

Yes. So the - you're right. We don't go into the details of giving guidance by – by segment. But I would say that you know industrial is going to have a good year next year. We expect to see some – some good growth in there.

Medical is not declining though so I think it’s just to make sure that we're understanding that it's particularly because if we look at whether the opportunities that we have particularly around with CT and where that's going I think the other part of it though just to take, keep in mind is this we did not put in much activity for the rare detector recovery I guess as such in China yet I think that's still -- still to be done.

And we'll adjust for that if and when that's happening in the future there is a process that has to happen there to win that business back and that was not built into the guidance..

Okay. So it sounds like you know organic grows here to split between the two maybe a little bit higher on the industrial side I guess. Okay.

Just looking back on the – just on Q4 which a couple of questions on the gross margin – one of the question was going to be increased so much of the medical side some of that had to be one-time in nature but I guess you sort of answered that question because your outlook for next year is below the level that it was this quarter.

So I guess there was some one-timers in there. I know how a comp against one-time is on the negative side but there -- were there some one-time benefits in Q4 because you seem dramatically improved..

Yes.

I mean all in all I'd say we have very good performance in the business in the fourth quarter and it ended up with a gross margin rate of 36% that was -- that was a nice quarter for us and we had some you know some very good performance in the factories in terms of the yield that we had particularly on the detector side you know we had some challenges you know earlier in the year in the Santa Clara operations and so I think that was a -- it was nice to see a little bit of that behind us and see just more normal operations there.

I am you know I mentioned to Anthony and I said the same to you which is that there is some overlap cost that we're going to incur as we have to build up production as we transfer from the detector manufacturing from Santa Clara to Salt Lake. So that's going to hurt us to the tune of about 40 basis points or 50 basis points.

And then so that's probably the biggest thing. And then just being a little bit careful about the risk that we always have in our business relative to product mix is not an insignificant thing that we need to keep in mind..

Okay. Just one last thought since you brought up, just on the – so it sounds like you're not getting any benefit this year from the consolidation which you kind of had said on the last call too. Actually there will be a little bit of a $0.05 hit or whatever.

As you look out to fiscal 2021 you know you had sort of targeted I think CAD 21 million to CAD 21 million to CAD 27 million in savings.

I realize it's not a flip a switch and you will get that one right away, but is that number still attainable and maybe net a little bit less because maybe some of these expenses that you have to ramp up maybe those will be sustained?.

So, nothing has changed in our plans. I think the process is underway, it's a – you know it's a rigorous process to do this, you want to get validation with customers and the like and so.

So you're right there's a little bit of a ramp up that happens to that, you don't get the benefit all in one shot, but we're still comfortable with those projections of the amount of savings that we will get..

Okay. Thank you..

Sure..

Thank you. The next question comes from Suraj Kalia with Oppenheimer & Company. Please go ahead..

Good afternoon, gentlemen. Can you hear me, all right..

Yes. Hi, Suraj..

Pardon the background noise. So a few questions for Sunny and few for Clarence. Sunny you mentioned X-ray is using carbon nanotubes.

What is the time horizon on this are you all at liberty to talk about it now, and I'm really curious in terms of interchangeability because you know the analogy I have is like a solid – a solid state drive versus a hard risk. Right.

So, I can see what you guys are saying and that could be a quantum leap but can you put this within the time framework for us when is the next product cycle..

Yes. I'll take the second part of the question first, which is interchangeability. These are you know would be a different technology, so you wouldn't be able to take an existing product and just swap out with a solid state. I mean this with the carbon nanotube. Our customers to get the benefit from it, we have to build a new application around it.

So, if you take something like I'll use conceptual example, we take mammography, mammography the system is designed to be a moving system and it rotates or turns through a certain angle as it takes the images.

With carbon nanotubes you don't – you won’t need to have that movement, so the customer would have to redesign both mechanically but it would be a different system and also the electronics that drive it would be different.

So, the ways these products will be brought to market and this alone answers the first part of your question is through new product development cycles of our customers. So, the timeframe there inherently are longer.

So, we – there is no real feasible way for me to give you any guidance on that timeline but it is the typical new application introduction timeline of OEMs which are fairly lengthy..

Got it. And I'll just keep one additional question for Clarence, sorry I'm just trying to keep myself warm here. Clarence – it’s freezing, trust me.

So, Clarence, in terms of gross margins, forgive me I must have missed your commentary about FY 2020 gross margin guidance, forget the redundancy, but how should we look upon FY 202 gross margin guidance especially within the medical segment vis-à-vis Q4, because the Q4 number was a significant step-up. Thank you..

Sure. So, yes, what I had said is to that the gross margins for FY 2020 would be in the range of 34.8% to 35.3%. That's our estimate at this point in time and our outlook on it. And so that's – and that’s you know you always have the puts and takes that happen in gross margin.

So it's going to be things in terms of relative to the product mix that goes on that causes some variation in it, the impact of something like higher mix that we might have from the benefit of direct conversion added in there, relatively small numbers over, but it still has a little bit of an impact.

And then you know if we have you know a little bit of favorability from a mix of the industrial side of things, those are things that can be favorable as well. At the same time you have the challenges that we have particularly in the detector side of the business which is price erosion.

And so we work very hard on offsetting price erosion impact with cost reduction either through supply chain or through redesign of products. Those are the things that we do that try to keep those things in in parallel with each other as such.

And so that's where we end up with a gross margin in FY 2020 at this point in time similar to what it is in FY 2019. I would say a little bit of slight improvement is expected as such.

And I mean – and probably the other big factor is as you're going to have, you have to be a little bit patient for us to get the benefit from the Santa Clara closure because that's when we're going to get the more significant impact on the gross margin going forward..

Thank you. The next question comes from Jim Sidoti with Sidoti & Company. Please go ahead..

Good afternoon.

Can you just -- I'm sorry if you have said this earlier today, can you just tell me what the revenue from direct conversion was in the quarter?.

In the quarter is around $4 million, $6 million for the year..

Okay.

All right and looking at gross margin it sounds like you benefit from the consolidation really won’t show up until fiscal 2021, is that right?.

That's a fair way to think of it. Yes..

Okay.

And then with regards to the medical business I think you said the shortfall within the mammography and this business is that just timing or is there any kind of end user trends really you can call?.

That's a good question because you know we always a little hesitant about giving too much color on a single quarter because that's the single point in time. I think the annual numbers are much more impactful in terms of looking at things and I typically want to look at things from a trailing 12 months perspective.

So yes a little bit of the slowdown and then in mammo and in vet are just basically more dependent on what you're comparing to in terms of the prior year quarter than anything else.

The only one that has been consistent for this year is that we've seen obviously the slowdown in the china rare detector business that's been the one -- that we saw throughout the year, and that's been – you know the impact of tariffs that we've talked about.

The good news around that is – it’s finally anniversary – so we’re going to stop talking about it going forward, we won't have to anymore and hopefully the conversation is actually transitioning to more of the positive about new business that we gain with that going forward..

All right. And then – in the quarter – you said the gross margins were stronger than you think that will be next year.

Is that a mix issue?.

No it was much more about operational about good performance in the factory, low manufacturing variances, very fundamentally not so much around mix..

Okay. All right.

And why don't you think that that will continue?.

Our history is a little bit of our guide here unfortunately.

So, I mean you've seen that we have times where you know particularly with an aging factory in Santa Clara we've had some ups and downs with that one, and so those are things that you know are challenges to us, and I would say you know also as we know – and we talked about this last quarter is this, as we ramp up new products particularly around CT tubes you end up with a learning curve that happens in the factory around those products and yield gets a bit of a challenge until we get the – get all the formulas figured out and get out the exact details on how to manufacture them effectively and efficiently..

Okay. So that led us to question me – you know in fiscal 2019, it seems like revenue was kind of 48% in first half a year, 52% the second half.

Is that something you think will – you know I know you don’t wanted to get into too much details on the quarters, but a little bit higher revenue in the second half than the first half of the year is that reasonable?.

Yes, you know Jim, I think it’s actually a good story for us that we did have the more evenly balanced year because if you go back and look at FY 2017 and 2018, we had quarters that had a fair amount of variability to them. And so as we looked at as we went through FY 2019, we saw a little more evenly balanced revenues by quarter for sure.

And some of that is as our portfolio broadens as we have more and more products out there and more – more customers as such it helps to do a little bit of smoothing of that. I think that's probably the biggest factor that's going on right now and so just using FY 2019 as our guide I would say FY 2020 would be something similar.

I'm keeping my fingers crossed as such because it’s not always perfectly predictable..

Right. Right. And then last question for me. You know if we get out of bed tomorrow and the trade war with China is resolved, the tariffs go away, you know you’ve done a lot to kind of mitigate the impact of the tariff, you know what would be the impact on you guys if all of this suddenly went away..

Yes. So, you know overnight there would be some nominal impact of the additional duties that we’re paying on some imports, but the real impact for us will be slightly longer term because you recall what we did was in response to the tariffs, we expanded our production footprint into China and Germany.

And secondly we went to – we started to develop out our supply chain in China and that takes – that takes a little bit of time to materialize, so essentially we had planned to do that as part of the China 2025, so we would have done these things somewhere in 2023, but instead we put out those pieces in place now.

So, what we will – what you should see is then within 12 months or so, that we would see nice benefit from lower cost materials from China that if we don't have to pay that 25% tariffs..

Okay..

So….

Thank you..

[Multiple Speakers] that would be a gross margin impact I'd say 12 months after something like that..

Right. Okay. Thank you very much..

Thanks, Jim..

Thank you. The next question comes from Larry Solow with CJS Securities. Please go ahead..

Great, thanks. Just a couple of follow-ups.

Just on the tax rate and effective tax rate in the quarter and does that include what was this, you had a $1.5 million non-operational tax adjustment what exactly is that?.

So the -- there are losses in certain jurisdictions that are not tax deductible but one of those jurisdictions happens to be other losses are associated with the direct conversion the non-GAAP adjustments of direct conversion and so that's the adjustment associated with that..

Okay. So you add that back.

So the effective tax rate in the quarter was down 21% including that or it was less than those -- that before that adjustment?.

That was including that and 21% is for the year the effective tax rate was lower than that for the quarter..

Okay. That’s right. So I thought I was trying to figure that out. Okay..

Yes..

Do you have that number handy..

I'm going to go a little bit off the top of my head on this one I think it's somewhere in the range of about 13% somewhere in that kind of range..

Okay. So you had a benefit in the quarter that helped the bottom line….

Exactly. You know I think the other thing you know tax reform that happened with U.S.

tax reform a year ago has made some of this stuff pretty complicated and so one of the challenges that we had was is determining how to handle the profits that are outside the US and so there's new regulations about that some special regulations and we got – after we did a lot of hard work on that we ended up with a reasonably good adjustment because I expected the tax rate to be a bit higher than what we ended up at.

We were at – 21% I was expecting it to be a couple of points higher than that for the year and so I do think we got a little bit of a nice benefit from that perspective..

Right because I think last quarter (inaudible) you actually part of your guidance adjustment or you had mentioned that the tax rate was going to be higher for this year and I thought that was going to be maybe maintained into next year but I guess the question is, so it's down again back to the lower 20s is that to China because I know if you turn profitable there that wouldn't – actually (inaudible)..

Yes we still have a bit of a challenge in China and that's why part of why the rate, my projection on the rate for next year is still a little bit higher than what it was in FY 2019 because we do have some exposure there in China and if we have still continue to have losses there..

Okay and just on the X-ray, CT tubes in China, I know last year you people had a forecasts and you've met that fortress of volume more than doubling.

Any directionally I know you give one today and I'm not necessarily expecting but – to keep continuously giving us a scorecard on that but directionally is that continuing to grow this year? Is it just maybe timing related or perhaps not growing or you know our modest growth in – I know some of these agreements and these dollar amounts that – were thrown out like the $140 million number that I just mentioned.

Those were just remind us, those are really just purchase agreements right. They're not a block – obligated to purchase that amount. All right so and don’t some of those already expire? I think they're already coming upon that three year anniversaries, right..

Yes. Hey, Larry. So, this is Sunny. So our agreements with our customers tend to roll over and to – they – we keep renewing them. And so as these agreements you know would come up for their term period we just sit down and renew them again. So that they'll be – they'll sort of be evergreen in that sense.

The trajectory of the CT business is still an upward trend, and we can – and we expect that to continue to be an upward trend for two reasons. One, the – you know the CT market growth in China is still expected to be strong.

And secondly, we expect now that to start seeing better uplift from the replacement tubes for the initial tubes that are sold over the last 12 months to 18 months.

So we're bullish about the China’s CT market, but for you know again we gave one-time color to give you a feel for the trajectory, we're going to stop keeping that score going forward, and because it – so the answer to your question is we're expecting a continued positive trajectory..

No. I understood. Understood. But just to help us calculate you know because I know you know myself included you know we sort of took that number at first glance whatever it was $125, and then you know try to operate it over a certain time period.

But in theory it's – that's not really correct, right because the one period is shifting – so clearly it shifted, right..

Overall, if you take the – you know some customers brought their products on time, some are delayed, all in if I were to blend this all out, there was about probably a one year let’s say blended – I'm just….

That’s fine..

Taking an educated guess here, yes, roughly a 12 months slide across a group of about 8 or 10 customers. So, but the trajectories, I mean, I'd say the curve is the same, it has interesting….

Okay. But so in theory you could still get that whatever that may be $120 million over, instead of a three year period plan necessarily five plus year period, maybe it’s four or something like you give on that. Okay. Thanks. That’s helpful..

As we had said, the NPI cycles are – have the regulatory risk embedded in them. I’d say that, that’s we’re just seeing, what we’re seeing is just natural course of NPI introduction and timelines..

And then just last question on tariffs. Did the exclusion, Section 301 exclusion, I assume that would help you in the short run at least from supply chain cost, higher supply chain cost.

It sounds like until you fully develop your – develop out your supply chain, is that – so would that be able to be a benefit for you, or is it not such a big deal?.

Yes. It makes tariffs at least for the near term a non-even for us for the stuff that’s being imported into the US. So that was you know not a large number to us in FY 2019. So I think – so it's helpful for us, but it's you know it's not a major factor..

Great. Okay. Excellent. Thank you..

Thank you. We have reached the end of our question and answer session. I will turn the call over to Mr. Goldman for closing remarks..

Thank you for your questions and participating in our earnings conference call for the fourth quarter and fiscal year 2019. A replay of this quarterly conference call will be available through November 26th and can be accessed at the company's website or by calling 1-877-660-6853 from anywhere in the US or 1-201-612-7415 from non-US locations.

The replay of the conference call access code is 13695628. Good bye..

Thank you. This concludes today’s conference. And you may disconnect your lines at this time. Thank you for your participation..