Sunny Sanyal - President, Chief Executive Officer Sam Maheshwari - Chief Financial Officer Clarence Verhoef - Retiring Chief Financial Officer Howard Goldman - Director of Investor Relations.

Greetings! And welcome to the 3Q FY ’20 Earnings Conference Call. At this time all participants are in a listen-only mode. A question-and-answer session will follow the formal presentation. [Operator Instructions] As a reminder, this conference is being recorded. I would now like to turn the conference over to your host, Mr.

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

Good afternoon and welcome to Varex Imaging Corporation’s earnings conference call for the third quarter of fiscal year 2020. With me today are Sunny Sanyal, our President and CEO; Sam Maheshwari our new CFO, and Clarence Verhoef, our Retiring CFO.

To simplify our discussion, unless otherwise stated, all references to the quarter are for the third quarter of fiscal year 2020, unless otherwise stated comparisons are to the same quarter of the prior year. On today's call we will discuss certain non-GAAP financial measures.

These non-GAAP measures are not presented in accordance with, nor are they a substitute for GAAP financial measures. We provided a reconciliation of each non-GAAP financial measure to the most directly comparable GAAP financial measure in our earnings press release, which is posted on our website.

Please be advised that during this call we will be making forward-looking statements, which are predictions or projections about future events. These statements are based on current expectations and assumptions that are subject to risks and uncertainties that could cause actual results to differ materially from those anticipated.

Risks relating to our business are described in our quarterly earnings release and our filings with the SEC.

Additional information concerning factors that could cause actual results to materially differ from those anticipated is contained in our SEC filings, including Item 1A-Risk Factors of our quarterly reports on Form 10-Q and our annual report on Form 10-K.

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

Thank you, Howard. Good afternoon everyone and welcome. Before we begin, it's my pleasure to introduce you to our new CFO, Sam Maheshwari. Same brings to us more than 20 years of experience in finance with private and public high-tech companies and this experience will be instrumental in leading Varex into our next stage of growth.

Sam will have some remarks today before we get into the Q&A. Also here with us is Clarence Verhoef, who’s been our CFO up to this point.

On behalf of everyone at Varex, I want to thank him for his service during the past 15 years and particularly for his leadership during the spin-off of Varex and in getting us established as an independent public company. We wish Clarence all the best in his retirement.

The COVID-19 pandemic began to impact our business in the second quarter of this year and it began as a shift in mix, largely between our medical and industrial segments along with a bubble of demand in certain areas of medical such as CT Tube and detectors for mobile X-ray.

As the pandemic progressed, in the third quarter we experienced a further slowdown in sales in our industrial segment, particularly in cargo and airport security. At the same time, we continue to see an increase in sales of CT and radiographic products.

These gains were offset by a significant decline in sales of our products used in elective medical procedures such as cardiology, oncology, dental and mammography. The net impact in the third quarter was a revenue declined of 13% from a year ago to $171 million.

On a segment basis, medical revenues decreased 9% and industrial decreased 25% from the prior year quarter. During the third quarter, we continue to see strength in CT and our volume of CT Tubes grew, particularly in sales for new systems, each of which represents a potential for recurring revenues in the future.

This growth in CTs came both, from our global OEM customers, as well as from demand in China. Despite the turbulence in our medical and industrial markets, we have continued to win new business, driven by our ongoing innovation, the strength of our decade’s long customer relationships and our efficient globally local manufacturing operations.

Our customers have continued to win in the markets that they sever, and rely on our innovative technologies to provide mission critical components for their systems. In fact one our veterinary customers recently celebrated the sale of their 4,000 system using our detectors.

Our customers in China who have been making steady progress with the sales of CT Systems are now experiencing market share gains in their local markets and we look forward to supplying them with a variety of components as their businesses grow.

In response to the COVID related decline in revenues and gross margins, we examined our product portfolio very closely and we decided to discontinue a number of low margin products in the quarter.

The combination of inventory charges for the discontinued products, unfavorable product mix and additional one-time adjustments led to an unusually low gross margin rate for the quarter. Over the past five months, we've also been taking actions to reduce expenses.

The results of those actions are reflected in our operating expenses for the third quarter, which declined by more than 10% sequentially from the second quarter of fiscal year 2020 and also from the prior year quarter.

Some of these cost actions such as furloughs, pay reductions and suspension of 401-K were temporary in nature and largely aimed at managing our cash flow.

In addition to these temporary measures, we also took some headcount reduction actions, which when combined with other actions will result in an overall work force reduction of about 10% this calendar year. The combined impact of these actions is expected to result in cost savings of more than $25 million in fiscal year ‘21.

Some of these actions have been completed, while the others will be carried out between now and the early part of fiscal year 2021.

These cost actions, rationalization of our product portfolio and productivity gains from closing the Santa Clara facility will better position Varex for when the X-ray imaging markets recover from the downturn caused by COVID-19. I want to recognize the contributions of employees that were impacted by our work force reduction.

These are valued employees and we wish them all the best. We have carefully assessed, reprioritized and redistributed their work, so that we can continue to execute our plans and meet our customer obligations. On that note, let me hand over the call to Clarence to talk about our financial performance in the third quarter in greater detail. .

Thanks Sunny and hello everyone! Third quarter saw an increased effect of the economic downturn due to COVID-19 on our business. From a financial perspective it has changed our business in three key areas. First of all, our revenues and gross margin profile changed significantly.

Second, it increased pressure on liquidity, so we modified our capital structure to ensure that we have the liquidity needed to weather the downturn for an extended amount of time. Third, the changing business forecast prompted an examination of our assets to ensure they were properly valued.

For the third quarter revenues were $171 million compared $197 million in the prior year quarter. Medical revenues for the quarter decreased $14 million to $138 million and industrial revenues decreased $12 million to $34 million. For the third quarter our gross margin was 15% compared to 31% in the prior year quarter.

During the quarter we incurred one-time costs of $16 million for the write-off of inventory associated with discontinued products and $1 million of restructuring charges. Excluding these unusual items and other non-GAAP adjustments, our adjusted or non-GAAP gross margin was 26% compared to 34% in the prior year quarter.

Still included in the non-GAAP gross margin were some unusual expenses that are not treated as non-GAAP adjustments, namely about $6 million or 4 points of margin from additional inventory reserves, higher freight and tariff costs and property revaluation.

The remaining margin decline from the prior year quarter was primarily due to unfavorable product mix and lower overhead absorption with reduced shipments. We did see reductions in operating expenses in the third quarter due to actions taken over the past several months.

R&D expenses were $19 million in the third quarter, a decrease of $2 million from the prior year quarter. R&D expense remained at about 11% of revenues for the quarter due to the lower revenue base. Third quarter SG&A expenses were $31 million, same as the prior year quarter.

Both periods included approximately $2 million of expenses related to acquisition integration, restructuring and other non-operational costs. During the quarter we also recorded a $3 million charge for the impairment of some intangibles associated with the acquisition of direct conversion.

Depreciation and amortization totaled $10 million for the third quarter compared to $9 million in the prior year. The third quarter included $1 million of accelerated depreciation related to the closure of the Santa Clara facility.

We had an operating loss for the third quarter of $27 million compared to operating income of $5 million in the year ago quarter. Our non-GAAP operating loss for the third quarter was $1 million compared to operating income of $19 million in the year ago quarter.

Interest expense in the third quarter was $7 million, including $1 million of non-cash interest charges associated with the convertible debt issuance, compared to $5 million of interest expense in the year ago quarter.

Other expenses were $6 million for the third quarter and included $3 million for the impairment of investment in a start-up detector technology, as well as $1 million of expense associated with the valuation of deferred consideration for the acquisition or direct conversion.

The remaining amount of other expense was due to losses from foreign exchange and unconsolidated joint ventures. We recorded a tax benefit for the third quarter of $12 million compared to tax expense of $1 million in the prior year quarter.

We had a net loss of $28 million or $0.73 per diluted share in the third quarter compared to a net loss of $1 million or $0.04 per diluted share in the prior year quarter.

The non-GAAP net loss for the quarter was $8 million or $0.20 per diluted share compared to non-GAAP net earnings of $9 million or $0.24 per diluted share in the prior year quarter. Diluted shares outstanding were 39 million shares compared to 38.3 million shares in the prior year quarter.

Turning to the balance sheet, accounts receivable decreased by $17 million during the quarter. Collections remained stable with day sales outstanding at 58 days, same as in the prior year quarter. The inventory remained flat in the third quarter at $283 million.

Cash flow from operations was $1 million for the third quarter and is $25 million for the fiscal year to-date compared to $49 million for the prior year to-date. We ended the third quarter with cash and cash equivalents of $87 million, which is an increase of $63 million in the quarter.

Correspondingly, total gross debt outstanding increased by $86 million during the quarter to $469 million. The profile of our debt has changed. We now have total bank debt of $269 million, almost entirely on the term loan, plus an undrawn revolving credit facility with $100 million available.

In addition, in the third quarter we issued $200 million of convertible notes that are due in five years. The net proceeds were used to reduce the bank debt and increase our cash balance. The notes have a 4% interest rate that was paid biannually and are callable after three years.

The conversion feature was set at a 25% premium, but we purchased a call spread to effectively raise that to 50%.

We have strengthened our liquidity position with a higher cash balance and availability under the revolver and will continue to drive programs to improve our cash flow such as cost reduction plans, lower working capital and reduced capital equipment purchases.

As I head into retirement, I want to say thanks for all the support I've gotten from everyone on the Varex team. Over the past 15 years, I've been very lucky to build bonds with so many wonderful people in this company and I really appreciate their friendship, as well as their commitment to the Varex vision. Let me focus on a couple.

First of all, I've had an incredible finance team that has worked tirelessly to close each quarter and help me dive into the details of the numbers.

Second, thanks to Sunny and the senior leadership for being great partners for the past four years, and then last but certainly not the least, a special thanks to the legal team and to Howard for everything that they have done for me and for Varex.

I'm excited about the prospects for Varex and I have a lot of confidence in Sunny and Sam’s ability to lead the company through its next phase of growth. With that, let me turn the discussion over to Sam for some comments on the outlook. .

Thanks Clarence. I'm excited to join Varex to help lead the company through its next phase of growth and profitability. As the first order of the job, I'll be working on improving the capital structure, as well as the operating and cost structure of the company. In the near term as Clearance noted, liquidity has become a key focus area for us.

Based on our current forecast we may not be able to meet some of the financial covenants under our existing credit agreement over the next 12 months. Hence, we are actively working on replacing the current credit facility with new sources of debt financing. More information on this will be included in our notice of late filing of third quarter 10-Q.

On the operating side, we continue to take steps to lower costs. First, the transfer of the detector production from the Santa Clara facility to Salt Lake City and other sites will be completed by the end of this fiscal year. The net annual benefit from this consolidation is projected to be approximately $15 million.

We expect this benefit to start showing on the P&L starting in fiscal 2021 and be fully reflected in the second quarter of fiscal 2021. Secondly, a few weeks ago we announced the reduction in force of 94 people.

This reduction is expected to result in annual savings of approximately $13 million and will be fully reflected on the P&L from the first quarter of fiscal 2021 and we continue to partner with our suppliers on cost reduction opportunities.

All these actions lead to a lower cost structure that will position Varex to have better profitability when the economy recovers from COVID-19. Due to the uncertainty associated with the COVID-19 pandemic, last quarter we withdrew guidance of revenue and EPS for the full fiscal year 2020.

While we reevaluate guidance that can be provided on an ongoing basis, for Q4 of fiscal 2020, we expect revenues to be in the range of $155 million to $170 million. With that, I would like to hand the call back to Sunny for some closing remarks. .

Thank you, Sam. While there are a number of uncertainties facing us, I am confident that once the effect of COVID-19 pandemic passes, the markets that we serve and the demands for our products will bounce back.

We are an innovation leader with market leading products and exceptional relationships with our customers, our end markets are resilient, and there is a lifelong given need for healthcare and security products.

During this economic downturn we have remained focused on our long term strategy and stayed on track with our new product introduction programs.

In addition, our facilities are operationally prepared to meet the demand that we expect to see when elective procedure volumes at healthcare facilities around the world and corresponding sales of imaging capital equipment returned to normal.

Despite the headwinds due to COVID-19, we are confident that not only the fundamentals of our business remain strong, but that our strategies for growth and market leadership are still spot on.

As we have discussed previously, the three pillars of our long term growth strategy are; first, to drive growth and market expansion via new product introductions and technology innovation to enable new applications.

Second, to drive growth in emerging markets by implementing a local for local strategy; and third, to drive growth via expansion into new and greenfield verticals of industrial imaging. We’ve made very good progress on all three fronts this year and the momentum continued in the third quarter.

Let me tell you a little bit more about progress made in each of these areas. Our customer and market success is enabled by innovation. It is what we are known for and the number one reason why our customers seek us out. Last fiscal year we launched nearly four dozen new or updated x-ray imaging products across our solution lines.

Continuing with that momentum this year, we've begun shipping early versions of our Z Platform detectors to our medical and dental customers. This platform approaches CMOS like performance cost effectively.

Over time we expect our Z Platform to be a disruptive technology which can potentially displace more of silicon as a platform in dynamic detectors. We are very happy with the enthusiastic early response by OEMs in surgery, cardiovascular and dental markets.

Along with the Z Platform is an array of our next generation lightweight, robot radiographic detectors with market leading wireless performance that are ideal for both fixed and mobile applications. We are shipping these detectors in volume now, and in the future we intend to make these detectors available on rugged, non-glass substrate.

Our innovation in CT technology has continued in both the high end segments of CT, as well as in the high volume 16, 32 and 64 slide segment intended for emerging markets and value segments of mature markets.

Since our recent launch, a full array of polymeters [ph] for radiographic and fluoroscopic applications, we have shipped over 5,000 units and are beginning to expand our customer base.

We have also continued to make progress with some anchor customers on incorporating our nanotube multimeter sources and photon counting detectors into potential new applications for the future.

The second leg of our strategy is to establish ourselves as a globally local company with our local for local approach to operations and customer relationships. We are now actively shipping detectors made in Wuxi and we have been shipping tubes assembled in Wuxi for a while now.

As I mentioned before, our local for local strategy is targeting both, growing relationships with our local OEMs like we have in China, as well as with our global OEM customers who want local content, local commercial and operational support from a partner like us. As you’re maybe aware, we've also implemented our local-for-local program in the U.S.

and Europe to serve our global OEM customers that have manufacturing facilities in these regions. We are unique in this capability and it is a significant differentiator. The third pillar of our strategy is to drive growth into industrial verticals.

In Q3 we saw a slowdown in sales for airport and cargo security and in oil and gas, but our market development and product development efforts in these verticals continue to move forward.

The value proposition for imaging applications is very strong in many industrial verticals and our perspective on this segment as a long term growth opportunity for us has not changed. We are at an important juncture in our evolution, as we transition from Varex 1.0 to Varex 2.0.

The first version is where among other things we stood up a new public company following our spin off, completed the integration and consolidation of a major acquisition and expanded our global footprint. Varex 2.0 will be about driving growth and improving our financial performance and capital structure.

Over the coming quarters, we will provide more information on our vision for Varex 2.0. With that, we will now open up the call for your questions. .

[Operator Instructions] Our first question comes from the line of Larry Solow with CJS Securities. You may proceed with your question. .

Great! Thank you very much and just first of all, Clarence best of luck to you and Sam, welcome here..

Thanks Larry. .

Thank you. .

Absolutely! Yeah, it’s my pleasure. Just a couple on the revenue trends and I realize you guys are a little bit longer cycle, but it does seem like OEMs, at least you are spending some money in some cases. So I'm just trying to separate this.

You know some of the mix drop obviously in some of your higher margin markets you know are more related to lots of surgeries and those things do seem to be coming back you know somewhat and again I realize you guys are not directly correlate with day-to-day activity. But just trying to figure, any color on are OEMs are starting to spend more now.

You mentioned there’s not much visibility and you sort of gave some revenue guidance to that. So I'm just trying to get a little more color on that if you can. .

Yeah, Larry, this is Sunny. To give you color on [inaudible] front and by geography. First reminder there, the components [Audio Gap] that go into these imaging equipment that the OEMs making and these are capital equipments. So what triggers the purchase of capital equipment is the availability of capital budget in the health care organizations.

So in terms of modalities, first of all as we said, CT has continued to stay active and strong through the whole process. We’ve seen this now throughout the year, in fact during the height of the pandemic, in the third quarter, in the second quarter we saw a bubble demanded in CT and then CT has still continued on.

So that was our projection if you recall, that CT is a versatile modality and there's a significant demand for CT globally and including the emerging markets, so that has continued on. Radiographic saw a bubble in demand. It's – you know it will settle down to some normal levels, but that was a bubble.

Where the significant drop off for us has been in oncology, cardiology, dental and mammography. These are what we’ve been calling as elective procedure modalities.

There it’s encouraging to see that the volumes – the procedural volumes are slowly ticking up in hospitals, that's great, and our customers are also making those comments that they are starting to see surgery volumes and cap volumes in dental and they are seeing that up-tick.

The question is for them is, when does capital equipment purchasing return to what used to be, let’s say in 2019 type of a normal. There the story is by geography.

What we're hearing from our customers and it’s probably consistent with what you – hopefully it's consistent with what your hearing as well, is certain markets like China came back fairly rapidly and China is headed back towards some flavor of normalcy. Rest of Asia is a little behind that.

Europe is starting on its uptick and people are confident that the markets in Europe are – now they are starting to see tender activity, quote activity, but there hasn't still yet been major buying activity, and the U.S. is the farthest – actually U.S. is behind that followed by Latin America, which is the farthest behind.

For us, for our customers, most of our customers, the U.S. represents the largest market for high-end products, and the rest of the country's emerging markets, while they're coming back, for us it's still you know some amount of the value segment products. So a lot depends on the recovery. The speed of recovery is the part that's unknown.

I hope I gave you enough color. So for us - we’ll proceed by geography and by modality. .

And any visibility? You mentioned sort of you know obviously the knock on effect.

OEMs, will only spend if the hospitals have demand, even with you know hopefully continued improvement in procedures, obviously hospitals will probably remain under pressure until COVID is not really an issue anymore, which unlikely will happen in the next six to 12 months.

So is there a possibility where hospitals are financially under a lot of pressure. So budgets remain well below normal for an extended period of time even in a post-COVID world..

Larry, that’s possible. We don't have a – I mean unfortunately our crystal ball on that is murky. However, given that our customers conduct business globally, we think that won’t be a global story. I think global – there will be a lot of variability in how that plays out globally. So the budgets are also not entirely hospital based budgets, right.

So mammography there's a lot of outpatient budget, physician offices and dental, most of the dental equipment goes into physician offices. So, if we will see a ratcheting up of modality based capital equipment purchasing versus light switch being thrown on.

So we are staying very, very close to this and as you know, we’re ahead of the value chain, on the supply chain front. So I'm optimistic that we will see some of these trends perhaps a little bit earlier than you may – that the actual shipments of equipment. .

Okay, fair enough. Just a quick question on – just one more on the gross margin. Clarence you mentioned the two drivers of the drop, obviously mix and then monitored overhead. The detrimental margin I think sequentially was like 70% or something. So even higher than I thought it would be, because I know Q2 was already somewhat impacted by mix.

It sounds like this quarter was probably worst.

Just trying to – if you had the bucket, those two categories, was it more of a mix in that 70% contraction or was overhead or both close to even?.

Yeah Larry, if you don’t mind, maybe I'll just go through a little bit of a walk from last year's gross margin of 34% to the 26% non-GAAP gross margin..

That’s fine. .

[Cross Talk] Okay.

So there was – even though we did some significant adjustments that we treated as non-GAAP there was also some items that were adjustments of one time in nature, but they did not get treated as non-GAAP, and that would have been some additional inventory reserves based on changing volume profile, some revaluation of some assets and that be an expense on the P&L that is not treated as a non-GAAP.

And then we also had an increase in freight and tariff costs. Somewhat – you know I mean mostly I'd say the freight is a lot of intercompany movement of freight, because – and inbound freight, so those costs have gone up recently. The combination of those one time kinds of advance is roughly three points, the gross margin.

The lower productivity, just and less overhead absorption, and I would put Santa Clara a little bit in the mix of that as well, complicating it is probably about two points and then the remaining balance of the eight point swing is three points of change due to mix, that's going to be the last part of it.

So I guess it's more important is that three points is tied to mix, but the other five points is, let’s call it some fairly unusual things either tied to volume or tied to one-time advance. .

Okay, now that’s useful color. Just last question on some of the products you guys are getting, markets you're exiting or products you are exiting.

Is this more on the detector side or I think you know it seems like that you know some of that lower end stuff was impacting your gross margin of less years and were these products actually losing money?.

Yes, so these – Larry, these are mostly detector products. You know these are electronics products with more frequent upgrade in models and faster NPI cycle.

So we looked at our older products that have replacement products for them and we took this opportunity to go back to the customers and work with them to get them to – you know a variety of different actions and which led to us deciding to shut them down. And that'll help us with our productivity and cost structures in the future. .

So it’s more a rationing of your skews as opposed to actually exiting the whole product line, just you know narrowing it down. .

That’s exactly right. So fundamentally, just because of – as we looked at the outlook based on the lower demand associated with COVID, it actually made us look at these products and say, ‘is there enough volume there to be worth wile?’ and made the determination they are not.

I would say generally speaking, they were not losing money products, but they were very low margin products. I think that’s the other kind of key point is that it should help us a little bit on the margin profile going forward. I'm not sure it's a huge impact, but I think it does help a little bit from that perspective. .

Okay, great. Thanks again. .

Our next question comes from the line of the Anthony Petrone with Jefferies. You may proceed with your question. .

Thanks again and I'll second the friendly departure to Clarence. It was great working with you and welcome Shubham to the group here. I need to pick off on the last one.

The question would be, is there a revenue run rate on the discontinued products? I don’t know if you mentioned what’s the actual revenue run rate and how much of that is reflected in the $155 million, $170 million guidance for the fourth quarter, and I have a couple of follow-ups. .

I don't have an exact answer for you on the number of revenue associated with those products, but it's low.

It's – that was part of the reason they're discontinued is because they are low volume, low margin kind of products and so it's, I’d just say that it's in the – you know I'm going to speculate a little bit that it's in the $5 million a quarter and less than that kind of a number. So I mean it's a pretty small impact on that.

So I don't think that was a major factor in anything in terms of the outlook for Q4. .

Anthony, a lot of these cases, because there are subsequent models of the products, in a way it evens out. With the lowering of volumes through the – due to COVID, we can – it gives us the extra time to work with these customers to get them to execute our sunset, end of life strategies here.

So there wouldn't be a customer loss, there's not a revenue stream loss, these are typically products and go back into the installed base of our customers for low volume service and support and you know the opportunity is to work with our customers to help them take on the newer models. .

No, that’s helpful. And then if we, that's helpful background there.

But if we adjust you know even $4 million to $5 million number in 4Q, you have a $10 million range in the guidance next quarter and I'm just wondering, you know when you think of the low end to the high end what are the drivers in the spread of that range, you know what gets your toward the high-end as opposed to the low end.

And then maybe just broadly, as – and then I know we pressed on in a bit here, just the sort of the tone from OEMs as you discuss with them where capital budgets sit, for hospitals in the various geographies in which you are exposed to. And then I have one capital question to follow-up with. .

Okay, let me take the second question around the tone from the OEMs, and I'll ask Sam to comment on the $155 million, $170 million and his thoughts on what makes the $150 million and what makes the $170 million.

You know the tone from the OEMs is optimistic, but there is still some level of uncertainty in there, so you know the cliché of cautiously optimistic. The reason for that is that they are seen in for certain modalities, increase in tender activity. For them that’s the early, the harbinger of the market activities returning.

Some part of that is due to investments by governments in different countries all over the world. Some part of it is just general returned to normal in some of these outpatient type of environment, particularly dental. Dental activity has started, the market activity, tender activity.

So that OEMs are – while they are not saying that they have bottomed out, they also don't think that the bottom is very far away. So we're in a sort of a asymptotic mode of getting towards the bottom from where they believe this will pick back up. And that's said, the time frame.

When does it get back to a 2019 type of normal that is the part it's not clear with us. But as we look forward, everything else from Q2 into Q3 as we looked at Q3, you know it just felt – it felt, it was pretty clear there was a downward trend.

Now as we look forward we see at worst flatish, but it’s not quite there yet, but the momentum certainly feels the market that it is on the positive trend. And as I said that varies by geography. Most of our OEMs are concerned about the U.S.

market and so if you listen to the OEMs that are in the mammography, oncology, dental space, they all count on the U.S. market for their high end products..

Sure Anthony, and I'll try to address your question on the lower end versus the higher end of the revenue as we project for Q3.

You know there's always a portion of a business in the quarter which is book and ship for the same quarter, so that really depends upon the level of activity in the third month, particularly towards the last two or three weeks.

We are definitely seeing pockets of activity here and there which are strong, but at the same time some geographies and modalities are somewhat soft. So in order to come up with the guidance number for you, we kind of looked at it and kind bookended both the both the numbers that way.

Then on the industrial side, as you know some of our products are higher ASP, high end machines and one of the machine is dependent, you know it depends upon factory acceptance and that type of activity before it ships and it is kind of looking at shipment towards the end of the quarter.

So whether it falls in this side of the fence of the quarter or the next quarter, so that also changes the numbers a little bit. I think I would say overall that's where we are in terms of you know providing the revenue guidance to you. .

And Anthony back to your question on revenue and also just to add to Larry's earlier question. We shouldn’t forget that we also have a strong play in industrial. On the industrial slide the dynamics are slightly different. They're not depended on the hospital capital budgets, and that's why we like the industrial market.

So there the recovery is expected to be more rapid, because its distributed across a very large number of organizations. The difference in industrial is that it varies by vertical quite a bit.

So while we may all - everyone would say that the airport's, airport security will take longer to recover, airport and cargo security, but on the NBT side we expect faster recovery than the security side. .

And then just to round out there, on disruptive testing, you expect a more rapid recovery, but airport security cargo will take longer is that the take on that?.

Those are tender drive, yes, and airports are – as you know airports are – it will be a while before business travel volumes pick up and so it’s while the value proposition there is not gone, the activity, by the way there’s still replacement activity that will come back sooner, but the new projects and the new tenders for installing new CT scanners at airports will depend on people's ability to do the project.

The number one thing we hear from OEMs is projects are on hold, because there's no one to do the work either on the customer side or on the vendor side. So which gives us faith that we haven't gone away, it's just that people are waiting for the opportunity to be able to do these projects. .

Understood! And the last one from me and I’ll get back in. As you mentioned, Sam on the deck covenants being potentially triple tier and mostly more information on the upcoming filing. I know that the convert part of the proceeds were used to service the existing debt.

Can you give a little bit more color on which facilities we’re talking about here? There was a term facility that was outstanding, there was the revolver I know we had to convert. Just where the triple comes from, and when you think of sort of a potential violation of a covenant.

Do you have additional debt coming on, but also the trailing 12 month EBITDA is stretched here? So how much is actually driven by the additional debt versus the drop in EBITDA. Thanks. .

Sure, thank you Anthony. We have debt and you rightly, correctly pointed out. The debt that we are talking about here is related to term loan and our revolver. Both of them are actually following the same covenants and these covenants are not related to the convertible debt that we issued in June.

So what we're talking about here is again the combination of debt and revolver. The revolver remains undrawn, but nonetheless the same set of covenants apply.

So, as we look at that and the EBITDA over the trailing 12 months, you know we met all the covenants at the end of Q3 – fiscal Q3 quarter here, but as we forecast over numbers, we are looking at the situation that we may not be able to meet those covenants.

So what happens in this type of a situation is that accounting standards require to disclose this, the business as a going concern irrespective of our ability to refinance or modify those covenants. But our plan is to go ahead and replace these lines of debt with new sources of debt, essentially replaces these debt with new sources of debt. .

That’s helpful. Thank you. .

Our next question comes from the line of Suraj Kalia with Northland Security. You may proceed with your question. .

Good afternoon everyone. So Clarence, it was a pleasure working with you, and wish you a relaxed and healthy retirement. .

I’m already relaxed. .

Yes, I'm sure you are. And Sam, welcome to the club. look forward to working with you. .

Thank you. .

So, Sunny let me start out with you and then I'll hop over to Clarence and Sam. You know, as COVID might have exhilarated some changes that you'll were thinking about, Santa Clara so on and so forth, but let me ask of higher level question.

What part of these changes implemented in the short term that are acute right now? Do you envision becoming more prominent in nature and why?.

Suraj, I just want to make sure I followed your question appropriately. We took certain actions, earlier on that were temporary; the furloughs pay reductions, those were temporary actions for immediate relief from – and to improve our cash flows. But the rest of the actions that we took were intended for permanent effect. So that – and so those are.

So for example, the headcount reduction actions that we took, we took a sharp look at all of our, I mean we've been looking at our cost structure and our intention was to, these were actions that we would have continued on. With COVID there are certain things that came up earlier, like for example the product rationalization.

You know it gave us – we had an opportunity due to COVID, due to a slowdown in certain volumes to go back and work through those product rationalization, but this in a serious of actions that we will continue.

The product lifecycle actions will continue on, the cost reduction actions where permanent, we will see the effect of - some effect of that in Q4, it will ratchet up and then going into Q1 that will continue to increase.

The overall run rate impact of all these actions is about $25 million and they’ll ramp up and we'll see the full value of that I believe some in Q2.

Did I get your question right?.

Yeah. Maybe I should have – Sunny maybe I should have phrased it differently. I guess what I was trying to understand is one is the cost impact, right, cost savings changes that you have done.

But what is, t just want to make sure that the net effect of all of this on the revenue, it's not like you're looking to reduce some people and hence top line is also going to get affected, that's really what I was trying to understand.

The structure had been optimized?.

That is correct Suraj. Our goal is to run the company for the long term. So the product - we looked at what's going on and we said, does this fundamentally change our strategy? Is our – does our entire strategy need to be revisited there. The answers is no.

So the R&D programs, the sales and marketing related work that's going on, the local for local strategy and investments that we're making in China and the set up there, those things have – we’ve made sure that those are not our ability to continue on those programs and actions are not impaired.

So the revenue – by the way our customer relationships are absolutely stellar and exceptional, the product launches are still going on and by the way our customers are also working, even though they're hurting by from COVID, their new product introduction actions are still continuing.

So those things have stayed on track, and now it's purely a matter of the market driven, buying activity which will drive both the top line growth and the return of the mix back towards normal. And so as we look at that, Suraj we are hard pressed to see how dental won't come back, people need dental services.

The dental equipment that's driving some of the fundamentals of the clinical side of this, those are all still intact. Similarly the procedures for us where the, where the higher value procedures are around oncology, cardiology, those are bound to come back.

So we don't see the revenue being impacted, we're not - commercially we're not going to be impacted by the actions we've taken. Now it's all market driven activity. .

Suraj, I can add a little bit with my one or two weeks here. Is that the actions that we are taking do not impact the long term growth or our ability to recover from the lower levels that we currently are. So these headcount reductions, no way jeopardized or compromise our growth potential in revenues. So I don't know if that's what you were asking. .

Fair enough, okay. Sunny you mentioned about buying, customer buying.

I guess have inventory ordering patterns changed in the last few months? Are customers asking for more lenient credit terms? Just trying to understand how the demand chain is shaping up, specifically on the inventor side and on the credit side, whether you guys are seeing any difference right now?.

So Suraj, there’s been no real, its not be perceptible at all, no changes in the customers asking for terms or whether it's for their cash preservation or other needs. In fact our DSO’s remained strong at 58. It hasn't changed and our collections have remained strong, so no impact there at all.

What we've seen though is in some pockets where customers – and customers do this throughout the year. When they perceive slowing down of demand, they try to deplete their own inventory and buffers and they work that down, and that's – you know that precedes our softness and our demand, so customers are doing that.

They're being more judicious with their inventory, mostly as a way of being conservative, but no changes in anything else. And we've not had to go back and negotiate pricing and those kinds of activities have not been happening..

Right, and I guess the last two for any one of you.

One is, you know Sunny, Sam and Clarence, most of the companies on the earnings call have come out and said, ‘look, we are expecting a normalcy by calendar Q4 or calendar Q1 next year, whether a V shape or a U shape.’ I'm not – maybe I missed you commentary in terms of how you guys are expecting the recovery part, so that's one part.

And the second thing is, I know the Q4 guidance, people have tried to parse it different ways. Maybe I can come at it from a different angle Clarence and Sam. Should I – am I fair in assuming that medical is going to be down double digits, you know probably 15% and industrial is going to be down another 25%, 30%.

Is that the right way to think? I guess just trying to understand on your low end and your high end, the different components of the business, so any color there would be great. Gentlemen, thank you for taking my questions. .

Sure. You know I'll go here and then probably Sunny you can fill in some other – provide some other color. So you know we are quite sure business levels would recover and you know what we are doing in the meantime is to take cost actions, so that when the business does recover, we are able to generate more profitability.

You know it seems to us and in our discussions here is that, business has gone down, but it is not going down much more anymore, in the sense that it has stabilized at a lower level, but it has stabilized.

We don't really know exactly when it would recover, so it's very hard for us to pinpoint a quarter, but we are not seeing a whole lot of degradation anymore. That's where this range of you know 155 to 170 that we are providing, so at the mid-point at say 160 to 165 that's the type of number and we just did 170.

So the business is somewhat stabilized at the lower levels, but really hard for us to pinpoint and kind of guide you to a quarter where we would be able to see a sharp recovery here. So that's the color I can provide you.

Maybe Sunny you want to add anything?.

No, and I'll just add one more thing. So as we have, we served global OEMs and local OEMs and the global OEMs benefit from the trends in all the different geographies. So the question of when they expect recovery to start varies by who you speak with.

So for example are Chinese OEMs will say their recoveries have begun and that's reflected in our business in China, and I'm happy to say, by the way our China business is going well and I'm glad to see that our strategy is a hand out there. Then as you look at other OEMs, they'll be mixed totally that certain markets are a recovering faster.

So there, their view of where the bottom is might be earlier than let's say their view of where U.S. and Latin America is. I thank Latin America seems to be on everyone's pessimistic list versus the U.S. is on next in line after Europe.

So I think this is very – there's a gradations here, and since we have, we're one of the market leading companies here serving most OEMs. I think we will end up – my sense is we will end up being more – our performance will be indexed to the overall market so to say.

I'm more optimistic that we will see more – in certain industrial verticals I'm hoping to see faster recovery, particularly NDT, but in medical it’ll be really by geography. .

Hey Suraj, one other comment, because you were talking about comparisons probably versus Q4 and a year ago. I think that's probably not the right comparison. You probably need to be more thinking about how things look versus the Q3 that we just finished, because the comp is that you know Q4 over a year ago we were $202 million in revenue.

$50 million of that was in industrial. So it's a little bit of apples and oranges and I think it's more important to think of it as Q4 being more similar profile to Q3 in terms of the mix between medical and industrial. .

Great point..

Our next question comes from the line of Jim Sidoti with Sidoti & Company. You may proceed with your question..

Hello Jim..

Good afternoon.

Can you hear me?.

Yeah, we got you. .

Great, great. So Clarence, you know it seems like you did all the work now and you're leaving. You're leaving them with an easy cause. .

That's right, I set everything up for them. .

It’s Santa Clara, is that officially closed at this point?.

No, no, it won't completely be closed till the end of the quarter in terms of production. There’s still some kind of a finishing up of a few products where we had some inventory, carried over inventory that we want to finish those products up, and there's – so it won't fundamentally complete until the end of September. .

So by fiscal 2021 though you should have the cost savings for the entire year will basically be well, okay. And then same thing with the work force reduction… [Cross Talk].

This is a little bit about the accounting around it. So once the production stops, then it's no longer an operating facility and any kind of final cleanup costs and you know those kinds of things that have to be done, will be treated as non-GAAP expense as part of the restructuring charge that we've already set on the side for. .

Okay, and some more with the work force reduction. I mean you're willing to see the benefit of that in fiscal 2021. .

Yes, I mean you get a little bit of the benefit already, but it's happen in the latter part of July, so you only got a couple of months in the fourth quarter, but in reality where you get that benefit is in Q1 of FY ‘21. .

Okay, now – you know I agreeing with Sunny, you know procedures you know and the names I covered, procedures you know started recovering. You know we’re up actually for most of the names in July. So I think that the timing for the medical business, I'm confident the medical business will come back over the next couple of quarters.

But with the industrial business, you know I’m not as confident in the timing of that.

You know you just indicated that was a $50 million business a year ago, and that NDT will probably come back notably quickly, but how much of that do you think is going to be airport security and the oil pipeline inspection; how long do you think before those people start to come back?.

So, in relative terms, without going with actual numbers themselves, oil and gas is fairly small for us at this point. Remember it’s a new vertical for us that we decided to break into with the acquisitions of a small company called VMI. So we’re in that sort of a entering early drug phase in there.

The bulk of our business comes from NDT and in many verticals. So for example, as you think about recovery, think about foot inspection, electronics inspection, aerospace, automotive. So there are a number of articles where the recovery will happen at a different pace from airport and oil and gas.

So that's why we have our – we are anticipating that parts of industrial will recover sooner and some parts that might take longer to recover, we then in the upcoming quarters will get better visibility to how that is progressing. .

Do you think over the next 12 months now, I mean do you see any reason why that business won’t get back to 2019 levels in 12 to 18 months?.

Boy, that's hard to say, but we will – I would hope so, because think about this. I mean a lot of the consumer facing areas of industrial, those will just have a little blip and come back.

So food inspection, you know we have people that processed fish, that processed food grains you know that used x-rays for inspection, they just took up less space enough for – during that cute face a COVID and there you know that's needed.

You know frankly, the one vertical that is the slowest is the two verticals, airport security and the oil and gas. Those are the two that all, they'll be trailing those two and when we start seeing activity there, that's TBD [ph]. .

Okay.

Alright then last from me, it sounds like the issue with the common equity is that you’ll have to do some kind of refinancing, may be slightly higher interest rate, but it doesn't sound like you're worried about having any liquidity issues over the next 12 months, is that right?.

That's correct we are working on refinancing. Of course I would like to see that refinancing complete, but we've been working on it with our partners and advisors. So yeah, until it's done, I'm somewhat a little bit worried, but that's not a big worry. .

Okay, alight. So like I said at the beginning, I think Clarence left you in pretty good shape Sam, so Clarence it was good working with you and good luck with your next adventure. Thank you. .

Thank you..

Our next question comes from the line of Mark Strouse with JP Morgan. You may proceed with your question. .

Yes, thanks very much for taking my questions and I like to echo best wishes to you Clarence and Sam welcome to the fray. Just one point of clarification for me, I'm sorry if I missed this.

The greater than $25 million cost reductions you're talking about now, is that building off of the comments from last quarter? I think you're talking to $15 million to $20 million then or is this entirely incremental?.

Yeah, it is including benefits from the Santa Clara facility. So you know I talked about $15 million on that set of actions and then we also reduced a number of people. So that's $28 million and there are a few other things that we have in the offer here.

So we are thinking you know, we may be able to do a total of cost reductions upwards of $30 million and all of them are in play, not completes, but definitely begun. We feel good about those plans. I did rough math on that and about three quarters of that flows through the cost of sale line and a quarter of that, 25% of that will flow through OpEx.

So I think it might be prudent here to kind of give you an idea of where we are kind of targeting the OpEx to land at. So by the time all these things are done, I am thinking say $44 million, $45 million a quarter type of non-GAAP OpEx run rate we would be able to achieve and I think we would be able to get there by Q2 of 2021.

So their actions in Q4, Q1, etc., that will reduce costs a little bit, but the full effect will begin to print from Q2 of 2021. So that's where we are trying to land this in six months’ time-frame, on the OpEx side. And then of course on the gross margin side, these cost reductions should give us you know roughly about 3 percentage points.

We are going to start getting some of these benefits little-by-little in the upcoming quarters, but by Q2 they should begin to print in the gross margin also. .

Okay, thank you Sam. With changes in management, always like to hear why people decided to join. So I know we're butting up against time here Sam, but can you just given us your kind of your quick elevator pitch on why he decided to join Varex?..

Yes, I think the biggest draw for me was the industry in which Varex is. You know particularly healthcare, long term sunshine industry so to say growing. Everybody would need a healthcare provider etc., and then the leadership position and I looked at the X-ray capabilities in my mind.

X-ray would always be needed and there's so many other applications for X-ray and just medical and also industrial. And then the last thing I did see, during my discussions, you know there is a potential here to kind of improve profitability and do some good work here. So those were some of the draws that brought me in here. .

Great! Okay that's it for us. Thank you very much. .

Thank you, Mark. .

Our next question comes from the line of [inaudible]. You may proceed with your question. .

So operator, we are at the top of the hour, we’ve passed our time. So I think this will be the right time to end the call. I’m going to turn it back over to Howard. .

I would like to turn it back over to you for closing remarks. .

Thank you for your questions and participating in our earnings conference call for the third quarter of fiscal 2020. A replay of this quarterly conference call will be available through August 26 and can be accessed at the company's website or by calling 877-660-6853 from anywhere in the U.S. or 201-612-7415 for non-U.S. location.

The replay conference call access code is 137-07-029. Good bye. .

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

Have a great day!.