Varian Medical Systems Inc. VAR reported earnings (including restructuring charge of 2 cents) of $1.05 per share in the second quarter of fiscal 2015. Earnings per share (EPS) beat the Zacks Consensus Estimate by 6 cents and comfortably surpassed the company's guided range of 98 cents to $1.02. Also, EPS increased 19.3% from the year-ago quarter, primarily driven by margin expansion.
Revenues decreased 2.5% year over year to $759.4 million, which missed the Zacks Consensus Estimate of $794 million. At constant currency (cc), revenues increased 2%.
The year-over-year decline in revenues was attributed to dismal performance by both the Oncology Systems and Imaging Components segments. Varian reported order backlog of $3.09 billion at the end of the second quarter, up almost 10.2% from the year-ago quarter.
Gross margin expanded 30 basis points (bps) from the year-ago quarter to 42.5%, primarily on the back of favorable geographic and product mix. Oncology gross margin expanded 18 bps to 43% in the quarter. Imaging component gross margin increased 216 bps to 43.7% on higher mix of panels as well improved quality cost.
Research & development expenses, as a percentage of revenues, remained flat, while selling, general & administrative (SG&A) expenses increased a modest 70 bps. Including patent litigation settlement gains and restructuring charges, SG&A expenses, as a percentage of revenues, declined by 250 bps primarily owing to cost savings from the restructuring program.
Operating margin expanded 280 bps from the year-ago quarter to 19.2%.
Oncology Systems revenues decreased 2.3% from the year-ago quarter to $589.4 million, while gross orders declined 5.2% (flat year over year at cc) to $581.1 million in the quarter. Gross orders declined 15% (8% at cc) in APAC and 24% (13% at cc) in EMEA but increased 12% in Americas (15% in North America).
The strong order growth in North America was primarily driven by several major long-term deals. The largest of the projects was that with HCA to equip its Sarah Cannon Cancer Center in Tennessee with seven linear accelerators, including six systems. This installation will also include rapid plan and analytics software using data analytics tools for treatment planning and information management.
However, in Latin America, order growth slowed down owing to currency headwinds.
The weak EMEA Oncology results can be attributed to lower demand for Varian products in Africa and India. Nevertheless, the company won significant deals in Germany, Bulgaria, Finland and also in the U.K. Further, the company won two true beams orders from Bayer Healthcare.
APAC Oncology results were primarily attributed to weakness in Japan, Australia and currency headwind, which were partially offset by roughly 10% order growth in China. The company booked an order worth $18 million from the People's Liberation Army and also showcased its Edge Radiosurgery System at the Annual China Med Exhibition in Beijing.
Order growth rate was significantly down in the BRICA (Brazil, Russia, India, China and Africa) countries, primarily due to weakness in Russia.
Imaging Components (comprising X-Ray Products and Security and Inspection Products) revenues decreased 8% on a year-over-year basis to $155.5 million. Gross orders plunged 23.3% to $156.3 million. The decline was attributed to stiff year-over-year comparisons, as well as currency headwinds that impacted prices of tubes and panels. Orders and sales of security and inspection products also fell sharply in the quarter.
Other segment (comprising Varian Particle Therapy businesses and the Ginzton Technology Center) revenues surged 126.6% to $14.5 million. On the other hand, gross orders declined 26.3% to $44 million.
For fiscal 2015, Varian Medical expects revenues to increase approximately 5% at cc from the year-ago quarter. In dollar terms, revenues are forecasted to increase in the range of 1% to 2%. The company slashed its EPS guidance range to $4.02 to $4.14 from $4.16 to $4.26.
For the second half of 2015, management believes that weakness in the Imaging Component business and currency headwinds will more than offset first half gains. The company forecasts that this weakness may impact EPS by about 8 cents to 12 cents.
For the third quarter of fiscal 2015, Varian Medical forecasts flat revenues. At cc, revenues are expected to increase 4%. EPS is expected to be in the range of 90 cents to 94 cents.
We believe that Varian Medical is well positioned to benefit from higher demand for its products in China and BRICA countries. The growing private markets in China and Brazil are expected to present strong growth opportunity to the company in 2015. Moreover, an improving hospital spending environment in the U.S. is a positive for Varian.
Product-wise, aggressive investment in the software business is a key growth catalyst. Rapid plan is expected to generate $200 million to $300 million of business over the next three years. Investment in InSightive (Data analytics) products will also expand the company's product portfolio going forward.
We believe that the upcoming VitalBeam product will present significant growth opportunity for Varian in the long run. Moreover, the company's focus on improving cost structure by reducing headcount and streamlining operations will boost profits despite significant the negative impact from foreign exchange headwinds.
Nevertheless, increasing competition in the Oncology market is a major concern. The Imaging Component segment is expected to remain sluggish at least for the next six months owing to weakness in security and inspection products and lower demand for Varian's panel and tube products.
Meanwhile, owing to a strong US dollar, the company is facing pricing pressure from Japanese and European manufacturers in the Imaging Component segment, which will remain a headwind for the segment's growth rate over the next several quarters.
Currently, Varian Medical has a Zacks Rank #2 (Buy).
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