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Accuray Goes Under the CyberKnife


Good news gets you a yawn, no news gets you a beating and bad news gets you decapitated...

The afternoon before the December MV "Festivus" I was debating Accuray's (ARAY) future with Minyan Terry, and while telling him I liked the name and was long it, I also worried out loud about the company "Shared Ownership Program" (SOP). Here is how that works, straight from ARAY's 10-K filing:

Shared Ownership Programs Revenue
"As of June 30, 2007, our shared ownership programs involved U.S. sites only. We recognize revenue monthly from our shared ownership programs that consists of a minimum monthly payment. We also recognize usage-based revenue in excess of the monthly minimum based on usage reports from our customers... In limited cases, we receive nonrefundable upfront payments from shared ownership program customers which are treated as deferred revenue and recognized over the term of the contract.

The CyberKnife system shared ownership systems are recorded within property and equipment and are depreciated over their estimated life of ten years. Depreciation and warranty expense attributable to shared ownership systems are recorded within cost of shared ownership programs as they are incurred

My thinking was that to the extent that a CyberKnife is made available to a customer without having to buy it outright, the SOP would have a high potential to cut into near term revenues, while smoothing out future revenues. That's not unlike software companies shifting from a license to a subscription model, and in the short run those transitions never made for happy shareholders.

I don't know if or how much the SOP program had to do with last night's miss, and probably won't know until the 10-Q is filed, but I can't shake the feeling that it did play a role.

As far as the "official" reason for the miss - tighter credit markets - I would tend to describe it more as an "excuse" than a "reason". The company guided the year down by a ton, and if you can't sell your product it makes little difference why. However, as a mitigating factor, I would note this: CyberKnives are multi-million dollar gadgets, and the number of units ARAY sells each quarter is relatively small. Therefore, when investing in a company with this kind of business one must allow for the proverbial "lumpiness" in sales, and one would hope that the stock reaction to positive or negative surprises would take into account these sales "issues".

Bottom line: I stayed long ARAY despite my SOP concerns because: (i) it is one of a number of med-tech stocks I am long as a basket, which includes Hologix (HOLX), Sectra AB (SECTB), Elekta AB (EKTAB), Analogic (ALOG), and until recently Varian (VAR). In any basket it is nearly inevitable to have winners and losers, but the focus for me remains on the basket as a whole. And (ii) if I gotta be long something, this is a group I want to own.

In hindsight being long ARAY was obviously wrong, and even though I agree with Prof. Udall that ARAY's stock with a $10 handle "looks" cheap, I am not nearly as sanguine about adding to it, not unless I can get a really good and believable answer as to what happened this quarter.

I will also offer a couple of general thoughts relevant to ARAY as well as to other recent blowups: in my humble opinion, the type of moves we have seen in Apple (AAPL), VMWare (VMW), Amazon (AMZN), Cypress Semi (CY) / Sunpower (SPWR),and many other names taken to the woodshed are a textbook reflection of how stocks behave in bear markets: i.e. good news gets you a yawn, no news gets you a beating and bad news gets you decapitated. So all my positions are sized accordingly, or protected by puts, with the idea that between this kind of risk management, and my overall short exposure, the P/L will ultimately work itself out. Furthermore, during bear markets blown-up small caps have a very difficult time putting together meaningful snapbacks, as the disgust ARAY longs feel right now tends to lead to more selling of any uptick.

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