China Medical Technologies F4Q06 (Qtr End 3/31/07) Earnings Call Transcript

Jun.18.07 | About: China Medical (CMEDQ)
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China Medical Technologies, Inc. (CMED)

F4Q06 Earnings Call

June 18, 2007 8:00 am ET

Executives

Winnie Fan - Senior Manager, Finance and Investor Relations

Charles Zhu - Executive Vice President, Business Development

Sam Tsang - Chief Financial Officer

Analysts

Jinsong Du - Credit Suisse

Bin Li - Merrill Lynch

Joy Yuan - Goldman Sachs

Vicky Yun Chen - UBS

Luke Langford - Langford Capital

Presentation

Operator

Good day, ladies and gentlemen and welcome to the fourth quarter 2006 China Medical Technologies earnings conference call. (Operator Instructions) I would now like to turn the presentation over to your host for today’s conference, Ms. Winnie Fan, Senior Manager of Finance and Investor Relations. Please proceed, Madam.

Winnie Fan

Good morning, everyone. I am pleased to welcome you to China Medical's fourth quarter earnings conference call. China Medical announced its fourth quarter and full year results about two hours ago. A copy of the press release is also available on the company’s website at www.chinameditech.com. Today your speaker will be Mr. Charles Zhu, VP of Business Development, and Mr. Sam Tsang, CFO. After they finish their remarks, they will be available to answer your questions.

Before we continue, please bear with me as I will take you through the company’s Safe Harbor policy. The discussion today will contain forward-looking statements made under the Safe Harbor provision of the U.S. Private Securities Litigation Reform Act of 1995. Forward-looking statements involve inherent risks and uncertainties. As such, the results may be materially different from the views expressed today. A number of potential risks and uncertainties are outlined in the company’s public filings with the U.S. Securities and Exchange Commission.

China Medical does not undertake any obligation to update any forward-looking statements except as required by applicable law.

As a reminder, this conference call is being recorded. A replay of this conference call will be available via webcast on China Medical's website.

Now, allow me to turn the call over to Charles. Charles.

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Charles Zhu

Thank you, Winnie. Ladies and gentlemen, welcome to our earnings call. I’m going to share with you an update on FISH, ECLIA as well as HIFU operations.

For FISH, we completed our acquisition of FISH in early March and have integrated the operation in accordance with China Medical's practice. The FISH business is now ready to take up the untapped huge market in China. Our sales and marketing team, as well as senior management, including Mr. Wu and I, have spent much time in visiting large hospitals to introduce our FISH diagnostic product and also follow-up the sales leads from pre-acquisition.

We’ve been receiving very positive feedback and strong demand from hospitals. To our excitement, we have received sales orders of over 100 of our FISH equipment and we believe we should be able to fulfill at least 40 units in this month and the remaining in the next month.

Our FISH equipment comprises of fluorescent microscope and related imaging analysis systems. The microscope is approved by SFDA to sell in China. We expect our sales of FISH probes will also commence in the next month under the R&D label. We have also initiated the application process for FISH probes for SFDA approval and we’ll try to explore access to fast-track approval with the SFDA.

Like our ECLIA operation, we believe recurring sales from FISH probes will become a significant revenue stream of the company in three years.

Let’s move to our ECLIA operations. The current sales of ECLIA reagents increased to over 75% of our total ECLIA revenue in Q4. We believe this trend will continue following the introduction of our Down ’s syndrome and liver fibrosis reagents to the market in this June quarter. We expect to introduce new fertility-related reagents to the market in the following September quarter.

Registration for our HIV reagents is also being processed by SFDA under fast-track assessment. Registration for our fully automatic ECLIA equipment is also under processing by SFDA but is rather slow due to the large number of backlog applications for medical devices and drugs for SFDA approval.

Our new semi-automatic ECLIA equipment has been well-received since the launch in the market in October last year. We believe the use of new equipment by hospitals will also stimulate the usage of our reagent kit.

Now let’s talk about our HIFU operation. We announced our collaboration with the EDAP from France in late April for the future distribution of our HIFU system in the EU and Russia, following our collaboration with subsidiaries, Century Medical, to distribute our HIFU system in Japan in December last year.

These demonstrate our efforts to prepare for the overseas sales of our HIFU system in major countries after receiving regulatory approval required by these countries. HIFU is an emerging cancer therapy option and it takes time for the global medical community to recognize its treatment benefits for cancer patients and go through the time-consuming regulatory approval process of different countries, such as United States and Japan. However, we believe that the non-invasive and minimal side effect features of HIFU cancer treatments will finally draw the attention of cancer physicians and patients and become a major treatment option for cancer therapy in the long-term.

We believe the management as well as our shareholders should assess the performance of our HIFU operation and focus on long-term benefits to the company as well as to the cancer patient. We expect our HIFU operation will maintain a steady growth until we receive regulatory approval on our HIFU system from major countries like the United States, EU, and Japan.

Now I have finished my update on each operations and I would like to turn the call over to Sam, and he will give you an overview of our fourth quarter and full year results. Sam.

Sam Tsang

Thank you, Charles and welcome, everyone. Since most of you should have seen our earnings release, I will try to keep my comments short and take your questions afterwards. Let’s have a recap first. Our annual revenues were up 47.1% and 4Q revenues were up 46% on a year-over-year basis. Our annual net income was up 45.6% and 4Q net income was up 21.3% on a year-over-year basis. Our non-GAAP annual adjusted net income was up 48.8% and non-GAAP 4Q adjusted net income was up 37.2% on a year-over-year basis.

Diluted EPS on a GAAP basis was RMB10.74 for the year and RMB3.11 for the quarter, while adjusted diluted EPS on a non-GAAP basis was RMB11.44 for the year and RMB3.37 for the quarter. We have declared a cash dividend of $0.40 per ADS.

Let’s look at more specific information for the quarter and the year. 4Q revenues were up 46% year over year to RMB163.1 million, or $21.1 million. Our revenues are divided between our ECLIA system and HIFU tumor therapy system. The ECLIA system revenues include sales of ECLIA equipment and reagent kits.

Revenues from sales of our ECLIA business were up 74.3% year over year to RMB65.9 million, or $8.5 million. The key driver in our ECLIA operation is the recurring revenue from the sales of reagent kits, which account for over 75% of our total ECLIA revenue. We expect this trend to continue because of the increasing number of equipment placement and new reagent kits offered to the market.

We introduced our Down ’s syndrome and liver fibrosis reagents in the June quarter and expect to introduce new fertility-related reagents in the following September quarter, which we believe will stimulate our reagent sales.

Regarding equipment sales, we sold 253 units in 4Q06 compared to 283 units in 4Q05. We expect the equipment unit sales to be stable at the current level in the following quarters.

4Q revenues from the sales of our HIFU tumor therapy system increased 31.6% year over year to RMB37.2 million, or $12.6 million. We sold 33 HIFU units this quarter, compared to 27 units in 4Q05 and we have a backlog of about 20 units by the end of March.

Just a reminder -- our HIFU sales are affected by seasonality and the June quarter is typically the lowest quarter for the HIFU sales. We sold 17 HIFU units in 1Q06.

Overall, our full year total revenues were up 47.1% year over year to RMB547 million, or $70.8 million, which exceeded the high end of our target revenues of RMB533 million.

Gross margin increased to 73.2% this quarter from 70.1% in 4Q05. Full-year gross margin increased to 72.3% this year from 70.3% in the prior year. The increases were mainly because of the increase in our HIFU selling price and higher revenue contribution from the ECLIA reagent kits, which generate higher gross margin.

4Q operating expenses increased 25.9% year over year to RMB31.6 million, or $4.1 million. R&D expenses increased 56.8% year over year due to our HIFU project with MOH, U.S. FDA project, as well as our collaboration with Biomed-X Centre of Beijing University.

Sales and marketing expenses increased 33.6% year over year due to greater participation at exhibitions and more promotional events organized by us during the quarter.

G&A expenses increased 14.2% year over year due to amortization of FISH intangible assets in the month of March upon the completion of the acquisition.

Operating expenses as a percentage of revenue were 19.4% for the quarter compared to 22.5% in 4Q05. Full-year operating expenses increased 54.5% year over year to RMB105.1 million, or $13.6 million, which accounts for 19.2% of full-year revenues.

4Q amortization of convertible notes issuance cost of RMB2.1 million, or $0.3 million, related to the issuance of convertible notes of $150 million in November, 2006. Full-year amortization of convertible notes issuance cost was RMB3.1 million, or $0.4 million, due to the commencement of amortization from November last year upon the issuance of the notes. The note issuance costs are amortized over a five-year period.

4Q interest income increased significantly to RMB15.1 million, or $2 million, primarily due to interest income generated from the cash proceeds received from the convertible notes. Full-year interest income also increased significantly to RMB42 million, or $5.4 million. We expect the interest income to decrease significantly due to the payments for the FISH acquisition.

4Q interest expenses of RMB10.2 million or $1.3 million relate to the interest expense for the convertible notes. Full-year interest expense of RMB15.3 million, or $2 million, relate only to the notes. The interest of the notes is 3.5% per annum. We expect full-year interest expenses from the notes in financial year ’07 to be significantly higher.

4Q income tax expense was RMB9.2 million, or $1.2 million. While there was tax benefits for 4Q05 because an income tax concession was granted by the PRC tax authorities in February 2006 through our PRC subsidiary, which reduced the income tax rate from 15% to 10% for a period of three years up to December 2007.

Full-year income tax expense was RMB30.1 million, or $3.9 million. 4Q and full-year effective tax rate was 9.9% and 9.4% respectively.

In March 2007, PRC government adopted a new income tax law which unifies various income tax rates to 25% effective on January, 2008. The new law provides preferential income tax rate of 15% to qualified hi-tech enterprises, which we believe our PRC subsidiary should be applicable. In any case, due to the expiration of our income tax concession by December 2007, we will pay a higher income tax rate from January 2008.

4Q net income increased 21.3% year over year to RMB83.7 million, or $10.8 million. The lower growth rate compared to revenues was primarily due to convertible notes interest expense and amortization in this quarter, as well as one-off income tax benefits and income from arranging secondary offering in 4Q05.

Full year net income was up 45.6% year over year to RMB289.7 million, or $37.5 million, which exceeded the high-end of our target net income of RMB271 million.

We presented a non-GAAP adjusted net income, which excludes stock compensation expense, amortization of acquired intangible assets, and income from arranging secondary offering, which we believe is useful to make a more meaningful comparison of our results, focusing on our core operating performance. 4Q non-GAAP adjusted net income was up 37.2% to RMB91.8 million, or $11.9 million. Full-year non-GAAP adjusted net income was up 48.8% to RMB309.9 million, or $40.1 million.

Upon approval last week, we granted 255,000 ADS equivalent restricted stocks and stock options to certain directors and officers and management personnel where the vesting period is three years. The relevant number of stocks is about 1% of our share capital. We have engaged independent valuers, which are in the process of computing the relevant stock compensation expense.

Our cash flow from operating activities was RMB99.1 million, or $12.8 million in 4Q06, and RMB347.3 million, or $45 million for the full year. At March 31, 2007, we have a cash balance of approximately RMB1.2 billion, or $152 million. We will make payments of about $30 million and additional payments of $40 million if earn-out targets are met in respect of our FISH acquisition.

Accounts receivable at March 31, 2007, was RMB201.8 million, or $26.1 million, representing a 6.2% increase from the December ending balance last quarter. The accounts receivable turnover days improved to 135 days for the March balance from 140 days for the December balance.

We have declared a cash dividend of $0.40 per ADS based on our ’06 net income for shareholders on record on July 18, 2007.

We have provided our outlook on target revenues and non-GAAP adjusted net income for ’07. The target revenues range from RMB830 million to RMB870 million, representing a growth rate of 51.7% to 59.1%. The target non-GAAP adjusted net income, excluding stock compensation expense and amortization of acquired intangible assets, range from RMB390 million to RMB410 million, representing a growth rate of 25.8% to 32.3%. The lower adjusted net income growth rate was primarily due to reasons discussed, including significantly higher interest expense and amortization from convertible notes, significantly lower interest income after payments for FISH acquisition, and higher income tax rate upon the expiration of income tax concession and the new income tax law.

Target non-GAAP adjusted diluted EPS, after adding back interest expense and amortization from convertible notes and assuming shares of 31 million, range from RMB14.15 to RMB14.80. The targets are based on our current views on operating and market conditions, which are subject to change.

This concludes our remarks. Now we would be happy to take your questions. Operator.

Question-and-Answer Session

Operator

(Operator Instructions) Your first question comes from the line of Jinsong Du from Credit Suisse. Please proceed.

Jinsong Du - Credit Suisse

First of all, about the FISH business you shared with us earlier, just make sure that I get the numbers right so we’ll sell 40 units in June in terms of microscope and how many after, into the month after that? That’s one.

Number two, could you share with us in terms of the margins, the gross margins and net margins for the business? That’s for FISH.

Also, in terms of tax rate, if you could just be more clear in terms of the tax rates going forward. So we have about 15%?

Sam Tsang

Referring first to the FISH expectation, we expect we will at least fulfill 40 units of microscope orders in this month. We have received over 100 orders for microscopes and FISH equipment, and so the remaining orders we expect to fulfill in the following month, that is July.

Gross margin for equipment, as we explained, is lower than FISH probes, which we expect is around 40%. But the recurring sales from the FISH probes we expect the gross margin to be about 50%. As you know, in the first year or the second year, the major revenue stream of FISH will be the equipment sales but the following recurring sales from FISH probes will of course become a significant revenue stream in the following years, just like our ECLIA operation.

For the tax rate, the new income tax rate effective January 2008 is 25% but we are qualified as a hi-tech enterprise under the current regulations. We believe we should be able to continue the qualification of hi-tech enterprise and so if we are qualified under this status, the applicable tax rate should be 15%, which is the same tax rate we expect to pay after the expiration of our income tax concession by the end of this year.

Is that clear?

Jinsong Du - Credit Suisse

By the end of ’08, calendar year ’08?

Sam Tsang

That means from January 2008, we expect to pay income tax rate at 15%.

Jinsong Du - Credit Suisse

Yes, but if we just -- in case we don’t get the approval to qualify as hi-tech --

Sam Tsang

Because the details of the implementation of the 25% has not been announced, we expect in normal practice, there will be some kind of transitional approach. That means that may not be 25% if we don’t qualify as a hi-tech enterprise in the first year. There may be some transitional income tax rate during the first five years to reach 25%, as some tax professionals expect. But we don’t comment on the actual tax rate which may be known to us later this year.

Jinsong Du - Credit Suisse

Thank you. I’ll get back in the queue.

Operator

Your next question comes from the line of Bin Li of Merrill Lynch. Please proceed.

Bin Li - Merrill Lynch

Thank you. Congratulations to Sam on your new role. I want to ask a question on the gross margin for FISH first. Sam, can you comment on your expectation for FISH in terms of the equipment margins, as well as the gross margin for probes? What will be the gross margin impact on next year’s corporate gross margin?

Sam Tsang

As explained, the gross margin for equipment sales is much lower, which we expect will be at the 40% level, while the FISH probe gross margin we expect it can reach about 80% level. As you know, the first year sales of FISH were mainly the equipment sales. But given the current sales of HIFU and ECLIA, which now the overall gross margin is about 72%, we expect the effect from the first year of FISH business, which mainly generates lower gross margin FISH equipment, will have some negative impact to the overall gross margin, but we don’t believe it will be over 5%. So that means in any case, we believe in that year there may be some, a particular quarter or certain quarter the gross margin may bring down to say 67% or around the 67% level. But that should be temporary because after the first year or maybe the second year, major revenue from the FISH equipment, the high gross margin FISH probe will pick up and the overall gross margin will certainly resume to the current level.

Bin Li - Merrill Lynch

Okay, great. The next question is on your guidance for next year. I appreciate you provided the range for both bottom line and top line. I would like to ask you to explain the factors that could give you either upside or downside for your forecast.

Sam Tsang

Basically, the uncertainty maybe the FISH revenue, because it is still in the early stage and of course we will receive over 100 units of sales dollars, which strengthens our confidence in achieving our mentioned target of $20 million for FISH revenue in the first year. That may be the major uncertainty in the first year, in that year.

Bin Li - Merrill Lynch

Okay, great. Maybe I can follow up on FISH. If you could provide more color on your collaboration with the Ministry of Health program, and you mentioned that for this month you’re expecting an order of 40 units. Is that the typical run-rate we should expect going forward, meaning next quarter should we expect something like 100 units sales for the next quarter? If you could explain that.

Charles Zhu

In terms of the collaboration with MOH, right now what we can disclose is the project is going forward very well and in terms of the detailed run-rates for the systems in the next quarter, right now at this stage it is related to some commercial terms with the MOH and related parties. We are not ready to disclose at this stage but overall, the project is moving on very smoothly.

Bin Li - Merrill Lynch

So I guess you are sticking with your $20 million guidance for the first 12 months?

Charles Zhu

That’s correct.

Bin Li - Merrill Lynch

If I can ask one last question and I’ll go back to the queue, can you explain the rationale for issuing the dividends, or is this something that we should expect on a regular basis going forward or this is just a one-off offer?

Sam Tsang

This is certainly not a special dividend. This is the annual cash dividend and the board of the company believes to return, to make steady cash returns to our shareholders will be one of our major objectives. So we believe this should be an ongoing policy of the company.

Bin Li - Merrill Lynch

Great, thanks.

Operator

Your next question comes from the line of Joy Yuan of Goldman Sachs. Please proceed.

Joy Yuan - Goldman Sachs

Could you break down ’07 revenue guidance by product lines?

Sam Tsang

We mentioned that the FISH target is still $20 million. It is still our current practice to give the overall annual revenue guidance at the current stage, and so probably this is the information we can share with you now.

Joy Yuan - Goldman Sachs

Okay, thanks. Just a follow-up on FISH; what kind of sales in the coming first quarter and the second quarter will keep you on feet in achieving the target for the full year?

Sam Tsang

As we explained, we expect we will fulfill the 100-unit order in these two months. We expect there will be more orders coming in these couple of months. So the equipment sales of the microscope will be a significant revenue for FISH operations as we expect. And if the progress continues as we expect, we believe the $20 million target will be achieved by the end of this first year.

Joy Yuan - Goldman Sachs

Thanks. My last question is on the timeline of getting approval for the fully automatic ECLIA system, and HIFU filing for trials in the States and HIFU approval in Korea.

Charles Zhu

As we explained in our remarks, the SFDA officials are very busy and it is hard to predict accurately when they will give the approval for our fully automated ECLIA system. But we do not expect that will have a significant impact to our ECLIA operation as we continue to introduce new ECLIA reagents to the market, which will certainly stimulate and already stimulate the usage of reagents by hospitals.

For the HIFU assessment by the Korean FDA officials, they already completed their assessment and return back to Korea. We are waiting for the clearance. Our Korean distributors are already making the preparation to buy the HIFU equipment and store in certain targeted Korean hospitals after receiving the clearance from the authority.

Joy Yuan - Goldman Sachs

Thank you.

Operator

Your next question comes from the line of Vicky Chen of UBS. Please proceed.

Vicky Yun Chen - UBS

My question is first of all on ECLIA. I am not sure whether you mentioned that earlier, which is on the split on the consumables and the equipment sales. What is the ratio right now?

Sam Tsang

We talked about that and the current split between equipment and reagent sales is about 25-75 -- that is 75%, over 75% coming from reagents.

Vicky Yun Chen - UBS

Now, you mentioned that the -- so this is quite a significant jump from last quarter, correct? Last quarter I remember it was 40% to 60%, right?

Sam Tsang

Yes, 60%-something, close to 70%.

Vicky Yun Chen - UBS

You mentioned that the FISH orders, you currently received 100 orders. What market segment did you receive the orders from? Is it all from class 3 hospitals? If so, what regions did you receive the orders from the most?

Charles Zhu

Yes, it is all from class 3 large hospitals. It is pretty much spread out across China, especially from the more developed areas.

Vicky Yun Chen - UBS

Do you know, just curious -- do you know whether they previously used [Avisis] product?

Charles Zhu

Some of the hospitals, especially some of the hematology departments in those hospitals, they have some experience of using [Avisis] probes in small scale.

Vicky Yun Chen - UBS

So overall, I can assume that from 100 hospitals, about in ballpark, about one per hospital?

Charles Zhu

Some of the hospitals, especially those large clinical size, they do have demands for medical systems.

Vicky Yun Chen - UBS

Okay, so total customers, about how many? 80 or roughly?

Charles Zhu

It is roughly that number.

Vicky Yun Chen - UBS

I’m sorry?

Charles Zhu

Roughly 80, 90 -- between 80 and 90.

Vicky Yun Chen - UBS

Thank you. I think this is a follow-up on Joy’s question regarding the HIFU in the U.S. So the current stage is, has ID been filed or -- what is the current status over there?

Charles Zhu

Yes, we did submit the ID application and we are waiting for the feedback from the FDA.

Vicky Yun Chen - UBS

All right. I think that’s it for me. Thank you very much.

Operator

Your next question comes from the line of Jinsong Du of Credit Suisse. Please proceed.

Jinsong Du - Credit Suisse

It’s me again. I’m just trying to understand our accounts receivable. I think you said it’s a good sign that the growth of the accounts receivable is lower than the growth of the sales, which means that it’s an improvement. I suspect it is because a larger percentage of the sales is from the reagent kits. Do you see that -- first of all, obviously, could you confirm is that reason? Number two, do you see this trend will continue, especially with the additional sales from FISH? I understand that for FISH we are going through a direct sales model. Could you share with us if you already have the payment terms from hospitals and whether that will have any positive or negative impact on the pace of receivables? Thanks.

Sam Tsang

You are correct. The improvement in accounts receivable is mainly contributed to the higher revenue from reagent kits. We expect the revenue contributions from reagent kits will keep increasing, so the improvement in accounts receivable turnover days should continue.

The FISH equipment sales, we do not believe it will have a negative impact to the accounts receivable based on the terms and also, for the introduction of FISH probes, we do not believe FISH probes will also have any negative impact to the accounts receivable turnover days.

Jinsong Du - Credit Suisse

Thanks. Just maybe a slightly different thing on the FISH acquisition; you said earlier, Sam, that there will be another $30 million and $40 million milestone payments later this year. So does that mean that all this, the full acquisition will be in cash or -- because I understand that in your initial announcement it is going to likely be a combination of stocks and cash.

Sam Tsang

The $30 million relates to the balance payment for the transition, which is in cash. But the earn-out payment, the earn-out target of $20 million fulfilled, this $40 million can be settled in cash or shares. It is up to the company’s decision.

Jinsong Du - Credit Suisse

I see. So only that $40 million has a choice, or the option?

Sam Tsang

The option, yes, that’s right.

Jinsong Du - Credit Suisse

Understood. Thank you.

Operator

Your next question comes from the line of Luke Langford of Langford Capital. Please proceed.

Luke Langford - Langford Capital

Sam, congratulations on your appointment to the board. A couple of quick questions for you guys; the first one, I believe you mentioned in the last quarter call that the FISH probe gross margin should be on a similar scale to the reagent kit gross margin. Are you guys still sticking by that statement?

Charles Zhu

Yes, we mentioned earlier that we expect the gross margin for FISH probes will be 80%, which is similar to the high-end of ECLIA reagent gross margin.

Luke Langford - Langford Capital

Okay, so in other words, if you are modeling, for the first year or two when you are selling the actual equipment, we might see a small impact to the gross margin, or like you said, maybe down to 67%? But after that with the probe sales, we should see even higher margin, correct?

Charles Zhu

That’s correct.

Sam Tsang

Yes, that is possible, especially when we generate more and more revenue from FISH probes in the future, the longer future.

Luke Langford - Langford Capital

Excellent. I think that’s being missed by a lot of folks, the sort of short-term mentality. Secondly, one of the pieces of this I know that Mr. Wu had when you guys took the FISH equipment into the class 3 hospitals was the mutually beneficial relationship of possibly being able to introduce them to your ECLIA equipment and get your foot in the door there. I’m curious; I know it’s early and it’s only been a month but I’m curious if that dialog has started with any of the class 3 hospitals or if you could give us any color in terms of anybody showing any interest in your other products, besides just the FISH probes.

Charles Zhu

Yes, we still believe there will be synergy between our FISH business with ECLIA or potentially with our HIFU business because, as we mentioned, Mr. Wu and myself have been visiting those large hospitals in the past month and we did mention our -- in addition to introducing our FISH business, we did mention our other business lines like ECLIA and the HIFU business. Especially when we talked with the directors from the labs in those hospitals, when we mentioned that we also have a platform on the ECLIA that can perform some of the screening, for example, the Down’s Syndrome screening, which is complementary to our prenatal FISH probes as a confirmative test, we do see some interest from those large hospitals.

Some of the other FISH applications includes the applications for oncology related diseases, like bladder cancer and breast cancer, so we are also talking with some oncology departments in those large hospitals. So we believe there might be some potential synergies for our HIFU business as well in the future.

Luke Langford - Langford Capital

Excellent, and this was Charles speaking, right?

Charles Zhu

That’s right.

Luke Langford - Langford Capital

Excellent, and last question is sort of more of a strategic, longer term, so I apologize if I’m putting you on the spot. Can you take me through the board’s philosophy when they looked at the roughly $12 million they decided to pay out in a dividend? What was the thought process of paying that out in a cash dividend versus reinvesting in the business with such a high rate of growth? I’m just curious as to the philosophy that they came to.

Sam Tsang

In fact, as we explained, we believe to -- cash returned to our investors is one of objectives. It does not mean we don’t -- that does not mean we will expect lower growth in our current business. It is just one of our company objectives for that. You talked about a $12 million total amount cash dividends, which is only about less than one-third of our GAAP net income this year, so we do not believe an allocation or distribution of these smaller part of our net income will have any negative impact to our operations.

Luke Langford - Langford Capital

Actually, it’s not a problem at all for us. We understand how much cash you guys are probably gong to be generating in the future. It’s just I wanted to make sure that if people were thinking you didn’t have any room for growth or whatever, it’s more you are not looking to load up the balance sheet with cash. You don’t see a need to. So thanks very much. I appreciate it and congrats, guys, and again Sam, congratulations.

Operator

(Operator Instructions) Our next question will come from the line of Bin Li of Merrill Lynch. Please proceed.

Bin Li - Merrill Lynch

Thanks for taking questions from me again. I just want to ask a question on the expense for the quarter. As a percent of sales, it was 4.9%. Relatively low compared to the historical level. Can you explain that and can you tell us what would be the run-rate going forward? And I have another question.

Sam Tsang

Bin, sorry, which expenses are you referring to, 4.9%?

Bin Li - Merrill Lynch

The R&D expense.

Sam Tsang

The R&D expense, the amount is collectively lower because we submitted -- actually, we completed our annual test for the FDA project later last year and so in the first quarter, it is mainly the preparation of documentation for ID submission. So that cost from the FDA project was lower in that quarter. We expect when we get the feedback from the U.S. FDA and if we are approved to commence our clinical trial in the States and a relevant cause, the R&D expenses will go up.

Bin Li - Merrill Lynch

Great. I just want to ask another question on FISH. I want to understand the visibility of the order flow. You guys have provided quite good visibility on the HIFU product. You give us backlog at each quarter. Can you give us a similar number for FISH and what kind of visibility we have from the order flow right now?

Sam Tsang

We already gave the order numbers for the FISH business. We expect to give similar information in the following quarters about the orders for our FISH equipment.

Bin Li - Merrill Lynch

Let me ask another question on FISH again; in terms of the pending FDA approval on the probes, how many probes have you applied for approval now? Are you applying for everything or is it just batch by batch?

Charles Zhu

Right now, we have packaged our different probes in accordance with the application, so we are going to apply for the approval batch by batch. For example, for the prenatal kits, we are going to include all six probes for the prenatal as one application.

Bin Li - Merrill Lynch

So how many applications have you applied for now?

Charles Zhu

Right now we have initiated about six applications.

Bin Li - Merrill Lynch

Can you list them, please?

Charles Zhu

It’s prenatal and post-natal and probes for Leukemia, breast cancer, bladder cancer.

Sam Tsang

And cervical cancer.

Charles Zhu

Yes, I’m sorry, and cervical cancer as well.

Bin Li - Merrill Lynch

Are they on the same timeline?

Charles Zhu

We started at the same time but it may take different times for us to get the final approval.

Bin Li - Merrill Lynch

And what would you expect the first application would be to be approved?

Charles Zhu

Well, there are a lot of factors that are out of our control, so we cannot give you a detailed guidance at this time.

Bin Li - Merrill Lynch

Okay, and competitively speaking, I understand when you acquired FISH technology, there were no domestic suppliers for FISH probes and equipment. Have you seen any new competition emerging in China?

Charles Zhu

So far we haven’t seen any new competition.

Bin Li - Merrill Lynch

Great. Thanks.

Operator

Your next question comes from the line of Jinsong Du of Credit Suisse. Please proceed.

Jinsong Du - Credit Suisse

Just a follow-up on what you said, Sam and Charles. I just want to make sure that while we are applying for the SFDA approval for the probes, we can still sell them to the hospitals, right?

Charles Zhu

Absolutely. We can sell it under the R&D label.

Jinsong Du - Credit Suisse

Right, so do we have an estimate of, for example, the next few quarters, what will be the sales of the probes?

Charles Zhu

For next quarter, it will be at quite a low level because we are just starting to install the systems right now so it will take some time for the utilization rates.

Jinsong Du - Credit Suisse

I see. Do you have an estimate like in a more stable stage, what will be the utilization rate?

Charles Zhu

Right now the FISH probes are designed for very different applications and some of them have a very large test volume and some of them not, so right now it is very hard to predict the overall assumptions for the probe. But we expect maybe after several months of operation, we will be in a better position to give you a more reasonable estimate.

Jinsong Du - Credit Suisse

My last question regarding the HIFU sales, I understand that we would have a very healthy growth of more than 30% this year. Do you see that continuing in the next few years just domestically? I understand our international sales is picking up. That might help on the continued growth but just from a domestic market point of view, do you see potentially because we keep selling more and more units that there will be a point where the domestic market will be saturated and the sales will slow down? Do you foresee that in the next few years?

Sam Tsang

Actually, in our remarks we did expect the growth of HIFU sales will be steady until we get the regulatory approval for our HIFU system in major countries. So we expect it will still be steady growth. For example, we gave the backlog numbers of the June quarter, which is about 20 units and we mentioned that the same period last year, we sold 17 units of HIFU sales. So we expect there will be still growth but as we discussed, HIFU is a long-term business. Currently, the global medical community and patients have not really realized the HIFU benefits in treating cancers. We believe it will take time for physicians and patients to realize there are good benefits in treating cancers and also especially the time required for the regulatory approval, which will let us maintain the steady growth for the HIFU sales in domestic markets.

But you know, we are already preparing ourselves for the overseas market, including the EDAP and Century Medical distribution arrangements, and also the Korean sales opportunities. So we believe these will help us maintain at least a steady growth in our HIFU sales.

Jinsong Du - Credit Suisse

Right. Thank you. Thanks a lot.

Operator

Your next question comes from the line of Luke Langford of Langford Capital. Please proceed.

Luke Langford - Langford Capital

Just a follow-up; I know what’s going on with Korea, but can you comment on HIFU and when you think you may be in Japan?

Charles Zhu

For Japan, it is also very time consuming to get the [Ashani] approval, which is the Japanese FDA approval. The whole process we expect it will take more than three years to get completed. Although there are some ways to sell to Japan before the [Ashani] approval under the doctor’s private license but that’s, the sales volume under that kind of arrangement will be limited.

Right now, we are exploring some of the opportunities under this kind of arrangement but right now, we don’t have any orders under this kind of arrangement.

Luke Langford - Langford Capital

I talked to Larry about the U.S. FDA, so maybe Japan’s even a little bit worse in terms of the time effort involved from you guys, but you have a few other opportunities in the short-term to get them in there, sort of private deals but not on a large scale.

Charles Zhu

Right.

Luke Langford - Langford Capital

Would you say that’s going to be the case in Europe as well with the EDAP distribution deal or are those markets going to be a little easier to penetrate?

Charles Zhu

For Europe, we do expect the process will be less time-consuming than the U.S. and Japanese FDA approval.

Luke Langford - Langford Capital

Thanks, guys. We’ll be in touch.

Operator

At this time, we have no further questions. I would like to turn the call back over to Sam Tsang for closing remarks.

Sam Tsang

Once again, thank you for joining us today. Please don’t hesitate to contact us if you have any further questions. Have a nice day. Goodbye.

Operator

Thank you for your participation in today’s conference. This concludes the presentation. You may now disconnect. Good day.

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