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Theragenics Corporation (NYSE:TGX)

Q4 2011 Earnings Call

February 23, 2012 11:00 am ET

Executives

Christine Jacobs - Chairman and CEO

Frank Tarallo - CFO

Analysts

Joe Munda - Sidoti & Company

Ezekiel Kruglick - Ardent Research

Jeff Anderson - Encore Group

Operator

Greetings and welcome to the Theragenics' fourth quarter and yearend 2011 earnings conference call. It is now my pleasure to introduce, Ms. Christine Jacobs, Chairman and CEO of Theragenics.

Christine Jacobs

Good morning and welcome to Theragenics' fourth quarter and yearend 2011 conference call. Thank you for joining us today. In just a few minutes, I'll provide comments on the past quarter and 2011 and a little about the outlook for 2012. I will also talk about our just announced acquisition of the Core Oncology prostate brachytherapy customers, but first I am going to turn the call over to Frank Tarallo, our Chief Financial Officer, he's going to provide a review of the financials.

Frank Tarallo

Thank you, Chris. This morning we released our consolidated financial results for the fourth quarter and yearend 2011. If you did not receive this news release or if you would like to be added to either our fax or email distribution list, please contact Investor Relations at 800-998-8479, or 770-271-0233.

Before I begin my review, please be aware that some comments made during this conference call may contain forward-looking statements involving risks and uncertainties regarding our operations and future results. Please see our press release issued today and our filings with the Securities and Exchange Commission, including without limitation, the company's Form 10-K and Forms 10-Q, which identifies specific factors that may cause actual results or events to differ materially from those described in the forward-looking statements.

Now let's move to our results. Our consolidated revenue in the fourth quarter was $19.9 million, which is a decline of 4% from 2010. For the year, consolidated revenue was $82.7 million, an increase of 1% over 2010. This was also our highest annual revenue ever. Moving to profitability, EPS was $0.01 in the fourth quarter, the same as the fourth quarter of 2010. For the year, EPS was $0.09 versus $0.06 in 2010, which is an increase of 50%.

Let me move now to our segment results. Revenue in our surgical products segment decreased 5% in the fourth quarter from 2010. For the full-year surgical products revenue was up 1%. Revenues continue to be affected by the variability in the ordering patterns of our larger customers. ERP implementation at one business unit also affected our revenues in Q4. Open orders at the end of 2011 were $13.9 million a 7% increase from the end of '010. So fundamental demand remained strong and is building.

Moving to profitability, our surgical business incurred in operating loss of $480,000 in the fourth quarter compared to an operating profit of $63,000 last year. For the year, operating income was $607,000 compared to $215,000 in 2010. Special items which are detailed in our press release affected our operating results in this segment. In addition to the special items profitability in our surgical product segment was also affected by a decline in gross margins on sales in 2011. Gross margins were 30% in Q4 of this year compared to 33% last year.

Customer ordering patterns had a negative impact on gross margins. We also began implementation of our ERP system at the last of our four locations in Q4. This implementation caused some inefficiencies resulting in over time and lengthening the lead time on orders. So this affected both sales and margins in Q4.

For the year, our gross margin on product sales was 35% compared to 36% in 2010. Looking forward for 2012, we expect customer behavior, product and channel mix and increase in raw material prices to continue to affect our margins in the surgical business.

Turning to our brachytherapy business, revenue increased 1% in the fourth quarter over 2010. Brachy revenue was also up 1% for the full-year, this is the first time in six years that we saw year-over-year revenue growth for a full calendar year in this business.

Operating income in our brachy business remained strong at $1.1 million in Q4 this year compared to $439,000 in 2010. For the full-year, operating income was $4.9 million compared to $3.7 million last year. We did incur special items in each of these years which affected our results and those special items are detailed in our press release.

Returning to consolidated results, adjusted EBITDA was $2.6 million for the fourth quarter of 2011 and $13.5 million for the full-year. Our capital expenditures totaled $2 million for the year. And we expect our CapEx spend for 2012 to be similar to 2011 exclusive of the purchase price for the core asset acquisition.

We ended 2011 with $41.2 million in cash, cash equivalents and marketable securities. We have $23.7 million outstanding under our credit agreement resulting in a net positive position of $17.5 million.

That wraps up my comments. And I'd now like to turn the call back over to Chris.

Christine Jacobs

Thank you, Frank, and good morning, again. My comments this morning are going to be grouped into three sections. The first will be yearend results for both segments including some specific discussion of the fourth quarter. Second, I'll talk about our new transactions; and third, outlook for 2012 and beyond.

So let's begin with Surgical Products. Revenue was up 1% year-over-year. We had headwinds in our Surgical Products segment in 2011. Those headwinds prevented us from getting sales opportunities of $3 million or maybe even more.

So let me give you three examples. First, one business unit had a customer that consolidated multiple warehouses. This resulted in a reduction in the amount of inventory they carried. So they didn't order as much. Second example, one business unit had a customer decide to move their manufacturing offshore and this was a blow. Finally, in another unit, we lost business due to our own decisions. That is we terminated a large customer who was not supporting our products as we wanted. These are all unrelated events at three separate business units that contributed to the volatility that we saw during 2011 in our Surgical Products segment.

Throughout 2010 and '11, we spoke of unpredictable customer behavior on every conference call that we had with you. But in 2011, that behavior was magnified. Our customers are suffering with economic and healthcare uncertainty and their transactions with our Surgical Products reflect this.

So let's talk about fourth quarter. With that said, what happened? Well, our fourth quarter in Surgical Products was a challenge. Remember, we had momentum in the first nine months of the year, and then we experienced a pause in the fourth quarter. So what do we know?

The first thing we know is a large customer didn't place their normal order before the end of the year. By the way, they did place the order in January. Second, we planned an interim ERP implementation to stress test the systems at one of our business units. And while our ERP implementation had gone smoothly at each of the other business units, it didn't go as well in this one, causing delays in production and shipping. However, we've identified the issues and we're now focusing on fulfilling the backlog.

So let's go to the big picture. As you digest these specific results, let me help you step back and understand the medical device sector and compare how we did in a macro sense. Since yearend, we've seen a number of companies like GE and industry commentators such as research institutes and the publication Medical Device Daily who reported "Medical device market feel significantly short in fourth quarter".

So how do we square all of this with the fourth quarter and our 2011 results for the Surgical Products group? In Surgical Products, we have very solvable operational manufacturing issues. So my perspective is: first, we've identified and addressed the issues raised by the ERP issue at one location. But more importantly, we have customer demand that while volatile is healthy.

As Frank mentioned, open orders in the Surgical Products division were 13.9 million at the end of the year, and that's 7% higher than it was at the end of 2010. So I believe it's significant. And going forward, we remain quite bullish. In this context, I wanted you to have and digest our Surgical Products results.

So now let's move on to Brachytherapy. And I'm going to talk about the announced transaction here in a minute. But first, I want to again provide you context about what's going on. Talk of bullish; we were really pleased with the 1% year-over-year growth in a business segment that's been in decline for six years. Brachy as a treatment for early-stage prostate cancer has delivered on its promise of a cost-effective cure with reduced side effects when you compare it to other treatments. Yet as a treatment option, it experienced the decline in procedures when compared to other treatments that had more favorable reimbursement from Medicare.

Throughout this period of decline, we have positioned Theragenics to maximize profit and cash flow, all the while believing that the decline would abate or level out. We also believed that we'd have an opportunity to garner market share in an industry as it consolidates. Every quarter we mentioned potential opportunities to increase market share in the sector.

So in that, 2011 was fulfilling for us in Brachy. Our distributors and our in-house sales force each contributed to units sold. As you remember, the large fixed cost component of our manufacturing base means that we're extremely profitable when extra palladium units are sold. So to be clear, as the units sold increase, our operating income increases.

Now we're not going to be able to see 2011 industry-wide numbers of the Brachy procedures for a couple of years. We suspect that the decline is slowing. Of late, several trade journals have showcased our Brachy treatments as cost-effective solution for early-state prostate cancer.

Most notably, Dr. Jay Ciezki of the Cleveland Clinic and his team of researchers reviewed the chart of 130,000 men, and they found the seed therapy to be the most cost-effective treatment. These data are also headlined by WebMD. So this type of press and awareness helps patients and our policymakers in Washington, D.C., make informed decisions. Yet, make no mistake, competitive pressures remain.

Now let's go on to the core transaction that we announced this past Monday. It's exciting and it is a perfect fit for us. The Brachytherapy industry and the manufacturing of radioactive seeds is squarely in our wheelhouse. We run a profitable business with a 25-year-old reputation of taking great care of this industry, its doctors and their patients. It is a handsome deal for Theagenics. The transaction is earn-out based. We gained an immediate I-125 market share. And lastly, it's expected to be accretive to earnings and cash flow positive in 2012.

To outline what's happening, we have acquired Core Oncology's prostate brachytherapy customer base. We plan to supply these customers with Core's iodine seed for a transitional period. Then we're going to begin manufacturing and supplying our own iodine seeds.

As you saw from the press release, Core sales at 12 months ending June 2011 were $13 million. Then they fell off to $4 million over the last six months of calendar 2011. So let me explain why we're forecasting incremental 2012 revenues of $5 million to $6 million.

First, the $5 million to $6 million is for a partial calendar year. Second, as Core experienced financial distress over the last year or so, their palladium customers began to migrate to our direct channel and to our other distributors. And finally, Core's uncertain future resulted in some of their iodine customers changing suppliers. I assure you we are aware of this dynamic. We have plans to regain those lost sales; thus our cautious forecast for incremental 2012 revenue from the Core transaction.

Servicing quarter's current iodine customers brings us a new book of business and that provides margins and profit expansion when we manufacture for these customers. The iodine business is more variable cost driven than our palladium business. So it's not quite as profitable as the palladium seed but we've got plenty of capacity in the Buford facility and we expect to realize cost synergies when we manufacture.

A good example is that we anticipate adding only one employee to the manufacturing plant and a couple of sales employees to service this new book of business. So it's quite a win. All-in-all it's an exciting accretive transaction that is attractive on several fronts, both financial and market specifics.

So to wrap my comments this morning we operate in two medical device segments. This year one segment experiences a pause in the four years of growth, for example and to put into perspective the past four years ending in 2010, the CAGR or the compounded annual growth rate for our surgical products segment was 10.25%. Another segment, the Brachy segment experienced growth in a down environment and will now have an exciting upside potential that involves handsome profit in cash flow.

Now on a macro economic environment, we've got to remember it is unsettled. We can't change this and our customers continue erratic patterns of behavior especially with their ship dates, yet don't loose sight because 2011 was yet another record revenue year for us. Overall, we believe the outlook is as good if not better than most others in our two business segments.

Our surgical products are in demand. And our reputation as a quality manufacturer continues to drive. Our Brachy seeds cure cancer and our new transaction holds more potential than we've seen in sometime.

And our balance sheet, it served us well through the recession and provided us with the flexibility to capitalize on accretive transactions just like Core. In 2012 and beyond it holds promise of continued growth, expanded mission and creations of long term value. That ends my comments. We will open for some questions.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Joe Munda with Sidoti & Company.

Joe Munda - Sidoti & Company

Real quick, Frank, what was the operating cash flow for 2011?

Frank Tarallo

$6.1 million.

Joe Munda - Sidoti & Company

And, Christine, you mentioned you terminated large customers and that was what led to the softness in surgical. How much of that customers orders were 2010 revenue?

Christine Jacobs

I don't have their 2010 revenue.

Joe Munda - Sidoti & Company

If we're saying at surgical, where they ball park?

Frank Tarallo

We don't disclose revenue by customer unless it's at 10% or greater customer. So it was not 10% but I think what we can tell you that it was significant.

Joe Munda - Sidoti & Company

And you also mentioned that ERP you had a problem there. How long do you think it will take to fix that problem and recover some of that loss revenue?

Christine Jacobs

I'll let Frank jump in on the ERP and will cover the question at lost revenue. We don't want the implementation process to stop selling demand. Frank, I'll let you take it from here but we did not motor on with the ERP implementation. We stopped to make sure we get these orders out.

Frank Tarallo

Joe, we do the ERP implementation in a very controlled way with milestones that do not have a long period of time between them so that something starts to get a little bit off the track. We can put a stop to it because our first objective in all of this is to not harm the business and not harm our relationships with our customers. So we don't think we harm the business and we don't think we harmed our relationships with customers.

How long will it take? We're going to continue to do it in a very controlled way so that we can continue to operate and not harm the business.

Joe Munda - Sidoti & Company

What I guess from getting at it that isn't it have an effect on gross margin going forward?

Frank Tarallo

I don't think so. I mean to the extent that it prevents us from getting the orders as it did in Q4. It could have an effect on gross margins. But to the extent it gets implemented in accordance with let's say what our plan is. Then no, we don't expect a significant effect on gross margin.

Joe Munda - Sidoti & Company

So I guess then can you assume margins return to that low 40% level in 2012?

Frank Tarallo

There is a lot more then ERP that impacts margins. I think I talked about increases in raw material pricing, changes in product mix, meaning OEM versus distributor channels where there are differences in the margins and so. We don't mean to imply that everything is because of ERP, right? But clearly, margin improvement and profitably improvement is a very high priority for us. And so I would say I can't predict what the margin will be, but we were not satisfied with the margins in the fourth quarter and we would expect improvements going forward. And that's the way we would work towards.

Joe Munda - Sidoti & Company

And then on the Core Oncology acquisition, I'm little confused. So $4 million first six months and you're expecting $6 million total incremental revenue in 2012?

Frank Tarallo

We have said that we expect incremental revenue of $5 million to $6 million. They ran at a rate of about $4 million for the last six months of calendar 2011. So are you trying to match those numbers up?

Joe Munda - Sidoti & Company

Yes.

Frank Tarallo

This is a pretty unique circumstance because of what Core was going through and trying to get refinanced et cetera. The first thing you have to realize is that for 2012, its only 10 months. And we've tried to be somewhat conservative let's say in our forecast because we've got a solidify relationships with these customers. Deliver with these customers. Continue to deliver the same quality, the same service that they have always expected.

Remember too, that that $4 million in the last half of the year, I don't have the data on a month-by-month basis but the conditions deteriorated over the course of the year last year. So when we build that forecast, when we build our expectation for 2012 we build it from the ground-up based on the state-of the-business on January 1.

Joe Munda - Sidoti & Company

You brought it at half of what revenue would have been in 2011?

Frank Tarallo

Remember it's completely an earn-out based. So we bought it one-time what it turns out to be on an annual basis.

Joe Munda - Sidoti & Company

And did that acquisition now opening doors up to more business in Europe?

Frank Tarallo

This acquisition gives us I think some multiple opportunities. And because it's primarily about iodine, our share in iodine was negligible, certainly less than 5%. Core's share was significantly higher than that. So it opens up opportunities we believe in the domestic market. And then iodine is the isotope of choice outside of North America. So we think it could provide some opportunities for that as well, you're exactly right.

Joe Munda - Sidoti & Company

How much cheaper is it to do iodine than it is to do palladium cheaper to manufacture?

Frank Tarallo

I can't give you the exact numbers on that. We don't disclose those separately. But I can tell you that first of all it's important to understand that iodine is highly variable cost driven because we don't produce the iodine ourselves. But iodine is relatively an expensive. It's readily available from that standpoint. So on the palladium side of the business we have a pretty large fixed cost base, right? And incremental units mean significant incremental profits on the way up.

On the iodine side, it's still going to be nicely profitable for us. But it's not as fixed cost driven. So I can't really tell you, what the per-unit price. And we don't give that information out in terms of what the manufacturing cost is, Joe. It's somewhat less than palladium, but it's more variable than palladium.

Joe Munda - Sidoti & Company

And my last question, are you guys going to experience any restructuring cost to the closing of Core, or any facilities or organizations?

Frank Tarallo

Joe, I'm really glad you asked that question so that we get a chance to clarify. The only thing we acquired were the (technical difficulty) base. And so we did not acquire their plants, their employees, any of their processes. So the answer to your question is no, that we're not responsible for any of that.

Operator

(Operator Instructions) Our next question is from the line of Ezekiel Kruglick with Ardent Research.

Ezekiel Kruglick - Ardent Research

I was wondering can you comment roughly on the revenue and EPS impact of that large customer who shifted from sort of end of the year to January?

Christine Jacobs

I can't give you specific customer numbers. And obviously, I've got to protect who they are. You're talking about the one actually it's the same one who consolidated warehouses. So they show up in the year volatility that they will also showed up in fourth quarter when they didn't order and then they placed an order in January and an other one in February.

Ezekiel Kruglick - Ardent Research

I was looking for the impact not name of the customer obviously.

Frank Tarallo

I can't give you specific impact except I would not have given you a nitpicky number. It's a significant customer for that division, for that particular sub.

Ezekiel Kruglick - Ardent Research

Let me put it in other way, perhaps it's a change of topic. The Brachy revenue was up 1%, surgical revenue was up 1% but EPS was down without special items, just a little bit. Would that have been closer to inline if that is found in December?

Frank Tarallo

I think that would be part of it. We talk about the ERP implementation and some of the inefficiencies that created and the loss of the customer going offshore. So I think in total that would have been part of it. But yes, I think the answer to your question will be that.

Christine Jacobs

Exactly, and remember like I said in the conference call I think we had a record six months. Everything was looking great at first six months, nine months, we had momentum and then I termed it a pause, because there is nothing systemically at issue here and demand, it's still out there. But I was trying to give you guys some real concrete examples of what happened. And they are both solvable and they're both going away from fourth quarter.

Ezekiel Kruglick - Ardent Research

For the acquisition of Core's customers there, so I am trying to follow along on the iodine seeds, you mentioned it being not as fixed cost driven and I believe Frank said that you don't produce the iodine, is that precursors or you don't actually do the radiation in your own accelerators?

Frank Tarallo

We don't do the radiation of the iodine material itself. So we buy the iodine in chemical form, but then we manufacture the seed.

Ezekiel Kruglick - Ardent Research

Is that a product that's produced at reactors instead?

Frank Tarallo

It's produced in a lot of different ways and there is a hand full of suppliers around the world that do it at different ways but that that would be one way. But the distinction there is as opposed to our palladium product where we actually manufactured the radioactive material itself.

Ezekiel Kruglick - Ardent Research

So in terms of supply, it comes from that other supply chain, if we see more bad news about sort of like we saw a couple of years ago with Chalk River up in Canada for the overall outside world's supply of isotopes, was that impactive?

Frank Tarallo

It could, but it's not this. When you refer to Chalk River and some of the isotopes shortages, the big concern and I think probably you're really referring to is moly-99 right technician which is really highly concentrated in terms of how many places it comes from around the world. With iodine-125, that's not necessarily the case. It's not quite as concentrated in terms of the manufacturers and suppliers. So I guess it's always possible. But it's not that hard to make it and it's not as concentrated to the extent as the moly-tech issue.

Christine Jacobs

And the other thing is there are more iodine manufactures than there are tech-99. And so I think we've got more choices than for getting the raw material than we would if we were into diagnostic business with tech-99. We are not a GE diagnostics, Ezekiel, your points are well taken.

Ezekiel Kruglick - Ardent Research

So I guess I can follow-up on this. I was sort of offline as well. With I-125, is it the sort of thing where you could call up MURR and just ask them to produce some for you?

Christine Jacobs

I don't know that MURR was on our first call.

Frank Tarallo

You're right. It's along those lines, exactly. But MURR is not at the top of the list.

Christine Jacobs

And as you're trying to wrap your arms around the iodine situation, and I hope it was not buried in my comments, when we start manufacturing, we get a book of business, number one. We got instant market share which we haven't had. And number three, we have an opportunity to manufacture which is something that you know we are pretty good at from a margin point of view. And there is going to be synergies. And so that's why I'm glad you're asking these question so we get to at least show you how excited we are about this, because this is a very handsome transaction for the company.

Ezekiel Kruglick - Ardent Research

Well, right. I mean buying at onetime sales and in an area where you can get some reasonable margins. It's always going to be great. You guys understand its part of my job to poke. Can you comment a bit about what's sort of incremental margins you would to expect to see, obviously it wouldn't be the same as palladium. You commented that they're bit lower. Are we talking sort of better or worse than the 35% your gross margins that you've been seeing at some factions?

Frank Tarallo

The sort of the mid-30s you're referring to is in our surgical product segment. We have not disclosed our forecast that what we thought the incremental profitability would be. We did say what we expected it to be accretive in 2012. Part of the reason we didn't try to forecast something a little in a more defined way is we've got a transition period where we're transitioning the customers over Core is going to supply us for a transition period. And so those cost are going to shift around a little bit. It will be 2013 before we see what it really is on a steady state or status core basis.

But our platinum business ran at a margin of about 50% for 2011, its high fixed cost. It will not be as high as 50% but I don't think it will be the as low as 30%. So I hope that's helpful.

Ezekiel Kruglick - Ardent Research

I do understand it will be accretive, but I am sure you also understand that in this interest rate environment almost anything you do with the cash would be technically accretive. So I'm trying to look for a little more detail, that was all and you gave it.

Couple of final questions here. The first is that I know you guys have incentives based on earnings and not cash flow and previously those have been marked down when acquisition were made. Can you make some comments on how those sort of incentives will be adjusted for a purchase like this one where it sales?

Frank Tarallo

I'm not sure we've follow the question on incentives.

Ezekiel Kruglick - Ardent Research

Executive incentive?

Frank Tarallo

You refer to marking it down in the past?

Ezekiel Kruglick - Ardent Research

Yes. Quite well, maybe I'm not right there, according to my notes in the past, there were comments on the proxy. That since incentive were based on earnings that were adjusted to represent the impacts of acquisitions.

Frank Tarallo

I think, Ezekiel, here what we can tell you is that the incentive plans are going to be adjusted for the expected impact of this particular transaction. The incentives are based on our forecast and our budgets and we try to make that a dynamic process. So because this Core transaction is done in terms of revenue. And we also look at from incentive basis EBITDA as well but those incentives for 2012 will be adjusted for taking to account this transaction.

Ezekiel Kruglick - Ardent Research

Let me be more blunt here. You're always try to tax when executives might be incentivized to make acquisitions no matter what the long-term possibilities over them are, and so I'm looking for comments regarding, for example, goals being raised because sales were purchased.

Christine Jacobs

It's like a windfall for the executive.

Ezekiel Kruglick - Ardent Research

In the past, you guys have not been doing that. You've been proper creditors who have made good acquisitions, and I'm just hoping to see if that's the way things are being handled?

Christine Jacob

Our incentive plans are set up on the businesses that we currently operate and we did because we are in that cycle getting opportunity to amend the 2012 program for the impact of Core but we are not holding out big bogies for additional M&A. We don't have big bogies sitting out here that say go spend your cash, you got to buy another company. That is not in our plan.

Ezekiel Kruglick - Ardent Research

Good for you. A lot of companies they actually have stuff like that, it's the way it works out. So am I hearing it right that then it is the performance of the previously already owned businesses that the goals are based on?

Christine Jacob

Yes, sir.

Ezekiel Kruglick - Ardent Research

How all we get into the couple of paragraphs in the proxy statement?

Christine Jacob

No, we are not incentivized to do things because I know where you're going on this now. And I understand it. But we're not into that. We are not incentivized to go do things that then evaporate and end up not good for the long term of the company. No sir, not at all.

Ezekiel Kruglick - Ardent Research

And that's because your incentivized goals are based on the existing business lines?

Christine Jacob

Yes.

Ezekiel Kruglick - Ardent Research

And then one finally if I could, earlier in the year I think in one of these calls I asked about the possibility of getting some of your hidden assets like your depreciated accelerators mentioned in the annual reports, someway. Is that by any chance do you think that's something that you might be doing?

Frank Tarallo

We'll be filing our annual report soon. I look back in the last year's annual report, its kind of buried way back in the section somewhere but we do talk about how many accelerators we have and in fact reviewing my notes I read your comments from a couple of quarters ago just last night. And I think we will consider because it's a fair comment. We would consider disclosing what the carrying value of those machines are.

Ezekiel Kruglick - Ardent Research

Inventories have been climbing over the last year. I know it dipped a little bit but can you comment on the strategy or thinking behind that, is that something you want to keep them up or is that something that you're looking to fix.

Frank Tarallo

I wouldn't say we want to keep them up and I'm not sure I would say we want to fix them necessarily either. I think the biggest impact on the inventories level at the end of the year was Chris referred to this, especially the customer that consolidated the warehouses. And we had an expectation based on discussions with that customer of what those orders might be in Q4 and they never came. But we began to build towards those expectations. And so that's why inventories climbed a little higher than we would like to see them climb. We would like to see them a little lower given this level of activity. But we're very comfortable that what we have in inventory is salable and as Chris mentioned that customer that customer placed the orders in January, February so we'll be using that stocker in the first quarter of 2012.

Ezekiel Kruglick - Ardent Research

And your December 31, inventories at 15.7 or actually lower than the previous quarter and inventories of 15.9.

Frank Tarallo

While at the pre-review we're starting to build those inventories in the previous quarter heading into in it and expectation of a certain order level in Q4. And so it sort of carried itself from the end of Q3 to the end of Q4.

Operator

Our next question is from the line of Jeff Anderson with Encore Group.

Jeff Anderson - Encore Group

Just one question, I know we've been talking about Brachy therapy but back to the surgical products business. And we've had this discussion before about the being the long term shareholders. I think collectively we've on shares in a company in excess of 10 years.

But when I go back and I take a look at the Surgical Products business and I kind of look at where the growth is stalled in the last couple of quarters and we look back at the M&A transactions, the averages have been 2.6 times EV to sales, 4.5, 2.7 for total of over $100 million. And we sit here today with an EV of $30 million, sales of AD, and we're trading for 0.4 times.

So the frustration I guess I have is where is the value creation for us. We keep talking long term. We've had quite a bit of times we've made those acquisitions, and all of a sudden, all the cash flows are coming from Brachytherapy. The very business we thought was going to go away is the one that's saving us.

Christine Jacobs

I am reminded we've had several discussions about when we were going to just split it up and give Brachytherapy. I mean I'll certainly let Frank jump in. In that, we bought one in '05. We bought one in '06. And we bought in '08. And we finished that transaction in August of '08. And I think beginning in September of '08, we could stop worrying about what the stock was trading at, because it was out of our control. And all the value that we wanted to create and all of the opportunities that we wanted to capitalize on, if you're strictly going by what the stock market reaction is, I think that's almost unfair these days.

Because a small or a microcap company in this environment in the medical sector is flat and out of favor. They're out of favor. The medical industry grew at 3.8% last year. It has been on the decline. National health spending has also been on the decline now going back three or four months. But I'll get back to the specifics. In 2003 and '04, we recognized that this company was a one-product, one-application company. And we could fold up our issues and go home, we could roll-up and consolidate the industry or we could diversify our revenue stream and get into other industries, but still do what we did best, which is to manufacture medical devices.

And so if you will remember back then, we looked at over 2,000 companies in the period of 18 months and every single company in the brachy industry, Jeff, we walked away from, because the valuations in '04, '05 period were through the roof. And we felt with reimbursement pressures coming that it wasn't going to make sense. So we diversified with the first acquisition of CP and then we went into medical devices and contracts manufacturing. I think we have delivered.

The prior years up to the December 31, 2010, we had organic growth in our Surgical Products for the CAGR of 10.25% when the entire industry was in decline. And so I think we have performed in that sector. I think we've got more work to do on margins, but when we talk about, hey you bought these things in the face of the worst recession in 40 years, we got a 10.25% CAGR. I think if you go ahead and add 11 on that, it's still a CAGR over five years now of 8.3%.

So I think we're doing okay. Given everything that's going on in a macro level, you can't just look at anything in a vacuum. The stock price, I'll be nuts if I wasn't as disappointed as you are. But what are the choices in the short term, anything we do right now in short-term measure no long-term value created. We are not in the stock manipulation business.

But I think if you look back and we study this in how the effect of decimalization on small-cap companies, it's not the liquidity. And then you take a look that, okay, if you don't like that, then let's find out what happened with the Spitzer rule that no small mid-cap company is allowed to go out and get A-plus of coverage.

Jeff Anderson - Encore Group

Well, when I hear that, you make it sound like there isn't a nanocap or microcap company out there making money. We talk about compounded annual growth rates, CAGRs at 10% but we've had this conversation now for a couple of years. It's where is the cash flow. I'm not commenting on the stock price and saying it's too low given what we've done. I'm saying the cash flow hasn't followed. And therefore the stock is where it is.

And when you look at that metric, I think you and Frank are looking at it one way and I think investors are looking at it another way. And I've said this before and I think that it bears repeating in a public forum. You pay a $100 million for acquisitions, 4.5 times EV to sales. Those are businesses that should have growth in excess of 10% compounded. And I know that you're going to say it's a recession, but the cash flows haven't followed. The only cash was coming out of this business are the very business we diversified out of.

So the frustration you can see in the marketplace is that they just simply don't believe that you guys are creating value and it's indicative of where the stock is trading, EV to sales of 0.4 times below book value. And the only cash flow is the very business that you think has hit a trough that we diversified out of. So we spent $100 million, and all we've done is destroyed value in the marketplace.

You can argue that decimalization is what's to blame. You can't argue that Spitzer is to blame. You can't say it's the industry that's to blame. There are companies out there making money, and you guys are growing. But we talk about double-digit. I don't mean to sound rude about it, but what's the difference between 10% and 99% to book double digits. We just want to see some cash flow growth. And I don't mean to be rude about it, but it's just that we sit here and we're talking about what happened last quarter. We've got special charges all over the place, but no cash flow.

We want to see some cash flow in that business. And I think until you do that, your stock is going to languish, and you can't blame it on those reasons. So with that, I just wanted to get that out for the other investors to hear that.

But my last question is with regard to Brachy business. Now we acquired Core Oncology. The cost structure is more variable than ours was fixed. And I believe that our capacity utilization might have been somewhere around 50%. So anything that we added really kind of flowed to the bottomline. Now we're buying a business that's got variable costs. Can you give us some flavor on that $10 million run rate in sales? How much is going to flow down to the bottomline?

Christine Jacobs

I'll let Frank answer that in just a second and then finish up. You're a long-term shareholder. I don't put you into the narrowly category. I appreciate your comments and I've got to make sure everybody, you and all on the call, understand we have a lot of people with a lot of opinions on a lot of issues. I gave you some examples and I don't see you as being argumentative. We hear you loud and clear. You are asking for cash flow growth. Got it.

But don't confuse the fact that we consider proposals, options and choices as not listening to you. So number one, I hear you. Number two, I don't see you as argumentative. And my examples of what's happening with microcaps were just that. I wasn't talking company-specific.

Now, as a company, we can ignore the present economy, plunge ahead. It's nothing wrong. But I'm going to say I think the things that are wrong in a macroeconomic sense. And so I think there are challenges for small and microcap companies. And at that point, I will end.

But I thank you for caring about the company. I hear you loud and clear, and we'll see that your comments are passed on. But we've got maybe a difference of opinion in the environment with which we operate.

Frank Tarallo

Can you restate your question for me please?

Jeff Anderson - Encore Group

Yes, simply put, with the sales we're going to bring in-house, these incremental sales, how much is going to flow to the bottomline?

Frank Tarallo

Just a quick preface to that is during this ramp-up period and as we transition customers, we expect cost will be somewhat higher. But Chris mentioned in her comments that we've got some real opportunities from a cost structure standpoint here, because we only have to hire a couple of people. Other than that, we're not incurring any SG&A here. And when I talk about variable versus fixed, I talk about the radioactive material itself, palladium versus iodine.

I think I answered a question a few minutes ago that while we don't give profitability by product line typically, our palladium business ran at about 50% margin I think last year. I don't think the iodine will be as high as palladium, but it won't be as low as 30% either. So that's a fairly broad range, but hopefully that provides sort of what you're looking for.

Operator

We have no further questions in queue.

Christine Jacobs

Well, thank you all for listening. It was a long call this time, but we appreciate your support and thank you for attending the call. Bye, bye.

Operator

Ladies and gentlemen, this concludes today's teleconference. You may disconnect your lines at this time. Thank you for your participation.

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