Accuray Incorporated: Undervalued, or in an Out-of-Favor Industry?

After plunging 25.57% on Friday, the question remains - has Accuray Incorporated (ARAY) hit bottom, or is there another 10% downside in store? As a newly listed public company, there isn't any historical data to draw upon.

CIBC World Markets analyst Amit Hazan has been dicing this stock since June when he lowered his target price to $19 while the stock was trading at $22.50. On Friday, Hazan lowered his target price target to $16, and the stock closed at $13.45. ARAY had hit an intra-day high of $31.09, however, on a weekly closing chart the high was $25.69.

In June, Hazan stated:

ARAY's competitors now offer same capabilities on more versatile systems at lower prices; new orders may not come in at historical rates... Thinks co.'s role in $6B SRS addressable market will be limited due to CyberKnife's lack of versatility... Sees market as already 31% penetrated, large portion of remaining opportunity lies with high-volume treatment centers more likely to buy competitor products... Sees $0.34 FY '07 (Jun.) loss, $0.38 FY '08 EPS... Says ARAY shares trade at 4.5x CY '08 EV/sales, while group trades at 3.4x... Sets $19 target.

Now (on Friday) Hazan said:

Q4 worldwide orders, sales missed his estimates. Notes worldwide orders carried share ownership component larger than in any prior Q, unit installs in U.S. actually fell in FY '07 (Jun.) vs. FY '06, and FY '08 sales guidance trails Street estimates. Says concerned about slowing unit order growth, 35M share lock-up expiring September 4, weak reimbursement for body stereotactic radiosurgey treatments. Believes Street EPS estimates too high; sees $0.38 FY '08 EPS, $0.77 FY '09. Cuts $19 target to $16. Rates sector under-perform.

The latter note to clients was made public by CIBC on options expiration Friday, and the stock plunged. Make no mistake; Hazan has the lowest FY '08 EPS estimates amongst all the analysts. The majority, including CrossProfit figures come in between $0.45 and $0.50. What is baffling is even the pessimistic Hazan expects a profit of $0.38 for FY '08 verses a $0.18 loss recorded for FY '07 (ended June). Don't forget that Hazan had calculated a $0.34 loss for FY '07 as late as June this year, and was way off. All analysts concur that revenue should grow between 60% (Hazan), and 85% (CrossProfit at 73%) in FY '08. The FY '09 projected revenue growth is still above 20% according to Hazan, and according to the consensus, is closer to 30-35%.

Is it possible that CIBC clients shorted this stock back in June? $13.50 is a bargain if the CrossProfit estimates are correct. If Hazan is correct then about 10% south is the bottom. We will see what happens as of September 4th. If insiders hold, then this is a dead give-a-way that the stock is undervalued. If they sell in mass then we will have to investigate Hazan's claims about competitors' products more closely. For now, this looks more like a dump tactic, and here is why.

On Friday the S&P quoted Hazan as saying:

$0.49 loss on sharp revenue rise... CIBC World cuts target price, reiterates sector under-perform.

Here are the facts and figures:

YOY revenue increased 166% (FY '06 to FY '07), and YOY earnings increased from -$2.11 to -$0.18. Its Q4 revenue was up from $21.4M to $44M, and its Q4 earnings was up from -$0.49 to +$0.01. The figure quoted by CBIC was NOT Q4 FY '07, but the Q4 figure for FY '06! What CIBC should have said is, "$0.01 profit on sharp revenue rise…ARAY now profitable."

More to the point is that Standard & Poor's disagrees with the sector under-perform rating (so do we). We do however concur that the U.S. will see slower growth. The fact that ARAY has concentrated on non-U.S. markets bode well for the company going into FY '08 and FY '09. Companies that rely too heavily on the U.S. market will see slower growth, and perhaps even experience a slight downturn.

In the words of S&P:

Our fundamental outlook on the health care equipment sub-industry is positive…We remain concerned about a lack of blockbuster new product introductions anticipated for 2007, and think recent M&A activity in the U.S. hospital markets could interrupt big ticket capital equipment spending in coming quarters…We see positive longer-term fundamentals, including increasing global demand for quality health care, an aging population and rising R&D outlays, leading to a steady flow of new diagnostic and therapeutic products in areas such as cardiology, orthopedics, oncology and minimally invasive surgery.

ARAY 6-mo chart

Disclosure: No conflicts - yet (long bias).

Comments

[mhousealum]

I agree...the selloff Friday was totally ridiculous. This company is growing super fast and has record backlog according to the earnings release and conference call. That CIBC analyst should be demoted. Can't even quote the financials correctly.

[borisb]

i would be cautious. while the price is much better for bounce velocity, this business model is a little bit shaky. the price of the machine at $4 + million plus is hardly an easy sell. Varian Associates has a 20 year reputation and huge installed base and plans to incorporate the limited innovations that Cyberknife has offerred. While Cyberknife has a immediate application in Lung tumor pinpoints, what else is breakthrough application? nothing?

[freditor]

I bought ARAY at $20 some time ago..so don't feel too bad. My only hope is to hold and wait for better times...