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Executives

Winnie Yam - IR

Dr. Zhong Chen - CTO

Sam Tsang - CFO

Charles Zhu - VP

Analysts

Bin Li - Morgan Stanley

Jinsong Du - Credit Suisse

Louis Fan - Brean Murray

Ho Ki Luc - Citigroup

Ho Jin Tong - Merrill Lynch

China Medical Technologies Inc. (CMED) F1Q08 (Qtr End 06/30/08) Earnings Call August 4, 2008 8:00 AM ET

Operator

Good day ladies and gentlemen, and welcome to the First Quarter 2008 China Medical Technologies Incorporated earnings conference call. (Operator Instructions).

I would now like to introduce your host for today's call, Winnie Yam. Please proceed ma'am.

Winnie Yam

Good morning. I am pleased to welcome you to China Medical's first quarter earnings conference call. China Medical already announced its first quarter results. A copy of the press release is also available on the company’s website, at www.chinameditech.com.

Today your speakers will be Mr. Xiaodong Wu, CEO; Mr. Sam Tsang, CFO; and Dr. Zhong Chen, CTO; and Mr. Charles Zhu, VP. After they finish with their remarks, they will be available to answer your questions.

Before we continue, please bear with me as I take you through the company’s Safe Harbor policy. The discussion today will contain forward-looking statements made under the Safe Harbor provisions of the US 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 US 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 Dr. Chen, who will give remarks on behalf of Mr. Wu. Dr. Chen.

Dr. Zhong Chen

Thanks, Winnie. Ladies and gentlemen, welcome to our earnings call. In the first quarter of our fiscal year 2008, we saw increasing change in the revenue mix of ECLIA and the FISH business. Over 95% of our revenues in ECLIA and the FISH divisions were coming from sales of reagents and our gross margin also increased significantly.

This outcome resulted from two new initiatives introduced in this quarter. The reagent rental arrangement is our first initiative where we provide free ECLIA equipment to hospitals, and in return the hospitals purchase our ECLIA reagents. Another initiative is to refer hospitals to purchase specialized microscopes directly from microscope manufacturers, which not only saves the cost of the hospitals, but also expedites the process of setting up their FISH diagnostic platform. In this way we are concentrating on promoting and the sharing of our FISH reagents to these hospitals.

These two initiatives will expand the installed base of our ECLIA equipment and increase the number of large hospitals establishing their FISH diagnostic platform. It will also result in rising reagent revenues, which generate a higher gross margin and are recurring in nature. In addition, through the promotional efforts about ECLIA distributors and the direct sales force for FISH, the ECLIA and the FISH hospital users not only increased the usage of our reagents, but also started to use other types of reagents offered by us as well.

Regarding our application of FISH reagents for SFDA approval, we recently passed the technical review stage for our first SFDA application for our HER-2 FISH probe and we received encouraging remarks from the expert panel. We are advised by SFDA officials that we are the first company to pass the technical review stage for FISH probe application. By having this experience with SFDA from our first FISH probe application, we are confident in receiving SFDA approval for all the FISH probe applications in the future.

Let's talk about our direct sales for FISH reagents. Our direct sales force continues to promote the use of FISH reagents with existing hospital customers, and develop new hospitals by leveraging our relationship with the existing hospital customers, as well as our direct sales efforts. This will result in a significant increase in FISH reagent consumption in the future. We are confident in meeting our target of increasing the number of direct sales customers from over 200 large hospitals to about 500 large hospitals by the end of this fiscal year.

With the presence of a direct sales force, we have already experienced the cross-selling opportunities. And with the continued growth of our large hospital customer base, they believe this will provide us with even more business and cross-selling opportunities in the future with regards to high business. It is pretty stable and continues to provide a positive contribution to us.

I have finished my remarks on behalf of Mr. Wu, and I would like to turn the call over to Sam, and he will give you an overview of our first quarter results. Sam?

Sam Tsang

Thank you, Dr. Chen, and welcome, everyone.

Let's have a recap first. Our Q1 revenues were up 49.7% on year-over-year basis. Our non-GAAP Q1 adjusted net income was up 61.2% on year-over-year basis. Diluted EPS on non-GAAP basis was RMB3.89 for the quarter.

Let's look at more specific information for the quarter. Q1 revenues were up 49.7% year-over-year to RMB226.8 million or US$33.1 million. Our revenues are generated from three product lines, ECLIA diagnostics systems, FISH diagnostic systems and HIFU tumor therapy systems. ECLIA and FISH system sales include the sales of equipment and reagent kits.

Revenues from sales of our ECLIA systems were up 41.3% year-over-year to RMB111.7 million or US$16.3 million. The key driver in our ECLIA operation is the recurring revenue from the sales of ECLIA reagents. We expect the growth in reagents to continue, and the reagent revenue almost accounts for all of our ECLIA revenues.

Q1 revenues from the sales of our FISH systems were up significantly to RMB50.3 or US$7.3 million. The significant growth was primarily due to the strong growth in our FISH reagents sales. Q1 revenues from the sales of our HIFU system increased 11.6% year-over-year to RMB64.7 million or US$9.4 million. We sold 22 HIFU units this quarter, including two units to Korea and have a backlog of 32 units.

Gross margin increased to 69.1% this quarter from 57.5% in Q1 '07. The increase was because of the change in revenue mix by selling more, higher gross margin ECLIA reagents and FISH reagents.

Q1 operating expenses increased 67.8% year-over-year to RMB49.5 million or US$7.2 million.

R&D expenses increased 7.7% year-over-year mainly because of the development of new ECLIA reagents and FISH reagents.

Sales and marketing expenses increased significantly year-over-year mainly due to the expansion of direct sales force for FISH systems, increased product promotional activities, and cost of providing free ECLIA equipment to customers under our reagent rental arrangement.

G&A expenses increased 87.9% year-over-year to RMB26.2 million or US$3.8 million due to increased headcount and non-cash stock compensation expenses.

Operating expenses as a percentage of revenue were 21.8% for the quarter compared to 19.5% in Q1 '07.

Q1 interest income decreased 54% year-over-year to RMB4 million or US$0.6 million, primarily due to lower cash balance resulting from the payments for the FISH and other acquisitions and a decrease in US dollar interest rate.

Q1 interest expenses of RMB9.1 million or US$1.3 million relate to the interest expense for the convertible notes. The coupon of the notes is 3.5% per annum.

Interest expense of amortization of convertible notes issuance cost was RMB1.9 million or US$0.3 million for Q1 '08.

Q1 income tax expense was RMB18.8 million or US$2.7 million. The effective tax rate for this quarter was 19%. The costs of certain expenses were loss tax deductible such as non-cash stock compensation expense.

Q1 net income increased 79.1% year-over-year to RMB80.3 million or US$11.7 million. Q1 non-GAAP adjusted net income, which excludes stock compensation expense and amortization of acquired intangible assets, was up 61.2% to RMB110.7 million or US$16.1 million.

Q1 stock compensation expense was RMB7.7 million or US$1.1 million, where RMB1.3 million was allocated to R&D expenses and RMB6.4 million was allocated to G&A expense.

Q1 amortization of acquired intangible assets was RMB22.7 million or US$3.3 million, which was allocated to cost of revenues.

As of June 30, 2008, we have a cash balance of RMB780.9 million or US$113.9 million. Q1 cash provided by operating activities was RMB115.8 million or US$16.9 million.

Accounts receivable at June 2008 was RMB302.1 million or US$44 million, representing a 4.3% increase from March ending balance last quarter. The accounts receivable turnover days includes to 110 days from previous 114 days.

As the June quarter is the first quarter of financial year 2008, the company maintains the current annual targets for financial year 2008.

This concludes our remarks. Now, we will happy to take your questions. Operator, please?

Question-And-Answer Session

Operator

(Operator Instructions). Your first question comes from the line of Bin Li of Morgan Stanley. Please proceed.

Bin Li - Morgan Stanley

Thank you, Xiadong, Sam and Dr. Chen. I have two questions, one on the gross margin and the other one is on the FISH franchise, if I could. First, gross margin, this quarter's gross margin was about 600 basis points higher than the last quarter and I know, Sam, you said that this is mainly due to the product mix because you are not selling FISH and ECLIA equipment. However, this magnitude of big jump is somewhat surprising, and can you tell us is that purely due to the product mix or is there something else going on there?

Sam Tsang

Hi, Bin. Let me address your first question about gross margin. Yes, the major reason is because of product mix. You probably remember when we sold microscopes, PPFC, the gross margin for selling microscope is only about 40% because we do not make microscopes, we just buy and sell. So we are earning basically the profit. Now microscopes sales are only about 10% of the total FISH sales. That means the majority of FISH sales is coming from the sales of the reagent and you know the gross margin for the FISH reagent is over 80%. So it is the one major reason.

Another reason probably you may looked that the cause of keeping free ECLIA equipment is capturing our selling. That is why giving free equipment under our reagent rental arrangement does not affect our gross margin at all. So, these are two major reasons. Of course, the growth in our ECLIA reagent is also generating higher gross margin, also contribute to the expansion in our gross margin as well.

Bin Li - Morgan Stanley

Okay. Just a follow-up on your comment on the gross margin. Now you essentially have reset the base for the gross margin. Going forward, this will still increase on quarterly basis as you mentioned. I think last quarter you said you expect 100 basis points improvement every quarter. Do you still expect that or you think gross margin should be stable from here?

Sam Tsang

Yes. You can see in this quarter the benefits of having a majority revenue coming from our reagent. We felt that obviously. So, I would expect there is still improvement in the gross margin. We have more and more revenue coming from the reagents. However, I do not expect a dramatic improvement just like we have in this quarter because of the initiative.

We enjoyed deals in the beginning of this quarter by the referring hospital to buy microscope directly to save their costs and speed up their process to use the FISH reagents and also to give free equipment of ECLIA to potential hospitals. So, we still expect there will be improvement and a quick change.

Bin Li - Morgan Stanley

Okay. Just my second question on the FISH franchise. I think you just mentioned that the equipment sales accounts for about 10% of the franchise and the rest is reagent?

Sam Tsang

Yes.

Bin Li - Morgan Stanley

Am I right?

Sam Tsang

Yes, this quarter.

Bin Li - Morgan Stanley

Right. However, I thought you have stopped shipping equipment, but you still have reduced your sales for this quarter?

Sam Tsang

Yes. We refer the hospitals to buy directly from the microscope directly to save their costs and also actually it speed up the process. However, when we start the process, we still have some orders on hand to finish. So there are some sale of microscope in this quarter relate to some sales order we received prior to this arrangement.

Bin Li - Morgan Stanley

So for the rest of the year should we expect that 10% going down to eventually to become zero?

Sam Tsang

Yes. We expect that the percentage will go down because we encountered in some cases hospitals do prefer to buy from us. There is no reason why we cannot do that. So, we expect in most of the cases hospital will be willing to reduce their cost to buy directly from the microscope manufacturers. However, I do not rule out there may be cases, there are still some hospitals who want to buy from us. So, there may be still some small amount of sales coming from microscope. However, that is, as you say, the 10% should be, I think, going down in the future quarters.

Bin Li - Morgan Stanley

Okay. Lastly, just housekeeping item on the FISH franchise. How many FISH units were installed this quarter?

Sam Tsang

If you count from 10% of the FISH sales, you can calculate about 20 microscopes which is sold by us. So, other microscope basically purchased by the hospitals from the microscope manufacturers and last quarter basically we sold all the microscope and we sold more than 100 units. What I can share with you is you see the clinic installment is lot less than last quarter.

Bin Li - Morgan Stanley

It is less than 100.

Sam Tsang

It is lot less than 100.

Bin Li - Morgan Stanley

It is not less than that.

Sam Tsang

It is more than the installment you see, we saw in the last quarter.

Bin Li - Morgan Stanley

Okay. So it is more than 100. How many of these have purchased the FISH system from you and from the third-party?

Sam Tsang

So you see more 100, I just told you we sold 20 units also because most of them are prior sales order we received before we refer hospital to buy directly from manufacturers.

Bin Li - Morgan Stanley

So what I am asking is, are there any hospitals who purchase more than one unit, therefore, the total delta, if you will, for the hospital numbers versus last quarter is more than 100 or less than 100?

Sam Tsang

You know hospitals customer, they are all large hospitals or one hospital in China. Currently many hospitals, they have more than one unit. To seven cases they are giving free units, install that in a tier-one hospital in different department to carry out different FISH test.

Bin Li - Morgan Stanley

Okay. All right, thanks. I will go back to queue.

Sam Tsang

Thank you.

Operator

Ladies and gentlemen, as a courtesy, please limit yourself to two questions. Our next question comes from the line of Jinsong Du of Credit Suisse. Please proceed.

Jinsong Du - Credit Suisse

Hi, Xiaodong, Sam, Dr. Chen and also Charles, welcome back. First question regarding the cost side, the selling expenses seems to be high. I think you mentioned one of the reasons because the cost of the free ECLIA systems was recorded in the selling expenses. Within the RMB12.7 million, could you quantity how much form that free ECLIA.

Also, related to that, going forward, what do you think about selling expenses as a percentage of sales, especially given that generally you have been fielding a direct sales force. When will we see the leverage from the direct sales force to cross-sell other products, so that the selling percentage as a percentage of sales may come down? So on this is my first question. Thank you.

Sam Tsang

Hi, Jinsong. Yes, the selling expenses increased, and I explained already that is due to direct sales expenses, internationally our FISH direct sales and also the cause of ECLIA equipment as well. You can see the current sale and expenses as a percentage of revenue is above 5.5%. So, this is also the level we expect in the future for continuing, expanding our direct sales force for FISH.

So, in respect for your questions about cross-selling opportunities, I will let Mr. Wu to elaborate on that, and Charles will translate that part of questions for Mr. Wu. Mr. Wu will give his comments.

Xiaodong Wu

(Foreign Language)

Charles Zhu

Actually, we have already started to experience the cross-selling already. We have seen the penetration of our ECLIA business to the hospital that was our first install base.

Xiaodong Wu

(Foreign Language)

Charles Zhu

For example, in the Beijing Bi Xiaoqiong hospital, they have already started to use our (inaudible) screening reagents on the ECLIA. Their cases for the screening each year is about 14,000.

Xiaodong Wu

(Foreign Language)

Charles Zhu

As time goes by, we expect more and more cross-selling opportunities to contribute to our business.

Jinsong Du - Credit Suisse

Okay. All right. My second question is regarding the production side. As we understand, there is a lot of news lately on the manufacturing industry in China and the rising costs. Do you see any pressure from your suppliers why you are sourcing the raw materials and the components, and also, going forward, what you see will be the impact on the margins?

Also, your pricing side, if there are some pressure on the cost side, do you think you will be able to pass through the cost inflation to increase your price?

Xiaodong Wu

(Foreign Language)

Charles Zhu

This is a good question. Normally a company's business will be negatively impacted if there is a price increase for the cost during the inflation period. However, in our case, right now as most of our revenues were coming from the reagent sales and the majority of raw materials for our reagent were imported from overseas markets, and so far the price of those raw materials are pretty stable. In addition, the RMB in general has been appreciating. So, for our company, our gross margin did not get negatively impacted because of the price increase.

Jinsong Du - Credit Suisse

Yes. How about the price? Do you have the bargaining power to increase price or you plan to stay that way?

Xiaodong Wu

(Foreign Language)

Charles Zhu

First, as we did not see a significant increase in the cost of our raw material, we do not have the intention to raise our selling price. Certainly as we increase the volume of our reagent manufacturer here, we do have some bargaining power over the raw material supplier. However, as we increase the volume for some of the raw material, the price from the supplier may be adjusted a little bit. So when they saw the increase of the volume, so that is one of the other reasons they did not increase their selling price.

Jinsong Du - Credit Suisse

Alright. Thank you. I will be back to the queue.

Sam Tsang

Thank you.

Charles Zhu

Thank you.

Operator

Our next question comes from the line of Louis Fan of Brean Murray. Please proceed.

Louis Fan - Brean Murray

Hi, thank you for taking my call. Mr. Wu, Sam and Dr. Chen congratulations on a good quarter. My first question is regarding the SFDA approval of your ECLIA reagents and HIFU probes. Basically, could you give us an update on the progress of such approvals and more specifically, do you have any timing updates of its approval? How many ECLIA reagent and HIFU probes are coming under review by SFDA?

Xiaodong Wu

(Foreign Language)

Zhong Chen

(Foreign Language)

Louis Fan - Brean Murray

Sure. Thank you. Charles, will you translate what --?

Charles Zhu

Let me translate that. For ECLIA business, for ECLIA reagents, right now, we have over 20 different kinds of reagents under the SFDA approval process. Some of them are in the technical review stage and some of them have already passed the technical review stage and waiting for the final approval.

For FISH, just now we mentioned, our HER-2/neu reagents has been passed the technical review and right now, is just waiting for the administrative review stage. It is just a matter of time. Previously, we also mentioned that right now the attorneys FDA has the procedure, the application procedure, timing is back to normal and for our HER-2/neu reagents within the normal time frame were you receive the notice for the technical review and we passed a review. For the other reagents like our prenatal, the cervical cancer and the bladder cancer are reagents, we expect it will be reviewed under the normal timing, timeframe.

Louis Fan - Brean Murray

Sure, Thanks. So, do you expect any of these, progress of these potential reagents and probes to have any impacts next quarter or even this quarter's revenue?

Xiaodong Wu

(Foreign Language)

Charles Zhu

We think the approval for our FISH by the SFDA will impact our business in the following aspects. The first after the final approval for the FISH reagents, we can start to do the commercials on the professional turnout and also we can post advertisement in hospitals to educate more public, including the doctors and the patients.

Right now, before the approval we are only doing the promotions through seminar, for example, our Dr. Chen will deliver a speeches, letters during those seminars to promote FISH technology. After the approval, we can start the commercial and business class, number one.

Number two, after the approval, we are hoping that in the more developed regions, our FISH application can be included under the reimbursement policies. Maybe half or one year after the FDA approval, and then we will be definitely increase the usage of FISH reagents.

Third, after the approval, I will increase the entry barriers for the other competitors. As we mentioned before, right now in China, we are the only manufacturer that has the FISH reagents passed the technical review stage in the Chinese SFDA. We are hoping that raising our entry barriers will maintain higher profit margin for us in the longer term.

Xiaodong Wu

(Foreign Language)

Charles Zhu

So, in short term, we do not expect very obvious or significant increase to our FISH business, but in mid to long term, it definitely will help the increase of this business.

Louis Fan - Brean Murray

Great, thanks. One more question. How many clients hospital do you have for FISH by now? I know you are doing very well with, obviously, one hospital and the Beijing OB/GYN Hospital. However, in total how many, mostly tier-1, hospital do you have of FISH now?

Xiaodong Wu

(Foreign Language)

Charles Zhu

In China, we have totally over 250 hospitals that are using our FISH product.

Xiaodong Wu

(Foreign Language)

Charles Zhu

So, we do not see any problem to increase the number of hospitals to 500 in the next three quarters in this fiscal year.

Louis Fan - Brean Murray

You mean the 3A hospital, the tier-1 hospitals to 500, right, or total?

Xiaodong Wu

(Foreign Language)

Charles Zhu

For the total 3A hospitals in China, it is only about 400. So, for our target of 500 hospitals, we are hoping about 100% of them are 3A hospitals. We are targeting all the 1003 category hospitals, including the 3A hospitals.

Louis Fan - Brean Murray

Great. Well, thank you very much.

Xiaodong Wu

(Foreign Language)

Charles Zhu

Thank you.

Operator

Our next question comes from the line of Ho Ki Luc of Citigroup. Please proceed.

Ho Ki Luc - Citigroup

Hi. Thanks for taking my question, Xiaodong and Sam. I have a question in regards to the FISH market side. Obviously, FISH is selling very well. I am just wondering in your internal projections, what kind of market size do you expect FISH to reach and in what kind of timeframe?

Xiaodong Wu

(Foreign Language)

Charles Zhu

We are hoping that we will use another four fiscal year to reach our FISH revenue to about US$200 million.

Ho Ki Luc - Citigroup

Okay. Then in regards to your acquisition plans, do you have any comments to share with us as to how that is progressing, because obviously that is one of the biggest question that is on investors' mind?

Xiaodong Wu

(Foreign Language)

Charles Zhu

What I can share with you is pretty much the same as I mentioned before. We are targeting the high-end IVD segment. In general, we have four criteria when we look at the acquisition target. First one, it must have the large test population. Second one, it should has the leading edge technologies. The third one is, it should generate very high gross margins for the company. Last one is, it should generate cross-selling opportunities and have its complement to the existing IVD platform we have right now.

Ho Ki Luc - Citigroup

Okay. So, of all the candidates that you are currently reviewing, how many candidates would you say that could fit into those criteria and whether they are local Chinese companies or they are international companies?

Xiaodong Wu

(Foreign Language)

Charles Zhu

As he mentioned, whether or not it is domestic or global companies, not one, all the four criteria we are looking when we make the acquisition decisions. What the primary asset we are looking at is whether it can generate high revenue and gross margin for the company and helps the company to achieve the number one medical device company in China.

Ho Ki Luc - Citigroup

Okay. Thanks.

Charles Zhu

Thank you.

Operator

Our next question comes from the line of [Ho Jin Tong] of Merrill Lynch. Please proceed.

Ho Jin Tong - Merrill Lynch

Hi, everyone. Thanks for taking my question. Just have one specific question regarding the blood or urine test that you mentioned last time. Over last several months, do you see this test expanding countrywide and roughly how many hospitals are adopting this test?

Xiaodong Wu

(Foreign Language)

Ho Jin Tong - Merrill Lynch

Roughly how many hospitals are adopting this test now?

Xiaodong Wu

(Foreign Language)

Charles Zhu

Let me translate your first part of the question. The highest usage for this application in China, some of the hospitals they are using eight to nine. They are having eight to nine cases using our FISH diagnosis per day. For countrywide, right now we are promoting this application in different regions, even in the less developed Western regions. From the result of the promotion and seminars, we did see very positive feedbacks from the clinicians.

Xiaodong Wu

(Foreign Language)

Charles Zhu

By the end of last year, there was 50, you already commented, in China using our FISH probes for the bladder cancer application. Right now as we are promoting the FISH technologies more and more hospitals are using these applications. Among all the install base of FISH technologies, more and more hospitals are expanding their application scope from their initial applications to the other applications. For example, some of the hospital has set out the FISH platform for leukemia at the first time, and now there are expanding to HER-2/neu test for the cancer diagnosis. So we are seeing more and more hospitals expanding the scope for FISH applications right now.

Ho Jin Tong - Merrill Lynch

Okay. Thank you. I have another question for Sam regarding the tax rate. According to the current policy, is the hi-tech tax, that is assigned to specific line of product or to the whole company?

Sam Tsang

Currently, these are based on what products we have, and we believe that the current three product lines of FISH, ECLIA and HIFU are all qualified to the requirements of hi-tech.

Ho Jin Tong - Merrill Lynch

Okay. I understand. Okay. Thank you very much.

Sam Tsang

Thank you.

Operator

Next we have a follow up question from the line of Bin Li of Morgan Stanley. Please proceed.

Bin Li - Morgan Stanley

Thanks for taking my follow-up question. My next question is on HIFU. Obviously, it is good to see that you have positive growth for HIFU in this quarter. However, if you strip out on the sales from Korea, I believe you had about two units sales in Korea, the domestic sales of HIFU were flat, it was a flat year. Can you provide outlook for the rest of the year for the domestic business?

Sam Tsang

As we mentioned in our last quarter, we expect HIFU will have positive contribution to the company, positive growth in our HIFU business, which include the whole HIFU business, that means domestic and overseas opportunity combined.

Bin Li - Morgan Stanley

Now, sales from Korea were two units, what is your expectation for the rest of the year from Korea?

Sam Tsang

In this quarter, we had shipped two, in the June quarter. We already received order for another unit from a Korea distributor in this quarter and probably there may be some orders coming in this year. However, we do not believe the units from Korea will be a significant part of our domestic sales because you know last year we sold more than 120 units.

Bin Li - Morgan Stanley

So this order of one unit is that in your backlog of 32 that you just said?

Sam Tsang

Yes.

Bin Li - Morgan Stanley

Okay. All right. Thanks. I will go back to the queue.

Sam Tsang

Thank you.

Operator

Our next question comes is a follow up from the line of Jinsong Du of Credit Suisse. Please proceed.

Jinsong Du - Credit Suisse

Sorry. I might have missed that, you might have said it, but out of these 32 units, how many of backlog for this coming quarter? How many units are from overseas?

Sam Tsang

We have one unit from Korea distributor including in these 32 backlog units for HIFU.

Jinsong Du - Credit Suisse

Right. Do you see any potential sales besides Korea and China for HIFU within this year?

Sam Tsang

Currently, we have a Korea approval for HIFU equipment and we are working for US FDA and CE Mark approval process, as well as Japan. So, this process will take quite sometime. So, we do not expect approval from any of these countries. So, currently our sales for HIFU basically will be mainly coming from China sales and a very small part from Korea sales

Jinsong Du - Credit Suisse

Right. However, you did get the CE Mark approval, the European approval for some reagent kits for ECLIA, so do you expect any sales, maybe not be necessarily for an Europe, but especially for outside China for ECLIA reagent kits within this year?

Sam Tsang

Yes. You know even though we get CE mark approval for our ECLIA equipment but we only have about less than 20 types of reagents get CE mark approval. The ECLIA business is mainly shipped from time by the consumption of reagent kits. So the current approved portfolio is insufficient to and also inappropriate to initiate sales from other countries because then they will have sufficient number of ECLIA reagent kits available for testings.

Jinsong Du - Credit Suisse

So.

Sam Tsang

Yes. We are still working for the CE mark approval for our harder reagents and when we have, say, a major category of reagent kits, which normally require by the overseas country and then we will consider overseas sales for the ECLIA reagents.

Jinsong Du - Credit Suisse

Right. Thank you. However, a last question, just on the tax side and other thing you talked about tax rate just know, but just like to [go on the visibility], if you say, for example, China Medical get the high tax enterprise status. So how possible would be that the previously paid higher tax be refunded to you?

Sam Tsang

We are not sure about the final decision or what decision will been made by the government for those company which subsequently get high tax status, but pay their tax over 15% tax rate applicable to high tax company. We haven’t received any or we haven't seen any notice from the government to explain this scenario.

Jinsong Du - Credit Suisse

Alright. Thank you.

Sam Tsang

Thank you.

Operator

Our final question is a follow-up from the line of Ho Ki Luc of Citigroup. Please proceed.

Ho Ki Luc - Citigroup

Hi. I just wanted to ask a little bit more about your new strategy to penetrating into the tier-one and tier-three hospitals that you clear. Can you tell us how many units you sold or you have given out for free this quarter? How many did you give to the tier-one hospitals and how many in the tier-three hospitals? I just want to get a sense of to the penetration. If you can just give us some qualitative feedback from those users as to how they see this new strategy. That will be great. Thanks.

Sam Tsang

Hi. Okay, this is the first quarter we gave free equipment hospitals and the strategy is to penetrate to tier-one large hospitals and tier-three small hospitals. So, just to (inaudible) in order to have some equipment penetrate to tier-one large hospitals for cross-selling opportunities by our sales of FISH group.

I would say that we maintain the unit pace when we experienced in last quarter, which is over 150 units. That amount, you know, the number of large hospitals is just 1,000 and currently we have more than 250, but the number of small hospitals, they are above 12,000 in total for small hospitals.

So, I would tell you that most of it equipments go into the mid-size, which are our primary target for our ECLIA hospital reach at tier-two and tier-three and a small number of our equipment are go into tier-one hospitals because of the small number of tier-one hospital compared to tier-three small hospitals in China.

I also would let Mr. Wu to elaborate on the feedbacks and hospitals, especially the tier-one hospital on using our ECLIA equipment.

Xiaodong Wu

(Foreign Language)

Charles Zhu

Xiaodong Wu, he mainly is telling our ECLIA reagents, that our competitors do not have two of the tier-one hospitals, FOR example, liver fibrosis reagents to those later hospitals. Recently I visited some of those later hospitals using our ECLIA products and in general we got very positive feedbacks. Some of them, they are previously they are radiation technologies for the liver fibrosis test markers. This compares with our new ECLIA technology with the older technologies. The result has been consistent. So, we think those are the applications that we could promote in those larger hospitals.

Xiaodong Wu

(Foreign Language)

Charles Zhu

The other application that we think that we can promote among tier-1 hospitals is the Down syndrome screening test based on ECLIA platform. In the past in China, this test done on the ELISA and the time differentiation technology for the Down syndrome screening. There is problem for those two technologies, because the index they are using are based on the foreign populations.

Recently, we have conducted the trials on 38,000 cases to establish the standard index for the Down syndrome screening are based on the Chinese populations done by those larger hospitals. This is the first software that is based on the Chinese populations. We think that there is also a very big market potential. Okay.

Ho Ki Luc - Citigroup

Okay, great. Thank you.

Xiaodong Wu

(Foreign Language)

Charles Zhu

Thank you.

Operator

This concludes our question-and-answer session for today. I would now turn the call over to our CFO, Sam Tsang for closing remarks.

Sam Tsang

Yes, once again, thank you for joining us today. Please do not hesitate to contact us if you have any further questions. Thank you.

Operator

Thank you for your participation in today's conference. This concludes the presentation. You may disconnect at this time. Have a great day.

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Source: China Medical Technologies Inc. F1Q08 (Qtr End 6/30/08) Earnings Call Transcript
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