Posted on April 16, 2012 by David Laidlaw

We bought Varian Medical Systems, Inc. (VAR) in client accounts last month. VAR designs, manufactures, sells and services linear accelerators for cancer radiotherapy and radiosurgery.  The company also sells software for the accelerators and parts used in X-Ray technology such as tubes and flat panel displays.

VAR has the leading market share in the radiation oncology market. It is particularly strong in North America with almost three quarters of the market and has a large share in Europe, although it is not as dominant in that market. VAR is doing well in emerging markets, particularly Brazil. VAR’s main competition is the Swedish company Elekta. A second competitor, Germany’s Siemens, recently pulled out of the market after continually losing market share. Accuray is a third and much smaller competitor.

We believe VAR has the opportunity for strong growth over the next 5-10 years. In the US, hospitals are upgrading their linear accelerators as the new machines target tumors more precisely allowing for better and faster treatment. Faster treatment means more patients, and since the hospital is paid per treatment, more revenue for the hospital. This results in a high and easily demonstrated return on investment for the hospital. A new linear accelerator also provides the hospital with public relations talking points and can drive ancillary business to a hospital. When a hospital upgrades its linear accelerator, it will
often issue a press release emphasizing the new technology.

Emerging markets provide another growth opportunity. China, India and Brazil have about 1 linear accelerator per million people. The US has about 13 per million. So while the US market is about replacing existing machines, demand for new machines in emerging markets is high which translates to faster growth.  This growth helps offset the lower sales prices in these markets.

VAR has emphasized selling software and service contracts along with its accelerators.  Both of these lines of business are growing faster than sales of accelerators and are more profitable.  VAR has additional growth opportunities outside of linear accelerators. VAR’s flat panel sales for digital X-Rays has been strong as the industry migrates from film to digital technology.  VAR has also expanded its X-Ray technology to the cargo
industry by providing inspection services to border control.

In addition, VAR is involved in building proton therapy centers for radiation treatment. Proton therapy is more effective than traditional radiation treatment. However, proton treatment centers are extremely expensive to build and VAR is trying to
prove that this new treatment is economically viable.

In conclusion, we believe VAR is the market leader of a growing industry with high barriers to entry given the technology of the machines.