Thank you for standing by. Hello and welcome to the OSI Systems Inc. Third Quarter 2025 Conference Call. I would now like to turn the call over to our Executive Vice President and Chief Financial Officer, Alan Edrick. Mr. Edrick, please, go ahead.

Thank you very much. Good morning, and thank you for joining us today. I'm Alan Edrick, Executive Vice President and CFO of OSI Systems, and I'm here today with Ajay Mehra, OSI's President and CEO. Welcome to the OSI Systems fiscal ‘25 third quarter conference call. We are pleased that you can join us as we review our financial and operational results. Please excuse my voice today, as I am a bit under the weather. Earlier today, we issued a press release announcing our fiscal ‘25 third quarter financial results. Before we discuss these results, however, I'd like to remind everyone that today's discussion will include forward-looking statements, and the company wishes to take advantage of the Safe Harbor Provisions of the Private Securities Litigation Reform Act of 1995 with respect to such forward-looking statements. All forward-looking statements made on this call are based on currently available information, and the company undertakes no obligation to update any forward-looking statement based on subsequent events or new information or otherwise. During today's call, we'll refer to both GAAP and non-GAAP financial measures when describing the company's results. For further information regarding non-GAAP measures and comparable GAAP measures of the company's results and a quantitative reconciliation of those figures, please refer to today's earnings press release. I will begin with a high-level summary of our financial performance for the third quarter of fiscal ‘25, and then turn the call over to Ajay for a discussion of our business and our operational performance. We will then finish with more detail regarding our financial results and a discussion of our updated outlook for fiscal year ‘25. Our third quarter financial results were strong, with multiple Q3 records across different financial metrics. We are excited by the momentum across our businesses as we conclude fiscal ‘25 over the next two months and get ready to kick off fiscal ‘26. Now for the high-level summary of our Q3 results. First, revenues increased 10% year-over-year to a Q3 record of $444 million, with growth in each of the three divisions highlighted by a 10% year-over-year revenue increase in our security division and a 15% year-over-year increase in our opto division, including intercompany sales. Second, the strong revenue growth led to record Q3 non-GAAP adjusted earnings per share of $2.44. Third, bookings were significant, and with a book-to-bill ratio exceeding 1.0 in Q3, we finished the quarter with a record backlog of more than $1.8 billion. This backlog and robust pipeline of opportunities provides good visibility going forward. And fourth, we generated record Q3 operating cash flow of $82 million, representing a $134 million jump over the negative cash flow of $52 million in the same quarter in the last fiscal year. This performance was driven by strong profits and an improvement in working capital metrics. Before diving more deeply into our financial results and discussing our updated outlook for the full fiscal year ‘25 year, I will turn the call over to Ajay.

Thank you, Alan, and welcome to the OSI Systems earning call for the third quarter of fiscal 2025. We are pleased to report another record-breaking quarter with numerous financial metrics, as Alan described. With a quarter-end record backlog of over $1.8 billion, we are focused on finishing fiscal ‘25 strong and continuing to build the foundation for fiscal ‘26. Before we dive into our divisional highlights and outlook, I want to address the evolving global trade environment, particularly the recent U.S. tariff policies that have introduced uncertainty across industries. With significant revenue generated from international markets, we're not immune to these challenges. However, while instability surrounding international trade regulation is a continuing concern, our team is taking action to mitigate the impact of rising trade frictions that may affect our business. We're actively pursuing cost optimization and engaging in strategic pricing discussions with customers and suppliers. These efforts, combined with a diversified portfolio and strong customer relationships, position us to navigate the landscape while continuing to drive value for our shareholders. As we speak, we do not anticipate any meaningful P&L impact from tariffs on our Q4 results. Given the ongoing volatility in this area, it is difficult at this time to assess impacts and periods further out on the calendar. We will update you further on our earnings call next quarter. This quarter performance was fueled by exceptional execution in the security division and robust growth in the optoelectronics and manufacturing division. In healthcare, we are encouraged by the positive momentum positioning us well for long-term growth. Let's discuss each division in more detail, starting with security, where revenues increased 10% year over year. This top-line performance was particularly notable since we had a challenging comparison with last year's record results. Demand for our products and services continues to…

Thank you, Ajay. Now let's review in greater detail the financial results for our third quarter. As previously mentioned, our Q3 revenues were up 10% compared with revenues in the third quarter of the prior fiscal year. Fueled by growth in service revenues, aviation and checkpoint product sales, including trace detection systems, security division revenues in the third fiscal quarter increased 10% year over year to $315 million. In addition, the RF business acquired in fiscal Q1 gained momentum and contributed nicely to security division revenues. Q3 revenues included continued shipments from our contracts in Mexico, though as expected, at a lesser rate as Mexico revenues were $69 million in Q3 at fiscal ‘25 compared to $137 million in the same quarter of the prior year. Revenues, not directly related to acquisitions or our Mexico contracts, increased at a solid double-digit clip in the quarter. Driven by growth in our flex business and also the performance of our core optoelectronics and contract manufacturing operations, third-party opto sales increased 10% year over year to $86 million, representing a new Q3 record. And in the third quarter, our healthcare division achieved the second of back-to-back quarters of top-line growth with a 5% year over year increase. The fiscal ‘25 Q3 gross margin of 33.8% was up 20 basis points from the 33.6% reported in Q3 last year. Our gross margin fluctuates from period to period based on revenue mix and volume, impacts of changes in supply chain costs, FX, tariffs, and inflation, among other factors. Moving on to operating expenses. Q3 SG&A expenses were $73.2 million or 16.5% of sales compared to $66.6 million or 16.4% of sales in Q3 of the prior year. We worked diligently across each of our divisions to improve efficiency and to manage our SG&A cost structure.…

Thank you. [Operator Instructions] And our first question comes from the line of Jeff Martin from Roth Capital. The line's open.

Thanks. Hello, Alan and Ajay, hope you're doing well. I was curious if you could expand a little bit on the tariff situation, how that may be affecting each segment and what gives you the notion that you won't have any impact in the fourth quarter, but the outlook beyond that is unclear.

So, as I mentioned in my prepared remarks, no impact on Q4. We obviously were anticipating this and so we feel very comfortable with that. I really don't need to go into any further. Going forward, we're talking to our customers just like everybody else. We're looking to see what we can do with some of the suppliers. But we have very limited exposure on the largest two divisions with China. And in healthcare, somewhat a little bit more, but we feel that there are a lot of ways to mitigate it. So, like I said, as we go through, we talk to it with customers, suppliers. We'll have a little bit more clarity and we'll talk about it in our next earnings call.

Thank you, appreciate that. Alan, could you maybe elaborate on the strength and services revenue in the quarter? It was up significantly over the year and also sequentially.

Sure, yeah, good question, Jeff. As we alluded to on a couple of our past calls, as we get the larger and larger install base of security products out in the field and as they begin to roll off of warranty, we expected to see an acceleration of our service revenue growth. And that's exactly what we saw in Q3. The increase in our service revenues is almost entirely related to our security division. And it's really the large sales that we've had over the last several years. Many of those deliveries are now rolling off of warranty and rolling into routine field service and field service contracts. So as a result, we saw a nice increase in our service revenues, which is great because that's excellent recurring revenue. And that recurring revenue generally comes at higher margin.

Great, and then could you expand a little bit on the RF solutions acquisition? Sounds like you're getting some good traction there. Do you expect that to be a long runway of growth and how meaningful is that to the overall growth of the business?

I think that we feel very good about the acquisition. As you may know, one of the main products are open horizon radars. They've been in prominence for several years with the US government. In fact, as you know, NORAD has been using over the horizon radar. It's more economical. The technologies feel proven. And we feel with some of the things going on right now with the Golden Dome and other things that there are a lot of opportunities as we move forward and really taking the company and putting the financial might as well as the other things that OSI can provide as a larger company has been really helping them. And we are actively talking to customers as we move forward.

And then last one for me, Alan. What can you give us in terms of sense of cash flow for maybe fourth quarter and then as we head into fiscal ‘26? Nice to see a record operating cash flow number in the quarter. Just curious if you anticipate that to continue.

Thanks, Jeff. Good question. Yeah, we're really pleased with our cash flow in Q3 as we were in Q2 as well. There's certainly opportunity for strong cash flow in Q4 as well. Always some timing of when certain collections come in. What I can say is that whether it's Q4 or fiscal ‘26, overall, we anticipate strong cash flow here over the next 12 months.

Thank you. Our next question comes from the line of Larry Solow from CJS Securities. The line's open.

Great. Good morning, gentlemen. Alan, I hope you're feeling better. I guess just to follow up on the question about on the service revenue, which I think grew over 30%, as Jeff mentioned there. And generally, as you said, Alan, that's usually higher margin. Just curious on the security division, what kind of drove that? You mentioned mix, but I guess from a high level, clearly services were substantially higher than they were last year in Q3. So what was-- any more specifics on the mix that kind of drove that margin down? And then I guess the R&D, is that a-- R&D I'm sure bounces around from quarter to quarter. So was it heavier this quarter for one particular reason or any more color there would be great?

Sure, good question. So I think you're saying on our overall adjusted operating margin going from 18.6% to 18.1% in security widened down a little bit. So the security service revenues definitely contributed to some margin expansion associated with it. When we look at the mix of our product revenues, which included more in Mexico last year, which probably carry a bit more favorable product related margin than the product mix we showed in Q3, that had a little bit of an adverse impact. We also made some strategic decisions to invest some considerable resources and some R&D programs. So our R&D was a little bit more of an elevated level, which we think will normalize as we move into fiscal ‘26. So I think that those are really the factors that contributed to the change in the operating margin.

Yeah, and I think that, to Alan's point earlier, as our service revenues grow, overall they do tend to have higher margins than our product. And yes, there are going to be ups and downs on the service, but overall we expect that trend to be going up and we feel very good about it.

Got it. So it sounds more like an aberration. Look, I know the margins quarter to quarter could bounce around. It sounds like it's more of that, but the trend overall should continue to be positive, at least to your expectation. On the bookings, continue to be strong. Can you give us any color there? I feel like ports and borders were really strong when you got these big multi-year, several hundred million dollar, It feels like now you're still getting those, but maybe there's even a little more diversification than aviation. It sounds like it's really picking up. Just any more color on sort of where the trends are coming from and the orders?

I think you said it very well that the backlog is much more diversified than it was previously. We had some large orders in there. Those orders were shipping and now we've received some large orders and the pipeline looks very good, but the diversification of the backlog, not just on the cargo, but also on the aviation side and other areas in the security, gives us very good confidence as we move forward.

Great. Lastly, just a follow up on the tariff question. Sounds like short-term, not a great impact. Mid to long-term, obviously, anybody's guess, but again, from a high level on the demand side it's going to sound like the direct impact to you guys probably won't be very significant, but the indirect impact on the economy and whatnot feels like maybe that could potentially hurt the opto division more, but maybe there's some offsets there too, as more and more tariffs maybe drive more onshoring and U.S. manufacturing. So any color on that would be great. Thanks.

So I think we're all, while looking at it to a certain degree, everybody's guessing what's going to happen next, but specifically as I mentioned on the opto side we do have manufacturing around the world, U.S., Canada, Mexico. And I think again, who knows, but it might present an opportunity for us, especially with USMCA content product, both in our Mexico facility, and we do have facilities up in Canada. So we're talking actively to customers to say, what do you want? Well, how can we help you? And having the different manufacturing facilities gives us that flexibility to talk to customers as the tariff environment changes and evolves.

Got you. Thanks, I appreciate it.

Thank you. Our next question comes from the line of Matt Akers from Wells Fargo.

Hey guys, thanks for the question. I wanted to ask about the Mexico contract. I mean, you mentioned in the prepared remarks, a little bit of a headwind year over year. Is there a way we should think about how that kind of trends going into next year? And I guess, do you think security continues to grow next year, given that maybe those are a little bit lower level, or do you have enough work sort of backfilling that that part of the business can continue to grow?

Hey Matt, this is Alan. A great question. And we were of course getting that question quite a bit a year ago, recognizing that Mexico revenues had hit a peak in fiscal ‘24, and how do we fill that hole. And we've done just that, as we've seen with our excellent bookings for the first nine months of the year, and the record backlog we've had. Q3 is an excellent example. Our revenues for related to Mexico were half of what they were last year, just as the contracts wind down a bit. Nonetheless, we grew 10% in the security division during the quarter. And we would anticipate sort of the same type of thing going forward. Q4, we'll see sort of the same dynamic, lower revenues related to Mexico compared to Q4 of last year, and the same in the fiscal ‘26. But our sales teams have done such an outstanding job on the bookings in the cargo arena, in the aviation and checkpoints arena that we feel quite confident that we'll be able to continue to grow our security business going forward as well. These are just new baseline levels. And as Mexico becomes a smaller proportion of our overall revenues, although we'll start to see the service revenues kick in at even a higher rate. And of course, those are great recurring revenues that are at a higher margin.

That's great, thank you. And then I wanted to ask about, I guess just what you're seeing with the new administration, if you've had any discussions on sort of what the upcoming opportunity like border security definitely seems like a big priority. So as we get closer to maybe the ‘26 budget coming out, just if you've had any indications of what that opportunity could look like.

So I think that it's been out in the open quite a bit where obviously the ‘25 budget was a continuing resolution, same as last year. And they're still working on ‘26, but what's really exciting out there is this budget reconciliation that the House and Senate are going through. And there's almost $1.1 billion in there for the borders, for NII equipment and associated works and integration, et cetera. We feel good that we are in decent shape. It's not one year money, it's over a period of probably three years. And this is on top of what we have. So you will give us visibility, not just per year, but multi-year visibility. So we have a good relationship with CBP and others. So let's wait and see what happens, but everything we're hearing is they're going to pass the reconciliation by sometime in before July, people even saying end of May. But it bodes well for us and let's see what happens in Congress.

Thank you. Our next question comes from the line of Josh Nichols from B. Riley. The line's open.

Yeah, thanks for taking my question. Good to see a lot of records being set for this quarter. I think a few of my questions have already been answered, but just to touch on it or take a little bit deeper dive, I know you're not giving guidance for fiscal year ‘26, but given that you already have a record backlog here, any context you could provide of how much of the stuff you already have today is likely to be recognized next fiscal year, excluding any new wins that you guys continue to win?

Hey, Josh, this is Alan. A good question. Just from consistent with past practice, that is an information that we publicly disclosed at this point yet. By the time we get to our next earnings call there will be ample opportunity to do that. But suffice it to say with our record backlog and strong pipeline of opportunities, we're encouraged as we approach fiscal ‘26 here in a couple of months.

And then just as a follow-up to another question that was asked great to see this higher margin in services revenue now north of $100 million. Is there any one-time items or is there a reason to think, is that a new baseline, I guess, is a good question for how to think of that $100 million per quarter services revenue going forward and that you could potentially build on that from here, or is that going to fluctuate from quarter to quarter?

Josh, really good question. This is Alan again. We believe that very well, could be a new baseline. And our goal is to grow it from here. Our goal is to grow the service revenue as a percentage of overall OSI revenue over the next several years. And we think we have every opportunity to do that. So our belief as we sit here today is, yes, we'll continue to grow that service revenue and may ebb and flow from certain quarters, but overall we should see a solid growth in service revenues.

Good to hear, appreciate it. And I hope you feel better soon, Alan. Thanks.

Thank you. Our next question comes from the line of Seth Seifman from JP Morgan. The line's open.

Hey, thanks very much and good morning. So I wanted to dig in a little bit more, the $1.1 billion that's in the Homeland Security reconciliation proposal, whether do you think about that being kind of 100% additive to sort of whatever the buying plan was kind of before the reconciliation bill? And then whether you saw any increases in incremental opportunity associated with some of the stuff that they put around that in terms of artificial intelligence and whether that opens a path for any of your software solutions?

So good question. I mean, like I mentioned the baseline for ‘25 the continuing resolution that have passed, the number is roughly $300 million in that budget for CBP or NII. And this $1.1 billion is on top of that. So a lot of opportunity from our end, and obviously, like I said, there'll be multi-year money. And then fiscal ‘26, you'll have another budget passing for CBP at we'll see at what levels, but we imagine it will be at similar levels as last year. So as far as the opportunity is concerned I think that there's obviously the equipment, civil works, and really a lot of the artificial intelligence integration, machine learning, and everything else. It's stuff that we're already doing is kind of part of it. So we'll see how they segregate it. We feel that not just over here, but also with some of the money that's going into biometrics and other areas to combat drug interdiction gives CertScan, our software an opportunity as well. So right now it's in big buckets. As the buckets get more clear, we'll probably be able to give you a much better answer at the next earnings call once we start looking at the details.

Okay, okay, great, thanks. And then on the cash flow side, do you see Q4 as being a period when that presents significant opportunity for receivables to come down? I know they're still fairly elevated and I guess to a lesser degree, inventory's grown a fair amount this year, or not that much, but modestly. But particularly the receivables, is Q4 a period where we could see some liquidation?

Hey, Seth, this is Alan. Good question. Yeah, we do see some opportunity for some working capital enhancements there. I think there is an opportunity for inventory to come down further in Q4. On the receivable side, yes, there's great opportunity for it to come down in Q4. That being said, sometimes some of the collections could shift from one quarter to the next, but I would say over the next six months, there's an opportunity to really see our DSO further improve, which could be a major source of additional free cash flow.

And then if I could sneak in maybe one more on the security side. What did the RF acquisition contribute on the top line in the quarter?

It contributed $29 million, up from $17 million in Q2. So, nice work.

Well, I'll leave it there. Alan, I hope you feel better soon.

Thank you. Our next question comes from the line of Mariana Perez Mora from Bank of America. The line's open.

Good afternoon, everyone. Thank you. So I'm going to do a question on tariffs, but from a different angle. As part of this evolving tariff matter, the minimum exception for China and Hong Kong has been eliminated. And it's not only as if tariff implication, but also all those packages should be screened now for opioids, fentanyl, stuff. And I understand this is an evolving tariff situation, but have you seen any early interest for increased screening solutions in order to be able to absorb this increased volume of packages to be screened?

Great, great questions. I think you should come and sit in our strategy sessions. But we already work very closely with the freight forwarders. We do business with UPS, Federal Express, and all the large freight forwarders. So depending on what their requirements are, not just for scanning, but I would say it gives us an opportunity not just they might need more machines, but also some kind of artificial intelligence to be able to see which packages are allowed or not allowed. So we're going to talk to them. I think everybody just waiting for everything to settle. But you're right. I mean, I think that may very well present us an opportunity as we go forward. And if they require that, we are one of the major players in that area.

Right, thank you. And then a little bit of health. With Wilson now leading this, and you mentioned about a little bit of like this early mood change. Where do you see the business unit three, five years from now? What he wants to do and how much money you need to invest in order to do that like turnaround or capture those opportunities?

So I think that as we pointed out, we had a solid quarter in healthcare from a revenue standpoint. And our goal is really to get the next generation, we're spending money in R&D, to get our next generation platform in the next 18 months or so. And see it grow from there. So we expect our R&D spending to be at pretty much levels that we've had right now. And it's just a matter of tightening everything and focusing everybody. And that's what he's doing. And we feel good about it. And that's kind of what we've seen so far.

Great, thank you so much.

Thank you. [Operator Instructions] Our next question comes from the line of Christopher Glynn from Oppenheimer. The line's open.

Hey, thanks guys. So curious on security, comment on the pipeline for projects there. You're continuously pulling a lot out of that pipeline and I presume there's some degree of refill there. Is it stable? Is it growing? Or is conversion outpacing new inputs?

So I think our pipeline of opportunities continues to be strong and growing. As I said originally that I want to add that the diversity of the backlog really provide us with a lot of confidence in our ability to maintain and sustain growth as we move forward. So we don't have these just a big chunk, but the pipeline is growing and we're seeing more and more opportunities. And like I said, not just on the cargo side, but definitely on the aviation and other areas within the security business as well.

Sounds great. And then a quick one on opto. The share gain idea there's, I think it's pretty compelling. And given that every company I cover is talking about shifting their supply chains and you're well positioned in a number of favorable alternatives to China, it almost seemed matter of fact rather than theoretical that you have something coming your way. I'm curious if you're having a different tone of wallet share discussions with customers than historically, I guess to understand the question and answer, it might be helpful to comment on degree of single source or a sole source, I suspect usually it's multiple sourced.

So, I guess the short answer is that there was already movement away from China. And I think what's happened is that the questions and answers from questions are more urgent and things are getting accelerated. And we'll see over the next few months how that goes, but definitely a lot of interest. And like I said, having the different facilities around the world, including Mexico and the US is definitely beneficial from customers getting an ability to manufacture in different places. And we really give them a menu, what do you want to do and go from there. So yes, I think the sense of urgency has definitely gone up.

Thank you, no further questions.

Hey, once again, thank you all for attending our conference call. We look forward to speaking with you during our next earnings call following the completion of the fiscal year. Thank you very much.

The meeting has now concluded. Thank you all for joining. You may now disconnect.