OSI Systems Inc

NASDAQ:OSIS

Q3-2025 Earnings Call

[Operator]

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.

[Alan Edrick, executive]

Thank you very much. Good morning, and thank you for joining us today. I'm Alan Edrick, Executive 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 will 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 2 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 3 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. 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.

[Lawrence Solow, analyst]

Thank you, Alan, and welcome to the OSI Systems earnings call for the third quarter of fiscal 2025. We are pleased to report another record-breaking quarter for 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 evolving global trade environment, particularly the recent U.S. tariff policies that have introduced uncertainty across industries, with significant revenue generated from international markets were 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 our 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 on 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 health care, 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 be strong across multiple regions with robust bookings. Even with a sizable backlog conversion to revenue, the division ended the quarter with a record backlog reinforcing our confidence in sustained positive momentum.

Our performance at ports and borders was powerful this quarter with significant new orders, and we announced a few of them, including a $12 million order for Eagle M60 Bx systems with advanced imaging capabilities, a $17 million order from a North American customer for Eagle M60 systems under a multiyear framework and a $24 million order for Z Portal high throughput drive-through inspection systems for scanning large vehicles and cargo containers.

Recently, we announced another award received during Q3 for orders totaling $50 million from an existing U.S. customer to support the ongoing deployment of our cargo inspection systems. These awards highlight the global demand for our innovative and high-performance inspection solutions designed to secure borders and critical infrastructure. Our aviation and checkpoints business remains robust and ongoing investments continue to be funded by airport and air cargo customers upgrading or expanding security infrastructure.

During the quarter, we announced a $76 million for a major international airport to deploy RTT 110 explosive detection systems and Itemizer 5X for hold baggage and trace detection. This is largest award for a major airport in the history of the company. Our broad portfolio and technology leadership continue to be recognized by customers worldwide. Our security services business, including turnkey operations continues to perform as anticipated, demonstrating our experience and capability to deliver highly customized solutions.

Earlier in the fiscal year, we further expanded our engineering and manufacturing capabilities for defense and security markets through a strategic acquisition of an RF-based solutions business principally serving defense customers. During Q3, we secured a $32 million order international order for long-range secure communication systems with integration and deployment support. This business is building a nice momentum, and we are pleased with the early successes. We are proud of our growing role in supporting secure long-range communications worldwide for military and government applications. Overall, we anticipate the global focus funding and funding for defense and security will continue to trend in our favor over the long run.

Moving on to the Optoelectronics and Manufacturing division, which delivered a standout quarter with revenues growing 15% year-over-year, surpassing $100 million in sales for another quarter and achieving record 9-month sales. The division saw strong operating margin expansion. Growth was driven by sales to multiple OEMs across industries, including medical and consumer technology. with flexible circuit products performing exceptionally well. Opto continues to benefit from a vertically integrated structure and is well positioned for future growth opportunities. Although bookings remained steady in the face of global tariff uncertainties, we will remain vigilant to address any potential challenges in the upcoming months.

Our global manufacturing footprint in Malaysia, Indonesia, India, Canada, Mexico and of course, the U.S. positions us to help existing and new customers adjust their value chains to minimize tariff impacts potentially enabling the division to gain market share. We expect Opto to maintain its momentum into Q4.

Now let's move to the Healthcare division which had encouraging sales growth in the quarter. In Q3, we welcomed the new President, Wilson Constantine and industry veteran to lead the Healthcare division. We have already seen a positive impact on the team's focus and energy in the brief time he has been here. Shortly after quarter end, we announced a significant award we received during Q3 for approximately $4 million to provide patient monitoring solutions and related supplies and accessories to a U.S.-based hospital. We've noted -- the substantial ahead and are confident that business is now -- bagging by strong, capable leadership.

In summary, OSI is poised for continued success as we leverage our global footprint. Innovative technologies and strategic acquisitions like the RF Solutions business to deliver exceptional value to customers world. With anticipated growing attention and funding for defense and security, we are well positioned to size emerging opportunities. Although the tariff environment is currently unstable, we will proactively work to mitigate negative impacts from international trade frictions. We've had a strong 3 quarters and look forward to finishing the year strong. As always, I would like to thank our employees customers and stockholders for their continued support and dedication. With that, I will turn the call over to Alan to discuss our financial results and guidance in more detail before we open the call for questions. Thank you.

[Alan Edrick, executive]

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 $350 million. In addition, the RF business acquired in fiscal Q1, gains momentum and contributed nicely to Security division revenues.

Q3 revenues included continued shipments from our contracted Mexico, contracts in Mexico, though as expected, at a lesser rate, as Mexico revenues were $69 million in Q3 of 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 vision 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 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. R&D expenses in Q3 were $18.6 million or 4.2% of revenues compared to $17.1 million, also representing 4.2% of revenues in the same prior year quarter. We continue to dedicate considerable resources to R&D, particularly in our Security and our Healthcare divisions as we remain focused on innovative product development, which we view as vital to the long-term success of our businesses.

Moving to interest and taxes. While net interest and other expenses decreased sequentially in Q3, on a year-over-year basis, they increased to $8.2 million from $7.4 million in Q3 of fiscal '24, primarily due to a higher amount of borrowings and associated with the investment in working capital and acquisition completed in Q1 and the stock buyback we did earlier this year as well. This was partially offset by the favorable impact of the convertible notes issued during Q1, which were partially used to repay higher cost borrowings. Our reported effective tax rate under GAAP was 14.3% in Q3 of fiscal '25 compared to 22.6% in Q3 last year. Excluding the impact of discrete tax benefits, our normalized effective tax rate which is the rate reflected in the calculation of non-GAAP adjusted EPS was 23.7% in Q3 of fiscal '25 compared to 23.0% in Q3 of '21.

I'll now turn to a discussion of our non-GAAP adjusted operating margin. Overall, our adjusted operating margin in the third quarter of fiscal '25 was a solid 14.2% up from 13.9% in Q3 last year. The Q3 fiscal '25 non-GAAP adjusted operating margin in the Security division was 18.1% down year-over-year from 18.6% to less favorable product mix and increased R&D investment. The Opto division's adjusted operating margin increased to 14.0% in the third quarter of fiscal '25 from 12.2% in last year's Q3 on economies of scale associated with higher revenues and efficiencies. The Healthcare division's adjusted operating margin, while lighter than we would like, was pretty comparable year-over-year.

Moving to cash flow. Q3 marked the second consecutive quarter of significant cash flow with record cash provided by operations of $82 million. CapEx in the '25 third fiscal quarter was $4.5 million, while depreciation and amortization expense in fiscal Q3 was $10.6 million. Solid collections in fiscal Q3 led to a 10% reduction in DSO from Q2, which followed a 16% reduction in DSO in the previous quarter. This reflected more than $100 million received in the quarter related to our security contracts in Mexico.

Our balance sheet is solid with net leverage of approximately 1.8 as calculated under our credit agreement. Our credit facility requires $7.5 million in annual principal payment under the term loan, with the remainder of bank debt maturing in fiscal '27.

Now turning to guidance. We are increasing our guidance for fiscal '25 revenues and non-GAAP diluted EPS for fiscal year '25 we anticipate revenues in the range of $1.69 billion to $1.715 billion, representing an increase in guidance on year-over-year revenue growth to a range of 9.8% to 11.5%. We are also increasing fiscal '25 non-GAAP adjusted earnings per diluted share guidance to a range of $9.15 to $9.45 or 12.5% to 16.2% growth. This fiscal '25 non-GAAP diluted EPS guidance excludes any impact of potential impairment, restructuring and other charges, amortization of acquired intangible assets and the associated tax effects, and discrete tax and other nonrecurring items. We currently believe the guidance reflects reasonable estimates. The actual impact on the company's financial results or timing changes on the expected conversion of backlog to revenues and new bookings among other factors, it is difficult to predict and could vary significantly from the anticipated impact currently reflected in our guidance.

Actual revenues and non-GAAP EPS could also vary from the guidance -- above due to other risks and uncertainties discussed in our SEC filings. We continue to remain focused on the growth of our businesses and continuing to provide innovative products and solutions. As Ajay mentioned, we'd like to take this opportunity to again thank the global OSI team for its continued dedication in supporting our customers and our partners.

And at this time, we'd like to open the call to questions.

[Operator]

[Operator Instructions]. And our first question comes from the line of Jeff Martin from ROTH Capital.

[Jeff Martin, analyst]

So Alan and Ajay, I 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.

[Ajay Mehra, executive]

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 it 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 our largest 2 divisions with China. And in health care, somewhat a little bit more, but we feel that there are a lot of ways mitigated. So like I said, as we go through, we talk to it with customers, suppliers, -- we'll have a lot a bit more clarity, and we'll talk about it in the next earnings call. I appreciate that.

[Jeff Martin, analyst]

Alan, could you maybe elaborate on the strength in the services revenue in the quarter was up significantly year-over-year and also sequentially.

[Alan Edrick, executive]

Sure. Yes. Good question, Jeff. As we alluded to on a couple of our past calls, as we get the and larger installed 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. 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 margins.

[Jeff Martin, analyst]

Great. And then could you expand a little bit on the RF Solutions acquisition it 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?

[Alan Edrick, executive]

Well, I think that we -- we feel very good about the acquisition. As you may know, the one of the main products are -- Horizon radars. They've been in prominence for several years with the U.S. 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.

[Jeff Martin, analyst]

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.

[Alan Edrick, executive]

Thanks, Jeff. Good question. Yes, 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.

[Operator]

Our next question comes from the line of Larry Solow from CJS Securities.

[Lawrence Solow, analyst]

Great. Al, 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%. And as Jeff mentioned there. And generally, as you said, Alan, it'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 any more specifics on the mix that kind of drove that margin down. And then, I guess, the R&D, is that R&D, I'm sure it bounces around from quarter-to-quarter. So that was it heavier this quarter for a particular reason? Or any more color there would be great.

[Alan Edrick, executive]

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 carried 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 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.

[Ajay Mehra, executive]

Yes. 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 in the service. But overall, we expect that trend to be going up, and we feel very good about it.

[Lawrence Solow, analyst]

Got it. So it sounds more like an aberration. Listen, 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 with 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 multiyear, several hundred million dollar -- it feels like now you're still getting those, but maybe there's even a little more diversification, 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.

[Ajay Mehra, executive]

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 there's -- 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.

[Lawrence Solow, analyst]

Great. Lastly, just a follow-up on the tariff question. It sounds like short term, not a great impact. mid- to longer term, obviously, anybody. But again, from a high level, on the demand side, because it sounds like the direct impact to you guys probably won't be very significant, but the indirect impact on the economy and whatnot, it feels like maybe that would -- could potentially hurt the Opto division more, but maybe there are some offsets there to -- as more and more tariffs maybe drive more onshoring and U.S. manufacturing. So any color on that would be great.

[Ajay Mehra, executive]

So I think we're all looking at it to a certain degree, everybody is 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 prevent -- might present an opportunity for us. especially with U.S. MCA content product, both in our Mexico facility, and we do have facilities up in Canada. So we're talking actively to customers to say, "Hey, what do you want? 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.

[Operator]

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

[Matthew Akers, analyst]

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?

[Alan Edrick, executive]

Hi, Matt. This is Alan. Great question. And we are, of course, getting that question quite a bit a year ago, recognizing that Mexico revenues had hit a peak in fiscal '24 and how we fill that hole. And we've done just that as we've seen with our excellent bookings for the first 9 months of the year, in the record backlog we've had, Q3 is an excellent example. Our revenues for -- related to Mexico were or 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 the sort of the same dynamic lower revenues related to Mexico compared to Q4 of last year and the same into fiscal '26, but our sales teams have done such an outstanding job on the bookings in the cargo arena and 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 at a higher margin.

[Matthew Akers, analyst]

And then, I guess, 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 sort of had any indications of what that opportunity could look like?

[Alan Edrick, executive]

So I think that it's been -- on to be open quite a bit where obviously, the '25 budget was a continuing resolution, same as last year. 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 1-year money. It's all repaired off probably 3 years. And this is on top of what we have. So you will give us visibility not just for a year but multiyear visibility. So we have a good relationship with CDP and others. So let's wait and see what happens. But everything we're hearing is they're going to pass the reconciliation by some time in before July, people even saying end of May. But it bodes well for us. And let's see what happens in Congress.

[Operator]

Our next question comes from the line of Josh Nichols from B. Riley.

[Josh Nichols, analyst]

Good to see a lot of records being said 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, right, for fiscal year '26. But given that you already have a record backlog here, any context you can provide on 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.

[Alan Edrick, executive]

Josh, this is Alan. Good question. Just from consistent with past practice, that is an information that we publicly disclose 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.

[Josh Nichols, analyst]

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

[Alan Edrick, executive]

Josh, really good question. This is Alan again. We believe that very well could be a new baseline, and our goal is to grow 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 the service revenue and may have been flow from certain quarters. But overall, we should see solid growth in service revenues.

[Operator]

Thank you. Our next question comes from the line of Seth Seifman from JPMorgan.

[Seth Seifman, analyst]

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 incremental opportunity associated with some of the -- they put around that in terms of our artificial intelligence and whether that opens a path for any of your software solutions?

[Ajay Mehra, executive]

So good question. I mean, like I mentioned, the baseline for '25, the continuing resolution of the past. The numbers are roughly $300 million in that budget for CVP for NII. And this $1.1 billion is on top of that. So a lot of opportunity from our end. And obviously, like I said, it will be multiyear money. And then fiscal '26, you'll have another budget passing for CVP. 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 segregating we feel they're not just over here, but also with some of the money that's going into biometrics and other areas to come back drug interdiction gives CertScan our software and 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 on the next earnings call. once we start looking at the details.

[Seth Seifman, analyst]

Okay. Okay. Great. 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 has 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.

[Alan Edrick, executive]

Hi, Seth. This is Alan. Good question. And yes, we do see some opportunity for, again, some working capital enhancements there. I think there is an opportunity for inventory to come down further in Q4. On the receivables side, yes, there's great opportunity for it to come down in Q4. That being said, sometimes some of the collections could shift from 1 quarter to the next. But I would say over the next 6 months, there's an opportunity to really see our DSO further improved, which could be a major source of additional free cash flow.

[Seth Seifman, analyst]

Okay. Okay. 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?

[Alan Edrick, executive]

It contributed $29 million, up from $17 million in Q2 so...

[Operator]

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

[Mariana Perez Mora, analyst]

Good afternoon, everyone. Thank you. So I'm going to do a tariff but from a different angle. Part of this evolving tariff matter, the de minimis exception for China and Hong Kong has been eliminated. And it's not only a tariff implication, but also all those packages should be screened now for -- Centennial staff. And I understand this is an evolving tariff situation. But like have you seen any early interest or increased screening solutions in order to be able to absorb this increased volume of packages that to be screened?

[Alan Edrick, executive]

Great questions. I think that you could 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 loss rate forwarders. So depending on what their requirements are, not just for setting, but I would say it gives us -- just they might need more machines, but also some kind of artificial intelligence to be able to see what which packages are -- how we're not allowed. So we talk to them. I think everybody just let 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 acquire that, we are one of the players in every...

[Mariana Perez Mora, analyst]

And then a little bit on health, with Wilson now likely in this and you mentioned about like a little bit of like this early mood change. Where do you see the business unit 3, 5 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 health care 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 what we've seen so far.

[Operator]

[Operator Instructions]. Our next question comes from the line of Christopher Glynn from Oppenheimer.

[Christopher Glynn, analyst]

Thanks, guys. So curious in 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.

[Alan Edrick, executive]

So I think our pipeline of opportunities continues to be strong and growing. As I said originally that I want to add to 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're not -- 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.

[Christopher Glynn, analyst]

Sounds great. And then a quick one on Opto. The share gain idea is -- 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. I almost see a matter of fact rather 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 versus -- suspect usually, it's multiple sourced.

[Alan Edrick, executive]

So I guess short answer is that there was already movement away from China. And I think what's happened is that it's -- the questions and answers some 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 facilities around the world, including Mexico and the U.S. 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.

[Christopher Glynn, analyst]

Thank you. No further questions.

[Alan Edrick, executive]

Okay. 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.

[Operator]

Thank you all for joining. You may now disconnect.