Good afternoon. My name is Jerome, and I’ll be your conference operator today. At this time, I would like to welcome everyone to the OSI Systems, Inc. Third Quarter 2020 Conference Call. [Operator Instructions] Thank you. Mr. Alan Edrick, Chief Financial Officer. You may begin your conference.

Well, thank you. Good afternoon, and thank you for joining us. I’m Alan Edrick, Executive Vice President and CFO of OSI Systems. And I’m here today with Deepak Chopra, our President and CEO. Welcome to the OSI Systems fiscal 2020 third quarter conference call. We are glad that you can join us. We hope you and your families are safe and healthy as our country and the global community battle the many issues associated with the COVID-19 crisis. Prioritizing safety, we are exercising social distancing and are all not in the same location while conducting this call. Earlier today, we issued a press release announcing our third quarter fiscal year 2020 financial results. Before we discuss our results, I would 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 all such statements. All forward-looking statements made on this call are based on currently available information and speak only as of today, and the company undertakes no obligation to update any forward-looking statement that becomes untrue because of subsequent events, new information or otherwise. During today’s call, we refer to both GAAP and non-GAAP financial measures when describing the company’s results. For 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 release. I will begin by taking a few minutes to discuss what we are seeing as a result of the COVID-19 outbreak and follow with a brief overview of our third quarter results. I will then turn the call over to Deepak to discuss the company’s business before returning to discuss the third quarter results in more detail and…

Thank you, Alan, and again, good afternoon, and welcome to the OSI Systems earnings conference call for the third quarter of fiscal 2020. As Alan mentioned, I’m going to start off commenting on the current environment. I’ll also discuss some of our third quarter highlights and then turn it back over to Alan to provide a further detail on our financial performance. First, I want to thank all of our employees across the world for working through the COVID-19 pandemic that has impacted everyday life and business activity. These times further crystallize our long-standing mission to make the world safer and healthier with our solutions and actions. As the COVID-19 virus spread around the world, our global team has been focused on executing through rapidly evolving government measures, all the while prioritizing the safety and the health of our employees. To accomplish this, we implemented significant measures to protect our employees, which have enabled the company to continue to operate effectively throughout this pandemic. I am truly proud of the organization that when challenged with these unprecedented conditions has continued to execute as we always do. Moving to the third quarter. As mentioned earlier, the company’s Q3 revenues were 4% lower than the Q3 in the prior year. Due to the global nature of our customers, many of our operations are impacted by the COVID-19 starting in late March. However, each business enhanced its communications internally and externally, moved into troubleshooting mode and responded well under the unforeseen circumstances. With strong execution, we delivered record Q3 EPS and strong cash flow. Bookings in each of our Opto and Healthcare divisions were strong. However, the timing of Security division bookings was impacted by COVID-19, leading to an overall book-to-bill of 0.9 and a backlog of $863 million. Let’s review each business,…

Thank you, Deepak. Now I will review the financial results for our 2020 third fiscal quarter in greater detail. As mentioned previously, our revenues in Q3 were $293 million. Revenues in the Security division were $187 million, a year-over-year decrease of 3%, in part driven by the impact of the pandemic on our aviation and cargo customers. Opto division sales were roughly flat on a year-over-year basis as increased intercompany sales to support the Security division were countered by a 3% reduction in external sales. While Healthcare division revenues of $46 million represented a sales reduction of 7% year-over-year, it did represent a 9% sequential sales increase and led to significantly improved Healthcare adjusted operating income in Q3 compared to Q2. Our Q3 gross margin of 37.3% was up 70 basis points from the same prior year quarter and up sequentially from 36.3% reported in Q2 of fiscal 2020. We saw margin expansion in each of our Security and Healthcare divisions due to a favorable revenue mix and operating efficiencies, partially offset by a small gross margin reduction in the Opto division, which experienced some operational disruptions late in the quarter due to COVID-19-related government restrictions. As mentioned on previous calls, our gross margin will fluctuate from period to period based on revenue mix and volume, among other factors. Moving to operating expenses. We have historically shown the ability to manage costs and this past quarter was no exception, as SG&A expenses decreased 3% year-over-year. We work diligently across each of our divisions to improve efficiencies and prudently manage our cost structure. R&D expenses in Q3 were $15.4 million, up 12% from Q3 of the prior year, driven to a large degree by increased investments in the Security division. We remain focused on innovative product development, which we view as…

[Operator Instructions] Your first question comes from the line of Larry Solow of CJS Securities. Your line is now open.

Good afternoon. Deepak and Alan, and hopefully good to hear your voices, and hopefully you and your family is doing relatively well. Just a couple of questions on the Security side, you mentioned, Alan, on the book-to-bill was, I think, 0.9 in the quarter. Do you happen to have like a trailing 12-month book-to-bill or an idea of what that is, just to give us sort of a better gauge of bookings over the last few quarters?

For the Security division specifically, Larry?

Yes, yes, yes.

Yes. For the Security division, over the past 12 months, it’s been just below 1.0. If you exclude turnkey, it would be a little bit higher, but just below 1.0.

Okay. So does that sort of portray sort of a flattish year-over-year? Or would you ex-corona, would you expect new orders? Is that more just a timing-related thing? Obviously, with corona coming on, we never know, but just excluding that.

Larry, this is Deepak here. The answer to your question, I think you answered it. We’ve said it before. Some of the orders have been pushed to the right, especially U.S. government, where everybody is working from home and everybody has to get together, but the pipeline and the requests continue to come very strong. Also, there are couple of orders of large airports that we have verbally got. But again, because of the sudden nature of the shutdown, it got pushed. So we don’t see long-term post-COVID any reduction in the pipeline or bookings in Security.

Okay. And you mentioned and sticking to that theme, you mentioned sort of I think even last quarter, there was appropriated dollars for the border, but it was just too soon – too much too soon. So it took a while and got pushed out a little bit. Is there the potential outside of logistics and COVID-related impacts, which who knows how long they go for but – go on for, but beyond the initial impact, how about in terms of government funding? It seems like there’s going to be a lot of areas that the U.S. government especially and other governments, too, of course, will have to sort of help basically bail out several industries and whatnot. Is there a possibility that some of the funding that was dedicated for Security could get a little bit pushed out because of that?

Obviously, nobody can give the answer. But all indications we are seeing is there is no shortfall. As a matter of fact, the challenge with the U.S. government has continued to be they have too much, and they don’t have enough people to release the orders. But at the same time, as the traffic goes back to normal, hopefully soon, some of these things are going to be necessary all over the world, and it will continue to grow.

Okay. And I remember a couple of years back or probably few years back now, when oil fell out of bed, some of these a lot of the energy-dependent economies had some issues and lowered securities expenses a lot or expenditures. Is that five years fast forward into today, do you have a large percentage of those kind of orders coming in? Or is it sort of a different mix today?

Well, whole world has different requirements. Yes, Middle East is very much oil dependent. Other places are more security dependent. Some other Asia Pacific and some other areas are more infrastructure investment to increase their manufacturing capability, like India and other places. So it’s all over the globe, and we feel very strongly over the last, take, even a decade, that’s going to be ups and downs from one year to the other, but we have never looked at it, as if oil industry or something globally has any impact negatively. It’s all positive.

Great. Okay. And just switching gears real fast. Just on the Opto segment. Again, beyond the sort of COVID temporarily impacts, if the economy goes into sort of a prolonged recession, whatever you want to call it, I would assume that would be the one segment that probably has some direct economic impact on it. Is that fair to say?

Well, again, there’s been no precedents. None of us know how it’s going to work. But the good news is that even in our Opto segment, we are very much respond to the healthcare industry, to the aerospace and defense industry. And all that industry, especially from the U.S. government and the western economies, they continue to have need for those products post-COVID-19.

Good. Okay, great. I appreciate that color there. Okay, great. Thanks again. Thanks a lot. I appreciate it.

Thank you.

Your next question comes from the line of Sheila Kahyaoglu of Jefferies. Your line is now open.

Hi, good afternoon, guys and thank you for the time. Maybe can you guys talk about Deepak, you referred to the slowdown in the aviation business, just given people are stuck working from home. How do you think about what percentage of your business is consumable? I think it’s part of the Morpho business you acquired. Or how do you kind of think about that business coming back? It would seem like the Security business comes back quickly, the consumables may be a little bit slower. And then whatever percentage of the business exposed to stadiums and concert sort of events is the last to come back. Can you talk about how you’re thinking about the aviation recovery? Security recovery, sorry?

Sure. Sheila, this is Alan. Let me take a stab at that. I think your thesis is right on point. However, for us, the consumable portion of our business in Security is really quite low. So the impact is pretty immaterial for us. And with respect to stadiums and the like, that’s really a small part of our business as well. So I think the thesis is right on point. But for us, from an overall Security business or overall OSI business, it’s quite small.

Sheila, just to add on to what Alan said, primarily, definitely in the aviation sector, with the passenger traffic down short term, that has an impact on any new additions that are being dealt that are getting pushed and delayed. But one of the bright spots in this business has been even during this time, and it was even there before COVID-19 and it’s going to continue, is cargo. Air cargo is a very big growing opportunity for it, and we are very much engaged with it even under these circumstances, of packages, delivery, more freight coming in has to be all done and done with automation and stuff. That’s what our expertise is. So that business has been very good for us.

Okay. And just on that point, Deepak, I think you mentioned you bought an AI company. How big was that? And kind of how does that flow into what you’re trying to do with putting less burden on actual people monitoring and screening and kind of automating this whole process?

Sheila, it’s insignificant cost wise. It was a strategic thing that we bought the right assets, patents and IP and other things that can help our division to put and to go faster into the machine language and artificial intelligence to make automation better. They have had some luck working with the government, which we will capitalize on it and put it on our machines and get faster to the end market.

Okay. Got it. And then just last one on Healthcare. I think you divested your healthcare ventilator business a while ago. You mentioned another divestment. Can you just touch upon what that is? And you also talked about patient monitoring seeing a demand uptick. Should we expect a return to growth pretty quickly for that business? How are you kind of thinking about healthcare?

Sheila, this is Alan. I’ll take that. So your first question, with respect to the product line that we got out of, we fully got out of the anesthesia product line. You might recall a year or so ago, we got out of a specific product called Arkon, which was our latest product in anesthesia. And following the final sales of some anesthesia products toward the end of Q2, in our third quarter, we fully got out of anesthesia. So we’re 100% out of that business today, and that’s what that charge related to. With respect to the increased demand that we’re seeing in patient monitoring, it’s real. And we would expect to see growth occurring immediately, as you just mentioned. So we expect to see some uptick in our fourth quarter as a result.

Sheila, just to add on to Alan’s about the patient monitoring growth, it’s global. We’re seeing a lot of demand increase in Asia Pac, in Latin America, in EMEA and in U.S. So it’s not just one region. It’s very global, and we think that it will continue beyond Q4.

And how big was the divestment? Was it a few points of growth or insignificant in terms of just the organic growth rate within Healthcare?

For fiscal 2020, it was insignificant.

I’ll turn back in the queue. Thank you guys very much.

[Operator Instructions] Your next question comes from the line of Jeff Martin of ROTH Capital Partner. Your line is now open.

Thanks, good afternoon, Deepak and Alan, I hope everything is going well. Was curious coming out of the work-from-home restriction, if you see potential for new technology implementation, new processes, integration with things, for example, the airport, checking temperatures and perhaps doing other testing, that would need to be integrated to your systems, would they be independent. And just broadly speaking, do you see opportunities coming out of this that might result in new product lines and new growth opportunities?

Very astute. Very good question. For competitive reasons, I won’t say it, but you’ve touched on it. Yes, we are looking at other add-on things during this challenging time because of our installed base and our service at airports. We continue to look at it. But beyond that, I would be uncomfortable to talk at this time.

Okay. And then I was curious what you’re hearing with regards to the customs and border inspection related work that the budget had increased fairly significantly over the course of 2019. Could you give us an update on what’s going on there? And if that remains an opportunity over the next six to 12 months or if you think that time line is pushed out and if the budget overall is impacted?

I think that was asked by Larry also before. That budget is there. The budget is quite significantly higher. And I’ve said that before, the challenge is that they need to find ways to spend it. It’s not going anywhere, and we are very well positioned. We are in active discussions on multiple programs. And we believe that as there’s more work, people come back to work, there is more continuity from this challenging time that the orders will start. We are very positive about it.

Okay. And then last question is relating to the feedback and the input you’re receiving with regards to scheduling of some of these orders that have been pushed. Are you getting any level of detail on rough time lines of when you might those might be rescheduled? Are they actually rescheduled on the calendar? Or is it just too dynamic of a situation still to really start to put dates on the calendar?

Well, that’s one of the things that what Alan has said. We have lowered our guidance, taking into account some of this uncertainty that we don’t know. Nothing has gone away. It’s just pushed to the right. And each country is different. Each day is different. We continue to look at it diligently, and we believe that all that stuff sooner or later will get done. And we are hoping there’ll be it will be sooner, but I can’t comment more than that, be more definite. Alan?

Maybe just to add on, Jeff. The vast majority of projects will continue on sort of the same time lines that we anticipated. But there are selected projects that will get pushed to the right and that’s what sort of changes a little bit the guidance and the stuff. But the vast majority continues uninterrupted is our current belief.

Very good, thank you very much.

[Operator Instructions] There are no further questions. You may continue, sir.

Ladies and gentlemen, thank you once again for attending our conference call. We look forward to speaking with you all in August when we will discuss our fourth quarter and full year fiscal performance. We wish you the most safest for you and your family. Be safe and look after yourself and your loved ones. Thank you.

This concludes today’s conference call. You may now disconnect. Thank you.