OSI Systems, Inc. (OSIS) Earnings Call Transcript & Summary

Perfect. Welcome, everyone, to this fireside chat with OSI Systems. We're here with Alan Edrick, CFO. Thank you for joining us.

Yes, thank you for having me.

Perfect. So let's start. For the investors that are not familiar with OSI, would you mind giving an overview of the business?

Sure, I'd be happy to. So OSI Systems, we're best known for our Security business. We have 3 different divisions: we have a Security division, we have an Optoelectronics division and we have a Healthcare division. Our Security division makes up over 2/3 of our revenues and even a higher proportion of our profit. So it's often what people focus on. Our Security division, we do security detection for ports and borders, for aviation and the like. About 2/3 of our revenues come from the ports and borders and related services and maybe 1/3 from our aviation and checkpoints. We've moved into what we believe to be the #1 leadership position in security detection. So we're quite excited about that. We also have a Healthcare business. It's a much smaller part of our portfolio. It's about 10% of our revenues. We sell into medium and large hospitals. We sell patient monitoring products. We sell cardiology products and the related service, supplies and accessories. And what ties everything together is our Optoelectronics division. It's our third division, representing about 1/4 of our revenues. In Opto, unlike Security and Healthcare, where we sell to the end customer, in Opto, we sell to the OEMs, predominantly Fortune 500 companies in a variety of industries, in aerospace and defense, medical, industrial, technology, automotive. But in addition to selling to some of the leading companies in the world, our Opto division also supplies many of the key components that go into both our security products and into our health care products. So through that vertical integration, we enhance the overall gross margin of OSI Systems. In addition, we can be faster and more responsive to our customer needs and really kind of circumvent some of the supply chain challenges that some of our competitors face. So that's really how all the businesses kind of tie together.

Perfect. So I'm going to jump before we dive into the different segments. Ajay Mehra just recently stepped up as CEO. What changes should we see from his new role? Because he has been on the company for a long time.

Yes. Yes, so we've had a long-standing CEO, a Founder CEO, who we announced back in May would be retiring, although he's still with us as Chairman of the Board and quite active. And we are very pleased to announce that Ajay Mehra has become our CEO effective January 1. Ajay was our Security Division President. He led us to become the #1 security detection company in the world. He's been with us over 30 years. And I think more so than anything, his selection was a vote in continuity. The company is doing great. The guy who's been leading the business, that's 2/3 of our revenues or so, is a sort of a natural step-in. And I think while any CEO will clearly have a little bit of his own agenda and his own vision, I think we're going to continue largely on the path that we've been on with, hopefully, some nice incremental improvements and other ideas which are to come. He's been in the role for just under 3 months now.

Perfect. And does he have any early views on the other segments that he's not that involved with?

Yes. So although he hasn't been as involved with Optoelectronics and Healthcare in the past, because he has been with the company for such an extended period of time, he clearly has a lot of market knowledge, customer knowledge and business knowledge of our 2 other segments. And now he's diving at a deeper level into each of those. I think he's excited about our Opto division, which I think is going to go through a period of accelerated growth now. And in our Healthcare division, he helped bring in a brand-new President who just joined us on February 1. And I think this President does have an extremely high caliber who recently ran one of our competitors and helped grow that business quite significantly. So I think we're going to see much better performance out of our Healthcare division going forward as well.

Perfect. So now I'm going to touch base a little bit on the Security business, right? 2/3 of your exposure, and the stock has reacted really positively post election to your exposure to customs and border protection. Can you mind like giving us some context to how large is that exposure today? What is the opportunity in the coming years?

Yes, yes. So great question. And you're right, our stock has reacted positively. And I think there's a lot of tailwinds coming on the ports and borders. When you speak specifically in the United States post the election and CBP, Customs and Border Protection, clearly, the new administration is highly focused on the borders. And one of the nice things, though, is it's a very bipartisan support for what's called nonintrusive inspection, NII, or nonintrusive inspection scanning equipment at the borders. We tend to have the #1 market share at the U.S.-Mexico and U.S.-Canada border for that. The belief is that the budgets are going to be significantly higher for NII equipment at the U.S.-Mexico border and the U.S.-Canada border. We just need the United States now to pass a budget. Of course, we just passed a continuing resolution, which we believe to be helpful. But ultimately, when a new budget is passed, we believe that it will contain significantly higher funding for CBP NII equipment and construction, which is exactly what we do. And we, in the past, at least have had the highest market share at the borders, and we would hope to maintain that market leadership position.

Under the continuing resolution, how much is the opportunity with this special continuing resolution that we have now that is more like allows for some new starts and like some money transferring? Like do you see orders that could come in the next 6 months or you actually have to wait for a real budget to be there?

Yes. No, we think on balance, the continuing resolution is helpful for us. It allows for some spending at similar levels to the prior year. It should open up some spending for CBP, both for the construction and for new sites. So we are seeing increased activity in RFIs, requests for information. We're seeing increased activity that we thought we might land some new bookings. So when you mentioned, do we expect to see more orders in the next 6 months, I would say the answer is, undoubtedly, yes.

Perfect. How long are these processes usually between an RFI and actually an award?

Well, that's a great question. And it also varies based upon a changing administration, new personnel getting up to speed. So it's difficult to say. I think some of the stuff that had been in the queue could happen in the matter of weeks or months, where other stuff might be in the matter of several quarters.

Perfect. So now when I think about the border, right, especially the U.S.-Mexico border, you're also exposed to Mexico contracts. How is the exposure there? And you have like 2 really large contracts that are winding down. How should we expect to see revenue cadence from there given like these contracts winding down, but also opportunities that could be in the pipeline?

Yes, it's a great question. And when we think about the U.S.-Mexico border, we're fortunate that we get to double dip. So we work with the U.S. government trying to stop narcotics, fentanyl from coming into the United States, and we have contracts with the United States Customs and Border Protection. But as you just mentioned, we also have very significant contracts in Mexico, primarily to stop guns and cash coming back from the U.S. into Mexico. We won 3 very significant contracts in Mexico with the Mexican Army and with the Mexican Navy. The first one was with the Mexican Navy for over $200 million, followed by a $500 million win with the Mexican Army and a subsequent additional $100 million incremental order from the Mexican Army. On the initial contract, the one with the Mexican Navy called SEMAR, that contract is winding down. We've been delivering. It's been a fantastic producer for us. The customer is extremely happy. The product deliveries are winding down. But what we see happening as the product deliveries wind down is the service revenues kick in. So generally, there's a 1-year warranty. And post warranty, we start to have the service revenues. And service revenues generally carry a higher margin than product revenues. Similarly, on the $500 million SEDENA contract with the Mexican Army, we're probably a little bit more than halfway through the deliveries of that contract. There will be significantly more delivered over the next 12 months. And on the $100 million incremental contract, the majority of that has also not yet been delivered. But you're also very correct in saying that the revenues are winding down from some of the peaks in Mexico. We had very strong revenues in fiscal '24, stronger in the first half of our fiscal '25. Our guidance is very strong for the second half of fiscal '25, but that guidance incorporates a lower amount of Mexico revenues. So a year ago, when we received these Mexico contracts, there was some concern from investors that, how are you going to kind of fill those holes? And we said, this is a new baseline for us. We're -- our plan is to continue growing from here, and we're doing just that. As you looked at our backlog at the end of December, it was a record backlog, and that record backlog includes converting much of that Mexico backlog into revenue. So the Mexico portion of the backlog is lower, and the rest of our business has been growing. So we've been filling it up with both cargo-type business and aviation-type business in other parts of the world. So we have a very strong backlog. We have a very strong pipeline of opportunities. So it's exciting for us because there's a bit more diversification than when the Mexico revenues took up a stronger proportion of those overall revenues. So it's a very nice place to be in for us.

So in these Mexico contracts, some investors have been hesitant around the receivables portion of it and how you have to recognize those product deliveries in your revenue, but you're not able to bill those steps. Do you mind explaining how is that trending? And what are the expectations from a free cash flow perspective?

Yes, excellent question. So over the last couple of years, as we've received these Mexico contracts, we've invested a significant amount in working capital, both in inventory and receivables. These Mexico contracts were a government-issued RFP, so we didn't have the opportunity to negotiate the payment terms, if you will. So the payment terms are maybe not as favorable as we would see in some of our other contracts. However, these contracts overall are very favorable economically for us. And if we are offered the same contract 10 more times, we would undoubtedly go for that contract 10 more times because it's just such a good thing from an economic perspective. That being said, it has deferred our cash flow a little bit. So we recognize revenue a couple of ways on the big $500 million contract. There's a construction element as we prepare the sites, and we recognize those revenues over time, kind of like percentage of completion, if you will, but we're not able to bill for that, so it becomes an unbilled receivable. And similarly, as we deliver the products and recognize revenue in accordance with GAAP, we're not able to bill until we get site acceptance test. So consequently, we had a larger unbilled receivable that we began to see come down at the end of December. We expect by the end of our fiscal year here in June and just over 3 months, it's going to be down considerably. So while we've been investing in working capital in the past, we expect to see very sizable free cash flow in the second half of this fiscal year, frankly, the entire calendar year, and we think we can have very strong free cash flow conversion.

So this is a perfect leeway to the turnkey solutions, right, because during this like RFPs or like financing terms that come together with the technical capabilities that you put together, you have been able to explore new, I don't know, go-to-market opportunities with these turnkey solutions. Would you mind explaining how large are they today? And what are the geographies that you see most opportunities?

Yes. So maybe it would be helpful to describe what turnkey solutions are. So our basic business model in the past had been to sell the products and then get the nice recurring revenue through service, spare parts and maintenance, which is great. But we challenged ourselves several years ago to say, how can we expand that revenue potential? How can we expand the margins? And we said, well, what if there's a customer set out there that doesn't have the capital or the money to buy the equipment upfront? Or if they do, maybe they don't have the operational expertise. Maybe they'd like to turn it over to an organization to do what we call a turnkey program or I coined it many years ago as our version of SaaS, Security as a Service. And what we do in these turnkey programs is we manufacture the products, we place them at the customer site, but we generally own them. They sit on our balance sheet. We staff it up with our people. We enter into long-term contracts, as little as 6 years, as many as 15 years. And then we charge a fee per scan or a fee per site per month. So we get this great recurring revenue at higher margin. We think this model is great everywhere in the world. But in reality, what we found is that the places that gravitate towards it on a more rapid basis tend to be some of the emerging economies. So we have a great contract in Puerto Rico, in Guatemala, in Albania, in Uruguay, and we're working on others. While it would be great for places such as the U.S. or Western Europe, these locations sometimes may not want to sort of turn over control in that regard. But it's been a wonderful model for us, and it's helped us to develop some additional proprietary software and the like, which has been a big differentiator for us on many bids.

Do you want to touch base on the software?

Sure. So we developed a proprietary software called CertScan. One of the nice things about the turnkey was we had access to a large, large volume of images. And from those images, we could then use it to kind of, we'll say, "perfect" our software or to make it much better. And CertScan is a command and control center that's got a common viewer that can be utilized not only with our own equipment, but we can even utilize it with some of our competitors' equipment. And it's been a real big differentiator, not just in turnkey programs, but for instance, the Mexico $500 million contract. Initially, when we were bidding on this contract, there was an expectation or a belief that, that contract might be split amongst 3 parties. And if we had gotten $150 million or $200 million, we would have been very, very happy. That's a great contract for us. However, as the customer went and started doing reference checks with other customers and they started to learn about the CertScan software, they said, we really want this whole thing, and they sole sourced the deal with us and gave us the $500 million-plus contract. So it's really been a great differentiator for us really throughout the world.

Perfect. And you also mentioned recurring revenues and how these new solutions are increasing that level. How much are recurring revenues right now? And where do you think they could be 5 years from now?

So when we look at recurring revenues in our Security business, it's about 30% today, a little bit higher in our Healthcare business. And our Opto business, although we don't call it recurring revenue, we call it repeat revenue, it's much, much higher. But in Security, which is our biggest segment, about 30% today, we see a path to be north of 40% in the future. And that's great for us because this recurring service revenue generally carries a higher margin, so it can lead to some operating margin expansion as well.

So how should we think about margins in the Security business 5 years from now? How much upside do you have?

We think there's substantial upside. It's hard to quantify at this point. But when we look at a greater installed base, which will drive higher field service revenues at higher margin, as we roll out CertScan as an independent SaaS-based solution, software as a solution -- Software-as-a-Service solution for us as well as SaaS-like margins, that will really help our operating margins, expanding our turnkey programs and just leveraging our fixed cost structure to grow our margins, we think there's a tremendous opportunity to expand margins significantly in the next 5 years.

Perfect. And when you think about M&A, you recently did a deal, radio frequency and more like towards capabilities, when you think about like M&A pipeline, you think about like what type of capabilities you like to be exposed to or is exposure to regions or is exposure to like more services content, like how do you think about that in the Security business?

Yes. So great question. And kind of M&A is in our DNA. We like doing acquisitions, but we're extremely disciplined when it comes to acquisitions, both on the valuation side and on the strategic and financial fit for us. So that being said, when we do M&A in Security, we're looking for things that might fill a technology need for us, maybe a gap in our product portfolio. We're looking for things that could fill a channel need. We've taken out competitors in the past. And generally speaking, they're accretive right out of the gate for us. We see upsides and opportunities to expand the revenue potential, but we also look at cost synergies as well. And all of these things together have led to, frankly, a very successful M&A program on the Security side for us.

Perfect. And now if I think about the portfolio and the regions, are there any particular regions where you see significant opportunities coming from?

Yes. Well, I think when we look out in the near future, the biggest areas for opportunity in the regions, I'd say the Middle East is extremely fertile territory in security. The United States is extremely big opportunities for us as well. But also when we look at Europe, Latin America and Asia, those are all real opportunities. China is not a place that we play in, in any significant manner. But really throughout -- excluding China and maybe some parts of Africa, really, the rest of the world is great opportunities for us.

And do you have a better competitive opportunity in some regions versus others? Or...

We think our competitive positioning really is global. We think we're well positioned no matter where the region is, maybe China accepted, who has a local company in that region. But our products are well suited and our solutions are well suited for the U.S., Asia, Europe and Latin America.

Perfect. And I'm going to switch gears a little bit to the airport security business. In the past, you have talked about this replacement opportunity coming to the U.S. How should we think about it? Like how large is it? When is it coming?

Yes. So the big replacement opportunity in the U.S. in aviation that we've been talking about is for checked baggage. So these checked baggage machines were put in not long after 9/11. They're old. The U.S. government is spending a lot of money on service. So it represents a huge opportunity, we think $1 billion-plus opportunity. We did not play in the initial deployment of these machines 20 years ago as we didn't have a product for checked baggage back then. So when it needed to come out so fast, a lot of them were medical CT products, which were adapted for security applications. We then went on to develop what we believe to be the industry's first checked baggage solution specifically for security applications. And we've had great success throughout the world, excluding the United States, in places like Europe and the Middle East and Latin America and Asia. But we think the U.S. represents a big opportunity. It's unclear exactly when that opportunity is supposed to start. I think many felt it would have already started by now. I think a lot of folks are believing now it might be 2027, 2028, but it should be a $1 billion-plus opportunity for -- rolled out probably over about a 5-year period. And then we would normally say you'd get service for another 10 years. In this case, it seems like it's been 20 years. But generally speaking, the products are out there for 7 to 10 years.

So when you think about this new product development and R&D, how is that process? How much you spend on R&D? How you focus on what are the key arenas to invest on?

Yes. So we have a tremendous set of engineers, both on the hardware side and the software side. We've been investing more and more in R&D over the years. And when you look at OSI Systems overall, it's -- we're pretty much investing in the Security side and the Healthcare side. Opto is mostly customer-funded R&D. But on the Security side, we've been investing both on the aviation side for new products to obsolete ourselves or to -- or for entry into new markets. And on the cargo side for ports and borders and critical infrastructure, we've been coming up with new technologies and combinational technologies. And we think what we've been doing in R&D has allowed us to have the broadest portfolio of products in the industry, particularly on the cargo side, which has allowed us to take over the sort of #1 position in security detection.

And when you think about products versus software services, how do you think about your investments?

We do both. A lot of investments are in products, but, really, a lot of the differentiation is in the software. It's in the algorithms. And as we look forward, AI is going to play a prominent role. We bought a small company on AI 4 to 5 years ago, which we think gave us a big jump start into this arena, but we all believe it's going to be kind of the future of security. So software is really the biggest differentiating factor out there.

Perfect. And now I'm going to touch base a little bit on Opto. How do you think about the opportunity of like near-shoring, re-shoring and all this like geopolitical environment? How much you produce in the U.S., how much you produce like in North America? Would you mind like going through those details?

Sure. So in our Opto business, we're a global player in Opto as well and a global manufacturer. We manufacture quite a bit in Malaysia, Indonesia and India, but we also right here in the U.K., in the U.S., in Canada, a small amount in Mexico. So we really serve a global customer base. On the Opto side, in terms of what that means and with tariff implications and the like, it kind of changes on a daily basis. The manufacturing that we have in Mexico and Canada is small. It's almost a rounding error for us. So we feel there's kind of tremendous opportunity for us in the Opto division in order to move things around as necessary. When we talk about near-shoring, that change -- we believe that near-shoring is a tremendous opportunity. Of course, as tariffs come up and everything, it kind of changes that equation all the time. So until that kind of gets settled, we're not so sure. But what we have seen undoubtedly is a migration of certain customers wanting to move away from China and into a more near-shoring capability, whether that's near-shoring towards the U.S. or near-shoring in other parts of Asia outside of China.

So in your Opto exposure, how much of the revenues are internal and go to your Security business, Healthcare? And then how are you exposed to different industries? Like...

Yes, a lot of people think that it's a high proportion of our sales that's internal. It's not, really. About 85% of our sales are to third-party customers. About 15% is internal, but that 15% that's internal is very important to us. A lot of this is kind of some of the secret sauce that we do in the security area. We don't have any particular customer concentrations or even industry concentrations. We really have a nice pie of business when we look at aerospace and defense and medical and industrial and telecommunications and consumer and automotive and gaming. It's a really wide variety of customers. And the nice thing about these customers is once we get engineered into a product, we can be there for a very long time through the customers' product life cycle. Sometimes, it's more than a decade.

And you call them like repeat sales. How much are them? And how you think about them going...

So we would estimate that over 80% of our Opto revenues are repeat. So we have great visibility into sort of the revenue pipeline. And one of the nice things about Opto today is over the last 12 to 18 months, we've seen some of our customers optimizing inventory levels. So previous to that, they probably maybe overbought a little bit for risk mitigation during some of the supply chain challenges and the COVID. And now everybody has been trying to rightsize inventory levels, optimize working capital. And while that's not completely done, we think it's largely behind us, and we could see an acceleration of Opto revenue beginning as early as this quarter.

And then would you mind going through like some products where you think you really differentiate in the Opto business? What OSI does uniquely?

Yes. So when we look at our Opto business, we almost break it into kind of 3 arenas. We have pure optoelectronics, which are sensors and detectors that really are unique to what we do in aerospace and defense and in other areas, which is nice. We have a contract manufacturing portion, and then we have a flex business, flex circuits that we do that has some higher-margin work that we're kind of unique. And our value proposition in a lot of the things we do is we're not looking to do super-high volume, razor-thin margin. We do lower volume, higher mix where we add more value add. And consequently, we have very strong margins for this industry and in this division for us overall.

Amazing. And now Healthcare, right? Healthcare has been lagging in terms of volumes, but you mentioned you do have a new product, and there's also a new President in the business. What are the expectations in the near to midterm on that business?

So we're excited about Healthcare. It's only 10% of our revenues, but it's our highest contribution margin business. So as revenues go up, there's an awful big pull-through to operating income, operating margins, EBITDA. Unfortunately, the inverse can be true, if revenues go down, you can't change your cost structure fast enough. But we're very encouraged by what we're seeing. Our new President is looking at every single aspect of the business, invigorating some energy and some changes in thinking, and it's happening fast. And we've only had him for 45 days, and he's making a big difference. So as we look out into the near term, I see us growing the top line, driving operating margin expansion and then relentlessly focusing on the new products that we're going to be bringing out. First phase of our new patient monitoring platform slotted for the summer of calendar '26, it's a multiphase approach, but very excited about that. So we think the future is much, much brighter for our Healthcare business than maybe what we have seen for the past few years.

So when you think about that future, does that require any particular investment? And if it requires that, is it in products? Is it a sales effort? How should we think about that?

So we have a fantastic sales force. Really, my background before coming to OSI Systems was a CFO at multiple medical device and life sciences companies. So very, very familiar with sales forces in life sciences. We have an outstanding sales force, an outstanding commercial organization. So as we put these new products into their bag of tricks, I'm really excited for what the future holds there.

Perfect. And then I'll open up for questions. If you have any questions, please raise your hand, and we'll have a microphone going your way. Here in the front.

Thank you very much for a very interesting discussion. One thing I'd like to understand a bit better, at some point, you mentioned software is the biggest differentiator, you said. I think you were talking about the security. Can you talk a little bit more about that? And if software is the biggest differentiator, how exposed does that make your business to disruption from some kind of tech start-up in software?

Great question. This business in security has always been much more evolutionary than revolutionary. We haven't seen any major disruptive changes in the last 20 years in security. So -- but software is the biggest differentiator. And we look at that both in our CertScan software platform, the algorithms that we're constantly developing and enhancing to beat the bad guys, so to speak. While there's always the threat of a start-up or a technology company doing something, we look at that as probably not a realistic scenario where if there was somebody, they probably come to us and we might license some of that software from them. So it's always a potential out there, but we don't look at it as a major risk.

And when you think about software, right, how much of that software you think is core to your product and you want that software at the edge and where you start to think about like partnerships to actually not only have a really strong software that increases the potential of your products, but also makes those products talk to other stuff?

Yes. So we've taken the approach that we think we like to develop it all in-house. So we haven't partnered on the software to any large degree. We've done it in certain cases. But doing it all ourselves, we have some tremendous software development teams globally sort of throughout the world, has really led to some big differentiation. And whether that's the algorithm development or the CertScan software that has been a bit of a game-changer for us on the cargo and solutions side, our preference is still to continue to do things ourselves, and we think we have the team to do that. But where it might make sense to partner or outsource part of that, we would have no qualms about doing that as well.

Perfect. Any other questions? There.

Could you touch on your competitive position relative to others in the health care side? There are some larger competitors, just to get a feel for the niches and your market shares, particularly in certain niches.

Sure. So good question on the health care side. So unlike security where we tend to have the #1 or #2 market position in almost all the markets that we play in, in health care, we compete against some of the big players out there such as Philips and GE. And we're not arrogant or naive enough to believe that we're going to overtake a Philips or a GE. Our market share today is in the single digits when it comes to patient monitoring. But with the new platforms that we have coming out beginning in the summer of '26, as currently slated, we believe we can take some additional market share from some of these large companies. The market is large, and market share gains and revenue gains from us at the high contribution margins that we have can make a very, very meaningful financial impact to the overall organization.

Following up to that, would you mind discussing the competitive position you have in the different security businesses as well?

Sure. So when we look at our competitive position in security, if we start off with cargo for ports and borders and critical infrastructure, we believe we have the majority market share already. So a very strong position. We compete against also some larger companies, but within these larger companies, their security divisions are a bit smaller than ours are. Very strong companies overall. But when we look at our differentiation in ports and borders and critical infrastructure, it comes down to having the broadest portfolio of products. We have high-energy, medium-energy, low-energy X-ray. We combine these technologies. We also combine it with our proprietary CertScan software. And all of this has allowed us to clearly differentiate from our competition, which has allowed us to capture such a strong market share that we have today. When we look at the aviation business, which is a highly regulated market requiring certifications and everybody has to meet a minimum threshold, we have competitors today who are probably a little bit stronger than us in aviation. We believe we're catching up. Our aviation businesses grew double digits in the first half of this fiscal year. We have come up with some unique ways of imaging, some of what we do in the aviation industry. So it's exciting for us out there. I would say our competitive position is stronger in ports and borders and critical infrastructure, but it's also quite strong in aviation, though we're not the leading market participant today.

Perfect. And we had another question on the back.

You mentioned China being challenging. Can you, I suppose, discuss which peers you face and whether they threaten your growth in emerging markets?

Yes. So in terms of China, there's a local Chinese competitor who dominates the Chinese market. When we look at emerging markets, maybe outside of Africa, we continue to do very well, as does some of our competitors. And while that Chinese company can be a challenge when looking at certain pricing, there are a number of countries who have a sentiment of not necessarily wanting to buy Chinese product for security applications. And that sentiment, in many cases, seems to be increasing, which can be helpful for us. But in some of the emerging markets, that's where Chinese companies can sometimes play a bigger role.

Perfect. Any other questions?

Can you give an idea about how localized is manufacturing, especially security in different regions and also related to that, the tariff risks?

Yes. So the question, without the microphone, was the localization of our manufacturing for security and maybe tariff implications. In our Security business, we manufacture in 3 principal locations: right here in the U.K., in the United States and in Malaysia. We have capacity to grow in each of these places. Our manufacturing and operations teams are excellent. We don't believe that we should see any meaningful impact in our Security business from tariffs. Of course, it remains to be seen as it changes on a regular basis. But today, as we assess the situation, we don't perceive that to be a significant risk for us.

When you think about geopolitics and how you are exposed around the world, what other arenas could be opportunities or challenges and from like where you have your cash and like all these things, like how should we think about that?

Yes. I mean some opportunities when we think about geopolitical things going on are wars. Oftentimes, when wars are taking place, there's not necessarily security purchases taking place in those war regions. But when the wars die down, for instance, things in Russia and Ukraine and the Middle East, it oftentimes creates a real opportunity for additional security equipment there. So if that were to take place in the coming future, we think that's a real opportunity for us. From a cash perspective, we have cash throughout the world, but we never maintain a lot of cash as we're in a net debt position that we love where we are from a balance sheet perspective. We ended last quarter with net leverage of around 2.1. But throughout the world, we have a few million dollars here, a few million dollars there. The money we have in the United States, we used to pay down our revolver and minimize our interest. We have ability to repatriate cash from really any location in the world. Some have a little bit more tax implications than others, but we have good strategies for that.

So as you approach some of these projects that requires your capital, right, like there is some like free cash flow volatility. How should we think about like free cash flow going forward, free cash flow conversion? And what is the normal levels of investment and recovery?

Exactly. So outside of potentially new large turnkeys, and we would love to win new large turnkeys, but they will require some CapEx investment upfront, but outside of new large turnkeys, we believe that we can convert close to 100% of our free cash flow to net income, sometimes a little bit higher than that, sometimes a little bit lower than that. But we think we're kind of in an outstanding position. And with that free cash flow and we look at capital allocation, we kind of really look at 3 things: M&A, we're a disciplined buyer, we talked a little bit about M&A in the beginning; stock buyback, we bought back about $80 million of stock in our first fiscal quarter of this current fiscal year; and any residual cash we have, we'll just pay down our revolver in order to minimize our interest expense.

Perfect. Any other questions? Perfect. So we're going to close with the last one that I usually like. Like on the 2 ends, what are you most excited about, but then also what keeps you up at night?

Yes, great question. What am I most excited about? I think this company has never been positioned better. Our Security business now has the #1 overall market leadership position. The opportunities throughout the world are fantastic. We're sitting on a record backlog as of the end of the last quarter. Our funnel of opportunities is outstanding. The teams that we have, the commercial teams, the operations teams, the R&D development teams are, we believe, sort of second to none. So we think the future is extremely bright. The world is not getting a whole lot safer as we see every day, but that plays very well into what we do as a security detection company. We think we have some winds at our back from some of the stuff going on domestically in the United States. So really feel great about where the company is situated today. In terms of what keeps me up at night, not a lot, honestly. I mean we feel that things that are within our control, we have great execution plans. We have a great track record of delivering. We don't see anything getting in the way. I guess, it would be the uncertainties that we see created in the U.S. and other markets seemingly more regularly than perhaps we've seen in the past. So some of those things outside our control, that could play a role. Perhaps, it could actually help us, but it could always be a risk as well.

Perfect. Well, thank you very much.

Thank you.