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OSI Systems Inc  (NASDAQ:OSIS)
Q2 2019 Earnings Conference Call
Jan. 24, 2019, 4:30 p.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

See all our earnings call transcripts.

Prepared Remarks:

Operator

Good day, ladies and gentlemen, and welcome to the OSI Systems Second Quarter 2019 Conference Call. At this time, all participants are in a listen-only mode. Later, we will conduct a question-and-answer session and instructions will be given at that time.

(Operator Instructions) As a reminder, today's conference is being recorded.

I would now like to turn the call over to Alan Edrick, Chief Financial Officer. Sir, you may begin.

Alan Edrick -- Executive Vice President and Chief Financial Officer

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 2019 second quarter conference call. We'd like to extend a warm welcome to anyone who is a first time participant on our conference calls.

Earlier today, we issued a press release (Technical Difficulty) under the securities laws. These forward-looking statements are based on management's current expectations and are subject to uncertainties, risks, assumptions and contingencies, many of which are outside the Company's control. Such statements include, without limitation, information regarding the expected financial and operational performance of the Company in its operating divisions, including the Company's expected revenues, earnings and growth. Undue reliance should not be placed on forward-looking statements as actual results could differ materially from our forward-looking statements due to numerous factors including factors described in the Company's periodic reports filed with the SEC from time to time. All forward-looking statements made on this call are based on currently available information and speak only as of the date of this call. And the Company undertakes no obligation to update any forward-looking statement that becomes untrue because of subsequent events or new information or otherwise.

During today's conference call, we may refer to both GAAP and non-GAAP financial measures of the Company's results. For information regarding non-GAAP measures and comparable GAAP measures and a quantitative reconciliation of those figures, please refer to today's press release regarding our fiscal 2019 second quarter results, which has been furnished to the SEC as an exhibit to a current report on Form 8-K.

Before turning the call over to Deepak to discuss the Company's general business and operations, I will provide a high level financial overview of the second fiscal quarter.

First, we reported record second quarter revenues of $303 million, a 9% year-over-year increase. This increase was driven by the performance of our Security and Opto divisions. In Security, we reported record Q2 revenues of $189 million, representing approximately 10% growth over Q2 of fiscal 2018, primarily attributable to significant growth in RTT and cargo equipment sales, partially offset by the expected reduction in year-over-year turnkey revenue from our current Mexico contract. Revenues in the Opto division increased 13% year-over-year primarily driven by acquisition-related sales growth. Healthcare division revenues in the second fiscal quarter were down 2% year-over-year, but the 35% sequential increase in revenues from Q1 indicates the division is on the rise.

Second, we reported Q2 fiscal 2019 GAAP diluted earnings per share of $1.03 compared to a loss per share of $2.47 in the same prior-year period due to the charge from last year's Tax Act. On a non-GAAP basis, Q2 EPS was a record $1.19 per diluted share compared to $0.97 in Q2 of fiscal 2018. Non-GAAP earnings were solid across each of our divisions with improvement in Healthcare's performance compared to the past several quarters, significant operating margin expansion in the Opto division and strengthened Security, particularly in light of the difficult comparison with the prior year as a result of the changes in that Mexico contract.

Q2 non-GAAP EPS excluded the impact of impairment, restructuring and other charges, amortization of acquired intangible assets and non-cash interest expense, all net of related tax effects. It also excludes certain discrete tax items. Our cash flow from operations was $43.7 million during the second fiscal quarter and capital expenditures were $4.8 million. Finally, we ended the quarter with a backlog of approximately $1 billion.

Before diving more deeply into our financial results and discussing our updated fiscal 2019 financial guidance, let me turn the call over to Deepak.

Deepak Chopra -- Chairman, President and Chief Executive Officer

Thanks to you, Alan. Happy New Year and thanks to everyone joining us on today's call.

As Alan mentioned, we are pleased with our results for the quarter and the first half of fiscal 2019 as we achieved record sales, strong adjusted earnings growth and solid cash flow. Each of our three divisions, Security, Healthcare and Optoelectronics, contributed to the quarter and we are very well positioned to achieve a very strong year.

Reviewing the Q2 performance and highlights for each division, beginning with the Security. Q2 revenues in the Security division were $189 million, a 10% increase from the prior year. This was a record sales quarter for this division. Strong sales of cargo and vehicle inspection systems and RTT, and related maintenance were offset somewhat by the lower turnkey revenue contribution from the new MSAT contract, which was anticipated.

First-half bookings were $357 million, representing a one-time book-to-bill ratio. Highlighting into the airport activity, we announced a $16 million contract to provide service and spare support for checkpoint inspection systems. Our RTT check baggage install base continues to grow and the year-over-year RTT revenue growth during the quarter was very robust. Shortly after the quarter-end, we announced an $11 million order for RTT 110s for a European airport.

The new products, during the quarter, we introduced a trace product, the Itemiser 4DN, which uses a non-radioactive ionization source and is optimized for narcotics detection and ideal for drug interdiction applications across a variety of markets such as customs and border protection (ph) prisons and critical infrastructure, among others.

Our integrated services business continues to grow with programs in Asia, Europe, Latin America and the Middle East. After quarter-end, we announced another turnkey win, a 10-year agreement for the Port of Port of Santo Tomas de Castilla, a major port in Guatemala. We will construct civil works, deliver and integrate Rapiscan Eagle P60 high-energy X-ray inspection systems, perform security screening and related data analysis for 100% of the cargo both inbound and outbound, utilizing our proprietary remote imaging and data analysis software CertScan. This win leveraged our experience with existing programs as we demonstrated our proven capabilities to this new customer.

The new Guatemala program will be a fee-per-scan arrangement and thus is not included in our backlog. In addition, a new integrated services program in Asia is expected to begin operations in Q4. The integrated services business is performing well and we are seeing a strong opportunity pipeline of potential new programs. Overall, the first-half Security bookings were solid, and even more importantly, the pipeline activity remains very robust. We look forward to a strong second-half for this division.

Moving on to the Healthcare division, which reported a very solid quarter, revenues were $51.6 million, slightly down from last year. But as Alan will discuss, with new leadership and cost improvements, the business performed much better, delivering significantly improved adjusted operating margin compared to Q1. Building on what we started in past quarters, we reduced our cost base and exited an unprofitable sales channel and a product family. This not only adds enhanced focus to our core patient monitoring, cardiology and supplies business, but adds to our operating margins as collectively these areas adversely affected profitability in the past.

During the quarter, we announced a $450 million IDIQ, Indefinite-Delivery/Indefinite-Quantity, award from the Department of Defense U.S. to provide patient monitoring solutions and related accessories and training. The IDIQ contract provides the Company an opportunity to potentially receive delivery orders up to the value of the IDIQ award, but does not guarantee any orders over the term of the contract. Going forward, we expect Spacelabs to continue its path to becoming a meaningful contributor and a consistent performer. We anticipate to return to year-over-year growth in the second-half.

Moving to our Optoelectronics division. Its revenues for the quarter were about 13% higher than the prior year. This revenue growth was driven by our core Optoelectronics business coupled with the acquisitions in the flex circuit and optical sensor business. During the quarter, we announced a $10 million order, a significant order size for this division, to provide components for use in devices for a leading medical technology OEM customer. The recent acquisitions combined with our efforts at overall strategic repositioning have helped transform this division into delivering consistent and strong performance. Alan will discuss the financial performance in more detail.

Q2 was a high performance quarter where each business unit performed well and helped us reach record revenue. Security continues to expand its equipment install base and integrated services customer base. Spacelabs is a turnaround story, which is well on its way and the Opto division's topline growth and ability to deliver strong profitability is highly valuable and important, because it is also a critical supplier to the other two divisions.

With that, I'm going to turn the call back over to Alan to talk in detail about our financial performance before opening the call for questions. Thank you.

Alan Edrick -- Executive Vice President and Chief Financial Officer

Well, thank you, Deepak. Let's now review the financial results for the second fiscal quarter in greater detail. As mentioned previously, our revenues in Q2 of fiscal 2019 increased 9% year-over-year. Q2 revenues in the Security division increased by 10% from Q2 of last year, driven by growth in both cargo and vehicle inspection equipment sales, and RTT. The 30% year-over-year revenue growth reported for our Opto division was driven by revenues from the flex circuit businesses acquired in January 2018 and from our optical sensor and higher level assemblies business acquired in July 2018, partially offset by a reduction in inter-company sales as inventory levels decreased as we focused on working capital management.

As Deepak mentioned, we are pleased with the direction in the Healthcare division. Our revenue in the second fiscal quarter constituted the division's best quarterly performance for the 2018 calendar year. Revenues increased 2.5% year-over-year in our core patient monitoring, cardiology, and supplies and accessories product lines. This increase was offset by the de-emphasis of sales on our anesthesia product line and in an under-performing sales channel that we exited during the second fiscal quarter, resulting in an overall 2% decrease in net revenues.

Our Q2 gross margin of 36.4% was comparable to the 36.6% in Q2 of last year. We saw gross margin expansion in each of our Opto and Healthcare divisions with a slight year-over-year reduction in the Security division gross margin. (Technical Difficulty)

2019 SG&A expenses were up $7 million over SG&A in the same period last year primarily in the Security division and also due to the added expenses from the Opto division acquisitions.

We continue to focus in all of our divisions on improving efficiencies and prudently managing our cost structure. R&D expenses in Q2 were $12.8 million, down from Q2 of the prior year. As it was also the case for the last quarter, this was primarily due to efficiencies in our Security division from the post-acquisition consolidation of operations of acquired businesses; in our Healthcare division, from reductions of our de-emphasis on anesthesia products. We remain focused on innovative product development, which we view as vital to the long-term success of our business.

Impairment restructuring and other charges were negative $1.3 million in Q2 of fiscal 2019 as compared to a positive $8.3 million in Q2 of fiscal 2018. The current year amount reflects a net insurance reimbursement of certain legal costs incurred, which were partially offset by charges in our Healthcare division related to employee severance and the wind down of sales channel costs.

Moving to taxes. Excluding the impact of discrete tax items, the Company's effective tax rate was 28.3% in Q2 of fiscal 2019, essentially unchanged from the rate in the prior-year quarter. During the three months ended December 31st, 2018, we recognized a discrete tax benefit of approximately $400,000, resulting in a reported effective tax rate of 26.8%. During the three months ended December 31st, 2017, we recognized an approximate $56 million net discrete tax charge primarily from the changes under the Tax Act.

Let's now turn to a discussion on our non-GAAP adjusted operating margin, which excludes the items mentioned earlier in the call. The Company's non-GAAP adjusted operating margin improved to 11.4% in Q2 of fiscal 2019 from 10.8% percent in Q2 of fiscal 2018. This increase was primarily driven by the strong performance of the Opto division and a favorable mix of higher margin revenue in our Security division. Looking on a sequential basis, the adjusted operating margin in the Healthcare division increased from negative 4.4% to positive 10.8%, reflecting the significant progress in turning this business around.

Moving to cash flow. In Q2 of fiscal 2019, we generated $43.7 million in operating cash flow. The strong cash flow was driven by increased profits and significant improvements in working capital. Collections were strong as days sales outstanding or DSO decreased from 76 days in Q1 of this fiscal year to 68 days in Q2 of fiscal 2019. As mentioned on the last call, we had a big buildup of inventory in Q1 to support future shipments. With strong Q2 sales and improved inventory management, inventory declined significantly, contributing to the strong Q2 cash flow.

Capital expenditures in the quarter were $4.8 million, while depreciation and amortization was $14.1 million. During Q2, we repurchased 184,170 shares at an average price of $71.59 per share for a total cost of $13.2 million. Under our current Board authorization, we have approximately 562,000 shares remaining for potential repurchase.

Our balance sheet remains strong. We ended the quarter with net leverage of approximately 1.9% as calculated under our revolving credit facility.

Finally, turning to guidance. We are raising our fiscal 2019 sales guidance to a range of $1.15 billion to $1.185 billion, and we are increasing our fiscal year 2019 non-GAAP earnings per diluted share guidance to $3.93 to $4.10. Note, this guidance factors in start-up costs associated with the new turkeys which occur in advance of recognizing revenue just like the past turnkey projects, as well as not quite as favorable margin mix in the Security division. This non-GAAP diluted EPS range excludes impairment, restructuring and other charges, amortization of acquired intangible assets, and non-cash interest expense and their associated tax effects in discrete tax items.

Additionally, we continue to evaluate the impact of tax reform on our effective tax rate, including the effect of new taxes associated with computations for the Global Intangible Low-taxed Income known as GILTI and Foreign-Derived Intangible Income known as FDII. Each of these provisions is complex. The effective tax rate is subject to significant volatility and will be updated as more analysis and information is available.

We currently believe this sales and non-GAAP earnings guidance reflects reasonable estimates. Actual sales and earnings however could vary from the anticipated ranges due to the risks and uncertainties, specifically affecting our business and generally affecting industries in which we operate. These risks and uncertainties include items beyond our control such as site readiness for product installations, evolving government trade policies, customer acceptance and the timing of orders in each division and other risks and uncertainties discussed in our SEC filings.

We have continued to grow our business, while investing in product development and making selective strategic acquisitions. Our products and acquisition investments enable OSI to continue our leadership role with innovative products and solutions across our various industries.

Thank you for participating in this conference call. And at this time, we'd like to open the call to questions.

Questions and Answers:

Operator

Thank you. (Operator Instructions) And our first question will come from the line of Larry Solow with CJS Securities. Your line is open.

Larry Solow -- CJS Securities -- Analyst

Great. Thanks and good afternoon. Just quickly on the Guatemala port contract, I was wondering, Deepak, if you can maybe give us -- help us quantify or at least give us some perspective on the size of that? I realize it's a fee-per-scan, but maybe just based on traffic in that port compared to Puerto Rico or something perhaps?

Deepak Chopra -- Chairman, President and Chief Executive Officer

Larry, this is Deepak here. We normally don't go into the details, but I think we can say that it's in the vicinity or smaller than the Puerto Rico contract. Alan, do you want to add something to it?

Alan Edrick -- Executive Vice President and Chief Financial Officer

Yeah, that would be correct. It's not as large as the Puerto Rico contract.

Larry Solow -- CJS Securities -- Analyst

Okay. And just to clarify, the integrated service contract you mentioned that's ramping this quarter in Asia, that's the one that you announced in August of 2017 if not mistaken, is that right?

Deepak Chopra -- Chairman, President and Chief Executive Officer

Just for your clarification, your question, I said the word Q4, not Q3. And it's in Asia and it's also similar size to the Guatemala contract.

Larry Solow -- CJS Securities -- Analyst

Okay, great. And then just as a global question, obviously, the border wall and border security has been obviously in the news a lot lately. And what are your thoughts on -- is potentially there's some alternative funding that's been mentioned or proposed, and that would be -- sounds like that would include a big uptick sort of insecurity and scanning stuff at borders. I got to imagine you guys are super well positioned with that helped by SCNI(ph)any thoughts on that?

Deepak Chopra -- Chairman, President and Chief Executive Officer

Well, you said it well, basically there's been a lot of press on the (technical difficulty) non-intrusive equipment at the border. (technical difficulty) we are very well positioned, CBP is a very good customer for us.

Larry Solow -- CJS Securities -- Analyst

Just switching gears real quick on the Healthcare side, I know it sounds like your -- certainly your cost cutting and exiting the less profitable or non-profitable business has helped out a lot. What about just topline growth? Do you think you can actually grow the patient monitoring business? It sounds like it's stabilizing. Do you see topline returning to growth in the back half the year or perhaps next year?

Deepak Chopra -- Chairman, President and Chief Executive Officer

The answer is yes again. You remember last conference call also said the word focus, focus, focus. We are very much focused on it, on the patient monitoring, cardiology, and supplies and accessories. U.S. is very much focusing that and started, and we look -- we feel good about it, that the second-half will be stronger and there'll be a topline growth.

Larry Solow -- CJS Securities -- Analyst

Okay. Great. Last question on Opto. Was there -- can you just give us to help us on -- was there some organic growth in there? I know you had the two acquisitions that helped a lot. How about organic growth? And then second part of that question, just on the operating margin side, again, reached record levels. Are these sustainable numbers? Is that being helped by integration of some of these acquisitions you've been doing or any thoughts on that would be great. Thanks.

Alan Edrick -- Executive Vice President and Chief Financial Officer

Larry, this is Alan. I'll take that. Yes, in addition to the acquisition-related growth, we did see organic growth most notably in our core Optoelectronics business, sensors and detectors, and some of the flex circuits. So we're really pleased with that. The operating margins, as you point out, were outstanding for the Opto division. There really were not any specific one-time items that necessarily contributed to that. So we believe that we should continue to see strong operating margins. Similar to Security, there were some favorable product mix within that as well, but it'll vary from period-to-period, we're quite happy with these margins.

Larry Solow -- CJS Securities -- Analyst

Okay. Great. Thanks, guys.

Operator

Thank you. Our next question comes from the line of Jeff Martin with ROTH Capital Partners. Your line is open.

Jeff Martin -- ROTH Capital Partners -- Analyst

Hi, Deepk; hi, Alan.

Alan Edrick -- Executive Vice President and Chief Financial Officer

Hi.

Deepak Chopra -- Chairman, President and Chief Executive Officer

Hi, Jeff.

Jeff Martin -- ROTH Capital Partners -- Analyst

Congratulations on a great quarter.

Deepak Chopra -- Chairman, President and Chief Executive Officer

Thank you.

Jeff Martin -- ROTH Capital Partners -- Analyst

Wanted to touch on potential impact of the government shutdown being the 34th day now if you're seeing anything impact the Security segment there?

Deepak Chopra -- Chairman, President and Chief Executive Officer

Well, we have had no impact of any kind at this moment. Obviously, we continue to cautiously look at it. We are such a broad-based company with so many different businesses all over that -- we don't see any impact, but we have to just be cautious to keep looking at it, keep watching it.

Jeff Martin -- ROTH Capital Partners -- Analyst

I would imagine, given the long lead time nature of that business, a shutdown for two months isn't going to really impact you that much, is that a safe assessment?

Deepak Chopra -- Chairman, President and Chief Executive Officer

That's the right way to say it. On the other hand, keep in mind that after that there are other -- you have to get a factory acceptance test, you have to work with the customer of some specifications, the sites has to be ready. So obviously if this thing lasts for a long time and there could be some delay, but we don't expect this to go on for too long.

Jeff Martin -- ROTH Capital Partners -- Analyst

Right. Okay. And then in terms of activity in the Middle East, if I recall correctly, the last time oil prices declined precipitously, there was some impact relatively short-term, but it did impact the -- just wondering if you're seeing that again this time around?

Deepak Chopra -- Chairman, President and Chief Executive Officer

Right now our activity remains very robust in Middle East. There is lot of activity there and I've said it in the previous calls. In the whole of Middle East, the asset protection is very important. So Security is something that doesn't suffer. So we continue to be excited about Middle East and all those -- in all that region.

Jeff Martin -- ROTH Capital Partners -- Analyst

Okay. And then, I was wondering if you could compare and contrast an integrated services contract versus a turnkey contract. I don't think we've ever done that on an earnings call. I figured it might be helpful to walk people through the similarities and differences of that.

Deepak Chopra -- Chairman, President and Chief Executive Officer

Very good question. (technical difficulty) and support and maintenance and every one of them can be considered a integrated. If it's a very broad-based like the Mexico contract and it has a lot more services associated with it, it can become a complete turnkey integrated. If all the services are not in one shot, but it comes in phases or in some cases there are services but not everything is included, it becomes an integrated. So it's a very loose way of saying it. All we're trying to teach and talk about it is, a turkey complete can have everything included including image analysis, training and everything else, an integrated can be -- it has some training in it, but doesn't have image analysis. It can have some broad-based connection with other equipment. So it's a little, what I call a hybrid kind of an approach. I hope my answer gives you some more clarity.

Jeff Martin -- ROTH Capital Partners -- Analyst

No, that's helpful. I appreciate it. Thank you, guys.

Operator

Thank you. And our next question comes from the line of Sheila Kahyaoglu with Jefferies. Your line is open.

Sheila Kahyaoglu -- Jefferies -- Analyst

Thanks and good afternoon. Deepak, just following up on the last point, how do we think about the business as a percentage of -- what services at the moment, how do we think about that evolving over time?

Deepak Chopra -- Chairman, President and Chief Executive Officer

Would you again repeat the question, Sheila?

Sheila Kahyaoglu -- Jefferies -- Analyst

Sure. Just -- the fee-per-service contract with Guatemala, what you're doing with Puerto Rico? You do have this service model that's quite unique. What percentage of the business is it within Security and how do we think about that evolving over time?

Alan Edrick -- Executive Vice President and Chief Financial Officer

Sheila, this is Alan. I'll take that. It represents under 20% of our Security revenues. So it's a nice amount and we hope it'll be a nice growing amount and expect it to grow further into the future. But right now it represents under 20% of our Security revenues.

Deepak Chopra -- Chairman, President and Chief Executive Officer

Sheila, just to add on to what Alan said, and again, little bit on what Jeff asked before, we've said it before, any sale of equipment and service over the years can still be changed over to an integrated services, any integrated services model with time can also become a full turnkey or vice versa. So these are all sort of blended in and we -- Alan has said it before, the integrated services and turnkeys has relatively more higher margin than an equipment sale. And it also has a longer term contracts, because you do lot of investment upfront for civil works and equipment and stuff. But like Alan said, it's about 20% right now and we continue to think that we will grow that.

Sheila Kahyaoglu -- Jefferies -- Analyst

Thank you. And is there -- just the Guatemala contract and the one port or are there other ports in the country and are there other opportunities in Central America, how should we think about that extension?

Deepak Chopra -- Chairman, President and Chief Executive Officer

There are opportunities all over the world.

Sheila Kahyaoglu -- Jefferies -- Analyst

Okay. And I think on just security profitability, it's been about a year since you've anniversaried Mexico. You've maintained your margins. Is this sort of a 14% level we should be thinking about as a baseline for Security going forward or 15% level; how do we think about that?

Alan Edrick -- Executive Vice President and Chief Financial Officer

Sheila, this is Alan. I'll take a shot at that. I would say our security management, our security team did an outstanding job filling the hole associated with the reduced revenues from the New Mexico contract, and as a result, the margins that we've been reporting have been very strong. We'll see some fluctuations from period to period in our operating margins based upon the product mix, the mix between product and service, as well as the geographic channels. So it's hard to say a particular amount is steady as we will see some volatility.

Sheila Kahyaoglu -- Jefferies -- Analyst

Okay. And then last one on the $450 million IDIQ in Healthcare, the patient monitoring systems with the DoD, was this a completely new win and are there other suppliers? How do we think about the past quarters coming in?

Well, basically, we have been doing business with the US military, Sheila. It's little bit more prevalent in the Security side of the business. Basically, it's a Indefinite-Delivery/Indefinite-Quantity kind of a order. It makes like your product has been accepted and is a valid product for various identities and hospitals in that defense broad -- to buy. If more than one company gets qualified, but those two, three companies that get qualified, they now can go and take it as a opportunity to -- we opened the doors to be able to go negotiate with each of the hospitals independently. There's no guarantee that you're going to get a specific hospital to do it, but it gives them the ability to go with you, because you're qualified.

Got it. Is the DoD a new customer for Healthcare?

Alan Edrick -- Executive Vice President and Chief Financial Officer

No, Sheila. We'd had the DoD as a customer in the past and we'd had an IDIQ with them in the past. And this is a new IDIQ for us. We've put resources over the last 12 months to 18 months on the government as we view that as as a growth opportunity for the division. And I think this IDIQ only serves to reinforce that.

Sheila Kahyaoglu -- Jefferies -- Analyst

Thank you. Thanks a lot.

Operator

Thank you. Our next question comes from the line of Josh Nichols with B. Riley FBR. Your line is open.

Josh Nichols -- B. Riley FBR -- Analyst

Yeah. Thanks for taking my question. I did want to ask -- a lot of strength at the Opto division, as well as the others. How much of those sales were internal to the other two divisions by the way if you have that number handy?

Alan Edrick -- Executive Vice President and Chief Financial Officer

Sure, we'll get to that number here in a second. The inter-company sales for Opto were down compared to -- on a year-over-year basis. So really the strength in the great growth in the Opto division came from third-party sales as inter-company were down. But let me give you that exact number here. Inter-company sales for the quarter were $9 million compared to $11 million last year. So external sales were up 19%, inter-company sales were down about 18% as we are rightsizing our inventory levels and improving our working capital management.

Josh Nichols -- B. Riley FBR -- Analyst

Great. Good to hear. And then, I did want to ask -- I know that this -- what the Company quantifies as -- services revenue took like a bit of a drop after being really stable in Q4 and Q1 and even Q3 of last year. Could you just provide a little bit of additional information on how we should be thinking about that or what the cause was?

Alan Edrick -- Executive Vice President and Chief Financial Officer

Sure, Josh. This is Alan. So the primary reason for the drop in the service revenue is just the year-over-year comps on the Mexico contract. The turnkey -- all turnkey revenues that we get go into service revenue and in Q2 of last year we were still operating under the old Mexico contract where in Q2 of this year we're operating under the new Mexico contract. So that was the primary driver of the decrease in service revenue.

Josh Nichols -- B. Riley FBR -- Analyst

And then, could you comment any -- I mean, a lot of companies have been talking about some trends that they're seeing in Europe and Asia, maybe a little bit of slowing. What are you seeing there? I know that there's been a big tailwind especially in Europe, but the checked baggage conversion cycle, any additional info you can provide regionally?

This is Deepak here. We've said it before that there is a finite deadline for the European airports, our business in RTT and we've announced it, has gone up and we continue to get more market share and Europe and Asia both are very much our focus primarily on growth in the checked baggage business.

Thanks, Deepak. That's it from me.

Operator

Thank you. (Operator Instructions) And our next question comes from the line of David Williams with Drexel Hamilton. Your line is open.

David Williams -- Drexel Hamilton -- Analyst

Thanks for the time and congrats on the quarter and the improved outlook. I want to kind of think about your bookings and the growth that you're seeing there. Can you talk a little bit about what's driving that? Is it more of new customer wins or share gains perhaps or maybe just improving penetration rates among your existing customers?

Deepak Chopra -- Chairman, President and Chief Executive Officer

This is Deepak here. I wouldn't make a general statement is all of the above. It's global, it's a very broad product -- customer base whether it's in ports and border crossings whether it's aviation checkpoint or it's at the checkpoint or it's embassies, it's all over. It's a broad base. And even the region-wise Asia is very strong for us, Europe has been strong, Middle East has been strong, U.S. has been strong, especially with the CBP and Latin America with the Panama airport and now this win in Guatemala. We look at it that the whole globe from us is our play field.

David Williams -- Drexel Hamilton -- Analyst

Great. And then if we kind of think about the OpEx, and what you're seeing as the increase in SG&A there, do you see that there may be some opportunities for some increased synergies and maybe what that incremental leverage could be as (inaudible) your revenue growth, how should we think about the total OpEx and the leverage that you could get from there?

Alan Edrick -- Executive Vice President and Chief Financial Officer

Sure. This is Alan. So we got to carefully manage our operating expenses, some of the growth that we've seen is to support the growth of the overall businesses. Some of it relates to the acquisitions that we did in which case we acquired some SG&A. So we'll continue to manage the SG&A very carefully and our goal is to always grow the SG&A at a lower rate than we grow revenues and thereby showing the operating margin expansion and the leverage effect that you mentioned.

David Williams -- Drexel Hamilton -- Analyst

Great. And then lastly on the -- I guess on the M&A front, are you seeing a lot of opportunities for some other activity there? And if so, what areas do you think there are holes that you could fill through M&A or some other activity in acquisitions?

Deepak Chopra -- Chairman, President and Chief Executive Officer

Well, this is Deepak here. Obviously, our position always has been -- we don't go into specifics, but it's pretty common knowledge, we've said it. We've been very active in the Optoelectronics business in what we call strategic acquisitions of increasing a product portfolio. And in the Security, we continue to look at where we can do this. We think that consolidation will continue, we want to be focused on it. And if we could also look at our product lines which are complementary to our Security business, we'll continue to look at it and we are not shy of it where it is in the world.

David Williams -- Drexel Hamilton -- Analyst

Thanks so much.

Operator

Thank you. And I'm showing no further questions at this time.

Deepak Chopra -- Chairman, President and Chief Executive Officer

Ladies and gentlemen, thanks once again for participating in our conference call. We look forward to the second-half and speaking with you at the next earnings call. Again, I want to thank all the employees and the support that all the stockholders have given us. Thank you very much.

Operator

Ladies and gentlemen, thank you for participating in today's conference. This does conclude the program and you may all disconnect. Everyone, have a great day.

Duration: 40 minutes

Call participants:

Alan Edrick -- Executive Vice President and Chief Financial Officer

Deepak Chopra -- Chairman, President and Chief Executive Officer

Larry Solow -- CJS Securities -- Analyst

Jeff Martin -- ROTH Capital Partners -- Analyst

Sheila Kahyaoglu -- Jefferies -- Analyst

Josh Nichols -- B. Riley FBR -- Analyst

David Williams -- Drexel Hamilton -- Analyst

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