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Edited Transcript of GVP earnings conference call or presentation 19-Nov-19 9:30pm GMT

Q3 2019 GSE Systems Inc Earnings Call

SYKESVILLE Nov 28, 2019 (Thomson StreetEvents) -- Edited Transcript of GSE Systems Inc earnings conference call or presentation Tuesday, November 19, 2019 at 9:30:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Emmett Anthony Pepe

GSE Systems, Inc. - CFO & Treasurer

* Kyle J. Loudermilk

GSE Systems, Inc. - President, CEO & Director

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Conference Call Participants

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* Benjamin Gallander

* Tate H. Sullivan

Maxim Group LLC, Research Division - Senior VP & Senior Industrials Analyst

* Kalle J. Ahl

The Equity Group, Inc. - VP

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Presentation

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Operator [1]

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Greetings. Welcome to GSE Systems, Inc. Third Quarter 2019 Financial Results Conference Call. (Operator Instructions) As a reminder, this conference is being recorded. It is now my pleasure to introduce your host, Kalle Ahl of The Equity Group. Thank you, Mr. Ahl, you may begin.

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Kalle J. Ahl, The Equity Group, Inc. - VP [2]

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Thank you, Sherry, and good afternoon, everyone. Thank you for joining us today. Before we begin, I would like to remind everyone that statements made during the course of this call may be considered forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 as amended and Section 21E of the Securities Act of 1934. These statements reflect current expectations concerning future events and results. Words such as expect, intend, believe, may, will, should, could, anticipate and similar expressions are words that are used to identify forward-looking statements. Their absence does not mean a statement is not forward-looking. These statements are not guarantees of future performance and are subject to risks and uncertainties and other important factors that could cause actual performance or achievements to be materially different from those projected.

For a full discussion of these risks, uncertainties and factors, you are encouraged to read GSE's documents on file with the Securities and Exchange Commission, including those set forth in periodic reports filed under the forward-looking statements and Risk Factors section. GSE does not intend to update or revise any forward-looking statements, whether as a result of new information, future events or otherwise.

On this call, management may refer to EBITDA, adjusted EBITDA, adjusted net income and adjusted EPS, which are not measures of financial performance under generally accepted accounting principles or GAAP.

Management believes that these non-GAAP figures, in addition to other GAAP measures, provide meaningful supplemental information regarding the company's operational performance. Management uses these non-GAAP measures to evaluate the performance of GSE's business and to make certain operating decisions, such as budgeting, planning, employee compensation and resource allocation. This information facilitates management's internal comparisons to GSE's historical operating results as well as the operating results of its competitors. Since management finds these measures useful, GSE believes that investors may benefit by evaluating both non-GAAP and GAAP results. Investors should recognize that these non-GAAP figures might not be comparable to similarly titled measures of other companies. These measures should be considered in addition to and not as a substitute for or superior to any measure of performance prepared in accordance with GAAP. A reconciliation of non-GAAP measures to their most directly comparable GAAP measures in accordance with SEC Regulation G can be found in the company's earnings release.

Now I'd like to turn the call over to Mr. Kyle Loudermilk, Chief Executive Officer of GSE Systems. Kyle, please go ahead.

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [3]

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Thank you, Kalle. And I'd like to welcome everyone to GSE Systems' Third Quarter 2019 Financial Results Conference Call. Joining me on today's call is Emmett Pepe, our Chief Financial Officer.

Earlier today, we issued a press release covering our third quarter 2019 financial results. Hopefully, you've had a chance to review this news release, but if not, a copy can be found on our website at www.gses.com under the News section.

We reported revenue of $20 million compared to $21.8 million in Q3 2018. Adjusted EBITDA was $1.4 million, down slightly from $1.6 million in the prior year quarter. These results, we feel, do not reflect GSE's full potential as we continue to be impacted by the previously disclosed termination of an Engineer of Choice contract with DP Engineering's largest customer and experienced a lull in industry activity in the nuclear industry training and consulting side of our business. As we wind down 2019, I believe we are approaching turning points in both fronts.

Regarding the first issue, we estimate that DP Engineering negatively impacted GSE's planned adjusted EBITDA to the tune of $2.5 million year-to-date and $0.8 million in the third quarter of 2019. We are positioning this business for neutral deposited contribution to GSE's overall EBITDA commencing in the fourth quarter of 2019. We've taken costs out of the DP's business and streamlined its structure to be profitable at a lower annual revenue run rate, which, near term, is expected to be approximately $6 million to $7 million. Despite DP setbacks earlier this year, the acquisition does strengthen GSE solutions toolkit with engineering design services. GSE is now intentionally positioned to offer the industry a unique portfolio of essential services to enhance operations with significant value-added capability. Our focus now is on realizing solid cross-selling and upselling synergies as we move forward. We will continue to drive profitability and performance and focus on winning contracts and bringing new products to market.

Regarding the current trough in NITC, demand for nuclear industry staffing and training services can ebb and flow around a favorable upslipping trend line. We know that a widening skills gap and aging workforce remain critical challenges in the industry in both near and short -- and long term. And I believe our talented white-collar professionals and superior training solutions are second to none. We've added key business development executives to NITC's team and are positioned to capitalize on the next upswing in bidding activity.

On that note, after quarter end, we announced a multiyear contract for operations, maintenance and technical training support for the nuclear fleet of a major U.S. utility. While we don't provide specific guidance, we see meaningful upside potential from current levels or positive optionality in our NITC business in 2020 as these types of opportunities come to the table. On the performance solutions side of our business, we are bidding on and winning a steady flow of meat-and-potatoes contracts. In 2019, we were not aware of any new full scope simulator projects, and that's reflected in the year-to-date results. While we don't know of any major full scope simulator opportunities, in the near term, the U.S. industry is aware of the value proposition of adding a dual reference simulator, and this remains a possibility. That said, our cross-selling efforts with True North are delivering great results. This is -- our data validation and reconciliation or DVR project successes continue to lead to new opportunities. This is also the case with our thermal performance studies, which are essential to the plant's optimal performance and generating more power from the existing plants. As our backlog results demonstrate, we are maintaining our baseline business, and we are actively building the backlog that burned off with our latest full scope simulator delivery. Our backlog currently stands at $54 million at the end of Q3, which is steady with Q2. This is a good base, which we intend to build.

While we experienced challenges during the first part of 2019, I think it is important to remember that GSE has been serving the highly complex needs of the power industry, particularly nuclear power, for more than 4 decades, and we are fortunate to be the leader in the market with extremely high barriers to entry. We provide essential services to blue-chip nuclear power customers. These companies are here to stay for many years to come, considering the undeniable merits of the baseload carbon-free energy they produce and the opportunity for continued service through capital investment that is modest compared to building a new power plant. We firmly believe that GSE is a far more valuable business today than what we started with 4 years ago when I joined the company. Firstly, as you know, the company has a thinly traded microcap, and the stock price is volatile. As such, we do not believe that the current spot market for the stock reflects true value. Secondly, we also believe that GSE's current share price does not reflect the inherent worth of our customers and the-difficult-to-replace assets, specialized employees, innovative technologies and unique solutions that we have put together under a single go-to-service provider platform for a highly demanding and high-barrier-to-entry market, nuclear power. I am highly confident in GSE's future and the value we will continue to create.

Following the purchases of Absolute Consulting, True North and DP Engineering over the last 2 years, we have made the decision to pause our acquisition strategy. Therefore, we withdrew our S3 shelf-registration statement in September as there were no immediate plans to raise capital through it. Today, our emphasis is on growing organically, streamlining operations, containing costs, maximizing cash flow and paying down debt. We will continue to drive profitability and performance, focusing on winning contracts and bringing new products to market. We expect that an emerging growth theme in GSE will center on the cross-selling and upselling of -- to our core blue-chip clients. We are already seeing signs this is exactly what our customers need and want. At the request of clients, we are now presenting the full capabilities to client management that has a broad perspective of strategic need. Our first task is for our master services agreement to simplify how a client can contract for any and all of our capabilities. The past 4 years of hard work and execution got us to this exciting juncture. We're working diligently to make sure 2020 will be an inflection point for our business. While presently, we are in a cleanup and digest mode and focused on organic growth, to be clear, we remain open to transformative M&A opportunities. Our view that GSE remains a highly valuable long-term acquisition platform has not changed yet. We also acknowledge that we are a public company and, therefore, for sale every day.

Returning to the third quarter, Performance Solutions segment orders totaled $10.7 million compared to $17.2 million in the prior year quarter. The year-over-year decline is primarily due to a Q3 2018 order, totaling $6.6 million for a full scope simulator in Slovakia that we are currently working on delivery. That said, we have had some great new business wins recently. In Q3, we received an extension for approximately $4.8 million for the continuation of support services into 2020 for 2 U.S. government engineering laboratories dedicated to support the U.S. Navy. Also, earlier in Q3, we issued a press release detailing an impressive $1.5 million order for our DVR solution from a major U.S. nuclear operating company.

In our NITC segment, Q3 orders totaled $8.3 million compared to $10.7 million in the prior year quarter. Much of the third quarter orders for the NIT (sic) [NITC] segment were a continuation of support services that we provide to existing U.S. nuclear companies. During Q3 and into -- excuse me, during Q2 and into Q3, we made targeted investments in NITC to enhance our business development efforts, adding 3 seasoned professionals with respective track records of success. We would expect to start realizing returning on these investments in Q4 and are keeping a keen eye on the business. We're optimistic that these targeted investments, combined with the rebound in nuclear industry demand for our staffing solutions, will lead to better results as we head into 2020.

Our backlog at the end of Q3 totaled approximately $53.7 million, consisting of $37.8 million of performance improvement backlog, $2.3 million of which was attributable to DP Engineering, $15.9 million of NITC backlog. Our total backlog was $54.9 million at June 30, 2019 and $70.4 million at the end of the prior year quarter. As mentioned previously, we believe that our current backlog level is sufficient to support our core business, and we are focusing on building and executing our business development strategy in both the performance and NITC segments to drive organic growth.

Looking ahead, we see signs for potentially significant medium-term CapEx cycle emerging in the nuclear industry, centered on trends, such as digitalization of nuclear power plant systems. We expect that the industry's move from analog to digital will accelerate, providing significant opportunities for us over the next 5 years. Additionally, we're already seeing clients in the industry drive towards vendor consolidation, demanding that fewer vendors provide a greater breadth and depth of expertise for them to achieve greater value added in a more efficient manner. We're well positioned to meet that emerging demand. An example and testament to our unique capabilities supporting the digitalization theme, the U.S. Department of Energy recently awarded GSE and the Idaho National Laboratory a grant to develop dynamic procedures and decision support solutions for advanced reactors. The grant is aims -- aimed towards developing and commercializing a system with the functionality to revolutionize operator and system efficiency as compared to existing paper-based processes. We bring our core competencies in simulation, software development and nuclear operations procedures to this collaboration with I&L.

In closing, let me reiterate that the longer-term fundamentals of our end markets remain solid, and the nuclear power industry continues to invest for safety, operational reliability, extension of plant life and performance improvement to generate more power from existing assets. As a leader in the vendor ecosystem serving nuclear, GSE is uniquely positioned to take advantage of these major trends in the industry.

I'll now turn over the call to Emmett Pepe, our CFO, who will review the third quarter results. Emmett, please go ahead.

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Emmett Anthony Pepe, GSE Systems, Inc. - CFO & Treasurer [4]

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Thank you, Kyle. Total revenue in Q3 '19 was $20 million compared to $21.8 million in Q3 of 2018, reflecting a $1.6 million increase in our Performance Improvement segment revenue, which was more than offset by a $3.3 million decrease in our NITC segment revenue. The increase in the Performance Improvement revenue was driven primarily by our acquisition of DP Engineering in Q1 2019, which contributed $1.9 million to this quarter's revenue, partially offset by a decrease of $300,000 in revenue in our legacy performance business.

The decline in NITC revenue was primarily due to lower staff augmentation needs from customers during the quarter. As Kyle touched on previously, we are excited about the new business development hires in this segment, and we are well positioned to deliver improved results in 2020.

Gross profit in Q3 2019 totaled $4.7 million compared to $5.3 million in Q3 2018. Performance improvement gross profit declined by approximately $90,000 to $3.5 million. NITC gross profit decreased approximately $700,000 year-over-year to $1.1 million, driven by the year-over-year revenue decline of $3.3 million.

SG&A expenses totaled $3.5 million in the quarter. Below the comparable figure of $4.4 million in Q3 2018, primarily driven by reduced costs due to incentive plans driven by company results. Also, as we mentioned in our previous earnings call, we performed an updated impairment analysis on DP in the performance reporting segment, and no additional impairment was needed.

Operating loss equaled approximately $260,000 in Q3 of '19 compared to an operating loss of $26,000 in Q3 2018. The increase in year-over-year operating loss is driven by $740,000 in restructuring costs related to the changes in the executive leadership team and the rightsizing of DP Engineering. As Kyle mentioned previously, we spent time evaluating the DP business after the significant contract loss and implemented necessary changes to reach approximately breakeven in Q4 '19. We eliminated fixed costs where possible, for example, terminating 2 facility leases in Q3, and are evaluating our options for the remaining unused space in Fort Worth. We will closely monitor DP and continue to optimize the business.

Non-GAAP adjusted EBITDA as defined in our earnings release, totaled approximately $1.4 million in Q3 2019, which includes a $200,000 loss from DP, compared to approximately $1.6 million in Q3 2018. We concluded Q3 2019 with a cash position of $8.6 million and total debt of $19.7 million, which decreased by $1.2 million compared to the end of Q2 2019, reflecting debt payments we made during the quarter.

Finally, we are evaluating opportunities to sublet unused office space in Sykesville, Maryland in addition to the Fort Worth space mentioned previously. If successful, these changes could improve our cash flow and support our goal of further debt paydown. If we're unable to find suitable subtenants, we will evaluate additional options.

I'll now turn the conversation back to Kyle.

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [5]

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All right, Emmett. Thanks very much. Operator, please open the floor for questions.

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Questions and Answers

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Operator [1]

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(Operator Instructions) Our first question is from Tate Sullivan with Maxim Group.

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Tate H. Sullivan, Maxim Group LLC, Research Division - Senior VP & Senior Industrials Analyst [2]

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Emmett, sorry, I missed that last comment. Was that about your credit facility? And can you just repeat what you said about evaluating options on that?

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Emmett Anthony Pepe, GSE Systems, Inc. - CFO & Treasurer [3]

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Oh, that's -- no, the -- our office space. We're evaluating subleasing. And if we're unsuccessful in the subleasing, we'll look at other options to -- what to do with that space.

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Tate H. Sullivan, Maxim Group LLC, Research Division - Senior VP & Senior Industrials Analyst [4]

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Oh, okay. And then, Kyle, going -- when you said -- mentioned earlier, streamlining operations, I mean, are divestments on the table?

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [5]

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Currently, we're not considering that, Tate. We've taken pretty deliberate action that put together a really neat portfolio of unique services that are in demand by the nuclear power industry. So I think that kind of frames our strategy.

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Tate H. Sullivan, Maxim Group LLC, Research Division - Senior VP & Senior Industrials Analyst [6]

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Okay. And then the weakness in staffing, and it seems to be -- I mean, the staffing moves in a different cadence than your other offerings in general. And why is that?

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [7]

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Yes, it's a good question. I guess, qualitatively, Tate, each one of our lines of business is not perfectly in sync from any type of cyclicality budgeting cycles, annual cycles. They seem to be mostly independent from one another, with the training, not an exception to that, but that's qualitative. With that said, with NITC, they have had peaks and troughs. And year-over-year, at this point last year, we had a very significant contract, which was in-flight successfully to get through a specific project with a client, which came to its natural termination at the end of 2018. So we are, from a year-over-year comparison, affected by that as well as the fact that there is a bit of softness in that line of business that we're working to get out of.

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Tate H. Sullivan, Maxim Group LLC, Research Division - Senior VP & Senior Industrials Analyst [8]

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Okay. And last one for me, too. In the press release, I just noticed, and you talked about the contract win and it referred to operating and maintenance work. Can you remind me what -- is that related to 1 of your 3 acquisitions? Or what is that for the large client?

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [9]

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Oh, that's NITC. So that's NITC, specifically Hyperspring with a blend of services there. So even that was very, very encouraging to see.

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Tate H. Sullivan, Maxim Group LLC, Research Division - Senior VP & Senior Industrials Analyst [10]

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The operating and maintenance component of that, it's not...

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [11]

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Yes, the fact that, that is specifically an NITC win.

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Operator [12]

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(Operator Instructions) Our next question is from Benj Gallander with Contra the Heard Investment Letter.

Benj, please check and see if you have your line muted.

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Benjamin Gallander, [13]

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Hello?

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [14]

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Yes, we can hear you now.

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Benjamin Gallander, [15]

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Great. Yes, I've been a long time shareholder, and I appreciate your work. You've taken over 3 companies. You're pausing, would make sense, given the debt. I guess, I've heard some rumors, and I was wondering about the strategic alternatives and the companies that are approaching you in actually selling GSE because, let's face it, the results haven't been great. They've gotten worse. And what do you think about just looking at the alternatives and selling the company?

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [16]

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Well, I think we've shared what we could share, which is we're focusing on operating the business. We have kept our backlog steady now for 2 quarters, which is a good sign. We are seeing some really neat signals from our customer market about what they need from us, and we're going to focus on that. To reiterate, and you mentioned it, we have put us pause in our acquisition strategy. We have a really neat assembly of assets and capabilities, and we're going to focus on cross-selling and upselling, and we're already seeing some neat traction in that. Customers are specifically asking for broader contract proposals that cover the whole bowl of eggs, not just 1 piece or part. So it's really good news, and we're focused on that. We stated in this call, we're a public company. We're for sale every day, Benjamin. Other than that, we have really nothing more to say on the matter than what we've said.

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Benjamin Gallander, [17]

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Right. As I think you know, I wrote an article about you guys for Canada's national newspaper, The Globe and Mail. I also write an investment letter, Contra the Heard Investment Letter, 10-year annualized returns, 21.3%. GSE's been a big drag for us, unfortunately. I think rather than just perhaps waiting for the offers, maybe you guys should say we want to look at strategic alternatives. I think it's a good company. I think you've done a lot of good work. But I think the real value for shareholders would be in selling the company at this point.

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [18]

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Well, I appreciate the perspective, Benjamin.

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Operator [19]

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And that concludes our question-and-answer session. I would like to turn the conference back over to Kyle for closing remarks.

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Kyle J. Loudermilk, GSE Systems, Inc. - President, CEO & Director [20]

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Well, look, I'd like to thank everybody for joining us today. We really -- we've worked really hard to get to this point, have a good future, and are excited by what we're seeing and remain confident in where we're headed. So with that said, again, thanks, everyone for joining us, and we appreciate your time and interest in GSE.

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Operator [21]

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This concludes today's conference. You may disconnect your lines at this time, and thank you for your participation.