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Edited Transcript of KER.WA earnings conference call or presentation 28-Feb-20 2:00pm GMT

Half Year 2020 Kernel Holding SA Earnings Call

Kiev Mar 14, 2020 (Thomson StreetEvents) -- Edited Transcript of Kernel Holding SA earnings conference call or presentation Friday, February 28, 2020 at 2:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Anastasiia Usachova Ivanovna

Kernel Holding S.A. - CFO & Executive Director

* Andrii Verevskyi

Kernel Holding S.A. - Founder & Chairman of the Board

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Conference Call Participants

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* Dilawer Farazi;Loomis, Sayles & Company;Analyst

* Jakub Szkopek

Biuro maklerskie mBanku SA, Research Division - Analyst

* Janna Anikina;BCP Securities;Analyst

* Marcin Nowak

IPOPEMA Securities S.A., Research Division - Analyst

* Nikolay Menteshashvili

Insight Investment Management Limited - Credit Analyst

* Pawel Wieprzowski

Wood & Company Financial Services, a.s., Research Division - Research Associate

* Richard P. Dalton

Westwood Group Inc - CEO, President, Principal Financial Officer, Assistant Secretary & Director

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Presentation

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Pawel Wieprzowski, Wood & Company Financial Services, a.s., Research Division - Research Associate [1]

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Good afternoon. My name is Pawel Wieprzowski. On behalf of Wood & Company, I would like to warmly welcome you at Kernel's Second Quarter Results Conference Call. The company is represented by Andrii Verevskyi, Chairman; Anastasiia Usachova, CFO; and Yuriy Kovalchuk, Corporate Investment Director. Now I would like to pass the floor to the management.

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [2]

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Thank you very much. Good day, everyone, and thank you for joining us today. Today, we present to you Kernel financial results for the 3 months ended in December 2019, which is the second quarter for us for our financial year 2020.

Group revenue over the reporting period stood at

$1 billion; EBITDA, $109 million; and the net profit is $41 million. As usual, I'll take you briefly through segments. First, the Oilseeds Processing segment, we generated $39 million EBITDA in second quarter, flat compared year-to-year. Sales were down 9% to 346,000. Margins improved by 9% to $113 per ton of oil. Generally driven by higher sunflower seeds oil prices in the first half of the season compared to the previous season and a strong domestic supply of the sunflower seeds after the record harvest in 2019.

Outlook for Oilseeds Processing business in current year remains optimistic. Ukraine harvested 16.2 million, 1 million added compared to the previous season. Strong supply, we plan to crash 3.3 million tons of the sun seeds during this season, and we already done more than half of this. And pricing for the -- during the first 6 months was also supportive, and we're looking forward to the final -- to finalize the current season, and we believe that the margin should stay around $85 per ton of oil. In December '19, we completed the acquisition of the Oilseeds Processing plant Ellada, 274,000 tons of the sun seeds. We operated this plant since 2016 under the tolling agreement. Infrastructure and Trading segment is flagship segment for the season, largest contributor to the group EBITDA. We got $61 million for the second quarter, up 50% year-to-year. Infrastructure operations, silos, export terminals, grain railway cars demonstrated solid performance in the reporting period. Flat margins, increased volume, substantially savings from own railway car business as well. So additionally, trading business are very secured close to $15 million EBITDA in the second quarter.

Outlook for Infrastructure and Trading segment remains unchanged. We targeted export 8 million tons, 7 million for our transshipment facility. Market fundamentals in Ukraine remain strong as well. Ukraine delivered a record harvest, 73 million. And our investments for -- at the terminal and the new railway fleet helped to strongly contribute to the segment. Profitability wise, we expect healthy infrastructure margins and moderate the grain trading margins.

Farming. Farming business remained challenging this season. Segment EBITDA in the first half of 2020, $77 million, including $21 million effect from IFRS 16 implementation. Full year results, we see on the level of $85 million. This is net of IFRS 16, which is down from $100 million guided previously in November '19. Mainly the guidance was missed, resulting stronger currency appreciation than we initially expected in November. The weak financial performance of Farming segment shall be fully compensated by strong performance of our Oilseeds Processing and Infrastructure Trading business lines. And we estimated financial year, full year EBITDA pretty much compared to the previous year results.

This year, our main focus remains for execution for our investments program. All in all, we expect $325 million of CapEx for the full financial year 2020. This includes $300 million, which we originally guided and purchasing of Ellada crushing plant. And next year, financial year 2021, our CapEx plan is $186 million, slightly higher due to the extra investments in the port facilities and green energy project. This is pretty much everything what I would like to say, we are ready for your questions. Please go ahead.

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Questions and Answers

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Operator [1]

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(Operator Instructions)

The first question is from Nikolay Menteshashvili, Insight Investment.

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Nikolay Menteshashvili, Insight Investment Management Limited - Credit Analyst [2]

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Just a couple of questions from my side. First of all, with a higher net leverage seen in second quarter. I know your covenants are tested in the end of financial year. Do you expect any problems with that or need to renegotiate them? Secondly, I wanted to ask on the litigation you have regarding Star Link case. I think some of the Swiss assets were frozen or at least there were reports around that. Could you clarify a bit, what's the effect on the operations? What's the potential litigation payments that you may have to pay? And finally, on the financial statements, I think there's a qualified opinion included by the auditors around this quarterly statement. Could you clarify that? What's the reason? And -- yes, basically. If it can be avoided in next one?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [3]

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Yes. Thank you very much. Nikolay, first question, Anastasiia will comment on the leverage.

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Anastasiia Usachova Ivanovna, Kernel Holding S.A. - CFO & Executive Director [4]

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Yes, thank you. You're right, the leverage went up is actually expected by midyear. There is no need to change anything in our covenants. We already revised them prior IFRS 16 implementation. So they're in line with our expectations, and we don't have any risk in terms of our covenants.

I can also comment on our situation with hedging accounting. As we mentioned in the notes on the Page 27, this is the first time when we acquired the hedge accounting. You see that we increased significantly the level of our inventories in order to hedge the price risk, we entered into some contracts. The hedge was effective. But at the moment, when we entered into those contracts, we didn't have the full set of documentation. We still believe that's our responsibilities to actually report a fair financial statements as we see them. And we are going to actually apply hedge accountant in the future. And now Andrii will comment on...

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [5]

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Yes. On the Star Link case, unfortunately, we can't disclose much details. As you know, we reserve the amount of the payments in our accounts. And we don't see any disruption of our business or normal activity or transactions. And I think the effect will be within the numbers we reserved in our books. So I guess, it's all normal course. Nothing is materially changed at the moment. And the qualification, yes?

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Operator [6]

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And we will move on to the next question. It is from Richard Dalton with Westwood International Advisors.

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Richard P. Dalton, Westwood Group Inc - CEO, President, Principal Financial Officer, Assistant Secretary & Director [7]

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Can we get an update on land reform and the number of hectares that you expect to be purchasing going forward? I know the laws have been -- or the drafts of the law has been changing drastically, whether you're being treated as a foreign entity or not, and this is impacting what that purchase program could look like going forward. Can you bring us up-to-date on where the current draft of the law are, please, and what's going on?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [8]

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Yes. The current draft and obviously, it hasn't passed yet, and we don't know what will be the final outcome. But as of draft today, yes, we are treated as the foreigner company, which directly not allowed to buy land. But we're pretty sure that there is an existing structure, which we will be able to participate in the market, so we don't see the big risks on that. In terms of how much land, we're going to buy or we would have to buy. This is quite difficult to say. Obviously, maybe the state land will be on the sale as a first stage. This is around 10% of our land bank. We already discussed this many times during the phone -- conference call. We also believe that some part of the -- our owners would be willing to sell at the first wave, but we also don't believe it's going to be big, maybe up to 10% as well, not more than that. So let's say, assuming 20% overall, that would be the amount of the land, I would say, in the pipeline within next -- I don't know, it depends when they will -- the law will pass plus that they would have to vote for some package deals for regulation as well. I would look in maybe 20, 24 months from now.

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Operator [9]

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The next question is from Dilawer Farazi, Loomis Sayles

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Dilawer Farazi;Loomis, Sayles & Company;Analyst, [10]

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Just following up on a few of the points you already raised. The hedge accounting issue, I didn't fully understand, I couldn't really hear it properly what the issue was? Was it because you've done some hedging and all the contracts weren't there or something? What would be your answer to that?

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Anastasiia Usachova Ivanovna, Kernel Holding S.A. - CFO & Executive Director [11]

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Yes. We did some -- we entered into some contracts to hedge actually the price for sun oil to lock in margins for future production. The hedge is and was effective, but the recommendation, which we put in place, was not at the Deloitte satisfaction. So that's the reason of qualification.

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Dilawer Farazi;Loomis, Sayles & Company;Analyst, [12]

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Right. The other question on cost, also just to clarify. You mentioned that the whole being treated as a foreign entity wouldn't necessarily impact land purchases because of existing structures. What do you mean by that? How does that work? Is that -- is there some kind of exemption? Or have you got some guidance in the government that you're exempt in some way?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [13]

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Now the Kernel itself, as a legal entity, won't be able to buy directly, according to the law. But there is also different legal structures, which allowed us to do it, and we will be able to sign the long lease with the Kernel afterwards with many legal structures, which obviously creates some technical difficulties, not as straightforward, which we would like to see, of course, but it doesn't prevent us to be a part of the market.

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Operator [14]

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The next question is from Marcin Nowak, IPOPEMA Securities.

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Marcin Nowak, IPOPEMA Securities S.A., Research Division - Analyst [15]

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I would like to ask whether do you see currently any difficulties in grain or oil exports from Black Sea, given the current problems with coronavirus as well?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [16]

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Obviously, this situation is pretty fresh because the panic was yesterday, today. And soft commodity, I guess, holding okay relatively to the energy and the equities, not everything but definitely also having the hit. At the moment, we don't see the big disruption or any big demand dropping, particularly from China or Asia or India for oil and grain. Obviously, a little bit nervous situation, but we believe that should not be a big disruption or problems. I mean, food consumption should, more or less, continue. I mean I'm having difficulty to imagine what should happen that China would be substantially dropped with purchasing of the protein and corn and another product. Might be for some period of time, a bit slowed down, but we don't see, at the moment, a big drop or any big disruption. Once again, situation is pretty fresh. Let's see how it's going to go. Yes.

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Marcin Nowak, IPOPEMA Securities S.A., Research Division - Analyst [17]

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Okay. And from logistics side, is there sufficient amount of logistics services available for exporting, or do you see any problems with that?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [18]

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At the moment, no disruption. Everything is normal.

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Operator [19]

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(Operator Instructions)

And the next question is from Jakub Szkopek, GAM Bank (sic) [mBanku].

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Jakub Szkopek, Biuro maklerskie mBanku SA, Research Division - Analyst [20]

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I've got a few questions, in fact. If you could confirm, last time you had an outlook for EBITDA this year that it will be flat in net of IFRS. And right now, you downgrade this EBITDA in the Farming segment, it's still flat net of IFRS for 2020?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [21]

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Yes.

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Jakub Szkopek, Biuro maklerskie mBanku SA, Research Division - Analyst [22]

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Okay. The other question is about the VAT reimbursement. Because last quarter, this amount that you will reimburse, it grew quite significantly. Could you comment on that? What happened, in fact, there is any problem with the reimbursement of VAT right now for -- on reoccurring?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [23]

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We don't have any problems with the reimbursement. I think everything more or less okay, but Anastasiia, maybe you give us some detail?

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Anastasiia Usachova Ivanovna, Kernel Holding S.A. - CFO & Executive Director [24]

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Yes. The amount of VAT on our accounts and also VAT reimbursed, it depends on the level of our inventories. As you can see, we were actively buying during the 6 months of operation, and that's the reason why level of received -- refunded VAT by the

state increased.

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Jakub Szkopek, Biuro maklerskie mBanku SA, Research Division - Analyst [25]

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Okay. One more question about the Taman. Do you have any news about the Taman, about this negotiation to sell this kind -- this asset?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [26]

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Not at the moment. But once we have anything to announce, we obviously will do it, but not at the moment.

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Jakub Szkopek, Biuro maklerskie mBanku SA, Research Division - Analyst [27]

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Okay. And the last question about the vegetable oil pricing because they dropped last month quite significantly on the market. Could you comment on that? And do you see any threats for the margin -- for the crushing margin for the following months because of that?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [28]

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Obviously, the sentiment did change a little bit in the world. At the moment, the whole oil complex is slightly under pressure. And the margins in the third and fourth quarter will be lower, but we still believe that we would be able to deliver 85% average margin for the whole season.

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Operator [29]

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The next question is from [Costa Simantovich].

Okay. Then we will move on to the next question. It is a follow-up question from Richard Dalton.

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Richard P. Dalton, Westwood Group Inc - CEO, President, Principal Financial Officer, Assistant Secretary & Director [30]

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I'd like to again confirm the guidance for Farming for 2020. I believe, in response to a previous gentleman, you said in line year-over-year. But I thought last year was $182 million, and I thought you brought -- I thought I heard you say earlier, you're taking it down from $100 million to $85 million based on FX and domestic costs. So I'm a little bit unclear on what the Farming EBITDA target is for the full year? Could you reiterate that for us, please?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [31]

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Yes, of course. I think it was maybe a little bit misunderstanding. The previous gentleman was asked the -- regarding the whole company EBITDA, the level consolidated to the -- in the financial year 2020. And obviously, Farming, it's a bit of different story. So we forecast $85 million EBITDA contribution from Farming net of IFRS 16. This is down from our previous guidance of $100 million, as I explained already during the currency appreciation effect.

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Richard P. Dalton, Westwood Group Inc - CEO, President, Principal Financial Officer, Assistant Secretary & Director [32]

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Currency appreciation, yes, and I think you talked about in the past how domestic Ukrainian costs are going up. Can I ask about what's the U.S. dollar hryvnia rate that you are using, that you were assuming for that $85 million, please?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [33]

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We're using around UAH 25, just below, like -- yes, UAH 25.

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Operator [34]

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The next question is from Janna Anikina, BCP Securities.

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Janna Anikina;BCP Securities;Analyst, [35]

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The connection was not great. Could you please repeat your 2020 CapEx guidance? And second question is noting that pretty high cash burn, and it seems like working capital expanded notably. I know previously, you said that there will be capital release in -- after February 2020. Is this still the case? And kind of like what impacted such -- the cash burn this quarter?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [36]

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Yes. Thank you very much. So once again, CapEx, current year 2020, $325 million, but that's including purchasing of the crushing plant we recently finalized. And the next year, $186 million. That's a pure CapEx. And for the...

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Janna Anikina;BCP Securities;Analyst, [37]

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I'm sorry, $86 million of maintenance CapEx?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [38]

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Yes, that's including maintenance as well -- maintenance CapEx as well. That's all in. $186 million.

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Janna Anikina;BCP Securities;Analyst, [39]

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$186 million for 2021? Yes

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [40]

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Yes, exactly. Including maintenance CapEx.

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Janna Anikina;BCP Securities;Analyst, [41]

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And about working capital?

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [42]

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Yes. Anastasiia?

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Anastasiia Usachova Ivanovna, Kernel Holding S.A. - CFO & Executive Director [43]

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Yes. Your understanding is correct. We expect to leave the working capital in the third and the fourth quarter from our crushing business and grain business, while Farming will consume part of the working capital. So that's the normal cycle of working capital in the company.

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Janna Anikina;BCP Securities;Analyst, [44]

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So I'm just understanding that you're saying that the current quarter, we're just discussing and the previous quarter, usually, intend heavy use of working capital, and you expect the next 2 quarters would be some capital releases, is that correct?

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Anastasiia Usachova Ivanovna, Kernel Holding S.A. - CFO & Executive Director [45]

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Absolutely. Absolutely, as always.

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Operator [46]

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So there are no further questions, I would like to hand back to the speakers for some closing remarks.

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Andrii Verevskyi, Kernel Holding S.A. - Founder & Chairman of the Board [47]

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If there's no more questions, thank you very much. As usual, we stay in touch, if you have any additional questions, please contact us. Thank you very much. Bye-bye.

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Operator [48]

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Ladies and gentlemen, thank you for your attendance. This call has been concluded. You may disconnect.