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Edited Transcript of SRV.AX earnings conference call or presentation 27-Aug-19 6:30am GMT

Full Year 2019 Servcorp Ltd Earnings Call

Sydney, NSW Sep 20, 2019 (Thomson StreetEvents) -- Edited Transcript of Servcorp Ltd earnings conference call or presentation Tuesday, August 27, 2019 at 6:30:00am GMT

TEXT version of Transcript

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Corporate Participants

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* Alfred George Moufarrige

Servcorp Limited - Founder, CEO, MD & Executive Director

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Presentation

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [1]

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I guess it's me. I guess not. For you?

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Unidentified Company Representative, [2]

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No. No, it's you.

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [3]

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Me.

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Unidentified Company Representative, [4]

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Question, 2 questions from the shareholder for when -- after you've done your talk.

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [5]

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Question to start with. Am I thinking about exiting the U.S.? Good day. Mark, how are you? No, I'm not. That's very simple. And do I think we'll expand in Europe? That's possible. I mean our expansion in Germany was successful. But the new locations that we opened, which were Germany, new one in Osaka, one in Tokyo, and a big one in Saudi have all been highly successful. All of those, of course, are on or ahead of budget. And while they may have lost about the amount we estimated, that will be the profit long before I would have thought possible.

I thought I might -- because I watch the other people in this industry, and a lot of things amaze me. Hindsight, you normally look back and you think, "Christ, why did I do that?" But I looked at Servcorp today, and this is my talk. And it was interesting to think that we'd paid $282 million in dividends, and we've only ever taken from the market $120 million in our total history. And I looked at that, and I looked at Regus, and I looked at WeWork where between them, they've taken close to $3 billion off the table. And over that 20 years, Servcorp's never missed a dividend. I've only ever bought shares. So in the listing, I was issued with 42 million shares. I have now got 48 million. And I'm not sorry. And we got to a point where we had $120 million in the bank, and I used to come to these meetings and the question should be, "Why don't you give more back to shareholders? Why don't you give more back to shareholders? Why don't buy stock back? Why don't you?" And what I said at the time was the opportunities will arise, and we may need the cash because I have a view that whenever you want cash, nobody wants to give it to you. And when you don't need it, everybody wants to give it to you. And so I took the view that we had a lot of leasehold space, that we should hold the cash. And 2 years ago, we decided to stop expanding: one, because I wasn't so sure about the economy; and two, because there was this massive growth in people going into the shared workspace environment.

The thing that amazed me is that not only do they educate the market, but the market grew faster than the people opened space. We didn't go to the market and asked for money because our current shareholders, in my view, other than me, probably wouldn't have given it to us. We didn't go to the banks because that would have loaded Servcorp with debt, and it already had the liability of all of its leases. And so we decided what was happening in the market. And then we made over 89 floors at a cost of close to $60 million with all the floors we built. And we did it out of our own resources, and we did it in 18 months.

During that time, I listened to the shareholders say, "Well, Servcorp will never survive." And I watched the share price drop from $8 to $2.60-odd. And I just was amazed at how little shareholders knew about Servcorp. I was. I mean do you ever look at it? We have got 60,000 guys, clients that pay rent every single month. On a per-location basis, our coworking clients and virtual clients pay more of our rent than any other operator in the business. Everybody else is running uphill to get a critical mass. The competitors are where we were 20 years ago. And 20 years ago, the biggest single complaint was nobody to answer the phone. If you ring, what happens is you get a bloody call center or you get press 1 to go to marketing, press 2, blah, blah, blah. We spent AUD 400,000 of floor to put switchboards in that have decks, can bank [6] calls, can do voice to e-mail. And we put in all of the infrastructure not because we wanted to make a fast buck by charging double the rent for co-working space, but because we were driven by what small businesses wanted to compete in the digital age. So we put all the infrastructure in.

And so there's a global network, and we're the only guys in the business that have spent $100 million putting our network in. It's in the sky. It's happened over the last 25 years. And there are -- and then scale, so sure, we got 5,800 offices, but we got enough room for 200,000 co-working clients in the cloud. We put the infrastructure in. It's scalable. We've got a business that actually gives service. And I might say that when I look at the rest of the businesses, some worthy like a WeWork who spends over USD 3 million a day on paid marketing, and we spend about $1.5 million a month. But that's -- theirs is US, ours is Aussie. But anyway, be that as it may, we spend more on our IT solutions and putting in infrastructure than we do on marketing.

So I look at Servcorp and go, "Man, everybody was scared, and so was I, a little, because fear is a bit contagious." So I looked at all the faces last year at the Annual General Meeting and thought, "(expletive), this is just a bloody disaster." And everybody thought we're going to die. And I knew that I have to hold the company when Mark Dixon rang, and it was about -- he is the guy that owns IWG, and the shares were about $2.80. And he said, "You've got to put these 2 companies together, blah, blah." And I'm like, "ugh."

Anyway, so where is Servcorp now? It -- there is never a guarantee at a corporation, no matter how big it is, is going to survive. But if I have a look at Servcorp, never missed a dividend. It's just had a record revenue, 6 months. Its occupancy is back to about -- and I don't care if its occupancy only goes up another 2%, it's about 73%. It's got $80 million in the bank. And it still got about 40 floors that we will need to make over. I thought we'd made over 100. We made over 90. And I'm in a reasonably comfortable position, I think. And if you look at the ransom note here, (inaudible) there it is, there. The only reason I put that up is that not even our own people could understand the difference between Servcorp and everybody else in this field. We could go big with all our clients, while, not in some way, charge double for the rate, and then [cover up the client point], which is what we're doing or just trying to do, and part of that will come to [terms] given a bit of time. So our receptionist will answer your call. I was trying to put a switchboard on our receptionist together so that you can bank the calls. You can do all the things that you need to do to serve the people in the industry, and so that if they got a voicemail at night, it cost them about 400,000. But if we were providing Servcorp, there will be 170 less receptionists. I'll tell you to go back, too. We run 12 per 100 offices. [We are where we need to be now]. It's about 3.5 per 100 offices.

And if you want to build a business, if you want to stay a one-man business forever, you never delegate anything. You do everything yourself. So you wash the car and I do nothing. My garden is probably the best garden in Sydney. It is. I would have no idea where the toolshed is. There's got to be one somewhere, one guesses. I have got no idea. I thought the bloody dishwasher was the washing machine. I still have no idea. It all disappears because you've got to delegate. You've got to give some of the work away. So we've got the secretaries to do the work. You can dial star 1 on any one of these phones, and you'll get an IT guy, whereas nobody runs these sort of guys. Nobody in this industry does. And you've just got the receptionist [to take].

Now the community. We've got 60,000 members of the community. They can actually contact each other by phone, and we put together a directory and all of that. So it sort of works. I want to say that it's foolproof, but it sort of works. And secure (inaudible) unique password. Let's have a look at WeWork. This was an article that came out this week, which my Chairman insisted before I show this, I get a legal opinion. I'm like the (inaudible). WeWork's laughable, weak WiFi password is downright dangerous. Look, and I said it to every one of the Servcorp people and said, "We don't have competition." Those guys have 4 square meters of space per client. We have 11. There's a massive difference because we have the ability to answer people's phones so that they can actually work from home or work remotely. And so then on the virtual side, the average client uses about 6 hours a month of space. A co-working client uses 30 to 40 hours a month per space. We run an average of 11 square meters per client. But the -- and so all of these guys have done is taken -- emptied Starbucks, not really, but everybody can work remotely now. And so they've given the space to work remotely, but they've just changed from one area to another. They're still going to do everything because they haven't been driven to change the infrastructure.

And the other thing that amazes me is it seems that a lot of people in this industry don't think that anybody above 30 needs to make a living. I'm finding that the bad debt ratio of the millenniums is a hell of a lot higher than the guys that are 30 and above that are starting to run their own business. And so I see this as an unbelievable opportunity. Now it took a while for us to recognize how to change these floors.

I'll just keep going. So scroll up. Let's have a look at WeWork. If you want to have a look at our web page, all of this is on it. Receptionist, don't have one. International number portability, don't have it. Free calls to any outside destination, without its clients, we can't free call. Dial 1 for IT help, no. Six incoming calls and voicemail, team to delegate to, printing and scanning available from every desk, take that out (inaudible) most of their locations. And I was told by my Chairman not to touch it. (inaudible). Hot desk, worldwide location [is leather]. (inaudible) This is wrong, whoever has got this. Who's doing this? I can't see it. Laura, get rid of it. Well, because somebody [stopped but now put in]. But six incoming lines now access to (inaudible) they've got WeWork. (inaudible) It goes on.

The fact is that there are masses of infrastructure differences between Servcorp and anybody else in the business. That doesn't mean that we will outsell them because we don't. I still think that they outsell us close to 10 to 1. But I don't think they've yet worked up, that the churn rate is going to be 60%. And if you don't have these sort of services, we think the churn rate is going to be closer to 75%. And if you give the services and expectation and reality when the client turns up the same, then your churn rate drops to around 55%. And there's a lot of difference between 75% and 55%.

So we're projecting above $65 million in free cash flow pre-tax next year. And I don't think I did very much. I just steadied the ship. I think that all of the hard work to make Servcorp successful was done. I just don't think that we or our teams recognize -- can somebody get rid of that thing, please? Kill it. So we'll go back to talk about WiFi. May see the small thing, and everybody thinks that WiFi is free, but the boys here can happily put you on our unique password WiFi, which is encrypted, secure, rocket-fast. And WeWork has the same -- for years, WeWork, the same WiFi number globally -- sorry, password globally. And the security is pretty lax as that first sign says. As I said, wasn't written by us. But it isn't just WeWork. It's right across the industry. What's happening in the industry is there's almost a race to the bottom. And I think that clients slowly but surely, 1 in 3 of our clients now comes from a co-working, I won't call them competitor, another co-working location. That's just a fact.

So what's happened is they've created this massive market. And we always said, "Well, we've gone from being a big player in a little market to a niche player in a mass market." I actually think we'll probably stay at #3 or close to #3 because I look at all these guys that have 10 floors, and they have 100 coworking clients or less per floor. Their revenue is never going to cover their costs. And so there was an article the other day that said, maybe one day, somebody will work out how to make a profit from coworking. And another comment I had this week was, it's just a flash in the pan. This is not a flash in the pan. This is real. There is an unbelievable amount of demand out there. The way people work has been changed, and I should say thanks to Adam Newman, has been changed forever. It just is. We've never seen the inquiries or the number of competitors, but I think we're a bit ahead of the competitors.

Do you want to do the presentation now? I'm primed up. Do you guys want to see the numbers or you've already seen them? You got any questions, you can ask. Sift through the numbers, guys. There it is. That was our numbers. Wow. I'm impressed. All right. I don't really want to read this. Net profit before tax, $18.4 million. I know all that stuff. Anybody got any questions? Good. We're all done. See you.

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Questions and Answers

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Unidentified Participant, [1]

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I had a question just on the numbers. (inaudible) and in your view, whatever that looks like, how does it affect Servcorp?

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [2]

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Well, I don't think it matters much. I think that to start with, to put the infrastructure in, it's like trying to re-cable a building or a house. The cost for WeWork to stabilize and put a system in that gives the clients what I think will be a long-term sustainable solution would be between $1 million and $3 million of a location because you've got so many floors in a location. I don't -- because they've got such a way to cash, I don't think that WeWork's going to die anytime soon, and I'm really happy having them around, actually, personally. I think that if WeWork went belly-up, which I don't think will happen, I've got to be really clear, I do not believe that will happen. The building owners would take over the space because building owners seem to think that you get double the rent. But you know, it's like a bottle of Heineken. If you buy it for $1 and you sell it for $2, what do you make? You make a doughnut because you've got to cool it, sell it, people steal it. All those things that -- you got to serve it, that go -- to give you a margin. And so we're not much different. I mean to run a proper operation like this, the base cost is about double the rate. And so I listened to some of these guys talk. I won't mention the name because everybody would know. But one of the major building owners in Sydney just takes -- you take this sort of stuff. You charge double the rent, and you cap it the same rate as you do for any other normal rental, where they forget about churn, service, blah, blah. And it goes on, and so --- and what always amazes me -- I speak like an analyst sometimes. What amazes me is how hundreds of thousands of building owners and businessmen are following the WeWork model. Now I may be a dumb kid from Mudgee, but why would you follow a model where you lose $120,000 (expletive) an hour.

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Unidentified Company Representative, [3]

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(inaudible)

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [4]

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Well, it was $120,000. Well, that's okay. I can afford to pay the -- $120,000 an hour, and it's growing at 30% a year, and they're all following the same model. I mean that sounds like lemmings. Anyway. I don't know. Maybe it's lemmings. Maybe it's not. I think that the business will mature. I think that, personally, we'll finish making these floors over. And then where we've got management, we'll look for sensible ways to expand because we've got a massive overhead in this head office, and we either cut the overheads or we build the base a little -- larger than it currently is. And a little larger means you might get it [$200] or I don't know what you get it. It depends. I won't touch anything unless I really love the location. And nowadays I want to see the location because we spend a bit of time opening places without looking too closely and it's cost us. That was quick. Yes.

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Unidentified Participant, [5]

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Occupancy in Sydney (inaudible) a [bigger amount]?

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [6]

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No. That's right.

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Unidentified Participant, [7]

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How do you get that up to -- assuming [buying back] that sort of number there, (inaudible).

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [8]

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Well, if you find the answer, come talk to me.

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Unidentified Participant, [9]

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Given that that's (inaudible) WeWork (inaudible). So...

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [10]

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We -- no, I'll rephrase that. WeWork is an office operator in disguise, right, because they, quote WeWork, they use 5% of their space for coworking. The rest is offices. We've measured it. It's probably closer to 10%, and we're about 15%. So occupancy, it's 73% now. 10 years ago, if we were at 73%, we'd be pretty close to break square. But now because you've got such a lot of co-workers, et cetera, we're at a higher occupancy rate. We were at 68%. And there is a massive difference because Servcorp has cash. So if you go anywhere else, it's cost you 2 months rental deposit and your first month. In Servcorp, it's 1 month rental deposit. Your first month is free. Sometimes, depending on the location, it can be 3 months for free.

Our sales in the last 6 months have been a record. We haven't done much different. We'll probably educate their people a little more. We've slowed the churn because we used to insist on 10% to 15% rental increase, but the market says you can't do that. So that to maintain or get our margins back, we'll show more coworking in virtual. At our current sales rate, I would think we'd hold at between 73% and 76% occupancy, which is adequate to -- if you continue to increase your coworkers, and even if you look at it, then you say you get a 5% increase. With the margins we are making, it's going to add 30% to your bottom line. So I don't know. I think we just got to do a bit more marketing, and we're going to actually continue to push this line. I mean we just stay in WeWork's space because they spend a lot on marketing and more people search in paid search. And even in the Middle East, where, sometimes, you don't have a WeWork, if they want coworking space, they'll put in WeWork because the marketing has been so effective. But they're great. I love them. Yes.

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Unidentified Participant, [11]

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Are you still looking at adjusting pricings from any (inaudible), reducing pricing at the office space (inaudible) office?

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [12]

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Well, we're like -- I don't know that everybody is as disciplined as we are. We are probably 30% less expensive across the globe for coworking space because we've got such a base than a lot of our competitor spectrum. And we've got a lot more people working on the floors, but we've got a lot less money on marketing. And so at the end of the 6 months that you're there, your price goes up 10%. At the end of the year, it goes up 5%. Then it goes up 5% a year compounding, which increases your margin. So if you just take a number, so if you've got $100 million in coworking and you churn a year in revenue, and your churn's 50%, say, you convert your rent review, $50 million of it. There's an extra $5 million in your bottom line if you just move in 10%. So that's -- look, this is a subscription business in many ways. It's a subscription business within the phone systems because when somebody press 1, they go to the mobile or any of this stuff, the fancy gear that we've got. There's a $0.25 flag for it. When you get 60,000 clients that divert calls, makes a difference of $10,000, $15,000 a day. I mean the answer is how do you have the software that automates that because, right now, we are a bit swamped with tickets and things as we develop the solutions to some of these problems. And I think that subscription to Servcorp is probably a newer concept. But if you take all of our floors, I think, finally, the revenue should get in and come in at around $10,000 a month a floor, and it's nowhere near that now, which is a fair amount of cash. So I guess there's still -- I mean I look at it and think there is a great deal of opportunity. I have never been as excited about where it's at than I am now.

I'm getting thirsty. So (inaudible) It's about bloody time, too. You're such a bloody optimist. Surprised me, too. I mean I've said to our Chairman that I thought we'd have to raise $12 million to finish all the makeovers. And the incoming cash outstripped the outgoing cash, which surprised me a bit almost. Well, it was faster than I thought. I thought that we'd bottom at about $50 million. We bottomed at $60 million. So it was okay.

That's it. We'll see. Is it 5:00? 4:56.

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Unidentified Company Representative, [13]

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4 minutes.

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [14]

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Well, come on quick. You got 4 minutes. So I'm not allowed to have a beer until 5:00. Do I get to have some cold beer?

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Unidentified Participant, [15]

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You talked about how much better you are than WeWork and (inaudible). What -- why would you not [go through] increase prices on them? And do you guys massively increased marketing (inaudible)?

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [16]

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I guess the balance. I sort have a look at Servcorp and think, well, if we spend 50% more on marketing, which I continue to look at, I think our web page is pretty crappy, and we're just trying to work that over. But if we spend 50% more on marketing and we increased our sales 10%, your occupancy will go up. While WeWork outsold us 10 to 1, they're a bloody side bigger in their locations. And if you look at somewhere like Tokyo -- Tokyo or London, but Tokyo is probably a good example where WeWork and SoftBank announced they're going to spend $2.5 billion, which is why I think our shareholders got no idea of the underlying value in share. But I am not trying to drive the share price up. So I actually -- I'm not. I'm not a buyer. I'm not a seller. The -- they put $2.5 billion is what they're investing in Japan. And we went up there, and I flew up from here, and we had $1 million. And finally, I had the mortgage of my house and everything else, and we invested $12.5 million before we came -- became break square. And that part of the world in North Asia now, that whole thing makes $1.5 million a month. And we are seen as the third biggest operator in Japan. There's only Regus and WeWork with SoftBank that are only bigger than us. And we had a tax audit, which we seem to have, seeing where everybody thinks we're a little global company. In Japan, and in talking to the taxation guys, we are the highest margin business in our field by far in Japan, by a factor 3. So look, we got some good places, and we got some dogs. We've got some good manager, and we got some pretty ordinary management, but it's, I guess, just like a normal business. I think -- I don't know of any business that's seen such a growth in competition in such a short space of time, but as I said, let's educate the market.

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Unidentified Participant, [17]

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The results have clearly changed (inaudible) in the U.S. So what's the (inaudible)?

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [18]

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Yes. Well, then you do get up a bit. But I mean the U.S. occupancy is 58%. The U.S. didn't make over its floors with the way it should have because there was substantial discussion as to the form that our coworking should take, whereas the -- I took a view that unless we changed, we may not survive. And so the rest of the world changed and awfully fast. I mean we've never spent money the way we spent money on this makeover. We bought enough furniture for 20 locations. We shoved that all in sheds just so that we could deliver and roll these out. And we could have probably built them for $50 million rather than $60 million, but it was like the marketing. I mean these guys had sold this whole open air concept. Unless we comply, I thought we'd die. This was just one of the experimental flaws but some of them looked fantastic. I don't know. Is there any way that we can get up some of the photos and (inaudible) some of those things. Laura, are you around?

Anyway, you can -- but I mean some of these new locations that we built, this is -- yes, that's our location in Japan. We pay $400,000 a month in rent. That's probably the newest Servcorp location (inaudible). We'll show a few more of those. We do that. (inaudible) That's a long line. Clients like that. So that joint's about 65% let. It's been open since Valentine's Day. It's in the middle of Tokyo. It's got WeWork all around it. And Regus has got 120 locations in Tokyo. We got 28, yes. Looks pretty [good seats]. (inaudible) people. We got 21. So this is the one spot. So this is 35,000 square -- (inaudible) only about 35,000 square feet. And good (inaudible). That's the sort of thing that we've done around the world. And this was just the experimental bit. It sort of works, too, because you can all sit around and talk.

5:00? Crash. Gate comes down. You got any questions? No. How good is that?

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Unidentified Participant, [19]

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Can I ask about dividend?

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [20]

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The dividend? Yes. I'm of the view that dividend is too high. But listening to my retiring Chairman, I thought we should give him a going-away present. So when he's forced us to increase the dividend by $0.02 up, I think if we can find locations like [Bashen], build them into the standard we build them to and sell them like that, then Servcorp has got a great future. We have a few older locations which -- and it's a bit of a 2-edge sword because we don't have an IFRS problem. I don't know what everybody else has, but we've got some reasonably mature centers. And so IFRS has a negligible effect on Servcorp of where it's going in the future, so -- sorry?

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Unidentified Participant, [21]

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IFRS 16.

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [22]

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IFRS 16.

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Unidentified Participant, [23]

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Yes, IFRS 16. (inaudible)

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [24]

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I got no bloody idea. What are you talking about?

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Unidentified Participant, [25]

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I'm talking about the leases.

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [26]

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Yes. The leases? Yes. IFRS 16, is it? I knew it had a number. But anyway, I think that we should open -- and I haven't -- we haven't even started to look yet. But I think that if we look and find some decent positions, we will start opening new centers sometime towards the end of this financial year. We should find them, but not before certain things that won't open -- I don't think we'll open much this year. If anything, we got one in Shanghai called -- I don't know what it's called. I might tell you that one in Shanghai was pretty interesting because the building owner who is -- we haven't got Warren James, those American guys. Just go and ask one of the guys around there -- anyway, I'll figure the name and set. Anyway, they asked us to bid for the space for coworking, and they want us to go into the retail space and the high-rise space. And we said we won't enter a bidding war. We can live without the space. So they sent some guys across to assess what was happening in Japan. I looked at our space. I looked at the technology. And I said we won't bid. And unless we get exclusive rights to the whole building, we won't go into it. And they came back and said, "The only operator we'll take will be Servcorp." And they run their own coworking in the U.S., so I don't know why we -- I work out the U.S. one day I think. That was pretty interesting, too. They're one of the biggest builders in the U.S. Somebody think of a builder. Sorry?

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Unidentified Participant, [27]

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Hines.

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Alfred George Moufarrige, Servcorp Limited - Founder, CEO, MD & Executive Director [28]

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Hines. You got it. Thank you. It was Hines. You'd be working on the (inaudible). Danny's the guy that -- that's his little team there. It was Hines in Shanghai. Yes. And the bloody guy that came across to Tokyo, so I can't get there till 6 o'clock. And I said, bad luck, mate, beer time. So seriously. And he arrived and he talked to Warren and then -- wandered across to him and said hello to him. And he said, "Man, you guys are light-years ahead of anything in the U.S." And I said, "Well, I've got a few I can give you in the U.S." He didn't take them. But there we are, done. Thanks, guys.