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Edited Transcript of SYNC earnings conference call or presentation 8-Nov-18 10:00pm GMT

Q3 2018 Synacor Inc Earnings Call

Buffaclo Jan 21, 2019 (Thomson StreetEvents) -- Edited Transcript of Synacor Inc earnings conference call or presentation Thursday, November 8, 2018 at 10:00:00pm GMT

TEXT version of Transcript

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Corporate Participants

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* Himesh Bhise

Synacor, Inc. - President, CEO & Director

* Timothy J. Heasley

Synacor, Inc. - CFO & Secretary

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Conference Call Participants

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* Austin William Moldow

Canaccord Genuity Limited, Research Division - Associate

* John David Godin

Lake Street Capital Markets, LLC, Research Division - Equity Research Analyst

* David C. Calusdian

Sharon Merrill Associates, Inc. - President

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Presentation

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Operator [1]

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Good afternoon. My name is Kim, and I will be your conference operator today. At this time, I would like to welcome everyone to the Synacor 2018 Third Quarter Earnings Conference Call. (Operator Instructions) Thank you.

David Calusdian from Sharon Merrill Associates, you may begin your conference.

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David C. Calusdian, Sharon Merrill Associates, Inc. - President [2]

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Thank you and good afternoon. Welcome to Synacor's Third Quarter 2018 Financial Results Conference Call. Joining me today to discuss the company's results are CEO, Himesh Bhise; and CFO, Tim Heasley.

Before we begin, please note that management will make forward-looking statements during the call that are subject to various risks and uncertainties. Actual results may differ materially from the results predicted, and reported results should not be considered an indication of future performance. Further information on these and other factors that could affect the company's financial results is included in Synacor's filings with the Securities and Exchange Commission. Also during this call, management will refer to non-GAAP financial measures in discussing the company's performance. Reconciliations to the most directly comparable GAAP financial measures are provided in the tables included in today's press release.

I'll now turn the call over to Himesh Bhise, Synacor's CEO.

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Himesh Bhise, Synacor, Inc. - President, CEO & Director [3]

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Thank you, David. Hello, everyone, and welcome to our Q3 conference call. Today, we will review our financial performance for the third quarter, provide an update on customer wins and renewals and spotlight our recurring revenue software business.

I would like to reinforce 3 takeaways from our quarterly results. One, our third quarter financial results reflect our focus on both enhancing profitability and driving attractive recurring software revenue. Second, we are continuing to deliver customer renewals and new sales bookings. And third, we are excited by the potential in our collaboration and identity products and believe they represent significant value for shareholders.

Let me begin with takeaway 1. Our third quarter financial results reflect our continued focus on enhancing profitability and driving attractive recurring software revenue. Our adjusted EBITDA for the quarter was $2.7 million, which significantly exceeds our guidance and is up from $1.8 million a year ago. Revenue was $35.6 million, slightly below our guidance, reflecting our thoughtful pivot away from certain low-margin revenue in our publisher-based advertising business. By way of contrast, our recurring software revenue this quarter grew 17% from a year ago and our overall software business grew 20% from a year ago. We continue to be disciplined in steering away from this low-margin, publisher-based advertising revenue in the fourth quarter, choosing to focus instead on recurring revenue growth and improving long-term profitability.

Our year-to-date revenue totaled $104.5 million or 11% growth from the same period a year ago. Year-to-date recurring software revenue totaled $26.7 million, a 12% increase from a year ago, and our year-to-date adjusted EBITDA totaled $4.4 million, up from a loss of $1.2 million a year ago. This reflects some of the benefits from the $8 million of annualized cost savings we announced in Q1 and Q2.

Takeaway 2. We continue to deliver customer renewals and new sales bookings. As a company, we pride ourselves on the depth and length of our customer relationships. Our products, portals, email and identity all require platform and user migration, product development and customization, hosting in operations and systems integration, all characteristics that create stickiness.

Our notable recent customer wins include a 12-month renewal of a portal and cloud ID agreement with a major U.S. operator we have worked with for many years. We signed ShortsTV network, a 24/7 channel dedicated to short film, as a customer for our Cloud ID TV Everywhere authentication product. We signed an agreement with ETI Software Solutions, a software developer and systems integrator for operators such as Frontier, Windstream, and Cincinnati Bell, making them our first reseller for Cloud ID. ETI has chosen Cloud ID as their preferred identity management technology.

We signed 80 new Zimbra email enterprise and government customers. New customers include PineLabs, a leader in retail point-of-sale solutions in India; PT Sasa Inti, an Indonesian food industry leader; Quality Equipment, a major U.S.-based John Deere dealer organization; and Grupo BC, a business process outsourcing leader based in Europe and Latin America. We also signed a renewal of our agreement with Shaw Communications in Canada for Zimbra email. Additionally, we remain in active and good faith discussions with AT&T regarding a longer-term agreement to provide portal, platform and managed services for att.net.

Tim will now review our Q3 numbers in greater detail, and I will follow up with some additional highlights regarding our software business. Tim?

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Timothy J. Heasley, Synacor, Inc. - CFO & Secretary [4]

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Thanks, Himesh, and hello, everyone. At the outset, please note that our non-GAAP financial measures exclude stock-based compensation, other income and expense, restructuring costs and certain legal fees. Today's press release and our SEC filings include the GAAP to non-GAAP reconciliations.

For the third quarter of 2018, revenue was $35.6 million, down 2% compared with the third quarter of last year. As Himesh mentioned earlier, this decline reflected our deliberate nonrenewal of certain low-margin syndicated advertising contracts as we focus on bottom line improvement. Our adjusted EBITDA for the third quarter was $2.7 million, which exceeded our guidance and represents a 45% increase compared with the third quarter of 2017.

Drilling down to the different components of our third quarter revenue, software revenue was $12.8 million, up $2.1 million or 20% from the third quarter of 2017. Portal and advertising revenue was $22.9 million, down $2.7 million or 11% from the prior year's third quarter, primarily due to our pivot away from low-margin advertising revenue.

Cost of revenue was essentially flat from Q2 at 51% of revenue versus 49% in the third quarter a year ago. This was primarily due to lower advertising margins which, as mentioned, we are working on improving. As a result, gross margin in the third quarter of 2018 was 49% versus 51% in the same quarter last year.

Total operating expense, excluding stock-based compensation of $0.4 million and depreciation and amortization expense of $2.4 million and one-time charges including restructuring and certain legal fees of $1.8 million, was $14.8 million for the third quarter or 41.6% of revenue. This compares with $16.8 million or 46.4% of revenue in the third quarter last year. This significant decrease, both on a dollar basis and as a percentage of revenue, is the result of our cost reduction efforts and growth in our software business.

GAAP net loss for Q3 was $2.2 million or $0.06 per share compared with net income of $0.3 million or $0.01 per share in the third quarter of 2017. Net income in the third quarter of 2017 included a $1.9 million gain on the sale of an investment. The EPS calculation for the third quarter of 2018 and '17 is based on 39.0 million and 38.5 million weighted average common shares outstanding, respectively. We ended the quarter with $15.7 million in cash and cash equivalents compared with $15 million at the end of Q2, and we continue to have no borrowings on our $12 million credit facility.

Let's now turn to guidance for Q4 and full year 2018. As a result of the refocusing of our advertising business to higher margins that began during Q3 and will continue into Q4, we are revising our 2018 guidance as follows. For the fourth quarter we expect revenue to be in the range of $35.5 million to $38.5 million, net income of $0.5 million to a net loss of $1 million and adjusted EBITDA of $2.6 million to $4.1 million. We expect approximately 39 million weighted average shares outstanding in the fourth quarter.

For full year 2018, our guidance for revenue is in the range of $140 million to $143 million, net loss in the range of $6.7 million to $8.2 million and adjusted EBITDA in the range of $7.0 million to $8.5 million.

With that, I'll turn the call back over to Himesh.

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Himesh Bhise, Synacor, Inc. - President, CEO & Director [5]

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Thank you, Tim. For a final takeaway, I'll highlight the strength of our recurring revenue, high-margin software business. We continue to be excited by the potential in our collaboration identity products and believe they represent significant value for shareholders.

Investors have historically known Synacor for our white-label portal and advertising business, which for the first 3 quarters of 2018 represented $68 million in revenue. We have now built in parallel with that a growing high-margin, recurring revenue weighted software business which, for the first 3 quarters of 2018, represented $36 million in revenue. As a reminder, our software business includes our Zimbra email and collaboration platform and our cloud-based identity management platform.

Zimbra is an open-source-based email and collaboration platform that is licensed by over 4,000 customers and is sold by over 1,900 channel partners to businesses, governments and service providers who recognize our value proposition in terms of price, security, privacy and scalability. Cloud ID is our identity management platform that can authenticate and authorize 90 million pay-TV households in the United States and is the platform of choice for 3 of the top 5 OTT networks. If you've ever logged into HBO GO or Sling TV, you've used Synacor's Cloud ID.

Revenue generated in our software business is predominantly recurring and includes Software-as-a-Service, subscription licensing, perpetual licensing and professional services. Our software platforms generated $12.8 million of revenue in the third quarter, of which $8.9 million was recurring and $3.9 million was nonrecurring. Our software revenue represented 36% of our entire revenue this quarter, up from 29% in the third quarter of 2017. Our total software revenue grew 20% year-over-year and our recurring software revenue grew 17% year-over-year. We added 80 new customers this quarter. Our software renewal rate on a dollar basis was 111% this quarter, with our team successfully driving upsells and longer contract extensions during the renewals process.

The gross margin for the software business for the third quarter was 77%, and we continue to innovate. In September, we announced continued advancements at the Blockchain Life Conference in London. Zimbra X, the first distributed app on EOSIO, now leverages additional blockchain capabilities such as smart contracts, EOS tokens and verified identity APIs. Our beta is available to the global EOS blockchain community as we affirm our position as the definitive collaboration platform choice for businesses on blockchain.

Let me summarize our Q3 performance and the opportunities ahead before we open the call to your questions. We delivered strong adjusted EBITDA of $2.7 million, which significantly exceeded our guidance and represented a 45% increase from a year ago. We are focused on recurring software revenue, and this year -- this quarter -- we delivered 17% growth from a year ago. We are going to maintain discipline in steering away from low-margin, publisher-based advertising revenue in the fourth quarter. Our guidance reflects this focus of growing recurring revenue and improving long-term profitability.

We executed our sales pipeline and showed evidence of the depth of our customer relationships. We were pleased to secure and announce several customer renewals and wins this quarter, and we're pleased to announce we continue to remain in active discussions with AT&T. We continue to drive smart revenue growth, and coupled with our cost reduction initiatives, we are focused on enhancing profitability and increasing shareholder value.

We will now open the call to questions. Operator?

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Questions and Answers

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Operator [1]

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(Operator Instructions) Your first question comes from Mark Argento from Lake Street Capital Markets.

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John David Godin, Lake Street Capital Markets, LLC, Research Division - Equity Research Analyst [2]

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This is John on for Mark. I appreciate you taking my questions. First of all, can you just kind of update us where you're at as far as kind of the $8 million of cost cuts that you talked about last quarter?

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Timothy J. Heasley, Synacor, Inc. - CFO & Secretary [3]

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Sure. Well, if you recall what we talked about, we announced a $4 million cost reduction in Q1, which roughly about half of that were people-related costs. And then Q2 we announced another $4 million cost reduction of which the majority of that was people-related costs. Right now on the people side, we've essentially realized all of the cost reductions we announced from Q1 and we've recognized roughly 2/3 of those reductions related to Q2. So collectively in our numbers for Q3, we think we roughly have about $1.3 million of savings that are related to those cost reductions. Some of the cost reductions still to come relate to the data center consolidations, and those are going to primarily impact 2019, and there will be some carryover as well into 2020. Does that answer your question, John?

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John David Godin, Lake Street Capital Markets, LLC, Research Division - Equity Research Analyst [4]

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Absolutely. Very helpful. Then just kind of moving over to the low-margin advertising revenue, I guess -- I mean kind of big picture, how much do you think you have of that to go? And more importantly, kind of what does the cadence look like, I guess, as contracts come up, et cetera, over the next couple of quarters?

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Himesh Bhise, Synacor, Inc. - President, CEO & Director [5]

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Sure, John, let me take that one. Let me point out at the outset that while we are expecting a reduction in this publisher-based advertising revenue, you should observe that our adjusted EBITDA guidance actually remains within our original range. And despite having that low-margin revenue in our Q3 numbers, we were still able to outperform our profitability guidance. So that's the context and that's the focus in which that we are taking as we evaluate this business. We've been pretty clear that our focus is profitability and higher-margin revenue. The publisher-based advertising business, as you know, is transactional in nature. There is a lot of inflow of ad inventory across a very, very large set of publishers. We're becoming very disciplined as to how we parse that out for profitability purposes, both in terms of the quality of publishers we go to as well as the kinds of inventory that we acquire from them, having a better sense of what is monetizing in the marketplace today. So that's the conscious decision we're making, where we're spending -- we're analyzing the business and the sectors and inventory a lot more clearly. We're steering away from what we believe is the low-margin revenue. We're proactively declining low-margin inventory, even if it impacts our top line, so that we can manage this business for higher profitability than we've seen in the last couple of quarters of this year.

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John David Godin, Lake Street Capital Markets, LLC, Research Division - Equity Research Analyst [6]

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So would it be fair to say focusing more on kind of premium inventory and less on long-tailed content inventory?

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Himesh Bhise, Synacor, Inc. - President, CEO & Director [7]

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That's exactly right, John. And it's not even this long-tailed contract -- long-tailed inventory. It's actually low-quality inventory, right, that can come from long-tailed publishers or mid-tailed publishers. There's some of that that's close around across a bunch of different sites, and so they -- so sometimes it's hard to define, and the team's gotten really good at identifying that and steering away from it.

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Operator [8]

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(Operator Instructions) Your next question comes from Austin Moldow from Canaccord.

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Austin William Moldow, Canaccord Genuity Limited, Research Division - Associate [9]

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One on advertising, one on software. So the first one on advertising, kind of a similar question to the last one but a little bit different. I'm wondering what's your priority within the advertising segment. How much investment and resources are put behind it, and how much sort of mindshare when management is thinking about growing the business? And have you explored other options for that segment such as selling it or winding it down completely or just not putting any more investment dollars behind it, rather?

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Himesh Bhise, Synacor, Inc. - President, CEO & Director [10]

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Thanks for the question, Austin. So let me start by saying that the portal and advertising business still represents a significant part of the revenues of this company, well over 60%. You can roughly think about it in 3 big buckets. We work with a number of portal partners whom we have -- and ISPs whom we have worked with for many years. We have a relationship with AT&T, which I carve out a little bit differently because it involves a lot more customization and managed services than some of the other contracts we have. And the third element of this business is publisher-based advertising, inventory that we acquire from many of our publisher partners and monetize on their behalf at better rates than they may be able to do themselves. And the dynamics of each of these businesses are a little bit different. The portal business, which encompasses our ISP partners and AT&T, tends to be driven by longer-term contracts. It's driven by deep customer relationships. The inventory that we secure, that we enable on the portals we deliver, is created through a combination of high-quality ISP traffic with high-quality content that we curate and publish on their portals, all activated and engagement driven by deep integrations with their systems. So that's quality inventory of which we are the “publisher of record”, and has a very different level of dynamic and different styles of monetization in the advertising marketplace. The publisher business, which is an extension of this business, helps us drive scale, helps us bring our monetization capabilities to a much broader universe of publishers without having to discuss longer-term contracts and without having to integrate with them for businesses that individually are very small. It is also a large business, but the dynamics of that these days, given some of the larger players in the market, given some of the flight to quality, given some of the policy changes that are underway in advertising, it is a lot more fluid. And what we are saying here is that we are going to be disciplined in managing that business for margin. And so the kinds of publishers we will work with and the kinds of inventory that we will work with are much higher quality, and we're going to manage them very carefully. But absolutely, as it relates to AT&T, for example, which as I have said, we are in the middle of an active and very good faith discussion with them and many of our other portal customers, one of whom I announced on this quarter we just renewed, we continue to support them and offer them a product that deepens engagement with their consumers and drives higher monetization for them.

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Austin William Moldow, Canaccord Genuity Limited, Research Division - Associate [11]

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Okay, a quick add-on to my advertising question. Are you able to give the AT&T contribution in the quarter? And I'm not sure if I heard, but did you break out search and display revenue like you've done in the past?

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Timothy J. Heasley, Synacor, Inc. - CFO & Secretary [12]

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Revenue for AT&T in the quarter was $10.8 million, which is -- will be disclosed in our 10-Q. And in regards to search and ad, I've got that here. Hold on one second.

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Himesh Bhise, Synacor, Inc. - President, CEO & Director [13]

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While Tim is pulling it up, Austin, I think the highlights are that desktop search continues to be under pressure along the trends that we've seen in the past, offset a little bit by mobile. And advertising, again, is strong when you discount the impact of the publisher-based advertising business that we are reformulating for margin.

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Timothy J. Heasley, Synacor, Inc. - CFO & Secretary [14]

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Our traditional breakdown of revenue we do have in the Q, Austin, is for search and digital advertising, $21.2 million for the quarter versus recurring and fee-based revenue of $14.4 million.

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Austin William Moldow, Canaccord Genuity Limited, Research Division - Associate [15]

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Okay, and my last question is on software. You mentioned several sort of signings every quarter. Can you help us kind of understand which ones are maybe more meaningful in terms of moving the needle in the model? It sounds like that Cloud ID reseller one was pretty significant, but can you sort of talk about which ones are really most meaningful? And how do you take that segment to the next level, taking it from a $60 million business to what the advertising business is now, around $100 million or whatever? Is it a bigger sales team or what is it to take it to the next level?

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Himesh Bhise, Synacor, Inc. - President, CEO & Director [16]

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Got it. Thanks for that question, Austin. Your first -- the first part of the question was around kind of the size of the deals, right? The largest deals continue to be around service providers, and especially when you think about private or public cloud-based services that we offer for email and Cloud ID. If it's a large service provider, a large content provider, and we are offering that service all in and managing the cloud-based offering on their behalf, those tend to be larger deals. But what makes this business particularly attractive on top of that is the sense of volume. It's not necessarily the size of individual deals; it's the fact that we do many, many, many, many of them every quarter, like we did 80 kind of new Zimbra accounts, new customers this quarter. And even a new customer, when you kind of think about add-ons and upgrades and renewals, actually break out into multiple transactions. So this is about driving volume and attractive software revenue inside of that volume. We're also looking, again, to kind of tweak your perspective on the size of the ticket itself, a perpetual deal might look like particularly large ticket items, but what we believe is more attractive for our shareholders is recurring revenue. So bringing that in as a cloud-based offering or a subscription license offering, we believe, is much more valuable to our shareholders. And to that point, one of the areas that has been growing quite strongly for us and is at the core of this turnaround and growth that we're seeing in software, is the growth that is being driven by our cloud-based Zimbra hosting partners around the world. That element of our channel is showing higher growth. So when you ask me what's next and how do we actually scale this up, what we're looking to do is continue to invest in our channel. We believe it is a highly efficient method of growing this business. We are focused on supercharging and really enabling those group of channel partners that are offering private and public cloud services, because that is clearly what people are buying, and that's the kind of revenue that we're looking for. We are investing in our product. We've talked about Zimbra X in the past, which is, again, as we've said before, is in beta and is in the process of being rolled out to a selective set of customers. And those are the kinds of channel and product, coupled with a really attractive value proposition, that we believe will continue to drive growth in the business.

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Operator [17]

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There are no further questions at this time. I now turn the call back over to management.

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Himesh Bhise, Synacor, Inc. - President, CEO & Director [18]

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Thank you, Kim, and thank you, everyone, for joining us today. Please note that we will be at the LD Micro Conference in Los Angeles on December 5. We look forward to seeing many of you there. Have a nice evening.

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Operator [19]

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This concludes today's conference call. You may now disconnect.