Q3 2020 Sculptor Capital Management Inc Earnings Call
Good morning, everyone and welcome to scope the Cup goes <unk> third quarter 2020 earnings call. At this time all participants are in a listen only mode. Later, we will conduct a question answer session and instructions will follow at that time.
If anyone should require operator assistance during the conference. Please press Star then I'm zero on your telephone keypad. As a reminder, this conference is being recorded I would now like to introduce your host for today's conference leaking out of shareholder services a sculptor telco.
Thanks, Devin good morning, everyone and welcome to our call. Joining me are Robert Shaffer, Our Chief Executive Officer, and Tom said, our Chief Financial Officer.
Today's call contains forward looking statements many of which are inherently uncertain and outside of our control.
Before we get started I need to remind you that it's called your capital actual results may differ possibly materially from those indicated in these forward looking statements. Please.
Please refer to our most recent SEC filings for a description of the risk factors that could affect our financial results our business and other matters related to these statements. The company does not undertake any obligation to publicly update any forward looking statements.
During the call during today's call, we'll be referring to economic income distributable earnings and other financial measures that are not prepared in accordance with the U.S. GAAP.
Information about reconciliation.
These non-GAAP measures to the most directly comparable GAAP measures are available in our earnings release, which is posted on our website.
No statements made during this call should be construed as an offer to purchase shares of the company or any interest in any of our funds or other entities.
Our earnings press release from this morning also included an earnings presentation, you'll be referring to this report during the call. If you have joined through the conference call I would like to follow along you can find the presentation on the Investor Relations page of sculptor Dotcom at the Threeq you earnings release link if.
If you're doing through the webcast you to navigate through the presentation on the webcast screen.
Earlier. This morning, we reported third quarter 2020, GAAP net income of $8 million or 35 cents per basic and 25 cents per diluted class a share it.
As always you can find a full review of our GAAP results in our earnings release.
On an economic income basis reported third quarter 2020, distributable earnings of $29 million or 52 cents per fully diluted share.
And the third quarter, we recorded a legal provision of $2 million. In addition to the previous 136 million provision taken between the last between last quarter and the third quarter of 2019.
Third quarter, adjusted distributable earnings, which excludes the legal provisions and related legal fees.
$32 million.
If you have any questions about the information provided in our press release or on our call. This morning. Please feel free to follow up with me with that let me turn the call over to Rob.
Thanks, Lisa good morning, everyone.
The firm continues to operate effectively with the majority of employees working remotely you to COVID-19.
We are monitoring CDC guidelines will slowly move towards a more normalized operating environment, we determined that in say for our employees.
I'm pleased to report that the Africa matter has been resolved with approval of $138 billion settlement.
Now that the Africa matters concluded we expect deferred prosecution agreement will be terminated in the near future.
With resolution of Africa, and anticipated <unk> termination of the DTA you put all of the legal issues stemming from legacy dealings in Africa behind US. This cleans up the last of any material legal matters.
Now an update on performance.
Sculptor Master Fund returned 6.0% net in the third quarter, bringing year to date net performance could 12.4% through September thirtyth.
Which compares favorably to the M. A C. I World Index is 1.4% increase over the same period.
The Master fund was down 1.0% net in October bringing year to date performance through October two of 11.3%.
In a year that has been characterized by extreme moves in both directions, we're particularly pleased that the master fund was able to protect capital during the worst of the market drawdown and participate meaningfully in the <unk> in its recovery.
We believe our year to date outperformance continues our history of generating strong risk adjusted returns irrespective of market cycles.
The Master fund generated positive contributions across nearly all strategies in the third quarter lifted by a broad rebound of risk assets and a strong earnings season for equities.
Our active repositioning and capital deployment through the depths of the crisis in the spring were instrumental in realizing global equity upside with only a fraction of the global equity beta in the quarter.
All of our strategy has now generated positive performance year to date.
Fundamental equities was a significant positive contributor to performance in the third quarter as we saw a promising economic data an incredibly strong earnings season, and the introduction of a does that framework.
Our portfolio positioning established during the cobot equity market drawdown was rewarded in the third quarter driven by secular growth companies and in particular, a handful of our core positions in the software and internet sectors, which posted solid earnings during the quarter.
Corporate credit generated a positive return in the quarter as further market retracement aided performance.
Noteworthy contributors came from spread based investments that we added during the months following the market drawdown, along with our larger process driven distressed positions, which have continued their recovery.
In structured credit we saw market's tightening across collateral types and continue viewing after being severely oversold in March.
Our meaningful deployment of capital and the strategy in March continues to drive performance a structured credit is the largest contributor to year to date returns.
Robust returns generated in our convertible and derivative arbitrage strategy rounded out the Master fund strong performance for the quarter as the strategy. So widespread gains across a diverse range of positions and benefited from continued improvements in valuations flows and strong support from the volatility environment.
Yes.
Our global opportunistic credit funds sculptor credit opportunities fund returned 4.5% net for the third quarter of 2020, bringing year to date net performance to down 7.5% through September Thirtyth.
The fund has generated 8.9% annualized net life to date return through September Thirtyth, which has outperformed the BAML global high yield index by 2.8%.
The fund was down 2.2% net in October bringing year to date performance to down 7.7% net.
Performance in the quarter stemmed from both structured and corporate credit where a broad rebound in risk assets helped to deliver strong returns in the majority of positions. We added at the depths of the cobot crisis and in the months that followed.
With many high quality spreads and corporate and structured credit retracing their drawdowns, we had been harvesting gains reducing exposure by monetizing positions that we believe have limited upside as we pivot to sourcing opportunities elsewhere.
Beyond the positive performance achieved in the third quarter. We believe there remains embedded upside still to come from a majority of the assets that we had on prior to the code crisis as well as those that we have added to the portfolio in the near to medium term.
Our real estate funds continue to deploy capital and generate strong returns with an 18.4% annualized net return through September thirtyth in our third opportunistic fund.
Our 2.6 billion dollar fund for which held its final close in June is currently taking advantage of recent dislocations in public equities distressed public that and motivated for sellers in private real estate.
Turning to flows.
As you can see on page seven as of September Thirtyth, our assets under management were 36.0 billion with net inflows in the third quarter of 44 million.
Performance related appreciation of 940 million and distributions and other reductions of 418 billion.
As of November Onest, our assets under management were 35.6 billion, which was driven by an estimated 143 million of performance related depreciation.
236 billion of net outflows at $9 billion of distributions in October.
Turning to page eight multi strategy funds had assets a $10 billion as of September Thirtyth, which included 54 million of net outflows.
And $605 million of performance related appreciation in the third quarter.
From September Thirtyth to November 1st multi strategy had net outflows of approximately 115 million and depreciation of 108 million.
Opportunistic credit had 6 billion of assets as of September Thirtyth, which included 93, Latam that inflows in third quarter 246 million of performance related appreciation at $177 million of distributions and other reductions.
In addition, we saw net outflows of 75 million and depreciation of 6 million in opportunistic credit from September Thirtyth to November Onest.
Through October Onest of this year, we have seen almost 1 billion of gross inflows across multi strategy and opportunistic credit funds. The most since 2015.
We have been encouraged by the increased interest in the past few months due to a pull forward of demand from the market dislocation.
We also believe that the African matter will aid in their ability to raise capital as all legacy issues have been put to rest.
In total quite see the value of investments in funds, such as ours that hedge and have the ability to shift capital among strategies. All that said, while we have been pleased with the flows to date and are excited by our long term prospects cobot has in some ways made it harder for institutions to allocate do as due diligence is taking.
Longer than normal we remain cautious overall predicting a near term turnaround.
And the net flow picture as it will take time for the pipeline should materialize.
Real estate had total assets under management of 4.7 billion as of September Thirtyth. The decrease in the quarter was driven by 46 million of distributions and other reductions.
Institutional credit strategies had total assets of 15.3 billion as of September Thirtyth with distributions it other reductions of $195 million in the third quarter.
We are seeing some early signs of stabilization in the aircraft ABS business driven mainly by the overall tightening in spreads across credit sectors. However, we do not expect a return to normalcy until beginning of next year at the earliest the pace of normalization will be driven by the path of the virus passenger comfort with air travel and the ability of error.
Was to return to profitability.
Last month, we refinanced the fixed traunch in one of our U.S. close.
The U.S. CLO equity market remains challenging with elevated return requirements and that stubbornly wide funding spreads lagging tightening asset spreads.
We continue to elevate the us market started to evaluate the U.S. market I believe we are well positioned to participate when conditions improve in Europe. We are encouraged by the CLL market recovery and reasonably priced at $370 million yellow, which will close in the fourth quarter.
Before I turn it over to Tom I'd like to highlight the deal sculptors sided with Delaware license temper.
Having reached resolution in Africa, So we plan to close in the near future and as early as today.
We are very excited about the opportunities that will stem from closing the steel, including lowering our outstanding obligations, capturing available discounts and working closely with Delaware life in the future I will let Tom go into the specifics of the deal in a moment with that let me turn the call over to Tom to go through the financials.
Thanks, Rob and good morning, everyone.
As Lesa mentioned at the beginning of the call and as you can see on page nine.
We reported third quarter 2020.
Digital earnings of $29 million.
And adjusted distributable earnings of 32 million.
We did not declare a dividend this quarter.
Revenues were $107 million for the third quarter up 15% from the third quarter of 2019 and up 11% from the previous quarter.
Management fees were 64 million in the third quarter up 7% from the third quarter of 2019.
And up 12% from the previous quarter.
Increase in management fees quarter over quarter was due to higher hedge fund assets and lower fuel low fee deferrals.
We expect to see continued recovery in our steel lows in the fourth quarter and currently only three of RC lows are in full deferral.
Incentive income was $42 million in the third quarter up 35% compared to the third quarter of 2019.
And up 99% from the previous quarter due to an increase in client crystallization at quarter end.
As seen on page 10 as of September 32020 arc.
Our accrued but unrecognized incentive was 257 million.
Up $29 million from the prior quarter.
The increase was driven by $48 million in positive performance.
With the majority coming from the comp coming from the customized credit platform.
Offset by 19 million and crystallization.
We continue to expect a large portion of the opportunistic credit of ARRY to crystallize in the fourth quarter of 2020.
Turning back to page nine other revenues were $2 million in the third quarter.
Now, 36% versus the third quarter of 2019 and down 4% from the previous quarter.
The decrease year over year was due to lower interest income stemming from lower interest rates.
For the third quarter 2020.
<unk> expenses were 65 million.
Total adjusted expenses were 63 million.
9% from the third quarter 2019 and.
And relatively flat from the previous quarter.
<unk> third quarter 2020.
Compensation and benefits expense was 41 million.
Down 10% from the third quarter of 2019 and up 1% from the previous quarter.
Bonus expense was 23 million for the third quarter down 15% from the third quarter of 2019 and up 6% from the previous quarter.
We expect full year bonus accrual to be between 75 and 85 million.
Salaries and benefits were $19 million for the third quarter.
Down 4% from the third quarter of 2019 and down 4% from the previous quarter.
The decrease quarter over quarter was due to lower head count.
We expect full year salaries and benefits to be between 75 and 80 million.
In the third quarter general and administrative expenses were 20 million.
Adjusted General and administrative expenses were 18 million.
Down 14% from the third quarter of 2019.
And down 4% from the previous quarter.
The lower adjusted gene a year over year was primarily due to lower professional services and employees working from home and travel restrictions.
We expect full year adjusted DNA to be between 75 and 80 million.
Interest expense for the third quarter 2020, with 4 million.
Up 76% from the third quarter of 2019.
Driven primarily by the interest accrual for our debt securities.
We expect full year 2020 interest expense to be between 16 and 18 million.
Please note that our preferred units started accruing dividends in February and will not impact economic income. However.
However, it will be treated as a reduction to distributable earnings.
Our guidance for the full year 2020 tax receivable agreement and other payables as a corporation is 10% to 15%.
As a reminder, tactics estimates are subject to many variables, including year end performance.
That won't be finalized into the fourth quarter of the year and therefore could vary materially from the estimates provide.
As mentioned earlier in the third quarter, we took an additional 2 million reserve in relation to the Africa matter.
This is in addition to the 136 million previously taken for total payment of 138 million.
As Rob mentioned, the judge has accepted the settlement agreement.
Between our Africa and Africa.
And the settlement payment was made from our cash reserves associated with the matter.
Now an update on our balance sheet.
Turning to page 11.
As of September 32020 total.
Total cash cash equivalents and long term treasuries were 442 million.
Outstanding balances of our obligations included $9 million of term loan.
$270 million of preferred units and 200 million of debt securities.
I'd like to elaborate on the refinancing deal that was signed in September and slated to close as early as today.
Yellow or life insurance has agreed to issue the from a 320 million term loan.
25 million revolver.
In connection with the new facility, we agreed to issue we issue Delaware life warrants for 4.3 million class a shares struck at $11.93.
And provide Delaware licensed seat on our board.
The revolver can be used for working capital and general corporate purposes.
The term loan will be used to refinance our 416 million of existing term loan preferred and debt securities.
While capturing $62 million of negotiated discounts available under the preferred and debt securities.
The deal also comes with the opportunity opportunity to prepay of 275 million.
On or prior to March 31, 2022.
At no cost.
And extends the maturity of our debt for seven years with minimal amortization and attractive covenant.
We are required under the new term loan to sweep 100% of the first 100 million.
And 25% of the following 50 million and distributable earnings.
After public shareholder dividends.
On a pro forma basis, we've had a.
320 million term loan and cash and cash equivalents of 254 million on September Thirtyth.
With that let me turn it back over to Rob.
We are very pleased with all that we've accomplished in the third quarter.
We had great performance across our funds, which shows our value proposition of work.
We are encouraged by the continued low redemptions in our multi strategy funds as well as positive inflows into opportunistic credit.
Also we expect to be within our expense guidance as we finish out the year.
In addition, we believe we are generating solid momentum by resolving Africa. So in closing the Delaware life transaction having.
Having put Africa behind us the last of our legacy issues, we can pivot to forward looking conversations with clients.
The Delaware life deal will immediately reduce our obligations and set us on a clear path to further improve our balance sheet.
As previously announced I will be transitioning the CEO role to Jimmy Levin in April 1st leaving scope there at the end of 2021.
My close colleague and good friend of the wind Thompson came to scope there with me to focus on restructuring of the firm.
The majority of this work is complete and the company is very well positioned for the future.
As a result, Tom's decided that now is the right time to move on and transition to a new CFO.
We are thankful for Toms guidance and leadership over the last few years, we will be announcing his successor in the coming weeks and Tom will be transitioning responsibilities in the first quarter.
With that let me turn the call back over to the operator.
Thank you at this time, we'll be conducting a question and answer session.
If you would like to ask a question. Please press star one on your telephone keypad.
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Our first question comes from the line William Katz with Citi. Please proceed with your question. Okay. Thank you very much I just sort of question starting maybe you onto the maybe that free cash flow priorities as you look into the end of the year into next year you.
I have a few moving parts still I appreciate that the Delaware life greatly enhances the flexibility, but can you speak to maybe how much of the receivable will you get crystallized by the end of the year and if the year ended now with a hedge fund this position how do you think about paying down that term loan into the new quarter.
Yes, Bill this is Tom the or you know the priority the chart the Delaware like deal comes with cash sweep. So the first 100 million of distributable earnings will be swept to pay down the balance and then the next 50 million, 25% will be swept to at a minimum the next 105.
$50 million of distributable earnings you know a good portion will be swept to pay down the term loan.
And I'd say next you know we're still our guidance on a full year basis is a 20% to 30% payout ratio for the dividend that will go just to the public shareholders.
Beyond that we will have flexibility you know based on how we finish out the year and we will continue to evaluate and look for ways to optimize our capital structure.
Okay, and then just sort of stepping back with the Delaware life transactions can you speak to the opportunity in terms of net growth opportunities and then what was the thinking.
To give out equity at this price point and to a board seat.
Well, let me take this is Tom let me take the first part of it the.
The Delaware life deal you know they might money to the farm Oh, we are excited about the opportunity to work with them as our lender or there may be opportunities to work together in the future, but the focus is clearly on the you know the term loan deal that we were just closing you know.
Most likely today.
And then why don't Rob I will turn the second part of the question over to you.
Yeah, I mean, I think as Tom said Bill you know clearly the transaction has given us as given us greater financial flexibility in terms of capturing the discounts you know on our debt you know pushing our amortization schedule and again, we look at Delaware life. You know, obviously, you know as a very strong stable.
Major institutional partner.
Partner for us that we can explore to do things with in the future.
With all that flexibility in their significant commitment to the firm.
We felt at aboard seems appropriate.
Okay and just one final one from me thanks, taking the questions. This morning. So appreciate that performance is very good in both the hedge fund and an end in credit.
And yet you continue to have some outflows into the fourth quarter, just sort of wondering what what's driving that sort of residual attrition at this point in time and then why do you think the slowdown with Cove. It is having a you know a sort of an incremental impact at this point in time.
Yes, Tom I'll take that I mean, I think if you look at the flow picture Bill you know you have to start by saying, Okay. What what do we achieved year to date and where do we go from here.
We as I said in the speech, we raise close to $1 billion in our multi strategy and opportunistic credit funds are more hedge fund like businesses.
And that is the largest amount of gross inflows we've had in those funds. Since 2015. So were obviously started to see.
The gross inflow side come in addition to which if you look at the the outflow side, it's really come down to basically normal churn rate types of of outflows. You know they did the numbers are very moderate way way way below last year or.
So that has really normalized is how I would characterize the outflows.
Thus far and as I look forward, there's a few things I'd say number one I did make a point about cobot and I just think that it generally slows things down a little bit some of these some of our clients would like in a perfect world to do things like onsite due diligence, obviously, that's not going to happen. So I just think in general it slows things down.
But I think the big picture really is the following from yeah from a market perspective, we have been able to live to deliver really excellent performance.
Pretty much across you know the various parts of the disruptions in the marketplace, we've been able to deliver performance weve opposed to protect the downside and I've said this for a while but I did believe and still do believe that as market conditions changed into less of a one direction market into more of a volatile type of market that.
These types of strategies with the flexible capital and the ability to protect downside capture upside are going to be more attractive products that I think that is going to be the case I'd say early days conversations with clients seem to indicate that that will be the case in the future I think in addition to that for US obviously, putting the Africa. So situate.
And behind US thus settling all legacy issues I think is a major thing for us because you know as you know a lot of clients put you on hold over things like that and basically want to see that resolved in a positive way so to have all of our legacy issues not just the Africa settlement, but everything related.
To see past African matters behind us.
Is very material to us and I think it will open up a much broader range of clients, who will take us off hold and begin the process now I indicated in the speech that I said look let's not expect that tomorrow morning, there's going to be an avalanche, but dollars walk in the door. It will take time and some clients are farther along in the obvious.
The evaluating us than others, but the major point here is that it will take us off hold with many of our clients whether its consultants private banks are institutions. So they can begin their process and we think that there overtime.
You know will be a material pipeline that will materialize out of.
Now to our ability to deliver that performance that we've talked about and the fact that we have no legacy issues I don't think it's a question of if I think it's a question of when.
Thank you.
Our next question comes from the line of Gerry O'hara with Jefferies. Please proceed with your question.
Jerry Your line is live.
Our next question comes from the line of Craig Siegenthaler with Credit Suisse. Please proceed with your question.
Good morning, everyone Hope you are all doing well I want to follow up on the last question. Once you receive determination on the deferred prosecution agreement and in person meetings restart how much of a lift could you see the fundraising just given how strong the performance has been the last two years.
Greg It's Rob.
It's difficult to to sort of quantify that I mean, I'd say that a you know number one there's a timing factor and as you know.
The asset management process of raising that money.
Is it is a long is a long process going through Odidi, an idea and so forth. So you know I think it'll take time and I'd quantify that as being you know anywhere from <unk>.
Broadly speaking anywhere from 12 to 24 months, you know, where we would really expect to see sort of a broad range of clients begin to come into a to some of the strategies that does not mean, however that were not going to see flows into 2021. It just means that when you look at the University I'd characterize it as you know certain quiet.
That are that know us and are probably farther along in their thinking about us that want to see us get a whole awful to what is actually I think actually a much broader range of clients, who really have had us on hold for years and are just beginning that process again and I think that's the part.
That is actually even more encouraging longer term because there's a big universe out there and as you know there aren't that many.
Firms that deliver the kind of performance in these types of strategies.
That are out there right now so that it is encouraging to me as those conversations or begin to start up again and they see what they see which I think is a firm that's going to have as I said earlier no legacy issues great historical performance you know in a very solid management team across the board so I'm very confident over.
For the long term I'd say over the short term you know we'll have to see what comes in when a but as I said I think between you know the the market condition changing I think the need for these types of strategies I think our performance.
And not having any things that would hold us back with these quite so it would be major impediments I like our chances I just think it's going to take some time, it's very hard to predict specifically.
When those assets are going to come in but as I said earlier I don't think it too I I think it's a it's a when not if I really do believe it will happen.
And then just as my follow up we've seen a pick up in M&A and M&A interest across asset management. She thinks sculptor could benefit from more scale and I'm, especially thinking about global distribution.
Yes look from a from from my perspective, you know as as a from what we've really tried to focus on here over the last few years is not only restructuring the firm, but essentially you know putting it in a position to really move forward and whether that was dealing with some of the legacy issues getting.
Better ownership structure to retain and grow with a with the active partners in the firm.
Whether it was you know putting ourselves in a position to really get our balance sheet, a lot stronger, which we've done through obviously, our earnings and which is now been enhanced by you know the refinancing of the debt.
You know I I sort of look at the firm and you know you sort of put yourself in a much better position you know as a firm to operate independently. So I believe that certainly as a standalone business you know.
We have the ability to within the products, we have a real estate credit and multi stretch to grow our business quite materially.
Over time, you know for the reasons that I've stated it just a couple of minutes ago.
In terms of other things strategically that can enhance the firm.
I mean, I think those things are always interesting conversations to have but I don't think that we're a firm that is going to require that could be able to go to grow materially over time.
Thanks for taking my questions.
Sure.
Our next question comes from the line of Patrick Davitt with Autonomous Research. Please proceed with your question.
Hey, Good morning, guys. Just a quick follow up on the cash flow dynamics I just want make sure I understood correctly should we assume then that you'll pay out 20% to 30% of the cash flow. After the cash sweep is that the right way to be thinking about the fourth quarter.
No I don't think about it 20% to 30% of full year distributable earnings.
After all the cash sweep.
Or before the cast before the cash with before.
Before the country.
Yeah.
That's all.
It's Patrick.
Our final question comes from the line of Gerry O'hara with Jefferies. Please proceed with your question.
Great. Thanks, sorry about that from earlier, Rob perhaps picking up on a comment you made earlier with respect to the Delaware life partnership and potential for additional sort of.
Products are kind of strategic pursuits, I was hoping you might build flush that out maybe give some examples of how you think how do you think that partnership might evolve or down the road.
Yeah, I think it's a little bit early Jerry to sort of talk about specific product ideas or anything like that the way I would characterize it as you know as I said earlier.
Delaware Life is you know has obviously become a very material will be material financing.
Partner for the firm in terms of the fact that they essentially allowed us to refinance you know basically all of our debt in our capital structure here that has allowed us to as I said earlier capture well the discounts pushing our amortization schedule and give us the ability to pay down so much of our debt without any kind of.
Friction costs whatsoever, so that gives us a tremendous amount of flexibility to optimize our capital structure as Tom said, which I think is one of the key objectives.
For the for the firm right now and given our performance and everything else. That's out there I think we're you know in a pretty good position to be able to do that so I think that's sort of a core piece of this thing and I think for that being as materially capital provider for us having them on our board. We think is also.
An appropriate thing to do now.
Now that being said you know as we think about that as I said they are a major financial institution with a very solid capital base.
We are a major financial institution and there are certainly areas, particularly I would think and some of the financing areas and possibly other things over time that we'll be able to explore together it's difficult to sort of say, it's this to the specific product, but think of it as two institutions that have you know a major interest and one another.
You know from a financing standpoint that we'll try to explore synergies that makes sense for both start firms going forward.
Great, Thanks, and perhaps perhaps one for Tom as well I think.
We know the majority of the accrued incentives for opportunistic credit credit. It is set to crystallize in the fourth quarter can you give us some sense of how much you end. It is tied to that accrued incentives just for modeling purposes. Thank you.
It's about 3 billion of total assets.
Okay, great. Thanks for taking my questions. This morning.
I'm not showing any further questions and I would now like to turn the call back over to Ms. King.
Thanks, Evan Thank you everyone for joining us today and for your interest in scholar capital. If you have any questions. Please don't hesitate to contact me at two in Q 7197381 media inquiries should be directed to Jonathan Gasthalter at Q1 Q2 57417.
Thank you have a great day.
And with that this concludes today's teleconference. You may now disconnect. Your lines at this time. Thank you for your participation and have a wonderful day.
Yeah.
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