ZipRealty's (ZIPR) CEO Lanny Baker on Q1 2014 Results - Earnings Call Transcript

| About: ZipRealty, Inc. (ZIPR)

ZipRealty, Inc. (NASDAQ:ZIPR)

Q1 2014 Results Earnings Conference Call

May 05, 2014, 05:00 PM ET


Samantha Harnett - General Counsel and SVP of Business Development

Lanny Baker - CEO and President

Eric Mersch - CFO


Jared Schramm - ROTH Capital Markets

Matt Blazei - Lake Street Capital

Brian Hollenden - Sidoti & Company


Good day everyone, and welcome to ZipRealty’s First Quarter 2014 Earnings Conference Call. At this time, all participants have been placed in a listen-only mode, although the lines will be opened for questions following the presentation.

It's now my pleasure to turn the floor over to your host, Ms. Harnett, the company’s Senior Vice President and General Counsel. Please go ahead, ma’am.

Samantha Harnett

Thanks, and good afternoon everyone. With me on the call today is Lanny Baker, President and Chief Executive Officer of ZipRealty; and Eric Mersch, Senior Vice President and Chief Financial Officer.

Earlier today, the company issued a press release describing its results for the first quarter ended March 31st, 2014. A copy of that release can be viewed on the company’s website at under the Investor Relations' section.

Before we begin, I’d like to note that during the course of this call, various remarks we make about our future business, our plans, goals, and activity including future business outlook and evolving market conditions involve forward-looking statements.

Actual results may differ materially from the plans, goals, and activity contemplated in these forward-looking statements and are subject to the risks and uncertainties including those described in today’s press release and in the company’s most recent Form 10-K, copies of which can be viewed on the company’s website under the Investor Relations section. Those risk factors are incorporated by reference into this earnings call.

Please also note that to supplement its consolidated financial statements presented in accordance with Generally Accepted Accounting Principles in the United States, ZipRealty uses a non-GAAP measure of net income that it refers to as adjusted EBITDA, which is explained in detail in the company’s earnings release.

The presentation of this additional information should not be considered an isolation or as a substitute for results prepared in accordance with GAAP and can be viewed at the company’s website under the Investor Relations section.

With that, I’ll turn the call over to Lanny Baker.

Lanny Baker

Thank you, Samantha, and thanks to everyone on the call today. ZipRealty's first quarter 2014 revenue and adjusted EBITDA were better than we anticipated. However, we're not satisfied with these results and I'll describe some of the immediate steps we're taking to improve near-term financial performance in a few minutes.

First, I want to talk about the longer term business opportunity we see ahead of us and how we're organizing to realize that potential. As many have observed, the realty industry is going through a once-in-history transition to embrace a more digital operating model.

The secular changes in this industry started several years ago on the consumer side, and more recently have rapidly moved real estate marketing activities and ad dollars to the web and to mobile.

Continuing the industry shift, we see brokerages, agents, and the full range of real estate service providers adopting digital technology at a faster pace today than in recent history. The ramifications of these trends are enormous, because residential real estate in the United States is a $50 billion to $60 billion per year industry, and one that has been relatively slow to go digital, until now.

Understanding and anticipating this transformation, we began remaking ZipRealty two years ago. First, we stripped away the non-essential elements of our brokerage model and reoriented our brokerage business around our differentiated technology.

Second, we launched a business line called Powered by Zip with the objective of extending our technology much more broadly across the industry. Today, ZipRealty's investments and product development and digital marketing are the primary focus of our operation as well as our research allocation. And we believe these are the right priorities in light of industry trend.

Within our brokerage business, the emphasis on a differentiated technology-driven agent experience is attracting new agents to the ZipRealty team and we’ve grown by 200 agents or 13% in the past 12 months.

Beyond that, advances in our digital marketing, CRM platform, and online trading programs have contributed positively to agent production. In the first quarter of 2014, agents who have ZipRealty within the last 12 months accounted for 20% of our total transaction volume and that's twice the level of contribution from new agents that we saw in the same quarter a year ago.

Technology-fueled progress like this within our brokerage business reflects the power of our system and supports our belief that we can attract and activate productive agents and thereby grow our brokerage market share.

For Powered by Zip, our vision is for PbZ to become one of the industry's leading digital solutions employed by agents and brokerages everywhere who are seeking to provide an exceptional consumer experience, powered by an end-to-end digital platform.

To-date our progress is quantified by as a 21 Powered by Zip brokerage clients and 600 plus agents on our system, agents who have closed the total of over $637 million in real estate transactions using our system.

Looking to the future, we seek to significantly expand our PbZ client base and increase agent adoption of our system. In order to do that, we're evolving both our product suite and our marketing approach and we achieve noteworthy milestones on these fronts in the first quarter of the year.

Earlier today, we announced the debut of our new SaaS-based platform PbZ offering, with its first life client and initial set-up launch customers. The platform version of PbZ includes every element of our proven digital experience, a world-class website, top rated mobile apps, a powerful agent CRM, automated digital marketing, interoperability with third-party resources and an integrated transaction management system.

Importantly though, the platform offering differs from our original lead-based offering and that it is client-branded not co-branded. It's designed to service all of our brokerage agents, not just the internet team, and the financial model is based on monthly subscription fees and feed licenses as well as paid marketing services rather on success-based referral fees.

We believe that this new software and service products and pricing configuration complement our existing lead-based offering and will appeal the brokerages seeking a full end-to-end digital platform.

The subscription based pricing model allows customers to capture the financial upside from effectively digitizing their operation and is expected to generate predictable recurring revenue for PbZ.

As excited as we're by these developments, we're in the very early stages with this offering and revenue from the platform offering will be immaterial in 2014.

Nonetheless, the introduction of our platform offering is a critical step in a transition toward a market-responsive product development mindset that moves PbZ in the direction of recurring and away from taking principle risk in the generation of client leads and it puts PbZ on track towards delivering a set of digital solutions with broad industry appeal and a formula for deeply penetrating our agent -- our client's agent base.

Our plan for the near-term is to market the platform offering to midsize and smaller brokerages. These are the entrepreneurial, local operators who have never before had access to kind of consumer applications, agent platform, online marketing capabilities that we now offer.

In time, we plan to also pursue larger industry relationships that could [scarce step] (ph) our market penetration. And eventually, we can see PbZ addressing the real estate agent opportunity directly.

With that picture of PbZ and its future increasingly well-defined, let me turn to our current state, including the company's current performance in the first quarter, our outlook for the second quarter, and the operational priorities we're focused on in the next couple of quarters.

First quarter 2014 revenue of $13.6 million was $1.1 million above the high end of the range we anticipated in our prior business outlook. The upside relative to our outlook was driven by a stronger than expected finish to the quarter. However, total revenue for the quarter was below a year ago based on lower transaction volume in our owned and operated brokerage business.

The slowdown, we've been experiencing in our brokerage since last November seems to be continuing this spring and the number of real estate transactions closed in our market areas declined 8% year-to-year in the first quarter. ZipRealty’s own transaction volume was down 17% year-to-year in the same period.

Many of the markets we serve remained inventory-constrained in the first quarter of 2014. And that type of environment is less favorable for our buyer-oriented customer base. In the first quarter, approximately 78% of our transaction volume was on the buyer side of the deal.

Over the course of the first quarter, however, the total number of homes for sale in the market served by our owned and operated brokerage began to increase slightly and for sale inventory stood about 7% higher at the end of the quarter, than at the start of the quarter.

In seven of the cities we serve, inventory levels are now up more than 10% compared to a year ago, and these trends offer some encouragement to home buyer prospects and our brokerage business going forward.

Meanwhile on the consumer product and marketing side of our business, average monthly visitors to our web and mobile properties were up 2% year-to-year in the first quarter, with stronger growth towards the end of the quarter.

Between October 2013 and February of this year, we saw weaker overall consumer traffic and usage across our products. And with the belief that these trends signaled a pause in consumer home buying interest, we reduce customer acquisition spending in the short-term.

Total lead volume was down 26% year-to-year in the first quarter, although again, a year-to-year performance in March was significantly better than earlier in the quarter.

I'll let Eric go into greater detail on the remainder of our first quarter financial and operating results. And I'd like to address our second quarter outlook and operating plans before turning the call over to him.

Based on what we're seeing through April and the visibility into the rest of the second quarter, we currently anticipate that our home sales and revenue performance will be slightly improved from what we achieved in the first quarter.

Specifically, we currently anticipate that our revenue will be between $19 million and $20 million for the second quarter of 2014, a decline of 10% to the midpoint compared to $21.7 million in the second quarter of 2013.

Adjusted EBITDA is expected to be positive between breakeven and $0.5 million for the second quarter of 2014. To drive our goals of growth regardless of market condition, we're making progress in four key areas that we believe will generate improved brokerage performance in growth in overall financial results in the latter half of 2014 and beyond.

First, lead science, the logic and process behind customer acquisition, lead allocation, and client conversion. We recently introduced a new version of ZipRealty's homepage optimized for SEO benefit and we're in the process of moving our SEM spend toward more highly-targeted and local-specific term that better match our agent service territory.

Second, recruiting and training. We continue to emphasize agent recruiting and our new hires were 60% year-over-year in the first quarter. Production from our new hire classes is up significantly year-over-year and we'll rollout an upgrade to our online training program during the second quarter.

Third, agent incentives and retention. Developing and retaining skilled and productive agents is core to our brokerage earnings power and we're working on confrontation and recognition programs to secure our most promising agent.

Agents who produce 70% to 80% of ZipRealty's annual transaction revenue -- sorry, among agents who produce 70% to 80% of our annual transaction revenue, we're already achieving full year retention rates in the high 80% range in the last year, and we believe we can extend that kind of retention through a broader group of our agent population.

Fourth and finally, careful investment allocation. Given the external environment we faced as our own -- as well as in our own overall performance, we are thoughtfully and conservatively managing expenses. I’d point out that when revenue came in $1 million better than expected in the first quarter, adjusted EBITDA was also $1 million improved relative to our expected range, and we’ll continue to manage cost prudently to match the near term business performance.

In summary, the first quarter of 2014 was a challenging one compared to a year ago, and we’re very focused on the steps I just enumerated to improve overall performance. I’m encouraged that our first quarter results were ahead of the outlook that we provided in March, but we have to caution that the real estate environment is volatile and we’re subject to short term cyclical swing.

Based on what we’re seeing in our business today, we believe full year revenue for 2014 will be even with that of 2013 with positive comparisons in the second half of the year; clearly though our aspirations and intentions are for far stronger growth in the future.

On a strategic level we believe our core emphasis on technology and digital marketing are not only right for Zip and our agents and our customers, but also right for our industry at this time. We have well over a decade of digital experience and some of the most exciting product knowledge and capabilities in our business. By advancing these and projecting them more broadly across our industry, we believe we can drive strong long term revenue growth and increase the value generated for shareholders.

Let me now turn the call over to Eric.

Eric Mersch

Great. Thank you, Lanny. For the first quarter net revenues were $13.6 million, a 12% decrease from $15.4 million in the first quarter last year. The company’s net loss for the quarter was $2.9 million or net loss of $0.13 per share compared to a net loss of $2.2 million or a net loss of $0.10 per share in the first quarter of 2013.

Adjusted EBITDA for the quarter was negative $1.9 million, compared to negative $1.3 million in the first quarter of the prior year.

For the first quarter of 2014 our owned and operated business generated $12.1 million in transaction revenue, which represents an 89% of our total revenues for this period. Our transaction revenue was primarily a function of our agents force, their productivity and average transaction revenue.

At March 31, 2014 our agent force consisted of 1,777 real estate professionals. This is the highest agent count in ten quarters as our recruiting organization continues its successful strategy execution.

Agent productivity, which we calculate as transaction size divided by average agent count, was 0.33 home sales per month during the first quarter of 2014, which was 27% lower than 0.45 in last year’s first quarter. Although new agents are contributing meaningfully to our brokerage performance, we believe that the lower market activity dampened our productivity in Q1.

Our average transaction revenue for Q1 was $6,982 which was 4% higher year-to-year, reflecting rising but moderating home sale prices. Other than transaction revenue we generated marketing and other revenue of $1.5 million in Q1, which was 6% higher than that of prior year, including 39% growth in the Powered by Zip business.

Our cost of revenue consists almost entirely of agent commissions and agent-related expenses. We experienced lower cost of revenue this quarter versus the prior year. Lower next-gen transaction revenue reduced commission expense.

However, in the reversal prior period trends, we also saw a decline in the commission expense as a percentage of transaction revenue. This decline was largely due to the increased mix of production from our newer agents. As a result, our gross margin for Q1 was 46.6% versus prior year’s quarter of 43.5%. We currently expect gross margins for the full year to range from 40% to 45%.

The low cost of revenue, we report our operating expenses related to the core business in three main categories; product development, sales and marketing and general and administrative, the sum of which totaled $9.2 million for the first quarter, 5% or $477,000 higher than the prior year.

Product development expense was $226,000 higher than prior year due to investments in engineering talent over the past 12 months. Our new hire strengthened our engineering team which continues its success in driving technological innovation and launching new products.

Total sales and marketing expense was slightly higher than prior year. Investments in PbZ talent drove the higher year-to-year expense. However, some of this increase was offset by reducing customer acquisition expense in response to environment of lower online consumer activity associated with the challenges of the current real estate market.

General and administrative expenses were higher by $214,000 year-to-year for the first quarter. Stock-based comp and severance were main contributors to the year-to-year increase.

As of March 31, 2014 the company had approximately $11 million of cash and cash equivalents with no debt, compared to $14.3 million as of December 31, 2013, and $11 million as of March 31, 2013.

Thank you. Operator, let’s now open the line for questions from participants.

Question-and-Answer Session


Ladies and gentlemen, we’re ready to open up the lines for your questions. (Operator instructions)

And your first question comes from the line of Jared Schramm with ROTH Capital Markets. Please proceed.

Jared Schramm - ROTH Capital Markets

Hi. Good afternoon.

Eric Mersch

Hi, Jared.

Jared Schramm - ROTH Capital Markets

First question. You mentioned that agents have less than 12 months tenure on the ZipRealty platform transacted 59% more deals from similar agents in the first quarter of 2013. Could you go into little more detail as to what’s tweaked as far as the education process is concern there, or are they just higher quality agents you’re recruiting compared to a year ago?

Eric Mersch

Jared, I think our recruiting team is doing a very, very strong job out there. We attributed in our prepared remarks one of our growth on the agent front, the investments we’ve made in the technology and in the marketing, but it is our recruiting personnel out in every one of our local markets who we are bringing -- doing a hard work to bring those agents into the Zip environment. And they’ve done a very good job of identifying the right types of candidates and bring them into Zip.

Now behind that we made some pretty major changes to our training regime. We, last in the spring, rolled out the first version of our online training and we have another 30 days from now the roll out of a major upgrade to that online training.

And the training is focused on not the ins and outs of being a real estate agent, but rather the ins and outs of being a ZipRealty agent; how to work with Internet leads, how to optimize the incubation capabilities of our technology platform, how to approach strangers, which is something that very often real estate agents -- they typically work through friends, and friends of friends. And our training is really focused on that ZipRealty environment. I think that’s made a big difference.

We’ve used training. It’s a rigorous course that goes over a first couple of weeks of an agent’s time with Zip. And we’ve used it as not only mechanism for getting people up to speed on how to use our technology, but also some of those screen mechanism. And if agents -- potential agents don’t pass various pieces of the course in defined amount of time denominated in days then they’re not going to stay with ZipRealty.

So think combination of the recruiters bringing us really talented people, an upgrade to the training technology that we have; and of course, the support of our other agents and our local operators -- local district brokers is what I think behind that improvement and contribution from new agents.

Jared Schramm - ROTH Capital Markets

And then the recently launched Zap platform, could you provide some depths as far as the sales and marketing concepts there?

Eric Mersch

The sales and marketing concept as we will take that to market?

Jared Schramm - ROTH Capital Markets


Eric Mersch

Yeah. Well, the adaptations that we made to Powered by Zip really reflect customer feedback. And, as we announced today, we have three of our existing lead-based clients saying we’d like to switch over to the full platform model.

So I’m pleased to say we’ve gotten repeat customers telling us that this product formulation and pricing formulation is as attractive or more attractive because they are making that switch. And we have brought one new brokerage into the fold at that point.

The sales and marketing approach is going to be to -- and we’re actively engaged in this already talking to brokerages about sort of digitizing the entire dealer operation from the time to save -- spend a $1 on the Internet and throw sort of the -- throw the marketing pitch out there online so then that customer opportunity is originated and hit the Westside, the time that’s dedicated to the agent and incubated by the agent and by the system, and then we’re all the way through the close of the transaction.

Brokerages are understanding that consumers are online. They just want to be online. They need to get their brokerage business much more digital in the way that it operates. But right now that means an awful lot of systems' integration, buying the website from one group that’s mobile from another, the CRMs from the third, and maybe a transaction part from the fourth, if not even more vendors than that.

And one of the -- our big sales and marketing pitch will be about, "hey, this is a platform that supports one of the industry's largest brokerages in multi-cities with over 1,700, almost 1,800 agents, 1,50,000 transactions close to that. It is not a speculative piece of technology. It is a operating end-to-end digital platform." And we are taking that message up to the industry, large and small and doing everything we can to get the visibility for that offering.

Jared Schramm - ROTH Capital Markets

Safe to say you wouldn’t put a lot of feet on the ground right away as far as the sales push on year end now?

Lanny Baker

That’s right. I think that in time we'll be adding sales people where it’s a -- we've got a good, solid pipeline of customers today. We will be getting those partners or clients onboard, running on the platform and then more we do that, the more examples in the marketplace. We will keep running at this and eventually we do it with say adding sales people, but not in the immediate, but future.

Jared Schramm - ROTH Capital Markets

Okay. And then the consumer mobile app, it seems that you are getting some decent traction there. Could we expect an increase in SEO as far as the consumer mobile app is concerned in the next couple of quarters?

Lanny Baker

Well, it’s an interesting question that you asked, because the -- as wired as, I believe, we have the SEO and SEM in the web world and there is always room for improvement, mobile is still emerging. The ways that you acquire through pay channels, mobile downloads and mobile customers are still, I think, very emergent at this point.

So absolutely you will be seeing us do more there. But, we are far from optimized in terms of mobile SEO or SEM. And I think our website and the email programs and our agents that are already out there interacting with little millions of consumers every month are probably our single first lever for continuing to drive mobile uptake and adoption of this spread. But beyond that we are focused on those things that you talk about.

Jared Schramm - ROTH Capital Markets

And last question here relates to expenses. Are you looking to cut expenses down the road or just manage expenses and doing what you are seeing on the revenue side?

Lanny Baker

Yeah, as we said, we are looking at every expense very, very carefully in light of the current business opportunity and business environment. We are looking for long-term potential that I talked about and the transformation the industry is going on and the room to invest both in our brokerage business and in our technology business. We see compelling returns in both areas.

And we want to time to those investment for the moment of time when they can make the biggest impact and we are not -- we are always managing expenses really in sync with the current environment.

As Eric described, we have made some additional investments in the team both on the technology side and in Powered by Zip, and we are going to keep that investment in place. And going forward we've also added some marketers and we are looking at some training resources for our brokerage business. So, no, I don’t -- we don’t have any big expense reductions to account.

Jared Schramm - ROTH Capital Markets

Thank you. For taking my questions.


And your next question comes from the line of Matt Blazei with Lake Street Capital. Please proceed.

Matt Blazei - Lake Street Capital

Hey, Lanny and Eric. How are you?

Lanny Baker

Good how are you doing?

Eric Mersch

Hey, Matt

Matt Blazei - Lake Street Capital

Good. Couple of questions for you. I'm very pleased to see that you guys have launched the white label products, the new platform based products. One of the main reasons you guys wanted to do that, obviously, is refuse your working capital expense upfront in terms of lead generation.

And I'm just curious as to what you think the mix of the new product offering is in terms of how you are getting paid relative to the old success-based formula which, if my memory serves me correctly, you are getting 70% to 75% of your compensation based on success of the broker closing deals.

Can you talk about that little bit more?

Lanny Baker

Yeah. I think that in the lead models, which we are going to continue to run and we are going to continue to support and we are going to offer, it's even more of the revenue comes in the success-based fashion than 75%.

And as we look at the, what we call, kind of, the closed curves of leads that we acquire on behalf of our agents -- on behalf of our customers and their agents. There is a fairly predictable return curve by which those leads convert to closed transactions and convert to commissionable dollars and then deferral money to ZipRealty.

And over the course of the three-year term on those agreements, we are really excited about the exponential return characteristics. But you are right. Every one of those programs, particularly one with brokers who want to ramp up a lot of agents on the team, is a big trunk load of cash into that working capital to acquire to leads for the future return.

The [hardcore model is chaste] (ph), getting paid on monthly subscription for the technology service that we provide. I think that the revenue characteristics, if you look at the platform versus the leads model, there is sort of revenue per customer, those numbers are probably pretty close on an annual basis.

But I think that the benefit of being able to add predictable, recurring and less capital intensive growth through the platform model is going to be a win for Powered by Zip overall.

Matt Blazei - Lake Street Capital

And just so curious, is there is any success-based of the new platform model?

Lanny Baker


Matt Blazei - Lake Street Capital

Well, straight subscription. Okay. Thank you for that. Secondly, I'm just curious Lanny, I live out here in California and obviously I'm aware of the tight inventory conditions that you are talking about. To sort of meet your guidance of flat revenues year-over-year, quite a dramatic turn in your transaction revenues here in the back half of the year.

I guess I can sort of feel and get the sense that, yes; the inventory is improving a little bit. What gives you the confidence that that’s going to improve that’s much from down 10%, say, in the Q2 to say up mid-single digits in Q3?

Lanny Baker

Well, I think the inventory levels have improved. The -- and we've only seen -- we've always -- it’s a first improvement that we've seen in inventory levels really in probably 24 months. That’s just happened within the last 45 days to 60 days. So, I don’t think you've seen the benefit of that coming into market yet.

Now look, I know there are all kinds of challenges around the real estate market from availability is still the inventory question, to affordability with what's going on in the labor markets to finance ability with what's going in the mortgage markets.

But one the things that gives us confidence is, we look at the performance we've although put together, at least, in the first nine months of the last year really based on growing our lead volume, growing our agent count delivery and good training, and we are really able to build the company's growth to that.

So agent count right now ends the quarter up mid-teens year-over-year. The production of those new recruits is improving today relative to what it was before. They are becoming a bigger and bigger force within our overall mix. And I think we have some conviction about ZipRealty's ability to close the gap on our local markets and grow faster in second half of the year.

Not to mention, by the time we get to the very end of the year, the comparisons were pretty weak and for us to have missed the fourth quarter the way that we did from the point and time when we provided an outlook for the fourth quarter, we thought something pretty dramatically in the last couple of months or last year.

Matt Blazei - Lake Street Capital

Okay, appreciated. Nice job on those -- bring the preannouncement.


And your next question comes from the line of Brian Hollenden with Sidoti & Company. Please proceed.

Brian Hollenden - Sidoti & Company

Hi, guys. Thanks for taking my call.

Lanny Baker

Hey, Ryan.

Brian Hollenden - Sidoti & Company

Question was -- actually going to similar to the previous question. Just wanted to hear you talk a little bit about California, and then just, I guess, more precisely, in the quarter what percent of revenue came from California this quarter versus the prior quarter?\

Eric Mersch

Well, your second part of the question about 35%to 40%came from California.

Lanny Baker

And in California, it's interesting, in San Diego and Los Angeles, in Sacramento, we've seen some of the biggest year-over-year increases in inventory. Now, still relatively tight, we believe to the -- and as measured you can fill lot of demand in those places. But some of those cities are up 25% to 35% year-over-year on inventory.

That will clearly slow down the price momentum, but we've been in a market where there just weren’t the homes available for those who were interested in transacting. I'd still say in California, the part of the market in California that is the healthiest and by healthy, I mean buyers and sellers agreeing on price often and quickly and a lot of transactions happening, it's up over $1 million.

Not a lot of those homes in California, but certainly the high-end of the market seems to be the most liquid and active end of the market. It's not -- you get into the sort of first time homebuyers. That market is still pretty challenged particularly from an inventory respective.

Brian Hollenden - Sidoti & Company

Okay. Thank you. And then that 35% to 40%, how does that compare with the prior year, is it very similar percentage?

Lanny Baker

Yeah. It's similar -- closer to the 40% due to the tightness of inventory.

Brian Hollenden - Sidoti & Company

Okay, great. Thank you very much.


(Operator instructions)

And at this time, we have no questions.

Lanny Baker

All right. I'll just say in closing, thank you to everybody on the call today, and also thank you very much to all of ZipRealty's agents and field team who we don't see enough, but who are very much responsible for the performance the Realty achieved. Thank you all.


Ladies and gentlemen, that concludes today's conference. Thank you for your participation. You may now disconnect and have a great day.

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