Cellcom Israel CEO Discusses Q1 2012 Results - Earnings Call Transcript

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 |  About: Cellcom Israel, Ltd. (CEL)
by: SA Transcripts

Cellcom Israel (NYSE:CEL)

Q1 2012 Earnings Call

May 15, 2012 10:00 AM ET

Executives

Porat Saar - CCG Investor Relations

Nir Sztern - CEO

Yaacov Heen - CFO

Analyst

David Kaplan - Barclays

James Breen - William Blair

Michael Clark - Citibank

Dan Harvard - Deutsche Bank

Maura Shaughnessy - MFS

Operator

Welcome to the Cellcom Israel Ltd. First Quarter 2012 Results Conference Call. (Operator Instructions). I would now like to hand over the call to Ms. Porat Saar of CCG Investor Relations Israel. Ms. Saar, please go ahead.

Porat Saar

Thank you I would like to welcome all of you to the conference call and thanks Cellcom Israel’s management for hosting this call today. With us here today are Mr. Nir Sztern, CEO and Mr. Yaacov Heen, CFO. Mr. Sztern will open by providing a summary of the main highlights of the first quarter 2012 results followed by Mr. Heen who will review Cellcom Israel’s Financial Performance in further detail. Before I turn the call over to Mr. Sztern I would like to remind our listeners that in this call management’s prepared remarks contain forward-looking statement which are subject to risk and uncertainties and management may make additional forward-looking statements in response to your questions.

Therefore, the company claims the protection of the Safe Harbor for forward-looking statements that is contained in the Private Securities Litigation Reform Act of 1995 and in the Israeli Securities Law 1968.

Actual results may differ from those discussed today and therefore we refer you to a more detailed discussion of the risks and uncertainties in the Company's filings with the Securities and Exchange Commission, including under Risk Factors in the Company's Annual Report for the year ended December 31st, 2011 20-F on March 7, 2012 with the SEC.

In addition, any projections as to the Company's future performance represent management's estimates as of today, May 15th, 2012. Cellcom Israel assumes no obligation to update these projections in the future as market conditions change. You should have by now received a copy of the Company's press release. If you've not yet received so please call CCG Investor Relations at 1-646-233-2161.

I would now like to hand the call over to Mr. Nir Sztern? Nir?

Nir Sztern

Thank you Porat. Good day everyone and welcome to our first quarter 2012 earnings conference call. All as you know we have seen quite a few developments in the cellular market here in Israel in the past 48 hours and I will read this after I give an overview of our results. In this quarter we continue to see the impact of the regulatory changes and increased competition. However, we also saw positive results from our merger with Netvision which already created a decline in costs as well as the positive effect on revenues.

We can also attribute this positive outcome to some of the goals we outlined in the last quarter such as our efficiency measures and so we view our strategy of staying on track. Indeed comparing the results of the first quarter of 2012 with the first quarter of 2011 we see a decline in profitability as a result of the competitive environment.

However, if we compare the first quarter of 2012 with the fourth of 2011 we can see that we succeeded in reducing the company’s expenses by approximately NIS 80 million creating the significantly low expense level for us and these results from among others. The efficiencies measures we implemented. We are committed to continuing this cost cutting momentum.

We are also making headway with our other goals which is to create value for our customers. Few are continuing to deepen our focus on server, internet growth by introducing data devices such as the new iPad for which Cellcom Israel is the only cellular company in Israel to sell this product. As well as the sales of a wide clarity of tablets and smartphones. We see a positive trend in this area with revenues from content and value added services rising by 10.9% compared with the first quarter of last year.

With regards to our network upgrade we are currently in the midst of this process and soon our network when enables future serving speeds with up to 84 megabits per second. We recently launched a variety of unlimited calling plans that offer great volume for money to our customers. This together with our success in winning the Israeli Defense forces tender will contribute to our efforts in boasting our subscriber growth this year despite increased competitive environment.

Our third goal was growth and you will see opportunities in the landline business. Indeed the Ministry of Communications recently decided to open the landline market for competition and we see this an opportunity to grow an strengthen Cellcom’s Israel’s position that a communication group providing a wide variety of solution to business and private customer.

However, the success of opening this market to competition still depends on the active involvement and supervision or (inaudible). So we hope to see some positive developments here.

I want to now turn to the recent events in the Israeli cellular markets. For those of you who have been following us, you will know that the company has always anticipated the intensified competition which would accompany the entry of new player. For this reason we initiated efficiency measures already backing 2011 and for this reason we are in a better position to deal with a new development and competitive landscape. We will continue to pursue vigorous cost cutting measures while continuing our efforts, our focus on providing the best service we can combined with attractive prices.

Our customers recognize this as well as numerous other organizations as reflected by our many awards for customer service over the years. There will be some rough waters ahead but we are confident that we are well equipped to remain ahead in the long run. In closing, I am confident that our progress thus far along with our talented skill team in the company will provide us with a necessary (inaudible) to maintaining our leading position in the coming years.

As always we are committed to continuing our efforts with a benefit of our customer’s shareholders and dedicated employees. With that I will next turn the call over to our CFO, Mr. Yaacov Heen who will review our financials, Yaacov, please.

Yaacov Heen

Thank you Nir and good day to all of you. As you noticed that operational synergy of the Netvision merger and the security measures we implemented at the end of the 2011 has a positive impact on our first quarter of 2012. And they demonstrate our efforts in adjusting our expenses structure to our current revenue level. Why we did succeeded in compensating for the equating revenue through our efficiency measures in the first quarter. We anticipate that in the second quarter of 2012 the impact of revenue erosion will outweigh our additional efficiency measures and therefore we will see a decline in both stability compared with the first quarter of this year and other change we anticipate regards financing expenses.

This quarter we benefited from lower financing expenses as the consumer price index remained unchanged. However, in the next quarter should the market expectation of higher inflation be realized we anticipate a substantial increase in our financing expenses which will have a material negative impact on our net income for the second quarter of 2012 compared with the first quarter of 2012?

Now turning to our consolidated results, revenues for the first quarter of 2012 total NIS 1.59 billion decreasing by 0.1% from first quarter of last year. Netvision’s contribution to revenues totaled NIS 208 million without Netvision’s contribution revenues would have declined by 16.4%.

Within the service revenues decreased by 1.6% totaling NIS 1.19 billion, revenues from content diluted services increased by 10.9% making it up about 3.4% of our service revenues. Operating income for the first quarter decreased year-on-year by 41.6% totaling about NIS 275 million. EBITDA decreased by 25.7% year-on-year totaling NIS 475 million. Netvision’s contribution to EBITDA for the first quarter of 2012 totaled NIS 65 million.

Net income decreased by about 43.5% totaling NIS 173 million. Turning to our KPI, MOU for the first quarter of 2012 totaled 365 minutes compared with 334 minutes in the first quarter of 2011 an increase of 9.3%. ARPU for the first quarter of 2012 totaled NIS 90.5 compared with NIS 115.2 in the first quarter of 2011.

During the first quarter of 2012, we generated a free cash flow of $144 million, a 64.1% decrease compared with the first quarter of 2011 but in improvement compared with the fourth quarter 2011. For the first quarter of 2012 the company was distributed dividend of approximately NIS 130 million representing approximately 75% of the first quarter net income to our shareholder. With that I would like to open the call to questions. Operator?

Question-and-Answer Session

Operator

(Operator Instructions). The first question is from David Kaplan of Barclays. Please go ahead.

David Kaplan - Barclays

The first question I have is on the dividend, you guys I know you don’t have a stated dividend policy but this quarter you paid 75% of that income whereas fairly the last eight quarters we have seen 95% or more. So can you talk a little bit about why you paid out less this quarter and what you see going forward for the rest of this year.

Yaacov Heen

Okay as you know our dividend policy is 75% of the net income, this quarter we decided to follow the for our former dividend policy. We believe that this is good to certain of our balance sheet and of course you know we can the rest of the year if you can see that the situation is changed we can continue with our previous dividend policy. But right now which is the message that we believe that it's a right balance between our shareholders and debt holders.

David Kaplan - Barclays

So if I take into account the guidance that you gave in the press release where you said that the second quarter it looks like it's going to be difficult again, perhaps even so should I take that’s understand that’s for at least the next couple of quarters we should expect 75% of net income as a dividend?

Yaacov Heen

Not necessarily as you know this is our all of management’s (ph) decision and we analyze it every quarter. This time as we analyze and the uncertainties of the market that’s why we have this decision.

David Kaplan - Barclays

And the last question, with all the new pricing in the market I am sure Cellcom has come up with and is going to continue to come up with new pricing plans themselves, do you see any other regulatory changes coming down the road like what the ministry talked about today about opening or I should say I think quote that you are flooding the market with new cheap smartphones and how you are going to be able to prepare to deal with that?

Yaacov Heen

Obviously we can’t say tell it's going to be any more regulatory decisions in the future. You will have to regulate I think, we can also expect some regulatory leasing in terms of the landline business. In terms of the smartphone, we still haven’t see the decision yet and I am sure we will be able to deal with it in a very good way.

Operator

The next question is from James Breen of William Blair. Please go ahead.

James Breen - William Blair

Can you just give a little bit more color on how you feel excited to environment has been changed there given some of the news in the last day and then also just can you remind us about some of the step downs from the regulatory side and when you will see those sort of laps from a reporting perspective in the second quarter, third quarter this year. Thanks.

Nir Sztern

I will answer the first question and then if you can just clarify the second question because it wasn’t clear. In terms of what we see coming into the competitive environment, as I have said we have seen a few new competitors entering the market, (inaudible) a new operators declaring unlimited (inaudible) plans and such. Obviously I mean we were preparing for the entrance of new competition and we have launched several bundles and packages in the last few months and we will see how things are folding in the next few days and weeks and react accordingly, maintaining our customers value for money.

We will continue to do that I mean but we will make very cautious decisions looking forward.

James Breen - William Blair

Great and then just the second question was around some of the regulatory changes that took place little over year ago, you have seen revenue decline because of the change in those rates when does that sort of get grandfathered to that, you potentially can see revenue increase as we go forward. Thanks.

Yaacov Heen

I think the question was when are we going to see revenues going up is not so much going to regulatory issues it's more going to the competitive arena right now. I think that’s what driving the prices down, and we will have to see how the market unfolds in the next few months and then we will much more (inaudible) to answer the question.

Operator

The next question is from Michael Clark of Citibank. Please go ahead.

Mike Clark - Citibank

Yes I got a few questions, firstly on the ARPU which was NIS 90.5, I want to from the side was quite a big differential there with telephone came in at NIS 97 for the quarter. You used to be at premium and just wanting to understand what you think is driving that increasing differential is it to do with the mix of customers, it has to do with different pricing and if you can answer that. Thanks.

Yaacov Heen

Okay it's about the ARPU, we can refer to our ARPU of course the ARPU reflect the mix of our customers including the prepaid subscribers and also our focus now in the new area of the data usage of course it's a new customers with the new ARPU usually it's a lower ARPU because the same customer can buy more than one device and that’s why we expect that because of that the ARPU can be down. Of course it's a new revenue so that’s why the ARPU doesn’t reflect the overall picture.

The rebate on the handsets also from the last year reflecting right now in the ARPU. We took some measures to improve it so that’s what I can say about our decline in the ARPU.

Mike Clark - Citibank

So you mentioned the dates accounts of certain which are been used for data, will you start given if that is becoming a more meaningful part of the business and is impact ARPU would you think about starting to break that out as a number to help us in terms of modeling ARPU going forward?

Yaacov Heen

You know I ask some other company, this is not so clear, it's not just in Cellcom it's all over the world because sometimes to identify exactly the definition of those sim cards if it's few data sometimes the customer can switch the usage, so right now we believe that we continue with this total ARPU of the company. You know the MOU is also suffer from the same because the customer use adjustable for data card. Of course there is no a minute of use behind it but we believe that it's another very important KPI but this is not the overall picture and two different, if you want to start differentiate and you have many other segment that it's not less important to understand like the prepared and so on.

Mike Clark - Citibank

Okay and then by looking at the overall picture can you assuming all of is equal and the trends that you saw in Q1 would continue, i.e. no impacts of the new entrance. We have seen this ARPU is continuing to decline over the last four, five quarter, even though sharp pricing has actually stabilized or isn’t. So if those trends were to continue at what point would we see ARPU stabilize. Would it be Q2, would it be seeming no impact from new entrants.

Nir Sztern

Well I mean it's impossible to assume the impact from the new entrants, the new entrants in here and they are having the impacts. Unfortunately I can’t tell you, it's something that we will have to see.

Mike Clark - Citibank

No I appreciate that, but there were no new entrants this quarter and there were no new entrants the quarter before that and we still see ARPU being you know lower. So you can is the rate of decline slowing, is you know even taking out the new in terms of modeling I mean I think people are surprised by how quickly ARPU is falling even that the (inaudible) number this quarter was a surprise even though there were no new entrants in the quarter. So if you could give us some sort of indication as to what the trends in ARPU are even before the new actions I think it would help the market understand where ARPU is going better.

Nir Sztern

Just to clarify we have new competition in the first quarter. We had the first (inaudible) lowering prices, we have aggressive competition with the existing competitors. We have competitors preempting the new entrants and offering new participants. So even though competition was there just preparing for it has had impact on ARPUs and let alone the impact we are still seeing roaming from the fourth quarter as Yaacov mentioned coming back to us in terms of subsiding enhances. So we saw our competition in the third and fourth quarter moving on to the first quarter plus new competition in the first quarter plus preparing for the new competitors in the second quarter all these had effect on ARPU.

Mike Clark - Citibank

So you are saying in Q2 given the new competitors launch towards the end of the quarter. We should expect no letup in those declines in terms of ARPU.

Nir Sztern

I can’t tell you because I can’t give you any forecast on the ARPUs. We will see more competition and aggressive competition definitely.

Mike Clark - Citibank

Okay so my next question is on working capital and you have got NSI 120 working capital outflow and I am just wondering if you can, is that related to the sales of the iPad, whether you could give us some guidance or some indication as where working capital goes into the rest of the year?

Yaacov Heen

We assume right now that as long as we continue with the same level of handset sales then the working capital will continue to be in the same level even a little bit higher and then if you follow the trend in the market that the handset sales is going down let’s say then you can imagine that therefore the next year the working capital will be lower.

Mike Clark - Citibank

Okay all right.

Yaacov Heen

Define it because it depends on the handset level sales in the market.

Mike Clark - Citibank

Okay so am I right, for the remaining quarters of the year I can assume some working capital outflows but not very much definitely not the magnitude of the first quarter.

Yaacov Heen

Yes you can say that.

Mike Clark - Citibank

Okay thanks and then just my last question is on Golan, it will be roaming on your network. I mean we have seen the work site go live but in terms of on your side is everything ready to start to start sending out since to customers.

Nir Sztern

Yes in terms of our what we are obviously we can’t disclose anything we have between us and Golan. I can assure you that we are keeping up to the contact that we have with them.

Mike Clark - Citibank

So if I was to hold online today I will be able in the next few days and be turned on your site.

Nir Sztern

You have ask Golan that question.

Operator

The next question is from Dan Harvard of Deutsche Bank. Please go ahead.

Dan Harvard - Deutsche Bank

When you look at the packages that were announced yesterday, were there any surprises for you in terms of perhaps where some of these scenarios you have been looking at in terms of let’s say the unlimited part, the price points as a distribution channel.

I can see the stock is down 15% in two days, so obviously, the market was surprised.

Nir Sztern

I mean we have and we had many scenarios on what the prices are going to be. So I can’t say that we were surprised but we took in all our contingency plans we have looked at even extreme offers. Like you said the market obviously was surprised.

Dan Harvard - Deutsche Bank

So is this sort of close to an extreme scenario or just more or less the central scenario that you were anticipating.

Nir Sztern

It's a nice question but I am afraid.

Dan Harvard - Deutsche Bank

Okay how would expect your larger competitors to react to this.

Nir Sztern

I don’t know, you will ask the question to them. I can answer things in regarding Cellcom.

Dan Harvard - Deutsche Bank

And regarding Cellcom?

Nir Sztern

Well like I said earlier we are looking how things are unfolding, they have just yesterday on the prices. They haven’t actually gone online yet. The only thing that has go online is the website. We see we currently have a lot of great offers to our customers. We have great service and I am sure that everybody we will see the Israeli customer is looking for great prices but is looking for the best customer service in the world and their expectations are very high. So the competition is going to be on a wide range of the things.

We are very confident in our ability to give the best customer service experience and we have been chosen by many organization has given such a customer service. So we feel that’s a good thing for us, obviously we will decide if and when to change our (inaudible) plans I think it's something that we need to consider very cautiously going forward.

Dan Harvard - Deutsche Bank

I want to see new entrants came out with I guess pretty challenging statement, a very strong statement that this is a commodity product and I guess worst service was mentioned by implication of services not relevant. How to relate to that and does this challenge your business model if you come to the conclusion that it is or has indeed become a commodity product.

Nir Sztern

Well I mean we are meeting our customers every day and many of them and the customers want to know how to scrutinize the phone with the mail and the customer wants to call a customer service if they lost their phone and discount it and have a lot of questions and they need a lot of help and that’s something that we are there right now, Cellcom is there and will be there to offer them.

It sounds great, everything is going to be fine with our customer service, I mean knowing our customers, knowing the Israeli market I think we will see very soon that this is going to be a very key differentiator.

Dan Harvard - Deutsche Bank

Okay and now just one final question. Today, at least you are going to the online media, the core fences (ph) of all the cellular companies have been jam packed what’s been the kind of response you are seeing in the call center. What are people calling in about?

Nir Sztern

Well people are calling to ask, you know there is lot of question just regarding what’s going on, what these customers, there is a lot of people and just wanting to get some information right. That’s what we are seeing in most of our calls.

Operator

The next question is from (inaudible). Please go ahead.

Unidentified Analyst

Just would like to follow up on the previous question on the business model. I mean the MOC wants to basically cut the link between operators and handsets. I guess more and more operators are going to follow the example of Golan Telecom and offer only a single pricing plan or two pricing plans. So in such a scenario you hence it's always important. Sorry about Sinclair. What’s the value of the customer service or in other words what needs to happen for you to embrace the very thin internet base, very low cost business model of Golan Telecom? Thanks.

Nir Sztern

Well I mean I think the internet auction by Golan may and I am not even sure but maybe a viable niche strategy. We like Golan Telecom and like other competitors are obligated to offer customer service by law.

So I mean even that is still to me is puzzling how they are doing that and we will have to look into, they will have to look into that in the next few days. I mean not all of our customers and most of our customers not all of them are as tech savvy as we might want them to be and people still need a lot of assistance especially during towards and through smart phones and tablets and there is a lot of service that the customer need and we can see in as well in other operators in the world.

So as a niche strategy, maybe I don’t think it's a viable strategy for mass market.

Unidentified Analyst

I am sorry in this environment, I see your point but prices are coming down, they are going to continue to come down, competition is going to increase. The only way I guess for you to really solve this is the cut costs aggressively. Possibly a lot more than increasing in the first quarter. Is there any way for you to do that other than changing the business model, putting it more generally speaking. Is there any way for you solve this thing other than cutting costs, because revenues are going to come down no matter what you do I guess. So what else can you do with this respect?

Nir Sztern

Like I said earlier obviously cost cutting is one of the key things that we are focusing on, we definitely need to cut our cost to align in our cost structure with the revenues. But I mean we don’t want to forget it and things today are around voice products and that’s the award (ph) here in Israel today.

But growth is going to come from data. We believe that we are investing in our network, we are investing in selling smart phones and selling tablets and getting more and more customers join the internet revolution in terms of the cellular market. So we still feel and we come with the first quarter results even more convinced that this is the right strategy to grow our business.

Operator

The next question is from Maura Shaughnessy of MFS. Please go ahead.

Maura Shaughnessy - MFS

We have two questions, first has there been a pickup in inflation in the second quarter or in the middle of May, now that you have mentioned that the financial expenses will creep up in the second quarter. Has it actually happened so far or is it just your assumption?

Yaacov Heen

This is a seasonality, this year, according to the expectation it should be 1.5% which is very high. In one quarter, about April we are going to know it in maybe one hour it is going to be published and because of the big difference between the first and the second quarter that’s why I mentioned it because it's very important on the next income.

Regarding the 12 month expectation in Israel it's between 2.2% - 2.5% so that’s why the impact on the second quarter is relatively high. Again it's not something that we know more than others but this is the count expectation in Israel.

Maura Shaughnessy - MFS

Second question getting back to one of the earlier questions, your folks told me yourself that ARPU would be down sequentially the first quarter versus the fourth quarter as it has been the last couple of quarters. But the pace of the decline two and third and fourth quarter had started to chill out a little bit and then here we have the first quarter ARPU on a sequential basis much worse than the last couple ones which has already been brought up was a bit of surprise and frankly your response didn’t help me understand that at all.

So please maybe I am little thick (ph) please help me out again what happened in the fourth quarter versus the first quarter. Do we have a little some and those that we have a new management team and one of your competitors appears to be a little bit more rationale some of the subsidies were going away or at least chilling out a little bit and yet your ARPU just collapsed sequentially.

Yaacov Heen

In the last quarter of 2011 we invested a lot of efforts to, we try very hard to reduce the churn and that’s why because we saw the other offer in the market and it's also been at the beginning of the first quarter 2012. You know I cannot when you have to negotiate with your customers finally that the decision is that we try very hard not to lose any customer.

I can understand that when you compare it to our competitor but I don’t know exactly what is going there in telephone but in our business we know that we try very hard to reduce the churn and maybe this is the price and second of course the focus on the data side or as I talked about also we can contribute a small part of it to the increase in the data users and the data cards.

But I can agree this is our focus right now, it took some measures to reduce significantly the rebate on the smartphone. If you compare it to the fourth quarter about NIS 120 or right now it's between NIS 62, NIS 70 sometimes lower and we believe that by that we are going to see lower trend in the ARPU role. Not to mention of course the new competitor that this is another impact as I cannot write now assess it.

Maura Shaughnessy - MFS

But the new competitors weren’t there in the first quarter, so it's still you know sequentially down almost 10% is we thought it would be at these levels in a while not in the first quarter.

Yaacov Heen

But you know in the short term, the impact of the heavy users and we used to have a lot of them so if you have a customer who is a NSI 200 and NSI 300 and we giving a new offer of NIS 150 and the reduction is very high but now we are focusing on the significant part of our customers who pay less than the average and by offering an unlimited package it can be a win-win situation because they can enjoy more usage in one hand and with the small part of a new ARPU and we believe that it can be a balance but last year the impact of the heavy users was very high.

We talked about it that we are going to see the full impact after four quarters of price erosion.

Operator

(Operator Instructions). The next question is a follow-up question from Mike Clark. Please go ahead.

Mike Clark - Citibank

I just wanted to talk about Netvision revenues in the quarter which were down 6.5% sequentially and just want to understand is that how much of that is seasonal and how much of it pricing or revenue pressure in the ICP or the loan system businesses and what should we be looking out for the coming quarters.

Yaacov Heen

Like you said most of the declining revenues in terms of Netvision was seasonal, fourth quarter usually is a very high quarter in terms of sales in the ICP business and people are finishing their budget and buying a lot of security and telecom products. And first quarter is obviously is much less so most of the decline you see there is seasonal.

Operator

There are no further questions at this time. Mr. Sztern would you like to make some concluding statement?

Nir Sztern

Yes again I want to thank everybody for joining Cellcom Israel’s First Quarter 2012 Earnings Conference Call and I look forward to hosting you again in our next call. Good day.

Operator

Thank you.

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