Northview Apartment REIT's (NPRUF) CEO Todd Cook on Q4 2016 Results - Earnings Call Transcript

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Northview Apartment Real Estate Investment Trust (OTC:NPRUF) Q4 2016 Results Earnings Conference Call March 10, 2017 12:00 PM ET

Executives

Todd Cook - President and CEO

Leslie Veiner - COO

Travis Beatty - CFO

Louise Elsey - Corporate Secretary

Analysts

Jonathan Kelcher - TD Securities

Mario Saric - Scotiabank

Dean Wilkinson - CIBC

Jenny Ma - Canaccord Genuity

Operator

Good morning, ladies and gentlemen. I would like to welcome everyone to the Northview Apartment REIT’s Fourth Quarter and Year End Conference Call. All lines have been placed on mute to prevent any background noise. After the speakers remark, there will be a question-and-answer session [Operator Instructions]

Mr. Todd Cook, President and CEO of Northview Apartment REIT, you may now begin your conference.

Todd Cook

Thank you, Melanie. Good afternoon, ladies and gentlemen, thank you for joining us for the 2016 Year End Conference Call. Joining me today is Leslie Veiner, our Chief Operating Officer; Travis Beatty, our Chief Financial Officer; and Louise Elsey, our Corporate Secretary.

The webcast of today’s conference call, including the presentation slides, for the first time ever, can be accessed by visiting our Investor Relations section of our website under Presentations, or through the Web link located in our most recent financial results media release.

We’ll begin the conference call after Louise reads our brief cautionary statement as outlined on Slide 2. Louise?

Louise Elsey

Thank you. Today’s conference call and presentation may contain forward-looking information with respect to Northview Apartment REIT, among other things, its current expectations of future results, performance, prospects and opportunities, operations, strategy and condition. The actual results and performance of Northview discussed herein could differ materially from those expressed or implied by such statements.

Important factors that could cause actual results to differ materially from expectations include, among other things, general economic and market factors, competition, changes in government regulation and other risk factors described in securities filings. All forward-looking statements speak only as of today, March 10, 2017 and the parties have no obligation to update such statements. Thank you.

Todd Cook

Thank you, Louise. Yesterday, we released the year-end financial results for 2016. Diluted FFO per unit was $0.49 for the quarter and $2.21 for 2016. Excluding nonrecurring items related to insurance proceeds and the impact of the Fort McMurray wildfires, diluted FFO per unit was $0.48 for the quarter and $2.14 for the year.

Looking back over the last year, there were several significant accomplishments, as listed on Slide 3. We successfully integrated the 2015 transaction of almost 14,000 multifamily units, including the internalization of most of the Ontario portfolio. We executed on the 2016 strategic objectives. Specifically, we delivered on the Value Creation Initiatives, in line with our expectations, creating almost 2.8 million in annualized NOI growth and 50 million in asset value or an $0.88 per unit NAV growth. We completed 49 million in non-core asset sales during the year and another 23 million so far this year. As advertised, we used the proceeds for leverage reduction. That, coupled with the 75 million equity raise completed in October, our leverage was reduced by 270 basis points, putting us ahead of schedule on this front. And the last strategic priority for us was to maintain our long-term sustainable distributions.

Talking quickly to the operating results. The trends that we saw throughout the first three quarters of the year continued in the fourth quarter. Geographically, our diversified and balanced portfolio across the country is performing as expected. Northern, Eastern Canada with the exception of some weakness in Newfoundland and Labrador and Central Canada, are performing well in delivering organic growth. Western Canada, principally Alberta and Northeastern B.C., not surprisingly remained soft.

I will turn the call over now to Leslie to provide more details on our operating results.

Leslie Veiner

Thank you, Todd. I’ll now provide an update on how we are performing in our residential, hotels and commercial portfolios. Starting with an update of the transaction that was completed in the fourth quarter of 2015.

Overall, we’re pleased with the progress we’ve made on the 4 Value Creation Initiatives that we identified at the time of the transaction and shown on Slide 4. In 2016, we successfully internalized almost 7,600 units in Ontario and generated savings of 2.1 million on an annualized basis, higher than our original estimate. Management is currently assessing the timing for the internalization of the remaining externally managed regions and expects some of these regions to be internalized by the fourth quarter of 2017.

In 2016, we completed the renovation of 268 units in the high-end renovation program, achieving an average return of 15%, which was in line with our set out targets. Other Value Creation Initiatives, including below market rents, submetering and above guideline increases were on target for the year. Overall, we generated an annualized NOI increase of 2.8 million from Value Creation Initiatives completed in 2016, in addition to the annualized internalization cost savings of 2.1 million.

Moving on to the residential operating performance in the fourth quarter, our performance was in line with our expectations in most regions throughout the country. The continued stability in Ontario, Northern Canada, Nova Scotia, New Brunswick and Southern B.C. markets, together with our continued focus on managing controllable expenses, has helped offset the impact resulting from poor economic conditions in our resource-dependent markets.

Looking at Slide 5, I will now provide some background on the performance of our markets, starting in the West. The weak economy in Alberta and Northern B.C. continued to impact vacancy in the fourth quarter. Management’s focus on reducing controllable expenses as well as getting some higher rents on short-term leases in some regions helped offset the vacancy loss in the quarter. Occupancy in Fort McMurray improved another 3.7% in the fourth quarter and we have started to see improvements in Grande Prairie, Dawson Creek and Chetwynd. We do not expect to see further improvements in Fort McMurray until the second quarter when construction for the rebold ramps up.

Our Fort McMurray team has an aggressive marketing plan in place in anticipation of the expected influx of workers to the city. The struggling economy continues to impact occupancy in Lloydminster and Saskatoon. The West has shown encouraging occupancy improvements in early 2017 with occupancy in some markets improving in the first quarter. Although, I must caution that some of this improvement is through an increase in short-term rentals, particularly in Northern B.C., which is benefiting from an influx of workers for the pipelines.

As shown on Slide 6, Ontario occupancy declined marginally in the quarter compared to the third quarter, however, remained stable throughout 2016. Occupancy in Ontario is impacted by the high end renovation program which requires a unit to be vacant for 30 days while renovations are being completed. In the fourth quarter, we had 59 units being renovated that impacted vacancy. Expenses were higher in the quarter mainly due to repairs and maintenance and bad debts which were incurred as we look to reposition a few underperforming properties in the Kitchener and Waterloo region, the benefits of which we’re starting to see in the first quarter of 2017. We expect that the Ontario market will continue to be a stable performer and expect that the impact of the high end renovation program will result in improved operating metrics over time.

Slide 7, in Atlantic Canada, occupancy decreased slightly from the third quarter to 92%. The softness in the region is predominantly attributable to the rental market in St. John’s, which has softened due to the weaker local economic conditions, opening of recently built student housing and the impact of secondary suites or basement apartments.

Our team in St. John’s has been using incentives and reducing market rents to offset vacancy as well as implement an aggressive leasing renewal program for existing residents. Management expects this weakness to continue through the first quarter of 2017. The performance of the Nova Scotia and New Brunswick portfolios acquired in the transaction has provided increased stability in the Atlantic Canada region.

Moving to Slide 8, in our Northern Canada market, our overall occupancy declined slightly in the quarter to 94%. The decline is mainly due to the slight decrease in occupancy in Yellowknife and Inuvik. Yellowknife is seeing some economic challenges mostly in the mining industry and the government also continues to lay off employees. We are constantly reviewing rates and have several incentives in place to help improve occupancy. In Inuvik, two major projects, the road to Tuk and the ICMP detachment are winding down, which has had an impact on vacancy in the fourth quarter. Inuvik continues to be a strong performing region with high rents and stable vacancy.

Finally on Slide 9, our Québec market occupancy improved over 4% in the fourth quarter. The major improvement was at our large complex in St. Laurent. The rest of the province continues to be at or near market occupancy. We feel we are starting the year in a good position and should see improvements as we enter the busy rental season in Québec.

Moving on to hotels and commercial, our executive suite and hotel operations had a strong performance in the fourth quarter, representing 3% of our total NOI. NOI from commercial operations, which represents 11% of total NOI, was in line with the prior year. Commercial occupancy was 96% at December 31, 2016 compared to 97% in 2015. The increase in vacancy was mainly due to a lease expiring on a warehouse in Fort Nelson during the fourth quarter.

I will now turn the call to Travis to review the financial results.

Travis Beatty

Thanks, Les. As shown on Slide 10, we reported diluted FFO of $2.14 per unit for 2016 and $0.48 for the quarter excluding nonrecurring items. Contributing to the decrease in FFO per unit from the comparative periods was lower operating performance in natural resource based markets, higher interest expense from additional mortgages and dilution from the October equity offering. Our distributions remain at $1.63 per unit on an annualized basis which are sustainable long-term. For 2016, the diluted FFO payout ratio excluding nonrecurring items was 77%.

During 2016, we achieved a fair value increase of 54 million. The largest portion of this was from Ontario which had an increase of $46 million due to cap rate compression and rent increases. We continue to have success with our in-house development. Our two newly developed properties in Alberta had a fair value increase of $9 million. First, the Airdrie development had a writeup of 8% from development plus and the Calgary development had a write-up of 15% from development cost during 2016. Across the remainder of the portfolio, there was a fair value increase in Atlantic Canada and Northern Canada and Québec of $34 million, offset by a fair value decrease in resource-based markets of $35 million in 2016.

Moving on to Slide 11, we made significant progress in the second half of 2016, reducing debt to gross book value by 270 basis points from the 75 million equity offering and 72 million of non-core asset sales completed to date. At December 31, 2016, our debt to gross book value was 57.5% compared to 60.2% at June 30, 2016. Leverage reduction for the near to midterm will be achieved through growth in asset values, driven by successful execution of the VCIs and developments. Northeast coverage ratios are expected to remain strong. Our debt service coverage ratio is at 1.7 times and our interest coverage ratio is 2.98 times.

Onto Slide 12, the 2017 refinancing interest rate is projected to be higher than current CMHC rates due to a number of conventional mortgage renewals expected to occur in 2017. We continue to evaluate our capital structure to take advantage of low interest rates where possible. Looking ahead, we have sufficient liquidity which allows us to support external growth. We are well-positioned financially as we head into 2017.

I’ll now turn the call back over to Todd.

Todd Cook

Thanks, Travis.

Moving on to developments in Slide 13, we completed our 261-unit development in Northeast Calgary ahead of schedule. We have seen reasonable demand with over 100 units leased and committed today. Our timing of the lease-up are generally in line with our pro forma expectations. I believe the high-quality rental accommodation, along with our recent completed developments in Airdrie will provide long-term value for our unitholders. As Travis mentioned, our developments generated $9 million in net asset value lift, which translates in about $0.16 per unit in NAV. Construction is well underway on our 36 unit development in Cambridge Bay. We expect this development to be completed in the second quarter and have pre-leased 26 of the 36 units. We are currently in the process of finalizing our development plans for 2017 and we’ll provide additional disclosures in our Q1 reporting.

Moving on to Slide 14, as we completed 2016, we moved on to setting our 2017 strategic priorities, reflecting the success of our 2016 and our focus on unitholder value creation. The first is organic growth opportunities. We continue to create both FFO and net asset value growth for our unitholders through organic growth within the portfolio. Our focus remains on the execution of our defined Value Creation Initiatives as well as expense and revenue management throughout the entire portfolio. We have maintained our investments in the portfolio and are well-positioned to take advantage of the gains that are to be had in Western Canada as they arise. Secondly, managing leverage, our long-term debt to gross book value target is in the 50% to 55% range. With the significant reduction in leverage achieved in 2016, our near to midterm leverage reduction will be achieved through improvements in asset values, driven by the Value Creation Initiatives and developments, as previously mentioned.

Third is our capital deployment. We’re moving into more of a capital recycling mode in 2017. We will continue to identify noncore assets. However, we will use all or a portion of the proceeds to acquire well located assets with FFO and NAV growth potential. We are looking to continue our -- to look to Ontario for future development opportunities. After more research, we have narrowed down the opportunities from the transaction to around 100 units in the short term. In addition to planning for these units, we are looking to recycle some of our Western Canada-focused land bank into opportunities in Central and Eastern Canada.

In conclusion, I’d like to thank our investors for their support throughout 2016 and look forward to the upcoming year. We are pleased to deliver total unitholder return of almost 24% in 2016 in the face of the economic headwinds we faced in our Western Canadian markets. We remain committed to our ultimate goal of creating value for our unitholders and our strong, experienced team will continue to work hard on our 2017 strategic objectives to deliver on that goal.

Thank you for your time and I’ll now turn the call back to Melanie for questions.

Question-and-Answer Session

Operator

Thank you. [Operator Instructions] The first question is from Jonathan Kelcher of TD Securities. Please go ahead.

Jonathan Kelcher

First, on the Calgary development, it sounds like it’s leasing up at the pace you expected. How about on the rent side, are you getting your pro formas on that?

Todd Cook

We’re about 100 below our pro forma rents on that, John.

Jonathan Kelcher

Okay. Are you -- will that put you closer to the bottom end of the cap rate range then? Is that within the range still?

Todd Cook

Yes, it’s a little below. It’s probably 6 to 6.6 cap is the range at the current rents.

Jonathan Kelcher

Okay. And then, how long do you think it will take to lease that up?

Todd Cook

I’m thinking by the third quarter. I mean, the first building opened October 1 and the last building opened December 1. So in the first 6 months, we’re getting in that 40% range. So I think, as we head into higher demand season, which is the spring and summer, I think, we’ll be there by the fall.

Jonathan Kelcher

Okay. And then, just switching gears, the high-end renovation program, how much did you guys spend on that in 2016?

Leslie Veiner

We spent about $6 million on the program.

Jonathan Kelcher

Okay. And do you expect to spend a similar amount in 2017?

Leslie Veiner

Yes, it would be similar, maybe a little bit higher. I mean, we’re hoping to get a little bit higher -- more penetration than we -- I think, we did 268 units in 2016. We’d like to be more -- it’s obviously dependent on turnover, but the average cost to do the renos for this year will pretty much be in line with what it was last year. So it would be a similar amount, if not a little higher if we get more completed.

Jonathan Kelcher

Okay. And then, just finally, you said you’re hoping or looking at internalizing the rest of the property management by the end of this year. What would prevent you from doing that?

Leslie Veiner

Nothing really -- I mean, nothing sort of specific. We are doing a yearly upgrade at the moment which we want to get completed before we bring all of those additional properties on to our systems. But it’s -- they’re currently being -- they’re being well-managed right now. So it’s just a matter of when the timing is right for us. So there’s nothing that prevents us from -- specifically that would prevent us from doing it, and the management contracts have either 30 or 60 day notice periods. So there’s no hindrance in that regard either.

Todd Cook

The other thing, John, is when we -- for those regions, we took the management fee down from what was in pre-existing. So we took some of that savings off the table last year when we completed the transaction.

Jonathan Kelcher

So even when you do bring it in, it won’t be for the same bang for the buck that you got with the Ontario stuff you did last year?

Leslie Veiner

Correct. Ontario is always going to be the biggest synergies coming out of the Ontario internalization. So, it won’t be as significant for the rest. And that’s why -- that was one of the main reasons why we obviously focused on getting Ontario done first.

Operator

The following question is from Mario Saric of Scotiabank. Please go ahead.

Mario Saric

Just maybe sticking to the VCIs and, I guess, Slide 3 or Slide 5 in your investor presentation. So your five year plan, your target NOI growth is 14.3 million. In 2016, you did about, call it, 20% of that, so that kind of makes sense. But in terms of future trajectory, should we think about kind of 20% completion on that 14.3 million per year, or is it going to ebb and flow return?

Travis Beatty

That’s what we’re aiming for, Mario. Like we always said, it was a five-year program. It’s -- the two pieces are the high-end rental and the sub-metering are the -- or the below-market rents, sorry are the -- they’re subject to turnover. So as long as the turnover continues at the current rates, which I expect it would, that’s what we’re aiming for.

Mario Saric

Okay. And then, you highlighted both. I think, it’s, what, 16,000 per door spend on the high-end run on average. When we look at the 14.3 million of potential NOI upside in totality, what kind of spend should we think about on that figure over time?

Leslie Veiner

I mean, the only -- I mean, the major spend is on the high-end renovation program. The other initiatives don’t really attract a direct spend. I mean, the AGIs are obviously tied into -- I mean, the AGIs that we’re showing here is tied to CapEx that was already spent on the buildings before the transaction was completed. I mean, there will be other AGIs coming through, but that will be driven off our CapEx that we spend in the future years. The sub-metering program does not have a big capital outlay. There’s a few buildings where we have some capital cost, but for the most part, the meters are all installed, not at our cost. So the main capital spend is in respect to the high-end renovation program.

Todd Cook

And I guess, if I look at simply, Mario, if we’re doing, call it, 300 a year, and if you’re spending 15,000 to 20,000, you’re sort of 4.5 million to 6 million a year in projected spend on that.

Mario Saric

Right. So if I just like simply do the math, on the high-end rentals, you’re getting, roughly, what, 15% unlevered returns. So there isn’t a ton of incremental capital required to achieve the remaining, call it, $8.5 million, you’re looking unlevered return on the entire amount. That’s pretty material. It’s pretty significant.

Todd Cook

Yes, that’s why we like the program.

Mario Saric

Got it. Okay. And then, just maybe on the sub-metering program. I noticed the units outstanding. I think, they’ve declined quarter-on-quarter. They would be closer to 7,000. Is that primarily a disposition, or something changed there?

Leslie Veiner

What was that? I didn’t catch it. What has declined?

Mario Saric

Like the initial five-year target for a number of units for the sub-metering program, I believe it was closer to 6,900 before and it’s come down to 5,200.

Leslie Veiner

Yes, so I guess, there were some -- when we looked at the portfolio, we’ve relooked at some of the buildings. So this number now reflects the buildings where we have meters installed or have all meters installed in fairly short time frame.

Mario Saric

Okay. So will that be...

Leslie Veiner

It’s not going to affect the overall savings that we’re hoping to generate from the program.

Mario Saric

Got it. Would that be indicative of maybe changing kind of market fundamentals?

Leslie Veiner

Yes, I mean, one has to be sensitive to the market with the sub-metering. You need to obviously be cognizant of what competitors are doing. But we do want to try and get as high penetration as we can because, as you can appreciate, hardware cost to continue to go up. And I think, we, just at current hardware rates, we save on average between $40 and $45 a month on per unit on, if the unit is sub-metered. So if hardware costs go up like most people are predicting they are, then that amount is obviously going to go higher. So we do want to try and get as much penetration as we can. But you’re right, you do have to also be cognizant of what’s happening in our particular market.

Mario Saric

Okay. And just to clarify once again, on the below-market rent, so the $5.2 million of NOI upside, the expectation is for very little additional CapEx to be spent in order to achieve the rent...

Leslie Veiner

That’s correct.

Todd Cook

That’s the normal CapEx on suite turns, Mario. So it’s the normal paint, carpet, that type of thing.

Mario Saric

Okay. And then, just maybe my last question on the development side. I think, Todd, you noted that it sounds like you might be trying to swap some land positions in the West to concentrate more on Ontario. Can you kind of give us some color in terms of the thought process behind that? Is that a call that Alberta may be structurally a bit more depressed over the medium term than you would’ve anticipated 1 year ago or 2 years ago?

Todd Cook

I mean, most of the land we acquired has been over the last 3 years and it was very Western Canada-focused. So we, I believe there’s a strong opportunity to take our program in the East and we’re anxious to do that. So part of it’s just looking at the opportunities. I still think, in the long term and medium-term, there’s still room for us to develop in the West. I’m getting anxious to get going in the East. So we’re just going to look at doing something we think we can do more near term.

Travis Beatty

And Mario, you should, I think, you should do that as a rebalancing. We’re not getting out of the West. We’re going to keep a portion of our portfolio that is currently West. So this is, I will just consider this a rebalancing.

Mario Saric

Got it. Okay. And have you disclosed where the 100 units in the near term in terms of developments are going to be? Which...

Travis Beatty

No, we haven’t.

Todd Cook

And no, I’m not.

Mario Saric

I thought I provided a bit of a pause there just to...

Todd Cook

I know where you’re going. But we’ll tell you, it’s still fairly preliminary. It’s dealing with municipalities and Ontario’s a little bit different than what we’re used to. So we’re working our way through it.

Operator

[Operator Instructions] The following question is from Dean Wilkinson of CIBC. Please go ahead.

Dean Wilkinson

Just hopefully last question on the high-end renos. Leslie, is that five year target of 17 54 still the bogey that you’re going after?

Leslie Veiner

That’s correct. Yes.

Dean Wilkinson

Okay. So that would, given that you did 268 this year, imply that maybe something closer to 400 a year is what we could expect, obviously subject to the availability of getting the turnovers.

Leslie Veiner

Yes, obviously, we’re hoping to get higher turnover. And we’ve also expanded the program in terms of we now are -- we’re testing it in some additional properties. So we still are striving to hit the 17 50 over the five years.

Dean Wilkinson

And you expanded, is that likely then a number that could grow?

Leslie Veiner

I wouldn’t want to say commit to grow. I think they’re expanding because we would have liked to have seen higher penetration last year, but it’s not all within our control. So I think, the expansion initially is to help us get to that target. But that’s not to say, in five-year’s time, it stops, right? I mean, the program will continue. So yes, it could very well be higher than the 1,700 if you look beyond the five year horizon. But the 1,700 is sort of what we’re targeting in the initial five years. But bringing more properties into the mix, we’re just trying to sort of manage the annual penetration and hopefully get to that number.

Dean Wilkinson

Right. So bringing more properties in, just it doesn’t necessarily mean you’ll do more, just perhaps the.

Leslie Veiner

We will do more, but it would be longer than a five-year period.

Dean Wilkinson

Longer than the five year period, and then, the 1,700 is more attainable with a larger base to work off of. Okay. That’s clear. And I guess, just we’re three weeks away from the end of Q1, and I know you can’t directly answer the question, but where is the occupancy looking like it’s going to trend towards sort of the end of the month?

Leslie Veiner

Well, we actually see -- I mean, it’s been pretty pleasing. We’ve seen occupancy gains in a number of markets, particularly, in Northern B.C., we’ve seen some pretty big gains. Although, as I said when I was going through the formal part of the presentation, just caution that some of that -- a lot of that is short-term rentals. Although we’re not having to discount the rents, but they are short-term, one to three months, but we have seen some renewals, so there’s been quite a bit of pick up there. We’ve been fairly pleased with our occupancy in Montréal where I think we’re significantly better in Q1 than where we were in Q1 of 2016. And Grande Prairie has also shown some improvement. Ontario is fairly, fairly stable. It hasn’t gotten worse. I think, it’s maybe slightly better. And then, we continue to sort of run in line with expectations out East.

Dean Wilkinson

Okay. And fair to say then, let’s call it, the legacy issues of the Montreal assets are probably behind us now and that turn is perhaps made around the corner?

Leslie Veiner

We hope so, yes.

Dean Wilkinson

Okay. Perfect. And then, the last one for me, just on the other property income line, is 13 million a year sort of a good sort of estimate if we kind of back out the Fort McMurray from 2016 and run with that number?

Todd Cook

Yes, nothing unusual in than one, other than adjustments.

Operator

Thank you. [Operator Instructions] The following question is from Jenny Ma of Canaccord Genuity. Please go ahead.

Jenny Ma

I don’t know if it’s a little early, but with regards to the intensification opportunity in Ontario, would you be willing to give us an idea of where your thinking is on cost and the expected return, particularly as it compares to the Alberta development?

Todd Cook

It’s a bit early for that, Jenny. We’re going through the process. We still believe we’re in that 100 to 200 basis points above purchase cap rates. But we’re not downtown GTA developers, so we’re looking in our existing markets. But it’s a bit early to jump on that.

Jenny Ma

Okay. That’s fair. And then, also, with regards to the value creation calc that you used and the assumed cap rate, the 5.5%, what is the basis for that? And is that sort of representative of where the cap rate might be for your Ontario portfolio given that most of these VCIs come from that portfolio?

Todd Cook

So the 5.5% came from that was the average cap rate for the True North portfolio and the Starlight PSP portfolio when we acquired it in 2015. So that’s where the 5.5% came from. Cap rates have declined a little more than we’ve seen the cap rate compression in Ontario. So I’d say our Ontario cap rates are a bit lower and the details are in the financials, in the tables there. So we used the 5.5% for that calculation just to not change too many variables.

Jenny Ma

Okay great. That’s helpful. Thank you very much.

Operator

Thank you. There are no further questions registered at this time. I’d like to turn the meeting back over to Mr. Cook.

Todd Cook

Thank you, Melanie, and thank you, everyone, for your interest and your time today. We look forward to talking to you in a couple of months with Q1. Have a good day.

Operator

Thank you. The conference has now ended. Please disconnect your lines at this time. We thank you for your participation.

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