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Futu Holdings Limited (NASDAQ:FUTU)
Q3 2020 Earnings Call
Nov 19, 2020, 7:30 a.m. ET

Contents:

  • Prepared Remarks
  • Questions and Answers
  • Call Participants

Prepared Remarks:

Operator

Hello, ladies and gentlemen. Welcome to Futu Holdings' Third Quarter 2020 Conference Call. At this time, all participants are in a listen-only mode. After the management's prepared remarks, there will be a question-and-answer session. Today's conference call is being recorded, if you have any objections you may disconnect at this time.

I would now like to turn the conference over to your host for today's conference call, Mr. Daniel Yuan, Chief of Staff and Head of IR at Futu. Please go ahead, sir.

Daniel Yuan -- Chief of Staff and Head of Investor Relations

Thanks operator, and thank you for joining us today to discuss our third quarter 2020 earnings results. Joining me on the call today are Mr. Leaf Li, Chairman and Chief Executive Officer; Arthur Chen, Chief Financial Officer; and Robin Xu, Senior Vice President.

As a reminder, today's call may include forward-looking statements, which represent the company's belief regarding future events, which by their nature are not certain and are outside of the company's control. Forward-looking statements involve inherent risks and uncertainties. We caution you that a number of important factors could cause actual results to differ materially from those contained in any forward-looking statements. For more information about the potential risks and uncertainties, please refer to the company's filings with the SEC, including its registration statement.

So, with that, I would now turn the call over to Leaf. Leaf will make his comments in Chinese and I will translate.

Leaf Hua Li -- Founder, Chairman, CEO & Chairman of the Technology Committee

[Foreign Speech]

Hello everyone, thank you for joining the earnings call today. I'm excited to share that we continue to deliver outstanding operating and financial results in the third quarter of 2020.

[Foreign Speech]

Our net paying client addition was approximately 115,000, bringing the total number of paying clients to over 418,000, up 137% year-on-year. This marks our highest quarterly paying client addition. Our China mainland and Hong Kong paying clients both experienced triple-digit growth in the quarter, driven by a number of industry tailwinds including continued market volatility and the surge of high-profile Hong Kong IPOs. Organic growth continued to contribute over half of our new paying clients. During our second quarter earnings call, we guided for 280,000 net new paying clients in 2020. We are well on track to deliver this guidance.

[Foreign Speech]

Besides total paying clients, we also witnessed robust growth in total client assets. As of quarter-end total client assets reached HKD201 billion, representing 178% growth on a year-on-year basis and 41% growth on a quarter-on-quarter basis. Average asset balance for paying client was HKD481,000, up 17% year-on-year. Our quarterly paying client retention rates surpassed 98% for the seventh consecutive quarter.

[Foreign Speech]

Total trading volume in the quarter surpassed HKD1 trillion landmark, an exponential 381% year-on-year growth. US stock trading contributed about 56% of the total trading volume. In the third quarter, we launched Hong Kong securities lending and several derivatives trading offerings, including Hong Kong Stock futures and MSCI index futures. The market share of our derivatives trading products climbed [Phonetic] meaningfully over the quarter. Going forward, we will seek to further diversify our derivatives trading offerings.

[Foreign Speech]

The strong IPO market continued to play in our favor. In the third quarter, six IPOs recorded over HKD10 billion subscription with respectively on our platform, including the US IPOs of XPeng Motors and Beike and the Hong Kong IPOs of Nongfu Spring and Ming Yuan Cloud. To note, the Hong Kong IPOs of Nongfu Spring attracted over 110,000 retail investors to subscribe over HKD35 billion on our platform.

[Foreign Speech]

As for our wealth management business Money Plus, we established partnerships with nine reputable asset managers, including Morgan Stanley, Invesco and BNP Paribas. We have over 30 wealth management partners as of quarter-end. In the third quarter, wealth management daily average asset balance reached HKD8.15 billion, a record high since we launched the service. Over 29,000 clients held mutual fund positions as of quarter end. In September, we launched bond trading for professional investors. We now offer a diverse array of USD denominated bonds covering multiple industries, including technology, real estate, logistics and finance. Money Plus is strategically positioned to offer more diversified products, catering to different risk appetites of our users and retaining more user assets within Futu [Indecipherable].

[Foreign Speech]

Our enterprise service, FUTU I&E also made solid progress in the quarter. We obtained ISO 27701 certification for our ESOP SaaS system, the world's highest level of Privacy Information System Certification. We are the first ESOP SaaS provider in China to receive such recognition. As of quarter end, we had 126 ESOP plans and 81 IPO and IR plans. FUTU I&E continue to be the go to ESOP partner for industry leading TMT, biotech, and consumer retail companies, including Miniso, [Indecipherable].

[Foreign Speech]

We have been reaching new milestones with internationalization. Futu Singapore Private Limited was officially granted the capital market services license from the Monetary Authority of Singapore. We aim to launch the Singapore business in the first half of 2021 and we are excited about our growth prospects in the country. Besides, I'm pleased to share that on November 13, Futu Futures Inc. application for National Futures Association member was approved. Futu Futures Inc. is now a commodity futures trading commission registered futures commission merchant.

[Foreign Speech]

Next, I'd like to invite our CFO, Arthur to discuss our financial performance.

Arthur Yu Chen -- Chief Financial Officer

Thanks Leaf and Daniel. We continue to deliver outstanding financial results. [Indecipherable] then walk you through some key of our financial details for the three quarters. All currencies are in Hong Kong dollar terms. We recorded total revenues of HKD946 million, up 2.7 times year-on-year and 38% Q-on-Q. To break it down, brokerage commission and handling charge income was HKD563 million, up 3.6 times year-on-year and 38% Q-on-Q. This was primarily due to the 3.8 times growth of our total trading volume. Our blended commission rate this quarter was 5.8 basis points, down from 6.6 basis point in the last quarter. This sequential decrease was primarily due to the increase in trading volume per DART for clients that used flat rate pricing package option we offer.

Brokerage income account for 60% of our total revenue in the quarter. Interest income was HKD276 million, an increase of 140% year-on-year and 33% Q-on-Q. Both margin financing interest income and the IPO financing interest income achieved strong growth. Margin financing interest income increased primarily on the back of a significant 142% year-on-year increase in daily average margin financing balance. IPO financing interest income increased significantly, due to active [Phonetic] Hong Kong IPO market and our clients increasing appetite to subscribe high quality IPOs on margin. Interest income contributed about 29% of our total revenue.

Other income was HKD107 million, up HKD5.6 million year-on-year and 52% Q-on-Q. The growth was primarily due to an increase in our IPO subscription service charge income, currency exchange service income and underwriting fee income. Other income contributes about 11% of our total revenue.

On the cost side, total costs was HKD182 million, up 161% year-on-year and 18% Q-on-Q. To break it down, brokerage commission and handling charge expenses was HKD101 million, an increase of 3.1 times year-on-year and 31% Q-on-Q. The growth was roughly in line with our total trading volume growth. Interest income -- interest expenses were HKD47 million, an increase of 151% year-on-year and 18% Q-on-Q, primarily due to higher IPO financing interest expenses. Processing and servicing costs was HKD34 million, an increase of 27% year-on-year primarily due to increase in cloud service fees to support the growing number of trades. As a result, total gross profit increased to HKD764 million, up 3.1 times year-on-year and 43% Q-on-Q. Gross margin was extended to 81% versus 73% in the same period in the last year.

Total operating expenses was HKD323 million, an increase of 111% year-on-year and 22% Q-on-Q. To break it down, R&D expenses was HKD150 million, an increase of 111% year-on-year and 28% Q-on-Q, the increase was primarily due to increase in R&D headcount to support our business expansion. Selling and marketing expenses was HKD111 million, an increase of 184% year-on-year and 15% Q-on-Q. The increase was primarily due to higher branding and marketing spending. Although we more aggressive on our marketing strategy to take advantage of the favorable market condition, our client acquisition costs per each unit continue to trend down in this quarter. G&A expenses was HKD62 million, an increase of 45% year-on-year and 22% Q-on-Q, the increase was primarily due to an increase in headcount for G&A personnel.

As a result, our net income increased to HKD402 million. Non-GAAP adjusted net income increased to HKD408 million, up over 16 times year-on-year and 68% Q-on-Q. The significant bottom line growth was primarily due to robust revenue growth and strong operating leverage. Also in this quarter, we completed our $314 million equity follow-on financing. This placement has doubled our equity base and significantly strengthened our balance sheet to support our future growth.

That concludes our prepared remarks. We now like to open the call to questions. Operator, please go ahead.

Questions and Answers:

Operator

Certainly sir. Ladies and gentlemen, we will now begin the question-and-answer session. [Operator Instructions] We have the first question coming from the line of Ivy Liu from HSBC. Please go ahead.

Levi Leu -- HSBC -- Analyst

Thank you. It's Levi Leu from HSBC. And I have two questions today, mainly on the financial numbers. So first one, in the balance sheet, loans in advance and also, we've seen a very big difference between this number and margin balance. So could management explain the reason of this discrepancy?

And the second number is on the short-term borrowings, because we see a sharp increase on this number, so could management give us guidance on the source of that funding and also the funding cost trend going forward? Thank you.

Arthur Yu Chen -- Chief Financial Officer

Okay, thank you Levi. I will answer your second question first. For the short term borrowing, actually since the beginning of this year, we start to further optimize our funding source. Besides the equity following and also the bank borrowing, we also start to use the repo, equity repo to further lower down our financial cost and further to support our balance sheet growth. So the items you can see from the [Indecipherable] is more due to this equity repo instrument.

And for the first question, I think basically these two things, the loan balance and also the margin balance is still quite in line. Actually, I see the number is not too far away. So just wonder, could you further clarify your questions?

Daniel Yuan -- Chief of Staff and Head of Investor Relations

Hi Levi. Maybe I will chime in little bit on your first question regarding the discrepancy. So I just want to clarify, so for our margin financing and securities lending balance, that number does not include our IPO financing balance. The line item, loans and advances that includes our IPO financing balances. So actually in the third quarter there are two IPOs that extended from September to October. If I remember correctly, [Indecipherable] where the two Hong Kong IPOs that started IPO subscription process in September, but they eventually got lifted in October. So that is about HKD25 billion at IPO financing was included in our loans and advances balance on the balance sheet, whereas it's not included in the margin financing and securities lending balance. So I think that kind of explains the discrepancy here.

Operator

Thank you. We have the next question, this is coming from the line of Daphne Poon from Citigroup. Please go ahead.

Daphne Poon -- Citigroup Global Markets Inc. -- Analyst

Hi, evening management. Thanks for taking my questions. So my first question is regarding the IPO subscription business. Just wondering if you can help break down the contribution in this quarter led to interest income, other revenue and commission? And related to that is that recently, we saw in the [Indecipherable] Hong Kong SE saying that they are planning to revise this IPO subscription routes to basically shorten the subscription period from T plus five to T plus one. So just wondering if the management have done any [Indecipherable] or acclimate like in terms of the revenue or earnings impact from this? And second, just want to quickly check on the new customer, new paying customer mix this quarter between the Hong Kong and China clients? And lastly, is regarding your sales and marketing costs, so as you mentioned earlier, the unit like customer acquisition cost [Indecipherable] meaningfully. I think now it is less than 1,000 Hong Kong. So just wondering if that will be the sustainable level going forward, basically what's the outlook here? Thank you.

Arthur Yu Chen -- Chief Financial Officer

Okay, thank you Daphne. I will answer your first question about IPO margin and I will partially answer your second question in terms of breakdown new paying clients. I will leave the acquisition cost outlook to my colleague Robin. We noticed this consultation paper issued by Hong Kong Stock Exchange earlier this week. You're right, the IPO processing timeline maybe cut from the current T plus five days to T plus one day under this new arrangement. Our second perspective, our IPO margin revenue will be negatively impacted similar to all our retail broker peers. And I expect we may low middle single -- middle single digit revenues if we implement this new policy in the first three quarter of this year. Our forward-looking perspective, I think this loss may be significantly offset by the demand increase and also the industry consolidation we think the retail brokerage business in Hong Kong. Despite our near-term financial loss, which I think is fully manageable, we strongly support this initiative advocated by the Hong Kong Stock Exchange. As we think, this reform will improve the overall market efficiency and eliminate unnecessary transition costs for all market participants. This will make the overall market more accessible to the main Street. So we think every participate, including Futu will be better eventually.

And for your second questions, in terms of the new paying clients we achieved in this quarter, 53% came from the Hong Kong local market and the remaining 47% came from maintenance. I will leave client acquisition cost questions to Robin. Thank you.

Robin Li Xu -- Senior Vice President

[Foreign Speech]

Right. So this year the percentage of our new paying clients from organic growth continue to climb meaningfully quarter after quarter. And you can see that our paying client acquisition costs as therefore come down quite a bit this year. This -- in terms of our overall market spending, I think we attach more importance to the ROI, our client acquisition as opposed to the total marketing expenses.

Operator

Thank you. Shall we move to the next question? We have the next question coming from the line of Yiran Zhong from Credit Suisse. Please go ahead.

Yiran Zhong -- Credit Suisse -- Analyst

Thanks for taking my questions and congratulations on a strong quarter. I have three questions. One is, in 3Q you have further gained trading volume market shares, both in Hong Kong and US, how is the trend looking for 4Q thus far? And also more specifically on US volume, we noticed that the China ADRs trading volume had significantly pick up in November and could you share any color on kind of the stock, distribution of your US volume? What are the top traded US stocks on your platform and how concentrated on the China ADRs traded through Futu?

Secondly is we calculated that the overall commission and handling fee rate was 5.5 bps in 3Q lower than before -- 6.4 bps in the last quarter. Could you share kind of the underlying drivers for the Q-on-Q change? Any color on how it's trending going forward? And thirdly, on customer acquisition. Can you -- are you able to break out the contribution from say IPO related promotional events? Just trying to understand how should we think about the customer acquisition growth related to IPOs and also how is that -- how should we think about the trend going for -- beyond 4Q, beyond this year into next year and beyond? Thank you.

Arthur Yu Chen -- Chief Financial Officer

Okay, thank you. I will answer the first two questions and I will also leave the 3rd question to Robin for your inquiries about client acquisitions. Number one, as we mentioned in our last earning calls, we see significant spike in terms of our market share gains in Hong Kong since July. And the situation in Q3 you can -- you can see overall our Hong Kong trading volumes increased a lot. In terms of the market shares, we continue ways to keep our market shares over 2%. And I think the situations in October is still well on track. So, I do expect there can be some structural positive things going forward. And in terms of the US trading volume, actually I think we -- the breakdown for our US trading is not very concentrate on these Chinese ADR names. If my memory is right, our Chinese ADR trading volume accounts for roughly 10% to 15% of our total US trading volumes overall. So despite we were benefits of Chinese ADR trading volumes recently in the US, I think the overall impact is not very meaningful.

And secondly, about your question on the commission rate. Actually, I addressed this in the opening remarks. On a like-for-like basis, actually our commission rate is very stable. You can see our blended commission rate dropped down this quarter compared with last quarter, this is mainly due to the increase in trading volume per DART or clients who use the flat rate pricing package options we offer. I will leave third question to Robin.

Daniel Yuan -- Chief of Staff and Head of Investor Relations

I'll take the third question on our paying client breaks down. It's very difficult for us to break out why client specifically come for the IPOs on because it's really hard to trace other activities like they may invest in [Indecipherable] and then subscribe to IPO. So it's very hard to do that breakdown, but overall we have seen that when these general IPOs get listed in Hong Kong, we will see a pickup in our client acquisition for one weeks to two weeks beforehand. For [Indecipherable] IPO for example, two weeks before [Indecipherable] IPO, we have seen a meaningful pickup in our paying client numbers. And as we mentioned, these jumbo deals in Hong Kong will definitely be a positive contributor to our paying client growth. But again, it's very hard to break down the specific percentage, but we think the Hong Kong IPO in general just attract a lot more attention to the market. Well, it may bring some clients that are interesting IPO at first, but then they will be converted to other trading clients. So overall, we have not seen a meaningful change in our planned asset balance or their trading behavior.

Operator

Thank you. [Operator Instructions] We have the next question from the line of Kelvin Chu from [Indecipherable] please go ahead.

Kelvin Chu -- UBS AG -- Analyst

Hi it is Kelvin Chu from UBS. So thank you for taking my questions. Two questions from me. First, you have delivered very strong brokerage business this year, with decent market share gain. So at this point, what is your long-term strategic vision for your business model? How do you prioritize your transitional business versus wealth management fund product distribution over the long-term?

And secondly, can we have an update on the US settlement system? Any disruption due to COVID-19? Just in terms of timing, when should we expect the migration of the trading account to take place? And when will the financial impact come through in terms of potentially higher interest income from the settlement cash? Thank you.

Arthur Yu Chen -- Chief Financial Officer

Okay. Thank you, Kevin. Let me answer your second question first. I will leave the first question to my colleagues Leaf and Robin. You are right, our progress in the US sales clearing was negatively impacted by this COVID-19 pandemic. Now, we currently expect we will start the trial migration to our self-clearing house in the first half next year. It is still too early to expect the financial impact. I think overall speaking, next year's financial impact will still not too significant, but just give you a rough idea, based on our current US stock positions, if we complete this full process of the sales clear wins, I think we will at least generate additional $50 million operating profit.

Leaf Hua Li -- Founder, Chairman, CEO & Chairman of the Technology Committee

[Foreign Speech]

Our strategy is composed of five different elements to our businesses. And number one is our retail brokerage business, number two, our financial [Phonetic] business that provides a lot more earnings visibility by nature and thirdly is our enterprise service Futu I&E with ESOP system and IPO distribution services. And number four, is our international expansion. We want to expand our client site and we think that overseas market will contribute to a meaningful share of our overall paying client base in the mid to long run. And number five, is that we want to create Futu into an ecosystem that is centered around users and provides connectivity to different stakeholders like the investors, TLLs [Phonetic], media etc. and we want to construct a self-reinforcing ecosystem.

And with regards to the relationship between our brokerage and wealth management business. Our strategy is to become one stop financial services platform for our clients and catering to the various different asset allocation needs and for our clients. And I think wealth management was a very important step toward the strategy.

Operator

Thank you. We have our next question, this is coming from the line of Xiaoyan Wang [Phonetic] from 86Research. Please go ahead.

Xiaoyan Wang -- 86Research -- Analyst

Good evening, management. Thank you for taking my questions. So my first question is about our margin financing business. So our successful secondary offering last quarter helped us some more margin financing demand and significantly improved the margin financing balance. So we have impressive growth be sustainable given we have the leverage restrictions on the business in Hong Kong and how should we project the future growth of our margin financing balance? And do we need to keep raising money from the capital markets to meet the leverage requirement?

And my second question is on our user acquisition strategy. So in the third quarter, I think a number of Hong Kong paying users had surpassed the many users. So what will be our strategy in the future to acquire the managed China users, which seems to be have a larger user base that we could explore into?

My final question is about Ant's IPO suspension. So will there be any impact on for our IPO financing business in the fourth quarter? Thank you.

Arthur Yu Chen -- Chief Financial Officer

Okay, thank you. I think I have already answered your third question before to another analyst. I will answer your first question about margin financing and I will leave the user acquisition strategies to my colleagues Robin and Daniel. For the margin financing, you are right, after the equity placement we did in third quarter, our equity base has already almost doubled. This will be very supportive for our balance sheet business going forward. I think you know based on our current business expansions, we will -- we will have sufficient money to support our margin financing in the next 12 months to 18 months. And also if you look at our third quarter number, our total equity base now already exceed HKD5 billion. Based on the regulations made by Hong Kong SE each retail brokers leverage ratios in Hong Kong cannot exceed 5 times. So you can have just -- here, just to give you some rough ideas about our further upside for our margin businesses. I think it is very difficult to estimate the margin balance outlook going forward as that there was a lot of market conditions, market volatilities will impact the clients' risk appetite. But I think long-term speaking as we have more and more clients, this balance will continue to grow down the road. Now, I will leave the second question to Robin. Thank you.

Robin Li Xu -- Senior Vice President

[Foreign Speech]

We have been quite aggressive with our Hong Kong marketing strategy and that turned out to be quite effective because Hong Kong to start is a small place and the existing client base they are very prone to trade in Hong Kong in US Securities already, so our marketing efforts have been quite a factors so far. And with regards to our mainland client acquisition, I think we use different client acquisition strategies because a number of constraints. For example like ESOP continues to contribute a very steady stream high quality clients and the word of mouth referral is more meaningful in the mainland than Hong Kong in terms of our paying client contribution. So we have different client acquisition strategies for mainland and we think the growth prospects in the mainland are very strong. Thank you.

Xiaoyan Wang -- 86Research -- Analyst

Thank you. Very helpful.

Operator

Thank you. Our next question, this is coming from the line of Cecilia Cheung [Phonetic] from DTC Investment. Please go ahead.

Cecilia Cheung -- DTC Investment -- Analyst

Hi management. Thank you for taking my questions. And really congrats on the strong quarter. And I'm really excited about Futu launching Hong Kong option products and other derivative instruments, so as to expand your product portfolio, but my concerns are on the risk control side. I don't know if you have anything to share at this moment about risk management regarding your burdening [Phonetic] derivatives business segment? Thank you.

Arthur Yu Chen -- Chief Financial Officer

Okay, thank you. I will let my colleague Daniel, to answer this question. Thank you.

Daniel Yuan -- Chief of Staff and Head of Investor Relations

With regards to our risk management procedures, we have always been quite prudent with our risk management approach. And actually if you compare our LTV ratio, I mean for individual stock margin financing, if you compare our LTV ratio to those offered by traditional banks, we are more conservative around that and that also goes with our derivatives trading risk management as well. I think, to prepare for the launch of this business, we have actually recruited a number of finance personnel from the traditional institutions that have very rich experience in risk management for derivatives products. So like overall, we have been prudent in our approach and we gradually rollout our derivatives trading products like we mentioned late in the third quarter and we started offering at the Hong Kong securities lending business. But so far, we've only opened that -- opened up that service to 10% of our total paying client base and we decided to open it to 100% of our client base by the end of this year. So, like when we start the new derivatives products like we are prudent and we take a gradual approach toward our business development. So overall, I think so far we have not -- since we launched the margin financing business in 2017, and like we have had a lot of them derivatives products, but so far we have not experienced any material loss on any of our margin financing or derivatives trading offerings. Thank you.

Cecilia Cheung -- DTC Investment -- Analyst

Understood. And may I ask one more question on your brokerage fee and commission expense ratio, is there a meaningful difference between the brokerage expense ratio of your US trading volume and that of Hong Kong volume? And how should we, expect the expense ratio to be in say, three years to five years, when you're proprietary US stock clearing system is fully developed? Thanks.

Daniel Yuan -- Chief of Staff and Head of Investor Relations

I think in terms of the commission -- blended commission rate in Hong Kong and in the US, US rate is slightly higher than Hong Kong, but the difference is not so significant. And secondly for the US self-clearing capabilities, Kevin from UBS also raised this question before, I think it will take a very long time for us to gradually migrate our clients US stock positions to our self-clearing house. It has a lot of the technology know how and we need to make sure all of these corporate actions can be conducted in the right manner. So it definitely will take time, but just to give you a rough ideas if we migrate all these existing positions to our self-clearing house today, the cost savings in terms of the execution fee and also the idle cash potentially we can monetize alongside with the stock positions we can potentially monetize through stock borrowing and lending activities. We can generate additional $15 million operating profit without considering any direct people course nowadays.

Cecilia Cheung -- DTC Investment -- Analyst

Got. Got it. That's -- that's really helpful. Thank you.

Daniel Yuan -- Chief of Staff and Head of Investor Relations

Thank you.

Operator

Thank you. [Operator Instructions] Pardon me, we do not have any questions at this moment. I would like to hand the conference back to our host, Daniel, please take over for any closing remarks.

Daniel Yuan -- Chief of Staff and Head of Investor Relations

Thank you. That concludes our call today. On behalf of the Futu management team, I would like to thank you for joining us today. If you have any further questions please do not hesitate to contact me or any of our Investor Relations representative. Thank you and goodbye.

Operator

[Operator Closing Remarks]

Duration: 46 minutes

Call participants:

Daniel Yuan -- Chief of Staff and Head of Investor Relations

Leaf Hua Li -- Founder, Chairman, CEO & Chairman of the Technology Committee

Arthur Yu Chen -- Chief Financial Officer

Robin Li Xu -- Senior Vice President

Levi Leu -- HSBC -- Analyst

Daphne Poon -- Citigroup Global Markets Inc. -- Analyst

Yiran Zhong -- Credit Suisse -- Analyst

Kelvin Chu -- UBS AG -- Analyst

Xiaoyan Wang -- 86Research -- Analyst

Cecilia Cheung -- DTC Investment -- Analyst

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