National Bank of Pakistan is the largest commercial bank of Pakistan. The bank handles treasury transactions on behalf of the Government of Pakistan as an agent to the State Bank of Pakistan. The bank has a network of 1,232 branches in Pakistan and 18 overseas branches including the Export Processing Zone Branch. It also provides services as trustee to National Investment Trust including the safe custody of securities on behalf of NIT.
National Bank of Pakistan was established on November 9, 1949 under the National Bank of Pakistan Ordinance, 1949 in order to cope with the crisis conditions, which were developed after the trade deadlock with India and devaluation of Indian rupee in 1949. Initially, the bank was established with the objective to extend credit to the agricultural sector. The normal procedure of establishing a banking company under the Companies Law was set aside and the bank was established through the promulgation of an ordinance due to the crisis situation that had developed with regard to financing of jute trade.
The bank commenced its operations from November 20, 1949 at six important jute centres in the then East Pakistan and directed its resources in financing of jute crop. Its Karachi and Lahore offices were subsequently opened in December 1949. The nature of responsibilities of the bank is different and unique from other banks/financial institutions. The bank acts as an agent to the State Bank of Pakistan for handling Provincial/Federal Government Receipts and Payments on their behalf. The bank has also played an important role in financing the country's growing trade, which has expanded through the years as diversification took place.
Today, the bank finances import/export business to the tune of Rs 52.7 billion, whereas in 1960 financing under this head was only Rs 1.54 billion. Its principal activities are to provide commercial banking and related services in Pakistan and overseas. Four overseas regions created by the bank are Europe and USA, Middle East, Africa and South Asia, Central Asian Republics and Far East. NBP enjoys the highest rating of 'AAA' in the industry assigned by M/s JCR-VIS Credit Rating Company Limited on a standalone basis ie without the benefit of the 75% government ownership. Currently, it employs 16,572 people and has 896,975,100 outstanding shares.
BANKING INDUSTRY IN 9M09
During the period, despite a surge of 15% in NII, cumulative earnings of the sector recorded at Rs 44.1bn, a decline of 23% versus Rs 57.4bn in 9M08. Besides massive jump in provisioning expenses, drop in non-interest income was the major reason behind the sector's depressed financial performance during the period. On the positive side, underlying earnings depicted mass improvement in sequential quarter basis.
Net interest income (NII) of the listed banks grew by 15% to Rs 183.5bn largely due to higher banking spreads. The sector's advances growth remained lukewarm at 3% while average spreads during first 8 months (January-August 2009) were recorded at 7.53% versus 7.11% in the same period of last year. However, non-interest income registered a decline of 5% to Rs 61.0bn as against Rs 64.2bn in 9M09 despite a significant 2.6-fold rise in capital gain (realized + unrealized) to Rs 5.3bn. Dividend and income from dealing in foreign currency dropped by 40% and 16% to Rs 5.5bn and Rs 11.3bn, respectively. As a result, pre provision and write-off earnings increased by only 6% to Rs 128.9bn.
During 9M09, the sector's total provision and write-offs expenses arrived at Rs 58.4bn as compared to Rs 34.7bn in the same period of last year - up by 68%. Credit provisions swelled by 54% to Rs 49.3bn. Though the flow of fresh NPLs have started to slowdown, but the continuous downgrading of exposures forced the banks to book provisions in the 9M09 accounts. Moreover, the banks with higher exposure in consumer finance also written down the loans. As a result, bad debt written-off directly also increased to Rs 5.2bn from Rs 2.4bn a year earlier, an increase of almost 2.2x.
On the other hand, provisions against pending diminution in value of investment were recorded at Rs 3.9bn versus Rs 278m only in the last year's similar period. Administrative expenses grew by 13% to Rs 112.5bn during the period under review due to persistent inflationary pressure. Consequently, the cost to income ratio of the sector has also moved up to 46.0% from 44.4% a year earlier. A relatively slower growth in revenues is also a reason behind the rising cost to income ratio.
RECENT PERFORMANCE 3M09
National Bank of Pakistan (NBP) posted earnings of Rs 10.1bn (EPS Rs 9.34) in the nine months (Jan-Sep) 2009: a decline of 21% YoY. Despite a 6% YoY increase in Net Interest Income (NII), earning remained depressed due to surge in provision for Non-Performing Loans (NPLs) and higher administrative expenses. As expected, NBP did not announce any payout with the results.
NBP's net interest income rose by 6% amid high net interest margins and 5% growth in advances. Net Interest Margins (NIMs) arrived at 5.9% while advances growth outpaced 4.5% deposit growth resulting in 60bps increase in Advances to Deposit Ratio (ADR). An expected cut of 200bps in interest rates in the next policy statements could squeeze spreads. However, it would provide a trade off in the form of higher expected credit off-take in the future.
In contrast to NII growth, non-interest income suffered primarily on account of lower dividend income from NIT and one-off income tax refund of Rs 987m in 9M08. Given the difficult equity market conditions NIT announced dividend per unit of Rs 3.05 as against Rs 6.50 in 2008. Fee and commission income however, remained robust arriving at Rs 6.5bn, up 15% YoY. Despite decent growth in the top line, NBP's earnings were dragged down by a surge in provisions for NPLs. The bank recognized net provisions of Rs 8.8bn up a massive 31%YoY, largely a result of 21% jump in NPLs to Rs 68bn.
Alone in 3Q09, NBP recognized provisions for NPLs of Rs 3.6bn versus only Rs 1.7bn recognized in 3Q08. As a result of rising NPLs, the Gross NPL ratio rose to 14% in Sep 2009 as against 12% in December 2008. Worryingly, this huge increase in provisions was despite the bank taking advantage of recent relaxation in prudential regulation on Forced Sale Value (FSV), which helped reduce provisions by Rs 636m. Due to FSV relaxation, the NPL coverage ratio fell to 78% in Sep 2009 from 79% in December 2008.
Apart from rising provisions, surge in administrative expenses turned out to be another earnings dampener in 9M09. Rising inflationary pressures saw administrative expenses rise to Rs 15.6bn up 17% YoY. As a result, cost to income ratio deteriorated by 290bps to 39.37% from 36.47% in 2008. Going forward, though inflationary pressures have subsided, pressure on NII from lower spreads is expected to prevent any major improvement in cost to income ratio.
FINANCIAL PERFORMANCE FY08
The bank realized an income after tax of Rs 15.458 billion, which was 19% lower than the income earned in FY07 of Rs 19.033 billion. The bank realized a profit before tax of Rs 23 billion, which is almost 18% higher than the previous year FY07. There are many factors contributing to the radical change in profitability. First of all adverse economic conditions domestically, the law and order, power shortages, record high inflation, liquidity in the banking system, steep rise in interest rates, increase in Government borrowing from the central bank, rising import bill and resulting growth in fiscal deficit.
All of these coupled with change in minimum deposit rate by SBP and other internal factors led to such performance. This reduction in profitability is not unique only to this bank; this has been the overall trend in banking industry. Other banks have suffered but not to such a great extent. A probable reason for NBP's lower profitability could be its massive size and a third-fourth of government ownership resulting in administrative problems. Net Interest income was 10% higher this year to Rs 37.058 billion owing to volume growth. The interest earned in the 12 months of FY08 is 21% higher than that of FY07 but it was matched by more than proportionate increase in the interest expenses, which rose by 41%.
The interest expense rose on the backdrop of many issues. Firstly, the banks have been imposed a minimum of 5% deposit rate on all the savings schemes. This had previously been left at the banks' discretion as to how much they have to pay. A few of the banks have also been penalized by the SBP for acting like cartel in deposits. Secondly, there has been other attractive scheme from the National Savings, which offered better rates and drained the liquidity from banking sector. Furthermore, the economy was going through high inflation, so the people were not too optimistic about saving in banks as the money was losing its value very fast.
Lastly, there was an overall shortage of liquidity created in the last quarter of FY08, which further strained banks to strive for funds. The provisions against non-performing loans were 124% higher as compared to FY07 but it is interesting to note that the provisions to the NPLs ratio fell to 0.79 from 0.89 in FY07. An observable reason for a decrease is the ratio is the base effect. This year NBP experienced a 47% increase in NPLs so naturally the ratio fell due to a larger base of NPLs. The non-interest income rose by 21% mainly contributed by growth in fee and commission (17%), income from dealing in foreign currency (281%) and other income (745%).
The other income includes a Rs 987.610 million of compensation for the delayed refunds determined under section 171 of the Income Tax ordinance, 2001. Along with the increases, reductions in growth were also seen such as dividend income (-12%), sale of securities (-83%). The parallel expenses for the non-mark-up activities were all on the steep. Administrative expenses were 28% higher due to prevailing high inflation on the back of ever-rising food and fuel prices. Other charges were three-fold higher as compared to FY07 due to a penalty charge by SBP of Rs 562 million.
Out of the three earning assets (lendings to financial institutions, advances and investments) only advances have recorded a growth of 21% while Lendings to FI and Investments fell by 20% and 19% respectively. The advances recorded an increase because the bank was lending though very prudently due to increasing NPLs. Along with the increase in advances, the composition has also changed a bit. A shift from long-term to short-term loans is observed. This implies that the banks are very cautious in lending now and do not want to indulge in long-term lendings as they contain higher risk.
A much-related topic to advances is non-performing loans. The non-performing loans recorded a 47% growth, which is the higher in the banking industry and since the National Bank holds one-fourth of the industry the total industry averages were also pulled up. In the year FY07 the banks experienced a lot of changes from both the regulator and the market. The profits in the first two quarters of the banking industry as a whole was on a smooth upward path but this did not last long. The SBP took a turn in its policy of calculating provisions against non-performing loans.
The benefit of FSV was now removed resulting in a hard hit on banks' profitability. Although this was implemented in order to carry on the BASEL II procedure which helps make the banking structure to become more resilient to credit crunches and losses. So after this the spreads were reduced due to an increase of 50 basis points in discount rates coming up to 10.5%. In response to this the interest rates rose while banks maintained the same deposit rates. Furthermore, the banks had another regulation to fulfill and that was to maintain a CRR of Rs 4 billion by the end of FY07. Banks with strong capital base, were least affected by this, but the smaller ones were either taken over or merged with other banks for their survival.
To further intensify the competition Barclays Bank also decided to step into local lucrative financial market. Keeping in view the banking industry total profitability was at its peak with spreads hovering over 7%, highest in the region, in the year FY07. Similarly, NBP had a PAT of Rs 9 billion which is 12% higher than FY06. The profit growth could be robust if the Regulator had not removed the FSV benefit. If we look at the quarter wise profitability it was on a rise till 3Q FY07 but in the last quarter the State Bank of Pakistan removed the benefit of FSV approximately affected profits of NBP by Rs 3 billion.
Under this benefit the value of the collateral was adjusted against the advances, thus giving higher profits. Along with this other measures were also introduced such as CRR requirement which was to be Rs 4 billion by the year-end. This measure adversely impacted the liquidity of the bank and eventually the profits. In FY07 the total assets stood at Rs 762.12 billion, which is 20% higher than FY06. The driving factors of assets growth were 51% increase in investments, 163% increase in operating assets and 8% increase in advances.
Advances mainly concentrated on consumer finance and agriculture, which has been grossly around Rs 32 billion disbursement during the period FY06-07. On the other hand, the NPLs also showed considerable growth of 6.2% to an amount of Rs 37 billion, which can be threat to future profitability. As a result of higher NPLs the ADR also stood above 11% continuing from FY06. The deposits grew to Rs 591 billion, which is a phenomenal growth of 18% over FY06. The increase in deposits has been in the low cost deposits, such as current accounts (41% growth since FY06), which helped the bank to extend advances.
The growth in deposits is mainly due to higher cash inflows into economy and more liquidity in the market. The ADR ratio has been on the rise in previous few years which shows improving liquidity of the bank. The Earning Assets composition has also been changing as investments take higher portion of total Assets. The Investments chiefly included TFC and Market T-Bills (Rs 118 billion). With every passing year the cost of funding earning assets is increasing but it's surpassed by more than proportionate increase in the Income from Earning Assets this adding to profits.
The earning ratios such as ROA and ROE are more or less better than the industry averages. ROA of NBP was 2.78%, which is almost in line with industry average of 2%. Whereas, the ROE was 19.2% which is less than the prevailing industry average of 23%. It can also be implied that the proportion of liabilities to total equity is more than assets, which resulted in lower ROE. As of 2006, the bank constituted 15% of Pakistan's banking sector. With the thriving economy fueling the banking sector's remarkable growth, the competition among banks has also increased, motivating them to increase their services offered.
Banks also made up about 1/3rd of the market capitalization of KSE in 2006, indicating healthy stock turnover. In the FY06, National Bank has hovered around 11th place on the KSE-100 index in terms of volume traded. NBP has posted ever-increasing profitability over the last few years. This was caused by healthy increases in both interest and non-interest incomes. There was a major jump in profitability in CY05, when profits after tax nearly doubled. This was in fact caused by a more than 100% increase in interest income, when the interest earned on loans and advances to customers and institutions increased from Rs 10 billion to over Rs 21 billion.
This phenomenal growth in CY05 in fact eclipses the otherwise spectacular growth that occurred in other years. Profits rose by almost 50% in CY04, and by almost a third in CY06. This growth in profits is also not reflected that well in earnings ratios because assets, and equity also showed a steep upward trend during these years. In general, figures show that the liquidity situation has declined marginally. However, steady inflows, in particular foreign inflows, continue to provide liquidity support. One major reason for the decrease in liquidity has been SBP's tight monetary policy in the FY05, which has drained excess liquidity from the system.
Then this liquidity kept on a steep and stabilized from year FY06 onwards. Although a decrease in liquidity is observed in the last quarter of FY08 but due to proper corrective measures of SBP we don't really see an impact on the liquidity. The advance to deposit ratio (ADR) for NBP has increased over the past few years till FY06 signifying that most of funds were utilized for advances rather than any other earning asset. This has been a trend exhibited by the banking sector as a whole, and is caused by the fact that while deposits have shown a healthy increase over the years, advances by banks have grown at an even greater rate, overcoming the rise in deposits.
As we move onto other years, we see that liquidity situation improves and so as the lending ability of the bank also improves. On a close observation we see that deposits growth in the following years when the bank had the luxury of funds from depositors and most importantly remittances. In FY08 the industry average(top 5 banks) of ADR was at 745 while NBP had a ADR or 66% which shows its provision to provide for more advances. Earlier on industry ADR stood at 70.3% in CY06 as compared to 66.5% in CY05 and 61.5% in CY04. The major upward trend in deposits throughout the industry has been the result of the heavy economic activity during recent years fuelling the demand of consumers and the private sector for credit.
These increases have occurred across all categories, over both short and long terms and in both local and foreign currencies. The industry has also shown a trend towards increasing deposits in banks, a major cause of which is, of course, the booming economic activity, apart from higher foreign inflows in the form of worker remittances and FDI, as well as expanding branch networks, product innovation and better efforts at marketing. In fact, the growth in deposits in the top five banks, including NBP, has actually been less than that in the next five banks. The deposit growth in public sector commercial banks is second highest in the industry, behind local private banks. Growth in NBP deposits has been fluctuating over the years.
They increased by 9% in CY03 and 18% in CY04, but decreased by half-a-percent in CY05. However deposits showed a resurgence in CY06, showing an increase of 8.3%, thus standing at over Rs 500 billion. This irregular trend is mostly caused by institutional deposits, which decreased in CY05 but then showed healthy growth in CY06. Customer deposits have shown a steady increase over the years. They increased by Rs 8 billion in CY05, and a significant Rs 31 billion in CY06. Within customer deposits, fixed deposits have posted higher growth than savings deposits.
In FY08 we see that investments as a share of total earning assets fell due to changes in market conditions. The banks overall at industry level have shown an affinity to draw money from investments to advances. This is due to a change in banks' approach to NPLs treatment. Banks are now rescheduling the advances given to major customers in order to avoid NPLs. This shows optimism of banks about the future state of economy. From FY07 to FY08 we see that cost of earning assets ie interest expense has risen.
This is due to two reasons, firstly the minimum deposit rates of 5% from the SBP and the increased returns on NSS which actually compete with bank deposits. But still it's notable that yield has risen over the years. A likely reason for that would be increase in inflation during the last two years. NBP has maintained a quite steady proportion of earning assets to total assets, earning assets growing at a slightly higher rate than total assets. Within earning assets, investments actually decreased by about 10% in CY04 and in CY06, while on the other hand advances have maintained a healthy growth rate of 37%, 22% and 18% in CY04, CY05 and CY06 respectively.
The result has been that advances have increased from 58% of earning assets in CY04 to 61% in CY05 and 66% in CY06, of course leading to a corresponding decrease in the proportion of earning assets constituted by investments. Industry figures substantiate this trend, where in CY06 advances increased to 55.8% of total assets from 54.4% in CY05, while investment portfolio decreased from 21.9% of assets to 19.2% in the same period. In addition, 60% of the growth in banking assets in CY06 was accounted for by growth in advances.
Apart from consumer and private sector credit, NBP also lends extensively to the agriculture sector and is the largest lender to this sector. The earning assets have shown both increasing returns and increasing costs. As discussed earlier, NBP has increased the ratio of advances to investments within its earning assets, which has also increased the bank's risk-weighted assets. This trend can be interpreted as a trend towards improving the yield on earning assets on the back of leverage provided by the higher capital adequacy ratio. The yield on earning assets improved from 8.2% in CY05 to 9.5% in CY06.
Industry figures improved from 7.6% to 9.3% in the same period. Thus NBP manages to achieve higher than average yield on its earning assets. There had been a declining trend in both yield and cost of earning assets till CY04 due to a corresponding downward trend in interest rates. However, since CY04, interest rates have been on the rise. This led to an increase in yield because the high liquidity carried over from the previous period allowed banks to penetrate into new business ventures carrying higher yields, while at the same time shifting assets from investments to advances, a trend also explained elsewhere.
On the other hand, although the cost of earning assets also increased, factors, like steady inflows, relatively less interest rate sensitivity of the depositor, not to mention the liquidity preference of the depositors for maintaining checking/transactional accounts (saving and current) caused a relatively smaller increase in the cost of funds of the bank. Cost of earning assets increased from 1.62% in CY04 to 2.28% in CY05 to 2.75% in CY06.
Non-performing loans (NPLs) of the bank showed a downward trend till CY2005, decreasing from Rs 39.77 billion in CY03 to Rs 36.10 billion in CY04, to Rs 33.74 billion in CY05. This followed an industry-wide trend, where NPLs decreased to Rs 177 billion in CY05 from Rs 211 billion in CY03. Thus, NBP in particular and the industry in general has been able to contain credit risk despite aggressive growth in advances to consumer and private sectors. This is also shown by the downward trend in NPLs as a percentage of advances.
There was an increase in NPLs, however, in CY06. However, this cannot be attributed to relatively less monitored and regulated loans issued, since interest rates showed a significant increase in the period, while the high levels of indebtedness affected the ability of the market to absorb loans. Industry figures show that the downward trend of NPLs slowed down during this period. Industry NPLs stood at Rs 175 billion at the end of CY06. Disaggregated industry analysis revealed that there were plenty of fresh NPLs incurred during this period. However, extensive write-offs and recoveries managed to reduce the overall level of NPLs. NBP has Special Assets Management Group dedicated towards the monitoring and recovery of NPLs.
The debt management figures show that the assets of the bank have been less leveraged over time. There has been a steady decrease in the debt to equity, which declined from 16.5 in CY03 to 6.7 in CY06 and later to 7 in FY08. Similarly, debt to assets declined from 0.94 to 0.87 over the same period. This declining trend has been despite a steady increase in debts, mainly resulting from an upward trend in deposits, explained elsewhere. Furthermore, there has also been an increase in borrowing. However, the equity portion of the balance statement has flourished during the last few years as a result of capital inflows, bonus shares and major profit retention. Assets increased by 18% in CY04, 4.5% in CY05 and 10% in CY06, while equity showed spectacular growth rates of 68% and 64% in CY04 and CY05 respectively, and a further 8% increase in CY06.
The solvency situation of the bank has also shown marked improvement over this period. From financing 5.7% of assets in CY03, equity financed 10.8% of assets in CY05 and 13% in CY06. Similarly, there has also been an increase in the equity to deposits ratio, showing the greater importance of equity compared to deposits, which have continued to be by far the most important source of financing for the bank's assets. From 0.86 in CY04, the ratio reached 0.95 in CY06. NBP has shown strong market performance over the years. Listed on the KSE100 and KSE30 indexes, the shares of the bank have shown significant turnover.
In recent year FY08 the market didn't perform well due to external factors and domestic economic conditions. So the decrease in market price in FY08 does not reflect any of the management's performance. Share prices have shown a marked upward trend, from Rs 35 in CY03 to Rs 68 in CY04, thus showing almost a cent per cent increase. This strong increase continued to CY05, with the average price increasing by 86% to Rs 126. From there, the average price again doubled to Rs 252 in CY06. The increasing trend in the price to earnings ratio shows that prices have been increasing at a higher rate than profits, thus showing high investor confidence.
Similarly, the market to book ratio has also been consistently on the rise, crossing 1 in CY04, showing that NBP shares are getting more and more overvalued. NBP has in general displayed a conservative cash dividend policy, exhibiting banks' common tendency of reinvesting a greater share of profits, while issuing more bonus shares. This is also shown by the high dividend cover on NBP shares, which has consistently ranged over 9 in CY03-05. At the same time, the price of shares has exhibited phenomenal growth, so that dividend yields have fallen.
FUTURE OUTLOOK
The global financial crisis has its effects trickling down to our banking systems. The financial sector is facing its lows but still on a comparative basis its better than other neighboring countries owing to regulations and the role of SBP to take timely corrective measures. Measures include relaxation of CRR and SLR in phases. The banking sector's spread continues its rising trend after witnessing a dip to the level of 6.78% in June 2008 that has being taken as an after effect of minimum profit payment of 5% on saving accounts.
The profits show that long term investment in Pakistani banking system will be lucrative, as the assets quality is quite satisfactory. As against the worldwide trend of low interest rates even zero-rated, Pakistan continued to follow stance of tightening of the monetary policy using the high interest rate as a tool to contain inflationary pressures at the cost of stalled economic activities. It can be noted that SBP already charging lower mark-up rate from exporters against export refinance facility under EFS in order to enable them to become competitive in the international market.
The trade and industry however feels in order to ignite a spark in the dull and dreary economic conditions and to come out of the persisting recession the incentive of low interest should have been given to all stakeholders across the board to achieve the desired results. Some of the market expectations are that current discount rate at 15% is likely to be on a slope by at most 400bps (basis points). In fact, the cut in the interest rate was long overdue as done by other economies elsewhere as well as in the face of stability returned into macro situation under the IMF program.
Trade experts feel that in current times low cost credit is vital to stimulate the economy and international trade. Pakistan exports have a combination which can be well suited to the current world economic situation, ie low value added goods have Income elasticity's and are least likely to be affected the economic slowdown. Challenges faced by the economy, in general, and banking sector, in specific, include restrained liquidity, slow down of economic activity, and high inflation. All these factors summed up to reduce profitability. In coming months we see a decline in discount rate, which might help in reducing the cost of funds in a way.
The main concern for the bank is of the massive increases in NPLs and have to checked in order to maintain profitability and ultimately investors confidence. Besides this, the bank is equipped to face challenges with its dynamic management and trained workforce. The economy of Pakistan continued to remain under pressure as global economies are still showing signs of weakness. Internally the country is fighting a war against terrorism, which is denting business confidence. This coupled with high inflation, energy and power shortages and high interest rate scenario is making conditions difficult for the companies who are losing their financial viability. The outlook for the financial year 2009-10 is also tough as the Central Bank expects moderate growth in GDP.
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Table: 9M2009 Financial highlights (YoY)
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(Rs mn) 9M2009 % 3Q2009 %
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Markup interest earned 55,932 29% 18,663 23%
Markup interest paid 27,248 67% 8,959 25%
Net Interest Income 28,684 6% 9,704 21%
Provisions & write off (8,773) 31% (3,198) 90%
Net mark up income after prov 19,910 -2% 6,507 3%
Fee income & brokerage income 6,355 15% 2,029 16%
Other non interest income 4,885 -31% 2,244 -31%
Net mark up + Non mark up income 31,150 -5% 10,180 -5%
Admin expenses & oilier charges (16,150) 17% (5,470) 9%
Profit before tax 15,000 -21% 5,310 -16%
Taxation (4,949) -22% (1,541) 2%
Profit after tax 10,051 -21% 3,770 -22%
EPS 9.34 -21% 3.50 -22%
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