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NNN REIT, Inc. (NNN)

Q2 2025 Earnings Call· Tue, Aug 5, 2025

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Transcript

Operator

Operator

Good day, everyone, and welcome to the NNN REIT, Inc. Second Quarter 2025 Earnings. [Operator Instructions] It is now my pleasure to turn the floor over to your host, Steve Horn, Chief Executive Officer of NNN REIT, Inc. Sir, the floor is yours.

Stephen A. Horn

Analyst

Thank you, Matthew. Good morning, and welcome to NNN Second Quarter 2025 Earnings Call. Joining me today on the call, Chief Financial Officer, Vin Chao. As outlined in the morning's press release, NNN continued to deliver strong performance in the first half of 2025. Notably, we've improved our balance sheet flexibility following capital markets activity with a sector-leading average debt maturity of 11 years, solid acquisitions driven by our tenant relationships and we published the third and annual Corporate Sustainability Report. These results and actions position us well to continue enhancing shareholder value as we enter the second half of the year and beyond. Also, as usual, we always have to mention the dividend. In July, we announced a 3.4% increase in our common stock dividend payable August 15. This marks our 36th consecutive year of annual dividend increases, a milestone that places us among very few less than 80 U.S. public companies and only 2 other REITs have achieved such a track record. Before we get into the operational performance and market conditions, I'd like to touch on a few key recent events. First, I'm thrilled to welcome Mr. Josh Lewis to the executive leadership team as our new Chief Investment Officer. Josh has been with the company since 2008 and has played a pivotal role from day 1. Known for his prolific dealmaking ability and deep market relationships, Josh ensures that shareholder capital is deployed towards the most compelling risk-adjusted opportunities. I'm fully confident we have the right person focused every day on driving long-term value for our shareholders. On the capital markets front, we successfully completed $500 million 5-year unsecured bond offerings with a 4.6% coupon. And true in an fashion, the execution and timing of the deal in today's market environment were exceptional. More importantly, the…

Vincent H. Chao

Analyst

Thank you, Steve. Let's start with our customary cautionary statements. During this call, we will make certain statements that may be considered forward-looking statements under federal securities laws. The company's actual future results may differ significantly from the matters discussed in these forward-looking statements, and we may not release revisions to these forward-looking statements to reflect changes after the statements are made. Factors and risks that could cause actual results to differ from expectations are disclosed in greater detail in the company's filings with the SEC and in this morning's press release. Now on to results. This morning, we reported core FFO of $0.84 per share and AFFO of $0.85 per share for the second quarter of 2025, each up 1.2% over the prior year period. Annualized base rent was $894 million at the end of the quarter, an increase of almost 7% year-over-year. Our NOI margin was 98% for the quarter, while G&A as a percentage of total revenues and as a percentage of NOI was about 5%. Cash G&A was 3.7% of total revenues. AFFO per share for the quarter was slightly ahead of our expectations, driven primarily by lower-than-planned bad debt. Free cash flow after dividend was about $50 million in the second quarter. Lease termination fees as footnoted on Page 8 of release totaled $2.2 million in the quarter or about $0.01 per share. This quarter's fees were in line with our expectations and were primarily driven by the termination of an auto parts store and a full-service restaurant. The auto part store is under contract for sale and the restaurant has already been re-leased and rent commenced to another restaurant concept, highlighting our proactive portfolio management strategy. From a watch list perspective, At Home is the major news for the quarter, we have been flagging…

Operator

Operator

[Operator Instructions] Your first question is coming from Jeff Spector from Bank of America.

Jeffrey Alan Spector

Analyst

Great. Just first on the investment guidance. I know you raised it. It does suggest a slower pace in the second half. So I just wanted to confirm what's driving that implied deceleration whether it's market opportunities, which it sounds like are robust. There is -- you mentioned increased competition, capital allocation? Or is it just some conservatism in the outlook?

Stephen A. Horn

Analyst

Yes. I mean given what we did in the first half, yes, I see it suggests a slower activity. We don't have any visibility to the fourth quarter. So we don't want to get over our skis. Third quarter is feeling pretty good right now. But everything you mentioned, the heightened competition, overall, the market seems fairly robust, but it's more probably being conservative.

Jeffrey Alan Spector

Analyst

And then if I heard correctly, it sounded that 8 -- in terms of the acquisitions, 8 out of the 11 were existing relationships, can you talk about the new relationships and maybe the opportunity set there?

Stephen A. Horn

Analyst

Yes, we're not going to disclose the few that we didn't -- that weren't relationships. But they were just our acquisition guys have calling efforts that have been going on for many years and deal flow happened. They were in the auto service sector. And we only consider a relationship as a repeat business. So we have to close 1 or 2 transactions with you before you become " a relationship."

Vincent H. Chao

Analyst

But Jeff, just to add to that, Steve, to your point, I mean, I think in any business, you want to have a good mix of existing deal volume as well as new volume. And so the new relationships do open up additional opportunities in the future. So we're hopeful that, that can continue.

Operator

Operator

Your next question is coming from Spenser Glimcher from Green Street.

Spenser Bowes Glimcher

Analyst

I'm just curious if you could provide an update on the available assets, either being marketed for sale or trying to re-tenant. I know last quarter, you mentioned there was significant interest for these properties from strong national and regional tenants. So just curious how that process has been going.

Stephen A. Horn

Analyst

Yes. I mean as you could guess, Spencer, primarily, it was the former furniture store, Badcock and a fair amount of restaurants from the Frisch's assets. And Frisch's was in business for 60-plus years. So they had a lot of infill locations, and that's where the strong demand is coming from as a result, kind of convenience stores, car washes, collision repair. So there's still a lot of demand for those assets. And just to kind of give you an idea, call it, 64 assets at the beginning, 28 of them were working with a tenant on re-leasing. And then the remaining 36, 4 of them have been sold and/or leased, 24 of those assets, we are in active negotiations, and there's different levels or stages of those negotiations and then 8 of the 36 is just limited activity. So we're seeing encouraging signs across those assets, specifically the 36. And we're kind of expecting the rent recovery to eclipse historical averages, which would be 70%. And then -- yes. And then as far as the Badcock furniture assets, we are kind of -- we're outperforming our expectations on those. Just to recall for everybody, there was 35 of those assets, 19 of them have been resolved at greater than 100% rent recovery, 12 are currently pending and is tracking to greater than 100% recovery. And then there's 4 that there's work to be done. But the reality is, if you took a downside scenario of just the 4, our total recovery for the furniture is expected to be greater than 100%.

Spenser Bowes Glimcher

Analyst

That's very helpful. And then just last one. Cap rates are in line with 1Q. Can you just talk about what you're seeing thus far in 3Q?

Stephen A. Horn

Analyst

Yes. In the 1Q call, like I said, second Q was going to be pretty flat and we are right there. Third quarter, I'm really not seeing any movement either way. It depends on the mix of closings in the quarter. However, I think, give or take, 5, 10 basis points either side could happen.

Operator

Operator

Your next question is coming from Ronald Kamdem from Morgan Stanley.

Unidentified Analyst

Analyst

This is [ Jenny ] on for Ron. First is regarding your November 2025 debt maturity approaching like can you talk a little bit more about your specific refinancing strategies and so forth?

Vincent H. Chao

Analyst

Jenny, this is Vin. Yes, so we looked at that. And really, we did the $500 million deal on July 1, and that kind of prefunded that refinancing. And so we are sitting on a bit of cash right now as we work through acquisitions. But ultimately, those funds will partially be used to repay the $400 million of financing. And then we may be back in the market later in the year if you just think about our normal cadence of acquisitions based on the new $650 million of acquisition volume at the midpoint, at 40% debt that's, call it, $250-ish million of net new debt that we would need. So we funded some of that with the $500 million. So we may be back in the market for a smaller amount later this fall.

Unidentified Analyst

Analyst

Perfect. Second one regarding the average time from like a vacant property to be released, like maybe talk a little bit more about how does this like time line compare with your historical average of 9 to 12 months.

Stephen A. Horn

Analyst

Yes. I mean the 9 to 12 months is when rent starts coming in, but we'll have activity within kind of 30, 40 days of marketing that asset. But to sell it or re-lease it, there's usually contingencies in the contract before they start paying rent. And then if it's a redevelopment, that's really when the 9 to 12 months comes into play. But we are seeing -- I mean, kind of why I said we were outperforming our expectations with the furniture assets because it all moved pretty quick compared to historical averages. And the restaurants are good locations really good dirt. So that 9 to 12 months is still going to be the majority because there is redevelopment with the large regional operators.

Operator

Operator

Your next question is coming from Smedes Rose from Citi.

Nicholas Gregory Joseph

Analyst

It's Nick Joseph here with Smedes. Maybe just starting on the bad debt. You talked about 60 basis points bad debt embedded in guidance still with only [ 15 ] basis points booked thus far. And you also mentioned that there's no tenants keeping you up at night. So just trying to kind of understand the kind of keeping the 60 basis points for now.

Vincent H. Chao

Analyst

Yes. Nick, it's Vin. I'll start and I'll let Steve jump in if he has anything to add. But really, as we think about the bad debt, we booked 15, so we've got 45 basis points to kind of play with, if you will. We are still dealing with At Home. It's in bankruptcy. So we don't exactly know where that's all going to shake out. We're pretty happy with the progress so far. We don't have anything on the initial closure list. And as we've talked on past calls, we feel pretty good about the real estate and the rents that are embedded there, which are only 6.50 -- $6.50 per square foot. So we feel good about our position, but they are in bankruptcies we have to keep some dry powder in case something goes -- gets us on that front. I think, typically, we do have between 30 and 40 basis points of bad debt in any given year. And so we still got 2 quarters left to go, and so we just don't want to, again, just similar to our investment thesis, we're not trying to get ahead of ourselves in terms of bad debt just knowing that there's At Home out there, plus there's always normal turnover.

Stephen A. Horn

Analyst

None of the tenants are keeping me up at night, meaning any substantial tenants, but just to reiterate what Vin said. We do deal with retailers and 60 days from now, something might shift. So it's prudent to leave some of the bad debt in there.

Nicholas Gregory Joseph

Analyst

That's very helpful. And then maybe just back to cap rates. I mean, you mentioned kind of capital coming in, chasing larger volumes. How is portfolio pricing relative to individual assets right now? Are you seeing that spread widen a bit?

Stephen A. Horn

Analyst

I would say, I've seen the spread widen. I think with the new money coming into the sector, again, we've been doing this a long time, and we've seen competitors come and go, that I still think there's a pretty good portfolio premium on certain deals in that kind of that $100 million to $200 million range, which is a nice bite, but there's a lot of capital chasing that we saw a handful of portfolios go off in the 6.5%, 6.75% range. And that's trying to retail levels on the individual assets.

Operator

Operator

Your next question is coming from John Kilichowski from Wells Fargo.

William John Kilichowski

Analyst

Maybe just on the composition of the guidance raise, how much of that was driven by the actual increase in acquisitions versus then you noted that termination fees kind of came back slightly more normalized but still above what you all were expecting. I know you haven't given a specific number, but maybe if you could size that for us?

Vincent H. Chao

Analyst

Yes, sure. John, it's Vin. Yes, just to clarify in my prepared remarks, the $2.2 million that we booked in the quarter, we were expecting that. That was part of the plan, so it was embedded in our guidance last quarter. My comment about the $2.2 million being above -- it's above historical levels, so -- but down from the first quarter. So that was the point I was trying to make on the $2.2 million. But as far as the upside in the guidance, there's a couple of moving parts there. You've got about $0.005 of upside on AFFO. Just a little less than that through the first half, but then you do have net expenses going up by about just over $0.01. So that's a headwind to the guidance. And then I think the balance of it really is investment related as well as the bond offering that we did. So we're seeing a little bit of downside, call it, $0.005 or so from the bond offering relative to our initial guidance. And so we're sitting on a bit of cash right now. We're earning a pretty good rate on it, but not the same as what we're paying on the interest side of things. So there's a little bit of headwind there. And then offsetting all that is acquisitions, which one is timing of acquisitions. So we've definitely been a bit ahead of our plan in terms of timing. And then on the flip side, on the disposition side, we typically, when we give guidance on dispositions, we're assuming income producing. I mean if you look at it year-to-date, we've got about half of our dispositions have been vacant. And so we're picking up a little bit from that as well.

William John Kilichowski

Analyst

Got it. That's helpful. And then maybe just from a composition standpoint, can you talk about the sectors that you're targeting on both the acquisition and the disposition side?

Stephen A. Horn

Analyst

Yes. I mean the disposition side, it's more communicating with individual tenants. Just, for example, you saw that our Camping World exposure dropped by a couple because that's some assets that weren't performing for Camping World. They weren't in the long-term plan. So we sold some assets back to them. So that's good for NNN and good for the tenant relationship. As far as acquisitions, I think going forward, the auto service sector still seems to be the most robust activity if it's M&A or growth. And I think also we're starting to see some activity in the QSR restaurants.

Operator

Operator

Your next question is coming from Michael Goldsmith from UBS.

Michael Goldsmith

Analyst

The leverage ratio ticked up a little bit during the quarter. And is that a function of just kind of temporary to pay down the line of credit? Or just trying to get a -- and then now that you're running as the CFO, like how are you thinking about just like a target leverage ratio or where you want the leverage to be for the business?

Vincent H. Chao

Analyst

Michael, thanks for the question. Yes, I think from a quarterly leverage level of 5.7%, so it ticked up a little bit from the first quarter. That really has to do more with timing of acquisitions, dispositions. We did a little bit of equity in the quarter, but it's really the earlier acquisition timing. And so part of our initial plan obviously includes the benefits of the free cash flow. But because we're buying ahead of plan, that's causing us to have a little bit of a bump up in leverage here in the near term. In terms of longer term, how do I think about leverage? I mean, lower is better, obviously. We'd love to be operating, I would say targeting less than 5.5x, to put an exact range, it's hard to say. But certainly, if we're in the 5-ish range, that would give us a little bit more capacity to kind of lean in when opportunities arise. And so I'd love to get it down below 5.5x here shortly.

Michael Goldsmith

Analyst

Got it. And just while I ask you then, you have done a 5-year bond issuance here, so a little bit more shorter term than you've done in the past. Can you just talk a little bit about the benefits of that and how you plan to use that kind of our shorter-term debt going forward?

Vincent H. Chao

Analyst

Yes. I think it really is down to asset and liability management. So if you look at our debt duration, it's around 11 years prior to this deal last quarter, it was 11.6 years. If you look at our average lease duration, it's just under 10, so like 9.8 years. And so from my perspective, that means we have a little bit of flexibility on doing a little bit of short-term debt in the near term just to balance out those assets and liabilities. And I think the other part of it is we look at our maturity ladder, we look at where we have holes. And so we did have a hole in that 5 -- call it, 5.5-year period really. And so it's a combination of where do we have hold in the maturity ladder and how are we managing our assets and liabilities.

Operator

Operator

Your next question is coming from Rich Hightower from Barclays.

Richard Allen Hightower

Analyst

Just a quick one for me. We just noticed, I think, quarter-over-quarter, the ABR that's on sort of a cash basis payment ticked up from the first quarter, not so much year-over-year, but quite a sequential jump and then likewise, kind of a big jump in terms of the GLA on cash. And so my question there is, is that just related to At Home? Or is there anything else kind of in the moving parts that we should be aware of?

Vincent H. Chao

Analyst

Yes. Rich. It's Vin. Yes, almost all of that is At Home. If you recall, that was -- we're up about a little over 1% quarter-over-quarter on cash basis ABR and At Home's percent of our ABR and obviously, a bigger percentage of our GLA given the size of boxes.

Richard Allen Hightower

Analyst

Exactly. Yes, exactly. And that was -- that's a difference from the first quarter, just to be clear. Is that just based on timing around the bankruptcy filing?

Vincent H. Chao

Analyst

Correct. Correct.

Operator

Operator

Your next question is coming from Wes Golladay from Baird.

Wesley Keith Golladay

Analyst

Just a quick question on the deal flow. Are you starting to see your partners get more active on their business now that they have visibility on taxes and potentially more visibility on tariffs?

Stephen A. Horn

Analyst

Yes. I think it's a good question. I think there's better visibility on the tariffs and the conversations that we have with our tenants. But I don't think they're quite there yet that they're ready to ramp up the pre levels going back to 2018, 2019. But we are starting to see inquiries come in about funding new builds, kind of a one-off here and there. However, we do see some M&A activity picking up where buyers are able to underwrite the cash flow and the quality of earnings.

Wesley Keith Golladay

Analyst

Okay. And then, it's...

Vincent H. Chao

Analyst

Sorry just to add to that. I mean, Steve mentioned earlier that auto services is pretty robust right now. And I can't say with certainty that, that's because of tariffs, but to the extent that it costs a lot more to buy a new car, we should think it's logical to assume that, that's going to help our auto services business on the repair side as well as auto parts, which was more of a self-help, kind of DIY.

Wesley Keith Golladay

Analyst

Yes. That makes sense, even why I got you. When we look at your, call it, nearly $900 million of ABR some of the Badcock and the Frisch that you resolved. How should we think about timing of commencement for some of that, I guess, we call it sign-out open pipeline?

Vincent H. Chao

Analyst

That's a good question. It's definitely not something that we track as closely as we did in the shopping center space. But for the most part, most of the ABR is commenced. We don't have a ton of sign that open per se as on top of my head, I can't think of any major tenants that have not commenced that are not in that ABR number we gave you.

Operator

Operator

Your next question is coming from Omotayo Okusanya from Deutsche Bank.

Omotayo Tejumade Okusanya

Analyst

Steve, I was hoping you could just kind of walk us through, again, I know you kind of mentioned new tenants are kind of "keeping you up at night. " But I was hoping if you could kind of talk through get some of the retail categories that are still kind of seeing pressure whether it is competition, whether it's just concepts time, whether it's tariffs, what have you. But just again, a couple of thoughts around restaurants and drug stores and even furniture and consumer electronics and we get hit by tariffs. How are you thinking about that? How do you kind of think about 60 basis points debt may be covering any of that risk?

Vincent H. Chao

Analyst

Tayo, it's Vin. Good to hear from you. I'll start maybe just with lot specific type of commentary. It's a little bit easier than to talk a lot by a lot. But I mean there are some areas that are probably more impacted by, say, tariffs and some of that uncertainty than others. I mean, thankfully, most of our tenant base is either necessity or service-based. It's about 85% of ABR. So maybe a little bit less direct impact on tariffs and more of an indirect economic impact if there is any. But as far as restaurants go, I mean, just like most retail, there's winners and losers all the time. And so you look at the Chili's that's just absolutely crushing it right now. And then you have others, Texas Roadhouse, others that are not doing quite as well. But I think it really is do you have a compelling product offering that gets people back in the door. And that's across not just restaurants, but there's definitely winners and losers throughout. And I think as pressure builds on some of the weaker players that does open up an opportunity for the better players to take share. And so we are seeing that. And I'll give you another example. Camping World is one that, obviously is a big tenant of ours. We did reduce exposure this quarter. But if you look at their earnings releases and calls, I mean, they are seeing pressure on their ASPs. They are seeing pressure on certain parts of their business, particularly the new business, but they have a very strong used business, right? And so they're leaning into the parts of the investor -- or the customer base that are active. And so on net, they're still able to drive EBITDA and top line growth. And so it's just -- can you adjust to the changing market conditions or not? So I think it's not as simple as just saying, hey, tariffs are going to impact tenants negatively. And so on net, an entire line of trade is good or bad. Having said that, if we can get some more clarity on the economy and tariffs, job growth, et cetera, and people can feel more confident in making decisions. And then I think that's just unmet good for all lines of trade.

Operator

Operator

Your next question is come from John Massocca from B. Riley.

John James Massocca

Analyst

Apologies, if this was already kind of addressed. But was there something specific that drove the increase in non-reimbursed real estate expenses? And is that tied to maybe some of the former Frisch's properties and the timing you're thinking about with resolving those vacancies or even just baking in some conservatism given At Home situation? Just kind of curious why that ticked up related to a specific tenant? I know you kind of called it out a little bit in the prepared remarks.

Vincent H. Chao

Analyst

John, I think without calling out specific tenants, I think you're spot on. I mean, definitely a little bit slower resolution of certain vacant properties that we are dealing with. And I think part of it is we are seeing a lot of good demand. And so we have some options and deciding, hey, do we want to re-lease it immediately? Or is there maybe a higher credit or a better long-term value play that we can take that maybe takes a little longer to lease up, but ultimately ends up better for us and for shareholders. And so we've made some decisions to delay certain openings to, again, try to come up with a better long-term solution.

John James Massocca

Analyst

Okay. Does that indicate maybe in terms of resolving some of these vacancies, there's more of a leasing kind of angle you're taking or vice versa, maybe more of a disposition angle, and that's kind of what's driving the differentiated timing versus what you were expecting at 1Q?

Stephen A. Horn

Analyst

Yes. I mean I think things are moving a little slower on a handful of the assets than you would like. That's just real estate, if it's permitting process. But yes, I think you're probably right as far as timing leasing route on some of the assets that is creating a little bit more carry cost than they originally thought. But again, in the big picture, it's in a pretty small number as far as the impact on our financials. But in the long run, it will create the most shareholder value.

John James Massocca

Analyst

Okay. And then you addressed a little bit earlier in the call with regards to kind of your philosophy. But when you think about maybe issuing debt on a 5-year basis versus 10-year, is that something you're comfortable doing again, given what you're seeing today in the maturity window? Obviously, it's pretty attractive from a pricing perspective. So just curious, given there's potentially some additional financing needed if not later this year than next year.

Vincent H. Chao

Analyst

Yes. Look, I think the guidepost here is not necessarily, hey, we want to have short-term debt or we're trying to get the lowest cost of debt. I mean, obviously, it is cheaper on the shorter end of the scale, so that's a benefit. But I go back to just trying to balance our assets and liabilities. So we've got 11 years of duration on the debt and we've got under 10 years of duration on the leases. There is a bit of a mismatch there. And so to some degree, I think that gives us flexibility to opt for shorter-term debt if it makes sense with regard to all the other decisions we have to make and all the other factors we have to consider. But ideally, I'd love to be issuing longer-term debt on a consistent basis, but we do have a bit of a mismatch between assets and liabilities. And so again, that gives me some opportunity to do some short-term debt here.

Operator

Operator

[Operator Instructions] Your next question is coming from Linda Tsai from Jefferies.

Linda Tsai

Analyst

Sorry. Maybe you alluded to this somewhat in your response to the earlier question. In terms of line items running slightly above the historical average lease term fees and net real estate expenses, is your expecting these trends conclude by year-end? Or could it continue potentially next year?

Vincent H. Chao

Analyst

Yes. On the lease termination fees, Linda, I mean, I think historically, we talked about $2 million to $3 million, but it's certainly been higher than that over the last, call it, 2 years or so. Part of that is we have been actively managing the portfolio and trying to look for opportunities to address problems before they come to a head. And so the dark paying and sublease tenant list, those are the ones that we kind of fish around for these lease terminations to try to address them. And as we talked about on this call, the 2 biggest deals that we did this quarter, we had resolution for both of them by the time we did the lease termination fee, and that's the kind of outcome that we're looking for. So it might be elevated for the next year or so. But I don't think it will be the same as the last 2 years, but it could be higher than the $2 million to $3 million in the next year or so. And then in terms of the net real estate expenses, yes, I think we'd hope to by the end of the year, be back to a bit more of a normal level of real estate expense net, which is, call it, $13 million to $14 million on an average year. And then obviously, that grows every year just from an inflationary perspective, but that is our hope.

Linda Tsai

Analyst

And that's related to releasing some boxes?

Stephen A. Horn

Analyst

Yes, exactly. It's just with the tenants that we're working with just holding the assets a little bit longer trying to maximize value of rent.

Linda Tsai

Analyst

Makes sense. And in terms of your ability to attract -- extract value from underperforming holdings, could you just give us some more color on how you achieve this?

Stephen A. Horn

Analyst

I think it's discussions with our tenants, understanding as lease term is burning off that they may not renew that lease in the -- at the end of the term. So sell where there is some term in value to a potential investor opposed to letting it go vacant, where you're getting a percentage of a recovery. But if there's some lease term, the income-producing asset, you can maximize value by selling it into the 1031 market. And at the same time, actively manage our portfolio strengthening it in the long run.

Operator

Operator

Thank you. That does conclude our Q&A session. I will now hand the conference back to Steve Horn, Chief Executive Officer, for closing remarks. Please go ahead.

Stephen A. Horn

Analyst

Thanks for joining us this morning, NNN, we're in great shape for the remainder of the year, opportunistic, hopefully. And we look forward to seeing many of you guys in person in the fall conference season. Take care. Talk to you.

Operator

Operator

Thank you. Everyone, this concludes today's event. You may disconnect at this time, and have a wonderful day. Thank you for your participation.