Aspen Technology, Inc. (NASDAQ:AZPN) Q2 2024 Earnings Call Transcript

Aspen Technology, Inc. (NASDAQ:AZPN) Q2 2024 Earnings Call Transcript February 6, 2024

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Operator: Good day and thank you for standing by Fiscal Q2 2024 Aspen Technology Earnings Conference Call. At this time, our participants are on a listen-only mode. After the speaker’s presentation, there will be a question-and-answer session. [Operator Instructions] Please be advised that today’s conference is being recorded. I would now like to hand the conference over to your speaker today, Brian Denyeau from ICR. Please go ahead.

Brian Denyeau: Thank you, Justin. Good afternoon, everyone, and thank you for joining us to discuss our financial results for the second quarter of fiscal 2024, ending December 31, 2023. With me on the call today are Antonio Pietri, AspenTech’s President and CEO; and Chris Stagno, AspenTech’s Interim CFO. Please note we have posted earnings presentation on our IR website, and we ask that investors refer to this presentation in conjunction with today’s call. Starting on Slide 2, I would like to take this opportunity to remind you that our remarks today will include forward-looking statements. Actual results may different materially from those contemplated by these forward-looking statements. Factors that have caused these results to differ materially are set forth in today’s press release and in our annual report on Form 10-K and other subsequent filings made with the SEC.

Any forward-looking statements that we make on this call are based on assumptions as of today, and we undertake no obligation to update these statements as a result of new information or future events. During this presentation, we present both GAAP and certain non-GAAP financial measures. A reconciliation of GAAP to non-GAAP measure is included in today’s earnings press release and investor presentation, both of which are available on our Investor Relations website. With that, let me turn the call over to Antonio. Antonio?

Antonio Pietri: Thank you, Brian, and welcome to everyone joining us today. Let me start by reiterating that I’ve never been as excited about the future of AspenTech as I am today. The AspenTech team has done an excellent job working through a dynamic macro environment to deliver solid results in the second quarter. With an expanded portfolio and team, we’re uniquely positioned to capture and benefit from the numerous opportunities available in the energy transition from efficiencies and sustainability use cases. Now, starting on Slide 3 with our quarterly results. In Q2, we saw solid demand for our products and solutions. Annual contract value, or ACV, was $914 million, increasing 9.6% year-over-year, while free cash flow was $29 million.

These results reflect the delay in renewing a large customer agreement that was scheduled to be renewed in Q2 and reduced ACV growth by approximately 0.6 points. We now expect to close this customer agreement in Q3 with a corresponding benefit to Q3 ACV growth. In addition to this, I would like to highlight four key takeaways regarding our Q2 results. First, our overall term software pipeline has continued to increase. We’re seeing growth in the number and size of opportunities across our businesses, which is in line with our sales channel investments over the past several quarters and the contribution from the DGM and SSE suites resulting from the transformation of those two businesses. We will start converting more of this pipeline to sales in the second half of fiscal year 2024.

Second, the macro environment and demand for our products and solutions has remained strong in most end markets, consistent with our commentary from the last couple of quarters. Third, we made significant advances in upgrading our product portfolio and advancing new sustainability-related use cases in Q2. With the successful launch of our V14 software update, we have introduced enhancements to our products that we believe will drive incremental growth in the second half of fiscal year 2024 and longer term. Fourth and final taking all these factors into consideration, we remain confident in our ability to deliver on our ACV growth target of at least 11.5% for the full fiscal year. We recognize that we need to have two strong quarters of growth in the second half to achieve this target, and we continue to believe that we’re in a good position to deliver on this outcome.

Turning to Slide 4, I will now provide an update on our end markets and suites, starting with digital grid management, our utility solutions business. DGM has enjoyed an excellent first half of the year as it continues to benefit from the mission-critical nature of its products and solutions alongside a robust demand environment. Importantly, today’s utilities are in the early stages of an unprecedented investment cycle to expand the electrical grid, introduce renewable energy, and enhance cybersecurity capabilities to meet the growth in electricity demand driven by the energy transition and the energy security requirements of countries around the world. Our transformation initiative to align the DGM business with the Heritage AspenTech model over the past 18 months are also producing their expected results.

These initiatives have included launching and growing DGM’s term software licensing model, expanding its sales channel and global footprint to capitalize on the growth opportunities we’re seeing and ramping up its ISP network. For example, in Q2, we won several large term license deals, including one with a leading North American power utility where we displaced the competition as part of their holding company’s vendor standardization program. Our energy management solutions proven track record of delivering value as well as our longstanding relationships with other utilities in this holding company’s portfolio were key catalysts for us in this win. Both in the U.S. and internationally, DGM’s product strength, hardware agnostic stance, and ability to form a strategic long-term partnership with customers, are driving growth.

We expect to see continuous strength from this suite in the second half of fiscal 2024 and believe this will be a high growth business for AspenTech going forward. Now, turning to our Subsurface Science & Engineering suite, SSE performed to expectations in the first half of the fiscal year, benefiting from a strong CapEx spending environment and new use cases driven by sustainability, especially in carbon capture and sequestration. SSE has long been the upstream industry’s most comprehensive offering and the AspenTech go-to-market model is serving as a catalyst to help fully unleash its potential. In Q2, for example, SSE gained further momentum as we closed a large deal with a national oil company in Asia. While many vendors competed for this opportunity, the strength of our subsurface formation evaluation and geological modeling capabilities combined with the strength of our relationships across organization allowed us to ultimately win this deal.

We continue to work closely with this customer and see clear pathways to expand this strategic relationship at additional sites with more solutions. SSE is also benefiting from synergies with our engineering suite and the positive momentum from its tokenization rollout. As with our other suites, we continue to see that the combination of a term license model and tokenized suite is a true win-win situation, allowing our customers to benefit from our latest innovation and supporting faster product update. Overall, we expect CapEx budgets in calendar 2024 to remain consistent with last year’s, supporting the demand for SSE products in the second half of fiscal 2024 in line with our expectations. Now moving to Slide 5, let’s review our Heritage AspenTech business, starting with our engineering suite.

Strong CapEx trends in traditional upstream markets and newer sustainability-related use cases are driving greater usage by EPCs and our owner operators. On the back of this favorable spending environment, our engineering suite’s modeling, simulation, and analysis capabilities have remained in high demand, supporting the strongest growth this suite has seen in many years in the first half of fiscal 2024. In Q2, for example, we won a large-scale deal with a new EPC logo that is executing several projects for a large energy company in the Middle East. Prior to working with AspenTech, this customer was using a variety of tools from different vendors to manage its process engineering workflows. The customer was interested in standardizing their engineering software solutions toolset and conducted a competitive evaluation process, resulting in the selection of AspenTech due to the breadth of capabilities.

By engaging with AspenTech, they are now able to leverage our full portfolio of innovation and product synergies to execute on their project backlog. Separately, our engineering suite has continued to see solid traction with the small-to-medium business segment of the market through our high-velocity sales organization. During the quarter, this business continues to win engineering deals with customers in non-traditional industries for AspenTech that are looking to decarbonize their operations or see a business opportunity in sustainability, including such areas as the aviation biofuels, hydrogen, ammonia, LNG, direct carbon capture, or DAC, and more. Now, turning to our manufacturing and supply chain suite, the MSC results in the first half of 2024 reflected the ongoing weakness in the chemicals market, as well as the delayed renewal that I referenced earlier.

Nevertheless, even this business’ typical seasonality, strong pipeline, and expected closing of the delayed renewal agreement, as well as the continuation of solid refining demand and our ongoing innovation efforts, we expect a stronger performance in the second half of this year. As part of our recent V14 software update, we have made substantial improvement to our new Aspen Unified platform environment for asset planning and scheduling in MSC. Specifically, we have introduced tighter and better model integration, improved data management capabilities, deeper AI capabilities and a more scalable architecture. This represents the most significant update to our Unified platform’s planning and scheduling solutions in over a decade. While we are still in the early phase of this rollout, customers are already responding positively to this improvement.

For example, in Q2, we received a green light from one of the world’s largest integrated energy companies to implement our updated Aspen Unified planning and scheduling solution across their asset base. This customer highly values the strength of our latest innovations, and ultimately, our ability to support better operational decision-making across their global teams. We’re excited to work with them on this project over the next several months and see additional opportunities to support their digitalization initiatives going forward. Finally, our asset performance management suite continues to gain industry recognition and grow its customer base. For example, in Q2, our APM team closed an exciting win with a large global pharmaceutical company to implement our Mtell product at one of its European manufacturing plants.

This deal was supported by our commercial agreement with Emerson, who also has a strong relationship with the customer via their offerings, including the DeltaV control system. While this deal was for one initial site, the customer has shown strong interest in rolling out the solution across its entire manufacturing base to drive further operational and sustainability excellence. Turning to Slide 6. We will discuss our sustainability initiatives. As I highlighted previously, sustainability related topics contributed to accelerated engineering suite growth in Q2. We believe that the strong tailwind we’re seeing in sustainability is being driven by the energy transition and the alignment of corporate strategies with government policy and funding.

This was further validated to me at COP28, the United Nations Climate Change Conference. As part of this event, public and private organizations alike made pledges to reduce carbon emissions by increasing renewable energy production and usage and driving higher energy efficiency. To do this, companies must not only accelerate their digitalization journeys but also leverage the potential of new and existing asset optimization technologies. We remain focused on partnering and co-innovating with customers in these areas in Q2 to accelerate their use case development. For example, we advance our collaboration with a large global player in renewable wind energy that aims to also secure leadership in the production of green hydrogen and ammonia. While this customer currently leverages our modeling and DMC3 process capabilities to drive efficiency, we’re now also partnering to improve their electrolyzer modeling capabilities.

Additionally, we’ve built on our existing relationship with a refining company in Europe to implement our emissions management solution for better CO2 tracking, reporting, and modeling. This customer already relies on our solutions to run its assets more efficiently and sustainably and is excited about the potential to leverage our emissions management solution to better manage its carbon footprint going forward. As an organization, we also recognize that the challenges presented by the prevailing energy megatrends are considerable and we remain committed to doing our part. To that end, I’m proud to announce that we made a formal commitment last week to achieve net zero emissions as an organization by 2045. As part of this commitment, we will build a decarbonization plan over the next 12 months to 24 months to achieve net zero for Scope 1 and 2 emissions by 2030 and across Scope 1 to 3 by 2045 in line with the science-based targets initiative.

Now, turning to Slide 7 for our innovation initiatives. In November, we successfully launched enhancements to our version 14 and a new version 14.2 aspenONE software. This update included enhanced industrial AI, further OT data integration, and additional sustainability capabilities with more than 140 sustainability models now available to customers. As mentioned previously, this latest rollout is garnering positive customer response and helping us to win additional business. We look forward to showcasing the full range of our innovations at our optimized 2024 conference in Houston this May. I would also like to take a moment to speak about how our latest V14 update incorporates artificial intelligence. While we have been using industrial AI in our products for years, this latest update leverages the technology in ways that are new, innovative, and represent exciting growth drivers for us.

For example, with this latest release, we have integrated additional AI capabilities including neural networks into Aspen Unified and Aspen HYSYS Dynamics Hybrid Models. These AI enhancements extend and build upon our ability to employ non-linear hybrid modeling in both traditional and sustainability related use cases to improve modeling accuracy. We have also incorporated generative AI based assistance into our strategic planning capabilities for sustainability pathways. This innovation helps to solve the cold start problem for users by using their queries or prompts to automatically create a new superstructure workflow, saving them time and allowing them to focus on more creative and high value of tasks. These are just a few examples of the way AspenTech is leveraging AI across our portfolio today.

As always, our ability to leverage these innovations alongside the industry expertise and first principles know-how remains a competitive differentiator for us and highly valued by our customers. In closing, on Slide 8, we remain confident in our ability to deliver ACP growth of at least 11.5% year-over-year in fiscal 2024. Our confidence in reaffirming this guidance is primarily based on the following factors. First is the strength of our pipeline resulting from a positive macro environment, resilient demand and sales channel expansion. Second, the adoption of the DGM suite term licensing model is accelerating in the market and contributing to increasing growth. Third, the SSE suite and its tokenization continues to gain momentum in the market.

Fourth, is the continued demand strength for our engineering suite, driven by upstream and sustainability CapEx. And fifth and final, an expanded sales channel will have a greater impact on pipeline conversion in the second half of the fiscal year. Specifically, on Q3, we now expect sequential ACV growth in the mid to high 3% range. This accounts for the closing of the delayed renewal agreement mentioned earlier, as well as the factors just referenced in support of our fiscal year guidance. Stronger Q3 and Q4 quarters are in line with our historical cadence as AspenTech’s result have traditionally been more weighted to the second half of our fiscal year. With that, I would now like to turn the call over to Chris for a discussion of our Q2 financial results.

Chris?

Chris Stagno: Thank you, Antonio, and hello, everyone. I’m excited to be with you here today and to help lead AspenTech through this CFO transition process. Turning to our Q2 performance, I will start out by highlighting that our earnings presentation includes explanations regarding the impact of ASC Topic 606 on our financial results. We have also included definitions of Annual Contract Value or ACV, bookings and free cash flow among other metrics in our earnings presentation now available on our IR website. We ask that investors refer to these definitions together with today’s call. Starting on Slide 9, annual contract value was $914 million in the second quarter of fiscal 2024, up 9.6% year-over-year and 1.8% quarter-over-quarter.

As Antonio mentioned, we had one large renewal, approximately $5.4 million, or 0.6 points of growth that we expected to close in the second quarter but was delayed. We now expect to close this deal in Q3. Total bookings were $233.4 million in the second quarter, decreasing 3.9% year-over-year, consistent with our expectations. Total revenue was $257 million for the second quarter, up 5.9% on a year-over-year basis. Please note that revenue in our model is heavily impacted by contract renewal timing and variability under ASC Topic 606. This includes the impact of the larger deal that was pushed out of Q2. Now turning to profitability. On a non-GAAP basis, we reported operating income of $89 million in Q2, representing a 34% non-GAAP operating margin.

This compares to Non-GAAP operating income of $87 million for a Non-GAAP operating margin of 36% a year ago. The year-over-year increase in expenses was driven by increased headcount and compensation costs consistent with our sales expansion efforts and other business initiatives. As a reminder, margins will fluctuate period to period due to the timing of customer renewals and the resulting impact on license revenue recognition in a given quarter. Non-GAAP net income was $88 million in the quarter, or $1.37 per share, compared to non-GAAP net income of $23 million or $0.35 per share. Please note that the difference in non-GAAP net income between periods was mainly due to the change in computing our tax provision, which initially occurred in the second quarter of fiscal 2023.

Turning to our balance sheet, we ended the quarter with approximately $131 million of cash and cash equivalents, reflecting the impact of share repurchases under a $300 million share repurchase authorization and $197 million available under our revolving credit facility. During the quarter, we repurchased approximately 375,000 shares for $72 million under our $300 million share repurchase authorization for fiscal year 2024. Year-to-date, we have repurchased approximately 955,000 shares for $186 million under the same authorization. On cash flows, we generated $30 million of cash flow from operations and $29 million of free cash flow in Q2, compared to $50 million in cash flow from operations and $48 million in free cash flow a year ago, mainly due to higher cash tax and the variability of contract cycle renewals and billings between that.

Turning to Slide 10, I would now like to close with guidance. For the full year of fiscal 2024, we are reiterating our outlook across all metrics. We continue to expect ACV growth of at least 11.5% in fiscal 2024. As Antonio mentioned, we are seeing pipeline strength, a healthy demand environment, several other notable tailwinds across our business that support our conviction as we move into the second half of our fiscal year. In addition, our non-GAAP EPS range has increased by $0.02 from our prior guide to reflect the impact of our share repurchase activity in the second quarter. There was no impact to GAAP EPS. Now turning to Slide 11 for linearity. As Antonio noted, we now expect to deliver sequential ACV growth in the mid to high 3% range in the third quarter.

On free cash flow, we expect Q4 to come in slightly above Q3. On revenue, we continue to expect our fiscal 2024 revenue linearity to be similar to that of fiscal 2023. This includes expectations for bookings up for renewal of $580 million in fiscal 2024 with $173 million up for renewal in Q3 and $195 million up for renewal in Q4. For a complete overview of our fiscal year 2024 guidance and linearity commentary, please refer to our earnings presentation slides now available on our IR website. In closing, we delivered a solid Q2 performance to close out the first half of our fiscal 2024. With a strong foundation in place, we continue to make investments in those areas that can support growth, while also remaining disciplined in our execution to return to our historical profitability levels over time.

Looking ahead, we are excited about the opportunities we are seeing across our end markets and confident in our ability to deliver on our fiscal 2024 financial targets. With that, I will turn it back over to Antonio for closing comments.

Antonio Pietri: Thanks, Chris. As I mentioned earlier, we recognize that we need two strong quarters of growth in the second half to achieve our fiscal 2024 guidance targets. We believe that we’re in a good position to deliver on this outcome. Our confidence is supported by the factors we laid out today. We’re also excited by the growth potential of our innovation efforts. Across our portfolio, we continue to roll out new and enhanced capabilities to help our customers better meet their efficiency and sustainability objectives. As global leaders in industrial software, AspenTech has a long track record of partnering closely with customers to understand their needs, support their digitalization efforts, and drive positive business outcomes. We remain fully committed to this work going forward. With that, we will open it up for Q&A. Operator?

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Q&A Session

Operator: And thank you. [Operator Instructions] And our first question comes from Rob Oliver from Baird. Your line is now open.

Antonio Pietri: Hi, Rob.

Rob Oliver: Great. Hi, Antonio. Good afternoon. Thanks for taking my questions. I had two. My first one is, just I know you’ve called out the sort of back-half-weighted nature of the ACV guide, and you provided some details around that. I think even with the deal that slipped, at least in our model, it shows up as something markedly more back-end loaded than historically you guys were. So just some of the things you mentioned pipeline, channel expansions, I guess, maybe if you could just home in on kind of one or two things that gives you the most comfort here as we look at that sort of big ramp you guys need in the second half. And then typically in the past you guys provided a range, and this year you guys said that that would be sort of the minimum, is that now the goal, in other words, the chance of kind of beating that number and that being the minimum kind of off the table now. And then I just had a quick follow-up. Thank you.

Antonio Pietri: Well, I mean, like, first of all, we remain to our guidance, which it’s always been at least 11.5% and that is the goal. And time will tell what that means, but at least 11.5% over that number. Look, with regards to how weighted this year is to the second half, first of all, of course, that delayed renewal, which is about 0.6 points of growth, and unfortunately through complications and internal alignment and administrative issues with that customer, that deal didn’t get renewed on time. This isn’t the first time that something like this happens. This is certainly the largest deal that we’ve had to experience that with. Normally, it’s much smaller transactions, but it’s not unusual, and this is the first time that we’ll probably have to disclose something like this.

With regards to our confidence on the second half, look, it starts with the volume of the pipeline. Our pipeline over the last 12 months, January to January, our total pipeline for the company has grown over 30% and this is certainly supported by the channel sales expansion, but also by the macro environment that we see, the demand from our customers, and certainly the market leadership position of our products. But more specifically, look, we’re very excited about the fact that now after 18 months, some of the transformation initiatives that we started working at the beginning of fiscal 2023 are starting to bear fruit. The outcome for DGM on term software licensing in the first half of the year was a great outcome. The term software pipeline for DGM is expanding very rapidly.

As a matter of fact, it’s grown by almost 500% in the last 12 months, and the majority of our customers are now accepting term software. So we’re very excited about that, and we have a positive outlook for the DGM suite for the full year. Equally, the transformation of the SSE suite into a token suite, they used to do term deals, mostly one-year deals, now it’s tokens, and we’re expanding the duration of those deals. It continues to gain momentum. This is gaining the attention of our customers, but look, I also believe it’s catching the attention of our competition, because it is starting to eat into the market position of some of our competitors. So we’re also very excited about SSE, and we also have a positive outlook for that suite for the full year.

Look, equally, the growth that we’re seeing on the engineering suite that started last year, last fiscal year, but has continued this year and we expect it to continue through the full fiscal year is very exciting. It’s driven by both the cap expand, but also sustainability cap expand, and we expect that suite to perform very well for the full fiscal year and most likely above planned. And then, look, we now have an expanded sales team that’s in place for the most part that is now familiar with our motion and cadences, and we expect them to be very, very engaged converting that pipeline here in Q3, Q4. But I also want to say the following, because in a way, with Heritage AspenTech, after 40 years of taking those products to market, we relied on volume to deliver our results in the past, and once in a while we had deals of significant size.

What we are now seeing with DGM and SSE is that we have a larger number of more sizable deals in our pipeline that come through as a result of the spend that utilities have to put in place in order to upgrade their systems. These are very large systems that required a lot of software and technology. Therefore, the size of these deals is seven figures and sometimes deep in the seven figures. And with SSE, we’re also seeing deals that are larger than historically had deal. So when we look at our pipeline, it’s not only volume but also size, especially as we talk specifically Q3 and Q4. So there are many reasons for this. As I said, very excited about what I see going forward. And of course, we know that we need to hit on all cylinders to deliver Q3 and Q4 and my expectation is that we will.

Rob Oliver: I appreciate all the detail, Antonio. Thank you. Just quickly as a follow-up, if you could just comment because the question we’ve been getting from investors is around your relationship with Aramco. And I know that you guys do have a co-innovation model with Aramco, and they’re an important customer. Could you just comment on what the recent production cut from Aramco could mean in terms of their CapEx and if that might have any impact at all on Aspen? I know you do a lot with them. Thank you very much.

Antonio Pietri: Yes. Aramco is one of my – our most important customers. We’ve had – we’ve been doing business with Aramco for probably 30 years. Certainly, with SSE relationship has expanded with Aramco. But look, it’s a relationship that existed and spend that existed before they announced that we’re going to expand their production from 12 million to 13 million barrels. And now that they’ve announced that they’re going to not do it and stay at 12 million barrels. I don’t think it changes our outlook for Aramco. As a matter of fact, Aramco has been a heavy user of our engineering suite. And in my prepared remarks, I talked about the opportunities or advantages that our customers are seeing from leveraging the synergies around the engineering suite and the SSE suite.

So we’re engaged with Aramco. And furthermore, what I will say is that on a global basis, oil and gas companies have to replace 4 million to 5 million barrels of oil production every year because of depletion in their reservoirs. So there is a lot of CapEx that has to be put to work to just maintain production, let alone increase it. So we’re still very optimistic about our outlook in the Middle East overall.

Rob Oliver: Great. Thanks again, Antonio. I appreciate it.

Antonio Pietri: Thank you, Rob.

Operator: And thank you. And one moment for our next question. And our next question comes from Matthew Pfau from William and Blair. Your line is now open.

Antonio Pietri: Hi, Matt.

Matthew Pfau: Hi. Great. Hey, guys. Thanks for taking my question. Just wanted to first ask a follow-up in terms of the back half ramp for ACV. So if we exclude the deal, the renewal that got delayed, is the back half ramp still in line with your expectations from the previous quarter? Or did it get more back-end loaded absent that the impact of that renewal?

Antonio Pietri: Just slightly – slightly higher in the second half. If you were to put that deal back into Q2, it’s just a few percentage points higher at the second half, but nothing that material.

Matthew Pfau: Okay, great. And then on DGM, good to hear the commentary on that pipeline being up 500% over the past 12 months for term deals. What about in terms of implementation capacity there? I know that building out the ecosystem has been a focus. Do you feel you have enough implementation capacity to implement those deals?

Antonio Pietri: Yes. Look, I think this is something that we remain very focused on. This is the reason why we continue to progress building the implementation services partner network that – that we talked about already 12, 18 months ago. But also equally, part of that demand is new business that we’re generating in other regions of the world and we’re setting up teams in those regions as well, including developing these partnerships. So we’re confident in our ability to meet the demand, working closely and collaborating with these customers as these agreements get signed and the implementation plans get defined.

Matthew Pfau: Okay, great. Appreciate it guys.

Antonio Pietri: Yes, thank you.

Operator: And thank you. And one moment for our next question. And our next question comes from Mark Schappel from Loop Capital Markets. Your line is now open.

Antonio Pietri: Hi, Mark.

Mark Schappel: Hi. Hi, guys. Thanks for taking my question here. Antonio, I was wondering if you could just provide some additional details around that slipped [ph] renewal contract in terms of, say, industry or geography. And also, too, I mean, what’s giving you confidence that that slipped renewal will close in Q3.

Antonio Pietri: Yes. Well – so Mark, just for reasons of confidentiality and considering that our friendly competitors may always be listening, we won’t talk about the geography, what technologies or products this is about. As we said, it’s about – it’s a renewal that got delayed, it’s about $5.4 million in value. We expect that it will close in Q3. We have a very detailed sequence of events, and we are about three quarters through the sequence of event already. So we expect that transaction to close in Q3.