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You need to tell Calibre what the encoding of your file is. It's input character encoding under "Look and Feel" in the conversion options. CP1252 seems to be a popular encoding.
If you can't figure out the encoding open the file in a text editor so that it looks correct and then re-save it encoded as UTF-8.
You need single line paragraphs if every line is a paragraph. The default is to assume that text files have hard line breaks with spaces between paragraphs.
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