Source: https://www.sec.gov/news/speech/2013-spch041613laahtm
Timestamp: 2019-04-18 16:48:11+00:00

Document:
North American Securities Administrators Association, Annual NASAA/SEC 19(d) Conference, Washington, D.C.
Good morning. Thank you for inviting me to deliver the opening remarks of today’s North American Securities Administrators Association (“NASAA”) and the U.S. Securities and Exchange Commission’s (“SEC”) 19(d) Conference. Before I begin, let me issue the standard disclaimer that the views I express today are my own, and do not necessarily reflect the views of the SEC, my fellow Commissioners, or members of the staff.
This Annual Conference is an important opportunity for representatives of NASAA and the SEC to come together to discuss how best to accomplish our common goal of protecting investors. These annual conferences provide an opportunity to increase collaboration, communication, and cooperation for the benefit of investors, and to promote fair and orderly markets. I have been honored to have served as the SEC’s liaison to NASAA for the past four years. I know and appreciate NASAA’s mission of protecting main street investors and the critical role that state securities regulators play in the enforcement of the securities laws. You are often the first to receive complaints from investors and identify the latest scams devised to steal from investors.
A total of nearly 2,800 licenses were withdrawn due to state action, and 774 licenses were denied, revoked, suspended, or conditioned.
These statistics are impressive – particularly given the lack of resources faced by many state securities regulators.2 Just as the SEC has struggled without adequate resources, state regulators have had to deal with the challenges of doing more with less.
Prohibiting or limiting pre-dispute mandatory arbitration.
The removal of the ban on “general solicitation” has resulted in widespread fear that offerings mass-marketed under Rule 506 will expose investors to even greater risk of fraud and abuse.8 Yet, to my profound disappointment, when the removal of the ban was proposed by the Commission, a majority of the SEC’s Commissioners proactively excluded from discussion many of the practical and cost-effective suggestions made by investors and other regulators, including comments from NASAA, that could serve to reduce the anticipated harm to investors.
The Commission received comments, both before and after the proposal, urging that we consider various amendments, alternatives, and recommendations to better align the mass-marketing provisions with investor protection.9 Yet, in a departure from the Commission’s standard practice of allowing proposals to include a fulsome discussion of reasonable alternatives, the proposing release did not request comment on any of those recommendations and, contrary to the Commission staff’s own guidance for economic analysis, the proposing release did not consider whether including any of the recommendations would be a reasonable alternative to the approach in the proposed rule.10 In addition, some may argue that under the Administrative Procedures Act this failure may prevent the Commission from even considering any of those suggestions unless there is a re-proposal.11 In all my time at the Commission, I’ve never seen a more aggressive effort to exclude pro-investor initiatives.
Because of the decision to ignore the recommendations by investors and other regulators, I consider the Commission’s proposal to be fatally flawed. I was left with no choice but to vote “no” on the proposal. In my view, the only viable alternative is for it to be re-proposed so that we can provide for a fulsome discussion of how best to allow general solicitation under Rule 506 while, at the same time, considering the needs of investors. To me, it is clear that Congress did not expect the SEC to ignore investor protection issues. Instead of enacting a self-implementing provision to allow general solicitations, Congress gave the SEC the obligation to determine how best to do so. A re-proposal that allows for a real discussion of reasonable alternatives is the only path forward that will adequately address investor protection issues. To say that I was disappointed in the Commission’s action would be an understatement.
The adoption of a disqualification provision would provide much needed investor protection and would not be detrimental to legitimate issuers. The continuing delay only hurts investors.
In light of the SEC’s actions to shut out investors’ voices, and in unduly delaying the adoption of investor-friendly rulemaking, it is now more important than ever that defrauded investors have the ability to seek redress against those who participate in defrauding them. Unfortunately, a series of Supreme Court cases has restricted aiding and abetting liability in private actions.15 I agree with NASAA’s request that Congress amend the Securities Exchange Act of 1934 (“Exchange Act”) to allow for a private civil action against a person that provides substantial assistance in violation of the Exchange Act.16 In 2009, former Senator Arlen Specter introduced legislation that would have amended the Exchange Act so that any person who “knowingly or recklessly provides substantial assistance to another person would be subject to liability in a private action to the same extent as the person to whom such assistance is provided.”17 I join with NASAA in calling on Congress to reintroduce this legislation.
Investors also should have the unencumbered right to seek redress in all available forums. This is why I want to spend a few moments discussing pre-dispute mandatory arbitration provisions. Currently, almost all customer agreements with brokerage firms include an arbitration clause requiring customers to arbitrate their claims in an arbitration forum20 – and they’re now popping-up in the investment advisory industry.21 By adding such provisions, brokerage and advisory firms are essentially requiring their clients to give up their legal rights before the client even knows about the nature of a dispute, and before the client has had the opportunity to consider whether giving up those rights would be in their interest. The inclusion of such provisions in brokerage and advisory contracts diminishes investor protection.
Today, I do not intend to discuss the merits of whether arbitration is a better or worse system than going through the federal and state court systems, except to note that the relative merits and benefits of the arbitration processes are still the subject of debates in the industry.22 Arbitration may be a viable option after a dispute arises and both parties knowingly agree to go into arbitration. However, my main concern with pre-dispute mandatory arbitration is the denial of investor choice; investors should not have their option of choosing between arbitration and the traditional judicial process taken away from them at the very beginning of their relationship with their brokers and advisers.
In many of these cases, clients may be able to pursue claims against their advisers and brokers for fraud. However, if the clients had signed a pre-dispute mandatory arbitration agreement at the inception of the relationship, the clients’ ability to pursue claims through the judicial process is extinguished. My point is simply this: by providing investors with the ability to choose the forum in which to bring their legal claims and protect their legal rights, we enhance investor protection and add more teeth to our federal securities laws.
In passing the Dodd-Frank Act, Congress recognized the need to protect investors from abusive practices in the financial services industry.33 As many of you know, Section 921(a) of the Dodd-Frank Act authorizes the Commission to prohibit or restrict mandatory pre-dispute arbitration provision in customer agreements, if such rules are in the public interest and protect investors.34 The authority covers broker-dealers and investment advisers.35 I believe the Commission needs to be proactive in this important area. We need to support investor choice.
Before I end my remarks, I want to highlight an additional pro-investor initiative that is long overdue. As this group knows well, the Dodd-Frank Act reinforced the Commission’s need to be more focused on investor advocacy issues by mandating that the SEC establish an Office of the Investor Advocate.36 Yet, as of today, almost three years after Dodd-Frank became law, the Commission still has not created the Office of the Investor Advocate. I hope this is one of the first matters addressed by the new SEC Chairman.
The results of a recent survey reported in March 2013 show that, by an overwhelming margin, 84% of Americans want the federal government to play an active role in protecting investors.37 As my remarks have shown, the Commission’s leadership can do more to respond to the needs of investors.
The recognition that the Commission’s leadership can do a better job in addressing the needs of investors, however, does not in any way distract from the hard work and the commitment of the SEC staff to fulfill the SEC’s mission of protecting investors; maintaining fair, orderly and efficient markets; and facilitating capital formation. They are among the finest individuals I’ve had the privilege of working with every day.
In closing, I want to commend the SEC staff and NASAA members for all your efforts in enforcing the federal and state securities laws and for working to preserve the integrity of our financial markets. I think that the partnership between NASAA and the SEC has been, and can continue to be, a powerful force to protect investors.
As the SEC’s NASAA liaison, I am also aware of the benefits of cooperation between the SEC and NASAA. For example, during the past two years, approximately 2,400 investment advisers made a smooth transition to state regulation as a result of the Dodd-Frank Act,38 which expanded state authority over mid-sized investment advisers to those with up to $100 million in assets.39 This is a testament to the cooperation by the staffs of the SEC and state securities regulators.
I know that the Commission can count on NASAA’s support to work together on behalf of investors. I am honored to be working with you to protect investors. Though we may be outmanned and outgunned as state and federal securities regulators, I know that the people in this room have the resolve and commitment to fight on behalf of investors every single day.
1 See, NASAA Enforcement Report (Oct. 2012), available at http://www.nasaa.org/wp-content/uploads/2011/08/2012-Enforcement-Report-on-2011-Data1.pdf.
2 See, e.g., U.S. Gov’t Accountability Office, GAO-13-110, National Strategy Needed To Effectively Combat Elder Financial Exploitation, p. 20 (Nov. 15, 2012) (“For example, in one California county officials reported that due to budget cuts, they had lost many positions that involved educating the public about elder financial exploitation.”), available at http://www.gao.gov/assets/660/650074.pdf; Russell Grantham, Investment Fraud; Georgia braces for fraud workload, The Atlanta Journal-Constitution (May 8, 2011, at 1D) (“[Georgia] last year folded its securities division into two other departments to cut costs. And it has cut its securities supervision budget by half since 2008, to roughly $1 million.”); John Wasik, Why are states taking over SEC’s duties?, Ventura County Star(Oct. 5, 2003, at D03) (“Congress needs to restore powers and share funding and resources with the states so that they can continue to supervise financial services in an era of massive state budget cuts.”); Thomas S. Mulligan, Markets; State Securities Staff Could Face Cutbacks; Plan By Department of Corporations Would Cut Unit Combating Fraud Against Small Investors, Los Angeles Times (May 9, 2003, at Business, Part 3, Business Desk, p. 1) (Due to state budget-cutting in California, “[t]he Department of Corporations’ 13 investigators would lose their jobs; they include veterans who worked on such high-profile cases as the 1989 collapse of Charles H. Keating Jr.’s Lincoln Savings & Loan. The department's investigators typically work on lower-profile frauds, such as pyramid schemes, phony limited partnerships and other scams whose victims tend to be elderly.”).
3 Rule 506 is one of three exemptive rules for limited offerings under Regulation D. Rule 506 is by far the most widely used Regulation D exemption, accounting for an estimated 90% to 95% of all Regulation D offerings and the overwhelming majority of capital raised in transactions under Regulation D. Staff of the SEC’s Division of Risk, Strategy, and Financial Innovation estimate that, for 2009, 2010, and 2011, approximately $581 billion, $902 billion, and $909 billion, respectively, was raised in transactions claiming the Rule 506 exemption, in each case representing more than 99% of funds raised under Regulation D for the period. See, Vlad Ivanov and Scott Baugess, Capital Raising in the U.S.: The Significance of Unregistered Offerings Using the Regulation D Exemption (Feb. 2012), available at http://www.sec.gov/info/smallbus/acsec/acsec103111_analysis-reg-d-offering.pdf. Rule 506 permits sales to an unlimited number of accredited investors and up to 35 non-accredited investors, so long as there was no general solicitation, and appropriate resale limitations were imposed.
5 17 CFR 230.506. If an investor is an accredited investor then under the “certain standards” of Rule 506 there is no limit on the number of purchasers, no requirement that individuals receive any information, and no conditions or restrictions relating to the status of the issuer. In fact, the only requirement other than the prohibition on general solicitation is that the issuers take reasonable care to assure that purchasers are not underwriters. Rule 506 provides a requirement to file a Form D within 15 days after the first sale; however, this requirement is not a condition to the exemption.
7 See, SEC File No. S-7-07-12, comment letter from NASAA (Oct. 3, 2012) (The year 2011 are the latest statistics available), available at http://www.sec.gov/comments/s7-07-12/s70712-92.pdf; Year-by-Year SEC Enforcement Statistics (The SEC brought 89 and 124 enforcement actions related to securities offering fraud in 2011 and 2012, respectively), available at http://www.sec.gov/news/newsroom/images/enfstats.pdf; and Recommendations of the Investors Advisory Committee Regarding SEC Rulemaking to Lift the Ban on General Solicitation and Advertising in Rule 506 Offerings: Efficiently Balancing Investor Protection, Capital Formation and Market Integrity (In 2011, state regulators brought 200 enforcement actions related to 506 offerings, 250 actions were brought in 2010, and 175 actions in 2009), available at http://www.sec.gov/spotlight/investor-advisory-committee-2012/iac-general-solicitation-advertising-recommendations.pdf.
In fact, several state securities regulators have published statistics that highlight investor harm as a result of certain Rule 506 offerings.
In Virginia, regulators took enforcement actions in 24 offerings in 2010 and 2011, which resulted in $12 million in losses to Virginia investors. See, comment letter from the State Corporation Commission, Division of Securities and Retail Franchising of the Commonwealth of Virginia (Oct. 4, 2012), available at http://www.sec.gov/comments/s7-07-12/s70712-102.pdf.
In Montana, investors have lost more than $100 million in fraudulent Rule 506 offerings in the last four years. See, comment letter from the Commissioner of Securities and Insurance, State of Montana (Oct. 4, 2012), available at http://www.sec.gov/comments/s7-07-12/s70712-116.pdf.
In South Carolina, fraudulent Rule 506 offerings are the number one complaint received by the attorney general’s office, and those complaints have more than doubled in the last two years. See, comment letter by the Securities Commissioner of the State of South Carolina (Oct. 5, 2012), available at http://www.sec.gov/comments/s7-07-12/s70712-151.pdf.
8 See, comment letter from Fund Democracy, Consumer Federation of America, Americans for Financial Reform, AFSCME, AFL-CIO, International Brotherhood of Teamsters, U.S. PIRG, Public Citizen, Consumer Action, SAFER (The Economists’ Committee for Stable, Accountable, Fair and Efficient Financial Reform), Consumer Assistance Council, Inc., Florida Consumer Action Network, Consumer Federation of the Southeast, Dēmos, Chicago Consumer Coalition, Consumers for Auto Reliability and Safety, CA REINVESTment Coalition, Center for California Homeowner Association Law, Cumberland Countians for Peace & Justice and Network for Environmental & Economic Responsibility, Virginia Citizens Consumer Council, Lynn E. Turner (Former SEC Chief Accountant), James D. Cox (Brainerd Currie Professor of Law, Duke Law School), Joseph V. Carcello (Ernst & Young Professor, Director of Research – Corporate Governance Center, University of Tennessee), J. Robert Brown, Jr. (Chauncey Wilson Memorial Research Professor of Law, Director, Corporate and Commercial Law Program, University of Denver Sturm College of Law), Jane B. Adams (Former SEC Acting Chief Accountant), Gaylen Hansen (Audit Prtner, EKS&H) and Bevis Longstreth (Former SEC Commissioner) (Aug. 15, 2012), available at http://www.sec.gov/comments/jobs-title-ii/jobstitleii-59.pdf.
9 For example, several commenters recommended that the Commission condition the availability of the proposed exemption on the filing of Form D, in advance of any general solicitation, and suggested modestly amending Form D to require some additional information. See, SEC Release No. 33-9354 (the “Proposing Release”), note 28, available at http://www.sec.gov/rules/proposed/2012/33-9354.pdf. Other commenters suggested that the Commission’s proposal address the content and manner of advertising and solicitations used in offerings conducted under the proposed exemption. See, the Proposing Release, note 31.
11 The Commission approved the proposal by a vote of 4 to 1. Commissioner Luis Aguilar dissented from the Commission’s action stating, “I cannot support today’s proposal, because it presents a framework that is not balanced and that fails to address the acknowledged increased vulnerability of investors. In fact, there is no consideration of any of the commenters’ proposals that would have decreased investor vulnerability.” Commissioner Luis A. Aguilar, Statement at SEC Open Meeting (Aug. 29, 2012), available at https://www.sec.gov/news/speech/2012/spch082912laa.htm.
13 See, Securities and Exchange Commission Release No. 33-9211, Disqualification of Felons and Other “Bad Actors” from Rule 506 Offerings (May 25, 2011), available at http://www.sec.gov/rules/proposed/2011/33-9211.pdf.
14 See, Investor Advocates Press SEC to Finish Bad Actor Rule, Thomson Reuters, Sarah N. Lynch (Dec. 6, 2012), available at http://newsandinsight.thomsonreuters.com/Legal/News/2012/12_-_December/Investor_advocates_press_SEC_to_finish__bad_actor__rule/.
15 See, e.g., Central Bank of Denver, N.A. v. First Interstate Bank of Denver, N.A., 511 U.S. 164 (1994) (clarified that Section 10(b) of the Exchange Act and Rule 10b-5 do not create an implied private cause of action for aiding and abetting liability); Stoneridge Investment Partners, LLC v. Scientific-Atlanta, Inc., 552 U.S. 148 (2008) (reaffirmed Central Bank); Janus Capital Group, Inc. v. First Derivative Traders, 131 S. Ct. 2296 (2011) (same).
16 See, NASAA Legislative Agenda for the 113th Congress (Mar. 5, 2013), available at http://www.nasaa.org/wp-content/uploads/2011/08/NASAA-Legislative-Agenda-113th-Congress_FINAL1.pdf.
17 The legislation would have amended Section 20 of the Exchange Act. See, S. 1551 (111th): Liability for Aiding and Abetting Securities Violations of 2009 (Jun. 30, 2009), available at http://www.govtrack.us/congress/bills/111/s1551. See also, H.R. 5042 (111th): Liability for Aiding and Abetting Securities Violations of 2010 (Apr. 15, 2010), available at http://www.govtrack.us/congress/bills/111/hr5042/text.
18 Securities Litigation Reform Act, Conference Report, H.R. 104-369, 104th Cong., 1st Sess. (Nov. 28, 1995), p. 31, available at http://www.gpo.gov/fdsys/pkg/CRPT-104hrpt369/pdf/CRPT-104hrpt369.pdf.
19 Although the SEC recovered $140 million for investors defrauded by Enron, investors recovered more than $7 billion in private suits. See, Thomas C. Pearson, Enron’s Banks Escape Liability (2010), available at http://www.bus.lsu.edu/accounting/faculty/lcrumbley/jfia/Articles/FullText/2010v2n1a5.pdf.
20 According to the U.S. Supreme Court, customers who sign pre-dispute arbitration agreements with their brokers may be compelled to arbitrate claims arising under the Exchange Act, and these agreements are binding with respect to investors’ claims under the Securities Act of 1933 and state laws. See, Shearson/American Express, Inc. v. McMahon, 482 U.S. 222 (1987); Rodriquez de Quijas v. Shearson/American Express, 490 U.S. 477 (1989); Dean Witter Reynolds, Inc. v. Byrd, 470 U.S. 213 (1985). “The standard arbitration agreement covers all disputes arising under federal law, state law, and [Self-Regulatory Organization] rules.” See, U.S. Securities and Exchange Commission, Study on Investment Advisers and Broker-Dealers, p. 80 n. 378 (Jan. 2011), available at http://www.sec.gov/news/studies/2011/913studyfinal.pdf. Most arbitrations in the securities industry are conducted through the Financial Industry Regulatory Authority (or “FINRA”), which is the largest dispute resolution forum in the securities industry. See, FINRA, Arbitration and Mediation, available at http://www.finra.org/ArbitrationAndMediation/.
22 See, e.g., Jill I. Gross & Barbara Black, When Perceptions Changes Reality: An Empirical Study of Investors’ Views of the Fairness of Securities Arbitration, 2008 J. Disp. Resol. 349, 400 (2008) (“We then present our findings, including our primary conclusions that (1) investors have a far more negative perception of securities arbitration than all other participants, (2) investors have a strong negative perception of the bias of arbitrators, and (3) investors lack knowledge of the securities arbitration process… Simply put, even if the system meets objective standards of fairness, a mandatory system that is not perceived as doing so cannot maintain the confidence of its users and, in the long run, may not be sustainable. As a result, customers' negative perceptions are changing the realities of the current system of securities arbitration and require a re-thinking by policy-makers.”); Jennifer J. Johnson & Edward Brunet, Arbitration of Shareholder Claims: Why Change is Not Always a Measure of Progress, Lewis & Clark Law School Legal Studies Research Paper No. 2008-11, p. 5 (“We find numerous problems with arbitration of shareholder claims and conclude that arbitration is not an attractive alternative to litigation), available at http://SSRN.com/abstract=1112826; Comment letter from Richard M. Layne to the SEC (Aug. 25, 2010) (providing reasons why arbitrations may be unfair and favors the brokerage industry), available at http://www.sec.gov/comments/df-title-ix/pre-dispute-arbitration/predisputearbitration-9.pdf; Comment letter from Melinda Steuer to the SEC (Aug. 18, 2010) (same), available at http://www.sec.gov/comments/df-title-ix/pre-dispute-arbitration/predisputearbitration-5.htm.
23 For advisory clients, this is an indispensable right, especially in light of the U.S. Supreme Court case stating that advisory clients generally do not have a private right of action for monetary relief against their investment adviser under the Investment Advisers Act of 1940 (“Advisers Act”). See, Transamerica Mortgage Advisors, Inc. et al. v. Lewis, 444 U.S. 11, 24 (1979). Advisory clients may have limited private rights of action to void an investment adviser’s contract and obtain restitution of the fees paid to the adviser. See, Section 215 of the Advisers Act; id. at 24, n. 14. An advisory client, however, may file private claims for fraud against an investment adviser under the Exchange Act. See, e.g., Zweig v. Hearst Corp., 594 F.2d 1261 (9th Cir. 1970); Laird v. Integrated Resources, Inc., 897 F.2d 826 (5th Cir. 1990); Carl v. Galuska, 785 F. Supp. 1283 (N.D.Ill. 1992); and Levine v. Futransky, 636 F. Supp. 899 (N.D.Ill. 1986).
24 U.S. Securities and Exchange Commission, Fiscal Year 2012 Agency Financial Report, Management’s Discussion and Analysis, p. 16 (FY 2012), available at http://www.sec.gov/about/secpar/secafr2012.pdf#2012review.
25 Id.; U.S. Securities and Exchange Commission, Select SEC and Market Data 2012, p. 3 (Fiscal 2012), available at http://www.sec.gov/about/secstats2012.pdf.
26 U.S. Securities and Exchange Commission, Select SEC and Market Data 2012, pp. 3, 11-14 (Fiscal 2012), available at http://www.sec.gov/about/secstats2012.pdf.
30 Letter from Rep. Barney Frank, Chairman of the House Committee on Financial Services, to SEC Chairman Christopher Cox, dated April 25, 2007 (showing great concerns that “the Commission and its staff may begin permitting public companies to impose mandatory arbitration requirements on their shareholders through the registration process.”), available at http://democrats.financialservices.house.gov/press110/press2042507.shtml. Similarly, in May 2007, Senators Patrick Leahy and Russell Feingold sent a letter to the SEC Chairman to share their concerns about mandatory arbitration clauses, stating, “[t]he SEC’s mission is, first and foremost, to protect investors, and simply relying on investors’ ability to exercise informed choice when no choice is actually offered is clearly insufficient.” Letter from Sen. Patrick Leahy, Chairman of the Senate Committee on the Judiciary, and Sen. Russell D. Feingold, to SEC Chairman Christopher Cox (May 4, 2007), available at http://www.judiciary.senate.gov/resources/documents/upload/05-04-07-Leahy-Feingold-to-Cox.pdf.
31 Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 (“Dodd-Frank Act”), Pub. L. No. 111-203, 124 Stat. 1376 (2010), available at http://www.gpo.gov/fdsys/pkg/PLAW-111publ203/pdf/PLAW-111publ203.pdf.
32 Report of the Senate Committee on Banking, Housing, and Urban Affairs on S. 3217, S.Rep. No. 111-176, at 110 (“There have been concerns over the past several years that mandatory pre-dispute arbitration is unfair to the investors.”), available at http://www.banking.senate.gov/public/_files/Comittee_Report_S_Rept_111_176.pdf.
33 See, supra Note 33.
The Dodd-Frank Act also required the Commission to conduct a study to evaluate, among other things, the legal and regulatory standards of care and any shortcomings in the standards in the protection of investment advisory clients. See, Section 913 of Title IX of the Dodd-Frank Act. The staff completed this study more than two years ago. See, U.S. Securities and Exchange Commission, Study on Investment Advisers and Broker-Dealers, p. i (Jan. 2011), available at http://www.sec.gov/news/studies/2011/913studyfinal.pdf. That study covered pre-dispute mandatory arbitration agreements in many respects, but the staff did not offer any recommendations. See, id., at pp. 43-46, 80-83, 133-135.
35 See, Dodd-Frank Act, § 921.
36 See, Dodd-Frank Act, § 915.
37 See, The Financial Planning Coalition Survey (Mar. 8, 2013), available at http://www.financialplanningcoalition.com/docs/assets/59D91618-0B2F-4937-04E99C3E324A05E9/FinancialPlanningCoalitionMarch2013SurveyOmnibusToplineResults.pdf.
38 Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), Pub. L. 111-203, § 410 (2010).
39 See, Dodd-Frank Act, § 410, and Give States Oversight and Examination Authority Over RIAs Managing $1 Billion Or Less To Solve The RIA Regulatory Authority Mess” (Feb. 26, 2013) (quoting NASAA Spokesman Bob Webster).

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