Credit Ratings Regulation - Comment Letters

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Gavel.png FINAL RULES: This page refers to the proposed rules on credit ratings. The SEC final rule on security ratings was issued at its July 26, 2011 open meeting. The remaining rules have yet to be finalized. The CFTC Final Rule: Removing Reliance on Credit Ratings was approved at CFTC Open Meeting, July 19, 2011.
Timeline, References to Credit Ratings in Money Market Fund Rules, SEC
Proposal Date Re-proposed Rule Comment Deadline
March 9, 2011 July 24, 2014 60 Days After Federal Register
Dodd-Frank Timeline, Removal of Certain References to Credit Ratings Under the Securities Exchange Act
Comment Deadline Final Rule Issue Effective Date
March 28, 2011 August 3, 2011 September 2, 2011
Dodd-Frank Timeline, Removal of Credit Ratings References Under Securities Exchange Act of 1934, SEC
Proposal Date Comment Deadline Final Rule Issue
May 6, 2011 July 5, 2011 December 27, 2013
Dodd-Frank Timeline, NRSROs, SEC
Proposal Date Final Rule Issue Effective Date
June 8, 2011 September 15, 2014 November 14, 2014

Comment letters concerning references to security credit ratings in certain rules and forms.

References to Credit Ratings in Certain Investment Company Act Rules and Forms[edit]

Fidelity - April 28, 2011[edit]

References to Credit Ratings in Certain Investment Company Act Rules and Forms
April 28, 2011

From the comment letter:

  • "Fidelity is concerned that the credit-worthiness standard proposed by the Commission in the Release to replace the objective standard of credit ratings in Rule 2a-74 would add a significant degree of subjectivity to the tier designation of securities."
  • "Fidelity believes that the first and second tier categories as proposed in the Release are vague and introduce risk with the possibility for different interpretations."

Fidelity does not necessarily advise that the SEC do away with the tier system, but rather provide greater distinction between the two tiers using clarified definitions within the Statement of Additional Information (SAI) and a two-part test to determine under which tier a security would fall. This suggestion also includes a monthly disclosure by funds as to their designated tier.

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Charles Schwab - April 25, 2011[edit]

References to Credit Ratings in Certain Investment Company Act Rules and Forms
April 25, 2011

From the comment letter:

  • "We do not believe that the proposed approach achieves the goal of retaining a degree of risk limitation on money market funds similar to the current rule;
  • We believe removal of references to credit ratings from Rule 2a-7 results in a single test for determining what constitutes an Eligible Security and that the Commission should expand the definition of Eligible Security to reflect core factors that should be considered in making a determination of minimal credit risk;
  • If the Commission removes the references to credit ratings from Rule 2a-7, we believe that the Commission should also remove the references to First Tier and Second Tier Securities in the rule;
  • If the Commission decides to retain the concept of First Tier and Second Tier Securities, the language used to describe what constitutes a First Tier or Second Tier Security in the Proposed Amendments should be consistent and not subject to unreasonably narrow interpretations;
  • If the Commission decides to retain the concept of First Tier and Second Tier Securities, the proposed criteria for triggering a reassessment of minimal credit risk in the event a security is no longer a First Tier Security or Second Tier Security is vague;
  • We request that the Commission clarify that money market funds may still purchase long-term securities with remaining maturities that are in the range for money market fund eligibility; and
  • We request that the Commission provide more guidance with respect to the transition period from the current rule to the new rule."
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Wells Fargo - April 25, 2011[edit]

References to Credit Ratings in Certain Investment Company Act Rules and Forms
April 25, 2011

From the comment letter:

  • "The proposal will increase investor confusion and as a result may strengthen the influence of the ratings agencies; and
  • The proposal may increase systemic risk."

Wells Fargo expresses its overall disagreement with the proposal to remove references to credit ratings from Rule 2a-7. The letter states that NRSRO ratings are an "objective and necessary" factor for determining a security's eligibility to be included in a money market fund. Also, the standard of creditworthiness proposed by the rule, and acting as a sole determining factor for eligibility, would make it more difficult for investors to decide which funds sufficiently meet their investment needs. By eliminating the additional check that NRSRO ratings provide, systemic risk may increase.

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BlackRock - April 25, 2011[edit]

References to Credit Ratings in Certain Investment Company Act Rules and Forms
April 25, 2011

From the comment letter:

  • "Rule 2a-7 should continue to permit money fund Boards or their delegates to consider NRSRO ratings along with other factors as a minimum credit quality standard for Eligible and First Tier Securities; and
  • Section 939A of the Dodd-Frank Act does not apply to the forms listed as they are disclosure forms rather than an assessment of creditworthiness."

BlackRock argues against the removal of NRSRO ratings as a determining factor for including a particular security in a money market fund, but concurs that NRSRO ratings should not be the sole determining factor. By eliminating this test of eligibility, BlackRock believes that the SEC chances some securities being admitted to funds without meeting a minimum threshold. The firm also sets forth comments regarding the language in Section 939A and a test of creditworthiness.

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Vanguard - April 26, 2011[edit]

References to Credit Ratings in Certain Investment Company Act Rules and Forms
April 26, 2011

A summary of the comment letter:

  • "The proposed amendments fail to establish a uniform standard of credit-worthiness;
  • The Commission should adopt a consolidated standard for eligibility; and
  • Funds should be permitted to disclose the credit ratings of their choosing in shareholder reports."

Vanguard believes that the standard of credit-worthiness included in the proposed rules miss the goal set by Congress. One alternative suggested in the letter is as follows:

"Vanguard proposes that the Commission combine the “eligible securities” standard with the “first tier” standard, to create one high credit quality standard for all money market securities. Under our proposed standard, only those securities issued by an entity with the “highest capacity” to meet its short-term financial obligations, which also present minimal credit risk, would be eligible for purchase."

Vanguard also argues that securities should be allowed to include the rating provided by a nationally recognized statistical rating organization (NRSRO) in shareholder reports to determine tier eligibility.

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SIFMA - April 18, 2011[edit]

References to Credit Ratings in Certain Investment Company Act Rules and Forms
April 18, 2011

The Asset Management Group (AMG) of SIFMA sets forth the following comments in the letter:

  • "Section 939A of the Dodd-Frank Act is not intended to require elimination of references to ratings in Rule 2a-7;
  • References to credit ratings in Rule 2a-7 benefit money market fund shareholders and should be retained;
  • Section 939A of the Dodd-Frank Act does not apply to Form N-MFP, which is a disclosure form, rather than a quality assessment requirement; and
  • If the Commission concludes that Section 939A requires removal of ratings from Rule 2a-7, we support efforts to urge Congress to amend Section 939A so that it will direct regulators to require that ratings-based determinations be accompanied by additional credit risk analysis, rather than requiring removal of references to ratings."

SIFMA believes that the removal of references to credit ratings in Rule 2a-7 and in Form N-MFP would impose additional risks on the investment decisions of money market fund shareholders and operators and that the costs of such an amendment would outweigh the benefits.

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Investment Company Institute - April 25, 2011[edit]

References to Credit Ratings in Certain Investment Company Act Rules and Forms
April 25, 2011

The Investment Company Institute suggests the following definition for "eligible security": "A security with a remaining maturity of 397 days or less that the fund’s board of directors determines presents minimal credit risks and the issuer of which the fund’s board of directors determines has a strong capacity to meet its short-term obligations."

Further, it is recommended that:

  • the proposed rule disallow money markets' acquisition of securities that have not received NRSRO ratings "at least two full ratings categories higher than the lowest rating at which the demand feature would remain exercisable;"
  • the credit risk assessment provision be eliminated and be replaced with a requirement that portfolio securities be regularly monitored for credit risks; and
  • the SEC's current stress testing provision be maintained without the addition of a creditworthiness assessment.

Opinions concerning Rule 5b-3, Form N-MFP, shareholder reports, and the use of credit ratings by directors and in procedures are also explained in the letter.

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The Clearing House Association - October 12, 2010[edit]

References to Credit Ratings in Certain Investment Company Act Rules and Forms
October 12, 2010

From the comment letter:

  • "Rating-agency references remain a useful tool in developing accurate credit-risk judgment, especially upon implementation of Dodd-Frank reforms to rating-agency methodology;
  • U.S. rules should not put U.S. institutions at undue competitive disadvantage or place the U.S. at additional credit and liquidity risk; and
  • The Clearing House looks forward to working with regulators to develop credit-rating agency (CRA) alternatives."

The Clearing House's proposed alternatives, as mentioned in the last sub-heading, are:

  1. Credit-risk-related spreads, typically used to review trading-book assets, could be used as a CRA alternative for credit-default swaps, providing the flexibility needed for changing market conditions.
  2. Independent risk assessments could be used as an alternative as long as sufficient controls and supervisory functions were in place to monitor risk and maintain transparency.
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Americans for Financial Reform - April 25, 2011[edit]

References to Credit Ratings in Certain Investment Company Act Rules and Forms
April 25, 2011

A summary of the comment letter:

  • "Overreliance on unreliable ratings was a central contributor to the financial crisis;
  • Eliminating ratings references without providing sufficient guidance on objective standards of credit worthiness is risky and does not accomplish statutory goals; and
  • The Commission and other regulators should devote more effort to developing objective guidance for credit risk assessment."

Americans for Financial Reform claims that the proposed rule is not a piece of the financial reform puzzle in terms of improving ratings quality, that in fact, it makes uncertain the chances of market participants relying on credit ratings. The group also suggests that the SEC assemble a panel of experts from academic and financial fields to better develop guidelines concerning money market funds.

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Security Ratings[edit]

SIFMA - March 18, 2011[edit]

Security Ratings
March 18, 2011

The Capital Markets Committee of the Securities Industry and Financial Markets Association (SIFMA) suggests in the letter that the proposed rules may exclude otherwise eligible market participants from registering under Form S-3 or Form F-3 at all, and would thus reduce the availability of crucial securities-related information. To defend its argument, SIFMA refers to similar proposals introduced by the SEC in 2008.

Further comments fall under the following categories:

  • "Form S-3 and F-3 eligibility tests based on the amount of non-convertible securities issued within a three-year period;
  • Form S-3 and F-3 eligibility test based on status as a subsidiary of a Form S-3 or F-3 eligible company;
  • grandfathering of currently eligible issuers;
  • other potential eligibility criteria mentioned in the proposing release;
  • risk that the proposed Form S-3 and F-3 eligibility tests will be over-inclusive;
  • proposed changes to Rule 134(a)(17) [maintaining references to credit ratings in this rule]; and
  • proposed changes to Rules 138 and 139 [maintaining references to investment grade credit ratings in these rules]."
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Financial Services Roundtable - March 28, 2011[edit]

Security Ratings
March 28, 2011

A summary of the comment letter:

  • "The Commission should preserve the eligibility of those entities that are currently eligible to use Form S-3 or Form F-3;
  • The Commission either should retain the reference to security ratings disclosure in Rule 134(a)(17), or provide interpretive guidance that disclosure of these ratings is permissible; and
  • The costs and burdens imposed on issuers arising out of the revised eligibility standards for Forms S-3 and F-3 outweigh any potential benefit to investors."

Suggested alternatives are as follows:

  • "The Roundtable recommends that the Commission 'grandfather' during the transition period all existing users of Form S-3 or Form F-3;
  • The Roundtable recommends that the Commission consider compliance with regulatory requirements as an alternative indicator of creditworthiness; and
  • The Roundtable further recommends that the Commission adopt an eligibility requirement based on an issuer's Exchange Act reporting history and compliance with the conditions in General Instruction I.A. of Form S-3."

The Roundtable's general concerns lie with the SEC's revision of eligibility requirements as wells as the removal of the safe harbor provision. The letter states that these actions would result in significant costs and burdens for some market participants and that the Roundtable's suggested alternatives would better correlate with goals set by Congress and by Dodd-Frank.

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Clearing House Association - October 12, 2010[edit]

Security Ratings
October 12, 2010

According to the letter, The Clearing House believes that:

  • "third-party analytics, including ratings assigned by CRAs, are helpful differentiators of relative risk and remain a useful tool in developing accurate credit-risk judgments;
  • prohibiting the use of third-party analytics by banks in assessing credit-risk could result in a set of unmanageable alternatives for banks and regulators, putting U.S. institutions at a competitive disadvantage, severely impairing the sensitivity of risk-based capital, and limiting liquidity; and
  • while it may be possible to develop alternatives to sole reliance on ratings, any alternative requires careful scrutiny to ensure that it can be verified by regulators used by all banking organizations (including those without a sophisticated modeling capacity), and reflected in U.S. implementation of global prudential and regulatory standards."

In the letter, comments drive at an overall point that if the proposed rule is enforced, market participants' cost to access the system would significantly increase and smaller firms and banks would have difficulty participating in certain markets they previously accessed with a degree of ease.

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Exelon - March 28, 2011[edit]

Security Ratings
March 28, 2011

Exelon is the holding company of Exelon Generation Company LLC (Generation), Commonwealth Edison Company (ComEd), and PECO Energy Company (PECO).

From the comment letter:

"We believe that the proposed $1 billion/3-year issuance test is, by itself, not an appropriate alternative standard for Form S-3 eligibility, because it would result in the loss of Form S-3 eligibility by a number of issuers of debt securities that are in fact well known and widely followed in the marketplace. We urge the Commission to adopt additional criteria to permit a company that has $1 billion in assets or $1 billion in outstanding debt securities and substantially all of whose equity is owned, directly or indirectly, by a parent that is a well-known seasoned issuer (WKSI) to use Form S-3. We believe that debt issuers meeting these alternate criteria would also be widely followed in the market and should be eligible to use Form S-3."

Exelon suggests that this multiple-test approach to making Form S-3 accessible to all companies that rely on investment grade securities to conduct business.

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American Gas Association - March 28, 2011[edit]

Security Ratings
March 28, 2011

The American Gas Association (AGA) writes the comment letter on behalf of its 199 represented local energy companies.

From the comment letter:

"The proposed change to Form S-3 clearly will increase the burden on capital-raising by many utility subsidiaries and reduce consumer choice. The AGA is unaware of any claims of abuse rising out of the use of Form S-3 by utility subsidiaries for the registration of investment grade debt that would justify additional onerous requirements. In fact, because these registration statements are subject to review by the Commission staff, they are subject to greater potential scrutiny than the private placement alternative for issuing debt.

If the Commission determines that is is necessary to change the eligibility requirements for Form S-3 to conform to the Dodd-Frank legislation, we believe that the proposed historical $1 billion issuance test is not the appropriate sole standard for determining Form S-3 eligibility and that any change in the eligibility requirements should not adversely impact the ability of companies, specifically utilities already under substantial regulation, to efficiently access the public markets by issuing traditional corporate debt securities."

Exelon proposes that an exemption be created for utility operating subsidiaries regulated at the state or federal level.

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Boeing - March 25, 2011[edit]

Security Ratings
March 25, 2011

Boeing Capital Corporation (BCC) offers the following summary of comments:

  • "BCC believes that the proposal should be revised to make Form S-3 also available to a majority owned subsidiary of a well-known seasoned issuer (WKSI) if the subsidiary has at least $1 billion in assets or $1 billion in public debt securities outstanding. Each of these criteria is a convincing index of a widely followed issuer; and
  • The parent guarantee eligibility provisions are not an appropriate alternative for WKSI subsidiaries that would not qualify under the proposal."

BCC states that the $1 billion test threshold is not an appropriate replacement for the current rule that allows companies with less than $75 million in common equity held by non-affiliates to register the sale of non-convertible investment grade debt securities. This alternative, according to the letter, will exclude some "widely followed issuers of public debt" and would put at risk the any effective cost and flexibility structures that exist in this regard.

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Removal of Credit Ratings References Under Securities Exchange Act of 1934[edit]

SIFMA - July 5, 2011[edit]

Removal of Credit Ratings References Under Securities Exchange Act of 1934
July 5, 2011

From the comment letter:

"We believe the Release contains a number of ideas that are helpful and practical in light of the rule changes the Commission is making to comply with Section 939A. We urge the Commission to consider our specific proposals above for refining the Commission‘s proposed approach to the Net Capital Rule haircuts and the Regulation M Exemptions. We believe these suggestions would significantly decrease the extent to which implementation of the Commission‘s mandate under Section 939A would disrupt the market and result in added costs, delay and uncertainty for market participants."

Specifically, SIFMA breaks down its opinions regarding the removal of references to credit ratings in Rule 101 and Rule 102 of Regulation M (market manipulation) and regarding the removal of references to credit ratings in the Broker-Dealer Net Capital Rule. SIFMA suggests that the SEC, through the amendments to the rule, address the fact that a broker-dealer could "reasonably design policies and procedures for determining the credit risk associated with a position in a security that are adapted not only to characteristics of the security itself (as implied by the commentary in the Release) but also to the size of the position and the purpose for which the position is acquired or held by the broker-dealer."

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Better Markets - July 5, 2011[edit]

Removal of Credit Ratings References Under Securities Exchange Act of 1934
July 5, 2011

According to the comment letter:

  • "the proposed rules must (1) establish mandatory factors for the credit analysis of commercial paper, nonconvertible debt, and preferred stock; (2) fully eliminate continued reliance on credit ratings in that analysis; and (3) require documentation of each credit-worthiness determination;
  • the proposed rules must not only delete references to credit ratings with respect to the credit analysis of options on major market foreign currencies, but must also establish an alternative standard of credit-worthiness;
  • the proposed rules must establish a new, uniform, and transparent standard to replace reliance on credit ratings in the calculation of counterparty credit risk;
  • the proposed rules must provide an alternative to reliance on credit ratings in the exceptions for investment grade nonconvertible and asset-backed securities under Regulation M, and must also provide more detailed guidance for applying the new liquidity standards;
  • the proposed rules must require that customer confirmations provide investors with useful information about credit risk, in place of references to credit ratings; and
  • the definitions of 'mortgage related security' and 'small business related security' must incorporate clear credit-worthiness standards in place of references to credit ratings."
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Proposed Rules for Nationally Recognized Statistical Rating Organizations[edit]

Standard & Poor’s - August 8, 2011[edit]

Proposed Rules for Nationally Recognized Statistical Rating Organizations
August 8, 2011

From the comment letter:

"While many of the Commission’s proposals in the Release will advance the legislative and regulatory goals, we do have concerns with a number of the Commission’s proposals. These concerns fall into four major areas—analytical independence, usefulness to the public, effect on competition and international consistency."

"A cornerstone of our and other NRSROs’ business has always been the importance of analytical independence...We are concerned that some of the proposed rules have the potential to regulate the substance of credit ratings and compromise analytical independence."

"Ratings Services is concerned that aspects of the proposed rules seek to impose requirements that we believe misconstrue the nature of credit ratings and, ultimately, are not in the best interest of investors and other market participants."

"Requirements that seek to standardize analysis, disclosure or other aspects of the credit rating process could lead to the production of less meaningful ratings. Paradoxically, with more homogenous credit ratings from various credit rating agencies, users might place undue reliance on them. This effect would be at odds with another key goal of the Dodd-Frank Act and recent Commission rulemaking – to reduce reliance on credit ratings."

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William J. Harrington - August 8, 2011[edit]

Proposed Rules for Nationally Recognized Statistical Rating Organizations
August 8, 2011

The letter was written by William Harrington, a derivatives analyst for Moody's Investors Service from 1999-2010. It offers an inside view of the company's processes and culture, which include conflicts of interest between ratings issuance and compensation from industry firms.

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Morningstar - August 8, 2011[edit]

Proposed Rules for Nationally Recognized Statistical Rating Organizations
August 8, 2011

From the comment letter:

"As references to credit ratings have been removed from the federal securities laws, and if additional regulatory burdens are set at a level too burdensome or costly, it is possible certain smaller NRSROs3 will deregister and competitors will be discouraged from obtaining the NRSRO designation. We believe that the rules or guidance issued should balance the need for greater regulation in the industry with the simultaneous need to create more competition in the credit rating industry."

Morningstar specifically expresses concerns with, among other things, internal controls, the look-back review, fines, and the proposed disclosure of information about the performance of credit ratings.

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Fannie Mae - August 8, 2011[edit]

Proposed Rules for Nationally Recognized Statistical Rating Organizations
August 8, 2011

From the comment letter:

  • "The current proposal appropriately excludes Fannie Mae securities from its requirements;
  • The current proposal not applying this regulation to unrated asset-backed securities will allow lenders to continue to rely on forward commitments to offer interest rate locks to borrowers; and
  • The current proposal will help small- and medium-sized lenders to participate in the residential mortgage industry."
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Investment Company Institute - August 8, 2011[edit]

Proposed Rules for Nationally Recognized Statistical Rating Organizations
August 8, 2011

The Investment Company Institute (ICI) generally supports the proposed rule, stating in the comment letter:

"The Commission’s current proposal — shaped in large part by specific requirements in the Dodd-Frank Act — appears designed to promote goals we strongly support, including enhancing disclosure and transparency, addressing potential conflicts of interest, and increasing the accountability of an NRSRO for its credit ratings. It is important that they do so without unintentionally regulating the substance of credit ratings or otherwise creating undue burdens for NRSROs that could lead firms to exit (or not enter) the business, which would result in fewer NRSROs, less competition, and less pressure to ensure the quality of ratings."

Specific suggestions for improvement include:

  • Giving companies a shorter time period to disclose ratings histories; and
  • Excluding municipal securities from the proposed asset-backed securities disclosure requirements in the proposal, as this could become confusing for investors and issuers as to what rules should be followed for certain classes of securities.
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Credit Ratings Regulation - Comment Letter - Financial Services Roundtable - August 8, 2011[edit]

Proposed Rules for Nationally Recognized Statistical Rating Organizations
August 8, 2011

From the comment letter:

  • "The Commission should suspend or revoke a credit rating agency's status as a nationally recognized statistical rating organization only upon a showing that suspension or revocation is necessary to protect investors;
  • A credit rating agency should investigate fully any potential conflict of interest relating to its hiring of an analyst before taking any action (e.g. a credit watch) affecting a credit rating;
  • The Commission should clarify the manner in which changes in methodology should be applied to outstanding ratings;
  • A credit rating agency should not apply changes in methodologies to then-current ratings without a change in the performance of those securities;
  • Proposed new paragraph (a) of rule 17g-7 should not apply to credit rating agency confirmations;
  • We ask the Commission to clarify that the requirement for a 'description of the data' relied upon requires only a description of the general type of data and not disclosure of specific data;
  • We ask that the Commission further revise proposed rule 15Ga-2 to reduce the potential that the timing of a credit rating agency's 'rule 17g-7(a)(1) report' may create an impediment to prompt market access for many issuers; and
  • The Roundtable asks the Commission to exclude 'agreed-upon procedure' engagements from any rules applicable to third-party due diligence procedures."

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