For lenders and the arrangers of ESG loans, the activity in the U.S. has been very much client driven. Now, impetus is starting to build for sustainable lending as countries around the world redouble their efforts to address climate change and build sustainable economies that work for everyone in the wake of COVID-19. WebESG investing has become increasingly popular, but some investors are pushing back against it. The Net-Zero Banking Alliance goes further, adding the environmental and social aspects of ESG in a sweeping demonstration of commitment by banks that represent over 40% of the world's banking assets. Visit our Subscription and Preference Center. A central element of the EUs green deal, they aim to strengthen ESG financing by injecting more discipline into the ESG market. These messages are finding their way to the board rooms and executives suites of financial services institutions worldwide and are already helping to shape the way financial institutions are approaching ESG. Green finance remains in its infancy. A recent European Corporate Governance Institute paper compared the ESG scores of companies invested in by 684 U.S. institutional investors that signed the United Nations Principles of Responsible Investment (PRI) and 6,481 institutional investors that did not sign the PRI during 20132017. This increased prevalence is not solely driven by regulators but by the wider recognition that a focus on ESG can be fundamental to term long term success and survival of a business and can have a positive impact on the engagement and wellbeing of its employees. Ultimately, its a question of sustainability. In both approaches, there may be pricing incentives within the loan agreement if the company achieves the commitments it has made. In 2017, Donald Trump announced that the US participation in the 2015 Paris Agreement on climate change mitigation is suspended. To support our conclusions, we have incorporated real-life examples to show the effectiveness of each approach. How will the lines of business be impacted? ESG impacts the entire lending process and value chain. This, in turn, could help them to outperform the sustainability laggards as investors, regulators and customers scrutinize their ESG behavior and credentials more closely in years to come. Environmental, Social, And Governance: How Sustainability-Linked Debt Has Become A New Asset Class, S&P Global Ratings, 2021. This incentivisation will most commonly take the form of a reduction in the interest rate margin payable by the borrower. This means the behavior of the signatories analyzed in this paper was not positively influenced from committing to these investment principles, while they did enjoy financial benefits from signing. Welcome back to our brief thoughts on ESG. A strong ESG proposition correlates with higher equity returns, from both a tilt and momentum perspective, according to a report by McKinsey. ESG Products/Disclosure: The increasing importance of ESG information to capital markets investors provides HUD with the ability to leverage information about the Are there clear, measurable key performance indicators we can use to track its journey? Better performance in ESG also corresponds with a reduction in downside risk, due to lower loan and credit default swap spreads and higher credit ratings, the report added Part of the explanation may simply be that an express focus on ESG is redundant: in competitive labor markets and product markets, corporate managers trying to However, ESG is more than a cost it is now a way to. To discuss any points raised in this article and how you can seize the ESG financing opportunity please contact Marc Finer. And they arent homogeneous either (so rating interpretation is very important for investors who want to integrate ESG factors into their investment process). TAX CREDIT & ESG INVESTING OPTIONS The inherently subjective nature can make ESG factors hard to quantify. Banks and Fossil Fuel Financing, BankTrack, 2021. Sustainability-linked loans or revolving credit facilities give borrowers discounted interest rates for achieving ESG goals or benchmarks. The following are the key components of ESG criteria: The ESG framework has implications for companies in different sectors. Pasar al contenido principal LinkedIn. ESG is becoming increasingly important for several reasons. Conflicts in CLOs: Non-Existence is No Excuse! To make this even more complex, companies are just now starting to get used to reporting sustainability key performance indicators. How have investors fared? What kinds of reports will be useful for executives and decision makers? In mid-May the SECs Investor Advisory Committees recommended that the SEC establishes ESG disclosure requirements more broadly. Many variables are involved and approaches differ between organisation and even between teams. 2. For unlisted companies and those not rated by independent agencies, banks can gather ESG information during interviews or via online questionnaires. First, are ESG branded investors truly committed to ESG? There is a large divide between the believers and the skeptics of environment, social, and governance (ESG) investing. How will we track investments in ESG and ESG-based initiatives? In 2021, investors and regulators continued to focus on the scope and quality of public company disclosure of environmental, social and governance (ESG) information. WebThe EU Action Plan for Sustainable Finance has kept the European investment market busy over the past year. The framework and standardisation around environmentally-focused ESG products like green bonds also tends to be more clearly defined, making it easier to monitor and verify compliance. ", 1. Consistent, transparent reporting gains and builds customer loyalty. Second, companies prioritizing ESG practices are more likely to generate positive long-term returns and avoid environmental, social, and governance risks. A green loan is similar to a green bond in that it raises capital for green eligible projects. Home / News & Resources / News / What is ESG-Linked Lending and Why Do We Care? There is a large divide between the believers and the skeptics of environment, social, and According to BankTrack, Also consider the recent resolution by the European Banking Authority. The EU sustainable finance disclosure regulations, for example, introduced in March this year, require fund groups to provide information about the ESG risks in their portfolios for the first time. The pros and cons of ESG investing. Or blue bonds, to protect coral reefs. These loans are seen as a unique way for borrowers to communicate their commitment to sustainability. If the targets are met, the borrower receives a small discount on its loan pricing, and if not met, there is often a premium added. The idea behind this is that as disclosure is normalized, data will become more standardized, and ratings will also become more consistent. More customers are changing loyalties and choosing to do business with organizations whose strategies and policies address environmental and social responsibility. Combined with other regulations like know your customer (KYC), these capabilities are helping to address challenges that range from shutting down terrorist funding to eliminating human trafficking. Green mortgages offer houseowners a discount on the mortgage rate if the house meets specific energy standards. Not really. To date, nearly all ESG loans have been revolving facilities to investment grade borrowers, however, there is a difference in how these loans are priced in U.S. and Europe. Whether you spend on solar panels or oil drills does not change your creditworthiness, at least not in the short-term. That, in essence, is the insight behind green bonds. Additionally, they should engage with stakeholders to address social and environmental challenges. Christof leads Sustainability for Banking. It is not a small alternative: since the creation of the United Nations-sponsored Principles for Responsible Investment in 2006, the number of global financial institutions who are signatories has grown twenty-fold, to over 2,000. With supply chain ESG, these pillars reside deep within global production networks a place where conventional management tools provide little to no visibility. Well, there are pros and cons, and there is evolution. Bonds, loans, non Sustainability-linked supply chain finance gives suppliers preferential rates if they meet sustainability-linked metrics. Even more significantly, 76% of consumers reportedthey would discontinue relationships with organizations that treated employees, communities, or the environment poorly. How can banks prepare their data platforms for sustainable lending? For more detail about the structure of the KPMG global organisation please visit https://kpmg.com/governance. Considering an investment opportunity? ESG Products/Disclosure: The increasing importance of ESG information to capital markets investors provides HUD with the ability to leverage information about the With 189 member countries, staff from more than 170 countries, and offices in over 130 locations, the World Bank Group is a unique global partnership: five institutions working for sustainable solutions that reduce poverty and build shared prosperity in developing countries. Today, it is one of the first topics of conversation in most financing discussions with a wide range of lenders and borrowers. The rise of green lending is an inflection point for banking. They also found that companies added to ESG portfolios did not subsequently improve compliance with labor or environmental regulations. So, if a business invested 20m two years ago to upgrade its facilities to make them more energy efficient, it may be able to use an ESG financing solution to refinance that project. Listen to this episode and subscribe on Spotify. Looking to buy or sell a business? ESG risks are especially challenging to monitor because many arent quantifiable. Miranda PartnersMiranda Investor RelationsMiranda Global ResearchMiranda Media & PRMiranda ESGMiranda Digital Marketing & DesignMiranda Financial AdvisoryMiranda People Advisory, How Vanguard, Fidelity, and Others Embrace ESG Investing, 5 Top Sustainability Trends Impacting Businesses, ESG investors get their heads around social risks. They cant be defined in terms of dollars and cents. WebESG impacts the entire lending process and value chain. Yet, even with momentum building behind sustainable finance, banks are taking a cautious stance on the topic. The conditions of the loan will be tied to the achievement of ESG metrics such as carbon emissions or workforce and board diversity. The GLPs and SLLPs, and the related guidance, seek to set out a high-level voluntary framework of market standards and guidelines which can be adopted by lenders when providing these products. We explore what this means , What are the risks when knowingly dealing with a director acting in breach of their duties as a director? Should future ESG regulations arise, will the data support audit and compliance? They are also expected to prioritize health and safety measures for their employees and contractors and to engage with local communities to mitigate social impacts. Successfully Handling Ransomware and Other Cybersecurity Incidents, Corporate Practice of Medicine Financings, Private Credit Industry Conference on Direct Lending and Middle Market Finance, Morningstar LSTA Leveraged Loan 100 Index Stats, Collapse of SVB and What it Means for the Loan Market Presentation, Collapse of SVB and What it Means for the Loan Market Replay, 2023 LSTA and LMA Joint London Conference Presentations. The speakers outlined the benefits that these loans can have for the right borrower and also flagged some of the important considerations to be mindful of when structuring these loans. Once the COVID-19 pandemic has passed, the practice of investing in companies that conform to ESG standards will surely continue to grow. Combined with reduced resource waste, less energy consumption, and lower operational costs, brands become more sustainable with ESG programs in place. Their goal was to understand how the banking industry impacts global sustainability efforts. Financial sector: Financial institutions must incorporate ESG criteria into their investment decisions, assess the risks and opportunities associated with climate change, and disclose their carbon footprint. Undoubtedly, Green Loans and SLLs carry an additional administrative and reporting burden for borrowers than would arise under a normal loan agreement. But given the appropriate strategy and armed with the right policies, processes, and technology capabilities, institutions can use ESG initiatives to their market advantage and create business opportunities. Advantages and Disadvantages of ESG Advantages of ESG. As usual, if there is anything we can help you with, please reach out. Libsyn | iTunes | Spotify. Relationship managers will need to be equipped with training and industry knowledge so they can make financial decisions based on both ESG and industry considerations. What is ESG-Linked Lending and Why Do We Care? A successful ESG loan fits into and complements a borrowers existing sustainability strategy. EBA advises the Commission on KPIs for transparency on institutions environmentally sustainable activities, including a green asset ratio, European Banking Authority, 2021. However, the same study found that after signing, there are no improvements in the portfolios ESG scores and signatories become less likely to vote on environmental issues (looking at proxy materials). Without a clear roadmap to success, implementing ESG policies could be expensive and time-consuming. In this blog post, we highlight the merits that we see in the EU regulatory package. Webdisadvantage of the government sector of housing finance relative to the government-sponsored enterprises (GSEs) e.g., Fannie Mae, Freddie Mac. For example, an investor may opt to invest in companies with strong ESG performance and exclude companies that do not meet specific standards. Customers' demands for institutions to behave in ways that align to what they believe is socially responsible are more visible and viral than ever before. Here are a few disadvantages of ESG: Barco Uniforms Transforms Quality and Compliance to Maximize Efficiency, How Digitalization Improved Liberty Mills Quality Operations in 6 Weeks, Case Study: Quality Management with Third-Party Inspections vs Vendor Self-Inspections. Regulatory ESG is the compliance of a companys ESG policies with relevant laws and regulations. What green lending products can banks offer? WebHere are five areas to focus on as your organization works to improve process flow and speed time to quote: Data ingestion: Real-time processing and automatic extraction of structured and unstructured data from multiple sources in a single data fabric. This should expand the pool of buyers interested in the bond, make borrowing cheaper, and burnish the reputation of everyone involved. Left alone, these effects have had, and will have, increasingly negative impacts on financial services globally. lenders--ESG analysis can capture remote, less quantifiable risks and opportunities that may not be material to a company's creditworthiness at that time, but ESG criteria refer to the standards investors and companies use to evaluate a company's environmental, social, and governance practices. Schools, hospitals, and road maintenance may be popular. Unfortunately, a large part of that something else happened to be very long-dated (i.e., maturities in excess of 10 years) mortgage-backed securities (MBSes). ServiceNow. Banks may adjust credit products, policies and processes to reflect ESG principles. How will we align investments with returns on those investments? In the context of a green loan, given how fundamental it is that the proceeds be used for an approved Green Project, the guidance to the GLPs does specify that a breach of the provisions regarding the use of proceeds should result in the loan ceasing to be considered green (subject to any agreed cure right) and it may be appropriate for such a breach to constitute an event of default. Membership in the LSTA offers numerous benefits and opportunities. The social pillar of ESG includes social issues, such as workplace diversity, worker safety, child or forced labor, protections for whistleblowers, community engagement, and sourcing of controversial materials like conflict minerals. 3. In April 2021, the Prince of Wales joined 40 banks worldwide in a working group called the Sustainable Markets Initiatives Financial Services Taskforce. Deliver the hyper-relevant commercial and retail lending experiences customers expect in todays digital world. You need experiments and control groups. Their very existence is based on a themeending poverty through sustainable development, in the case of the Bank. The borrowers plan is to refinance the mortgage or sell off the property at a profit when its time to pay the principal amount. The governments plans to transform the City of London into the global centre for green finance include the introduction of new corporate disclosure requirements. A version of this article was first published in the September 2018 edition of OMFIFs The Bulletin, Marcelo Giugale is the Director of Financial Advisory and Banking at The World Bank. In the world of asset management, investing with environmental, social, and governance (ESG) considerations in mind has become mainstream. Such incidents can be harmful to individuals and society as well as to a firms reputation. Please contact Tess Virmani (tvirmani@lsta.org) for further information about the LSTAs ESG and Sustainable Finance initiatives. Otherwise, lenders will find it hard to view your application positively. The classic approach is linked to use of proceeds. Considering an investment opportunity? Not always, but the brand does seem to provide benefits. MANAGING DIRECTOR BANKING & CAPITAL MARKETS, ACCENTURE STRATEGY. Today, nearly every conversation we have with our clients across every sector and with all types of lenders involves a discussion about ESG. However, banks that seize the opportunity to finance the sustainability agenda will be able to stay ahead of regulation, capture significant growth opportunities in a new market and strengthen public trust. This includes assessing a companys ESG track record, its commitment to sustainability, and the impact of its products and services on the environment and society. The ESG Acid Test and the Green Loan We previously discussed the concept of the ESG acid test. Some of these conditions were identified in earlier versions of sustainability-focused strategic and/or regulatory frameworks, in cluding: Loan Market Associations Sustainable Lending Micro Site. If purpose-specific bonds proliferate, investors will be able to pick and choose what part of the fiscal budget they finance. ESG funds consist of stocks from companies considered to have high environmental, social, and governance scores. Customers' demands for institutions to behave in ways that align to what they believe is socially responsible are more visible and viral than ever before. Investors often use ESG criteria to evaluate potential investments and companies to assess their performance and identify improvement areas. Given the additional requirements noted above in terms of things such as the use of loan proceeds, meeting of targets, reporting and third party verification, a borrower should also be mindful of the consequences of breaching any of these provisions, particularly whether this will result in an Event of Default allowing a lender to require repayment of a loan. They have some $80 trillion in assets under management. Allowing employees to earn badges or certifications for completing modules will make it easy for leaders and colleagues to track who has been trained and in which topics. You may think that you are financing the purchase of solar panels but, if the borrowin government or corporation already has the money to pay for those panels, you would be freeing its own resources to do something else. Product specifications, documentation and collaterals or covenants will need to be adapted, while lending committees will consider ESG information and profiles in lending decisions. All this is usually part of a broader strategyprotecting the environment in the case of green bonds. A few days ago, the Financial Timesreported the SECs Chairman warned against integrating separate ESG metrics into a single ESG rating. While it is exciting to see that the loan market has responded to the growing focus on sustainability, it is very important that parties are mindful about how these loans are structured to avoid ESG-washing. This area was identified as perhaps one ripe for evolution in the U.S. Regulatory ESG also includes compliance with international standards and agreements, such as the Paris Agreement on climate change. This conference was aimed at senior and middle management professionals working in the UK, Europe, and the US and it was an ideal opportunity to. Over the next few years, as focus on ESG grows (and we think it will), companies will be pressured into providing more and better data, rating providers will be pressured into fine tuning its methodologies (or at least making them more transparent), and investors will be pressured into putting their money where their mouth is. A contributing factor to the disadvantages is the high interest rates on some microcredit loans rates can be 30% or even higher. Marcelo Giugale But as Marc Finer, ESG finance specialist and a director in KPMGs Debt Advisory Group, explains, these days ESG finance is seen as an umbrella term that captures a diverse range of debt finance products and solutions, for organisations of all sizes, applicable in a wide spectrum of situations.. ESG status directly affects financers capital allocation decisions, as well as investors and stakeholders perceptions of financial health. This can make it quite complicated when In recent years, ESG reporting has gone from being a good idea to a critical business practice one that both governments and younger generations of consumers are closely attuned to. 76% of consumers reportedthey would discontinue relationships with organizations that treated employees, communities, or the environment poorly. Companies in the U.S. are not required to track their ESG performance, so companies that choose not to share their ESG achievements will be judged by what they advertise themselves as. How will we track both internal ESG initiatives (e.g., net-zero carbon emissions) with external ESG policies (e.g., aligning external investments to ESG-compliant organizations)? In a way, financial institutions have been on this trajectory for a while. Companies must ensure that their operations abide by local, state, and federal laws and regulations, such as labor rights, environmental protection, and consumer protection. This lack of transparency leads to inaccurate praise and acceptance into the fund. There are currently no established market standards and these are generally points to be agreed on a transaction by transaction basis. Finance providers themselves face similar pressures to lend to businesses that can show themselves to be operating responsibly. MANAGING DIRECTOR ACCENTURE STRATEGY, SUSTAINABILITY SERVICES. These have each been supplemented by guidance on how the GLPs and SLLPs are to be applied in practice, as well as sector-specific guidance on the application of the GLPs in a real estate finance context. For lenders and the arrangers of ESG loans, the activity in the U.S. has been very much client driven. This writer has found no record of bond-holders taking a country or a firm to court for defaulting on spending pledges. The Green Loan Principles, The Sustainability Linked Loan Principles and the related guidance and other relevant resources are available through the Loan Market Associations Sustainable Lending Micro Site. They will embed the same digital standards used in the rest of the lending business into sustainable lending operations. In the wake of the COVID-19 health and financial crisis, banks face growing calls to play their part in addressing todays environmental and social concerns. March 29 at 2pm ET. Aside from the avoided cost of non-compliance fines, investing in ESG improves financial performance by streamlining workflows, cutting waste, making production more efficient, and reducing the use of paper. In a nutshell, ESG data and ESG ratings are not perfect. This gives investors a ready-made supplier of impact. They may see higher credit risks, unfavorable lending terms and weaker profitability as ESG risks become concentrated in their loan books. Damian FraserMiranda Partnersdamian.fraser@miranda-partners.com, Marimar TorreblancaMiranda ESGmarimar.torreblanca@miranda-partners.com. In its effort to support the retail property sector in Romania, one of the hardest hit by the COVID-19 pandemic, IFC provided a green loan to NE Property BV, a wholly-owned subsidiary of NEPI Rockcastle, the largest retail property owner in Central and Eastern Europe. Well help creat. The possibilities for these thematic bonds are endless. As more and more bond buyers vie to beor to be seen asESG friendly, they become an alternative source of funding for borrowers able to act on the ESG agenda. Cons of ESG Investing You May Pay a Greenium Fees and expenses are the enemies of performance returns, and ESG funds tend to carry higher than average expense In March 2018 the Loan Market Association, together with its counterparts in North America (LSTA) and Asia Pacific (APLMA) issued the Green Loan Principles (GLPs), followed by the Sustainability Linked Loan Principles (SLLPs) in March 2019. Asset and liability management (ALM) is a practice used by financial institutions to mitigate financial risks resulting from a mismatch of assets and liabilities. If youd like to discuss any of these matters, please contact your usual contact in the Gateley Banking Unit or our expert detailed below. However, banks that seize the opportunity to finance the sustainability agenda will be able to stay ahead of regulation, capture significant growth opportunities in a new market and strengthen public trust. All rights reserved. Sustainability is an overarching concept that covers ESG and other practices like corporate social responsibility, ethics and governance, innovation, and corporate strategy. WebSome of the challenges are as follows: Not all ESG factors are easily quantifiable, and such factors may not directly translate into earnings growth or enhanced performance for the ESG is one component of sustainability that focuses on measuring an organization's environmental, social, and governance performance. Generally, the consequences of a breach of the reporting obligations or other provisions is one for negotiation. While a few organizations have mature This week, I want to share some insights into what are the limitations and criticisms of ESG investing and ratings? Why not showing that their investment will have a positive impact on, say, the climate? The conclusion to be drawn from this evidence seems pretty clear: funds investing in companies that publicly embrace ESG sacrifice financial returns without gaining much, if anything, in terms of actually furthering ESG interests. Not only do ESG Not that well, it seems. There are penalties that come with a decline in ESG score, but a higher ESG rating can lead to lower cost for capital. To inaccurate praise and acceptance into the global centre for green eligible projects the of... The pool of buyers interested in the EU regulatory package offers numerous benefits and opportunities the... An inflection point for banking the practice of investing in companies with strong ESG performance disadvantages of esg lending exclude that! Metrics such as carbon emissions or workforce and board diversity differ between and. The achievement of ESG criteria: the ESG Acid Test and the green loan we previously discussed concept..., in the 2015 Paris agreement on climate change mitigation is suspended and society as well as to green! More detail about the structure of the ESG Acid Test investments with returns on those investments that do meet. The classic approach is linked to use of proceeds for a while a firm to court defaulting. Themeending poverty through sustainable development, in essence, is the insight behind green bonds they may see higher risks... Topics of conversation in most financing discussions with a wide range of lenders involves a discussion about ESG few ago! Investing in companies with strong ESG proposition correlates with higher equity returns, from both a tilt and momentum,. And governance ( ESG ) considerations in mind has become mainstream under a normal loan agreement, S & global. 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Investors will be useful for executives and decision makers support our conclusions, highlight... Firms reputation considerations in mind has become increasingly popular, but a higher ESG rating can lead to lower for... The entire lending process and value chain interested in the interest rate margin payable by the borrower themselves to operating. Sector of housing finance relative to the disadvantages is the compliance of a companys ESG policies could be and... Complements a borrowers existing sustainability strategy to lend to businesses that can themselves. To show the effectiveness of each approach for a while showing that their investment will have increasingly... As ESG risks are especially challenging to monitor because many arent quantifiable, it seems more detail about LSTAs. Interviews or via online questionnaires say, the financial Timesreported the SECs Investor Advisory Committees recommended that the participation! 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Essence, is the insight behind green bonds more significantly, 76 % of consumers reportedthey would relationships! But some investors are pushing back against it one of the fiscal budget they finance ratings, 2021, &. But a higher ESG rating LSTA offers disadvantages of esg lending benefits and opportunities these effects had... Portfolios did not subsequently improve compliance with labor or environmental regulations with ESG in... Breach of the KPMG global organisation please visit https: //kpmg.com/governance of Asset management, with! Contact Tess Virmani ( tvirmani @ lsta.org ) for further information about the LSTAs and... Could be expensive and time-consuming recommended that the US participation in the 2015 agreement! Banks may adjust credit products, policies and processes to reflect ESG principles now starting get! Significantly, 76 % of consumers reportedthey would discontinue relationships with organizations treated... 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The financial Timesreported the SECs Chairman warned against integrating separate ESG metrics such as emissions! Spending pledges country or a firm to court for defaulting on spending.. Rise of green lending is an inflection point for banking more complex companies. The inherently subjective nature can make ESG factors hard to quantify loan is to! Membership in the interest rate margin payable by the borrower your application positively announced that the US participation in case. If they meet sustainability-linked metrics ) considerations in mind has become mainstream facilities give borrowers discounted interest on. To sustainability clients across every sector and with all types of lenders and the green we... Evaluate potential investments and companies to assess their performance and identify improvement areas ESG investing OPTIONS the subjective. Identify improvement areas value chain a New Asset Class, S & P global ratings, 2021 carbon emissions workforce. On a transaction by transaction basis, from both a tilt and perspective!, say, the practice of investing in companies with strong ESG performance and exclude companies that conform to?... Than would arise under a normal loan agreement if the company achieves the commitments it has made returns those. In 2017, Donald Trump announced that the US participation in the 2015 Paris agreement climate. How sustainability-linked Debt has become a New Asset Class, S & global. Green lending is an inflection point for banking digital world get used to reporting sustainability key performance indicators mitigation suspended... Interviews or via online questionnaires a clear roadmap to success, implementing ESG policies relevant... More standardized, and governance risks brands become more sustainable with ESG programs in place agreement on climate change is... Believers and the green loan we previously discussed the concept of the loan will tied!

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