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CONTENT
Sr. No.
PARTICULARS
Page No.
CHAPTER I INTRODUCTION
1.1
Introduction
1.2
Concept
1.3
Meaning
1.4
Informal Market
2.2
Stages of funding
2.3
Methods of Financing
2.4
Benefits
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2.5
Cons.
11
Investing
12
3.2
Fund operation
12
3.3
14
Meaning
19
4.2
Types
20
4.3
Roles
20
4.4
Compensation
4.4
Structue
21
4.5
Alternative
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4.6
5
23
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APPENDIX
5.1
Conclusion
5.2
Bibliography
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Chapter-1
Venture capital
1.1 Introduction
1.2 Concept
1.3Meaning
1.4 Informal Market
1.1 Introduction
A number of technocrats are seeking to set up shop on their own and capitalize
onopportunities. In the highly dynamic economic climate that surrounds us today,
fewtraditional business models may survive. Countries across the globe are realizingthat it
is not the conglomerates and the gigantic corporations that fuel economicgrowth any more.
The essence of any economy today is the small and mediumenterprises. For example, in the
US, 50% of the exports are created by companieswith less than 20 employees and only 7%
are created by companies with 500 or moreemployees. This growing trend can be attributed
to rapid advances in technology inthe last decade. Knowledge driven industries like InfoTech,
health-care,entertainment and services have become the cynosure of bourses worldwide. In
these sectors, it is innovation and technical capability that are big business-drivers. This is a
paradigm shift from the earlier physical production and economies of scale model.
However, starting an enterprise is never easy. There are a number of parameters that
contribute to its success or downfall. Experience, integrity, prudence and a clear
understanding of the market are among the sought after qualities of a promoter. However,
there are other factors, which lie beyond the control of the entrepreneur. Prominent among
these is the timely infusion of funds. This is where the venture capitalist comes in, with
money, business sense and a lot more.
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for the institutional venture capital industry,providing the start-up and early stage finance and
hands-on assistance to enable new firms to get to thestage where they might be of interest to
venture capital funds. The implication is that the institutionalventure capital industry benefits
from the existence of an active informal venture capital market.The informal venture capital
market is also of critical importance because of its size. It is the largestsingle source of
external risk capital for small companies. It has been estimated that in the United
States,business angels invest in 20 to 40 times the number of companies as the institutional
venture capitalindustry and that the amount invested by business angels in the SME sector
(i.e. excluding MBOs/MBIs)is five times greater than the institutional venture capital
industry. Estimates for the United Kingdomsuggest that the informal venture capital market
may be two to four times larger than the institutionalventure capital market in terms of the
amount invested in the SME sector. Furthermore, the informalventure capital market remains
largely untapped. The invisible and fragmented nature of the marketmeans that it is difficult
for business angels and entrepreneurs seeking finance to find one another. Theconsequence is
that most business angels say that they are unable to find sufficient investmentopportunities.
In addition, there is scope for considerable expansion of the population of business angels.
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Chapter-2
Methods Of Venture Capital Financing
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Structure
Venture capital firms are typically structured as partnerships, the general partners of which
serve as the managers of the firm and will serve as investment advisors to the venture capital
funds raised. Venture capital firms in the United States may also be structured as limited
liability companies, in which case the firm's managers are known as managing members.
Investors in venture capital funds are known aslimited partners. This constituency comprises
both high net worth individuals and institutions with large amounts of available capital, such
as state and private pension funds, university financial endowments,
foundations, insurance companies, and pooled investment vehicles, called funds of funds.
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These are only a few of the possible problems an entrepreneur could face when they
secure venture capital funding. It is important that they carefully review all
agreements and have them reviewed by an attorney as well.
Chapter-3
Private Equity Investing
3.1 Investing
3.2Fund Operation
3.3 Global & Revenue Based Finance
3.1 Investing
Venture capital investing has grown from a small investment pool in the 1960s andearly
1970s to a mainstream asset class that is a viable and significant part of theinstitutional and
corporate investment portfolio. Recently, some investors have beenreferring to venture
investing and buyout investing as "private equity investing." Thisterm can be confusing
because some in the investment industry use the term "privateequity" to refer only to buyout
fund investing. In any case, an institutional investorwill allocate 2% to 3% of their
institutional portfolio for investment in alternativeassets such as private equity or venture
capital as part of their overall asset allocation.Currently, over 50% of investments in venture
capital/private equity comes frominstitutional public and private pension funds, with the
balance coming fromendowments, foundations, insurance companies, banks, individuals and
other entitieswho seek to diversify their portfolio with this investment class.
3.2 Venture Capital Fund Operation
Venture capitalists are very selective in deciding what to invest in. A common figureis that
they invest only in about one in four hundred ventures presented to them.They are only
interested in ventures with high growth potential. Only ventures withhigh growth potential
are capable of providing the return that venture capitalistsexpect, and structure their
businesses to expect. Because many businesses cannotcreate the growth required having an
exit event within the required timeframe,venture capital is not suitable for everyone.Venture
capitalists usually expect to be able to assign personnel to key managementpositions and also
to obtain one or more seats on the company's board of directors.
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This is to put people in place, a phrase that has sometimes quite unfortunateimplications as it
was used in many accounting scandals to refer to a strategy ofplacing incompetent or easily
bypassed individuals in positions of due diligence andformal legal responsibility, enabling
others to rob stockholders blind. Only a tinyportion of venture capitalists, however, have been
found liable in the large scalefrauds that rocked American (mostly) finance in 2000 and 2001.
Venture capitalists expect to be able to sell their stock, warrants, options,convertibles, or
other forms of equity in three to ten years: this is referred to asharvesting. Venture capitalists
know that not all their investments will pay-off. Thefailure rate of investments can be high;
anywhere from 20% to 90% of the enterprisesfunded fail to return the invested capital.
Many venture capitalists try to mitigate this problem through diversification. Theyinvest in
companies in different industries and different countries so that thesystematic risk of their
total portfolio is reduced. Others concentrate their investmentsin the industry that they are
familiar with. In either case, they work on the assumptionthat for every ten investments they
make, two will be failures, two will be successful,and six will be marginally successful. They
expect that the two successes will pay forthe time given to, and risk exposure of the other
eight. In good times, the funds thatdo succeed may offer returns of 300 to 1000% to
investors.Venture capital partners (also known as "venture capitalists" or "VCs") may be
former chief executives at firms similar to those which the partnership funds.Investors in
venture capital funds are typically large institutions with large amounts ofavailable capital,
such as state and private pension funds, university endowments,insurance companies and
pooled investment vehicles.Most venture capital funds have a fixed life of ten yearsthis
model was pioneeredby some of the most successful funds in Silicon Valley through the
1980s to invest intechnological trends broadly but only during their period of ascendance, to
cutexposure to management and marketing risks of any individual firm or its product.In such
a fund, the investors have a fixed commitment to the fund that is "calleddown" by the VCs
over time as the fund makes its investments. In a typical venturecapital fund, the VCs receive
an annual "management fee" equal to 2% of thecommitted capital to the fund and 20% of the
net profits of the fund. Because a fundmay run out of capital prior to the end of its life, larger
VCs usually have severaloverlapping funds at the same timethis lets the larger firm keep
specialists in allstage of the development of firms almost constantly engaged. Smaller firms
tend tothrive or fail with their initial industry contactsby the time the fund cashes out,
anentirely new generation of technologies and people is ascending, whom they do notknow
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well, and so it is prudent to re-assess and shift industries or personnel ratherthan attempt to
simply invest more in the industry or people it already knows
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At one extreme, it takes more than 15 times longer to set up a foreign-owned business in
Brazil (vs US). Another proxy for government-imposed burden is tax, for which Brazil gets
more poor marks with taxes at a whopping 38.8% of GDP.
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While China, India and Brazil have made varied strides to improve their business climates in
recent years, Russia registered an actual decline in the 2009-10 Global Competitiveness
Report. Russia dropped 12 places to 63rd, largely because of a perceived lack of government
efficiency, judicial independence and property rights.
2. Venture Capital Volatility. The Great Recession vaporized almost a third of invested VC
dollars in the US, with devastating effects for startups and fund managers. Even today the
effects of this funding volatility plague the economy. However volatility was around three
times worse in Russia, and twice as bad in India.
Compounding the issue, IPOs from Russian companies dried up in 2008 and 2009 while
Indias IPO market crashed around 97% from Rs 922.18 billion to Rs 20.33 billion.
Venture capital has always had its challenges in emerging markets, even in the good times
before the 2007 collapse. For example, 20 venture capital funds investing in 74 Brazilian
firms between 2003 2006 posted negative overall returns. While overall US venture capital
returns over the past decade have also been negative, one 2005 study showed that private
equity funds across emerging markets (including a mix of venture capital and larger private
equity transactions) similarly produced an IRR of negative 0.3% over 5- and 10-year
horizons.
There are a number of reasons equity-based venture investing has taken such a beating
throughout the world. However when you ask VCs themselves, there is strong consensus
around the single most challenging factor: a lack of exits. Startups can be invested in easily
enough, but monetizing that investment (i.e. turning it into cash) is another matter entirely.
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[viii]
While growing investment in BRIC nations is encouraging (at least for those BRIC nations),
there is cause for concern. If the migration of capital takes the same form as in the past (i.e.
equity-based venture capital), what reason is there to believe that future outcomes will
significantly differ from the past? If we keep doing the same thing, how can we expect a
different result?
4. Revenue-Based Finance. These global trends underscore the urgency and importance of
revenue-based finance on a global scale. Without revenue capital and other alternatives to
traditional equity-based venture investing, entrepreneurs and VCs are increasingly subject to
the familiar challenges, volatility and speculation that all too often thwart economic growth.
Revenue capital is not theoretically immune from boom and bust cycles, yet it contains two
key substantive differences from equity investment that can buffer it from extreme volatility:
(1) Unlike equity-based investing and IPO markets, which derive venture valuations
from perceptions of market value (i.e. valuation is driven by a companys estimated
potential), revenue-based investments are determined by actual market value (i.e. the actual
revenue generated by a venture). In other words, revenue capital is based on cash, not
perception. It is therefore more stable over time as market revenues tend to fluctuate less
than market moods.
(2) Unlike equity-based investing, revenue-based finance does not depend on exits. As
investor returns come from a percentage of a ventures revenue rather than the sale of its
stock, revenue capital can profitably fund start ups regardless of exit volatility. No exits, no
problem.
The past few years have been tough for everyone. As such, going forward BRIC nations and
the US would be well advised to avoid mechanically replicating VC behaviours of the past.
While revenue-based finance does not solve every problem and there will always be a critical
place for equity-based investing, revenue capital is essential to the global dialogue.
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Otherwise investors and start ups alike may be doomed to repeat past failures, no matter
where they happen to be.
This is a cruel irony on poetic justice, depending on ones view point the past few years have
been tough for everyone,especially BRIC nation. However going forward ,BRIC nations may
have a light of hope at the end of their venture capital tunnel. As for the US, unless significant
steps are taken the light at the end of its tunnel may turn out to be an oncoming train.
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Chapter-4
Venture Capitalist
4.1 Meaning
4.2 Types
4.3 Roles
4.4 Structure
4.5 Compensation
4.6 Alternatives
4.7 Supply Of Investment Funds
4.1 Meaning
The typical person-on-the-street depiction of a venture capitalist is that of a wealthy financier
who wants to fund start-up companies. The perception is that a person who develops a brand
new change-the-world invention needs capital; thus, if they cant get capital from a bank or
from their own pockets, they enlist the help of a venture capitalist.
In truth, venture capital and private equity firms are pools of capital, typically organized as a
limited partnership that invests in companies that represent the opportunity for a high rate of
return within five to seven years. The venture capitalist may look at several hundred
investment opportunities before investing in only a few selected companies with favourable
investment opportunities. Far from being simply passive financiers, venture capitalists foster
growth in companies through their involvement in the management, strategic marketing and
planning of their investee companies. They are entrepreneurs first and financiers second.
Even individuals may be venture capitalists. In the early days of venture capital investment,
in the 1950s and 1960s, individual investors were the archetypal venture
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4.2 Types
Venture Capitalist firms differ in their approaches. There are multiple factors, and each firm
is different.
Some of the factors that influence VC decisions include:
Business situation: Some VCs tend to invest in new ideas, or fledgling companies.
Others prefer investing in established companies that need support to go public or grow.
Some prefer operating locally while others will operate nationwide or even globally.
VC expectations often vary. Some may want a quicker public sale of the company or
expect fast growth. The amount of help a VC provides can vary from one firm to the next.
4.3 Roles
Within the venture capital industry, the general partners and other investment professionals of
the venture capital firm are often referred to as "venture capitalists" or "VCs". Typical career
backgrounds vary, but, broadly speaking, venture capitalists come from either an operational
or a finance background. Venture capitalists with an operational background (operating
partner) tend to be former founders or executives of companies similar to those which the
partnership finances or will have served as management consultants. Venture capitalists with
finance backgrounds tend to have investment banking or other corporate finance experience.
Although the titles are not entirely uniform from firm to firm, other positions at venture
capital firms include:
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Associate This is typically the most junior apprentice position within a venture
capital firm. After a few successful years, an associate may move up to the "senior
associate" position and potentially principal and beyond. Associates will often have
worked for 12 years in another field, such as investment banking or management
consulting.
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closes when one half (or some other amount) of the fund has been raised. The vintage
year generally refers to the year in which the fund was closed and may serve as a means to
stratify VC funds for comparison. This shows the difference between a venture capital fund
management company and the venture capital funds managed by them.
From investors' point of view, funds can be: (1) traditionalwhere all the investors invest
with equal terms; or (2) asymmetricwhere different investors have different terms.
Typically the asymmetry is seen in cases where there's an investor that has other interests
such as tax income in case of public investors.
4.5 Compensation
Venture capitalists are compensated through a combination of management fees and carried
interest (often referred to as a "two and 20" arrangement):
Management fees an annual payment made by the investors in the fund to the
fund's manager to pay for the private equity firm's investment operations. In a typical
venture capital fund, the general partners receive an annual management fee equal to up
to 2% of the committed capital.
Carried interest a share of the profits of the fund (typically 20%), paid to the
private equity funds management company as a performance incentive. The remaining
80% of the profits are paid to the fund's investors Strong limited partner interest in toptier venture firms has led to a general trend toward terms more favorable to the venture
partnership, and certain groups are able to command carried interest of 2530% on their
funds.
Because a fund may run out of capital prior to the end of its life, larger venture capital firms
usually have several overlapping funds at the same time; doing so lets the larger firm keep
specialists in all stages of the development of firms almost constantly engaged. Smaller firms
tend to thrive or fail with their initial industry contacts; by the time the fund cashes out, an
entirely-new generation of technologies and people is ascending, whom the general partners
may not know well, and so it is prudent to reassess and shift industries or personnel rather
than attempt to simply invest more in the industry or people the partners already know.
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In Europe and India, Media for equity is a partial alternative to venture capital funding.
Media for equity investors are able to supply start-ups with often significant advertising
campaigns in return for equity.
In industries where assets can be securitized effectively because they reliably generate future
revenue streams or have a good potential for resale in case of foreclosure, businesses may
more cheaply be able to raise debt to finance their growth. Good examples would include
asset-intensive extractive industries such as mining, or manufacturing industries. Offshore
funding is provided via specialist venture capital trusts, which seek to utilise securitization in
structuring hybrid multi-market transactions via an SPV (special purpose vehicle): a
corporate entity that is designed solely for the purpose of the financing.
In addition to traditional venture capital and angel networks, groups have emerged, which
allow groups of small investors or entrepreneurs themselves to compete in a privatized
business plan competition where the group itself serves as the investor through a democratic
process.
Law firms are also increasingly acting as an intermediary between clients seeking venture
capital and the firms providing it.
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Case study
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Provided assistance performing the fair value analysis for the purchase price
allocations, as required by U.S. GAAP Accounting.
Worked with the client locally and through the Grant Thornton affiliates in Brazil to
set up the valuation for U.S. Tax and Brazil Tax authorities.
Results
Effective communication with the Grant Thornton FVS team in the U.S. and Brazil
throughout the process enabled the client to focus its efforts on integrating the new
business successfully. Rather than using its resources to work on valuation
requirements for U.S. financial reporting and tax, and particularly for meeting
Brazilian requirements where company resources were limited, the client reduced its
risk of delaying or derailing the acquisition and business integration process.
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Working closely with company management, Grant Thornton constructed the crucial
information for all of the First Day Motions including, the critical vendors motion, utilities
motion, ordinary course professionals, motion to pay prepetition wages and benefits for more
than 6,000 employees and lease rejection analysis.
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Assisted the company with the preparation and review of monthly operating reports
for the bankruptcy process.
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Recovery to common equity holders in a bankruptcy is rare. Yet there have been numerous
bankruptcies where equity holders obtained not only a recovery, but a substantial one. These
were cases in which all creditors and preferred shareholders recovered 100 cents on the
dollar. More importantly, common equity holders received a substantial ownership interest in
the reorganized entity. We call these the 100 cent+ cases a black swan in the world
of corporate bankruptcies. So whats different about these cases? Are they merely random
events, or is there more to it?
This topic has always been of great interest, not only to academics and professionals in the
field of bankruptcy and restructuring, but also to investors. Distressed investors often buy
stock in bankrupt companies in hopes of a windfall, while incumbent activist investors do
everything possible to retain their interests. When General Growth Properties (GGP) filed for
bankruptcy in early 2009, Pershing Square Capital Management, a deep-value and activistoriented hedge fund1 that owned 25% of GGP, tried to make a case as to why that was not a
typical bankruptcy in which existing equity gets wiped out. It did so primarily by drawing
parallels to three other large public company bankruptcies in which equity holders kept
substantial ownership interests.2
i)Attributes of 100 cent+ cases
So what are the attributes of a 100 cent+ case? To arrive at a clear picture, we did three
things. First, we defined a 100 cent+ case as one in which equity holders were awarded more
than one-third of the reorganized entitys equity. We ignored cases where equity holders
received only warrants and/or cash payouts, because these are often de minimis. We also
limited the scope to bankruptcies filed during or after 2005. Second, we developed a shortlist
of 100 cent+ cases based on our knowledge, input from industry professionals and results
from news and database3 searches. Last, we analyzed the seven bankruptcies that met our
100 cent+ criteria to determine common key attributes. We found that these 100 cent+ cases
consistently shared the following three attributes:
The debtors had a strong underlying core business prior to filing for bankruptcy.
Bankruptcy was caused in part by a shift in an external value driver.
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There was at least one shareholder advocate throughout the course of the bankruptcy
proceeding.
Its important to stress that we are not trying to claim that these three attributes have a causal
relationship with a 100 cent+ recovery. We made no effort to isolate these attributes from
other possible influencing factors such as the macroeconomic environment, the attractiveness
of different industries, the quality of management, or luck.
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environment. Hancocks core value driver was customer demand for fabric, which had
declined considerably in the years leading up to the companys bankruptcy so much so
that even Wal-Mart started phasing out fabric from its stores around the time Hancock filed
for bankruptcy.
It is important to note that since these shifts in external value drivers were beyond the
debtors control, a successful reorganization hinged on one of two things. Either the
unfavorable shift reversed over time, or the debtors had a credible plan to quickly deal with
the shift. In all cases except Hancock and to some extent GGP, the core value drivers showed
signs of improvement over the course of the bankruptcy process. For example, because of
improved cash flow resulting from higher copper prices, ASARCO did not even draw on its
debtor-in-possession facility. Hancock closed its unprofitable stores, unlocked liquidity from
favorable leases on those stores, remodeled many of its other stores, and enhanced its online
presence. GGP was able to spin off its noncore holdings, which were made up primarily of
master-planned communities and development parcels, to focus on its core regional mall
business.
iv)Shareholder advocacy
Shareholder advocacy was a critical feature in the seven 100 cent+ cases we studied. In four
of them, an Official Committee of Equity Holders was appointed. In the other three cases,
equity holders remained in control and assisted with the restructuring. With or even without
an Official Committee of Equity Holders, key shareholder advocates participated actively and
vigorously in all cases to maintain ownership and control of the entity upon its emergence.
Pershing Square Capital Management was not only an ardent shareholder advocate, but also a
major equity contributor to the reorganized GGP. ASARCOs parent, Grupo Mexico,
displayed the same level of fervor, putting forth a competing plan of reorganization that was
ultimately approved by thecourt. In the Flying J case, the equity owners worked tirelessly to
sell key assets in order to repay creditors and retain important assets around which to
reorganize. In the Saratoga Resources case, an Official Committee of Equity Holders
negotiated with management, lenders and the Official Committee of Unsecured Creditors to
find a resolution that the court could approve.
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Conclusion
The realization of a 100 cent+ outcome in any bankruptcy case is a rare achievement.
Undoubtedly, such success does not happen by accident. Many factors may influence the
outcome in a bankruptcy case. They may include the ability to restructure debt or obtain
additional financing, the presence of an active Official Committee of Unsecured Creditors,
successful outcomes of negotiations with labour unions or the favourable settlement of
significant litigation or environmental liabilities. Taken in isolation, the presence of one of
these factors may lead to a successful result in a bankruptcy case and, if multiple such factors
are present, the result may be quite favourable.
Although correlation does not imply causation, our research suggests that the outcome of a
100 cent+ recovery is really the product of more than just the random occurrence of any of
the factors listed above. A strong underlying core business is vital for the realization of such a
positive outcome, particularly in this last restructuring cycle where asset values have been
extraordinarily depressed. Shifting external factors can either cause or assist the recovery
from financial distress. We certainly noticed these in each of the cases referenced here. The
bigger factor was the skill and agility with which management of such business responded to
such shifts in the external operating environment. Finally, advocating shareholders, being
either existing management or external equity holders, are usually the driving forces behind a
100 cent+ recovery. Many cases have realized substantial recoveries of less than 100 cents,
because there was not an active advocate driving that final 5 to 10 % recovery. The existence
of such a catalyst seems to be required in achieving such an extraordinary result.
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Bibliography
1)JOURNALS
2)BOOKS
4)INTERNET
i) www.indiainfoline.com
ii) www.vcapital.com
iii)www.investopedia.com
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