The Original Attachment: Basics
The Original Attachment: Basics
The Original Attachment: Basics
BASICS
Sub-fields of Accounting:
Journalisation of transactions
Ledger positioning and balancing
Preparation of trail balance
Preparation of final accounts.
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Book keeping: It is an activity, related to the recording of financial data, relating
to business operations in an orderly manner. The main purpose of accounting for
business is to as certain profit or loss for the accounting period.
Creditor’s ledger
General ledger
Going concern concept: Accounts are recorded and assumed that the
business will continue for a long time. It is useful for assessment of
goodwill.
Consistency concept: It means that same accounting policies are
followed from one period to another.
Accrual concept: It means that financial statements are prepared on
merchantile system only.
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Types of Accounts: Basically accounts are three types,
For example: - Wages a/c, Salaries a/c, commission recived a/c, etc.
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Trail Balance: A trail balance is a list of all the balances standing on the ledger
accounts and cash book of a concern at any given date.The purpose of the trail
balance is to establish accuracy of the books of accounts.
Trading a/c: The first step of the preparation of final account is the preparation of
trading account. It is prepared to know the gross margin or trading results of the
business.
Profit or loss a/c: It is prepared to know the net profit. The expenditure
recording in this a/c is indirect nature.
Outstanding Expenses: These expenses are related to the current year but
they are not yet paid before the last date of the financial year.
Prepaid Expenses: There are several items of expenses which are paid in
advance in the normal course of business operations.
Income and expenditure a/c: In this only the current period incomes and
expenditures are taken into consideration while preparing this a/c.
Lease: A contractual arrangement whereby the lessor grants the lessee the right
to use an asset in return for periodic lease rental payments.
The recording of two aspect effort of each transaction is called ‘double entry’.
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The principle of double entry is, for every debit there must be an equal and a
corresponding credit and vice versa.
BRS: When the cash book and the passbook are compared, some times we
found that the balances are not matching. BRS is prepared to explain these
differences.
A part of such expenditure is shown in P&L a/c and remaining amount is shown
on the assets side of B/S.
Capital Receipts: The receipts which rise not from the regular course of
business are called “Capital receipts”.
Revenue Receipts: All recurring incomes which a business earns during normal
course` of its activities.
Reserve Capital: It refers to that portion of uncalled share capital which shall not
be able to call up except for the purpose of company being wound up.
Fixed Assets: Fixed assets, also called noncurrent assets, are assets that are
expected to produce benefits for more than one year. These assets may be
tangible or intangible. Tangible fixed assets include items such as land, buildings,
plant, machinery, etc… Intangible fixed assets include items such as patents,
copyrights, trademarks, and goodwill.
Current Assets: Assets which normally get converted into cash during the
operating cycle of the firm. Ex: Cash, inventory, receivables.
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Contingent Assets: It is an existence whose value, ownership and existence will
depend on occurrence or non-occurrence of specific act.
Fixed Liabilities: These are those liabilities which are payable only on the
termination of the business such as capital which is liability to the owner.
Long-term Liabilities: These liabilities which are not payable with in the next
accounting period but will be payable with in next 5 to 10 years are called long-
term liabilities. Ex: Debentures.
Current Liabilities: These liabilities which are payable out of current assets with
in the accounting period. Ex: Creditors, bills payable, etc…
Bad Debts: Some of the debtors do not pay their debts. Such debt if
unrecoverable is called bad debt. Bad debt is a business expense and it is
debited to P&L account.
Fixed Cost: These are the costs which remains constant at all levels of
production. They do not tend to increase or decrease with the changes in volume
of production.
Variable Cost: These costs tend to vary with the volume of output. Any increase
in the volume of production results in an increase in the variable cost and vice-
versa.
Semi-Variable Cost: These costs are partly fixed and partly variable in relation
to output.
Absorption Costing: It is the practice of charging all costs, both variable and
fixed to operations, processes or products. This differs from marginal costing
where fixed costs are excluded.
Costing: Cost accounting is the recording classifying the expenditure for the
determination of the costs of products. For the purposes of control of the costs.
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Rectification of Errors: Errors that occur while preparing accounting statements
are rectified by replacing it by the correct one.
Variance Analysis: The deviations between standard costs, profits or sales and
actual costs. Profits or sales are known as variances.
Types of variances
1: Material Variances
2: Labor Variances
3: Cost Variances
General Reserves: These reserves which are not created for any specific
purpose and are available for any future contingency or expansion of the
business.
SpecificReserves: These reserves which are created for a specific purpose and
can be utilized only for that purpose.
Reserve: Reserves are amounts appropriated out of profits which are not
intended to meet any liability, contingency, commitment in the value of assets
known to exist at the date of the B/S.
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Creation of the reserve is to increase the workingcapital in the business and
strengthen its financial position. Some times it is invested to purchase out side
securities then it is called reserve fund.
Types:
1. Provisions are created for some specific object and it must be utilised for
that object for which it is created.
Capitalisatioin method
Methods:
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Dep. = Cost price – Scrap value/Estimated life of asset.
EOQ: The quantity of material to be ordered at one time is known EOQ. It is fixed
where minimum cost of ordering and carryiny stock.
Key Factor: The factor which sets a limit to the activity is known as key factor
which influence budgets.
Sinking Fund: It is created to have ready money after a particular period either
for the replacement of an asset or for the repayment of a liability. Every year
some amount is charged from the P&L a/c and is invested in outside securities
with the idea, that at the end of the stipulated period, money will be equal to the
amount of an asset.
1. Operating leverage
2. Financial Leverage.
3. Combined leverage or total leverage.
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1. Operating Leverage: It arises from fixed operating costs (fixed costs
other than the financing costs) such as depreciation, shares, advertising
expenditures and property taxes.
%change in EBIT
% change in sales
2. Financial Leverage: It arises from the use of fixed financing costs such
as interest. When a firm has fixed cost financing. A change in 1% in
E.B.I.T results in a change of more than 1% in earnings per share.
3. Combined Leverage: It is useful for to know about the overall risk or total
risk of the firm. i.e, operating risk as well as financial risk.
C.L= O.L*F.L
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A high O.L and a high F.L combination is very risky. A high O.L and a low F.L
indiacate that the management is careful since the higher amount of risk involved
in high operating leverage has been sought to be balanced by low F.L
Working Capital: There are two types of working capital: gross working capital
and net working capital. Gross working capital is the total of current assets. Net
working capital is the difference between the total of current assets and the total
of current liabilities.
It refers to the length of time between the firms paying cash for
materials, etc.., entering into the production process/ stock and the inflow of cash
from debtors (sales)
Labour overhead
Debtors
1. Traditional Methods
Profitability index
Pay back period: Required time to reach actual investment is known as payback
period.
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= Investment / Cash flow
Or
NPV: The best method for the evaluation of an investment proposal is the NPV or
discounted cash flow technique. This metod takes into account the time value of
money.
The sum of the present values of all the cash inflows less the sum of the
present value of all the cash outflows associated with the proposal.
IRR: It is that rate at which the sum total of cash inflows aftrer discounting equals
to the discounted cash outflows. The internal rate of return of a project is the
discount rate which makes net present value of the project equal to zero.
Types of Derivatives:
1. Forward Contracts
2. Futures
3. Options
4. Swaps.
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An agreement between two parties to exchange an asset for a price
that is specified todays. These are settled at end of contract.
4. Index Futures: Underline assets are famous stock market indicies. NewYork
Stock Exchange.
3. Options: An option gives its Owner the right to buy or sell an Underlying asset
on or before a given date at a fixed price.
The option holder is the buyer of the option and the option writer is the seller of
the option.
The fixed price at which the option holder can buy or sell the underlying asset is
called the exercise price or Striking price.
Options traded on an exchange are called exchange traded option and options
not traded on an exchange are called over-the-counter optios.
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When stock price (S1) <= Exercise price (E1) the call is said to be out of money
and is worthless.
When S1>E1 the call is said to be in the money and its value is S1-E1.
Types of swaps:
2: Currency Swaps.
1. Interest rate Swaps: The most common type of interest rate swap is ‘Plain
Venilla ‘.
Warrants: Options generally have lives of upto one year. The majority of options
traded on exchanges have maximum maturity of nine months. Longer dated
options are called warrants and are generally traded over- the- counter.
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depository receipt or certificate created by the overseas depository bank out side
India and issued to non-resident investors against the issue of ordinary share or
foreign currency convertible bonds of the issuing company. GDR’s are entitled to
dividends and voting rights since the date of its issue.
Dividend Yield: It gives the relationship between the current price of a stock and
the dividend paid by its issuing company during the last 12 months. It is
caliculated by aggregating past year’s dividend and dividing it by the current
stock price.
Company: Sec.3 (1) of the Companys act, 1956 defines a ‘company’. Company
means a company formed and registered under this Act or existing company”.
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Public Company: A corporate body other than a private company. In the public
company, there is no upperlimit on the number of share holders and no restriction
on transfer of shares.
Private Company: A corporate entity in which limits the number of its members
to 50. Does not invite public to subscribe to its capital and restricts the member’s
right to transfer shares.
Liquidity: A firm’s liquidity refers to its ability to meet its obligations in the short
run. An asset’s liquidity refers to how quickly it can he sold at a reasonable
price.
Cost of Capital: The minimum rate of the firm must earn on its investments in
order to satisfy the expectations of investors who provide the funds to the firm.
Proxy: The authorization given by one person to another to vote on his behalf in
the shareholders meeting.
Insolvency: In case a debtor is not in a position to pay his debts in full, a petition
can be filled by the debtor himself or by any creditors to get the debtor declared
as an insolvent.
Long Term Debt: The debt which is payable after one year is known as long
term debt.
Short Term Debt: The debt which is payable with in one year is known as short
term debt.
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Stock: The Stock of a company when fully paid they may be converted into
stock.
Share Premium: Excess of issue price over the face value is called as share
premium.
Authorized Capital: The amount of capital that a company can potentially issue,
as per its memorandum, represents the authorized capital.
Subscribed capital: The part of issued capital which has been subscribed to by
the investors
Par Value: The par value of an equity share is the value stated in the
memorandum and written on the share scrip. The par value of equity share is
generally Rs.10 or Rs.100.
Issued price: It is the price at which the equity share is issued often, the issue
price is higher than the Par Value
Market Value (M.V): The Market Value of an equity share is the price at which it
is traded in the market.
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Preference capital is similar to debentures in several ways.
Debenture: For large publicly traded firms. These are viable alternative to term
loans. Skin to promissory note, debentures is instruments for raising long term
debt. Debenture holders are creditors of company.
Stock Split: The dividing of a company’s existing stock into multiple stocks.
When the Par Value of share is reduced and the number of share is increased.
Calls-in-Arrears: It means that amount which is not yet been paid by share
holders till the last day for the payment.
Forfeiture and reissue of shares allotted on pro – rata basis in case of over
subscription.
The amount must be subscribed with in 120 days from the date of prospects.
Simple Interest: It is the interest paid only on the principal amount borrowed. No
interest is paid on the interest accured during the term of the loan.
Compound Interest: It means that, the interest will include interest caliculated
on interest.
Time Value of Money: Money has time value. A rupee today is more valuable
than a rupee a year hence. The relation between value of a rupee today and
value of a rupee in future is known as “Time Value of Money”.
NAV: Net Asset Value of the fund is the cumulative market value of the fund net
of its liabilities. NAV per unit is simply the net value of assets divided by the
number of units out standing. Buying and Selling into funds is done on the basis
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of NAV related prices. The NAV of a mutual fund are required to be published in
news papers. The NAV of an open end scheme should be disclosed ona daily
basis and the NAV of a closed end scheme should be disclosed atleast on a
weekly basis.
Financial markets: The financial markets can broadly be divided into money and
capital market.
Money Market: Money market is a market for debt securities that pay off
in the short term usually less than one year, for example the market for 90-
days treasury bills. This market encompasses the trading and issuance of
short term non equity debt instruments including treasury bills, commercial
papers, banker’s acceptance, certificates of deposits, etc.
Capital Market: Capital market is a market for long-term debt and equity
shares. In this market, the capital funds comprising of both equity and debt
are issued and traded. This also includes private placement sources of
debt and equity as well as organized markets like stock exchanges.
Capital market can be further divided into primary and secondary markets.
Primary Market: It provides the channel for sale of new securities. Primary
Market provides opportunity to issuers of securities; Government as well as
corporate, to raise resources to meet their requirements of investment and/or
discharge some obligation.
Secondary Market: It refers to a market where securities are traded after being
initially offered to the public in the primary market and/or listed on the stock
exchange. Majority of the trading is done in the secondary market. It comprises
of equity markets and the debt markets.
Difference between the primary market and the secondary market: In the
primary market, securities are offered to public for subscription for the purpose of
raising capital or fund. Secondary market is an equity trading avenue in which
already existing/pre- issued securities are traded amongst investors. Secondary
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market could be either auction or dealer market. While stock exchange is the part
of an auction market, Over-the-Counter (OTC) is a part of the dealer market.
SEBI and its role: The SEBI is the regulatory authority established under
Section 3 of SEBI Act 1992 to protect the interests of the investors in securities
and to promote the development of, and to regulate, the securities market and for
matters connected therewith and incidental thereto.
Book Building Process: It is basically a process used in IPOs for efficient price
discovery. It is a mechanism where, during the period for which the IPO is open,
bids are collected from investors at various prices, which are above or equal to
the floor price. The offer price is determined after the bid closing date.
Cut off Price: In Book building issue, the issuer is required to indicate either the
price band or a floor price in the red herring prospectus. The actual discovered
issue price can be any price in the price band or any price above the floor price.
This issue price is called “Cut off price”. This is decided by the issuer and LM
after considering the book and investors’ appetite for the stock. SEBI (DIP)
guidelines permit only retail individual investors to have an option of applying at
cut off price.
Penny Stock: Penny stocks are any stock that trades at very low prices, but
subject to extremely high risk.
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For example, In US companies with market capitalization between $10 billion and
$20 billion, and in the Indian context companies market capitalization of above
Rs. 1000 crore are considered large caps.
Mid Cap: Companies having a mid sized market capitalization, for example, In
US companies with market capitalization between $2 billion and $10 billion, and
in the Indian context companies market capitalization between Rs. 500 crore to
Rs. 1000 crore are considered mid caps.
Small Cap: Refers to stocks with a relatively small market capitalization, i.e.
lessthan $2 billion in US or lessthan Rs.500 crore in India.
Consolidated Balance Sheet: It is the b/s of the holding company and its
subsidiary company taken together.
IPO: First time when a company announces its shares to the public is called as
an IPO. (Intial Public Offer)
Rights Issue (RI): It is when a listed company which proposes to issue fresh
securities to its shareholders as on a record date. The rights are normally offered
in a particular ratio to the number of securities held prior to the issue.
Index: An index shows how specified portfolios of share prices are moving in
order to give an indication of market trends. It is a basket of securities and the
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average price movement of the basket of securities indicates the index
movement, whether upward or downwards.
Bull and Bear Market: Bull market is where the prices go up and Bear market
where the prices come down.
Exchange Rate: It is a rate at which the currencies are bought and sold.
FOREX: The Foreign Exchange Market is the place where currencies are traded.
The overall FOREX markets is the largest, most liquid market in the world with an
average traded value that exceeds $ 1.9 trillion per day and includes all of the
currencies in the world.It is open 24 hours a day, five days a week.
Mutual Fund: A mutual fund is a pool of money, collected from investors, and
invested according to certain investment objectives.
Back-End Load: A kind of sales charge incurred when investors redeem or sell
shares of a fund.
Front-End Load: A kind of sales charge that is paid before any amount gets
invested into the mutual fund.
Off Shore Funds: The funds setup abroad to channalise foreign investment in
the domestic capital markets.
Under Writer: The organization that acts as the distributor of mutual funds share
to broker or dealers and investors.
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Bid (or Redemption) Price: In newspaper listings, the pre-share price that a
fund will pay its shareholders when they sell back shares of a fund, usually the
same as the net asset value of the fund.
A close-ended fund or scheme has a stipulated maturity period e.g. 5-7 years.
The fund is open for subscription only during a specified period at the time of
launch of the scheme. Investors can invest in the scheme at the time of the initial
public issue and thereafter they can buy or sell the units of the scheme on the
stock exchanges where the units are listed. In order to provide an exit route to
the investors, some close-ended funds give an option of selling back the units to
the mutual fund through periodic repurchase at NAV related prices. SEBI
Regulations stipulate that at least one of the two exit routes is provided to the
investor i.e. either repurchase facility or through listing on stock exchanges.
These mutual funds schemes disclose NAV generally on weekly basis.
The aim of growth funds is to provide capital appreciation over the medium to
long- term. Such schemes normally invest a major part of their corpus in equities.
Such funds have comparatively high risks. These schemes provide different
options to the investors like dividend option, capital appreciation, etc. and the
investors may choose an option depending on their preferences. The investors
must indicate the option in the application form. The mutual funds also allow the
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investors to change the options at a later date. Growth schemes are good for
investors having a long-term outlook seeking appreciation over a period of time.
The aim of income funds is to provide regular and steady income to investors.
Such schemes generally invest in fixed income securities such as bonds,
corporate debentures, Government securities and money market instruments.
Such funds are less risky compared to equity schemes. These funds are not
affected because of fluctuations in equity markets. However, opportunities of
capital appreciation are also limited in such funds. The NAVs of such funds are
affected because of change in interest rates in the country. If the interest rates
fall, NAVs of such funds are likely to increase in the short run and vice versa.
However, long term investors may not bother about these fluctuations.
Balanced Fund
The aim of balanced funds is to provide both growth and regular income as such
schemes invest both in equities and fixed income securities in the proportion
indicated in their offer documents. These are appropriate for investors looking for
moderate growth. They generally invest 40-60% in equity and debt instruments.
These funds are also affected because of fluctuations in share prices in the stock
markets. However, NAVs of such funds are likely to be less volatile compared to
pure equity funds.
These funds are also income funds and their aim is to provide easy liquidity,
preservation of capital and moderate income. These schemes invest exclusively
in safer short-term instruments such as treasury bills, certificates of deposit,
commercial paper and inter-bank call money, government securities, etc. Returns
on these schemes fluctuate much less compared to other funds. These funds are
appropriate for corporate and individual investors as a means to park their
surplus funds for short periods.
Gilt Fund
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Index Funds
Index Funds replicate the portfolio of a particular index such as the BSE
Sensitive index, S&P NSE 50 index (Nifty), etc these schemes invest in the
securities in the same weightage comprising of an index. NAVs of such schemes
would rise or fall in accordance with the rise or fall in the index, though not
exactly by the same percentage due to some factors known as "tracking error" in
technical terms. Necessary disclosures in this regard are made in the offer
document of the mutual fund scheme.
There are also exchange traded index funds launched by the mutual funds which
are traded on the stock exchanges.
Earning per share (EPS): It is a financial ratio that gives the information
regarding earing available to each equity share. It is very important financial ratio
for assessing the state of market price of share. The EPS statement is applicable
to the enterprise whose equity shares are listed in stock exchange.
Types of EPS:
EPS Statement :
Sales ****
Contribution ***
EBIT *****
EBT ****
Earnimgs ****
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Less: preference dividend ****
The higher the EPS, the better is the performance of the company.
Funds Flow Statement: Fund means the net working capital. Funds flow
statement is a statement which lists first all the sources of funds and then all the
applications of funds that have taken place in a business enterprise during the
particular period of time for which the statement has been prepared. The
statement finally shows the net increase or net decrease in the working capital
that has taken place over the period of time.
Float: The difference between the available balance and the ledger balance is
referred to as the float.
Collection Float: The amount of cheque deposited by the firm in the bank but
not cleared.
Payment Float: The amount of cheques issued by the firm but not paid for by
the bank.
Operating Cycle: The operating cycle of a firm begins with the acquisition of raw
material and ends with the collection of receivables.
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Marginal Costing:
In Units = Fixed Cost / Contribution OR Fixed Cost / (SalesPrice per Unit – V.C
per Unit)
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= FixedCost+ DesiredProfit / PV ratio (OR) Contribution / PV Ratio
RATIOANALYSIS
TYPES OF RATIOS
Liquidity ratio
Activity ratio
Leverage ratio
profitability ratio
1. Liquidity ratio: These are ratios which measure the short term financial
position of a firm.
Current assets
Current liabilities
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ii. Quick or Acid test Ratio: It tells about the firm’s liquidity position. It is a fairly
stringent measure of liquidity.
A.L.A/C.L
These ratios measure the efficiency or effectiveness of the firm in managing its
resources or assets
Fixed Assets Turnover Ratio: A high fixed asset turn over ratio indicates
better utilization of the firm fixed assets. A ratio of around 5 is considered
ideal.
Working Capital Turnover Ratio: A high working capital turn over ratio
indicates efficiency utilization of the firm’s funds.
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=CGS/Working Capital
=W.C=C.A – C.L.
3. Leverage Ratio: These ratios are mainly calculated to know the long term
solvency position of the company.
Debt Equity Ratio: The debt-equity ratio shows the relative contributions of
creditors and owners.
Fixed Assets to net worth Ratio: This ratio indicates the mode of financing
the fixed assets. The ideal ratio is 0.67
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Return on Proprietors Fund / Earning Ratio: Earn on Net Worth
=Net Profit after tax and Dividend / Proprietors fund or Paid up equity Capital
= EPS / MPS
EPS= Net Profit (After tax and Interest) / No. Of Outstanding Shares.
Dividend pay-out ratio: It is the ratio of dividend per share to earning per
share.
= DPS / EPS
DPS: It is the amount of the dividend payable to the holder of one equity share.
=Dividend paid to ordinary shareholders / No. of ordinary shares
C.G.S=Sales- G.P
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Net profit ratio=Net Profit/ Net Sales*100
Interest Coverage Ratio= Net Profit (Before Tax & Interest) / Fixed Interest
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EBIT/Capital employed.
The return on capital employed should be more than the cost of capital
employed.
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