By: David Hogan and Andre Oliveira
Reproduced with permission from Tax Management International Journal, 47 TM International Journal 189, 3/9/18 - 2018 by The Bureau of National Affairs, Inc. (800-372-1033) http://www.bna.com
Even before the decision is revealed, one fact is abundantly clear in the Cameco case: this $2.2 billion dispute will shake, and possibly reshape, Canada’s tax and transfer pricing landscape. The magnitude of the issues discussed has been profound and, it’s safe to say, will have a big impact on Canadian tax and transfer pricing planning and compliance going forward. Both taxpayers and the Canada Revenue Agency (“CRA’s”) will undoubtedly use the decisions and lessons from this case as a critical reference source in future interactions and disputes.
Why is this case so relevant? The stakes are undoubtedly very high: the case cuts to the heart of the ever recurring debate about form versus substance and, regardless of the final outcome, it will likely have serious implications for multinational companies doing business in Canada or Canadian companies operating in multiple jurisdictions. Below we describe the main substantive issues, taking into account the concluding remarks made by lawyers for both Cameco and the Crown (representing CRA’s views) in the last days of the trial at the Tax Court of Canada (TCC) on September 11, 12, and 13, 2017. Following that we factually summarize the arguments pleaded by both parties.
THE SUBSTANTIVE ISSUES
The CRA disputed Cameco’s corporate structure, specifically the reorganization that took place in 1999, along with the transfer pricing method used for intercompany uranium sale and purchase agreements with its Swiss subsidiary, Cameco Europe Ltd. (“SwissCo”). At question is whether Cameco used SwissCo to avoid tax by shifting profits from Canada to Switzerland, a low-tax jurisdiction. Cameco maintains that SwissCo was carrying on the business of buying and selling uranium, and that establishing SwissCo was a legal and sound business practice.
The opening remarks for the transfer pricing dispute between Cameco Corp. (“Cameco”) and the CRA were heard in early October 2016. After 65 days of trial, both parties delivered their closing arguments in September 2017.
We will continue to follow this case and will publish our analyses of the TCC’s decision once such a decision becomes available.
The concluding remarks were made before the TCC in September 2017, and a decision by the court is expected approximately six to 18 months from this date. Notwithstanding that the case is still in dispute, it is possible to foresee its impact on Canadian taxation, as evidenced by the following.
Tax Planning in Canada Is Entirely Legal
Tax planning is permitted in Canada as the Crown reaffirmed in its positions during the trial. Canadian taxpayers are allowed to plan their tax affairs in order to minimize their tax bill, as long as their planning and implementation do not violate the legislation in force.
‘Form vs. Substance’ Dilemma: Case Outcome Will Tip Argument
Taxpayers and CRA auditors will reference this case in tax and transfer pricing audits in Canada as a classic example of the “form versus substance” dilemma. Certainly, the dilemma arises in practice whenever there is some suspicion or debate that the form (legal agreements, legal documents, invoices and other paperwork) is not consistent with the substance (facts). This case will certainly generate very important messages and set precedents in this respect.
There is a fierce dispute between Cameco and the Crown as to whether the legal documentation put in place by Cameco in fact represented the actual role and activities of the parties involved in the transactions. We will not express an opinion on whether Cameco’s documentation corresponded to the reality of the transactions, simply because only the parties involved have all the facts and documents relevant. Rather, we focus on the possible impact of the case on the behavior of the Canadian taxpayers and the CRA’s auditors.
In this sense, assuming that Cameco “wins” the case, the “form” argument prevails, setting a precedent whereby it will likely be easier for Canadian taxpayers to rely on legal documentation and paperwork to support their positions in future disputes with the CRA’s auditors. This legal documentation may include, for example, intercompany agreements, invoices, correspondence (e.g., emails), legal existence of entities and legal governance bodies (e.g., board of directors). Thus, if Cameco wins, in cases where the substance is debatable, but the legal documentation is in place and well prepared, the taxpayer will be able to refer to Cameco to challenge the CRA auditor’s intention to scrutinize what is “beyond” the appearance of the legal documents.
In other words, a win by Cameco may give Canadian taxpayers an important tool to argue that the CRA auditors must respect the form of their transactions and should not attempt to look beyond the written documents in order to develop a version of the facts that may contradict the formal documents.
A Cameco win may also signal to taxpayers that legal documentation and paperwork can provide substantial protection against the CRA’s challenges under the scenarios of a CRA audit.
On the other hand, assuming that the Crown/CRA “wins,” CRA auditors may view this case as a victory of the “substance,” and they may become more inclined to disregard provisions in intercompany agreements, other legal documents, and paperwork when they are seeking a certain audit result. The Cameco precedent may provide CRA auditors with support for an audit based on unveiling facts that are beyond the legal documents. This is certainly a worrying scenario, as it may open the door for CRA auditors to more easily challenge the transactions as described and seen by the taxpayers.
A win by the Crown/CRA would also signal to taxpayers that legal documentation and paperwork may not provide much protection against the CRA’s positions during an audit.
The Sham Doctrine: Further Court Precedent
Various court cases in Canada have dealt with the sham doctrine: e.g., Stubart Investments Ltd. v. The Queen, Dimane Enterprises Ltd. v. The Queen, and Continental Bank Leasing Corp. v. Canada. These cases were referenced in detail by the Crown during the trial and closing remarks, while Cameco’s lawyers made references to Stubart. The current Cameco case will likely set a significant precedent on the sham doctrine that will serve CRA, tax practitioners, and taxpayers, particularly with respect to analyses of tax planning structures.
Recharacterization Rules Under ‘the Act’: New Precedent
The Crown argued the case on three grounds: the sham doctrine, the recharacterization provisions in paragraphs 247(2)(b) and (d) of the Canadian Income Tax Act (“the Act”) and the traditional transfer pricing adjustment provisions in Act ¶247(2)(a) and (c).
With respect to recharacterization, hitherto there is no relevant court case decision in Canada. Should the TCC address this provision of the ITA in its decision, the taxpayers, practitioners and CRA will have a very important source of reference to assess whether a transaction may be subject to recharacterization.
Richter LLP recently obtained data from the CRA’s Transfer Pricing Review Committee (TPRC) including the number of recharacterization referrals that were made by CRA auditors on an annual basis from January 2012 to April 2017. The total number of referrals was 39 and the average annual number was seven (excluding the 2017 partial year). CRA policy requires that its auditors obtain authorization from the TPRC in order to proceed with reassessments based on the recharacterization provisions of the Act.
The TPRC figures also indicate the number of transfer pricing cases referred to it for application of penalties as a result of adjustments to the pricing of the transactions under ¶247(2)(a) and (c). From January 2012 to April 2017, the total number of transfer pricing referrals by CRA auditors was 325, and the average was 60 per year.
This data demonstrates that, although recharacterization cases are much less common than cases involving purely adjustments to the pricing of the transaction (under ¶247(2)(a) and (c)), recharacterization has been on the radar of CRA auditors for use on a select number of cases. How then will the Cameco decision impact the behavior of CRA auditors with respect to potential recharacterization situations? Will they be more inclined to propose recharacterization should the judge confirm its application to the Cameco transactions? It is indeed likely that the use of recharacterization by the TCC in its decision will make it easier for CRA auditors to argue that intercompany transactions as structured by the taxpayer can be redesigned under a CRA audit, in order for the transaction to be consistent with CRA’s interpretation of the substance (facts).
Corporate Governance and Executive Responsibility: Potential Repercussions
Another aspect of the case is that it raises once more the important issue of corporate responsibility of executives and directors and the risks of legal actions that may be imposed on these individuals. It also raises the question of whether legal actions might be taken by Cameco shareholders against certain Cameco directors or employees, depending on the results of this case.
Corporate directors have specific fiduciary duties. These can be divided primarily into two categories:
- A fiduciary duty where directors must act honestly and in good faith and put the interests of the corporation above their own or other particular interests.
- A duty of care where directors must exercise their powers with diligence and skills like a reasonable person would do in comparable circumstances.
Shareholders place their trust and confidence in the directors to manage and protect their interests. In Cameco, the Crown is presenting to the court a case where the company, and certain employees of the company, engaged in “creating paperwork to delude the CRA.” According to Cameco’s lawyers, the Crown is painting an image showcasing SwissCo as a façade and where employees engaged in a systemic and deceitful destruction of documents. These are very serious allegations, and if the Crown prevails in its arguments, then it would likely motivate legal actions by shareholders against directors or employees for damages arising from the breach of their fiduciary and legal duties.
Substantive issues: Who Has the Advantage?
The final decisions and results of this case are difficult to predict. This case is being litigated before a court of justice where each side presented their positions supported by their findings and evidence. It is therefore normal that both Cameco and the Crown are confident that their positions will prevail.
On one hand, Cameco may convince the judge that the Crown did not present sufficient evidence that would allow him to apply the sham doctrine or the recharacterization provisions of the Act and, in addition, did not review properly the intercompany pricing established by the taxpayer for the intercompany transactions under review.
On the other hand, the Crown may convince the judge that SwissCo had only minimal presence in Switzerland and played only a minimal role in the transactions undertaken, which would then have been carried out in fact by Cameco Canada. In this case, the judge may accept the sham doctrine, the recharacterization provisions, or the thesis that SwissCo should only have a negligible amount of profits.
There are reasonable arguments being presented by both sides and a significant amount of documents and testimonies were reviewed.
Cameco argued in the concluding remarks that the Crown has the onus of proof and it has not proved during the trial that there was a sham (therefore, the sham doctrine should not apply) or that Cameco Canada would not have entered in this transaction if operating at arm’s length with SwissCo (therefore, the recharacterization should not apply). The onus of proof in this case is in fact a significant hurdle that the Crown has to overcome, as both a finding of a sham transaction and justification for recharacterization require strong evidence and only in extreme cases are they argued by tax authorities.
Moreover, Canadian law generally, including Canadian tax law, respects legal form and legal substance over economic results. However, Canadian transfer pricing legislation recognizes the importance of economic substance. This implies that the actual legal consequences that arise from a contract or a transaction take precedence over the mere labels or terminology used in it. If the legal form is different from the legal substance and there is an intention of deceit, there is a sham. However, it is the legal substance that is referred here, not the economic substance.
For example, in Shell Canada Ltd. v. Her Majesty the Queen,a leading case in the matter, the Supreme Court has definitely dismissed the use of the economic reality of a transaction. The Court categorically asserted that unless there is a sham or a specific provision in the Income Tax Act, the economic realities of a situation cannot be used to recharacterize a taxpayer’s bona fide legal relationships. 
The respect of the form over the economics of a transaction stems from a central principle in Canadian tax law that taxpayers are entitled to arrange their affairs so as to minimize tax liability. Therefore, as long as the legal form is not deceitful (i.e., the legal effects of a transaction are the same that its form suggests), a transaction will usually not be recharacterized for purposes of the tax law.
Should the judge accept Cameco’s arguments that the sham doctrine and recharacterization cannot be applied, then the TCC will likely address the issue of whether the pricing of the sales from Cameco Canada to SwissCo were made at arm’s length terms and conditions (i.e., the 247(2)(a) and (c) issue). In this respect, he will then consider if the comparable uncontrolled prices (CUPs) presented by Cameco were reasonable, or if one should look at the overall profitability of SwissCo to determine what level of profit it should have had — which the Crown alleges should be zero or close to zero.
The two opposing parties have offered the judge their distinct solutions to the resolution of this conflict. While the Cameco lawyers have been attempting to limit the discussion to the intercompany pricing in the contracts, the Crown argues that the court needs to consider not only the specific pricing arrangements in the contracts, but also the functions, risks, and assets of each party involved in the series of transactions structured by the taxpayer.
The TCC decision remains anyone’s guess and, once rendered, it will address and respond to at least some of the arguments, positions, and evidence presented by Cameco and the Crown.
A summary of the Closing Arguments
Argument 1: Traditional Transfer Pricing Provisions in ¶247(2)(a) and (c)
What is an amount?
The first argument presented to the court is under the traditional transfer pricing provisions in Act ¶247(2)(a) and (c), which allow adjustments to the prices at which the intercompany transactions occurred.
Cameco lawyers argued that the real issue is whether the terms and conditions (which they relate closely to the “prices”) used in the intercompany sales between the related parties were made at arm’s length.
The initial disagreement between Cameco and the Crown is the interpretation of the word “amount” in ¶247(2)(a) of the Act. Cameco says that “amount” is equivalent to “price,” while the Crown considers that “amount” can be income or profit. Based on that interpretation, the Crown argued that it is possible to allocate profits under this provision, which was reinforced by their expert witnesses’ statements.
Cameco alleged that the Crown did not engage in the discussion about what the prices of the transactions should be, and whether the terms and conditions were at arm’s length. Cameco considers that the Crown cannot support a “pricing” case and therefore needed to include the sham doctrine and recharacterization as its primary allegations.
Price vs. Profit
In the initial assessments and proposal letters from CRA, Cameco did not see any indication as to what terms and conditions or arm’s-length prices the contracts should have had. In the CRA reassessment, Cameco saw only a profit shift from SwissCo to Cameco Canada. The Crown filed a reply stating that the Minister “assumed the terms and conditions were not arm’s length.” Cameco challenged that assumption in the courts, where two judges decided that the Crown needed to disclose the arm’s-length price if it wanted to proceed with a pricing case under ¶247(2)(a) and (c).
Cameco lawyers argued in the concluding remarks that since the Crown did not provide Cameco a price that would revise the original pricing of the transactions, there should be no adjustment to Cameco’s intercompany prices.
Argument 2: The Sham Doctrine
A classical definition of “sham,” used in the trial, is as follows: “acts done or documents executed by the parties to the sham which are intended by them to give to third parties or to the Court, the appearance of creating between the parties legal rights and obligations different from the actual legal rights and obligations, if any, which the parties intend to create.”
The Crown’s Position
The Crown claims that SwissCo did not operate a uranium buying and selling business but was an empty shell with the sole purpose of facilitating the transfer of profits from Canada to Switzerland.
The Crown asserts that all the documentation from Cameco relating to the activities of SwissCo was prepared only to mislead the Minister by creating the illusion that there was indeed a uranium trading business in Switzerland. Furthermore, the Crown claims that there was a systematic destruction of evidence and that the witnesses of Cameco during the trial were coached specifically to give the court the illusion, during the trial, that SwissCo operated a trading business.
This position of the Crown is supported by a set of facts which, according to the Crown, highlights the deceitful nature of SwissCo and confirms the presence of a sham by accentuating that the main functions of SwissCo were in fact exercised by Cameco Canada. The Crown alleges that SwissCo did not have the staff required to effectively carry out a business of buying and selling uranium. Additionally, it is not SwissCo, but Cameco, that made all the decisions about business strategies. Moreover, negotiations for the purchase and sale of uranium were carried out by Cameco and not SwissCo. The practical conduct of the parties here is complicated by the fact that these are, of course, related parties with a common ultimate board of directors and shared services.
In the analysis of a sham, the Crown asserts that it is necessary to determine what actually happened rather than what appears to have happened. The Crown advocates a comprehensive analysis based on the legal and economic substance of the facts, as stated and applied in the Stubart, Dimane, and Continental Bank court cases, and not just on the legal form.
According to the Crown, examining the documents alone is not sufficient to evaluate a sham, because the documents are how the sham was implemented. A broader approach is therefore necessary, considering that a sham is essentially an operation whose form aims to hide its real substance. The Crown argued that, in essence, to content oneself with only the documentation emanating from the parties prevents the external eye from invalidating what appears prima facie to be true, thus blocking any possibility that a sham may be discovered. In other words, the court should look beyond the documentation submitted during the trial. Again this is complicated in practice because, of course, these are related parties with a common ultimate board of directors and shared services.
Cameco held that the transactions to which SwissCo is a party were properly entered into by SwissCo. All of those contracts say what they mean and mean what they say — and they do not hide or disguise any other transactions. Therefore, there is no sham. Cameco maintains that SwissCo owned the uranium on which the profits were earned. As such, when they say there is no sham, they are saying that no other person and, in particular, Cameco Canada, has or had a legally enforceable claim to those profits.
As per Cameco, the Crown’s argument appears to be that the ownership of the uranium trading profits from SwissCo’s purchases and sales of uranium is somehow transformed into ownership of those same profits by Cameco Canada on three broad sets of grounds:
- Cameco Canada performed various functions in connection with the uranium trading business;
- Cameco Canada controlled, in some sense, SwissCo; and
- Following the 1999 restructuring of the Cameco Group, nothing had changed in the manner in which the trading business was carried on.
First, where the Crown argued that the profits from SwissCo’s purchase and sales of uranium should be taxed as the profits of Cameco Canada because of the valuable services provided by Cameco Canada to SwissCo, Cameco responded that the provision of such services by Cameco Canada to SwissCo does not alter the ownership of the uranium, the sale of which produced the profits, and, therefore, does not alter the ownership of the profits. Cameco added that what the Crown characterizes as valuable functions contributing to the profitability of SwissCo are activities that were provided for under the services agreement between the two companies and are consistent with the role of Cameco Canada as the controlling parent of SwissCo and, indeed, of the Cameco Group as a whole.
Second, where the Crown argued that what was concealed behind SwissCo’s contracts was the fact that Cameco Canada was “in control” — meaning essentially that it directed SwissCo as to what contracts to sign — Cameco responded that the fact that Cameco Canada was to a certain extent in control of SwissCo’s affairs cannot establish, as a matter of law, that Cameco Canada was buying and selling uranium and SwissCo was not doing so. Cameco added that there is no legal principle by which a person acquires a legally enforceable claim to the profits of another person merely by exercising control over that other person. Further, Cameco Canada was, of course, the controlling shareholder of SwissCo and of the entire Cameco Group and the degree of control and influence which Cameco Canada exercised reflects a commercially normal relationship between a parent corporation and its subsidiary.
Last was Cameco’s response where the Crown said that nothing changed as a result of the 1999 restructuring of the Cameco Group — the Crown’s sham argument being, in effect, that every step in the implementation of the 1999 reorganization and every subsequent transaction were intended to deceive the Minister into believing that the business of buying and selling uranium was carried on by SwissCo when, in fact, it was being carried on by Cameco Canada. Cameco responded that the legal rights and relationships between Cameco Canada, SwissCo, and Cameco U.S. changed or, in some instances, were altogether new. In supporting its position, Cameco made reference to selected Supreme Court cases, including Stubart and Cameron.
In Stubart, the same company, Stubart, sold its business to Grover and then entered into an agreement with Grover to run the business as Grover’s agent. After the sale, Stubart performed exactly the same functions that it performed when it was the owner/operator of the business prior to the sale.
In Cameron, Campbell’s employees performed precisely the same activities before and after a reorganization that established a new company (“Independent”) to provide these activities to Campbell.
Cameco held that what changed in each of those cases was the legal rights and relationships between the parties; and the Supreme Court of Canada confirmed, in both cases, that the incidence of taxation was to be determined based on the post-transaction legal rights and relationships. Further, Cameco added that in Stubart, Cameron, and the present case, there were substantive changes to the legal rights and relationships of the parties, and those changes made all the difference according to the Supreme Court of Canada.
Cameco claimed that the Crown was, in all of these instances, attempting to resuscitate the notion that taxation is based on economic substance rather than legal rights and relationships.
Further, Cameco asserted that the Crown did not succeed in discharging its onus of proving a sham and did not prove the element of deceit that is at the heart of the Crown’s sham allegation, or any sham allegation. Cameco also alleged that the Crown is taking the most innocent facts and spinning them into untruths.
Argument 3: Recharacterization Under ¶247(2)(b) and (d)
The Crown continues to rely on ¶247(2)(b) and (d) to recharacterize the transactions between Cameco Canada and SwissCo. The Crown maintains that the uranium transactions between the two entities occurred for the sole purposes of reducing the group’s tax burden, and would not have occurred if the two parties were dealing at arm’s length.
To support its position, the Crown argued that the transactions were commercially unreasonable. This unreasonableness arises from the fact that Cameco sold its uranium to SwissCo at a fixed price, when uranium prices were low, with no possibility of renegotiation. As a result of this transaction, significant profits for SwissCo were realized in Switzerland and correspondingly significant losses were realized for Cameco Canada, whose mining costs were not offset by the proceeds from the sales of uranium. Further, these transactions were in direct conflict with Cameco’s internal policies regarding third-party transactions.
In addition, the Crown stated that the incorporation of SwissCo to act as intermediary between Cameco Canada and the final purchasers is not commercially justifiable because, according to several experts, companies of the same type do not use intermediaries to sell products such as uranium.
In response to these statements, Cameco presented expert witnesses that confirmed that the contracts in question are normal contracts. Additionally, these witnesses provided examples that producers in fact enter into transactions to transfer the price risk associated with commodities that they produce by locking in sales at fixed or base-escalated prices, even in a rising market.
Further, Cameco argued that the Crown did not provide any basis to conclude that arm’s-length parties would not have entered into the transactions in question. In addition, Cameco stated that the Crown is basically arguing that in the real world, mining companies keep the price risks, and they do not transfer these risks, which in Cameco’s view is not consistent with industry practices.
Cameco argued that the right question to ask to assess whether ¶247(2)(b) applies in this case is the following: “Is this the type of generic, commercially normal transaction that happens in that industry?” Cameco asserts that the transaction was commercially acceptable within the industry.
* * *
Cameco is a precedent-setting case that involves a shift of $7 billion of additional profit to Cameco Canada resulting in tax reassessments of over $2.2 billion in Canada. It is a very significant tax bill, and each party in the case is presenting and approaching its arguments from a completely distinct perspective.
During the trial, Cameco and the Crown presented documentation, evidence, and arguments that confirmed and expanded their opening positions. In their concluding remarks, both parties elaborated further on their arguments in order to convince the TCC of the merits of their conflicting positions.
The case will likely become a critical source of reference for the application or not of the sham doctrine, for the very important transfer pricing recharacterization provisions under ¶247(2)(b) and (d), and for any tax discussions that involve the “form vs. substance” dilemma.
In addition, this case will likely have a profound impact on the future of tax planning as well as on tax and transfer pricing audits in Canada. For example, it could possibly impact the perception and behavior of tax practitioners and CRA auditors in respect of their assessments of the opportunities and risks related to current or planned transactions and structures.
A decision by the TCC is expected in the next two to 14 months. We will be following this decision and subsequent developments closely, and will publish our commentary once the decision becomes available.
 A more detailed overview of the case can be found in our article, Cameco Trial: Opening Remarks Raise Fundamental Issues in $2.2B Case That Could Transform Transfer Pricing, Bloomberg Tax, 25 Transfer Pricing Rep. 899 (Dec. 8, 2016) at https://www.richter.ca/News-and-Media/News-and-Insights/Cameco-Trial-Opening-Remarks-Raise-Fundamental-Issues.
 See David Hogan and Andre Oliveira, Cameco Trial: Opening Remarks Raise Fundamental Issues in $2.2B Case That Could Transform Transfer Pricing, Bloomberg Tax, 25 Transfer Pricing Rep. 899 (Dec. 8, 2016) at https://www.richter.ca/News-and-Media/News-and-Insights/Cameco-Trial-Opening-Remarks-Raise-Fundamental-Issues.
 Stubart Invs. Ltd. v The Queen,  1 SCR 536.
 Dimane Enters. Ltd. v. The Queen, 2014 TCC 334.
 Cont’l Bank Leasing Corp. v. Canada,  2 SCR 298.
 For a discussion of the disputes between shareholders and directors of a company and the fiduciary duties of directors, see David Hogan and Andre Oliveira, Lessons from Canada’s Silver Wheaton Case: When Corporate Directors Are Sued for Transfer Pricing Transgressions, 24 Transfer Pricing Rep. 919 (Nov. 12, 2015) at https://www.richter.ca/News-and-Media/Publications-and-Resources/Landmark-class-action-Transfer-Pricing”.
 See, e.g., the Supreme Court of Canada’s judgment in BCE Inc. v. 1976 Debentureholders, 2008 SCC 69, 3 SCR 560.
 For examples of legislation that hold directors personally liable for their actions, see Karen J. Cooper, Avoiding Director’s Liability in Troubled Economic Times, Charity Law Bulletin 162 (2009), available at http://www.carters.ca/pub/bulletin/charity/2009/ chylb162.htm.
 Cont’l Bank of Canada et al. v. The Queen, 94 DTC 1858, at 1869 and 1871;  1 CTC 2135, at 2153 ( TCC); upheld 98 DTC 6505;  4 CTC 119 (SCC).
 Shell Canada Ltd. v. The Queen,  3 SCR 622;  4 CTC 313.
 Id., at ¶39.
 Inland Revenue Comm’rs v. Westminster (Duke),  AC 1, at 19 (HL).
 Snook v. London and West Riding Invs. Ltd.,  2 W.L.R. 1020 at 1030,  1 All E.R. 518 (C.A.).
 M.N.R. v. Cameron,  S.C.R. 1062,  C.T.C. 380, 72 D.T.C. 6325.
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