Category Archives: S.E.C.

Gimme A Break!

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It almost seems a long time ago, but November and December had a great series of holidays that, for some, were leveraged into a week or two of time off. From the conversations that I have had with strangers in elevators, not a single person wished they could have just stayed in the office and worked. The only gripe was the weather (for those of us in the Northeast). Everyone needs time off to recharge and those who tell us otherwise are lying to themselves or to us.

However, for those bosses who don’t care about whether or not their workers are worn out, just as long as they show up, there is a reason to give time off that benefits them – security. You would not believe how many stories I have come across, of fraud perpetrated by employees who rarely took time off and , if they did, it was only ever for a couple of days at a time. The bosses loved them because they were so diligent and always there when anything was needed. It also turned out that these same employees were diligently stealing from their employers. because they were always in the office, they were able to make sure that people didn’t poke around in their work too much. Because they were always in, they were able to steer people away if anyone seemed to be getting close to discovering their scheme. Because they were always the face in the office, they were able to gain the trust of their employers. In this way, they were able to keep watch over their fraud schemes and keep them going on for a long time. I have lost count of the number of times I have heard about how shocked people were when a fraudster was exposed because of how diligent and ever-present that person was.

In theory, it is an admirable thing to have a worker who so loves coming into work that they won’t even take paid time off. However, when you think about it, why wouldn’t someone want to take time off that they are being paid to take? I don’t know about you but I do not have conversations where employees go on about how much they prefer being at work over spending time with loved ones, how much they love their daily commute and wouldn’t trade it for anything, or how they wish that weekends and days off would be abolished so they could spend more time at work. With this in mind, employees who do not want to take time off should be viewed with skepticism.

It is important that employers take advantage of the time off given, in order to perform fraud prevention and detection activities. This is mostly achieved by having another employee do the work of the vacationing employee. This is particularly important if the employee has a financial role or access to assets. A few examples of tasks that should be performed in an employee’s absence are:

  • reconciling the bank accounts;
  • receiving and opening mail, especially correspondence from banks and vendors
  • receiving and processing inventory;
  • disbursing checks.

Nobody likes to do someone else’s work, and that is a plus for a fraudster. But, doing someone else’s work has gotten many a fraudster caught (and often highlights errors and weaknesses). Bank reconciliations have been found to contain fictitious reconciling items. Checking the mail has revealed bank accounts that employees secretly opened and used to divert company funds for their own benefit. A check of vendor statements and payments has revealed payments being made to fake vendors. A lot of benefits are gained by employers when they give their workers time off and use that time to have their peers do the vacationers’ work. Several authorities, including the Federal Deposit Insurance Corporation (FDIC) and the SEC recommend that banks and investment advisors, among others, adopt mandatory two-week vacation policies as a safeguard against fraud. This is an approach that other types of businesses should also consider adopting. Several companies have adopted this policy of a two consecutive weeks off. This gives sufficient time to have other employees perform the tasks of their vacationing colleagues.

There is another benefit to having others do the work of their coworkers, either when that employee is on vacation or by rotating tasks. This is increases the number of employees with knowledge of processes, with all the peculiarities a company will have that are not in the company manuals. I recently read a piece on TheInnerAuditor website about the dangers and risks involved when knowledge is held by one individual in a company. Invariably that person’s work is never checked (who would know how to) and no one ever knows when this special person makes an error or, even worse, is committing fraud. In addition to this, should this person quit, retire or fall ill, the company will find that has no idea how to do certain things or even where to find the information required for the task. This is because it has been easier to rely on this one brain trust than to learn what the trust knows. And the brain trust enjoys the power and authority given to them because they are always the smartest person in the room. I have written before about how notes on systems and processes may not include every single piece of information. Having others cycle through tasks is the best way to be sure that others know how to perform the tasks and that more than one person knows what is going on.

So, bosses, go ahead, give your employees a break, a real break. They will be happier and likely more productive for it and it will benefit your company. it will improve your chances of detecting and deterring fraud and it will help prevent errors. Finally, it will make sure that you don’t have to depend on one person to keep the business running.

And, workers, tell your bosses to give you lots of time off and remind them to, please, have someone do your work while you’re away. Assure them that you are not doing this for yourself. No, this is part of you looking out for their business.

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Mmmm… Mmmm… Good!

ImageA few months ago, I voiced my opinion about how it would be great to have a forensic accountant as an option to run the Securities and Exchange Commission (SEC). I can’t deny it, it’s right here, written in Internet stone. The reason I spoke about it was that a new head of the SEC had just been announced and, yet again, it was a lawyer. I believed that having a CPA, credentialed in financial forensics, might shake things up or at least lead the SEC to think of new ways and methods to protect investors. I still believe that a qualified forensic accountant would make an excellent candidate, but it seems that, in the case of Mary Jo White, the new head of the SEC, I may have been haste in my criticisms.

When he nominated Mary Jo White to head the SEC, President Obama said, “You don’t want to mess with Mary Jo”. Apparently it wasn’t just talk. Mary Jo White has said, in an interview, “I think financial statement fraud has always been important to the SEC”, and that she has committed substantial resources to the detection and investigation of fraud in accounting and financial disclosures seems to back that statement. On 2 July, the SEC announced three new Division of Enforcement initiatives; the Financial Reporting and Audit Task Force (FRATF), the Microcap Fraud Task Force (MFTF) and the Center for Risk and Quantitative Analytics (CRQA). These are fancy sounding names, for sure, but what are they and why are they encouraging with respect to the SEC’s goals?

First, the FRATF’s focus is detecting and investigating fraudulent or improper financial reporting and engaging in enforcement actions related to accounting and disclosure fraud. The MFTF’s goal is to target abusive trading and fraudulent behavior in securities issues by microcap companies. Microcap means that the company’s market capitalization, which is the share price multiplied by the number of outstanding shares of that company, is between $50 and $300 million. This task force will pay particular attention to microcap companies that do not regularly issue public financial results, since the lack of regular publicly available reports means that potential investors have limited access to information about the company. This, in turn, increases the risk that the investors may be fed fraudulent information that they cannot sufficiently verify. Finally, the CRQA will, as its title suggests, specialize quantitative data and analytics. This is the high-tech innovation of the SEC. Here the SEC will work to identify risks and potential threats to investors, be a part, along with other agencies, of risk-based investigations and come up with ways to identify possible illegality. The CRQA will employ various data technologies to achieve this goal. Of course, the usefulness of quantitative data analytics is only as good as those who use it. There is a lot of data out there but you need to know how to work with it in order to get the information that you are looking for.

What is encouraging about the announcement of the initiatives is not only that the SEC has declared a focus on the proactive detection and investigation of possible fraud, it is also not just that the SEC is stepping up its use of technology and data analytics in its endeavors, it is in large part about the manpower that they say they are going to employ for these initiatives. The SEC has announced that they will include enforcement attorneys and accountants, which is a great idea. The successful pursuit of financial fraud requires the expertise of people who know the books and people who know the law. In particular, the collaboration of attorneys and forensic accountants can lead to a formidable fraud fighting force. Certified forensic CPAs not only understand financial records, they also know how to look for potential fraud in those financial records and this information must be of a standard suitable for a court of law. Working with attorneys, the forensic accountant can put together information and provide appropriate litigation services in cases that the SEC decides to pursue.

Yes, it is true; I did voice my dissenting opinion about the appointment of another in a long line of attorneys to head the SEC. I have not changed my mind that a well-credentialed forensic CPA would be a wonderful choice for this position. However, I do concede that it is apparent that Mary Jo White understands the importance of both legal and financial expertise when it comes to policing the financial markets. Vital roles are played by all parties in the investigation and prosecution of financial crime and in the protection of investors. So, as these initiatives go into action and work towards achieving their stated goals, I shall eat at least some of my words. As long as fewer parties are getting away with their financial misdeeds, I shall enjoy every mouthful.

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Nothing To See Here, Move Al… Wait!

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JPMorgan Chase has been in the news quite a bit lately. Just last week, two employees were charged in connection with the adventures of the London Whale (though the indicted former coworkers may be seeing him as more of a rat than a whale right now). On Sunday, I opened the paper to read about a bribery investigation that the SEC has launched. As I have discussed before, bribery of foreign public officials by US companies is illegal and it appears that the SEC is looking into whether this has happened with JPMorgan’s China business.

JPMorgan hired the children of officials of state-controlled companies. Hiring someone, even if their parents have very important jobs, is not wrong in and of itself. However, if it is found that these children were hired, not on the strength of their qualifications but, so that JPMorgan could get business with the companies that their parents worked at then JPMorgan may very well find itself in trouble. That JPMorgan hired these children and then received lucrative contracts from the companies where the fathers of these new employees were high-ranking officials raises red flags, so it is no surprise that the SEC is investigating the matter.

You can see here that bribery of government officials comes in various forms and is not always as straightforward as a bunch of cash in an envelope, slipped over to a congressman. Any actions taken to influence officials and gain unfair advantages in business dealings is likely to be considered a bribe. What has happened here as well is that the definition of a government official is not just a political government representative. In the case of nations, such as China, where a lot of large enterprises are state-controlled, officials at these enterprises are seen as government officials. This means that, where JPMorgan may have hired the child of a private enterprise and received lucrative deals without the SEC batting an eyelid, because the entities in question are governmental enterprises, the rules are different.

It is important to note a few things:

  • That the SEC is investigating this matter does not imply that these children were not qualified for the jobs that they held. In fact, this may not matter. If they were hired in order to get cushy deals that JPMorgan may not have received otherwise, then JPMorgan may face FCPA violation charges.
  • Right now the investigation is merely that – an investigation. The SEC has not accused JPMorgan of wrongdoing. What has happened is that they have noticed red flags – the hiring followed by the lucrative deals – and they are looking into this matter to ensure that laws were not broken.
  • That the SEC is investigating this matter is the way it should be. When red flags are raised, one should look into the matter and even if it is found that nothing of concern happened, it was not a wasted effort.  The knowledge that red flags will be investigated serves as a deterrent for some who consider breaking the law.

Some may be rolling their eyes about this story. The offspring of the very privileged – high ranking corporate officials or famous people – probably get hired because of who their parents are all the time. It’s like that person in the grocery story taking their very-full-of-way-more-than-10-items shopping cart into the express checkout lane. It’s not right but it doesn’t appear that it will ever stop. However, the story here is in the nuance –

  • We are dealing with state-controlled enterprises, not private companies here.
  • Because they are state-controlled, officials at these enterprises are considered public officials
  • Therefore, the FCPA makes it illegal for companies to give favors to these de facto public officials in exchange for sweet deals.

In the past, the Justice Department has not been aggressive about investigating these cases but things may be changing. So we shall just watch this case and see how JPMorgan fares and if hiring practices will become a focus of the SEC. Just because everyone is doing it, it doesn’t make it okay and, if it is illegal, you may just turn out to be the unlucky one the law decides to come after. Remember that when you have your cart with 20 items and you think about using the “10 Items or Less” lane.

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All Over This One

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In the United States, bribery of a public official is illegal. Public officials, on a state, local or national level, tend to hold a lot of power. It would not be right to allow those among us with deep pockets to use the contents of said pockets to get unfair benefits, such as no-bid contracts, tax breaks and “get out of jail free” passes. In 1977, the Foreign Corrupt Practices Act (FCPA) made it illegal for U.S. persons, companies and their subsidiaries to bribe foreign government officials. The FCPA was further amended in 1998 to apply to foreign people and companies whose payments pass through the United States. The FCPA also applies if a foreign party authorizes a bribe via an email that is stored on a server in the United States. It is a far-reaching law with two main provisions – an anti-bribery provision that is generally enforced by the U.S. Department of Justice (DOJ) and accounting and record-keeping provision that is generally enforced by the Securities and Exchange Commission (SEC).

A huge incentive to not violate the FCPA is the severity of the punishment. The criminal and civil fines for violating the FCPA apply to companies and individuals alike. Companies can be fined up to a maximum of twice the benefits sought by the bribe. For individuals, fines can be up to $5 million and 20 years in jail. Fines and jail time can apply for either the corrupt payment or violation of the books and records provision. In addition to the fines, companies may also receive sanctions such as the loss of export licenses and disqualification from U.S. government contracting. For example, in 2008, Siemens was fined more than $1.3 billion by the DOJ, the SEC and German regulators and, more recently, Walmart is under investigation for bribery of officials in Mexico, China and elsewhere.

To avoid the fines and jail time, individuals and firms must comply with both provisions of the FCPA. The first, bribery, seems straightforward but I shall go over it so we are clear.

  1. Do not make payments to public officials in order to get special favors. An officer at state-owned entity is also considered a public official. It is safest, and ethical, to not pay bribes to anyone. However, be mindful of the fact that bribes of public officials will get you into the most trouble.
  2. If you invite public officials on a trip to show off your business or to a conference, do not throw in extras, such as a trip to Disneyland for their family. Keep it all above-board and about business.
  3. “Gifts” such as watches that costs thousands of dollars or a suitcase of cash are taboo.
  4. Payments related to the political campaigns of foreign governments are also not allowed.

The accounting provisions are where the forensic accountant is very active, working for both the companies and for the DOJ and SEC. Corporations covered by the FCPA are required to make and maintain books and records that accurately and fairly reflect their transactions and to devise and keep a sufficient system of internal controls. This is so that government agencies inspecting the books and records of the corporation will be able to easily see that the corporation is in compliance with the anti-bribery laws. The controls are so that the employees of the corporation do have the opportunity to commit fraud or bribery. When companies and individuals are paying bribes to public officials, it is highly likely that they will try to hide these transactions in their ledgers so they are not immediately identifiable as illegal transactions.

Companies with international operations will often have a department that review the books and internal control systems to ensure that they are complying with FCPA provisions. From time to time, the company may call in a forensic accountant to perform an internal investigation. This may happen either because the company suspects that untoward behavior has occurred or as a periodic review of their books and systems.

The DOJ and SEC will also employ the services of forensic accountants when they investigate companies and individuals that they suspect of violating the FCPA. When cases like this happen, there will be forensic accountants working for both the government agencies and the entity being investigated. In addition to discovering whether or not bribery has occurred, the company and the government agencies seek to determine the extent of the violations and determine the value of the gains realized and, therefore, the fines and other penalties to be levied by the government and avoided by the corporation. These investigations can be very extensive and span several continents, depending on the size and reach of the corporation. Financial forensic experts are instrumental and very involved in these investigations, tracing payments and working diligently to find what the corporation has tried to hide both on and off its books.

Often, an element of a FCPA settlement is the appointment of a multi-year monitor. This happens after the investigation and is an area where forensic accountants can use their expertise to examine the company’s control environment and record-keeping and assess the progress the company has made toward compliance with the law.

In recent years, the DOJ and the SEC have become very aggressive about enforcing the FCPA. In addition to this, other nations have enacted their own anti-bribery laws; the U.K. Bribery Act of 2010 has been in force since July 2011 and criminalizes bribe payments to private individuals as well as government officials. Also, there is more and more international cooperation in the investigation and enforcement of this law. Through it all, the work and expertise of financial forensic experts are extensive and vital. A lot of big firm lawyers think of the FCPA when they think of forensic accountants. It is indeed one of the many places you will find the financial forensic expert.

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Hey, That’s My Stuff!

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I have written before about the fraud triangle and how the three elements, pressure, opportunity and rationalization, tend to be the factors that drive a person to commit fraud. Well, a few days ago, my husband and I were talking about Scott London and his insider trading charges. We began discussing the issues in relation to the fraud triangle – what was the pressure that he felt and how did he rationalize his actions? The opportunities for him to pass information on to his friend were, as far as he was concerned, quite plenty as he was operating outside of the system in which he worked and its established controls. However, he had not fully factored in the FBI and the SEC and their activities to attempt to thwart fraud.

My husband then said – but how do you really take away the opportunity? I don’t understand how you can really stop someone from trying to steal. That is true, however, you can put in safeguards to make it very difficult for the theft to occur, I responded. My husband, a photographer, is in the process of moving into a new studio space so I decided to use this as a way to explain my point.

Before moving his equipment and furniture into the space, my husband spent a lot of time thinking about the security in the building he is moving into. He walked around the premises, noting where the security office was located, in relation to his studio; he took a look at the various points of entry into the space and assessed how easy it would be for someone to gain unauthorized access; and he looked at the building and what security it came with. Armed with this information, he then sat down and made a plan. He researched alarm systems, door and window locks and various barriers to entry of his studio. Also, within his studio, he took steps to further secure his equipment with lock-boxes, storage containers and other measures. This, I told him, is how you attempt to take away the opportunity. He could have moved into the office spaces as is, without taking any steps to secure his space and its contents, but he did not. He took the time and energy to dissuade a potential intruder from entering his space. By making it as difficult has possible for someone to get into his space, he is working to break the triangle.

Controls to protect ones assets can be physical, as with the studio space, or procedural, as with an authorization process for processing checks in an accounts payable department. In both cases, they are very important when it comes to trying to break the fraud cycle and prevent theft, insider trading or whatever the crime of the day is.

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Who’s Toning the Top?

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This week, Scott London, a KPMG ex-partner was busted. It was the getting busted that resulted in him going from partner to ex-partner. It turns out that, for several years, Scott London had been passing on non-public information about at least two of his clients, Herbalife and Skechers, to a golfing buddy, Bryan Shaw. Shaw then used this information to make over a million dollars on the stock market. London was caught during an FBI sting that included a photo of him receiving a bag of money from Shaw in a parking lot. A parking lot. Straight out of the movies. It is a very interesting case that is still unfolding. We are learning a lot about how and what happened and perhaps we shall also learn why it happened. Why did this KPMG partner (at the time) decide to share confidential client information with his friend and take expensive gifts and cash, a fraction of his annual salary, for this information? Discovering the motivations will be interesting but right now, this case has me thinking about another issue.

This case brings up, to me, the issue of “the tone at the top”. This is the example that a company’s management sets that may affect how ethically employees may behave. As a CPA, forensic accountant and a former auditor, I know that ethics are a big part of our education and continuing education. The stress on ethics is part of why CPAs have been found to be the most trusted business professionals, according to surveys. In addition to the required ethics continuing education that credentialed forensic accountants, and CPAs, have to complete, laws and firm policies go a long way to trying to ensure that an accounting professional is objective and, in many cases, independent from his or her client. For example, audit firms practice partner rotation with their public company clients. This means that every five years public firms will have a new partner managing their audit. Also, forensic accountants, before accepting an assignment, will run a check to ensure that there is no conflict of interest. Even the appearance of a lack of independence can result in people not trusting their accountant, whether that accountant is performing an audit or forensic services.

There are many rules and regulations to try to maintain the integrity of the accounting profession but as partners are at the top of the totem pole, it is very important to know who is watching those at the top? What is being done to make sure that those at the top are not abusing their positions of power by compromising their ethics. The evidently casual way that Scott London shared confidential information with his golf buddy implies that he either did not believe that there would be significant consequences if he were caught or that he would not get caught at all. Although he took his actions outside of the control systems created by the audit firms which include the disclosure of investments to prevent a conflict of interests, there were the investigations by other agencies, the FBI in this case, that flagged Shaw’s suspicious trades. That is a comfort. Hopefully, as this case and story unfold we will have the full power of the law descend upon London for his insider trading. In addition to the charges being leveled against London by the FBI and the SEC, KPMG has stated that it will be bringing legal actions against London. It should be more than lip service. KPMG and other CPA firms must realize that how they deal with their most powerful and senior practitioners goes a long way to ensuring that they remain trusted and held in high esteem.

Granted, every profession will have bad apples – unscrupulous people who have little regard for the profession. When it comes to being a CPA, a license where members agree to practice according to very high standards, it is imperative that those who are caught violating the code of conduct and the law are dealt with strictly. Partners of the Big Four accounting firm are more in the spotlight than other accountants and it should be clear that a position of power does not exempt one from discipline – in fact, the position of power should mean that you are more disciplined.

Finally, according to the United States Golf Association, London has a handicap of 10 and Shaw’s handicap is 12. Generally, a lapse in honesty tends to extend beyond just one event. A person who is gaming one system is likely gaming others. It is probably a good idea to check on that handicap, though I doubt either of those two men will be playing golf any time soon (at least I hope they are too busy paying for their behavior to do so).

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Someone Was Listening In…

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Just a few days ago, I shared my thoughts with you about having a CPA, Certified in Financial Forensics (CFF), to head the Securities & Exchange Commission. Someone must have been listening in because the SEC recently announced that its new Inspector General is a CFF. It is not quite a commissioner, but it is a step in a great direction. The SEC’s Office of Inspector General (OIG) is an independent office set up to audit and investigate fraud, waste and abuse within the SEC. It is all rather meta – this is the office that polices the securities police. In the appointment of Mr Hoecker to head the SEC’s Office of Inspector General is the perfect opportunity to demonstrate the strengths of the CPA Forensic Accountant. The SEC’s Office of Inspector General has recently been the rocked scandal and is being sued, so it is in desperate need of a truly independent leader who is skilled and experienced in the investigation of fraud and who knows the ins and outs of objective and independent audits. Today a CFF policing the police, tomorrow… watch this space.

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Option C for SEC?

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President Obama recently announced that the new new head of the Securities and Exchange Commission, more popularly known as the SEC, will be Mary Jo White. Basically, the SEC’s job is to police the markets. This work involves enforcing regulations that are meant to help protect investors. Mary Jo White is a very well-known prosecutor who, among her many accolades, was the first female United States attorney. In articles that I read, reservations were expressed about her lack of specialized knowledge of all things Wall Street. Hmm… Lack of specialized financial knowledge, huh? With an idea sparking in a corner of my brain, I looked into other SEC commissioners to see what they were all about. Since the sources that expressed doubts about Mary Jo White also stated that regulatory heads normally were market experts or academics, I expected to find a somewhat diverse mix of financial wonks as SEC commissioners. However, every last one is a lawyer. Granted the lawyers have extensive experience in the world of securities, but they are all lawyers.

The spark warming up a bit, I dug around to see if there is a rule that SEC commissioners must be lawyers and I found nothing. Joseph Kennedy, the first chairman of the SEC was many things but not a lawyer. Despite this, as time has gone by, it seems to have become the standard that commissioners of the SEC be lawyers.

So, with my basic questions answered, I have a suggestion. How about a forensic accountant as commissioner of the SEC? In a forensic accountant, you have someone with an understanding both of finance and legal systems. The work of the SEC includes regulating financial disclosures, issuing and enforcing regulations with the goal of protecting investors. Who better than a financial professional who specializes in matters suitable for a court of law to be an instrumental part of the chief regulatory body of financial markets?

Apart from knowledge of finance and law, another concern that was voiced regarding Mary Jo White (and other SEC commissioners) is their perceived lack of independence. Most of these commissioners have worked as lawyers for the very people they are meant to be policing. As I mentioned before, there is a definite cause for concern since lawyers advocate for their clients. This means that the lawyers who are commissioned to police Wall Street have generally, in the past, defended the causes of the same people they are now expected to keep in check. In addition to this, many commissioners go on from the SEC to work for companies that have financial firms as their clients. Since the forensic accountant advocates for the truth (as I have mentioned before) this conflict does not exist with the forensic accountant. The CPA forensic accountant is also bound to abide by the AICPA’s code of professional conduct and that stresses ethics, independence and objectivity.

So, here we have a professional qualified in finance, who has a detailed knowledge of financial reporting – I mean, who else is preparing the financial reports and the information behind the financial reports, if not the accountants – and who has a knowledge of legal systems and enforcement – they don’t call them expert witnesses for nothing. In addition to all of this, the professional is independent with an obligation only to the truth (not a client, now, in the past or in the future). If this is not the perfect candidate for SEC commissioner, I don’t know what is.

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