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I want to use a Data Vew Web Part to render the nested folder structure of a document library. I can get as far as using grouping on the path and setting the datasource to recursive. That effectively renders the folders in a flat view rather than nested.

How can I get nesting?

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You're going to need to create a recursive XSL template to make things look the way you want. There isn't anything "out of the box".

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