The legal challenge by several business groups to the Conflict Minerals Rule (“Rule”) may be gaining some traction. During oral argument of their appeal from the district court’s dismissal of their challenge, two of the three judges on the panel appeared sympathetic to some of the business groups’ arguments. Nevertheless, as discussed below, in light of the Rule’s looming first period reporting deadline and for a host of other reasons, it is likely not in a company’s best interests to put its compliance efforts on hold to await the outcome of this case.
The Conflict Minerals Rule
Section 1502 of the Dodd-Frank Wall Street Reform and Consumer Protection Act requires companies to ascertain whether the products they manufacture contain conflict minerals and, if the answer is affirmative, to disclose that information to the Securities and Exchange Commission (SEC). As required by section 1502, the SEC issued a more than 350 page release adopting the Conflict Minerals Rule in August 2012. In brief, the Rule requires that most publicly traded companies disclose: (a) their use of “conflict minerals” (e.g., gold, tin, tungsten, tantalum), (b) whether those minerals originate in the Democratic Republic of Congo or adjoining countries and, if so, (c) whether the minerals have been sourced from “conflict” sources – (i.e., armed paramilitary groups within those countries).
Dodd-Frank’s enabling provision contains no prohibition on the use of conflict minerals. Nor does the Conflict Minerals Rule itself. Rather, both require that a company disclose its use of conflict minerals in the products it manufactures or contracts to manufacture. Disclosure under both the statute and the Rule is a two-step process. First, a company must provide the information on Form SD, which is filed with the SEC and made publicly available. Second, the company must post its reports on its website. The first review period is calendar year 2013; reports for this review period must be submitted to the SEC by May 31, 2014.
Legal Challenge to Conflict Minerals Rule
Shortly after the final rule was issued, several business groups filed suit to overturn it. The business group plaintiffs raised several claims under the Administrative Procedure Act (APA) (e.g., that the SEC failed to conduct a cost/benefit analysis, failed to exempt de minimis uses and misinterpreted the statute on certain key points) and also raised a constitutional First Amendment claim regarding the disclosure requirements. As we reported previously, their challenge was dismissed by the U.S. District Court, D.C., in July 2013.
The business groups appealed to the Court of Appeals, D.C. Circuit. On January 7, 2014, the parties presented oral arguments to a three-judge panel of the circuit court. It has been widely reported that two of the three judges on the panel appeared to be more sympathetic to the business groups’ position and critical of the SEC. However, lost in the headlines was the fact that most of the supportive questions by the two judges concerned the First Amendment issue and not the appellants’ numerous other challenges to the procedures and substance of the Rule.
The First Amendment challenge raised by the business groups questions whether the requirement under both the Rule and the statute that companies post their conflict mineral reports on their respective websites constitutes “compelled speech.” As articulated in a line of Supreme Court cases, compelled speech may violate the First Amendment of the Constitution unless the government has sufficiently strong countervailing reasons for mandating such speech. At the January 7 hearing, two of the judges appeared to question the SEC’s justifications.
The business group appellants also reiterated their numerous claims that the Rule violates the APA. As noted above, all of these claims were dismissed by the district court. Similarly, during the oral arguments before the appellant panel, most of these claims did not appear to have much traction.
There is no defined timeline for when the appeals court will issue its ruling and certainly no guarantee that it will occur before the filing deadline. Moreover, the panel’s comments at oral argument provide, at best, an imprecise indicator of the direction the court may go. As a result, it is prudent for companies to continue the due diligence process to prepare for the reporting deadline. Given the amount of work and time required for most companies to obtain the necessary information from suppliers, analyze that information, follow up with suppliers as needed and draft and submit reports to the SEC, it would be risky to put that work on hold in the hope of a favorable ruling being issued prior to the filing deadline.
Even if the court strikes down the Rule in whole or in part, some form of the disclosure requirement will be in place down the road – and that disclosure will be public, whether through the SEC filing or the company’s website. And while that road may include additional appeals and rulemaking, complying with the disclosure requirement will necessitate that the process for gathering, analyzing and reporting the data be ongoing.
Indeed, irrespective of the legal challenge in the United States, companies that do business abroad are likely to face regulation on conflict minerals at some point in the future. The European Commission is currently working on a regulatory proposal, which it will likely submit to the EU Parliament this spring. The EU Parliament may take up the measure by this summer. Current information is that the EU proposal covers the same conflict minerals and prescribes a similar due diligence and disclosure process as the SEC’s Conflict Minerals Rule. Conflict minerals legislation has also been introduced in Canada, and other countries may follow suit.
Finally, whatever the result of this case, many companies may find it good for business to assess their uses and sources of conflict minerals and to set a phase-out date beyond which they will not use minerals from conflict sources in the covered countries. The first major company to publicly take this route is Intel, which recently announced that, beginning in 2014, it will no longer manufacture products containing conflict minerals from conflict sources. Intel’s action goes beyond the requirements of the Rule, but garnered favorable press and, presumably, having “conflict-free” products may provide a competitive advantage.
Whatever the outcome of the business groups’ appeal of the Rule, it is likely that manufacturers will be required to determine, report and disclose their use and source of conflict minerals – either under the SEC’s rule, the EU’s directive or to other companies in the supply chain that seek the “conflict-free” designation. This may well be as soon as May 31, 2014. It is therefore prudent that companies take steps now so they are prepared to report the relevant information. In fact, once the foundation has been laid, a company may find it good for business to be “ahead of the pack” in phasing out their use of conflict minerals from conflict sources.
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Tammy P. Bieber is a securities litigation and regulatory enforcement partner in Thompson Hine’s New York office. She specializes in shareholder litigation, SEC enforcement actions, government and internal investigations under the securities laws and FCPA, and accountant’s liability. Ms. Bieber advises on accounting- and audit-related issues and the economic sanctions administered by the Office of Foreign Asset Control. She previously served as the senior legal advisor to the Chief Accountant of the U.S. Securities & Exchange Commission.