On August 22, 2012, the SEC adopted its final rule related to conflict minerals required by Congress under the Dodd-Frank Wall Street Reform and Consumer Protection Act (“Dodd-Frank”), which will require all public companies to implement complex new controls and procedural mechanisms, and in certain cases, conduct supply chain due diligence that could lead to new public disclosures.
Overview
Section 1502 under Dodd-Frank was enacted because of concerns that the exploitation and trade of conflict minerals by armed groups is helping to finance conflict in the Democratic Republic of the Congo (“DRC”) and adjoining countries and is contributing to a humanitarian crisis.
The final rules require all SEC-reporting companies [1] to perform the following three-step analytical process:
- determine whether conflict minerals are necessary to the functionality or production of a product manufactured or contracted to be manufactured by the company;
- if so, conduct a reasonable country of origin inquiry to determine if the company knows or has reason to believe that such minerals may have originated from the DRC or an adjoining country and are not from scrap or recycled sources, and, if as a result of such inquiry, (i) the company determines that the necessary conflict minerals did not originate in a covered country, or has no reason to believe that its necessary conflict minerals may have originated in a covered country, or (ii) determines or reasonably believes that the necessary conflict minerals came from recycled or scrap sources, the company must disclose, on its publicly available Internet website and in a Form SD report (described more fully below) to be filed not later than May 31 of the following calendar year, its determination and briefly describe the reasonable country of origin inquiry it undertook in making its determination and the results of the inquiry it performed; and
- if, as a result of step two above, the company determines (or has reason to believe) that such minerals may have originated from the DRC or an adjoining country and are not from scrap or recycled sources, conduct supply chain due diligence and prepare and file a conflict minerals report (described more fully below) as an exhibit to a Form SD report, which must include a report prepared by an independent private sector auditor that expresses an opinion or conclusion as to whether the design of the due diligence measures set forth in the conflict materials report is in conformity with, in all material respects, the criteria set forth in the due diligence framework used by the company, and whether the company’s description of the due diligence measures it performed is consistent with the due diligence process that the company undertook.
Reporting companies must comply with the rule for the calendar year beginning January 1, 2013, with the first reports due May 31, 2014.
In the adopting release, the SEC provided a flow chart summary of the applicable of the rule. That flow chart is attached hereto as Exhibit A.
What are conflict minerals?
Conflict minerals include: (1) tantalum (which is extracted from columbite-tantalite); (2) tin (which is extracted from cassiterite); and (3) tungsten (which is extracted from wolframite). In addition:
- Columbite-tantalite (also known as coltan) is the metal ore from which tantalum is extracted. Tantalum is used in electronic components, including mobile telephones, computers, videogame consoles, and digital cameras, and as an alloy for making carbide tools and jet engine components.
- Cassiterite is the metal ore that is most commonly used to produce tin. Tin is used in alloys, tin plating, and solders for joining pipes and electronic circuits.
- Gold is used for making jewelry and is used in electronic, communications, and aerospace equipment.
- Wolframite is the metal ore that is used to produce tungsten. Tungsten is used for metal wires, electrodes, and contacts in lighting, electronic, electrical, heating, and welding applications.
The definition of “conflict minerals” may be broadened in the future to include additional minerals or their derivatives that the Secretary of State determines are financing conflict in one or more of the “covered countries.”
The final rule exempts any conflict minerals that are “outside the supply chain” prior to January 31, 2013. Conflict minerals are considered outside the supply chain only in the following circumstances: (1) after any columbite-tantalite, cassiterite, and wolframite minerals have been smelted; (2) after gold has been fully refined; or (3) after any conflict mineral or its derivatives that have not been smelted or fully refined are located outside of the covered countries.
Based on the many uses of these minerals, the SEC has indicated that it expects the rule to apply to approximately 6,000 reporting companies.
What are the “covered countries”?
The covered countries consist of the Democratic Republic of the Congo (DRC) and each country that shares an internationally recognized border with the DRC, which presently includes Angola, Burundi, Central African Republic, the Republic of the Congo, Rwanda, South Sudan, Tanzania, Uganda, and Zambia.
What companies are subject to the new rules?
The new rules apply to all SEC-reporting companies. [2]
There is no exception for companies whose products contain de minimis quantities of the conflict minerals. There is also no exception for smaller reporting companies, emerging growth companies or for foreign issuers (including foreign-private issuers).
What do “necessary to the functionality” and “necessary to the production” of a product mean?
The new rules do not define when a conflict mineral is "necessary to the functionality" of a product or when it is "necessary to the production" of a product. Instead, the SEC chose to provide guidance regarding the interpretation of these phrases. The adopting release noted that whether a conflict mineral is deemed "necessary to the functionality" or "necessary to the production" of a product depends on the company’s particular facts and circumstances, but there are certain factors the SEC believe companies should consider in making their determinations.
In determining whether a conflict mineral is “necessary to the functionality” of a product, the adopting release provides that a company should consider:
- whether the conflict mineral is contained in and intentionally added to the product or any component of the product and is not a naturally occurring by-product ; [3]
- whether the conflict mineral is necessary to the product’s generally expected function, use, or purpose [4]; or
- if the conflict mineral is incorporated for purposes of ornamentation, decoration or embellishment, whether the primary purpose of the product is ornamentation or decoration. [5]
Based on the applicable facts and circumstances, any of these factors, either individually or in the aggregate, may be determinative as to whether conflict minerals are "necessary to the functionality" of a given product.
In determining whether a conflict mineral is “necessary to the production” of a product, the adopting release provides that a company should consider:
- whether the conflict mineral is contained in the product and intentionally added in the product’s production process, including the production process of any component of the product; and
- whether the conflict mineral is necessary to produce the product
Must a conflict mineral be “contained in the product” in order for it to be necessary to the functionality or production of a product?
Yes, for a conflict mineral to be considered “necessary to the functionality” or “necessary to the production” of a product, the product must actually contain the conflict mineral. The adopting release notes, however, that the SEC does consider a conflict mineral used as a catalyst or in another manner in the production process of a product to be "necessary to the production" of the product if that conflict mineral otherwise is necessary to the production of the product and is contained in any amount, including trace amounts, in the product.
What does “manufactured” mean?
The final rule does not define the term "manufacture." The SEC chose not to define the term because it believes that the term is generally understood. The adopting release, however, does offer some guidance as to what the SEC believes is intended to be covered by the term:
- a company that only services, maintains, or repairs a product containing conflict minerals would not be considered to be "manufacturing" a product;
- a company that manufactures a product by assembling that product out of materials, substances, or components that are not in raw material form (such as certain auto and electronics manufacturers), would be considered to be “manufacturing” a product;
- a company that imports, exports, or sells conflict minerals would not be considered to be “manufacturing” a product; and
- a company that mines conflict minerals would not be considered to be manufacturing those conflict minerals.
What does “contracted to be manufactured” mean?
The adopting release indicates that “contract to manufacture” is intended to include companies that have some actual influence over the manufacturing of their products. This determination is to be made based upon all the facts and circumstances, taking into account the “degree of influence” the company exercises over the materials, parts, ingredients, or components to be included in any product that contains conflict minerals or their derivatives.
The adopting release notes that a company will not be considered to “contract to manufacture” a product if its actions involve no more than:
- specifying or negotiating contractual terms with a manufacturer that do not directly relate to the manufacturing of the product, such as training or technical support, price, insurance, indemnity, intellectual property rights, dispute resolution, or other like terms or conditions concerning the product, unless the company specifies or negotiates taking these actions so as to exercise a degree of influence over the manufacturing of the product that is practically equivalent to contracting on terms that directly relate to the manufacturing of the product;
- affixing its brand, marks, logo or label to a generic product manufactured by a third party; or
- servicing, maintaining, or repairing a product manufactured by a third party.
In adopting the “actual influence” standard, the SEC rejected both the “any influence” standard of the proposed rules, and the “substantial influence” standard suggested by some of the commentators to the proposed rules.
The adopting release indicates, by way of example, that a service provider that specifies to a manufacturer that a cell phone it will purchase from that manufacturer to sell at retail must be able to function on a certain network does not in-and-of-itself exert sufficient influence to “contract to manufacture” the phone for purposes of the final rule. On the other hand, a company that specifies the use of a particular conflict mineral in a product manufactured for it does “contract to manufacture” such product for purposes of the final rule even if it does not exhibit substantial influence or control over the manufacturing of the product. The SEC notes that the converse is not true – a company does not avoid “contracting to manufacture” by avoiding to explicitly specify that conflict minerals be included in their products.
What if a company determines that conflict minerals are necessary to the functionality or production of a product manufactured or contracted to be manufactured by the company?
If a company makes the above determination, the company must then move to step two of the process and determine whether those conflict minerals originated in one of the covered countries or are from recycled or scrap resources by conducting a “reasonable country of origin inquiry.”
What steps satisfy the “reasonable country of origin inquiry”?
The final rule does not specify what steps and outcomes are necessary to satisfy the reasonable country of origin inquiry requirement because, according to the adopting release, such a determination depends on each company’s particular facts and circumstances. A reasonable country of origin inquiry can differ from company to company based on the company’s size, products, relationships with suppliers, or other factors.
Are there general standards a company should follow in performing the reasonable country of origin inquiry?
Yes, the inquiry must be (1) performed in good faith and (2) reasonably designed to determine whether the company’s conflict minerals originated in the covered countries or came from recycled or scrap sources.
The reasonable country of origin inquiry standard does not require a company to determine to a certainty that all its conflict minerals did not originate in the covered countries. Instead, and contrary to what the SEC had proposed in the proposed rules, under the final rules, if (i) a company determines that, based on its reasonable country of origin inquiry, its necessary conflict minerals did not originate in the covered countries or did come from recycled or scrap sources, or (ii) based on its reasonable country of origin inquiry, the company has no reason to believe that its conflict minerals may have originated in the covered countries or the company reasonably believes that its conflict minerals are from recycled or scrap sources, the company is not required to move to the third step of the process (described below). Instead, the company must disclose, on its publicly available Internet website and in a Form SD report to be filed not later than May 31 of the following calendar year, its determination with a brief description of the reasonable country of origin inquiry it undertook in making its determination and the results of the inquiry it performed. If the company cannot make this determination, it is required to move to step 3 of the process (described below).
Moreover, in the adopting release, the SEC notes that a company conducting an appropriate inquiry may not be able to determine to a certainty the origin of all its conflict minerals or whether they came from recycled or scrap sources. The SEC also states that a certainty is not required to satisfy the inquiry standard, and that companies may explicitly state that, if true, their reasonable country of origin inquiry was performed in good faith and reasonably designed to determine whether the conflict minerals originated in the covered countries or came from recycled or scrap sources.
Did the SEC provide any examples of methods to satisfy the required reasonable country of origin inquiry?
Yes, in the adopting release the SEC states that the inquiry would be satisfied if a company seeks and obtains reasonably reliable representations indicating the facility at which its necessary conflict minerals were processed and demonstrating that those conflict minerals did not originate in the covered countries or came from recycled or scrap sources. These representations could come either directly from that facility or indirectly through the company’s immediate suppliers, but the company must have reason to believe these representations are true given the facts and circumstances surrounding those representations. A company must also take into account any applicable warning signs or other circumstances indicating that its conflict minerals may have originated in the covered countries or did not come from recycled or scrap sources.
A company would have reason to believe representations were true if a processing facility received a “conflict-free” designation by a recognized industry group that requires an independent private sector audit of the smelter, or an individual processing facility, while it may not be part of the industry group’s “conflict-free” designation process, obtained an independent private sector audit that is made publicly available. A company’s policies with respect to the sourcing of conflict minerals will generally form a part of the company’s reasonable country of origin inquiry, and therefore would generally be required to be disclosed in the company’s Form SD.
Is a company required to obtain representations from all of its suppliers?
No. The adopting release states that a company may conclude that its conflict minerals did not originate in the covered countries, even though it does not receive representations from all of its suppliers, so long as it does not ignore warning signs or other circumstances indicating that the remaining amount of its conflict minerals originated or may have originated in the covered countries.
What if a company determines that, following its reasonable country of origin inquiry, (1) its conflict minerals did not originate in the covered countries or came from recycled or scrap sources or (2) has no reason to believe that its necessary conflict minerals originated in the covered countries or did not come from recycled or scrap sources?
If the company makes the above determination, the company must, not later than May 31 of the following calendar year, in the body of its Form SD under a separate heading entitled “Conflict Minerals Disclosure,” (1) disclose its determination and briefly describe the reasonable country of origin inquiry it undertook in making its determination and the results of the inquiry it performed and (2) provide a link to its Internet website where that disclosure is also publicly available.
In explaining its decision to require companies to provide a brief description of the reasonable country of origin inquiry they undertook and the results, the SEC states in the adopting release that requiring such disclosure is intended to (a) enable stakeholders to assess the company’s reasonable country of origin inquiry and its efforts in carrying out that inquiry and (b) allow stakeholders to form their own views on the reasonableness of the company’s efforts. Based on this information, stakeholders could advocate for different processes for individual companies if they believe it is necessary. The SEC also notes that the reasonable country of origin inquiry processes are expected to change over time based both on improved supply chain visibility and the results of a company’s prior year inquiry. Requiring a company to provide a brief description of the results of its inquiry, therefore, will allow stakeholders to track that progress and advocate for different procedures if they think it is necessary.
Is a company required to maintain reviewable business records supporting its conclusion that its conflict minerals did not originate in the covered countries based on its reasonable country of origin inquiry?
No, the SEC decided not to adopt this requirement. However, the SEC did note in the adopting release that maintenance of appropriate records may be useful in demonstrating compliance with the rule, and may be required by any nationally or internationally recognized due diligence framework applied by a company.
What if a company, following its reasonable country of origin inquiry, knows that any of its necessary conflict minerals originated in the covered countries and are not from recycled or scrap sources, or has reason to believe that its necessary conflict minerals originated in the covered countries and has reason to believe that they are not from recycled or scrap sources?
The company must move to the third step of the process and (i) conduct a due diligence investigation of the source and chain of custody of its conflict mineral, (ii) prepare a conflict mineral report, and (iii) have such conflict mineral report reviewed by an independent private sector auditor.
What due diligence is required?
A company’s due diligence must conform to a nationally or internationally recognized due diligence framework, if such a framework is available for the conflict mineral. The final rule does not mandate that a company use any particular nationally or internationally recognized due diligence framework. However, to satisfy the requirements of the final rule, the nationally or internationally recognized due diligence framework must have been established by a body or group that has followed due-process procedures, including the broad distribution of the framework for public comment, and be consistent with the criteria standards in GAGAS established by the GAO. In the adopting release, the SEC stated that the "Due Diligence Guidance for Responsible Supply Chains of Minerals from Conflict-Affected and High-Risk Areas" published by the Organisation for Economic Co-operation and Development (OECD) satisfies the SEC’s criteria and may be used as a framework for purposes of satisfying the final rule’s requirement. [6]
A number of commentators recommended that the final rule allow a company to rely on reasonable representations from suppliers and/or smelters in satisfying their due diligence requirement. In the adopting release, the SEC stated that whether a company may rely on reasonable representations from suppliers and/or smelters in satisfying its due diligence requirement will depend on the nationally or internationally recognized due diligence framework.
A company is also required to use a recognized due diligence framework with respect to recycled or scrap conflict minerals. The SEC is not aware of a framework for recycled or scrap conflict minerals other than for gold. [7]
If a nationally or internationally recognized due diligence framework does not exist for a necessary conflict mineral, until such a framework is developed, the company is required to exercise appropriate due diligence in determining the source and chain of custody of the necessary conflict mineral, including whether the conflict mineral is from recycled or scrap sources, without the benefit of a due diligence framework.
What must a company do if, after the exercise of due diligence, it determines that its conflict minerals originated in the covered countries and did not come from recycled or scrap sources or has reason to believe that its minerals originated in the covered countries and did not come from recycled or scrap sources?
The company must file a conflict minerals report as an exhibit to its Form SD, which must be filed by May 31 of each calendar year, and provide that report on its website and, under the heading in its Form SD entitled “Conflict Minerals Disclosure,” disclose that the company has filed a conflict mineral report and provide a link to its website. The conflict mineral report must be accompanied by an independent private sector auditors report (as described below).
On the other hand, if the company determines that its conflict minerals either did not originate in the covered countries or did come from recycled or scrap sources (or the company has no reason to believe that the conflict minerals originated from the covered country or did not come from recycled or scrap sources), a conflict minerals report is not required. However, the company must disclose its determination and briefly describe, in the body of its Form SD under a separate heading entitled “Conflict Minerals Disclosure,” the reasonable country of origin inquiry and the due diligence efforts it undertook in making its determination and the results of the inquiry and due diligence efforts it performed. In addition, the company must disclose this information on its website and provide a link to that website under the heading in its Form SD entitled “Conflict Minerals Disclosure.” The Form SD and website disclosure is required by May 31 of each calendar year.
What is required to be included in the conflict minerals report?
The conflict minerals report must include:
- a description of the measures the company has taken to exercise due diligence on the source and chain of custody of those conflict minerals; a copy of a report prepared by an independent private sector auditor that expresses an opinion or conclusion as to whether the design of the due diligence measures as set forth in the conflict minerals report is in conformity with, in all material respects, the criteria set forth in the due diligence framework used by the company, and whether the company’s description of the due diligence measures it performed is consistent with the due diligence process that the company undertook;
- if the company manufactures products or contracts for products to be manufactured that have not been found to be “DRC conflict free,” the company must provide (1) a description of those products, (2) the facilities used to process the necessary conflict minerals in those products [8], (3) the country of origin of the necessary conflict minerals in those products, and (4) the efforts to determine the mine or location of origin with the greatest possible specificity; and
- if the company manufactures products or contracts for products to be manufactured that are “DRC conflict undeterminable,” the company may avail itself of a transition period but still must provide (1) a description of those products, (2) the facilities used to process the necessary conflict minerals in those products, if known, (3) the country of origin of the necessary conflict minerals in those products, if known (4) the efforts to determine the mine or location of origin with the greatest possible specificity, if applicable and (5) the steps it has taken or will take, if any, since the end of the period covered in its most recent prior conflict minerals report to mitigate the risk that its necessary conflict minerals benefit armed groups, including any steps to improve its due diligence. The transition period is two years for all reporting companies and four years for smaller reporting companies. During the transition period, reporting companies will temporarily not be required to obtain an independent private sector audit of their conflict minerals report with respect to those minerals that are “DRC conflict undeterminable”.
What does “DRC conflict free” mean?
Products are “DRC conflict free” if they (1) do not contain conflict minerals that originate in the covered countries, (2) contain conflict minerals obtained from recycled or scrap sources or (3) do not contain necessary conflict minerals that directly or indirectly financed or benefited “armed groups” in the covered countries. “Armed groups” are defined as groups identified as perpetrators of serious human rights abuses in annual Country Reports on Human Rights Practices under sections 116(d) and 502B(b) of the Foreign Assistance Act of 1961 relating to the covered countries.
What does “DRC conflict undeterminable” mean?
If a company is unable to determine that its conflict minerals did not originate in the covered countries, that its conflict minerals that originated in the covered countries did not directly or indirectly finance or benefit armed groups, or that its conflict minerals came from recycled or scrap sources, the company may refer to such products containing those conflict minerals as "DRC conflict undeterminable."
Can a company’s independent public accounting firm that audits the company’s financial statements perform the independent private sector audit?
Yes, in the adopting release the SEC states that it does not believe that it would be inconsistent with the independence requirements in Rule 2-01 of Regulation S-X if a company’s independent public accountant also performs the independent private sector audit of the conflict minerals report.
According to the adopting release, the entities performing the independent private sector audit of the conflict minerals report must comply with any independence standards established by the GAO, but that the SEC is not adopting any additional independence requirements.
The adopting release also points out that the engagement to perform the independent private sector audit of the conflict minerals report would nevertheless be considered a “non-audit service” subject to the pre-approval requirements of Rule 2-01(c)(7) of Regulation S-X. In addition, the fees related to the independent private sector audit of the conflict minerals report would need to be included in the “All Other Fees” category of the principal accountant fee disclosures required by Item 9 of Schedule 14A and that companies are required to describe the nature of the services comprising the fees disclosed under the "All Other Fees" category. If the accountant were to provide services that extended beyond the scope of the independent private sector audit of the conflict minerals report, the accountant would need to consider whether those services were inconsistent with Rule 2-01 of Regulation S-X.
What is the objective of the independent private sector audit?
The final rule does not require an audit of the entire conflict minerals report, but instead the final rule states that the audit’s objective is to express an opinion or conclusion as to whether the design of the company’s due diligence framework as set forth in the conflict minerals report, with respect to the period covered by the report, is in conformity with, in all material respects, the criteria set forth in the nationally or internationally recognized due diligence framework used by the company, and whether the company’s description of the due diligence measures it performed as set forth in the conflict minerals report, with respect to the period covered by the report, is consistent with the due diligence process that the company undertook.
In the adopting release, the SEC notes that the audit objective adopted for the conflict minerals report differs significantly from the objectives of other audits required by SEC rules, but that in light of the statutory structure, as well as concerns about the costs that could arise from a requirement to audit the conclusion about the conflict minerals’ status or take other approaches, the SEC concluded that the audit objective should be limited in manner set forth in the final rules.
For how long is the "undeterminable" reporting alternative permitted?
The transition period covers the first two reporting cycles (or for the Form SD to be filed in 2013 and 2014) for all companies other than smaller reporting companies. The transition period covers the first four reporting cycles (or the Form SD to be filed in 2013 through 2016) for smaller reporting companies.
Beginning with the third reporting period (the Form SD to be filed in 2015) for all companies and the fifth reporting period (the Form SD to be filed in 2017), for smaller reporting companies, every such company will have to describe products in its conflict minerals report as having "not been found to be DRC conflict free." [9] Also, companies will be required to make such a disclosure even if they are unable to determine that their conflict minerals did not originate in the covered countries, that their conflict minerals that originated in the covered countries did not directly or indirectly finance or benefit armed groups, or that their conflict minerals came from recycled or scrap sources. These companies will also be required to provide an independent private sector audit of their conflict minerals report.
Further, companies can add disclosure or clarification to include the statutory definition of "DRC conflict free" in the disclosure to make clear that "DRC conflict free" has a very specific meaning, or to otherwise address their particular situation. For example, the adopting release provides the following two sample Form SD disclosures:
"The following is a description of our products that have not been found to be "DRC conflict free" (where ‘DRC conflict free’ is defined under the federal securities laws to mean that a product does not contain conflict minerals necessary to the functionality or production of that product that directly or indirectly finance or benefit armed groups in the Democratic Republic of the Congo or an adjoining country)."
For a company that is still unable to determine the origin of some of its conflict minerals after the two-year or four-year transition period referred to above, the SEC suggested that it might state in its Form SD: "We have been unable to determine the origins of some of our conflict minerals. Because we cannot determine the origins of the minerals, we are not able to state that products containing such minerals do not contain conflict minerals that directly or indirectly finance or benefit armed groups in the Democratic Republic of the Congo or an adjoining country. Therefore, under the federal securities laws we must describe the products containing such minerals as having not been found to be ‘DRC conflict free.’ Those products are listed below."
What are recycled or scrap sources?
The final rule specifies that conflict minerals are considered to be from recycled or scrap sources if they are from reclaimed end-user or post-consumer products or from scrap processed metals created during product manufacturing. For this purpose, recycled metal includes excess, obsolete, defective and scrap metal materials that contain refined or processed metals that are appropriate to recycle in the production of tin, tantalum, tungsten or gold. Minerals partially processed, unprocessed or arise as by-products from another ore are not included in the definition of recycled metal.
When is the Form SD due?
A company’s Form SD is due by May 31 of each year and covers the preceding calendar year (as opposed to fiscal year). Accordingly, the first reporting period for all companies will be from January 1, 2013 to December 31, 2013, and the first Form SDs must be filed on or before May 31, 2014. According to the adopting release, the SEC elected to require disclosure regarding conflict minerals in a Form SD as opposed to in a company’s annual report so as not to interfere with the company’s preparation of its annual report and to reduce the strain on company resources that are focused on preparing a company’s annual report at a time when those resources are likely already to be operating near full capacity.
In addition, contrary to what was contained in the proposed rules, the final rule provides that a company must provide its required conflict minerals information for the calendar year in which the manufacture of a product that contains any conflict minerals is completed, irrespective of whether the company manufactures the product or contracts to have the product manufactured. According to the adopting release, tying the disclosure to when the manufacture of a product is completed will allow companies some flexibility in determining the reporting period. For example, if a company completes the manufacture of a product with conflict minerals necessary to the functionality or production of that product on December 30, 2018, the company must provide the Form SD regarding the conflict minerals in that product for the 2018 calendar year. However, if that company completes the manufacture of that same product on January 2, 2019, the company must provide the Form SD regarding the conflict minerals in that product for the 2019 calendar year.
Is there any relief when a company becomes subject to the new rules due to an acquisition?
Yes. Where a company acquires or otherwise obtains control over a company that manufactures or contracts to manufacture products with conflict minerals necessary to the functionality or production of those products that previously had not been obligated to provide conflict minerals information to the SEC, the new rules allow a company to delay the initial reporting period on the products manufactured by the acquired company until the first calendar year beginning no sooner than eight months after the effective date of the acquisition.
For how long is a company required to keep its conflict minerals information on its website?
A company must make its conflict minerals disclosure or its conflict minerals report available on its website for one year.
Is the Form SD filed or furnished? What is the potential disclosure liability for a reporting company?
The Form SD will be “filed” And therefore will be subject to liability under Section 18 of the Exchange Act. Section 18 of the Exchange Act creates liability for “[a]ny person who shall make or cause to be made any statement in any application, report, or document … which statement was at the time and in the light of the circumstances under which it was made false or misleading with respect to any material fact, shall be liable…” Section 18 provides for a private right of action to investors who can prove they were harmed by relying on the misstatement. Section 18, however, does not create strict liability for filed information and provides that a company will not be liable for misstatements in a filed document if it can establish that it “acted in good faith and had no knowledge that such statement was false or misleading.” The information provided on a Form SD report, including the conflict minerals report and the independent auditor’s reports, would not be deemed to be incorporated by reference into a reporting company’s filings under the Securities Act of 1933 unless it specifically elects to do so.
The SEC declined to follow the recommendations of some commentators that the new reports be “furnished” rather than “filed,” but by excluding the reports from 10-Ks, the CEO and CFO certification requirements applicable to 10-Ks do not apply to the Form SD.
In addition, the adopting release noted that the transition period that permits companies to describe their products as “DRC conflict undeterminable” (see above) will allow companies sufficient time to obtain more data on, and control over, their supply chain through revised contracts with suppliers and smelter verification confirmations, thereby mitigating this liability concern.
What should reporting companies do now?
The rule is complicated and different than any other rule under the federal securities laws. There are many provisions of the rule where the SEC has elected to allow reporting companies to make their own determinations as to interpretation and application. Given that the first reporting period commences on January 1, 2013, reporting companies should evaluate their business operations and make a determination as to the rule’s applicability based on their specific facts and circumstances after consulting with its internal finance and legal teams, outside legal counsel, auditors, and other consultants and professionals.
What if you have questions?
For any questions or more information on these or any related matters, please contact any attorney in the firm’s corporate practice group. A list of such attorneys can be found by clicking Lawyers on this page. Curtis Dombek (213-617-5595, cdombek@sheppardmullin.com), John Tishler (858-720-8943, jtishler@sheppardmullin.com), Louis Lehot (650-815-2640, llehot@sheppardmullin.com), Jason Schendel (650-815-2621, jschendel@sheppardmullin.com), Edwin Astudillo (858-720-7468, eastudillo@sheppardmullin.com), and Lauren Lewis (650-815-2672, lalewis@sheppardmullin.com) participated in drafting this posting.
Disclaimer
This update has been prepared by Sheppard, Mullin, Richter & Hampton LLP for informational purposes only and does not constitute advertising, a solicitation, or legal advice, is not promised or guaranteed to be correct or complete and may or may not reflect the most current legal developments. Sheppard, Mullin, Richter & Hampton LLP expressly disclaims all liability in respect to actions taken or not taken based on the contents of this update.
[1] The new rules do not apply to investment companies required to file reports pursuant to Rule 30d-1 under the Investment Company Act of 1940. It also appears that voluntary filers are not subject to the rule.
[2] The new rules do not apply to investment companies required to file reports pursuant to Rule 30d-1 under the Investment Company Act of 1940. It also appears that voluntary filers are not subject to the rule.
[3] In determining whether a conflict mineral is "necessary" to a product, a company must consider any conflict mineral contained in its product, even if that conflict mineral is only in the product because it was included as part of a component of the product that was manufactured originally by a third party.
[4] Recognizing that there are situations in which a product has multiple generally expected functions, uses, and purposes, the adopting release provides that a conflict mineral need only be necessary for one such function, use, or purpose to be necessary to the product as a whole. For example, a smart phone has multiple generally expected functions, uses, and purposes, such as making and receiving phone calls, accessing the internet, and listening to stored music. If a conflict mineral is necessary to the function, use, or purpose of any one of these, it is necessary to the functionality of the smart phone.
[5] The adopting release indicates that if a primary purpose of the product is mainly ornamentation or decoration, it is more likely that a conflict mineral added for purposes of ornamentation, decoration or embellishment is "necessary to the functionality" of the product. As an example, the adopting release states that the gold in a gold pendant hanging on a necklace is necessary to the functionality of the pendant because it is incorporated for purposes of ornamentation, decoration, or embellishment, and a primary purpose of the pendant is ornamentation or decoration. Conversely, if a conflict mineral is incorporated into a product for purposes of ornamentation, decoration, or embellishment, and the primary purpose of the product is not ornamentation or decoration, it is less likely to be "necessary to the functionality" of the product.
[6] OECD, OECD Due Diligence Guidance for Responsible Supply Chains of Minerals from Conflict- Affected and High-Risk Areas (2011), available here.
[7] See OECD, OECD Due Diligence Guidance for Responsible Supply Chains of Minerals from Conflict- Affected and High-Risk Areas: Supplement on Gold (2012), available here.
[8] In the adopting release, the SEC indicated that it believes that the phrase, "facilities used to process the conflict minerals," refers to the smelter or refinery through which the minerals pass.
[9] "DRC conflict free" is a defined term in the statute, meaning that the product "do[es] not contain conflict minerals that directly or indirectly finance or benefit armed groups in the" covered countries.
