SEC Adopts Conflict Mineral Disclosure Rules
The Securities and Exchange Commission recently adopted final disclosure and reporting rules as mandated by the Dodd-Frank Wall Street Reform and Consumer Protection Act requiring certain public companies to disclose on a new Form SD their use of conflict minerals originating in the Democratic Republic of the Congo (the DRC) or an adjoining country.
For companies subject to these new rules, as described below, compliance will be required on a calendar year basis (regardless of a company's fiscal year) beginning January 1, 2013. The first report on Form SD will be due May 31, 2014 (and on every May 31 thereafter). See the flowchart issued by the SEC for an understanding of the steps required to comply with these new rules. The Form SD and the conflict minerals information disclosed therein, will be deemed "filed" (not "furnished") under the Securities Exchange Act of 1934 and will be subject to Section 18 of the Exchange Act, which deals with liability for any false or misleading statements.
This Update summarizes the key elements of these new rules and provides practical guidance.
What Are Conflict Minerals?
As defined in the Dodd-Frank Act, conflict minerals include gold, tin, tantalum, tungsten and their derivatives. Conflict minerals also include any other mineral or mineral derivative as determined by the secretary of state to be financing conflict in the DRC or an adjoining country. "Adjoining countries" presently includes Angola, Burundi, Central African Republic, the Republic of the Congo, Rwanda, South Sudan, Tanzania, Uganda and Zambia. The DRC and its adjoining countries are referred to in these new rules as "covered countries."
Which Companies Are Subject to the New Disclosure Rules?
Companies That Meet All of the Specified Conditions. Companies that meet all of the following conditions will need to comply with these new rules:
- The company files reports with the SEC under Section 13(a) or 15(d) of the Exchange Act (including foreign issuers);
- The company manufactures or contracts to manufacture a product; and
- Conflict minerals are "necessary to the functionality or production" of such product.
These new rules do not define the phrases "contract to manufacture," "necessary to the functionality" of a product or "necessary to the production" of a product. However, in the adopting release, the SEC provides some guidance for companies to determine whether they meet the second or third conditions described above.
- “Contract to Manufacture” a Product. Whether a company "contracts to manufacture" a product will depend on the degree of influence the subject company exercises over the materials, parts, ingredients or components that are included in any product containing conflict minerals or their derivatives. The SEC expressly provides that a company will not be considered to "contract to manufacture" a product if it does no more than:
- specify or negotiate contractual terms with a manufacturer that do not directly relate to the manufacturing of the product;
- affixes its brand, logo, label or marks to a generic product manufactured by a third party; or
- services, maintains or repairs a product manufactured by a third party.
These new rules do not treat companies that mine conflict minerals as "manufacturers" of those minerals unless the company also engages in manufacturing.
- Conflict Mineral "Necessary to the Functionality" of a Product. The determination of whether a conflict mineral is "necessary to the functionality" of a product will depend on the specific company's facts and circumstances. When making its determination, a company should consider:
- whether the conflict mineral is intentionally added to the product or any component of the product and whether it is not a naturally occurring by-product;
- whether the conflict mineral is necessary to the product's generally expected function, use or purpose; and
- if a conflict mineral is incorporated for purposes of ornamentation, decoration or embellishment, whether the primary purpose of the product is ornamentation or decoration.
- Conflict Mineral "Necessary to the Production" of a Product. The determination of whether a conflict mineral is "necessary to the production" of a product also requires a facts and circumstances analysis. The SEC expressly provides, however, that in order for a conflict mineral to be considered "necessary to the production" of a product, the mineral must be both contained in the product and necessary to the product's production. The SEC provides the following factors for consideration:
- whether the conflict mineral is intentionally included in the product's production process, other than if it is included in a tool, machine or piece of equipment used to produce the product;
- whether the conflict mineral is included in the product; and
- whether the conflict mineral is necessary to produce the product.
If conflict minerals are outside the company's supply chain prior to January 31, 2013, the company will not be subject to these new rules.
What Must a Company Subject to these New Rules Do?
Conduct a Reasonable Country of Origin Inquiry and File a Form SD. A company that determines that it is subject to these new rules must conduct a reasonable country of origin inquiry for its conflict minerals. The SEC does not prescribe the specific actions for such inquiry, as each company's inquiry will depend on the particular facts and circumstances. The SEC does, however, require that the company's inquiry be conducted in good faith and reasonably designed to determine whether any of its conflict minerals originate in the covered countries or are from recycled or scrap sources.
- Next Steps—Alternative 1. Based on its reasonable country of origin inquiry, if a company knows or has reason to believe that its conflict minerals
- may have originated in a covered country, or
- may not be from recycled or scrap sources,
then the company must then conduct due diligence on the source and chain of custody of its conflict minerals and may be required to file a Conflict Minerals Report (as more fully described below) as an exhibit to its Form SD, depending on the outcome of its supply chain due diligence.
- Next Steps—Alternative 2. Alternatively, if, based on its reasonable country of origin inquiry, a company
- knows that its conflict minerals did not originate in a covered country or are from scrap or recycled sources, or
- has no reason to believe that its conflict minerals may have originated in a covered country or may not be from scrap or recycled sources,
then the company need only file a Form SD disclosing the company's determination and briefly describing the reasonable country of origin inquiry and the results of the inquiry.
May Need to Exercise Due Diligence on Source and Chain of Custody and File a Conflict Minerals Report with the Form SD. A company that is required to exercise due diligence on the source and supply chain of its conflict minerals must follow a nationally or internationally recognized due diligence framework, such as the due diligence guidance approved by the Organisation for Economic Co-operation and Development (the OECD). Unless a company determines, as a result of its due diligence exercise, that its conflict minerals are not from a covered country or are from recycled or scrap sources, it will be required to file a Conflict Minerals Report as an exhibit to its Form SD. The Conflict Minerals Report must reflect the company's determination, based on its due diligence, of whether its products are "DRC Conflict Free" or "Not DRC Conflict Free." The issuer must also obtain an independent private sector audit of the report. Certain certification and disclosure requirements must also be included in the Conflict Minerals Report with each determination. The independent private sector audit must (i) express an opinion regarding whether the due diligence conducted by the company conforms with a nationally or internationally recognized due diligence framework (the OECD guidance is the only such framework currently available), and (ii) express an opinion about whether the company did, in fact, engage in the due diligence according to the company's stated framework.
No CEO/CFO Certifications for Form SD. The Form SD will not require certifications from the company's chief executive officer or chief financial officer, such as those that are required to accompany annual and quarterly reports filed with the SEC on Forms 10-K and 10-Q, and Form SD will not be incorporated by reference into a company's other SEC filings unless a company chooses to do so.
Temporary Relief for Products Deemed "DRC Conflict Undeterminable." For a temporary 2-year period, or 4-year period for smaller reporting companies, if a company is unable to determine whether the minerals in its products originated from a covered country or were used to finance or benefit armed groups in the covered countries, the company may determine that its products are "DRC Conflict Undeterminable." During such period, the company will still be required to file a Conflict Minerals Report and include certain disclosures similar to those required for "Not DRC Conflict Free" products, but the company will not need to obtain an audit. Under these circumstances, the company will need to disclose in its Conflict Minerals Report the steps it has taken or intends to take to mitigate the risk that the conflict minerals contained in its products are benefiting armed groups in the covered countries.
Minerals from Recycled or Scrap Sources. Products containing minerals from recycled or scrap sources are considered "DRC Conflict Free." Specific rules govern the due diligence framework and Conflict Minerals Report disclosures for such minerals, and the requirements may differ according to mineral type.
What Can a Company Do Now to Prepare to Comply With these New Rules?
1. Create a Conflict Minerals Risk Profile
- Develop a preliminary list of products that potentially contain conflict minerals.
- Conduct targeted interviews of personnel with supply chain oversight to determine if conflict minerals are "necessary to the functionality or production" of a company product.
- If commercially feasible, consider removing conflict minerals from the supply chain prior to January 1, 2013 to avoid the inquiry and audit burdens of these new rules.
2. Design and Implement a Practical Supply Chain Compliance Program
- If conflict minerals are "necessary to the functionality or production" of a company product, begin planning a reasonable country of origin inquiry.
- Consider developing a source and chain of custody due diligence process and framework.
- Consider how to integrate supply chain compliance efforts into existing anti-corruption (e.g., U.S. Foreign Corrupt Practices Act (FCPA) and U.K. Bribery Act) and compliance programs and how to leverage efforts in those areas to comply with these new rules.
- Consider implementing a Conflict Minerals Code of Conduct setting forth expectations for employees and transaction partners (including suppliers).
- Consider creating Conflict Minerals compliance questionnaires and certification procedures for suppliers.
3. Train Relevant Employees
- Begin preparing best-practices conflict minerals training programs for employees who are responsible for supply chain management and oversight.
- Begin preparing customized training for key suppliers with the greatest risk exposure.
You can find the full text of the SEC’s adopting release containing these new rules at http://www.sec.gov/rules/final/2012/34-67716.pdf.
You can find discussions of other recent cases, laws, regulations, and rule proposals of interest to public companies on our website.
© 2012 Perkins Coie LLP