A closely watched challenge to the Securities and Exchange Commission’s (“SEC”) Conflict Minerals Rules (the “Rules”) was decided on April 14 by the U.S. Court of Appeals for the D.C. Circuit. The decision upheld the Rules in part, but found them in part to be unconstitutional, and remanded them for further consideration by the lower court. In the meantime, the SEC has indicated that, notwithstanding the court’s decision, companies subject to the Rules must file a Conflict Minerals Report with the SEC by June 2, 2014.
The Rules require public companies that file reports under the Securities Exchange Act to file each year a “Conflict Minerals Report” with the SEC disclosing their use of tantalum, tin, gold, or tungsten originating in the Democratic Republic of the Congo or an adjoining county (a “covered country”).
The Circuit Court’s April 14 decision in National Association of Manufacturers v. Securities and Exchange Commission(Case No. 13-5252, decided April 14, 2014), upheld in part, and rejected in part, a lower U.S. district court decision upholding the Rules. See our prior alert, “Federal Court Upholds Conflict Minerals Rules as Time Grows short to Complete Supply Chain Due Diligence” (July 26, 2013).
The Circuit Court rejected a challenge to the rules under the Administrative Procedure Act, dismissing arguments that they were “arbitrary and capricious.” The appellants contended that the SEC’s conflict minerals rules should be struck down because they (1) failed to include a de minimis exception for issuers that use only small amounts of conflict minerals in their products, and (2) required issuers to conduct due diligence to determine the origin of any conflict minerals contained in their products if they “have reason to believe” that the conflict minerals “may have originated” in the Democratic Republic of Congo or an adjoining country. The court also rejected a challenge to the SEC’s cost-benefit analysis, noting that the SEC’s determinations in this regard were reasonable.
At the same time, however, the Circuit Court found the Rules to be, at least in part, in violation of the First Amendment to the U.S. Constitution, which prohibits most restrictions on the freedom of speech. The Circuit Court reasoned as follows: Issuers producing products that contain conflict minerals originating in a covered country were required by the rule to describe those products as “not DRC conflict free.” The court rejected this as improper “compelled speech” in violation of the First Amendment, noting that the rule, as written, “requires an issuer to tell consumers that its products are ethically tainted, even if they only indirectly finance armed groups.” “An issuer,” the court said, “may disagree with that assessment of its moral responsibility. And it may convey that “message” through “silence.” By compelling an issuer to confess blood on its hands, the statute interferes with that exercise of freedom of speech under the First Amendment.”
The Circuit Court remanded the matter back to the district court for further consideration of the First Amendment issue. It is not clear whether the Circuit Court’s reasoning would simply eliminate the requirement for companies to describe certain products as “not DRC conflict free,” or if implementation of the Rules will be more broadly impaired. Two of the SEC’s five commissioners have issued a public statement proposing that the Rules be suspended until the legal status of the Rules is finally clarified by the courts. The dissenting commissioners argued that the Rules should be scrapped in their entirety, since the First Amendment concerns identified by the Circuit Court “permeate all the required disclosures, not just the listing of products that have not been determined to be DRC conflict free.”
As noted previously, the SEC has indicated that, notwithstanding these objections, the Rules will remain in place, and that companies subject to the Rules must meet the Rules’ requirement to file a Conflict Minerals Report with the SEC by this year’s due date, June 2, 2014. The SEC has stated that for the time being, in light of the Court’s ruling, companies need not describe their products as “DRC conflict free” or “not DRC conflict free” and, unless such designations are used, need not conduct an independent private sector audit of its report, as the Rules would otherwise require. Companies are still required to describe the due diligence efforts that they have undertaken to determine the source of any conflict minerals used in their products.