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Conflict Minerals: What the SEC Filings Show

ConflictMineralsWhatDotheSECFilingsShow
Unless you are one of the few readers of this blog who are blissfully unaware of the Securities and Exchange Commission's (SEC) conflict minerals rule, you probably know that the first-year filing deadline was June 2. The rule, which requires SEC-filing companies that manufacture or contract to manufacture products to investigate whether those products contain tin, tungsten, tantalum, or gold and, if so, to submit a special form to the SEC, has been the subject of numerous articles and analyses, not to mention lawsuits and high drama. Now that close to 1,300 forms have been filed and made available on the SEC's EDGAR website, it is a good time to take a look at what the filings reveal and what lessons can be learned from this first phase of conflict minerals compliance. 

The First Round of Filings
 

Based on a sampling of auto industry and broader sector filings, some key themes emerged: 

  • Less than a quarter of the expected 6,000 filings were submitted by the June 2 deadline. While forms continue to trickle in, it seems clear the total will be well below the SEC's projections. 

  • An overwhelming majority responded that they were unable to determine whether their products contained conflict minerals that directly or indirectly funded the conflict as defined by the SEC rule; only a very few reported that their products were conflict-free, and even fewer said they had conducted the independent private sector audit (IPSA) that is required by the rule in order to claim that a product is conflict-free. 

  • Descriptions of companies' "reasonable country of origin inquiry" and diligence efforts spanned the range from minimal to detailed, with most by far in the minimal category. 

  • Many companies relied upon the EICC-GeSI survey instrument and the Conflict Free Smelter Initiative (CFSI) list of conflict-free smelters, although controversy has developed over free-riding by some that used CFSI smelter lists without paying to support this program. 

  • Response rates for the percentage of suppliers that provided upstream sourcing information, among those companies that reported a number, ranged from 0 to 100 percent, with auto industry rates in the 64 to 100 percent range, but values trended lower in other sectors. 

  • Big surprises occurred when a number of major companies learned their supply chains included gold procured in North Korea, a country subject to US economic sanctions. 

  • Companies offered a variety of goals for year two compliance, although almost none included any metrics for measuring success. Most said they wanted to improve supplier response rates and would reassess relationships with suppliers that were unresponsive to their supply chain surveys. Many planned to insist on conflict minerals compliance terms and conditions in new contracts. Only a small number announced a goal of creating conflict-free product lines. 
Reaction from the NGOs 

As many in the field realize, the real "stick" when it comes to conflict minerals compliance is not worry over SEC enforcement, which is likely to be lenient, especially in the first year, but the far worse risk of adverse publicity and brand vulnerability from advocacy groups, socially-conscious investors, and customers. Groups like the Enough Project and Walk Free have already gone after one company in a big way after it came in last in rankings an NGO compiled of the actions the largest global electronics companies were taking to "contribute to the creation of a clean minerals trade in [the] Congo." Despite issuing statements about how seriously it takes conflict minerals and other CSR commitments, last year the company faced a vigorous letter-writing campaign, protests at retail outlets, a mocking video game, and colorful demonstrations at its annual meeting. 

The NGOs served notice that they would watch closely the first round of SEC conflict minerals filings. So far, two groups have registered disappointment with the quality of many of the filings, with one criticizing widespread, overall deficiencies in upstream diligence efforts and lack of detail on the steps companies say they are taking to identify and mitigate risks in their supply chains. Calvert Investments, which focuses its $13 billion fund on CSR, announced it will develop its own criteria for comparing conflict minerals submissions and use these benchmarks in making investment decisions. 

Key Takeaway Messages 

Even at this fairly early stage in the process, some lessons are clear: 
  1. This is only the beginning. Year two efforts start now, and most companies are expecting their suppliers to step up responsiveness in a big way, as they work to show year-over-year improvement. Look for stepped-up pressure for timely answers to survey questionnaires, more accurate data about smelter sourcing, and an increase in contractual requirements linked to conflict minerals. Depending on the industry sector, expect growing demands for conflict-free sourcing. Remember that the grace period for filing a conflict minerals report without an IPSA ends in 2016. 

  2. Even if you file late, file anyway. California and Maryland have adopted laws barring state contracts with companies that have not met their SEC conflict minerals filing obligations. Other states are considering similar legislation. 

  3. Keep an eye on the NGOs and think about competitive advantage. NGO groups are already starting to name names of companies they think did a good job or fell short in their conflict minerals filings and this fallout will only intensify in the coming weeks. Businesses can be expected to use good reports as a competitive weapon; those with weak results should plan now for brand protection and damage control. 

  4. The court case is still in play. The DC Circuit's April ruling that invalidated on First Amendment grounds specific wording the SEC had mandated for conflict minerals reporting is likely to undergo additional appellate and Supreme Court review. The outcome could change the shape of SEC reporting requirements for 2015. 

  5. Integrate your conflict minerals compliance efforts with other corporate risk-reduction programs. The North Korean gold surprise should be a cautionary tale. Penalties for sanctions violations are severe, and as diligence gets better, more and more unpleasant surprises are likely to surface. Companies should be coordinating their Foreign Corrupt Practice Act programs, for example, with conflict minerals diligence efforts and proactively planning how they will handle any necessary disclosures. Prudent companies will make sure to include legal counsel in their risk management planning. 
The first year's results show a mixed bag of approaches to conflict minerals reporting, with the mostly minimal responses likely indicative of the effort involved in pulling together these initial reports, along with uncertainty caused by the late-breaking court decision invalidating part of the rule but upholding the rest. NGO and competitive pressures are likely to be major forces in pushing upstream suppliers to provide better sourcing information as companies gear up for the 2015 reporting cycle and the need to show improved results, especially as some companies move to showcase leading-edge performance. There is every reason to expect that conflict minerals issues will continue to hold a priority place in C-suite discussions for the coming year.

Jane Luxton is a partner the DC office of Clark Hill. She advises companies on compliance with conflict minerals and other supply chain transparency requirements. She is a graduate of Harvard University and Cornell Law School. Article originally posted in the July 2014 edition of Corporate Responsibility Update


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