On August 22, the SEC finalized rules for two of the more obscure provisions in the Wall Street Reform and Consumer Protection Act (“Dodd-Frank Act”): mandated disclosure of the use of conflict minerals and payments to foreign governments. As discussed in a recently published report by Washington Analysis, the leading provider of research on regulatory, political and legislative changes in the U.S. and their impact on industries and companies worldwide (a subsidiary of Glass, Lewis & Co.), these newly issued rules could create compliance costs, present certain competitive disadvantages and open the door to headline risk for companies operating in, or using materials from the Democratic Republic of Congo (“DRC”).
One of these new regulations will affect companies using “conflict minerals,” or tin, tantalum, tungsten, and gold sourced from the Democratic Republic of Congo (“DRC”) by requiring that they disclose their use of these minerals and if those minerals are “necessary to the functionality or production of a product” manufactured by those companies. According to the Los Angeles Times, these rules, which were advocated by human rights groups, are aimed at reducing the use of minerals sourced from the DRC, as their purchase often serves as a source of financing for armies battling in this region. While companies will have until May of 2014 to comply with these new disclosure requirements, providing this information may be no easy feat and could present billions of dollars in costs. For many companies, it will mean extensively engaging with firms throughout their entire supply chains. However, as these rules have been in the pipeline for several years, some firms have already begun progress on this engagement process. According to a University of California Davis study, as reported by Forbes, firms including Apple, Intel, HP and Motorola Solutions have already made progress on this issue and are likely to reap rewards for their early efforts. According to the study’s lead author, there has already been evidence “that those companies that were giving indications that they had started on the process [of compliance with the new requirements] will be less impacted in the stock market…It was not by a significant amount but enough to suggest the drop in value is less.”
The other set of regulations, which will be put in place effective September 30, 2013, is designed to allow human rights and democracy groups to track payments going to foreign governments by using annual filings from oil, gas and mining firms. These new rules have various complications, including that they do not allow for exemptions in cases where foreign governments specifically prohibit the disclosure of such information. As such, this rule may potentially infringe on companies’ ability to compete in countries such as Cameroon, Angola, China and Qatar, which have, or have had, such prohibitions. Further, Washington Analysis cites significant costs for compliance with these regulations: the initial cost of this rule may total close to $1 billion, with ongoing costs of $100-$400 million. However, according to the New York Times, these new regulations, which will apply to approximately 1,100 companies, could be challenged by the American Petroleum Institute (“API”), under the premise that they could present competitive disadvantages. According to the API’s chief economist, “with a few clicks of a mouse, state-owned foreign firms—companies like China National Petroleum Company and Russia’s Gazprom – would plunder [the required disclosure], which could help them determine their rival’s strategies and resource levels.”
Despite the potential costs and competitive disadvantages associated with these new rules, there may be an upside to investors in that will be better able to gauge how companies are handling supply chain risks and mitigating the risks associated with payments to foreign governments. Further, the New York Times reports that new research from the Brookings Institution has argued that this increased transparency, along with improved governance and accountability, could improve the standard of living in developing countries dependent of mineral extraction. According to the Institution, “there are two types of companies: those that focus on efficiency and innovation and can thrive in a competitive, level playing field, and those that derive gains from rent-seeking (and outright bribery), monopolistic behavior or tax avoidance.”