If “conflict minerals” or their derivatives are necessary to the functionality or production of a product that you manufacture or have manufactured, new Securities and Exchange Commission Rule 13p-1 will require you to investigate the source of those minerals.1
- Public reporting companies must disclose the results of their investigations in SEC filings.
- Private companies in the supply chain will also be affected as they will be called on to investigate their own raw material sources and provide information to their customers.
If the conflict minerals come from the Democratic Republic of the Congo (DRC) or an adjoining country, the public company’s disclosures will be very detailed and must be audited. Congress’s purpose in requiring the SEC to promulgate these requirements was to curtail the financing of armed groups who have engaged in violence in the eastern Congo region for many years.2 As this program gains currency, it may be expected that products labeled “DRC Conflict Free” may gain some competitive advantage among consumers.
All public companies will be required to begin reporting on the conflict minerals they use during the 2013 calendar year, with the first report due on May 31, 2014.3 To ensure that you comply with the new rule (for public companies) or can meet the demands of your customers (for their suppliers), you should begin your investigation now.
This Client Advisory focuses on the coverage of the new Rule and the steps companies should be taking now to undertake the “country of origin inquiries” required as the first stage. We will detail the disclosure requirements of new SEC Form SD, as well as the diligence and audit requirements for companies whose conflict minerals come from the DRC Countries, in our next Advisory. For the present, we have provided below a brief summary of those steps and an SEC flow chart that outlines the whole process.
Who is Covered
What are “conflict minerals?” Conflict minerals include the following (irrespective of origin):4
Click here to view table.
These minerals are used extensively in components of or in the manufacturing processes for a wide range of products, especially in the electronics, communications, medical device, lighting, automotive, industrial tool and machinery, and aerospace industries, as well as in jewelry.
To whom does the Rule apply?
The new Rule applies to SEC reporting companies, including foreign private issuers, that manufacture or contract for the manufacture of products (including components) for which conflict minerals are necessary to the functionality or production. Although the Rule does not apply to non-reporting companies, private companies whose products contain conflict minerals and are used as components of other products will likely be required by their customers to provide certifications as part of the customers’ “country of origin inquiry” described below.
This term is not defined in the Rule; however, the SEC clarified that it includes the assembly of components to create a product.
Contracts for Manufacture
Whether a company is considered to be “contracting to manufacture” a product is based on the facts and circumstances, particularly the degree of influence it exercises over the materials, parts, ingredients, or components to be included in the product.
- An issuer would not be deemed to “contract for manufacture” if it merely: (i) affixes its brand, marks, logo, or label to a generic product manufactured by a third party or (ii) specifies or negotiates contractual terms with a manufacturer that do not directly relate to the manufacturing of the product.
A company that only services, maintains, or repairs a product containing conflict minerals is neither manufacturing nor contracting for manufacture of the product.
“Necessary to the Functionality or Production” of the Product
The SEC does not define “necessary to the functionality or production,” but it provides guidance, including the following, and can be expected to provide additional guidance in the future.
- Functionality. In determining whether its conflict minerals are “necessary to the functionality” of a product, a company should consider: (a) whether a 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; (b) whether a conflict mineral is necessary to the product's generally expected function, use, or purpose; or (c) if a conflict mineral is incorporated for purposes of ornamentation, decoration or embellishment, whether the primary purpose of the product is ornamentation or decoration.
- Production. In determining whether its conflict minerals are “necessary to the production” of a product, a company should consider whether a 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.
In either case, only a conflict mineral that is contained in the product should be considered “necessary to the functionality or production” of that product. However, there may be cases where the packaging is considered part of the “product,” e.g., where the composition of a pharmaceutical’s packaging is necessary to preserve its efficacy. Note also that there is no de minimus level below which use or existence of conflict minerals will avoid reporting; even trace amounts are enough.
If conflict minerals are not necessary to the functionality or production of any of your products, no further inquiry or disclosure is required.
The Reasonable Country of Origin Inquiry
If conflict minerals are necessary to the functionality or production of a public company’s products, it must make a “reasonable country of origin inquiry” for each such mineral. And any company – public or private – that supplies conflict minerals or components containing conflict minerals for inclusion in a public company’s products will also need to make this inquiry since it will undoubtedly be asked for information or a certification by the customer.
The inquiry involves attempting to determine whether or not the conflict minerals either (a) originated in any of the DRC Countries (the shaded areas in the map below) or (b) derive from scrap or recycled sources.5
Click here to view image.
- There is an exemption for existing stockpiles as of January 31, 2013. You need not investigate or disclose the origin of conflict minerals that are already outside of the supply chain before that date. This covers any conflict minerals that have been smelted (cassiterite, columbite-tantalite, wolframite) or fully refined (gold) and any conflict minerals that, while not smelted or fully refined, are located outside of one of the DRC Countries. However, if you will be obtaining or using conflict minerals that are in the supply chain on or after that date, the Rule will apply to them.
The SEC has not explicitly defined the parameters of a reasonable country of origin inquiry, but notes that it must both be reasonably designed to develop the information – absolute certainty is not required – and be performed in good faith.6 Willful blindness is neither reasonable nor in good faith.
You may rely on reasonably reliable representations from the facility that produces the conflict minerals used in your products or from your immediate suppliers if you have reason to believe these assurances are reliable.
- Reliance on a smelter’s representations would in any event be deemed “reasonable” if the smelter has received a third party audit under recognized standards verifying that it processes only “DRC Conflict Free” minerals.
- You need not necessarily receive representations from all your suppliers, depending on the circumstances. However, you must take into account any applicable warning signs or other circumstances indicating that your conflict minerals may have originated in one of the DRC Countries or did not come from recycled or scrap sources.
Several industry groups have published guidance and programs for doing due diligence on your conflict materials supply chain. We have included information on these at the end of this Advisory.
- The SEC release adopting Rule 13p-1 observes that, “The reasonable country of origin inquiry is consistent with the supplier engagement approach in the [June 2012] OECD7 guidance [cited in theAppendix to this Advisory] where issuers use a range of tools and methods to engage with their suppliers.” That guidance includes sample policies and communications with suppliers and others.
- The SEC expects that you will develop policies with respect to the sourcing of conflict minerals that will help guide your country of origin inquiry.
Disclosing Your Conclusions
No DRC Source / Recycled or Scrap Source
If, after conducting a reasonable country of origin inquiry: (i) you determine that necessary conflict minerals did not originate in any of the DRC Countries; (ii) you have no reason to believe that necessary conflict minerals originated in any of the DRC Countries; or (iii) you reasonably believe that necessary conflict minerals are from recycled or scrap sources, you must:
- Disclose your conclusion in new Form SD (initially by May 31, 2014), along with a brief description of the inquiry you conducted.
- Make the disclosure available on your website for one year and provide the internet address of that site in Form SD.
Although companies are not required by the SEC Rule to maintain records demonstrating that necessary conflict minerals did not originate in the DRC countries, maintenance of records of the inquiry is important as you may need to demonstrate compliance, and in any event maintenance of records will likely be required by any nationally or internationally recognized due diligence framework applied by an issuer.
Not DRC Conflict Free or DRC Conflict Undeterminable
If based on your reasonable country of origin inquiry, you know or have reason to believe that your necessary conflict minerals originated in the DRC Countries (and did not or may not have come from recycled or scrap sources) you must (a) exercise “due diligence” – conforming to a nationally or internationally recognized due diligence framework – on the source and chain of custody of your necessary conflict minerals, (b) provide in a Conflict Minerals Report filed on Form SD a detailed description of your efforts to determine the mine or location of origin and the facilities used to process the conflict minerals, and (c) obtain an independent audit of that Report which expresses an opinion as to whether your due diligence measures were designed in conformity with the criteria of the due diligence framework used and whether your description of the due diligence measures performed is consistent with the due diligence process undertaken.
- During 2013 and 2014 (2013-2016 for smaller reporting companies), you may omit the independent private sector audit report with respect to any conflict minerals that are “DRC conflict undeterminable,” that is, after a reasonable country of origin inquiry and supply chain due diligence, you cannot determine that your conflict minerals did not originate in the DRC Countries, that the conflict minerals that originated in the DRC Countries did not directly or indirectly finance or benefit armed groups, or that the conflict minerals came from recycled or scrap sources. However, you will be required to disclose the steps you are taking to mitigate the risk that your conflict minerals benefit armed groups, among other things.
We will provide more detail about these diligence, disclosure and audit requirements in our next Advisory.
Steps to Take Now
- Form an internal team – with senior management support – to gather information, develop policy, and undertake the necessary investigations. This should include representatives from procurement, research and development, supply chain or other appropriate departments.
Determine whether conflict minerals are included in any products you manufacture or contract for manufacture.
- If so, determine whether the conflict minerals are “necessary to the functionality or production” of the product; i.e., whether you are subject to SEC Rule 13p-1.
- If your company is a supplier to public reporting company manufacturers, determine whether the conflict minerals are “necessary to the functionality or production” of their products.
- If you are subject to the rule, or anticipate having to certify to your customers, promptly identify your suppliers of products that contain conflict minerals and communicate that their cooperation will be required in order for you to comply with the rule.
Update your procurement and other relevant policies to address sourcing of conflict minerals in light of the new requirements.
- Adopt reasonable processes to determine the country of origin of the conflict minerals used in your products and whether the conflict minerals used in your products are from recycled or scrap sources.
- Determine whether you will require your suppliers to provide you with only conflict minerals or products containing conflict minerals that originated outside the DRC Countries.
- Investigate the guidance and assistance available from relevant industry trade associations that have already taken an active role in conflict mineral supply chain tracing efforts and compliance, such as the Electronic Industry Citizenship Coalition (“EICC”), and coordinate your efforts with theirs.
- Familiarize yourself with the Due Diligence Guidance published by the OECD (see the Appendix to this Advisory), which includes internationally recognized due diligence frameworks explicitly approved by the SEC.
Familiarize yourself with the Conflict-Free Smelter Program, developed by the EICC and Global e-Sustainability Initiative (“GeSI”) Work Group, which makes it possible to identify smelters that can demonstrate through an independent audit that materials they procure did not originate from sources that contribute to conflict in the DRC Countries.
- See, e.g., the Conflict Minerals Reporting Template created by the EICC and GeSI Work Group, for compiling sourcing information on tantalum, tin, tungsten, and gold used in your products.
- Take steps to train relevant employees regarding the conflict minerals rules and best practices for compiling supply chain tracing data from suppliers.
- Update your internal controls to cover the foregoing, including documenting your analysis of whether you manufacture or contract to manufacture products containing conflict minerals necessary to the functionality or production of the products, your country of origin inquiry and your due diligence processes, if applicable.
- If you are an SEC reporting company, update your disclosure controls and procedures to ensure timely processing and SEC reporting of the required information.
Click here to view Appendix and flowchart.