On July 2, the U.S. District Court for the District of Columbia invalidated on summary judgment the resource extraction rules adopted by the SEC pursuant to the Dodd-Frank Wall Street Reform and Consumer Protection Act ("Dodd-Frank"). The resource extraction rules, adopted in August 2012, would have required certain companies to publicly disclose, in a new annual report, payments made to the U.S. federal government or to foreign governments in connection with the commercial development of oil, natural gas, or minerals. Trade groups, including the American Petroleum Institute and U.S. Chamber of Commerce, filed a legal challenge to the resource extraction rules in October 2012 arguing, among other issues, that the SEC erroneously read the statute as requiring public disclosure of the new annual report, that the SEC was arbitrary and capricious in declining to grant an exemption for countries that prohibit disclosure of such payment information, and that the SEC's cost-benefit analysis was flawed. The court agreed, adding criticism of the SEC's effort, ruling that (i) the SEC misread the statute to mandate public disclosure of the reports, (ii) the SEC's decision to deny any exemption was, given the limited explanation provided, arbitrary and capricious, and (iii) the SEC failed to address the burden on companies and investors.
The court highlighted several deficiencies in the SEC's analysis and adoption of the resource extraction rules. First, the court determined that, counter to the SEC's interpretation, the statute did not compel the SEC to require the public disclosure of the payment information. The SEC, the court reasoned, could have read the statute to require public disclosure of only a compilation of such information. Because the public disclosure requirement contained in the resource extraction rules was not based on the SEC's own judgment, but rather on the SEC's assumption that it was required by the statute, the court held that the resource extraction rules must be declared invalid, even though the SEC might have been able to require the public disclosure in the exercise of its discretion.
Second, the court determined that the SEC's decision to deny any exemption in the resource extraction rules where countries prohibit payment disclosure was arbitrary and capricious. Noting that the lack of an exemption could potentially result in billions of dollars in costs to affected companies, the court found that the SEC failed to adequately consider the potential burden on competition and investors.
Finally, although the court noted that other portions of the resource extraction rules were flawed, the court found that there was no need to rule on the plaintiffs' other arguments or their First Amendment challenge to the resource extraction rules at the present time. The court invalidated the resource extraction rules and remanded the matter to the SEC for further proceedings.
The court's decision to invalidate the resource extraction rules is a victory for public companies and their shareholders. Further, it is a reasoned and welcome relief, albeit perhaps a temporary one, from a recent trend of using the public company reporting regime for the purpose of serving public policy objectives that may not be material to shareholders and are achieved only at considerable expense.
For now, it would be prudent for companies that are affected by the statute to continue to compile the information that would have been required to be disclosed pursuant to the invalidated rules. The push for public disclosure of payments made in connection with the commercial development of oil, natural gas, or minerals is likely not over. Because the court's decision was based solely on administrative grounds, this setback for the SEC may be only a temporary delay in the implementation of the statutory requirements. The SEC could craft revised rules requiring public disclosure or it could adopt revised rules requiring the submission of the same information to the SEC on a confidential basis. It is unclear whether the SEC will appeal the court's decision or immediately pursue another rulemaking initiative in light of its already heavy workload and the fact that many of the other Dodd-Frank rulemaking projects are considerably behind schedule. In any event, it is likely that implementation of resource extraction disclosure rules will be delayed rather than halted but, as a result of this ruling, any subsequent rules will take a different form.
Plaintiffs, including the U.S. Chamber of Commerce, are also challenging the SEC's rules implementing another provision of Dodd-Frank that requires public companies to publicly disclose their use of certain "conflict minerals." Although this challenge is a separate case, the legal arguments against the conflict minerals rules are similar to some of the claims made in the case against the resource extraction rules.