Supply Chain

Why Conflict Minerals Disclosure is Serious Business

Though compliance is still far out, Dodd-Frank's conflict minerals and resource extraction rules should be on every CFO's radar screen.
Kristine BrandsAugust 23, 2013

There are two important sections of the Dodd-Frank Act that absolutely must be on every CFO’s radar screen: Section 1502 for conflict minerals and Section 1504 for resource extractions (how much a firm may pay governments for access to minerals, oil and gas), both of which require complex disclosures if companies meet the criteria.

Why are these so important? According to the SEC, approximately 6,000 issuers will be required to perform some level of due diligence to determine if they are required to comply with the disclosure, and an estimated 4,500 companies ultimately will be required to file disclosures. The SEC’s Conflict Minerals filing requirement is based on the calendar year, with the initial period for the calendar year ended December 31, 2013. The effective date for the filing is 150 days later on May 31, 2014, when Form SD (Specialized Disclosure) is filed as an electronically tagged XBRL schedule. While the initial filing due date is more than nine months away, affected companies must understand what is involved now to meet this requirement and organize the processes and resources to comply.

And what’s more, in cases where a company has used conflict minerals sourced from certain countries, the SEC has a zero-tolerance policy for reporting errors, opening up companies to serious exposure.

How Does It Affect Companies?
The conflict minerals disclosure is the most challenging of the two sections. Many companies may be unaware of the materials included in this category or that they are using them in their products. Conflict minerals, after all, include tin, tantalum, tungsten and gold (3TG), which are used in a wide variety of manufacturing activities, such as making jewelry and fabricating highly in-demand electronic components for cell phones. The issue is that major global sources of 3TG minerals are in the Democratic Republic of the Congo (DRC) and bordering countries including Tanzania, Uganda and Zambia, collectively known as “covered countries.” Warlords have used funds from selling conflict minerals to commit human rights atrocities in the covered countries. The objective of the SEC disclosure is to ensure that companies using the minerals in their products purchased them from legitimate sources. Minerals sourced from smelting processes, scrapped or recycled minerals are not covered under the rules.

It’s important to know that there are international conventions for extracting these minerals, and conflict minerals disclosure requirements are not limited to the Dodd-Frank Act and the SEC rules. Australia, Canada and the European Union have also mandated reporting disclosures, as have California and several U.S. cities. 

What’s the Best Way to Comply?
The SEC’s final rules require three steps for compliance. Step one requires that a company evaluate its manufactured products to determine if they contain conflict minerals as defined by the Dodd-Frank Act. If a company determines conflict minerals are not used, no disclosure is required.

However, if a company determines that conflict minerals are used, the company must perform step two, which involves determining whether conflict minerals were sourced in the covered countries. The company’s challenge and risk is polling its supply chain to determine if any of its suppliers are sourcing minerals from the covered area, a potentially costly due diligence activity that could involve evaluating thousands of suppliers. Because it is unlikely that a company’s Enterprise Resource Planning (ERP) system is able to perform this analysis and because of the complexity of many organizations’ supply chains, companies need to develop a specialized process to perform the analysis.

If at the completion of step two, a company determines that it sources conflict minerals that were not from the covered countries, it must complete the SD, describing the process followed to make that determination. If the company determines that conflict minerals were sourced from covered countries, it proceeds to step three.     

Step three, then, requires that the company prepare a Conflict Minerals Report detailing the supply chain source and custody of the conflict minerals (excluding scrap or recycled materials). The due diligence requirement to prepare this report involves using an internationally recognized framework, such as the 2011 Organization for Economic Co-operation and Development’s (OECD) Due Diligence Guidance for Responsible Supply Chains of Minerals from Conflict-Affected and High-Risk Areas. The filer submits Form SD to explain the disclosure but is not required to submit the Conflict Minerals Report to the SEC. However, the filer is required to obtain a third-party audit of the report and include the auditor’s statement in the report. The objective of the audit is to verify that due diligence was performed following an internationally recognized framework.

Dealing With Resource Extractions
The second provision of the Dodd-Frank Act is Section 1504, which requires issuers involved in the commercial development of oil, natural gas and minerals to disclose resource extraction payments to U.S. and foreign governments in Form SD. The rules developed by the SEC required issuers to file an annual report detailing these payments. However, in early July, the U.S. District Court in Washington, D.C., vacated the SEC’s resource extraction rules. The court found that the Dodd-Frank Act does not require a detailed disclosure and that such a disclosure could be very expensive to prepare and affect companies’ competitive advantage. Thus, the SEC is expected to reissue new rules for resource extraction payments in the near future that address the District Court’s findings.

Additionally, there are four countries that prohibit public disclosure of payment information: Angola, Cameroon, China and Qatar. An XBRL tagged schedule is also required for this disclosure.

While many sustainability or corporate social responsibility reports (CSR) reports have few reporting standards and are often compiled by a public relations team, the SEC’s hard line on conflict minerals means that companies must take a closer look at this issue. With no “fudge factor,” companies face high exposure and severe consequences for any oversight.

By Kristine Brands, CMA®, is an assistant professor at Regis University in Colorado Springs, Colorado. She also serves as a member of IMA‘s (Institute of Management Accountants) Global Board of Directors.