On August 18, 2015, the United States Court of Appeals for the District of Columbia Circuit reaffirmed that both Section 1502 of the Dodd-Frank Act and its implementing Conflict Minerals Rule issued by the SEC violate the First Amendment to the extent that they require issuers to state on their website and to report to the SEC that their products have "not been found to be 'DRC conflict free.'" Nat’l Ass’n of Mfrs. v. SEC, No. 13-5252, 2015 BL 264988 (D.C. Cir. Aug. 18, 2015).

For more than the past decade, the Democratic Republic of the Congo (DRC) has been plagued with severe human rights violations perpetrated by armed groups. These groups finance their atrocities in part by exploiting minimally regulated mining operations in the DRC. To help alleviate armed conflict occurring in the DRC, Congress enacted Section 1502 of the Dodd-Frank Act, which directs the SEC to issue regulations mandating the investigation and disclosure of the origin of conflict minerals. The statute defines "DRC conflict free" as products which are free of "conflict minerals that directly or indirectly finance or benefit armed groups" in the DRC or adjoining countries.1 Conflict minerals, in turn, include tantalum, tin, tungsten and gold. These four minerals are widely used by companies in different industries and in various products. For instance, tin is often found in food packaging, automobile parts and plastics; tantalum in cell phones, computers and jet engines; tungsten in industrial manufacturing tools; and gold in jewelry.

The Conflict Minerals Rule employs a three-step process. An issuer must first determine if it is covered by the Rule. An issuer is covered if it files reports with the SEC under either Section 13(a) or 15(d) of the Securities Exchange Act of 1934 and manufactures or contracts with another to manufacture a product, the functionality or production of which necessarily depends on the use of conflict minerals. Next, a covered issuer must conduct a reasonable inquiry of the conflict minerals’ country of origin to determine whether the minerals came from the DRC or adjoining countries. If, after conducting such an inquiry, the issuer knows or has reason to believe that the minerals may have originated in those countries, it must exercise due diligence to determine the source and chain of custody of the conflict minerals. The issuer must file a conflict minerals report with the SEC if it still has reason to believe that the minerals may have come from the DRC or adjoining countries after its due diligence inquiry.2 The report requires, among other things, that the issuer describe the due diligence efforts expended (including an independent private sector audit) and any products that have "not been found to be 'DRC conflict free.'" The issuer must also disclose this information on its website. The disclosures and the conflict minerals report must be filed using a Specialized Disclosure Report (Form SD).

The Rule was supposedly intended to achieve the congressional objective of reducing armed conflict in the DRC and adjoining countries by informing consumers that the functionality or production of a particular product involves conflict minerals that benefited armed groups in the Congo war, thereby decreasing the demand for the product, and indirectly, the armed groups' profits. The D.C. Circuit, however, again concluded that the mandated disclosures do not pass constitutional muster.

In its prior decision, the D.C. Circuit had already ruled that the compelled disclosures violate the First Amendment, but did so under Central Hudson Gas & Electric Corp. v. Public Service Commission, 447 U.S. 557 (1980), declining to apply the less restrictive standard delineated in Zauderer v. Office of Disciplinary Counsel of the Supreme Court of Ohio, 471 U.S. 626 (1985).3 After an en banc D.C. Circuit expanded the reach of Zauderer in American Meat Institute v. U.S. Department of Agriculture, 760 F.3d 18 (D.C. Cir. 2014) (AMI), the SEC petitioned the court to consider the effect, if any, the AMI decision had on the constitutionality of the conflict minerals disclosures.

On rehearing, the court first answered the SEC’s question in the negative, concluding that Zauderer still did not apply to the conflict minerals disclosures at issue. Even if the disclosures fell within the governance of the now-expanded scope of Zauderer, the court added, the statute and the rule would still be unconstitutional.

The court gave two independent grounds for this conclusion. First, even assuming that the government’s interest in alleviating the humanitarian crisis in the DRC is sufficient under the AMI decision, the effectiveness of the government’s chosen means to achieve that end is speculative and conjectural, falling far short of that required under the First Amendment to compel speech. No congressional hearings were held on the likely impact of Section 1502 prior to its passing, and post-enactment hearings offered mixed evidence of the Rule’s effectiveness. According to the court, this scant evidence and the tenuous link between the Rule and its alleged effect cannot suffice. Second, for Zauderer to apply, the compelled disclosures must be of "purely factual and uncontroversial information" about the product or service being offered. The required disclosures failed this requirement. Acknowledging that the definition of "purely factual and uncontroversial" is far from clear, the court reiterated that the term "not DRC conflict free" is hardly factual and non-ideological; the label conveys moral responsibility and essentially requires an issuer to brand its products as having financed armed groups in the Congo war. Moreover, the law could not be saved by the government’s providing the definition of "DRC conflict free" in the Rule. Otherwise, the government would be allowed to force companies to use its preferred term by simply providing a "factual definition" of that term. Calling the compelled disclosures the equivalent of requiring an issuer to "confess blood on its hands," the court held that the statute and the rule violate issuers' First Amendment right.

Shortly after the D.C. Circuit’s recent opinion, the Government Accountability Office (GAO) issued its initial report on the Rule. According to this report, only 1,321 companies filed Form SD in 2014, a number substantially lower than the 6,000 the SEC Staff estimated could be affected by the Rule.4 Among those whose reports were reviewed by GAO, 99 percent conducted a reasonable country of origin inquiry, but 67 percent reported that they weren’t able to determine the origin of the conflict minerals due to difficulties in obtaining information from suppliers.

Given how widely used conflict minerals are and the lack of a de minimis exception, companies covered by the Rule should consult with their SEC counsel to determine how to comply with the Rule in light of the D.C. Circuit’s latest decision.

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115 U.S.C. § 78m(p)(1)(D).
2Note that the report is also required if the issuer knows that the minerals came from the DRC or adjoining countries after conducting the initial inquiry.
3Subsequent to the D.C. Circuit’s first ruling, the SEC issued a statement partially staying the Rule. Pursuant to that statement, an issuer is not required to declare a product as having "not been found to be 'DRC conflict free'" or as "DRC conflict undeterminable." The formal order partially staying the Rule was issued on May 2, 2014.
4U.S. Gov’t Accountability Office, GAO-15-561, SEC Conflict Minerals Rule: Initial Disclosures Indicate Most Companies Were Unable to Determine the Source of Their Conflict Minerals (2015).