Social Policy Provisions of the Dodd-Frank Act Create Compliance Difficulties for Public Companies

Two sections of the recently enacted Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”), which attempt to implement social policy goals by means of public company disclosure, will impose particularly costly compliance burdens on these companies.

            Section 1502 of the Dodd-Frank Act creates disclosure and reporting requirements regarding the use by public companies of “conflict minerals” from the Democratic Republic of the Congo and adjoining countries (“DRC countries”).  Section 1502(e)(4) of the Dodd-Frank Act defines “conflict minerals” as cassiterite, columbite-tantalite, gold, wolframite, or their derivatives, or any other minerals or their derivatives determined by the U.S. Secretary of State to be financing conflict in the DRC countries.  Cassiterite is used to produce tin (used in alloys, plating, and solders); tantalum (derived from columbite-tantalite) is used in electronic components; and wolframite is used to make tungsten (used in wire, electrodes and welding applications).

            On December 15, 2010 the U.S. Securities and Exchange Commission issued proposed rules implementing these disclosure and reporting requirements.   Those rules apply to issuers (domestic and foreign) that file reports with the SEC and for whom conflict minerals are “necessary to the functionality or production of a product manufactured” or contracted to be manufactured.  Only if an issuer determines that it does not use conflict minerals or their derivatives in its products or manufacturing process (which includes components used in assembling a product as well as products manufactured for the issuer under contract), would that issuer not be required to take any action or make any disclosure.  There is no de minimis criteria, so compliance is required no matter how minimal the use of conflict minerals may be.  Issuers that utilize conflict minerals would be required to determine, after a “reasonable inquiry” as to country of origin, whether their conflict minerals originated in the DRC countries.  Even if the issuer determines that its conflict minerals did not originate in the DRC countries, it would be required to affirmatively disclose this determination and the nature of its “reasonable inquiry” in its SEC reports.  If the issuer determines that its conflict minerals did originate in the DRC countries, or if it is unable to conclude that its conflict minerals did not originate in the DRC countries, that conclusion would also be required to be publicly disclosed and a “conflict minerals report” would be required to be filed with the SEC to provide a description of the due diligence efforts made by the issuer with respect to the source of its conflict minerals.  The report must include a “certified independent private sector audit” of the conflict minerals report and a listing of the issuer’s products that contain conflict minerals that it is unable to determine did not “directly or indirectly finance or benefit armed groups” in the DRC countries.  Filing companies could be liable for material false or misleading statements in their SEC filings.

            While the SEC was required to implement these rules by April 2011, in fact it extended the comment period initially provided and has not yet implemented such rules.

            Given the pervasive use of conflict minerals and their derivatives in the manufacturing or functionality of thousands of every day products, ranging from virtually all electronic devices to automobile and airplane parts to jewelry and household appliances, the full range of investigation and disclosure described above will be required from (according to the SEC) approximately 6,000 reporting companies.  The cost of this compliance and disclosure effort is, as a practical matter, impossible to estimate, despite the SEC’s attempt to do so.  Use of the public company disclosure route to implement U.S. foreign policy thus creates extraordinarily burdensome and expensive compliance efforts while still not assuring the implementation of these goals, worthy though they may be.  Surely, there are more efficient and less costly means achieving these goals.

            Another social policy provision of the Dodd-Frank Act is Section 953(b), which requires publicly traded companies to disclose in their annual meeting proxy statements and certain other filings the median compensation of “all employees of the company other than the chief executive officer”; the total compensation of the chief executive officer; and the ratio of the median employee compensation to the CEO’s compensation.  It was apparently the Congressional intent to embarrass companies who richly reward their CEO’s by highlighting the discrepancy, which is probably greater in the U.S. than in other developed countries and growing, between median employee pay and CEO pay.  While the SEC has not yet proposed rules implementing Section 953(b) of the Dodd-Frank Act, the implementation of this provision will create enormous, and perhaps in some cases virtually impossible, data compilation requirements.  Imagine a global company with hundreds of thousands of employees, some full-time, some part-time, some in the U.S. and some in perhaps dozens, if not hundreds, of other countries, some working the full year and some a portion of the year, as well fluctuating exchange rates as among various currencies.  How will it be possible to accurately determine the median compensation of all such employees?  Again, there is potential civil liability for companies that fail to accurately make that determination.  It is no wonder that in March 2011, members of the Capital Markets Subcommittee of the U.S. House Financial Services Committee introduced a bill to repeal the requirements of Section 953(b). While the bill recently cleared the House Financial Services Committee and has been referred to the full House, its ultimate fate is uncertain.

Mr. Kohl is National Co-Chair of Katten Muchin Rosenman's Securities Practice. He concentrates his practice in public company representation, including corporate financing matters, as well as partnership, limited liability company and securities law. He has extensive experience in all phases of business structuring and financing, including registered public offerings (initial public offerings and secondary offerings) and private placements (including Rule 144A debt offerings), acquisitions, dispositions, leveraged buy-outs, securities regulations, and venture capital financings. He represents corporations, partnerships, and limited liability companies, both public and private, domestic and foreign.  He can be contacted on +1 212 940 6380 or by email at Robert.kohl@kattenlaw.com.