Statement at SEC Open Meeting: Proposed Rule to Implement Section 1502 of the Dodd-Frank Act — the “Conflict Minerals” Provision
Commissioner Daniel M. Gallagher
U.S. Securities and Exchange Commission
August 22, 2012
Thank you, Chairman Schapiro. And thanks to the staff, in particular Paula Dubberly and John Fieldsend, for their tremendous efforts on this rulemaking. Rarely do issues come our way that are this “outside the box,” and the staff’s dedication and creativity throughout the rule-writing process are a tribute to the agency’s professionalism. I also want to recognize the many commenters I have met with on this topic, as well as our next rule, over the nine months since I returned as a Commissioner. Many of these groups are represented by incredibly passionate and intelligent people. It is encouraging that these folks have dedicated their careers and are applying their talents to such noble ideals.
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1. Section 1502 has three main parts:
- Subsection (a) expresses the “sense of the Congress” that the sale of certain “conflict minerals” is financing extreme levels of horrific violence in the Democratic Republic of the Congo — the “DRC.”
- Subsection (b) tells us what the SEC is supposed to do about that. It tells us to promulgate rules that require issuers to disclose whether they or their suppliers use any “conflict minerals” from the DRC.
- Subsection (c) requires the Secretary of State to come up with a strategy to promote peace and alleviate the horrific violence that has become the hallmark of daily life in the DRC.
It is easy to see that the SEC role in this provision is the anomaly. That’s because disclosure requirements in the securities laws are about telling investors what they reasonably should want to know before investing in a company. The point is to give investors information that is inherently “material” to their investment decisions. Disclosure is, and should be, the primary tool for the SEC to use in satisfying its mission. And so it is paramount that we focus on getting timely, material disclosures to investors.
What is happening in the DRC is an outrage. It is an ongoing moral and humanitarian disaster. Everyone, all investors — individual and institutional alike, regardless of investment philosophy — as well as every listed company and its officers —— should want to end the violence in the Congo. I, for one, have learned a lot about the issues facing the DRC in this rulemaking process, and I can tell you that I am sickened and outraged.
The situation in the Congo is repugnant on every level. It is expressed in ways that show contempt for life itself, and for all humankind. It must be stopped. The United States and every other civilized nation have a pressing moral and civic obligation to take all reasonable steps to compel the perpetrators to cease their murderous, rapacious conduct.
Unfortunately, Section 1502 is about curtailing violence in the DRC; it is not about investor protection, promoting fair and efficient markets, or capital formation. Warlords and armed criminals need to fund their nefarious operations. Their funding is their lifeline; it’s a chokepoint that should be cut off. That is a perfectly reasonable foreign policy objective. But it’s not an objective that fits anywhere within the SEC’s threefold statutory mission.
I am not a foreign or humanitarian policy expert, but it seems to me that taking the fight directly to the warlords would be a much more efficient process than waiting and hoping for some positive trickle-down effect attributable to new SEC reporting requirements under section 1502. I fear that promulgation of this rule will raise false hopes. Worse yet, what it may help do is contribute to a reduction in, or abandonment of, commercial activity in the DRC — a de facto economic embargo — as U.S. issuers scramble to avoid a “scarlet letter”. And if there is anything that seems to be a reliable predictor of chaos and violence anywhere in the world, it is economic hopelessness.
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This is not a rule that the Commission would have promulgated voluntarily — we are here today because of a congressional mandate. Yet we need to be mindful that Congress did not dictate rule language. This is very different from other, specific Congressional directives, such as Section 939G of Dodd-Frank, in which Congress intends to leave the Commission no discretion. This rule is replete with policy choices — elective exercises of Commission discretion — that Congress did not mandate in section 1502.
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The final rule has changed very considerably in the nearly two years since the Commission first proposed it. Moreover, the standard by which the Commission’s staff conducts the economic analysis that is meant to provide a solid foundation for our rulemaking has also changed, largely in response to several highly critical judicial decisions. Implementation of this newly binding “Guidance for Economic Analysis” was meant to shed empirical light on the benefits and costs entailed by each of the several options open to us in implementing this, and almost any other, statutory mandate.
The Division of “Risk Fin” has, of course, fully vetted this rule. The “Economic Analysis” section of the release covers 80 pages. Even so, we are left with no empirically founded sense of what the particular benefits are as compared to the significant, identifiable costs. I appreciate the candor of the release, as it clearly states that we cannot quantify the benefits of this rule, and that the benefits sought by the rule are fundamentally different from the investor protection and economic benefits typically sought in our rules. Instead, for benefits we are left with the policy goals posited by Congress and the comments received thereon.
The release also notes that it does not appear that the objectives of Section 1502 will result in direct economic benefits to issuers or investors. At the same time, we should all recognize that the costs of this rule — including initial costs estimated by the staff to be three to four billion dollars and by some commenters to be closer to sixteen billion dollars — will be directly borne by issuers and investors.
We are encouraged to infer unlimited benefits from the humanitarian objective that gave rise to section 1502. More candidly still, we have been asked whether, if the rule might help even a little, even once or incidentally, that would be enough.
The statutory framework that establishes the SEC’s economic analysis obligations does not permit the agency to infer benefits. More is expected, and should be expected. In an instance such as this in which we do not have the tools or expertise to analyze benefits with specificity, the Commission has regrettably been set up to fail. We are, in other words, not the right tool for this job.
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With respect to the specifics of this rule, I would like to underscore a few points that deserve emphasis.
First, the ongoing costs of monitoring for these four minerals — auditing to detect them and reporting how that was done — will fall on all issuers alike, both large and small, as well as their suppliers — those who have knowingly used those minerals, as well as those that have never had any reason to know whether their products contained them, let alone where they originated. There is no exemption for smaller companies. That, I believe, is a fundamental flaw.
The bundle of costs we impose is uniform — one size to fit all. By contrast, the revenue streams that will have to carry those costs vary widely. As a result, the burden of this rule will inevitably fall disproportionately on smaller businesses — those whose industry most stimulates our economy and, with it, job creation — even though large companies may have to spend a great deal more to ensure their compliance. I realize that the statute doesn’t provide for a small business exemption and that any exemptive line-drawing would necessarily be arbitrary. However, our exemptive authority is inherently discretionary, although it is there to be used when necessary and appropriate, not just when Congress has itself created exemptions. This, I believe, is what Congress intended when it gave us exemptive authority. And as useful as this exemption would be to small issuers, I recognize that it would still not relieve the burden of small, private companies in the supply chain of large public companies. Their burden will be immediate.
Separately, there is no de minimis exemption from the burdens we impose today. There is no exemption for those whose use of conflict minerals from the Congo is incidental or negligible. Yet one would have to concede that such producers’ compliance with our proposed rule could have, at most, a small and indirect impact, if any, in ameliorating the problem — a negligible benefit. Again, I believe this is a fundamental flaw in the rule.
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I want to stress that, in connection with conducting an economic analysis, it is unreasonable for the Commission not to consider exemption — the use of our exemptive authority — unless, in the case of a statutory mandate, the statute itself specifically excludes any exemption, as we have seen in Dodd Frank Title VII rulemaking. Exemptive authority is inherently a part of the SEC’s rulewriting authority. In this instance, I would argue that it is not enough to assert, as the release does, that an exemption for small businesses is not permissible because it would not be in the spirit of the mandate, or is not specifically provided for in section 1502. On the contrary, in implementing this or any other such mandate, I believe the Commission is free to consider, and arguably even required to adopt, such exemptions as would avoid unnecessary costs while giving effect to the mandate.
The “Economic Analysis” section of this release is silent on the issue of whether it would be possible to achieve section 1502’s objectives — its benefits — while alleviating costs to affected issuers in general, or smaller reporting companies in particular. In sum, because we cannot make a reasonable judgment whether those costs are necessary, we cannot, to that extent, meet our responsibilities to consider the economic consequences of our action.
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This rule, like any other disclosure rule, is intended to achieve certain benefits at the price of imposing certain costs on reporting issuers. In this instance, the costs will not be limited to one-time ramp-up costs, nor to issuers who actually use significant amounts of “conflict minerals” from the DRC. All issuers registered with us, along with private companies in their supply chains, will continue to have to carry the costs of monitoring the details of their direct and indirect supply chains to determine whether DRC-originated “conflict minerals” are in their products.
I do not like to see social or foreign policy provisions engrafted onto the securities laws. I have serious doubt, in any event, about the efficacy of using the securities laws to effect social and foreign policy aims, however noble and urgent. I do think it is incumbent on the Commission to identify and evaluate specifically the benefits of any rule we consider, including those driven by a congressional mandate. In that connection, I also believe that the limits of the SEC’s statutory mission are relevant. For these reasons, I cannot support the rule.
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I have no questions.