by Cydney Posner
On April 5, just prior to the release of Corp Fin’s Updated Statement on conflict minerals, the Senate Subcommittee on Africa and Global Health Policy held a hearing on the effects on the Democratic Republic of the Congo of Section 1502 of Dodd-Frank and the SEC’s related conflict minerals rule, examining the approach taken in the rule and its achievements. The hearing comes as Congress considers whether and how to revise Section 1502. While the witnesses were divided in their views of the value of Section 1502, surprisingly, there was something of a common theme — that the illicit trade in conflict minerals is more a symptom of the problem in the DRC region, not at the root, and that addressing the trade issue alone will not suffice.
The witnesses generally agreed that Section 1502 has had mixed results. To some, one of the reasons has been, as one witness phrased it, that the “law treated the mineral trade as a stand-alone process, divorced from local, national and regional politics, and its proponents presented the regulation as a silver bullet to a much more complex problem.” Instead of focusing solely on trade, another witness observed, regional governments and the international community must also provide more governmental political and developmental assistance “to create the necessary preconditions to allow private sector and civil society initiatives to thrive.” It seems, however, that your view of the success of the law necessarily depends on how expansively you characterize its goal. Looking at the issue from the glass-half-full perspective, another witness argued that Section 1502 was not designed to be a panacea to solve all the ills of the DRC, but rather as a tool with a limited purpose — to impede the financing efforts of armed groups; to the extent it was successful in doing so, it “was a good thing.”
SideBar: The Corp Fin Updated Statement, issued on April 7, advises that companies will not face enforcement if they perform only a reasonable country-of-origin inquiry and file only a Form SD and do not conduct detailed supply-chain due diligence or prepare and file a conflict minerals report (Item 1.01(c) of Form SD) —even if they would otherwise be required to do so under the rule. In a separate Statement, Acting SEC Chair Michael Piwowar commented that the “primary function of the extensive and costly requirements for due diligence on the source and chain of custody of conflict minerals set forth in paragraph (c) of Item 1.01 of Form SD is to enable companies to make the disclosure found to be unconstitutional. In light of the foregoing regulatory uncertainties, until these issues are resolved, it is difficult to conceive of a circumstance that would counsel in favor of enforcing Item 1.01(c) of Form SD.” Piwowar also indicates in his Statement that he has instructed the staff to work on a recommendation for future action, taking into account public comments received on the rule. (See this PubCo post.)
In his opening statement, the Subcommittee Chair reported that there have been some positive results of Section 1502 in the region and that consumer and investor awareness of the issue has increased domestically; however, the basic problem of violence and instability persists and the implementation of the rule has been costly. The Ranking Member also noted substantial progress and advocated that a multifaceted approach, including aid and reforms, be implemented — more international attention to the root causes of the problem, not less.
A representative of the Information Technology Industry Council emphasized the tech industry’s continued strong commitment “to ethical sourcing throughout our supply chains. As Congress considers replacing or modifying section 1502, we urge you to ensure that the U.S. remains centrally engaged in driving diplomatic efforts in Central Africa and in supporting private sector initiatives to advance responsible sourcing. Should the U.S. fail to remain engaged, we could experience additional volatility on the ground in Central Africa, and inconsistent regulatory efforts arising in other jurisdictions.” While “the private sector has a defined role to play in helping drive transparency and responsible sourcing efforts throughout global supply chains,” he recognized, the “geo-political challenges” in the DRC region and throughout Central Africa “are so severe, enduring and complex that only concerted actions by regional governments, coupled with ongoing support from the international community, will resolve them.”
He also reported that the rule has yielded mixed success in cutting off funding to armed groups: real progress has been made with regard to production and export of the 3Ts (tin, tantalum and tungsten) from validated mines and other positive trends — due, in part, he said, to Section 1502 — including “more than 40 smelters [that] now source from the region via validated programs.” However, gold exploitation and smuggling have continued due to the high value of gold in low volumes: “dominion over gold mining and trading has become the preferred source of illicit income for armed groups across the spectrum.” In addition, like squeezing a balloon, armed groups and other corrupt actors in the region have simply resorted to numerous other sources of illicit income.
Section 1502 has also had unintended adverse consequences, he reported, including, when the provision was first adopted, creating a de facto embargo of minerals from the region and, domestically, inordinate impact on small- and medium-sized enterprises. And, he echoed the theme noted above of the need for political support:
“Finally, Section 1502, by focusing almost exclusively on the role of the private sector, has diverted critical attention away from the indispensable role of governments in addressing the endemic political, security, and humanitarian crises in the region. Private sector initiatives alone cannot succeed in a region beset by rampant conflict and corruption, and destabilized by chronic interference and intrusions from neighboring countries. The underlying causes of this regional conflict are political, not economic, and are linked to entrenched ethnic enmities and disputes over political power, land rights, and citizenship. While control over natural resources is in part responsible for fueling violence in eastern Congo, it is striking to note that adjacent areas that are equally rich in resources are not plagued by conflict.”
He recommended the following:
- Expand existing diplomatic efforts to drive peace, security and governance in Central Africa, including intensifying U.S. support for political and diplomatic solutions that advance regional security, and provide targeted development aid.
- Maintain U.S. leadership on sourcing transparency to support continued progress in Central Africa and avoid unintended outcomes, including focusing on and advancing the OECD Due Diligence Guidance. If the federal government were to cease engagement, it could result in loss of progress, even if tech companies continued their commitment, especially given that the tech sector is only a minor consumer of the most problematic mineral, gold. In addition, other regions might impose inconsistent regulations.
- Consider removing the requirements of Section 1502 that have increased costs and burdens but have not promoted progress in the region, including the provisions that deter companies from engaging economically in the region, such as the independent private sector audit, preparation and filing of the Conflict Minerals Report with the SEC, and the need to characterize products, all of which he urged, “result in costly paperwork and duplicative due diligence exercises that generate little or no benefit in the impacted region.” To eliminate the competitive disadvantage for public companies, he also urged that these requirements be removed from the securities laws.
A Congolese-American lecturer at the School of Advanced International Studies at Johns Hopkins University also offered testimony, providing his view of the merits and failings of Section 1502. With regard to the merits, he identified raising consumer awareness of the links between the conflict in the Congo and consumer electronics, an immediate psychological effect on Congolese authorities and business operators, an attempt to clean the mineral supply chain to curtail the illicit trade in conflict minerals, acceleration of “delimitation and registration” of mines and quarries and training of the mine police and inspectors, and increased difficulties for armed groups to raise revenue from mines they controlled. However, the law failed by leading to a de facto boycott of mining products from the region and closures of trading posts and by increasing unemployment and loss of revenue for artisanal miners, which resulted in increased fraud, banditry and kidnappings. The law also did not take into account other illicit sources of revenue that armed groups accessed. In addition, he believed that Rwanda had taken advantage of Section 1502 to launder and certify mineral resources from the DRC, resulting in a loss of Congolese resources and revenue. And, as noted above, he argued that the law failed to recognize that the mineral trade did not function independent of local, national and regional politics, nor was the law a silver bullet that could address the more complex problem. In effect, he maintained, there was a disproportionate effort aimed at trade at the expense of making the political effort to address “the larger governance crisis that fuels insecurity and instability in DRC.”
Moreover, he did not think the region was any closer to peace and could arguably be “at its most explosive level in two decades.” According to this witness: “[d]ue to its myopic approach, Section 1502 misdiagnosed the mineral trade as the root of the conflict, not as a symptom, and offered inadequate prescriptions and no reprieve from the aforementioned incidents. Proponents of the law ignored the multidimensional nature of conflict and failed to adjust their narrative as it became clear to independent analysts that Section 1502 would not and could not bring peace.” He recommended that the legislation should have been part of a comprehensive process, but, “[a]s it now stands, Dodd-Frank Section 1502 launders, legalizes and certifies the looting of Congolese resources — a net loss for DRC. This law should be folded and discontinued.”
In response to questions, he also contended that the SEC was not equipped for this particular challenge, but rather, given the foreign relations context, the issue would be better addressed through USAID or the State Department. He also recommended that the U.S. “demand greater accountability of the UN peacekeeping mission,” which he believed has stifled “the emergence of a functional state and an adequate professional army in Congo,” along with a credible exit plan. Finally, he urged the U.S. to continue to exert pressure on the current regime to open the political process.
A representative of Human Rights Watch looked at the problem through a somewhat different lens — in his view, Section 1502 was never intended to be a panacea that would solve the problems of the region by itself. Rather, he recognized that many factors were implicated that would not be affected by Section 1502. Instead, Section 1502 was developed for the specific purpose of raising “transaction costs” for armed groups and other illicit actors and improving transparency in the process. Much like the beneficial effect of the Kimberley Process on blood diamonds, he contended, to the extent that 1502 accomplishes that specific purpose, that is “a good thing.”
In the view of this witness, Section 1502 should be viewed as “an important tool to help address a specific goal: stopping the flow of funds to abusive armed groups who were exploiting Congo’s lucrative mining resources through increased transparency and accountability.” Although legislation can be “a blunt tool” with unintended consequences, repeal of the law would be “damaging for security, human rights, and for responsible companies.” He noted that the previous de facto boycott of minerals from the region occurred as a result of the uncertainty arising from adoption of the statute and subsided once the rules were adopted and the requirements known. He was concerned that re-opening the statute and rulemaking could once again lead to uncertainty and again ignite a boycott and further instability.
In light of ongoing violent political activity, he believed that repeal would “make an already explosive situation in Congo worse,” allowing armed groups to fund themselves secretly. In addition, he contended that suspending the law would competitively harm “responsible American companies that have embraced the law and the principles that underpin it,” creating a “race to the bottom.” He also noted progress in the 3Ts, but persistence of problems with gold where, he advocated, work with many countries was necessary to provide the required level of control.
Acknowledging that Section 1502 was imperfect, he supported constructive ideas to make the provision more efficient and effective, but had not yet heard those types of proposals from industry leaders or others and advocated that the U.S. continue to lead in this area. He noted in particular, that costs of compliance have decreased as new tools have been developed. He also recommended that companies compliant with Section 1502 be favored in government procurement, tax credits or comparable incentives and that Congress otherwise “encourage efforts to support and promote conflict-free smelters on the ground. The principal way to do this is to make sure more companies are complying and sourcing from responsible mining and smelting sources.” In addition, he recommended that one approach to revising the statute might be to add a safe harbor for companies that comply with other regulatory schemes, such as the rules just approved for the EU, which are also based on the OECD Guidance. (See this PubCo post.)
SideBar: It’s also worth noting that the State Department has issued a Notice of Stakeholder Consultations on Responsible Conflict Mineral Sourcing, seeking input from stakeholders to inform recommendations of how best to support responsible sourcing of tin, tantalum, tungsten and gold. As part of its comment solicitation, it announced that the U.S. “remains committed to working with our partners to break the links between armed groups and the minerals trade in the Democratic Republic of Congo and other countries in the Great Lakes Region of Africa. The United States has played a leading role encouraging responsible sourcing and supply chain management in the minerals sector in this region as part of broader U.S. efforts to support peace and security, and to ensure that the region’s resource wealth helps advance broad, inclusive, and sustainable socio-economic development.” The comment period ends on April 28. State’s action in requesting comment suggests that it may play a wider role in determining next steps for conflict minerals. (See this PubCo post.)