KPMG Whitepaper: Dodd-Frank on Conflict Minerals (August 2011)
Conflict Minerals Provision of Dodd-Frank Immediate implications and long-term opportunities for companies August 2011 kpmg.com
ContentsSection 1: Summary ............................................................................................................2Section 2: The law and its requirements..............................................................................3Section 3: Analysis of industry action and challenges .........................................................5Section 4: KPMG’s recommended approach.......................................................................8Section 5: Long-term costs and benefits of implementing Section 1502............................9Section 6: Conclusion ..........................................................................................................9
Conflict Minerals Provision of Dodd-Frank | 2Section 1: SummaryEven as the “conflict minerals’’ provision neighboring countries in Central Africa, A small number of companies alreadyof the Dodd-Frank Wall Street Reform where proceeds of the mining activities have begun the work of performingand Consumer Protection Act (Dodd- have been used to finance armed militias supply chain due diligence, someFrank, or the Act) slowly garners attention committing atrocities in those war-torn even before Dodd-Frank was enacted;in board rooms, C-suites, and among the countries. and, a few industry groups have beenrank and file of companies around the instrumental in formulating industry-wide For many—if not most—businesses,world, questions abound regarding the solutions, with the high-tech industry the most daunting aspects of theprovision’s scope, impact, reporting, and taking the lead. However, the majority of provision will involve complying with theauditing requirements. companies have not yet taken any action requirement to conduct due diligence on to formulate a strategy, according to aThe conflict minerals provision, contained the origin of the conflict minerals, which recent KPMG survey on the topic. In fact,in Section 1502 of the Act, has a direct include gold, wolframite, casserite, it appears that general awareness of thebearing on reporting requirements on columbite-tantalite, and their derivative conflict minerals provision continues toabout half (at least 6,000) of all publicly metals, which include tin, tungsten, and be low. Corporate counsel and auditorstraded companies in the United States. tantalum. report that they have had to inform seniorThe Act directs the Securities and In today’s global economy, where executives at their affiliated companiesExchange Commission (SEC) to issue businesses utilize numerous vendors, about the conflict minerals provision,rules requiring companies to disclose in contract manufacturers, and strategic- its broad implications, and the reporting10-K, 20-F and 40-F filings whether they , alliance partners, knowing simply how deadlines. The final rules, which weremanufacture products containing certain to develop a strategy to determine the expected in April, are now anticipated tominerals mined from the Democratic source of minerals will be the first major be released before the end of 2011.Republic of Congo (DRC) or certain hurdle to clear. KPMG has developed a practical approach for conducting due diligence on conflict minerals—an approach that is in conformance with the Organisation for Economic Co-operation and Development (OECD) guidelines, and works well with tools and programs endorsed by two electronics industry associations—Electronic Industry Citizenship Coalition (EICC) and Global e-Sustainability Initiative (GeSI). While a number of organizations and specific businesses have raised a great deal of criticism about the complexity and ambiguity of the rules, a number of organizations that already have undertaken a supply-chain due diligence program have reported benefits beyond pure compliance of the rule requirements, not the least of which is supply-chain transparency. KPMG issued a recent Public Policy Alert addressing the impact conflict minerals provisions may have on strategic business planning such as supply chain optimization particularly during global expansion.
3 | Conflict Minerals Provision of Dodd-FrankSection 2:The law and its requirementsIntroduction In enacting Section 1502,The term “conflict minerals” is used to Congress hoped to remedydescribe certain minerals such as gold, what it perceived as thewolframite, casserite, columbite-tantalite exploitation and tradeand their derivative metals, which of conflict mineralsinclude tin, tungsten, and tantalum that originating in the DRC.are mined in the DRC or its adjoining Trade of these mineralscountries.1 help finance armed conflict, characterized byThe United Nations has been raising extreme levels of violence.1awareness of mining of conflict minerals The purpose of Section 1502 isas a source of revenue for armed militias to promote transparency and consumercommitting atrocities in the DRC for awareness regarding the use of conflictat least the past 10 years.2 Over the minerals and ultimately to discourage thelast several years, Non-Governmental use of conflict minerals by manufacturingOrganization (NGO) groups, such as the and processing companies.Enough Project3 and Global Witness,4have championed the cause and lobbied Apart from action on tin, tantalum,Congress and several major electronics tungsten and gold (commonly referredcorporations to take action. to as 3TG), Section 1502 leaves the door open for the U.S. Secretary of State toAttempts to legislate controls around the classify other metals/minerals as conflict Figure 1: DRC and adjoining countriesuse of these minerals began in 20095 minerals. Congress left the task ofand culminated with the U.S. Congress formulating guidelines and implementingpassing the Dodd-Frank Wall Street the rules to the SEC.Reform and Consumer Protection Actin 2010. Included in the Act was thelittle-known—and even less-understood—“Section 1502, dealing with conflict ”minerals. Table 1: Uses of 3TG and % from DRC1, 6 Metal Industries Using the Metal Common Applications Commercial Ores* % World-Supply from DRC Tin Electronics Solders for joining pipes and Cassiterite 5% circuits Automotive Tin plating of steel Industrial equipment Alloys (bronze, brass, Construction pewter) Tantalum Electronics Capacitors (in most Coltan (columbite-tantalite) 15-20% electronics), Medical equipment Carbide tools Industrial tools and equipment Jet engine components Aerospace Tungsten Electronics Metal wires, electrodes, Wolframite, Scheelite, 0.60% electrical contacts Ferberite, hübnerite Lighting Heating, and welding Industrial machinery applications Gold Jewelry Jewelry Various free and combined 0.5-2% forms Electronics Electric plating and IC wiring Aerospace
Conflict Minerals Provision of Dodd-Frank | 4Applicability from a conflict mineral to make another Current time lineThe section requires that companies product. In other words, the conflict On December 23, 2010, the SECthat file 10-K, 20-F or 40-F annual reports , mineral need not appear in the final proposed rules governing specializedwith the SEC, and use conflict minerals product to require reporting compliance. disclosure relating to conflict mineralsin their manufacturing processes and and opened a period for receiving public The provision specifically mandates threesupply chain, disclose in the reports comments. Final rules were due to be steps for companies to follow:whether the minerals came from the issued by April 15, 2011, but the releaseDRC or an adjoining country. 1. Determine if tin, tungsten, tantalum date was later delayed until sometime and gold are used to make its between August and December of 2011.7The disclosure requirements will impact products.myriad industries, from makers of For now, it is understood that the finalearrings, to cell phones, to combat jet 2. Determine if the metals they use rules will apply beginning with the annualfighters, to auto parts, and many more. originated in the DRC or neighboring report for the first full fiscal year after theThe SEC estimates the law may directly countries. If the metals did not enactment of the final rules (i.e., for aimpact as many as half (roughly 6,000) of originate in affected nations, calendar-year company, the annual reportall U.S. publically traded companies and companies must report how the for 2012 to be filed early in 2013).perhaps thousands more suppliers.1 company determined the metals’ Action by state and local governments origins.The rule affects: On April 12, 2011, a California State 3. If the metals were from DRC or Senate committee passed a bill that Publicly listed companies that adjoining countries—or the source would curb the use of conflict minerals manufacture products utilizing conflict is unknown—companies must trace from Congo.8 If passed, the bill would minerals. the supply chain for the source and prohibit the state government from Publicly listed retailers that carry furnish an independently audited contracting with companies that fail private-label products or contracted report on those due-diligence efforts. to comply with federal regulations on with another party to have a conflict minerals. In addition, two cities, The SEC mandate is expected to require product specifically made for them; Pittsburgh, PA; and St. Petersburg FL, the first and second steps of the process however, retailers that only sell other have taken steps toward becoming described, regardless of the origin of companies’ branded products are not conflict-free cities, and NGOs have been these metals. The third step—disclosure required to report. lobbying other cities in the United States of the products manufactured, facilities and Canada to follow suit.9 Certain private or foreign corporations where DRC materials may have been that operate in the supply chain of a used, etc.—must be completed only if publicly listed U.S. customer. While the DRC is identified as a source or if the they do not have SEC reporting source is not identifiable. Companies obligations, it is likely that many will must make specific disclosures in their need to provide documentation to annual report, and if applicable, furnish their customers. a conflict mineral report as an exhibit, and on their Web site whether they Certain public/private distributors use conflict minerals in a product they with no product specifically made for manufacture, or in products contracted them. Similar to private corporations, to be manufactured on their behalf. while they are not covered by the new regulations, they may need to Federal law does not prohibit companies conduct due diligence to provide from sourcing conflict minerals, nor information to their public customers. impose a penalty for doing so. However, the intent is to rely on public pressure toLaw’s requirement dissuade U.S. companies from indirectlyAll SEC-listed companies that use sourcing conflict minerals, and henceconflict minerals in the “functionality or fund the armed groups in the DRC.production” of a manufactured productmust comply with the Act, includingcompanies that used a product made
5 | Conflict Minerals Provision of Dodd-FrankSection 3: Analysis of industry action andchallengesChallenges to implementation Uncertainties include: deadline. Smaller companies are evenThere are many reasons why less likely to have developed a strategy. Nature and objective of audit:implementing Section 1502 could bechallenging for companies. Its mandate – Conformity with a recognized Figure 2: Company strategy for conflictto companies is extremely complex and standard mineralsit has been criticized in many quarters – Whether the issuer performed the Have you developed a strategy toas being vague and open to wide comply by the deadline? py y due-diligence proceduresinterpretation. Even though the SEC isexpected to issue further details later in – Origin of the conflict minerals Yes 17%2011, implementation may be challenging Applicable professional standards forfor the following reasons: audit: Choice between attestation or1. Uncertainties regarding the scope performance audit No Not sure/ Dont 59% of the requirement. Terms such as know Independence requirement: 24% “reasonable country of origin search” Standards set by the SEC, the Public and “substantial to the functionality” Company Accounting Oversight have caused a great deal of debate. Board (PCAOB), or the GAO % of companies that have not yet developed a strategy Also, the implications to retailers are to comply with regulation unclear, as is the extent to which due While the comments to the SEC10 80% 80% diligence will be required for recycled overwhelmingly supported the 70% 70% onses % responses 60% 60% materials. implementation of the new law, the 50% challenges were apparent in some of 40%2. Mapping the supply chain is the comments from companies, trade 30% 30% expected to be an arduous task. 20% 20% groups, and service providers, including Today’s supply chains are global and 10% 10% KPMG. However, it is unrealistic to 0% highly complex. Between the ore and expect that the SEC will be able to clarify <$0.5B $0.5B - $1B - $5B $5B - $10B - >$20B the final use, materials frequently $1B $10B $20B every requirement. In fact, requirements change hands 10 or more times. The Annual revenues are expected to evolve over time, and dynamic nature of sourcing of parts it will be up to the industries to find Source: KPMG Conflict Minerals Survey, 2011 and commodities that have yielded acceptable solutions. lower costs for companies have One of the first steps in “DRC conflict also made the supply chains less Individual company response and free” status is to develop a company transparent. Complexity can magnify potential reasons policy of not using conflict minerals and when companies use distributors Even before the conflict minerals including appropriate language in supplier or multiple suppliers for the same provision was signed into law, several contracts. The KPMG survey found that component. As a result, even large high-tech companies had started work fewer than 10 percent of respondents companies with substantial clout over on the issue. According to the Enough have even taken this step (figure 3). Not suppliers and extensive resources Project, companies such as Intel, HP, surprisingly, the majority of companies face significant challenges to map Apple, Dell, Motorola, Microsoft, and that have taken action are from the their entire supply chain. Nokia have begun conducting due high-tech industry or are suppliers to the diligence to become “DRC conflict3. Uncertainties regarding audit industry. free. 12 ” standards. Companies are finding it While there may be several reasons for difficult to reach a conclusion about Despite these examples, and a looming the inaction, a lack of understanding of how the audit will be conducted. The reporting requirement about to become the act seems to be a strong contributor. proposed rule does not clearly state a reality, most companies have not Just over 50 percent of companies the type of conclusion sought and acted. A survey conducted by KPMG’s surveyed in the affected industries claim related objective of the audit of the Americas’ Financial Services Regulatory to have a good understanding (2 or higher conflict minerals report; but leaves Center of Excellence (figure 2) indicated on a scale of 0 through 4) of conflict it to the Government Accountability that only 17 percent of respondents minerals (see figure 4). In fact, only five Office (GAO) to provide guidelines. in affected industries claim to have a percent of respondents said that they strategy to comply by the reporting understood the provision very well.
Conflict Minerals Provision of Dodd-Frank | 6Figure 3: Company policy and supplier Figure 4: Awareness of Conflict contracts Minerals Provision of Dodd-Frank Awareness of Conflict Minerals Provision of Dodd-FrankHave you started including verbiage in supplier contracts? 100% Yes 90% 5% Do not use 80% 80% 0 = Not aware aware 9% No 70% 70% 40% 1 60% Not sure/Dont know 46% 50% 2 40% 30% 30% 3 20% 20% Have you developed a company policy? 4 = Understand 10% very well Yes/In- process 0% 9% Source: KPMG Conflict Minerals Survey, 2011 No Not sure/Dont know 53% 38% Source: KPMG Conflict Minerals Survey, 2011
7 | Conflict Minerals Provision of Dodd-FrankIndustry-based Solutions Figure 5: Stages of conflict minerals due diligence by industryWhile individual companies have been Industrialslow to act, a few industry groups havetaken the lead in formulating potential Aerospacesolutions. The OECD has developed Healthcarestandards that have been referenced1by the SEC as a good starting point for Industry Automotivecompanies to base their policies for Chemicalscompliance with the Act. The OECDrequirements13 for risk-based due Retaildiligence in the conflict mineral supply Electronics/High Techchain include: Establish strong company Initial stages of Advanced stage management systems due diligence of due diligence Identify and assess risks in the supply Source: KPMG Conflict Minerals Survey, 2011 chain process of developing a Conflict Free While other industry groups have not Design and implement a strategy to Smelter (CFS) program14. If successful, made public any common solutions, respond to identified risks companies performing due diligence the Automotive Industry Action Group Carry out independent third-party will only need to trace the 3TG supply (AIAG) and the Aerospace Industry audit chain down to smelters (see figure 6). Association (AIA) have sought to increase The work of tracking the mines of origin awareness among their members by Report on supply chain due diligence and preventing “tainted” minerals from holding seminars/Webinars. Through theEven though OECD guidelines may reaching the supply chain would then AIAG, six auto makers—Chrysler, Ford,be a good starting point, they do not fall on the smelters. Lastly, on August 3, GM, Honda of America, Nissan Northoutline how supply chain due diligence EICC and GeSi announced the release of America, and Toyota North America—could be conducted. Two electronics the “Due Diligence Reporting Template issued a letter dated April 19, 2011 toindustry associations, Electronic and Dashboard” that companies can their suppliers alerting them of the newIndustry Citizenship Coalition and use as a standard questionnaire for law.16Global e-Sustainability Initiative, which conducting inquiries into supplier’s Figure 5 illustrates the progress made bytogether represent a large group sources of metals.15 various industries on addressing conflictof high-tech companies, are in the minerals. Figure 6: Proposed solution for end-to-end supply chain transparency Source: KPMG LLP 2011 ,
Conflict Minerals Provision of Dodd-Frank | 8Section 4: KPMG’s recommended approachRecommended steps Prepare disclosure statements in is leading the implementation of thisBased on extensive experience with accordance with SEC requirements initiative to drive towards meetingpast due diligence and reporting “significant and reasonable” due- Engage third party to perform anrequirements, KPMG has developed diligence requirements. independent conflict minerals audita simple process that involves the Gaps in internal and external processesfollowing key steps: Institutionalize a process so to update were identified and an action plan put in with ease on an annual basis Identify use of 3TG conflict minerals place to bridge the gaps by December, in products manufactured or KPMG successfully tested this approach 2011. assembled with a U.S.-based electronics corporation OECD guidelines, industry best practices with global operations, and thousands Identify and survey suppliers of 3TG for supply chain due diligence, and of worldwide suppliers. In the face metals questionnaires available from EICC-GeSi of imperfect information and gaps in were referenced during the course of the Perform a risk assessment using tools supplier data, KPMG worked with the project. and OECD guidelines company’s procurement group that Case Study KPMG recently assisted a U.S.-based, business implications of the rigorous the annual report disclosure on conflict global manufacturer with more than compliance process. The team included minerals. 3,000 suppliers in instituting a rigorous legal, investor relations, procurement, Looking for opportunities beyond “auditable” supply chain due diligence corporate social responsibility, supply traditional compliance process to assess its risk exposure chain, and others within the company In the end, the company used this to conflict minerals. The ancillary who typically handle large change project to gain other significant benefits objectives beyond the immediate management exercises. such as future supplier certification and compliance goal were to develop a Compliance strategy meet audit requirements, establishing process that could be extended to other The team developed a process a process to respond to customer corporate social responsibility initiatives to identify, survey, and risk rate requests to provide information on the in the future—one that would integrate suppliers that use 3TG metals in the use of conflict minerals in the products with the company’s overall risk process manufacture of components used by sold, identifying opportunities for (both from an internal audit and external this company. This was done using, consolidation and supply chain cost audit perspective) and drive vendor in part, a KPMG proprietary tool that reduction, and preemptive identification accountability while improving the provided the mechanism to collect and of risk due to sole sourced suppliers. stability of their own supply chain. analyze the results. Supplier information This company also saw value in Getting started was synthesized into information that positioning their market brand as The company established a will be used to complete and maintain conflict free. multidisciplinary team to address Source: KPMG Public Policy Alert, July 2011, “Legislative complexity challenges traditional business and compliance strategies. ”
9 | Conflict Minerals Provision of Dodd-FrankSection 5: Long-term costs and benefits ofimplementing Section 1502The fear of the unknown Supplemental benefits of conducting recognize that there could be otherSeveral comments to the SEC from supply chain due diligence potential benefits of performing supplyindustry groups have expressed During a recent KPMG Webcast chain due diligence for conflict minerals,concerns about the cost of implementing on conflict minerals, the audience, such as identification of opportunities forthe provisions of the new law. KPMG’s comprising representatives from more supply chain simplification/rationalizationsurvey specifically asked respondents than 500 diverse organizations, was (6%) and cost reduction (14%), andabout the (perceived) impact of asked if they foresaw any supplemental improvement in customer goodwill/brandcompliance. The surprising finding was benefits from implementing the conflict recognition (8%).that companies that had not already minerals provision. Only nine percent Industry participants believe that this lawdeveloped a conflict minerals strategy of respondents chose “none, viewing ” may trigger similar regulations on otherwere three times more likely to anticipate the effort as purely a reporting burden corporate social responsibility issues,higher costs from suppliers than (figure 8). It appears that companies such as environment/sustainability, laborcompanies that had developed a strategy standards, health and safety, and ethics.(figure 7). Figure 8: Long-term benefits of the The California Transparency in Supply Conflict Minerals provision Chain Act,17 which seeks to curb human Figure 7: Anticipated impact of the Conflict Minerals provision trafficking and slave labor, is one such example. A strong process developed for % anticipating higher cost from suppliers as a result of the Conflict Minerals provision provision conflict minerals may serve as a template to meet those regulations as well. 20% 20% 18%% responses 16% 14% 12% 10% 8% 6% 4% 2% 0% Companies that have NOT Companies that have developed a developed a strategy strategy Source: KPMG Conflict Minerals Survey, 2011 Source: KPMG Conflict Minerals Survey, 2011Section 6: ConclusionThe Conflict Minerals provision of once the ruling is finalized. The generallyDodd-Frank places a new burden on positive experience of companies thatSEC registered corporations to trace have already begun work should spurand report the source of 3TG metals. other affected corporations to developRequirements of the new law are far a conflict minerals strategy, and beginfrom clear, and many corporations are the due-diligence process sooner ratherwaiting for the SEC to issue clarifications than later. This message has beenbefore the end of the year. reiterated by the U.S. State Department in a press release on July 15, 2011 thatHowever, several leading corporations urges companies to begin to “…exerciseand industry groups have begun to trace due diligence immediately in order toconflict minerals in their supply chain ensure a viable and conflict free supplyrather than wait for SEC’s final ruling, due chain…”18to the tight time line for implementation
Conflict Minerals Provision of Dodd-Frank | 10Sources1. SEC Release No. 34-63547; File No. S7-40-10 (http://www.sec.gov/rules/ proposed/2010/34-63547.pdf)2. “A Comprehensive Approach to Congo’s Conflict Minerals - Strategy Paper” by The Enough Project (http://www.enoughproject.org/publications/comprehensive approach-conflict-minerals-strategy-paper)3. www.enoughproject.org4. www.globalwitness.org5. http://www.opencongress.org/bill/111-s891/show6. U.S. Geological Survey (http://minerals.usgs.gov/minerals)7. “SEC Postpones Rules on African Conflict Minerals Until August” by Bloomberg, April 12 2011 (http://www.bloomberg.com/news/2011-04-12/sec-postpones-rules on-african-conflict-minerals-until-august.html)8. “California takes decisive step against Congo’s conflict minerals” by Christian Science Monitor, April 13, 2011 (http://www.csmonitor.com/World/Africa/Africa Monitor/2011/0413/California-takes-decisive-step-against-Congo-s-conflict minerals)9. “City Councils: A New Pressure Point for the Conflict Minerals Movement?” by Enough Project, May 25 2011 (http://www.enoughproject.org/blogs/city-councils new-pressure-point-conflict-minerals-movement)10. http://www.sec.gov/comments/s7-40-10/s74010.shtml11. KPMG’s comment to the SEC: http://www.sec.gov/comments/s7-40-10/s74010 110.pdf12. “Getting to Conflict-Free: Assessing Corporate Action on Conflict Minerals” by Enough Project Dec 13, 2010 (http://www.enoughproject.org/publications/ getting-conflict-free)13. “OECD (2011), OECD Due Diligence Guidance for Responsible Supply Chains of Minerals from Conflict-Affected and High-Risk Areas” OECD Publishing (http:// , dx.doi.org/10.1787/9789264111110-en)14. http://www.eicc.info/documents/Conflict-FreeSmelterFAQ.pdf15. “GeSI and the EICC® Launch Conflict Minerals Reporting Template and Dashboard, by GeSI, August 3, 2011 (http://www.gesi.org/Media/ ” GeSINewsFullStory/tabid/85/smid/503/ArticleID/84/reftab/37/Default.aspx)16. “SEC Conflict Mineral Filing Requirement Affects Automotive Suppliers” by PRWeb, May 16, 2011 (http://www.prweb.com/releases/conflict_mineral/ Republic_of_Congo/prweb8430202.htm)17 “ The California Transparency in Supply Chains Act: New Legislation Requires . Disclosures on Corporate Efforts to Eliminate Slavery and Human Trafficking” by Foley Hoag LLP October 3, 2010 (http://www.csrandthelaw.com/2010/10/articles/ , legislation/the-california-transparency-in-supply-chains-act-new-legislation requires-disclosures-on-corporate-efforts-to-eliminate-slavery-and-human-traffic king/)18. “Statement Concerning Implementation of Section 1502 of the Dodd-Frank Legislation Concerning Conflict Minerals Due Diligence, United States ” Department of State, July 15, 2011.