On August 22, 2012, the U.S. Securities and Exchange Commission ("SEC") adopted a final rule (the "Final Rule") requiring oil, natural gas and mining companies that file reports with the SEC to disclose annually information on payments made to any foreign government or the U.S. Federal government for the commercial development of oil, natural gas, or minerals, including the type and total amount of such payments made for each project and to each government.
The origin of this new rule, as mandated by Section 1504 of the Dodd-Frank Wall Street Reform and Consumer Protection Act ("Dodd-Frank"), lies in Congress's desire to increase the transparency of payments made to governments for the commercial development of their oil, natural gas and minerals. According to the SEC, a primary goal of this increased transparency is to "help empower citizens of those resource-rich countries to hold their governments accountable for the wealth generated by those resources."1
The Final Rule was adopted by a 2-1 vote2 following extensive public comment on a proposed rule published by the SEC in December 2010. The Final Rule applies without exception to all "resource extraction issuers," meaning all domestic and foreign issuers that engage in the "commercial development of oil, natural gas or minerals" and are required to file reports under the Securities Exchange Act of 1934, as amended (the "1934 Act").3 The final rule does not include any exceptions for different categories of issuers (e.g., smaller companies or companies that comply with other disclosure regimes), for commercially or competitively sensitive information, or for situations where foreign law may prohibit the required disclosure.
The detailed payment information must be disclosed as an exhibit to an annual report to be filed on new SEC Form SD, no later than 150 days after the end of the issuer's fiscal year, commencing with the first fiscal year ending after September 30, 2013. The information must be electronically formatted using the eXtensible Business Reporting Language (XBRL) interactive data standard.
Extractive Industries Transparency Initiative
Section 1504 of Dodd-Frank refers to the Extractive Industries Transparency Initiative ("EITI"). The EITI was launched in September 2002 by then UK Prime Minister, Tony Blair, at the World Summit on Sustainable Development in Johannesburg. The EITI is a coalition of oil, natural gas, and mining companies, foreign governments, investor groups and other international organizations that has developed a voluntary framework under which governments disclose their revenues from oil, natural gas, and mining assets, and companies make parallel disclosures regarding their payments to obtain access to publicly owned natural resources. These voluntary disclosures are designed to foster integrity and accountability in countries that are dependent on the development of their natural resources, with the goal of encouraging the prudent use of natural resource revenues in those countries to create sustainable economic growth and reduce poverty.4 On September 20, 2011, President Obama declared the United States' support for the EITI.5
As stated in the Adopting Release, the Final Rule is consistent with the EITI, except in instances where the language or approach of Section 13(q) clearly deviates from the EITI. In such instances, the Final Rule tracks the statute rather than the EITI, based on the SEC's determination that deviations from the EITI in the statute indicate Congress's intention to go beyond the EITI's requirements.
Commercial Development of Oil, Natural Gas or Minerals
An SEC reporting company is subject to Section 1504 of Dodd-Frank (new Section 13(q) of 1934 Act) and the Final Rule only if it engages in the "commercial development of oil, natural gas or minerals," which is defined to include exploration, extraction, processing, and export of oil, natural gas or minerals, or the acquisition of a license for any such activity.6 This definition is intended to capture only activities that are directly related to commercial development of oil, natural gas or minerals. It does not include activities that are ancillary or preparatory to commercial development. Accordingly, as stated in the Adopting Release, the SEC would not consider a manufacturer of a product used in the commercial development of oil, natural gas, or minerals (for example, a manufacturer of drill bits or other machinery used in the extraction process) to be engaged in the commercial development of the resource.
Whether an SEC reporting company engages in the commercial development of oil, natural gas or minerals (and is therefore a resource extraction issuer) will depend on its specific facts and circumstances. In response to requests for clarification, the SEC has provided some guidance on the activities covered by the Final Rule. Extraction includes the production of oil and natural gas as well as the extraction of minerals. Processing includes field processing activities, such as processing gas to extract liquid hydrocarbons, removing impurities from natural gas after extraction and prior to its transport through the pipeline, and upgrading of bitumen and heavy oil. Processing also includes crushing and processing of raw ore prior to the smelting phase, but does not include refining or smelting. Export includes the export of oil, natural gas, or minerals from the host country, and does not include the removal of the resource from the place of extraction to the refinery, smelter, or first marketable location.
Commercial development of oil, natural gas or minerals does not include transportation activities unless those activities are directly related to the export of the oil, natural gas, or minerals. Hence, a resource extraction issuer is not required to disclose payments made for transporting oil, natural gas or minerals for a purpose other than export. For example, transporting a resource to a refinery or smelter, or to underground storage prior to exporting it, would not be considered commercial development. Marketing activities are also excluded, and therefore an issuer would not be required to disclose payments related to those activities.
Payments Covered by the Rule
The Final Rule covers payments made to foreign governments or the U.S. Federal government to further the commercial development of oil, natural gas or minerals, not including de minimis payments (i.e., payments of less than $100,000). Broadly speaking, the Final Rule is intended to cover any payments that are part of the "commonly recognized revenue stream" for the commercial development of oil, natural gas or minerals.7 More specifically, the types of payments covered by the Final Rule include taxes, royalties, fees, production entitlements, bonuses, dividends and payments for infrastructure improvements. Although the Final Rule seems to leave open some ambiguity about the scope of payment types by stating that the required payment disclosures "include" those on this list, the Adopting Release clarifies that the SEC intentionally did not include a broader, non-exclusive category in the list of payment types, and that issuers will be required to disclose only those payments that fall within this list, as expressly provided in the Final Rule.8
The SEC provided further guidance for some of the listed types of payments. Taxes include payments for taxes on corporate profits, corporate income and production, but not taxes on consumption, such as value added taxes, personal income taxes or sales taxes. Fees include rental fees, entry fees and concession fees, and bonuses include signature, discovery and production bonuses, although neither of these clarifications is meant to provide an exhaustive list of required disclosures with respect to these two types of payments.
With respect to dividends, an instruction in the Final Rule clarifies that ordinary dividends, i.e., those not made to further the commercial development of oil, natural gas or minerals and paid to the government under the same terms as other shareholders, need not be disclosed unless the dividends are paid to the government in lieu of production entitlements or royalties.
As an example of a payment to the government for infrastructure improvements that would require disclosure, the SEC cites payments to build roads to gain access to resources for extraction. The SEC further explains that if the issuer is obligated to build the road itself rather than paying the government to build the road, the cost of building the road would still be required to be disclosed as a payment to the government. In contrast, social or community payments, such as payments to build a hospital or school, would not be subject to disclosure requirements because such payments would not fall within the "commonly recognized revenue stream."
In addition to disclosing payments made by the issuer, the Final Rule requires disclosure of payments made by a subsidiary of the issuer or an entity under the control of the issuer. The definitions of "subsidiary" and "control" are those provided in Rule 12b-2 of the 1934 Act. Accordingly, issuers will be required to disclose payments by subsidiaries or entities that are consolidated in the issuer's financial statements included in its reports under the 1934 Act, as well as any other entities that the issuer "controls" in accordance with the definition provided in Rule 12b-2, based on a facts-and-circumstances analysis.
The Final Rule also states that payments must be disclosed for each project of the issuer relating to the commercial development of oil, natural gas or minerals, although neither the Final Rule nor the EITI defines the term "project." According to the Adopting Release, "'project' is a commonly used term whose meaning is generally understood by resource extraction issuers and investors,"9 and the contractual relationship entered into by a resource extraction issuer for purposes of commercial development will generally provide a basis for determining the payments (and therefore, the disclosures) that are associated with a particular project. The Final Rule permits issuers to disclose payments made at the entity level, rather than the project level, if the payment is made for obligations levied on the issuer at the entity level rather than the project level, such as corporate income taxes and dividends.
The term "foreign government," for purposes of the Final Rule, refers to a foreign government and its departments, agencies and instrumentalities at all levels, whether national or subnational (including, e.g., at the state, provincial, county, district, municipal and territorial levels).10 The term also includes any company that is at least majority-owned by a foreign government. Issuers are required to identify, for each disclosed payment, the recipient country and governmental entity. The SEC also notes that issuers must disclose any payments to third parties that are to be paid to a foreign government on the issuer's behalf.
To prevent attempts to circumvent the disclosure requirements of the Final Rule, the Final Rule includes an anti-evasion provision that requires disclosure of any activity or payment that might not "in form or characterization" be identified expressly by the Final Rule, but that in substance constitutes "part of a plan or scheme to evade" the disclosure requirements of Section 13(q). Under this provision, a resource extraction issuer could not avoid disclosure, for example, by re-characterizing an activity that would otherwise be covered by the Final Rule as transportation or marketing in an effort to exclude the activity from the category of "commercial development."
Reporting and Presentation of Payment Information
Resource extraction issuers must disclose their payment information as an exhibit to a new annual report form, called Form SD, and not in their existing annual reports filed on Form 10-K, 20-F or 40-K, as applicable.11 The reporting period for the payment disclosure is the issuer's fiscal year. The Form SD must be filed publicly on EDGAR no later than 150 days after the end of the issuer's fiscal year.12 The required payment disclosure may be unaudited and on a cash basis (as opposed to an accrual basis).
As indicated above, the first annual report on Form SD is due with respect to the first fiscal year ending after September 30, 2013. In its first report filed for a fiscal year ending after September 30, 2013, a resource extraction issuer may provide a partial year report if the issuer's fiscal year began before September 30, 2013. As a result, an issuer will be required to provide a report for the period beginning October 1, 2013 through the end of its fiscal year. For example, a resource extraction issuer with a December 31, 2013 fiscal year end will be required to file a report disclosing payments made from October 1, 2013 through December 31, 2013. For any fiscal year beginning on or after September 30, 2013, a resource extraction issuer will be required to file a report disclosing payments for the full fiscal year. The following information must be provided in an exhibit to Form SD electronically formatted using the XBRL interactive data standard,13 with separate electronic tags that identify, for any payment required to be disclosed:
- the type and total amount of the payments made for each project of the resource extraction issuer relating to the commercial development of oil, natural gas or minerals;
- the type and total amount of such payments made to each government;
- the total amounts of the payments for each of the following categories: taxes, royalties, fees, production entitlements, bonuses, dividends and payments for infrastructure improvements;
- the currency used to make the payments;
- the financial period in which the payments were made;
- the business segment of the resource extraction issuer (as determined by the issuer for financial reporting purposes) that made the payments;
- the government that received the payments, and the country in which the government is located; and
- the project of the resource extraction issuer to which the payments relate.14 The instructions in Form SD provide that issuers must report the amount of payments made for each payment type, and the total amount of payments made for each project and to each government, in either U.S. dollars or the issuer's reporting currency.15
The Final Rule provides that Form SD, including the payment information provided in an exhibit, will be "filed" (as opposed to "furnished") under the 1934 Act. Information filed under the 1934 Act is subject to potential liability under Section 18 of the 1934 Act for material misrepresentations or omissions. Section 18 does not, however, create strict liability for filed information, but rather provides a defense to persons acting in good faith with no knowledge that the statement was false or misleading.16
1 SEC Release No 34-67717 ("Adopting Release"), page 5.
2 Chairman Shapiro and Commissioner Paredes recused themselves from the vote.
3 This includes those Canadian companies that are required to file reports with the SEC under the U.S. Multijurisdictional Disclosure System (MJDS), but excludes issuers with a class of securities exempt from the 1934 Act registration pursuant to Rule 12g3-2(b).
4 See the EITI's website at http://eiti.org . The SEC summarizes the EITI process on page 12 of the Adopting Release (footnote 27) as follows. "A country volunteers to become an EITI member. To become an EITI member country, among other things, a country must establish a multi-stakeholder group, including representatives of civil society, industry, and government, to oversee implementation of the EITI. The stakeholder group for a particular country agrees to the terms of that country's EITI plan, including the requirements for what information will be provided by the governments and by the companies operating in that country. Generally, as we [the SEC] understand it, under the EITI, companies and the host country's government submit payment information confidentially to an independent administrator selected by the country's multi-stakeholder group, which is frequently an independent auditor. The auditor reconciles the information provided to it by the government and by the companies and produces a report. The information provided in the reports varies widely among countries. A country must complete an EITI validation process to become a compliant member." As stated in the Adopting Release, there are about 14 countries that have achieved "EITI compliant" status and approximately 20 other countries that are in the process of complying with EITI standards.
5 See http://www.whitehouse.gov/the-press-office/2011/09/20/opening-remarks-president-obama-open-governmentpartnership and http://www.whitehouse.gov/sites/default/files/us_national_action_plan_final_2.pdf .
6 The SEC noted in the Adopting Release that the statutory definition of "commercial development" (and therefore the definition in the Final Rule) is broader than the EITI reporting guidelines (which are limited to exploration and extraction).
7 See Adopting Release, p. 59.
8 Payments made other than in cash must also be disclosed. Issuers may report in-kind payments at cost or, if cost is not determinable, fair market value, and should submit a brief description of the method of valuation.
9 See Adopting Release, p. 85.
10 Payments to state and local governments in the United States are not required to be disclosed; the rule specifies that, with respect to payments to the U.S. government, the Final Rule requires disclosure only of payments to the Federal government of the United States.
11 Form SD requires issuers to include a brief statement in the body of the form in an item entitled "Disclosure of Payments By Resource Extraction Issuers," directing investors to the detailed payment information provided in the exhibit to the form. By requiring the information to be presented in an exhibit, anyone accessing EDGAR will be able to determine quickly whether the issuer filed a Form SD to satisfy the requirements of Section 13(q) and the resource extraction rules.
12 This is later than the deadline for the 1934 Act annual report on 10-K, 20-F or 40-F, as applicable, to give issuers some time to complete the required payment disclosure after they file their 1934 Act annual reports. Once filed with the SEC, the issuer's Form SD and its exhibits will be publicly available on EDGAR indefinitely. As noted by the SEC, this approach is fundamentally different from the EITI approach. Under the EITI, companies and the host country's government generally each submit payment information confidentially to an independent administrator selected by the country's multi-stakeholder group, frequently an independent auditor, who reconciles the information provided by the companies and the government, and then the administrator produces a report, which is disclosed publicly.
13 Although filed by issuers in XBRL format, the payment information will also be available in an easily-readable format. Users should be able to render the information by using software available free of charge on the SEC's Internet website (www.sec.gov ).
14 To the extent that payments, such as corporate income taxes and dividends, are made for obligations levied at the entity level, issuers may omit certain tags that may be inapplicable (e.g., project tag, business segment tag) for those payment types as long as they provide all other electronic tags, including the tag identifying the recipient government.
15 If an issuer has made payments in currency other than the U.S. dollar or the issuer's reporting currency, it may choose to calculate the currency conversion between the currency in which the payment was made and U.S.
dollars or the issuer's reporting currency, as applicable, in one of three ways: (1) by translating the expenses at the exchange rate existing at the time the payment is made; (2) using a weighted average of the exchange rates during the period; or (3) based on the exchange rate as of the issuer's fiscal year end. A resource extraction issuer must disclose the method used to calculate the currency conversion.
16 Because the payment disclosure is provided in a new form, rather than in issuers' 1934 Act annual reports, the filed disclosure is not subject to the officer certifications required by Rules 13a-14 and 15d-14 under the 1934 Act.
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