On October 10, 2012, the U.S. Chamber of Commerce and three industry groups filed suit against the Securities and Exchange Commission in federal court in Washington, D.C., seeking to overturn the recently-promulgated SEC rule implementing the Dodd-Frank Act provision requiring disclosure of payments to foreign governments relating to oil, gas and mining projects.
The New Rule
In late August 2012, the SEC adopted the "Disclosure of Payments by Resource
Extraction Issuers" rule (the Rule) applicable to issuers
that are engaged in the commercial development of oil, natural gas
or minerals, which includes exploration, extraction, processing and
export, as well as surveying, refining and shipping.
Under the new Rule, issuers must disclose all payments (or
aggregation of related payments) of $100,000 or more to foreign
(and U.S.) governments for such activities. "Payments"
are broadly defined to include taxes, royalties, fees, production
entitlements, bonuses, dividends and expenditures for
infrastructure improvements. Such reports must be made annually on
Form SD and must include specific detailed information including
the exact amount paid, the recipient government and the particular
project to which the payment relates. Issuers will be required to
file their first report for the period beginning October 1, 2013
through the end of the company's fiscal year, and annually
thereafter.
The SEC estimated that the cost of compliance with the Rule would
approach $1 billion initially, with follow-on costs in the $200
million to $400 million range, not counting what the SEC noted
could be billions of dollars more in lost business. Skeptics have
charged that compliance costs will greatly exceed those
estimates.
When the SEC commissioners voted to adopt the Rule, two of the
five commissioners, including the Chair, recused themselves. Of the
remaining three commissioners, two voted to approve the Rule while
the third issued a scathing dissent to the effect that the SEC had
not seriously considered the costs or impact of the Rule, that the
$100,000 threshold was too low and that the Rule would put U.S.
companies at a severe disadvantage to foreign competitors
(including state-run enterprises in China, Russia, Iran and
elsewhere) who are not required to make such reports.
Controversy over the Rule was also fueled by the fact that the SEC
approved by a 3-2 vote the much maligned "conflict
minerals" rule under the Dodd-Frank Act the same day.
The Lawsuit
On October 10, 2012, four interest groups filed suit in federal court in Washington, D.C. challenging the Rule.
First Amendment:
The lawsuit broadly charges that the required disclosure
violates the reporting companies' First Amendment rights by
making them engage in speech against their will. While this
argument on its own may seem unlikely to succeed, as the entire
public company disclosure regime could be similarly attacked, the
lawsuit goes on to make the point that the required disclosures
will in fact be "disastrous" to the companies that must
make them, as they will be required to disclose sensitive project
information to competitors and the world.
If successful, this First Amendment challenge could invalidate not
only the Rule itself, but more broadly the corresponding provision
of Dodd-Frank that directs implementation of the Rule.
Violation of Administrative Procedure Act:
The lawsuit also charges that the SEC violated the Administrative Procedure Act by
adopting the Rule without taking into account significant
unfriendly public comment that the Rule would have a disastrous
impact on U.S. industry. The lawsuit specifically charges that the
SEC failed to conduct an adequate cost-benefit analysis as required
by law.
The SEC estimated compliance costs would exceed $1 billion, but
acknowledged the Rule might cost U.S. businesses many additional
"billions of dollars" in lost business without
quantifying or further studying such anticipated losses. The
complaint quoted the dissenting commissioner, who criticized the
SEC for failing adequately to tailor the Rule to avoid significant
adverse effects on competition and capital formation and cautioned
that "[w]e are not at liberty to ignore selectively the
longstanding congressional mandate to consider the impact our
rulemaking is likely to have on competition."
Further, the lawsuit alleges that the SEC improperly failed to
provide for exemptions from the Rule when "necessary or
appropriate", as the SEC is empowered to do, and cites the
need for exemptions in certain circumstances, such as where foreign
governments bar public disclosure of the subject payments.
Failure to Follow Dodd-Frank's Mandate:
Finally, the complaint charges that the SEC misinterpreted the
statute that it purported to implement. Noting that, while one
provision of Dodd-Frank directs the SEC to issue rules that require
each resource extraction issuer to include in an annual report
information relating to payments made to foreign governments for
the commercial development of oil, natural gas or minerals, the Act
further provides that the SEC "shall make available online, to
the public, a compilation of the information required to be
submitted" by reporting companies.
Thus, the lawsuit charges that Dodd-Frank requires only that a
"compilation" or aggregation of payment information made
by U.S. companies be made publicly available, and the SEC
"grossly misinterpreted its statutory mandate" by
requiring that each U.S. company file a public report detailing
each payment made to each and every foreign government, for each
and every "project" relating to extractive
industries.
The Road Ahead
The litigation is likely to grind on for some time. One question
is whether the SEC will voluntarily stay the effective date of the
Rule pending resolution of the litigation. While the SEC is not
required to do so, it has taken that route in select prior
instances and the plaintiffs could ask the court to impose a stay,
if necessary.
As for the ultimate outcome, the SEC's failure fully to assess
the economic effects of the Rule and conduct an adequate
cost-benefit analysis could prove fatal.
In July 2011 a federal appeals court struck down the direct proxy
access regulation, SEC Rule 14a-11, which would
have given shareholders the right to have their director nominees
included in management's proxy materials, on grounds that the
SEC failed adequately to assess economic impact and conduct a
cost-benefit analysis.
This litigation will be closely watched by those interested in
challenging the even more controversial and costly "conflict
mineral" rule, which has not yet been attacked in court even
though it too may be subject to many of the same challenges. This
may prove to be the test case for that next round.
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