On July 2, 2013, the U.S. District Court for the District of Columbia vacated a rule promulgated by the Securities and Exchange Commission ("SEC") that would have required energy companies to publicly disclose payments to U.S. and foreign governments regarding the commercial development of oil, natural gas, or minerals, even when such disclosure is prohibited by those governments. The American Petroleum Institute (the "API"), the national trade association representing the oil and gas industry, challenged the rule under the First Amendment and the Administrative Procedure Act ("APA"). In a 30-page Memorandum Opinion, Judge John D. Bates decided the issue in favor of the API, holding that the SEC had "misread the statute" to require public disclosure of the reports. This ruling forestalls the imposition of a burdensome new requirement on energy companies, but likely only temporarily. The SEC must now go back to the drawing board and produce a new rule under the statute.
The statute in question is the Dodd-Frank Act, and specifically section 13(q), which directs the SEC to issue a rule requiring companies listed on a U.S. stock exchange and engaged in commercial resource extraction to include in an annual report any payment made to a foreign government or the U.S. government for the purpose of the commercial development of oil, natural gas, or minerals. The provision is intended to address what Congress deemed the "resource curse" phenomenon, in which the general populations of resource-rich countries remain poor despite anticipated or actual inflows of payments for the resources. Section 13(q) is intended to enhance the energy industry’s already existing voluntary efforts to address this concern, such as the Extractive Industries Transparency Initiative through which key players in the industry report their payments to foreign governments for compilation and selective disclosure.
Section 13(q) does not specify how the industry reports are to be submitted, and mentions public disclosure only in a subsection that directs the SEC, to the extent practicable, to make available to the public a compilation of the submitted information. In accordance with the statutory language, commentators had urged the SEC to adopt a rule allowing energy companies to file their disclosures confidentially with the SEC, which could then make compilations of the information public. Commentators further argued that the SEC’s rule should provide exemptions to the disclosure requirements for four countries that prohibit such disclosure – Angola, Cameroon, China, and Qatar – because refusing these exemptions could force companies doing business in those countries to withdraw, costing tens of billions of dollars. Instead, the SEC issued a rule last September providing that the reports should be submitted through its online EDGAR system, accessible to all.
Without reaching the constitutional issue, the court vacated the rule, labeling the SEC’s interpretation of Congress’s mandate fundamentally incorrect, and the SEC’s refusal to allow exemptions "arbitrary and capricious" under the APA. The court chastised the SEC for abdicating its statutory responsibility to investors by failing to undertake a reasoned decision-making process and pursuing the section’s perceived aims "no matter the cost." Calling the rule’s deficiencies "grave indeed," the court vacated the rule and remanded it to the agency for further proceedings.
This recent ruling is just one in a string of court losses for the SEC on challenges to its rule making. The ball is now back in the SEC’s court to promulgate a different rule pursuant to section 13(q), and it remains to be seen whether the new rule will be any less onerous for energy companies. The SEC previously acknowledged that public disclosure of payments to government entities would burden competition and harm investors. If the SEC had viewed itself as powerless to address that harm because of its interpretation of Congress’s mandate, this recent decision may clear the way for a new rule requiring only confidential disclosure to the SEC. If, however, the SEC continues to take an aggressive stance, it could re-promulgate an identical rule pursuant to its own discretionary authority and supported by a better explanation for its refusal to allow exemptions. Alternatively, it could decide to redraft the rule to provide exemptions for the foreign countries with conflicting laws, but continue to require public disclosure in all other cases.
Reed Smith’s Global Regulatory Enforcement and Energy & Natural Resources lawyers have extensive experience with SEC rulemaking, compliance, and defense. If you would like any further information regarding any of the matters highlighted above, please contact one of the authors or your regular Reed Smith relationship lawyer.
Client Alert 2013-197