Let’s Get Small       11

The idea of small businesses as an engine of economic growth and innovation is a bedrock one in federal procurement. The belief that the federal government should specifically encourage small business participation in federal contracting is also a long-held one, dating back to the Great Depression. In the decades since, it’s become enshrined in policy that small businesses should have “maximum practicable opportunities” to compete for prime contracts and subcontract awards.¹ What the federal government, large federal contractors, and you must do to translate that into action is what this chapter is about.

Federal Small Business Basics

Government policy is to set aside for small businesses standalone procurements of commercial items worth between the micro-purchase threshold and the simplified acquisition threshold.² In addition, the government operates under a mandate to award 23 percent of all federal prime contract dollars to small businesses, with subpercentages dedicated to particular socioeconomic groups, such as service-disabled veteran owners of small businesses. See Figure 11-1 for a breakdown.

Agencies also have small business subcontracting goals, which collectively hover around 35 percent of subcontract dollars. The Federal Acquisition Regulation (FAR) in addition requires that large businesses give small businesses the “maximum practicable opportunity” to participate as subcontractors.³

For all procurements (commercial item or not) worth more than the simplified acquisition threshold, contracting officers are supposed to consider whether a set-aside is possible under a standard known as the Rule of Two, which holds that when there’s a reasonable expectation that at least two relevant and responsible small businesses will respond with offers made at fair market prices, it should be set aside.⁴ Contracting officers can also make partial set-asides, whereby a defined portion of a particular procurement goes to a small business.⁵

The 23 percent goal isn’t uniform from agency to agency; it is a collective goal that varies by as much as 50 percentage points, depending on the particular agency involved. Agencies that traditionally have very high prime goals—averaging during the past five years 50 percent or more of all prime contracts—include the departments of Agriculture, Housing and Urban Development, Interior, and the Small Business Administration (SBA).

The Department of Energy (DOE), by contrast, has never, so far as we can tell, had a prime goal larger than 6 percent. Some years it’s been smaller. Other agencies that tend toward goals on the low side—on average 20 percent or less in the past five years—include the departments of Education, Health and Human Services, NASA, and the U.S. Agency for International Development.

As for how closely reality matches the goals, the answer is that according to its own data, the government usually falls slightly short of the overall goal and for most of the socioeconomic group subsets, except for that of small disadvantaged businesses (SDBs). See Figure 11-2 for a weighted average of federal performance in reaching small business goals for fiscal 2006 through fiscal 2010. Just to be absolutely clear, the socioeconomic subgoals are a part of the overall 23 percent goal, and it’s possible for a company to be counted more than once for purposes of meeting prime contracting goals.

A goal is not the same as a contractual set-aside program. Set-asides are competitions restricted to small businesses in general, or, more narrowly, to small businesses of a certain socioeconomic type or participants in an SBA program known as the 8(a) Business Development Program.⁶

Set-aside authority exists for service-disabled veteran-owned small businesses (SDVOSBs), women-owned small businesses (WOSBs), small businesses in historically underutilized business zones (HUBZone businesses), and 8(a) program participants.

The list of set-asides for socioeconomically defined businesses, you’ll no doubt have noticed, leaves out SDBs, but includes 8(a) businesses, a category not accounted for in small business goals. There is no minimum annual target for federal agencies to hit when it comes to awarding 8(a) contracts. This disjoint is not as severe as it might appear, since by definition all 8(a) businesses are also SDBs.⁷

There is no order of preference in the FAR mandating that one socioeconomic group be considered for a set-aside before another; it’s up to agency discretion and market research to determine which group will benefit from a particular set-aside decision.⁸ However, the government as a rule prefers more narrowly prescribed socioeconomic set-asides to reserving an acquisition for small businesses in general.⁹

Federal agencies can also decide under certain circumstances to award sole-source contracts to SDVOSBs, HUBZone businesses, and 8(a) businesses without additional justification. Such sole-source contracts tend to pick up in the last months of the federal fiscal year as agencies rush to spend money lest they lose it (see Chapter 12 for a fuller explanation).

The SBA is the federal agency that’s most intimately involved with small business programs, since it sets small business size standards, administers the 8(a) program, certifies HUBZone businesses, has jurisdiction over most small business–related government procurement protests, and also guarantees bank loans for qualifying small businesses. We in this chapter concentrate on SBA’s specific involvement with federal contracting, even though the agency doesn’t view that as its primary mission. In fact, since every federal agency with contracting authority must have within it an Office of Small and Disadvantaged Business Utilization (an OSDBU, pronounced oz-dee-boo), SBA argues that small business contracting is a responsibility of every agency.¹⁰

A term you might hear thrown around is “other than small,” which is a euphemistic way of acknowledging that the government has a binary view of small: either you are, or you aren’t. There is little to no middle ground, especially since the old loophole whereby large businesses bought small businesses, and kept the small designation, has been plugged (see the discussion on organic growth and mergers and acquisitions later in this chapter).

Companies that make use of set-asides must make a decision early during their existence about what kind of company they intend to become. It’s perfectly possible to build a business that has little intrinsic value but for federal preferences. More challenging is to build something of real, independent worth.

You Must Be This Small

To determine if you’re small, start with your North American Industry Classification System (NAICS) codes, unless you happen to be a reseller, in which special rules apply (detailed shortly).

We first discussed NAICS in Chapter 3. The SBA makes NAICS-by-NAICS determination of what constitutes a small business within the industrial sector described by the code. The line of separation SBA looks for when making a small-size determination is one that divides dominant and nondominant companies within an industry. It usually draws the line according to number of employees or annual revenue. For specialized industries such as petroleum refining, it uses measures such as the number of barrels produced per day. Most IT companies have their size determined according to revenue.

Because SBA determines size standards individually for each NAICS, it’s possible for your company to be small under one code but large under another. If a particular procurement has multiple NAICS and you happen to be small in some but large in others, you’re permitted to submit a response as a small business, provided that the NAICS under which you’re small constitutes the greatest percentage of the total contract value.¹¹ Should the procurement permit companies to submit segregated responses according to NAICS—that is, to submit a bid for only those NAICS in which you’re small—then obviously you must abide by the NAICS restrictions for the segregable portions.

There is no formal federal certification program for declaring your company a generic small business, or indeed any small business, excepting a HUBZone business. The Department of Veterans Affairs (VA) has a certification program for veteran-owned businesses wishing to do business specifically with it, and WOSBs can gain certification status from a third party, if the owner so wishes. Also, 8(a)s—which aren’t strictly a small business type—must go through the SBA application process.

When first registering your company to do business with the government, the online system will automatically determine if you qualify for status as a particular small business type based on the information you supply. It’s possible to qualify for more than one, and in the process, become catnip for agencies looking to satisfy their socioeconomic contracting goals.

Affiliation

When any two or more companies have an affiliation, it means they are not in fact separate, and so the number of employees and revenue of all affiliates count toward size determination. Affiliation is not by itself prohibited. It becomes a problem only if affiliated companies collectively exceed small business size standards, making all component parts ineligible for small business consideration. The key issue in affiliation is control—if a concern or third party has the power to control another company, whether or not that power is exercised, the SBA says all entities involved are affiliated.¹² It even says that control exists should one entity have the ability to prevent things from happening, for example by blocking an action by the board of directors or preventing a quorum.¹³

Sometimes affiliation can be easy enough to determine. If one entity has 50 percent of the voting stock in two companies, the firms are affiliated. Other times it’s harder to figure out. A minority stake in one company by the majority owner of another company can be enough for affiliation, if the minority stake is the relative largest, leaving the door open to control by the biggest small fish. Besides ownership, the SBA looks at factors including common management, identity of interest—such as firms sharing family members or demonstrating economic dependence through contractual or other relationships—and previous relationships with or ties to another business.

Over the years, companies have attempted to hold on to their small status by incubating new companies under their aegis, leading the SBA in 2004 to stipulate that a company must be “newly organized” or risk being considered affiliated. Should key employees of one firm organize a new company in the same or related field and serve as the new company’s key employees, both companies are affiliated if the original firm furnishes the new concern with contracts, financial or technical assistance, facilities, and so on.¹⁴ A newly organized firm, obviously, avoids all those tethers.

Joint ventures

Two companies are not necessarily affiliated just because they are involved in a joint venture, although the joint venture itself is an affiliated entity. In general, the size of the joint venture is the combined size of its component companies, regardless of whether or not the joint venture is a separate legal entity. But a joint venture composed of individually small companies may submit an offer as a small business even if their collective size is larger than the NAICS size threshold for procurements worth more than half of the NAICS size standard (in the case of revenue-based size standards), or for procurements worth more than $10 million (in the case of employee-based size standards).¹⁵ This exception also applies to bundled procurements, which occur when a federal agency has consolidated into a single procurement requirements previously done under separate smaller contracts.

A small business joint venture can, under the regulations, receive three contracts over a two-year period, and its component companies can form additional joint ventures with each other, with each new venture permitted three contracts over two years.¹⁶ Companies in multiple joint ventures can slide into affiliation if the SBA decides they’ve in effect stood up a long standing interrelationship or established contractual dependencies on each other.¹⁷ The prohibition on bidding on additional contracts kicks in after award of the third contract. That means that should a joint venture happen to receive more than three contracts due to offers it submitted while it was still under the three-contract threshold, it can perform them without fear of SBA making trouble or finding affiliation.¹⁸

All the above rules apply to all types of small businesses, including 8(a) firms; for particular joint venture rules pertaining to individual socioeconomic types, see the sections later in this chapter dedicated to each type.

In evaluating the past performance of a joint venture, federal agencies “should” take into account predecessor companies and personnel, but there’s nothing in the FAR that says they must do so.¹⁹ Unless a request for proposal expressly prohibits it, the agency might evaluate the joint venture according to the past performance records of the venture’s members. Or they might give the joint venture a lower past performance rating than the records of its members would suggest, based on a lack of past performance by the venture itself. Or maybe they won’t consider the past performance of the members at all and will decide to just look at the joint venture’s record.

Mentor-protégé

Mentor-protégé is an official relationship lasting one to three years between an experienced, though not necessarily large, firm and a less-experienced small firm in which the mentor provides technical assistance, trains the protégé about matters such as quality control or contract administration, and so on. Thirteen federal agencies have mentor-protégé programs, but currently only SBA and Defense Department programs are authorized by statute. See the sidebar on this page for a listing of all thirteen.

The DoD’s program is applicable to its contracts only; 8(a) mentor-protégé relationships approved by the SBA have governmentwide effect. Under the Small Business Jobs Act of 2010, SBA is supposed to set up a mentor-protégé program for SDVOSBs, WOSBs, and HUBZone firms modeled after the 8(a) mentor-protégé program although as of this writing, it hasn’t done so.

Agencies incentivize companies to become mentors by crediting participation toward small business subcontracting goals, favoring mentor-protégé bids in procurement evaluation criteria, perhaps allowing mentors to award subcontracts to protégés on a noncompetitive basis, and within DoD, DOE, and Federal Aviation Administration programs, reimbursing costs. The SBA allows mentors to buy up to a 40 percent stake in an 8(a) protégé without triggering a finding of affiliation.²⁰

Small companies that set up a mentor-protégé agreement through any agency other than the DoD or SBA court risk of affiliation, even if the agency says otherwise.²¹ Only the SBA has the authority to make exemptions to affiliation rules (the DoD’s exemption is statutory and only for its own program). Once SBA implements the Small Business Jobs Act, this awkward situation may diminish in importance, but until then, small businesses should exercise caution.

When small businesses subcontract as a prime

When people talk of fraud in small business programs, they’re often talking about small companies acting as pass-through fronts for large companies, what the SBA calls an ostensible subcontractor relationship. As a result, any small business set-aside contract comes with limitations on the amount of work that the winner can subcontract and a general prohibition against outsourcing “vital requirements” or being “unusually reliant” on a subcontractor.²² Generic small businesses, 8(a) companies, and WOSBs must assume at least 50 percent of the cost incurred for personnel with their own employees in any contract for services.²³ For supplies or products contracts, those small businesses must perform at least 50 percent of the cost of manufacturing, not including the costs of materials (this requirement doesn’t apply to retailers or wholesalers).²⁴

For SDVOSBs and HUBZone businesses, the 50 percent rule for cost of services and manufacturing somewhat applies. Those businesses, when awarded a prime contract, can subcontract out a portion of the 50 percent requirement to another business of the same type.²⁵ So long as SDVOSBs or HUBZone businesses collectively meet the 50 percent standard—without regard for whether it’s the prime of same-type subcontractor doing the work—then the prime contractor itself need not do the majority of the work.

Cost in a small business set-aside context for services means direct labor costs and any overhead that has only direct labor as its base, plus the general and administrative rate multiplied by the labor cost.²⁶ For manufacturing, it means costs associated with the manufacturing process, including the direct costs of fabrication, assembly, or other production activities, and indirect costs that are allocable and allowable—but not the cost of materials. The cost of materials is the cost of any item plus handling and shipping costs. Part 31 of the Federal Acquisition Regulation details what’s an allowable or unallowable cost.

Subcontracting minimums don’t apply to competitions that aren’t set-asides but that nonetheless consider small business status as part of the evaluation criteria. At least, that’s the current consensus following a November 16, 2009, protest decision by the Government Accountability Office.²⁷ The decision certainly suggests that federal agencies seeking to meet their small business goals will rely less on set-asides and more on general preferential treatment, although no definitive evidence exists showing that’s now the case.

Organic growth and mergers and acquisitions

Since the point of small business set-asides is to encourage small business growth, it should come as no surprise that small businesses can outgrow size limitations while in the middle of a contract. If that enlargement is the result of organic growth, a small business can keep all its current set-aside contracts, and the agency that awarded them can continue to claim small business credit for orders made against indefinite delivery, indefinite quantity (IDIQ) contracts for a period of five years.²⁸ Obviously, once you outgrow small business status, you can no longer compete for new contracts as a small business. That also means that any new contracts made against a blanket purchase agreement (BPA) can no longer count as a small business transaction.²⁹ (The difference between IDIQs and BPAs is that the former is a contract while the latter is not.)

If your company structure changes due to merger or acquisition, then the rules require a recertification of your new size status within 30 days, whether or not novation occurs.³⁰ The 30 days starts ticking either at novation, or if novation isn’t required, then on the day the transaction is finalized. Current contracts remain in effect, but federal customers can no longer claim small business credit for them if you’re now other than small.

Presumption of loss

Misrepresentation of your small business status has always been a federal crime, punishable by a fine of up to $500,000 and ten years imprisonment.³¹ But enforcement of that law has been intermittent, with the SBA generally overwhelmed by other duties and the Justice Department mostly hunting other, bigger game.

But in 2010, Congress did a clever thing and gave whistleblowers and the DOJ a heavy incentive to file False Claim Act suits alleging misrepresentation by placing into law a “presumption of loss” to the federal government equal to the entire dollar value of a contract gained under the pretense of misrepresentation.³² This means that a successful False Claims Act suit against a company undertaken because it gained a small business contract when it was in fact a large business will have as the basis of damages the value of that entire contract, regardless of how well or poorly the business performed during performance of the contract. Because the False Claims Act forces triple damages, cases of small business misrepresentation are now lucrative enough to attract the attention of whistleblowers and the Justice Department.

The upshot is should your business no longer meet the definition of small or the requirements of a socioeconomic small business type, stop competing for new business as that type. The law does allow for protection against a presumption of loss suit in cases of unintentional errors, technical malfunctions, and other similar situations, but as of this writing the SBA has yet to finalize the implementing regulations. In order to claim the mistake defense, companies will probably have to demonstrate active due diligence by having, at a minimum, added misrepresentation into the business ethics and conduct code and conducted specific size representation training.

Annual recertification

Small businesses must make an explicit certification of their small business status through the online representations and certifications function of the SAM website (see Chapter 3).³³

Size rules for resellers

Although they exist, the government doesn’t use NAICS codes denoting resellers in solicitations, which makes sense, since the government is never in the market for resellers themselves, but for the things they sell. Resellers deal in commercial items, and for purposes of non-set-aside proposals or quotes, are judged to be large or small based on a 500-person employee threshold regardless of the NAICS for the actual thing the government wants to buy.³⁴

When procurements for manufactured goods are set aside for small business, something called the nonmanufacturer rule kicks in, except for HUBZone set-asides, which are exempt from it. Nonmanufacturer is just another way of saying reseller—a company in the retail or wholesale trade that doesn’t manufacture products or primarily perform services.

When nonmanufacturers enter small business set-aside product competitions, the method for determining their size—the nonmanufacturer rule—is a two-step process that first looks at the number of employees working at the nonmanufacturer and then at the size of the company that makes the products the nonmanufacturer proposes to sell. To be considered small, the nonmanufacturer must have 500 or fewer employees, and the products it proposes to sell must be made by a manufacturer that’s small under the solicitation’s NAICS code. In addition, those products must have been manufactured within the United States, unless a waiver applies (see Chapter 9 for more on what domestic manufacturing means in a small business context).³⁵

Waivers permitting a nonmanufacturer to sell the products of a large business in a small business set-aside come in two varieties, class and individual.

SBA issues class waivers after determining that certain products aren’t sufficiently made by domestic small businesses. Commercial IT products covered by a class waiver can come from a manufacturer of any size and be made anywhere, subject to separate designated country restrictions for any procurement worth at least the Trade Agreements Act threshold. We’ve listed information technology–relevant class waivers valid as of this writing in Table 11-1.

Table 11-1: Current IT-Relevant Class Waivers

Individual waivers have the same effect as a class waiver, but only for a single procurement. In order for the SBA to approve one, a contracting officer must find that no small business manufacturer can reasonably be expected to offer the product in question. Only contracting officers can ask the SBA for an individual waiver, but anybody can ask the SBA to create a new class waiver.³⁶

The nonmanufacturer rule permits nonmanufacturers to enter manufacturing NAICS set-asides reserved for generic small businesses—and, if they also separately qualify, to enter set-asides for SDVOSBs, WOSBs, and 8(a)s. But if a reseller isn’t already an 8(a) business, it can’t enter an 8(a) set-aside for products under the nonmanufacturer rule.

Types of Socioeconomically Defined Small Businesses

A minimum explicit requirement for small business socioeconomic types, except for SDVOSBs, is U.S. citizenship for majority owners. For SDVOSBs, while citizenship isn’t an explicit requirement, it’s reasonably implicit, since you must be at least a lawful permanent resident to legally enlist in the military.

A shared characteristic of financial status–constrained programs is that transfers made to a spouse or immediate family member within two years of a claim of economic disadvantage will be counted on your balance sheet, unless the transfer was for the purposes of educational, medical, or other forms of essential support, or as a present in recognition of a special occasion, such as a birthday, graduation, anniversary, or retirement.³⁷

Also, a spouse’s financial situation becomes relevant should the spouse have a role in the business, such as being an officer, employee, or director, or providing financial support in any form to the business, including guaranteeing a loan.³⁸

You may come across other federal categories of small businesses that we don’t otherwise mention. For example, a disadvantaged business enterprise is a participant in a Transportation Department program meant to include disadvantaged small businesses in federally funded transportation projects. The Environmental Protection Agency also has an analogous program of the same name.

Another note: small business regulations are substantially different for Alaska Native Corporations, Native Hawaii Organizations, other tribal companies, and community development corporations. We’ve decided not to plumb those depths—especially since there’s a mounting criticism against Alaska Native Corporations in particular and talk about eliminating some of the concessions granted to them, such as sole-source contracts of unlimited value.

Before we describe the individual types, let’s note a key SBA concept, that of business control.

Control of socioeconomically defined businesses

Control and ownership, although related, are not the same. Since set-asides are meant to foster small business growth, the fact of a disadvantaged, female, or service-disabled veteran owner needs be complemented by the fact of their also running the business.

For all socioeconomic types except HUBZone, this means the management and daily business operations of the concern must be in the hands of an individual, or individuals, of the socioeconomic group the firm represents.³⁹ The highest company officer must be an individual of that type working as a company manager, full time in the case of SDBs and WOSBs. The majority owners must be able to set strategy and direction without the possibility of being overridden by non-socioeconomically-defined partners, investors, members of a board, or others.

There is an exception for SDVOSBs owned by a service-disabled veteran with permanent and severe disability that allows the spouse or permanent caregiver of that vet to assume control.⁴⁰

Because the salient characteristic of HUBZone firms is geographic location, it matters less who is in control.

Small disadvantaged businesses

An SDB is a business at least 51 percent unconditionally owned by one or more socially and economically disadvantaged individuals and unconditionally controlled by those individuals.⁴¹ The SBA presumes that racial and ethnic minorities are socially disadvantaged, but allows nonminorities the chance to demonstrate disadvantage. Proving social disadvantage for nonminorities is not easy but possible. The regulations require an “objective distinguishing feature” such as a physical handicap or “long-term residence in an environment isolated from the mainstream of American society,” plus evidence of how that distinguishing feature or isolation had negative business consequences.⁴² The fact of a handicap itself is not enough; the individual must show how prejudice or bias related to the handicap prevented career advancement, or caused denial of a business opportunity, or was the basis of a loan denial, or had other tangible effect.

The SBA has three main measurements for economic status: net worth, annual adjusted gross income (AGI) averaged over three years, and fair market value of assets. It’ll also generally consider your access to capital and credit, something that becomes a factor especially if your not-economically-disadvantaged spouse plays a role in your business.

For SDBs, the net worth threshold is $750,000, excluding ownership interest in the business and equity value of the primary residence—unless it turns out you’ve been making excessive withdrawals from the business to pay for the house.⁴³ The sidebar on this page shows thresholds for excessive withdrawals. The net worth calculation also excludes retirement accounts, by which is meant accounts that carry a penalty for withdrawal prior to retirement age such as an Individual Retirement Account or 401(k).⁴⁴

The threshold for annual adjusted gross income averaged over the past three years is no more than $350,000.⁴⁵ Fair market value of all assets—which unlike net worth, includes the value of the small business and the primary residence, but continues to exclude the value of retirement accounts—can’t exceed $6 million.⁴⁶

Access to credit is a harder thing to quantify than net worth, but little will get the SBA’s hackles up quicker than if an economically disadvantaged individual has a non–economically disadvantaged spouse investing or undertaking a role in the business, such as being on the board of directors or working as an employee. Even minimal involvement by the spouse provokes suspicion, since some small business owners try to skirt around economic disadvantage thresholds by transferring majority ownership to the spouse while still maintaining a large role in the business.

The benefits of being a registered SDB are substantially less than they once were. At one time, SDBs could get a 10 percent price evaluation adjustment, meaning that they could bid up to 10 percent higher than the lowest offeror and still win on price. SBA also once ran a formal certification program for SDBs, but canceled it in 2008 after determining that the expense of certification wasn’t commensurate with the benefits, particularly since the price evaluation adjustment hadn’t been used by civilian agencies since late 2004 and the Defense Department also suspended its use. The DoD later completely eliminated it following a 2008 federal circuit ruling that found it to be unconstitutional.⁴⁷

Nonetheless, SDBs can gain a slight competitive edge by self-declaring as SDBs, since agencies must still fulfill the 5 percent goal. SDB status can be a solicitation evaluation factor.⁴⁸ In particular, there’s anecdotal evidence that GSA schedule order competitions in particular use SDB status as an evaluation criteria.

According to government data, contracts to 8(a) firms typically constitute slightly more than half of all SDB set-asides, so there’s still a decently large, addressable market for non-8(a) SDBs. In fiscal 2010, a year in which 8(a)s took 54 percent of all SDB contracts, that left $1.59 billion for other SDBs—but that figure covers acquisitions for all goods and services, not just information technology.

A joint venture formed with a non-SDB small business can submit offers as an SDB even should their aggregate size exceed the NAICS standard when the procurement is worth more than half of the NAICS size standard (in the case of revenue-based size standards), or if it’s worth more than $10 million (in the case of employee-based size standards), provided the SDB is the managing partner of the joint venture, and an employee of the managing partner is the project manager.⁴⁹ The SDB must perform a significant portion of the contract work, a term that’s vague and open to interpretation.⁵⁰ This rule also applies to bundled procurements; otherwise, the size of the venture is the total size of all participants.

Women-owned small businesses

This is the newest category of socioeconomic groups to get a federal small business set-aside. Although there’s long been a goal for WOSB contracting, only in February 2011 did the government create WOSB set-asides. Now, contracting officers can create set-asides for women-owned businesses in acquisitions worth up to $4 million for nonmanufacturing contracts and $6.5 million for manufacturing contracts.⁵¹ Unlike other set-aside programs, the WOSB program lacks sole-source authority, meaning that set-asides must be competitive among WOSBs.

Since the WOSB set-aside is a product of the latest in federal procurement policy thought leadership, it won’t come as a surprise that it’s also the most complex, creating in fact two types of set-aside programs. One set-aside is for any small business that happens to be at least 51 percent owned and unconditionally controlled by one or more women, while the other is for a WOSB at least 51 percent owned and unconditionally controlled by a woman or women who are also economically disadvantaged. The latter category of businesses are known as economically disadvantaged women-owned small businesses (EDWOSBs). When we discuss WOSBs in generic terms in other parts of this chapter, take it as read that we also mean EDWOSBs.

In yet another complicating factor, set-asides for WOSBs, including EDWOSBs, are possible only in NAICS for which the SBA has determined such businesses are “substantially underrepresented,” but are possible for EDWOSBs in NAICS were women are merely “underrepresented,” which is a less restrictive standard.⁵² For information technology NAICS relevant to both categories, see the sidebar on the previous page. Although counterintuitive, it makes sense to cast a wider set-aside net for the category of companies that face the double challenge of gender underrepresentation and economic disadvantage.

A woman owner of a small business is economically disadvantaged when her personal net worth is less than $750,000 (not including the value of her house, business equity, or retirement accounts), her three-year average AGI prior to certification of EDWOSB status is $350,000, and the value of her assets—including the house as well as business equity but not retirement accounts—is less than $6 million.⁵³ Our earlier note about financial transfers made within the past two years applies to the net worth determination.

WOSB or EDWOSB status is claimed either via self-certification or via an SBA-accredited third party certifier. Businesses without third party certification must upload to the SBA-run WOSB Repository proof of set-aside eligibility; those with third party certification can just upload the certificate. In either case, business owners will have to make available—either to SBA or to the third party certifier—a number of financial documents, including from spouses. Businesses are subject to random verification examinations by the SBA. A WOSB or EDWOSB must annually certify through its representations and certifications that it continues to remain eligible for such status.⁵⁴

A joint venture formed with a non-WOSB or EDWOSB small business can still submit an offer as a WOSB/EDWOSB when the procurement is worth more than half of the NAICS size standard (in the case of revenue-based size standards), or if it’s worth more than $10 million (in the case of employee-based size standards), and provided that at least 51 percent of the net profits earned by the joint venture go to the woman-owned business, the woman-owned business is the managing partner, and an employee of the managing partner is the project manager.⁵⁵

HUBZone

Any small business owned by U.S. persons located in a Historically Underutilized Business Zone that goes through the HUBZone certification program can claim its benefits. In addition to set-asides and sole-source awards, they include a price evaluation adjustment of 10 percent when HUBZones compete against businesses of any size. The adjustment doesn’t apply to procurements below the simplified acquisition threshold or to GSA schedule–only competitions.⁵⁶ HUBZone sole-source authority is good for contracts that don’t exceed $3.5 million, $5.5 million for manufacturing NAICS.⁵⁷

The paradox of HUBZone is that while the program encourages businesses in economically disadvantaged areas to grow, it firmly ties successful businesses to that disadvantaged area. Besides maintaining a principal office in the disadvantaged area, a HUBZone business must also ensure that at least 35 percent of its employees reside in a HUBZone, and it must always spend at least 50 percent of the contract personnel costs on its own employees, or on those of another HUBZone business.⁵⁸

A HUBZone business must recertify its status to SBA every three years and immediately notify SBA if there’s a change that would affect its eligibility.⁵⁹ So long as a business maintains the eligibility requirements, it can stay enrolled in the program indefinitely.⁶⁰ HUBZone firms cannot be owned by other companies (except for tribal companies).

HUBZones, by definition, are economically poor places, and they encompass rural counties (or parts of counties) as well as inner-city areas. Indian reservations can also qualify as HUBZones, as can former military bases or areas the secretary of the Department of Housing and Urban Development has designated as difficult development areas (DDAs).

As a program, HUBZone also carries the reputation (one shared in varying degrees by other small business types) of being particularly rife with fraud. SBA lacks the resources to effectively oversee the certification program. In a demonstration of the lack of oversight, Government Accountability Office investigators in 2010 successfully gained HUBZone certification for “Crockett and Associates,” a fictitious firm that listed as its address the historic Alamo Mission in San Antonio, Texas.⁶¹

But the fact that dishonesty exists shouldn’t be a deterrent; if you qualify for HUBZone status, enrollment in the program is worth your time and effort if you intend to start pursuing federal contracts. But in an environment of increasing suspicion, be careful to maintain and document your eligibility after you gain certification.

Information technology firm participation in the HUBZone program isn’t particularly large. Construction firms receive 64 percent of all HUBZone contracting dollars, while IT companies account for less than 1 percent, according to a 2008 study sponsored by the SBA.⁶² Professional, scientific, and technical services account for about 4 percent of HUBZone contracting dollars.

A joint venture formed with a non-HUBZone firm isn’t eligible for HUBZone contracts.⁶³ However, a joint venture formed among HUBZone businesses can respond as a HUBZone business to a HUBZone set-aside, and the joint venture need not itself gain HUBZone certification.⁶⁴ A joint venture of HUBZone businesses can respond to a HUBZone set-aside as small, even if the collective size of joint venture members exceeds the size determination threshold, should the procurement be worth more than half of the NAICS size standard (in the case of revenue-based size standards) or more than $10 million (in the case of employee-based size standards).⁶⁵

SDVOSBs

Service-disabled veteran-owned small businesses are small businesses at least 51 percent directly owned by one or more service-disabled veterans and unconditionally controlled by the majority owners.⁶⁶ In what’s just a difference in terminology, some federal agencies refer to them as SDVO SBCs, which stands for service-disabled veteran owned small business concerns.

There is no minimum disability requirement. A veteran with a 0 percent disability is eligible, although to participate, you need an official disability rating. A veteran SDVOSB owner with permanent and severe disability can transfer the management and daily business operations to a spouse or permanent caregiver without losing status.⁶⁷ Should a 100 percent disabled veteran owner die as a result of service-connected disability, the SDVOSB can continue to claim SDVOSB status for ten years if the vet’s ownership stake transfers to the surviving spouse.⁶⁸ If the spouse remarries during that decade, then the deceased vet’s stake no longer counts toward the 51 percent ownership requirement.

There is also no income, net worth, or asset value limitation for SDVOSB owners—but any SDVOSB also trying for SDB, EDWOSB, or HUBZone status, or applying to the 8(a) program, would be bound by the financial-status limitations of those programs.

The SDVOSB program permits set-asides and sole-source contracts worth up to $3.5 million, $6 million for manufacturing NAICS, but no price evaluation adjustment.⁶⁹ The VA permits sole source awards worth between the simplified acquisition threshold and $5 million to veteran-owned small businesses.⁷⁰

Since the SDVOSB set-aside was first introduced by a 2003 law, the government has consistently fallen short of the 3 percent goal (reaching 2.65 percent in fiscal 2011), probably, as has suggested Ray Bjorklund, because there aren’t enough SDVOSBs to meet the goal.⁷¹

There is no governmentwide certification program. But SDVOSBs, and veteran-owned small businesses generally, wanting to do business with the VA must undergo biennial certification and biennial recertification.⁷² The VA program is known as the VetBiz Vendor Information Pages Verification Program (VetBiz VIP) and is run by the Center for Veterans Enterprise, an office within the VA’s OSDBU. The registration requirement applies to joint ventures formed by veteran-owned businesses.⁷³ VA requires joint ventures bidding for its business to be a separate legal entity.⁷⁴

A joint venture formed with a non-SDVOSB partner can still submit an offer to a SDVOSB competitive set-aside when the procurement is worth more than half of the NAICS size standard (in the case of revenue-based size standards), or if it’s worth more than $10 million (in the case of employee-based size standards), provided that other members of the joint venture are small themselves, that at least 51 percent of the net profits earned by the joint venture go to the SDVOSB, and that the SDVOSB is the managing partner and an employee from the managing partner is the project manager.⁷⁵ This rule also applies to bundled procurements. In SDVOSB sole source contracts and all other procurements, determining joint venture size is the simple arithmetic of adding all parties’ revenue or employees.

The 8(a) Business Development Program

We noted earlier that all 8(a)s are SDBs, but not all SDBs are 8(a)s. With the 8(a) program, the fact of majority ownership and unconditional control by a socially and economically disadvantaged individual or group is just the starting point. What comes next is the SBA application process.

From a government perspective—and this bears understanding—the most fundamental aspect of the 8(a) program is that 8(a) firms are considered to be subcontractors to the SBA itself.⁷⁶ By doing so, the SBA guarantees that the 8(a) firm is competent and responsible, in effect guaranteeing its legitimacy. SBA does so to increase confidence in program participants, an act it does not perform for participants in other small business programs.

8(a) program overview

We’ve stressed that 8(a) is not a small business type, like SDBs, WOSBs, HUBZone businesses, or SDVOSBs. Small business types are assertions of ownership identity, or with HUBZones, company location. There’s no limit to a company’s existence as, say, an SDVOSB, so long as it continues to remain small and majority owned and unconditionally controlled by service-disabled veterans.

The 8(a) program is more than a declaration of certain attributes. The same socially disadvantaged requirements for SDB status apply to the 8(a) program, and similar (though more stringent) economic eligibility requirements apply. But unlike a small business type, you can’t be an 8(a) forever. A company’s 8(a) status comes to an end after a maximum of nine years of participation in a two-phase program—a four-year developmental phase and a five-year transitional stage. You can only be an 8(a) firm once; the SBA has a one-time eligibility rule for individuals and firms, meaning that even if a firm changes its name or its management, it can’t reapply. A person on whose ownership stake a successful 8(a) application depended on once can’t qualify a new firm to the program.⁷⁷

SBA’s goal for 8(a) firms is that they that graduate from the program as independently viable businesses in no need of additional set-aside support. SBA takes the business development aspect of the 8(a) program fairly seriously, even if the main motivation for nearly all applicant companies is access to 8(a) set-asides, or a better shot of doing business with large primes seeking to satisfy small business subcontracting requirements (detailed later in this chapter).

Firms in the 8(a) program can receive sole-source contracts worth up to $4 million, $6.5 million for manufacturing NAICS. But, should an 8(a) firm receive a combined total of five times its NAICS size standard or $100 million, whichever is less, from 8(a) competitive or sole-source set-asides, it loses the ability to receive additional sole-source contracts. For companies with an employee-based NAICS size determination, the limiting threshold is $100 million. The firm can still bid on competitive 8(a) contracts.⁷⁸

A requirement for entry to the program is submission and continuing annual revision of a business plan, along with a commitment during both stages of the program to develop non-8(a) set-aside business.⁷⁹

During the first, developmental phase of the program, SBA makes available business training and counseling, marketing assistance, and executive development. It’s also easier to become a protégé in a mentor-protégé relationship during the developmental stage than during the second, transitional phase.

Starting in the first year of the transitional phase, that is, the fifth year of the program, the business plan must include escalating goals of annual percentages of non-8(a) revenue as percentage of total revenue.

Starting at the end of the first year of the transition phase, SBA can revoke a firm’s eligibility to receive 8(a) sole-source contracts if it believes the firm isn’t doing enough to pursue non-8(a) work.⁸⁰

Should you get out of balance, if you can demonstrate that it was due to a particularly large single contract or an influx of revenue from a previous contract, or there are other extenuating circumstances, SBA may waive the prohibition on sole-source contracts. But it’s not likely to do so if it sees an increase in your fixed costs based on 8(a) growth rather than non-set-aside contracts. Even though 8(a) preference in government contracting is a main reason companies sign up for the program, SBA tends to view 8(a) contracts like a nutritionist considering a slab of bacon—tasty, but meant for limited consumption.

Firms restricted from receiving sole-source 8(a) contracts can induce SBA to remove the prohibition by submitting quarterly financial reports that show an increase in non-8(a) revenue.⁸¹

Exit from the 8(a) program happens in one of three ways—graduation, completion, or termination. The SBA says a firm has graduated from the program if it’s met the targets and objectives set forth in its business plan. Graduation may occur sooner than nine years. If the SBA finds that your company has exceeded the size standard of your primary NAICS for three years in a row, it will declare you to have graduated early from the program regardless of how much time you had left—unless you can also demonstrate that you’re taking steps to change your primary NAICS, that is, change your primary business focus, to an area in which you’re still small.⁸² The SBA will also graduate early a firm if its ownership no longer meets the economic disadvantage qualifications, or if the agency finds evidence of excessive withdrawals.⁸³ If your company wants to do something that would put it afoul of the 8(a) regulations, such as bringing in new investors and thus upsetting the 51 percent socioeconomic ownership requirement, you can ask SBA to graduate you early.

Completion occurs when at the end of the nine-year program a firm hasn’t met all the targets and goals. Whether graduation or completion is the more desirable outcome depends. Firms that have merely completed the program have fallen short of their goals, but it’s likely, since they’ve fallen short of growth goals, that they can hold onto SDB status.

Termination is the equivalent of being fired from the 8(a) program, and it looks bad on your business record. The SBA can terminate for the reasons you would expect—for example, submission of false information, suspension or debarment, failure to give SBA in a timely manner any information it requests—but also for other reasons, including excessive withdrawals (again) and failure to pursue business as called for by the business plan. In the case of excessive withdrawals, the SBA might agree not to terminate a firm in exchange for a reinvestment of funds into the business.

Economic eligibility

Like SDBs, an applicant to the 8(a) program must be majority owned and controlled by a person or group of people from a socially and economically disadvantaged background. The 8(a) financial status requirements are stricter than those for SDB status, however.

At the time of application, the net worth of each owner who counts toward the requirement of 51 percent unconditional ownership by socially and economically disadvantaged individuals must be less than $250,000.⁸⁴ As with SDBs, you don’t have to count ownership interest in the small business or the equity value of your primary residence as part of the net worth calculation, provided you haven’t made excessive withdrawals of value from the business to the house. Tax-protected retirement accounts also don’t count.

An owner’s three-year adjusted gross income before application to the program can be no more than $250,000 annually.⁸⁵ During the program, the three-year average can’t exceed $350,000 annually. If for an unusual reason unlikely to reoccur, your income level exceeds those thresholds either before application or during the program, or if there were commensurate losses directly related to those earnings, SBA is sometimes willing to waive the threshold requirement.⁸⁶ Income received from an S corporation, limited liability corporation, or partnership reinvested back into the firm or used to pay ordinary taxes doesn’t count toward the income threshold.

The fair market value of an owner’s assets—including equity in the firm and the value of the primary residence, but not tax-protected retirement accounts—can’t be more than $4 million at the time of application and can be no more than $6 million at any time during participation in the program. Also, as with other smallbusiness types that have an economic status component, transfers made to a spouse or immediate family member in the last two years count toward a determination of net worth and assets, excepting transfers made for the purposes of educational, medical, or ether forms of essential support, or as a present in recognition of a special occasion, such as a birthday, graduation, anniversary, or retirement.⁸⁷ A spouse’s assets are relevant to an SBA determination of financial status whenever the spouse has a role in the business, whether as an employee, director, creditor, or loan guarantor.⁸⁸

A non-8(a) business in the same or similar line of business may not own more than 10 percent of an 8(a) firm while it’s in the developmental stage, and not more than 20 percent while the 8(a) firm is in the transitional stage.⁸⁹ A graduated or completed 8(a) firm or a principal of a former 8(a) participant (i.e., not firms or principals of firms that were terminated) in a similar line of business can own up to 20 percent of an developmental 8(a) firm and 30 percent of a transitional 8(a) firm. Finally, an individual (family members are considered in the aggregate as a single “individual”) or firm in an unrelated business that owns at least 10 percent of one developmental 8(a) firm can’t own more than 10 percent in another developmental firm; during the transitional stage, the percentage threshold goes up to 20 percent. This last restriction doesn’t apply to any venture capital firm licensed by the SBA as a “small business investment company.”

Limitations on family ownership

If you have an immediate family member (father, mother, husband, wife, son, daughter, brother, sister, grandfather, grandmother, grandson, granddaughter, father-in-law, or mother-in-law) whose disadvantaged status has qualified another firm into the 8(a) program, you’ll find it tough going to get your own 8(a) application through. SBA’s stance is to reject the applications of immediate family members, unless it can be shown that the two firms have no connection, not even contractual relationships.⁹⁰ SBA will permit the application only provided that you, the second applicant, have management and technical expertise in the field of the firm you seek to qualify. If your firm is in the same or similar line of business as your immediate family member’s current or former 8(a) concern, then the SBA will be even more prone to reject your application. If this strikes you as unfair, consider that prolonged rumination on the unfairness of family life can be an easy way to kill a few hours.

Other eligibility requirements

SBA says 8(a) applicants must possess “reasonable prospects for success.”⁹¹ Under the umbrella of that requirement, SBA mandates that applicant firms have at least two years’ worth of previous revenue in the industry of their primary NAICS and requires them to have demonstrated technical knowledge and management experience. It’s possible to get the two-year revenue rule waived, but its dismissal is contingent on SBA believing that the owners already possess such a degree of business acumen that the full two years aren’t necessary. Waivers aren’t routine, but they do occur. Even if a company does get one, SBA probably will insist on at least 18 months of revenue. That year and a half should be a good one, showing evidence of sustainable growth. It particularly helps if the owners can demonstrate previous executive or managerial experience specifically in the federal market.

Applicants to the 8(a) program must have good character; debarred or suspended firms or individuals are ineligible.⁹² So too is any firm with an owner of at least 10 percent who has been convicted of, or possibly just indicted on, a crime or civil judgment related to business integrity. Convicted felons can be more than 10 percent owners of an 8(a) firm (assuming they weren’t convicted of a crime demonstrating lack of business integrity), but not while they’re on parole or probation, or in prison. In addition, 8(a) disadvantaged owners must be U.S. citizens resident in the United States.⁹³

8(a) joint ventures

SBA imposes more conditions on 8(a) joint ventures than on other small businesses, starting with the fact that it must approve the joint venture before the venture can receive any 8(a) contracts.⁹⁴ When weighing whether to approve, it looks for evidence that the 8(a) on its own lacks the necessary capacity to perform a contract.⁹⁵ Once SBA has approved the joint venture agreement, the approval lasts for all three contract awards for which the joint venture is eligible. The rules for mentor-protégé joint ventures are different, and we detail them in the next section.

Partners in the joint venture need not be 8(a) firms themselves, but in order for the joint venture to be eligible for competitive 8(a) set-asides, they must be small businesses, and the procurement must be worth more than half of the NAICS size standard (in the case of revenue-based size standards), or more than $10 million (in the case of employee-based size standards), provided that the size of one 8(a) partner itself is less than one half of the procurement NAICS size standard.⁹⁶ For sole source and all other procurements, the joint venture size is the aggregate of its members.

Any SBA-approved joint venture agreement must appoint the 8(a) firm as the managing partner.⁹⁷ In a joint venture that is not a separate legal entity of its own with its own employees (is an “unpopulated” joint venture), or if the separate legal entity merely consists of administrative personnel, that’s a straightforward matter. If the joint venture is a “populated” joint venture—meaning government contract work is to be performed by employees of the joint venture itself, not by employees of the members of the joint venture—the joint venture “must otherwise demonstrate that performance of the contract is controlled by the 8(a) managing partner.”⁹⁸

For an unpopulated joint venture, 8(a) partners must conduct at least 40 percent of the total work done by all partners and receive profits commensurate to the work they perform.⁹⁹ The work 8(a) partners perform cannot just be administrative; SBA wants to know that 8(a) firms are gaining “substantive experience.”¹⁰⁰

In the case of populated ventures, the 8(a) firm must own at least 51 percent of the joint venture entity, receive commensurate profits, and demonstrate to SBA how its performance in the venture will assist in its business development.¹⁰¹ Non-8(a) members of a populated venture cannot act as subcontractors to the joint venture at any level, unless SBA grants a waiver on the grounds that other potential subcontractors are not available, or that the populated entity has administrative personnel only.¹⁰² In the latter case, however, the joint venture still has to satisfy the requirement that the 8(a) firm perform 40 percent of the total work done by all partners.

Mentor-protégé in 8(a)

A lot of rules otherwise preventing the involvement of large businesses with small firms disappear when the two establish an SBA-sanctioned 8(a) mentor-protégé relationship.

A mentor-protégé joint venture between a mentor of any size and an 8(a) firm can bid for any government prime contract or subcontract of any value as a small business, and can receive sole-source contracts as an 8(a) firm, provided that the 8(a) protégé qualifies as small under the procurement’s NAICS.¹⁰³ The one limitation is that once the protégé receives the lesser of more than $100 million or five times its NAICS size standard through 8(a) set-asides, whether competitive or sole source, the mentor-protégé joint venture no longer qualifies as small.¹⁰⁴ And regulations regarding the minimum amount of work that an 8(a) firm must perform within a joint venture, plus control of the joint venture by the 8(a) firm, still apply.¹⁰⁵ A mentor can own up to 40 percent of equity in a protégé firm.

Mentors must commit to “impart value” to protégé firms through practical experience or knowledge taught about general business operations and government contracting. SBA likes mentors to have no more than one protégé at one time, but it will permit a company to have up to three, so long as the mentor can demonstrate that the protégé firms will not have to compete among each other.¹⁰⁶ A mentor firm need not be large, and it need not even be a for-profit concern; an 8(a) firm in the transitional stage can even be a mentor.¹⁰⁷ A firm cannot simultaneously be a mentor and protégé.¹⁰⁸

SBA will permit a protégé to have up to two mentors at any one time, but the second mentor must pertain to a NAICS code unrelated to the first mentor-protégé relationship, must not conflict with the first relationship, and also must offer specific expertise that the first mentor does not possess.¹⁰⁹

Becoming a protégé is far easier during the developmental stage. Firms in the transitional stage qualify for protégé status only if they have never received an 8(a) contract, or if their size is less than half of the size standard of their primary NAICS.¹¹⁰

Gaining SBA approval of a mentor-protégé agreement requires the two firms to set down in writing a detailed description of and timeline for assistance that will occur, including cooperation on joint venture projects or subcontracts under prime contracts being performed by the mentor. The agreement must tie back that assistance to the 8(a) protégé’s SBA-approved business plan.¹¹¹ The protégé must also report back to SBA as part of its annual reporting all assistance received from the mentor. If the agency believes the mentor has fallen short of its commitments, it can terminate the agreement and prevent the mentor from acting as a mentor again for two years.¹¹²

Small Business Innovation Research and Small Business Technology Transfer

The idea of small businesses as innovation engines find fullest expression in the Small Business Innovation Research (SBIR) and Small Business Technology Transfer (STTR) programs, which are contract or grant set-asides run by agencies with significant research budgets for businesses with 500 employees or fewer.¹¹³ The idea behind SBIR/STTR is to correct a perceived bias toward large companies in federal research and development contracts and expand commercialization of research funded with federal dollars.

Agencies with an R&D budget of more than $100 million per year must set aside at least 2.6 percent of their extramural research budget for contracts or grants for SBIR, while agencies that have an R&D budget of over $1 billion must set aside 0.35 percent of their extramural research budget for STTR. As usual, the agency in the position of handing out the most money is the Defense Department. Thanks to a recent SBIR/STTR reauthorization by Congress, the SBIR and STTR set-aside percentages are growing incrementally.¹¹⁴ By fiscal 2017 the SBIR set-aside rate will be 3.2 percent and the STTR rate will be 0.45 percent.

Both SBIR and STTR programs consist of three phases, with no guarantee that a firm will move into the next one. In the first phase, firms receive an award typically worth up to $150,000 to evaluate the feasibility of the proposed concept, which, obviously, must align with the research priorities of the awarding agency. Projects with sufficient potential can compete for a Phase II award, which can be worth typically up to $1 million over two years, during which time the full research occurs.¹¹⁵ Afterward, during Phase III, the small firm must seek external funding to commercialize the research. Phase III funding can originate from the federal government, just not from the SBIR or STTR program.

Under a pilot project authorized through fiscal 2017, the National Institutes of Health (NIH) and the departments of Defense and Education can grant a Phase II SBIR award directly to a company without it having completed Phase I, should the agency find that the small business has already fulfilled the requirements of Phase I.

Although SBIR and STTR programs are similar, they differ in a few key respects.

Under SBIR, the principal investigator must be primarily employed by the small business, although that individual need not necessarily be a U.S. citizen. A SBIR firm must also be at least 51 percent owned and controlled by individuals who are U.S. citizens or permanent resident aliens. If owned by another business, then the parent company must be 51 percent owned and controlled by individual U.S. citizens or permanent resident aliens. However, up to a quarter of SBIR funds granted by the NIH, the National Science Foundation, and the DOE can go to small businesses that are majority owned by multiple hedge funds, venture capital operating companies, or private equity firms. Firms majority-owned by just one such firm still can’t participate in the program; the 25 percent allowance applies to companies in which multiple minority outside capital stakes combine to form an overall majority. Other SBIR federal agencies can award up to 15 percent of their SBIR budget to companies majority owned by such multiple outside investors.

STTR requires the applicant, in addition to meeting all the conditions of ownership required for SBIRs, to also have in place a partnership with an American nonprofit research institution, whether a university, college, federally funded research and development center (FFRDC), or other nonprofit research organization. The partnership agreement must stipulate that the small business partner conduct at least 40 percent of the work, and that the research partner conduct at least 30 percent of it.

Agency administration of SBIR/STTR programs is uniform in these broad requirements, but differs regarding the number of solicitations the agencies put out, the timing of those solicitations, whether they’ll give a contract or a grant, the degree of specificity they want before funding a project, and in other aspects, too. Fortunately, most do a good job of providing public information and have decent websites.

Protests

Small business protests occupy a niche of their own separate from the world of bid protests in general, which is why we discuss them here rather than in Chapter 8.

NAICS appeals

Since smallness varies according to NAICS, some small businesses find themselves in the awkward position of being small under one NAICS but large under another. A contracting officer’s decision to tie a small business set-aside solicitation to a particular NAICS can have the effect of making you ineligible to compete. If that’s the case, then you can contest the NAICS code with the SBA’s Office of Hearings and Appeals (OHA).¹¹⁶ You must file the code appeal within ten calendar days after issuance of the solicitation or issuance of an amendment that affects NAICS choice.¹¹⁷

When doing so, you must propose an alternate NAICS—one, it should go without saying, under which you are small. If you can’t do so, OHA will rule that you aren’t adversely affected. Businesses not small under any NAICS code can’t go to OHA for a NAICS appeal.

If you’re dissatisfied with an OHA NAICS decision, the only place to appeal is the Court of Federal Claims. OHA decisions are otherwise final.¹¹⁸

Size determination protests

If you’re on the losing end of a competition and you have reason to believe the winner is not in fact a small business, then you have recourse to a protest with SBA. The rules for filing a protest are precise and precisely enforced. Protests must be filed in writing within five business days of receiving notice, or notice being publicly available, of a contract being awarded.¹¹⁹ A protest must include specific, detailed evidence that the company you’re challenging is not small.¹²⁰

Generally, you must have been an offeror in order to have standing for a protest. But since the rules allow large businesses to make a size determination protest under some conditions, we’ve broken out the rules into a separate table (see Table 11-2).

Protests must go to the contracting officer, who forwards them to the local SBA area office for consideration.¹²¹ Contracting officers cannot make the contract award to the company whose size is under protest for a period of ten business days, or until SBA makes a size determination, whichever occurs first.¹²² What usually happens is that the SBA takes far longer than ten days to settle a size determination protest, so typically the contracting officer refrains from awarding the contract until the matter is resolved.

SBA, unlike the judicial system, will infer guilt from the silence of a challenged company. The agency will notify a challenged company of the protest and present it with SBA Form 355, “Application for Small Business Determination.” The company then has three business days to complete the form, and failure to do so causes the SBA to presume that the challenged company is not small.¹²³ If you happen to be a challenged company, you can ask for additional time to respond to SBA’s requests, but do so before three days have passed.

Table 11-2: Conditions for Making a Size Determination Protest

Set-Aside Type	Private-Sector Entities Who Can Protest (13 CFR 121.1003)
Generic small business set-aside	A losing offeror whose response wasn’t rejected by a contracting officer for reasons of nonresponsiveness or elimination from the competitive range has standing. A company whose proposal was rejected on size grounds has no standing, unless there is only one remaining offeror left in the competition, in which case it does. Also, any business, including a large business, can make a size protest when only one business submits an offer to a small business set-aside procurement. “Other interested parties” can have standing, too. Unfortunately, SBA doesn’t precisely define what constitutes an “interested party.” In practice, SBA tends to take a highly conservative approach, meaning that you generally must demonstrate a direct competitive interest before the office will deem you interested enough. In other words, a protest from a company not specifically allowed for in the regulations mostly likely will have its protest dismissed for lack of standing. An SBA lawyer told us the agency isn’t much concerned about the lack of specificity, since almost all protestors are offerors.
8(a) competitive set-aside	Any offeror that the contracting officer has not eliminated for reasons unrelated to size.
Small disadvantaged business	Any offeror that the contracting officer has not eliminated for reasons unrelated to size.
HUBZone business	Any offeror that the contracting officer has not eliminated for reasons unrelated to size.
Service-disabled veteran-owned small business	Any SDVOSB that submitted an offer.
Woman-owned small business	Any WOSB that submitted an offer.
Small business subcontracting	The prime contractor, other potential subcontractors, and other interested parties have standing. As noted above, SBA doesn’t define an “interested party,” and it generally dismisses protests from any company without a direct competitive interest in the outcome of a procurement.
Small business innovation research (SBIR) and Small Business Technology Transfer (STTR)	A prospective offeror and other interested parties. Under a proposed rule change, this may change to offerors or applicants.
Full and open competition	Any offeror, large or small, can challenge the size determination of a company that identifies itself as small in a procurement that’s not a set-aside.

If SBA determines that a challenged company is not actually small, then the contracting officer cannot proceed with the award. If he already has on public interest grounds, then the likely outcome is a termination for convenience.

A company dissatisfied with a small size–determination ruling can appeal to OHA or to the Court of Federal Claims (and, thereafter, in the case of continued negative rulings and pronounced taste for paying legal fees, to the Court of Appeals for the Federal Circuit and the Supreme Court). But if everything so far has seemed to turn on fine points of detail, just wait until you get to the appeals stage. We should also note that the presumption of guilt disappears in an appeal—the appellant now has the burden of proof to show why the SBA ruling was incorrect. If you’re contemplating an appeal, we refer you at this point to an attorney specializing in size determination protests, assuming you haven’t already contacted one.

Small Business Subcontracting Requirements for Large Businesses

Any large business with a federal contract worth more than the simplified acquisition threshold must agree to give small businesses in general—and all the various small business types—the “maximum practicable opportunity to participate in the contract performance consistent with its efficient performance.”¹²⁴

Large companies in possession of any single contract estimated to be worth more than $650,000 (including a GSA schedule, if your total estimated business over a five-year period adds up to that) must go a step further and put in place a subcontracting plan.

There are three possible subcontracting plan types: an individual subcontracting plan for each contract; a master plan good for a period of three years; or for companies furnishing commercial items, a commercial plan good for a year at a time. We’ll discuss each in turn. A constant of all of them is that a contractor need not independently verify the status of a small business subcontractor; if the prime contractor is acting in good faith, a written declaration by the subcontractor of its status is sufficient.¹²⁵

Another constant is that even though it’s ostensibly up to the contractor to come up with reasonable subcontracting goals, agency OSDSBUs will push hard for you to establish a minimum that matches the governmentwide small business prime contracting goal (23 percent, with subpercentages for specific types), or possibly the SBA’s even higher small business subcontracting goal for agencies—which, we noted earlier in this chapter, is around 35 percent.

There are plenty of businesses for which subcontracting a third, or even merely a quarter, of all business is unfeasible, but it’s incumbent on them to make a persuasive case for a lower percentage. The way to start doing so is to undertake a 12-month spend analysis matched to the scope of the type of plan you’re adopting. Conduct a census of all applicable subcontractors, suppliers, etc., and ask them to self-certify their status according to federal criteria. Tag spending accordingly in your accounts payable system, and you’ll have a decent idea of what your status quo is. If you really want to be comprehensive, conduct market analysis so that if a contracting officer asks for your subcontracting goals with a particular small business type for which there’s scarce opportunity, you have more than your individual experience to rely on in making a factual counterargument. The less past subcontracting information you have, the more you’ll have to rely on market research—if, for example, you’re forced to develop an individual subcontracting plan for work in an area where you lack preexisting relationships.

Individual subcontracting plans are fairly involved affairs, and they come with copious reporting requirements. In order for a contracting officer to approve one, the plan must have separate percentage and total dollar goals for small businesses types (including Alaska Native Corporations and Indian tribe–owned companies), a description of the products or services to be subcontracted, a description of the method used to develop the goals, and a description of the method used to identify potential small business sources, plus a few other elements.¹²⁶ If subcontractors themselves will subcontract work, the prime must ensure its subcontractors either promise to give small businesses the maximum practicable opportunity to participate—or, if the subcontract is worth more than $650,000, then the prime must require the subcontractor itself to adopt an individual subcontracting plan. Further, the prime must submit semiannual reports to its federal customer—an individual subcontract report twice a year and a summary subcontract report once a year, except for Defense Department and NASA contractors, which have to submit the summary report twice a year.¹²⁷

Not many companies outside of the defense market set up master subcontracting plans, since only large defense contractors, for the most part, have a sufficient quantity of subcontracts worth more than $650,000 to make one worthwhile. Companies operating under a master plan must do everything called for in an individual subcontracting plan, except for submitting a plan that includes subcontracting goals. When a company receives a contract above the threshold level, it references the master plan and creates subcontracting goals specific to the new contract. A master plan can cover a company division or plant and is good for three years at a time, although once incorporated into any contract awarded during that three-year period, it’s valid for the lifetime of that contract.¹²⁸

Any company that sells only commercial items (including the performance of commercial services only) to the government will probably want a commercial plan. Commercial plans are valid for a year at a time; the government says they must be annually refreshed through submission of an updated plan 30 days before the end of your fiscal year.¹²⁹

Commercial plans can cover the entirety of a company or a specific division. Choosing how broadly the plan should apply depends on where you think it’ll be possible to round up a sufficient number of small subcontractors—emphasizing the point we made earlier that constructing a plan should begin with at least a census of existing suppliers and subcontractors.

The good news is that commercial plans aren’t restricted to subcontractors or suppliers for just products sold to the government; they can cover the office janitorial services company, the coffee and snack vendor—any company with which you do business, except contractual relationships that can’t be considered to have a subcontracting component to them, like office space leasing.

Having selected a plan to put in place, the next big question naturally is what happens if a company falls short of its subcontracting goals. The answer is probably nothing much, at least in the short term. Supposedly, the government can collect liquidated damages equal to the dollar value of any gap between reality and goal, but in order to do so, it must first demonstrate that the contractor has not been acting in good faith.¹³⁰ That’s a high legal hurdle to clear, especially if the company can demonstrate that it has made an active attempt to recruit small business subcontractors in accordance with its plan. Further, an agency’s decision to impose damages is subject to review under the Contract Disputes Act, meaning that litigation against the decision by the prime contractor is practically guaranteed.

Moreover, the organizations in charge of monitoring subcontracting goals, agency OSDBUs, are typically too overwhelmed to consistently care about subcontracting goals (even SBA officials admit so in private). Really big companies probably will see their goal activity monitored, but medium-sized companies might go for a long time without anybody caring. Of course, should something occur to push you into the spotlight of scrutiny, and it’s found how badly you’ve fallen short of your goals, that’s just another thing the feds could use to wring your neck.

Life as a Small Business Subcontractor

Being a small business subcontractor to many large businesses, as Phil Kiviat, a Maryland-based federal business consultant told us, is second only to death among life’s unpleasant experiences.

For one thing, small businesses sometimes learn, to their consternation, that pre-contract teaming arrangements aren’t binding. Not until after the award of a contract, when the prime executes subcontracts, does a small business have a legally enforceable relationship. That leaves open a window between the award of a contract and execution of subcontracts when a small business team member might find itself not as popular as it once was. Particularly with products, once a prime has been awarded a contract based on a subcontracting price, any opportunity it subsequently has to lower subcontracting costs puts extra profit directly into its hands. Cold-hearted substitution of preaward team members for cheaper postaward alternatives isn’t standard practice, but it’s not unknown.

With services companies, what might happen more often than a substitution arrangement is simply a decision by the large prime to perform work in house that was planned for subcontracting under the teaming arrangement. Even if a large prime used your qualifications and past performance to gain a services contract, it’s under no obligation to use your services during execution of the contract unless it explicitly promised so in its proposal to the government. Some big companies have reputations for pulling this trick more often than others; ask around.

A small business executive we spoke with talked of one experience he had with a government agency when his company was a subcontractor to a large services company. The program the subcontractor was working on had a sudden increase in budget, leading to a commensurate increase in contractor positions. At this point, the subcontractor was pushed out of the way. When this executive went to the program manager, he was told that his company was simply now too small. Unless the program manager spent all of his increased personnel budget, it would be cut in the following year, and the small business lacked the capacity to fill the number of contractor positions that needed immediate filling.

None of what we’ve said in this section is meant to dissuade small businesses from becoming subcontractors; after all, large businesses must subcontract with small businesses, and many companies have had friction-free experiences. But be smart. Many newcomer small businesses tend to believe that the only way to gain federal business is to work with large primes and so go directly to them with proposals in the expectation that a good idea will be rewarded with a subcontract. That outcome is not outside the realm of possibilities, but it’s hardly guaranteed. Large services companies would rather take whatever wonderful solution you propose to sell them and charge the government to develop it themselves.

If you have a great solution, most people advise first generating interest within the government itself. A subcontract with a prime, or a possibly a prime contract, is more likely to flow if program managers are convinced of your solution’s importance.

Growing Your Small Business

Small companies new to the federal market—services companies in particular—often realize after a couple years that they have no identity. It’s a common side effect of doing business with the government, especially when a company is anxious for revenue and loath to turn anything down. But after a few years of helter-skelter growth, you might have a jumble of disconnected qualifications and staff that make your company less than the sum of its parts. Without some unifying thread, you might continue to grow, but at a slower pace, since you lack a strong association with any particular type of work. Accumulating overhead costs will cause you to bump up your prices, slowing growth further. Because you can potentially do a whole slew of things, you’ll likely put your proposal team to work on grinding out offers, which will bring disappointing results. At a certain point, you’ll find things falling apart thanks to a lack of center.

Taking your collection of qualifications—maybe a little project management here, some systems engineering and technical assistance there—and trying to fuse them into a declaration that you’re a system integrator won’t work, either. It’s been tried many thousands of times before.

What you need, even during the first precarious years when survival is in doubt, is a strategy to become more valuable over time. When you’re starting out, generating cash is the understandable first priority. For a services company, putting bodies wherever you can is okay at first. But you’ve got to have a plan for how you’re going to make that leap from building your cash flow to doing the project work you want your company associated with. “You’ve got to have some contracts that are your crown jewel contracts, the ones that you talk about, the ones that you publicize, the ones that help identify your company,” one experienced executive told us.

The need to find an identity is particularly important for 8(a) firms, since the moment participation in the program comes to an end, the incentives for government agencies and large primes to contract with them likewise end. It’s not unheard of for firms that do well in the program by keeping a reasonable balance between 8(a) contracts and other business to find revenue down by 40 or 50 percent in the first years after they graduate.

If you bring something of value to the table, your chances of surviving are immeasurably improved. But if all you’re selling is the fact of your smallness, you’re just another small firm in a field full of them.

Final Note

Who knew that translating how giving small businesses “maximum practicable opportunities” to participate in federal contracting would become the longest chapter in this book? But don’t let minutiae deter you. Many of the regulations came into existence in response to attempts by cynical small business owners to manipulate the system. If your intention is to do good work and provide a needed product or service, you’ll be able to spend the bulk of your energy doing so. Take what you can from incentives, but don’t become dependent on them. Grow smartly. Cultivate government customers directly—and prepare for the day when you’re no longer small.

ENDNOTES

1. FAR 19.201(a).

2. FAR 13.003(b).

3. FAR 19.702.

4. FAR 19.502-2(b).

5. FAR 19.502-3.

6. So named because its authority flows from section 8(a) of the Small Business Investment Act of 1958.

7. 13 CFR 124.1003(a).

8. FAR 19.203(a).

9. FAR 19.203(c).

10. FAR 19.201(d).

11. 13 CFR 121.407.

12. 13 CFR 121.103(a).

13. 13 CFR 121.103(a)(3).

14. 13 CFR 121.103(g).

15. 13 CFR 121.103(h)(3).

16. 13 CFR 121.103(h).

17. Ibid.

18. Ibid.

19. FAR 15.305(a)(2)(iii).

20. 13 CFR 124.520(d).

21. 13 CFR 121.103(b)(6).

22. 13 CFR 121.103(h)(4).

23. 13 CFR 125.6(a)(1).

24. 13 CFR 125.6(a)(2).

25. SDVOSBs: 13 CFR 125.6(b); HUBZones: 13 CFR 125.6(c).

26. 13 CFR 125.6(e).

27. U.S. Government Accountability Office. Washington-Harris Group. B-401794 and B-401794.2. November 16, 2009.

28. 13 CFR 121.404(g).

29. 13 CFR 121.404(g)(3)(vi).

30. 13 CFR 121.404(g)(1).

31. 15 USC 645(d)(2).

32. The Small Business Jobs Act of 2010. P. L. 111-240. September 27, 2010. 1341.

33. Ibid., 1342.

34. FAR 52.212-1(a).

35. 13 CFR 121.406(b).

36. 13 CFR 121.1203 and 121.1204(a)(2).

37. SDBs: 124.1002(a) and 124.102(c)(2); EDWOSBs: 13 CFR 127.203(c)(4).

38. EDWOSBs: 13 CFR 127.203(c)(2); SDBs: 13 CFR 124.104(b)(2).

39. SDBs: 13 CFR 124.106;WOSBs: 13 CFR 127.202; SDVOSBs: 13 CFR 125.10.

40. 13 CFR 125.10.

41. 13 CFR 124.105 and 13 CFR 124.106.

42. 13 CFR 124.1002(a) and 13 CFR 124.103(c).

43. 13 CFR 124.1002(c).

44. 13 CFR 124.104(c)(2)(ii).

45. 13 CFR 12.104(c)(3); SBA applies the 8(a) continued eligibility requirement for personal income when it comes to SDB status.

46. 13 CFR 12.104(c)(3); SBA again applies the 8(a) continued eligibility requirement when it comes to SDB status.

47. Rothe Development Corp. v. Defense Department. No. 2008-1017. U.S. Court of Appeals for the Federal Circuit. November 4, 2008.

48. FAR 19.1202.

49. 13 CFR 124.1002(f).

50. 13 CFR 121.1002(f)(5).

51. FAR 19.1505(b) and (c).

52. FAR 19.1505(c) and (b).

53. 13 CFR 127.203.

54. 13 CFR 127.300(b).

55. 13 CFR 127.506(a).

56. FAR 19.1307(a).

57. 13 CFR 126.612(b).

58. 13 CFR 126.200 and 126.700(b).

59. 13 CFR 126.500 and 125.501.

60. 13 CFR 126.502.

61. U.S. Government Accountability Office, Small Business Administration: Undercover Tests Show HUBZone Program Remains Vulnerable to Fraud and Abuse. GAO-10-759. June 25, 2010.

62. Henry Beale and Nicola Deas. The HUBZone Program Report. A study prepared for the Small Business Administration Office of Advocacy. May 2008.

63. FAR 19.1303(c).

64. 13 CFR 126.616(a).

65. 13 CFR 126.616(b).

66. 13 CFR 125.8(g)(1).

67. 13 CFR 125.8(g)(2).

68. 38 USC 8127(h).

69. FAR 19.1406(a)(2).

70. 38 USC 8127(c).

71. Bjorklund, Raymond. Statement to the House, Committee on Veterans Affairs. Contracts and Contracting Policy at the U.S. Department of Veterans Affairs, Hearing, April 23, 2009.

72. 38 CFR 74.15(a).

73. VA Acquisition Regulation 819.7003(b0(3) and U.S. Government Accountability Office. A1 Procurement, JVG. B-404618.3. July 26, 2011.

74. 38 CFR 74.1

75. 13 CFR 125.15(b).

76. FAR 19.800(a).

77. 13 CFR 124.108(b).

78. 13 CFR 124.519.

79. Business plan: 13 CFR 124.402(a) and 13 CFR 124.403(a); business outside of 8(a) set-asides: 13 CFR 124.509.

80. 13 CRR 124.509(d) and (e).

81. 13 CFR 124.302(d).

82. 13 CFR 124.302(c).

83. 13 CFR 124.302(a) and (d).

84. 13 CFR 124.104(b)(2).

85. 13 CFR 124.104(c)(3).

86. Ibid.

87. 13 CFR 124.102(c)(2).

88. 13 CFR 124.104(b)(2).

89. 13 CFR 124.105(h).

90. 13 CFR 124.105(g).

91. 13 CFR 124.107.

92. 13 CFR 124.108(a).

93. 13 CFR 124.101.

94. 13 CFR 124.513(e).

95. 13 CFR 124.513(a).

96. 13 CFR 124.513(b).

97. 13 CFR 124.513(c).

98. 13 CFR 124.513(c)(2).

99. 13 CFR 124.513(d)(2) and (c)(4).

100. 13 CFR 124.513(d)(1).

101. 13 CFR 124.513(c)(3) and (c)(4) and (d)(1).

102. 13 CFR 124.513(d)(2)(ii).

103. 13 CFR 124.520(d).

104. 13 CFR 124.513(b)(3).

105. 13 CFR 124.513(d).

106. 13 CFR 124.520(a)(iv).

107. 13 CFR 124.520(b).

108. 13 CFR 124.520(c)(4).

109. 13 CFR 124.520(c)(3).

110. 13 CFR 124.520(c)(1).

111. 13 CFR 124.520(e).

112. 13 CFR 124.520(g) and(h).

113. 13 CFR 121.702(b)

114. National Defense Authorization Act for Fiscal Year 2012. P.L. 112-81. December 31, 2011. Division E.

115. The Phase I and Phase II amounts are subject to revision annually for inflation.

116. 13 CFR 121.1102.

117. 13 CFR 134.304(b).

118. 13 CFR 134.316(b).

119. 13 CFR 121.1004(a)(i).

120. FAR 19.302(a)(2).

121. 13 CFR 121.1003.

122. FAR 19.302(h)(1).

123. 13 CFR 121.1008(c) and 121.1009(c).

124. FAR 19.702.

125. FAR 19.703(b).

126. FAR 19.704(a).

127. FAR 19.704(a)(10).

128. FAR 19.704(b).

129. FAR 19.704(d).

130. FAR 19.705-7(b) and (a).