SBA Proposes Rule That Will Change M&A Landscape for Small Business, Recertifications to Impact Award Eligibility

The Small Business Administration ("SBA") recently issued a proposed rule which changes the effect of a concern's size recertification following mergers and acquisitions ("M&A") activity. Notably, the proposed rule is ostensibly an omnibus proposal as it covers a host of issues under SBA's socio-economic contracting programs. The proposed rule, for example, includes changes to SBA's negative control affiliation provisions (discussed here), joint venture rules, mentor-protégé rules, and others. Comments on the proposed rule are due on or before October 7, 2024.

SBA's recertification rules have long been the subject of debate, particularly as it relates to eligibility after a concern recertifies as an "other than small business" following an M&A event. Under the current regulatory regime, a small business is generally considered small for the life of the contract, including for orders issued against a long-term contract. Thus, where a contractor is required to recertify its size following a novation, merger, sale or acquisition, or M&A event, or prior to the end of the 5th year of a long-term contract, the current rule states that the effect of that recertification is on goaling. That is, if the concern is no longer small, it remains eligible for future task orders under that long-term contract, but the agency cannot count those awards as an award to a small business (i.e., goaling credit).

Indeed, this goaling–eligibility issue has been discussed, at length, under several SBA Office of Hearings and Appeals ("OHA") decisions – and in some Government Accountability Office decisions – which have time and again found that the plain language of SBA's recertification regulation ties to goaling, not eligibility. SBA's position in those decisions (and likewise echoed in its prefatory comments to the proposed rule) demonstrates that the agency disagrees not only with the legal reasoning in those decisions but also the outcome (i.e., that the company remains eligible).

SBA's proposed rule significantly alters the status quo –– recertifications no longer will be tied to goaling credit (for the most part), and instead will impact eligibility. To begin, given that the current regulations contemplate size and status recertification under multiple provisions, SBA first proposes to depart from this fractured regime by consolidating its recertification rules into one new section, 13 C.F.R. § 125.12. This, according to SBA, "would simplify the text and ensure easier, more consistent interpretation and application of the regulations."

Under its new streamlined approach, SBA's proposed recertification regime is as follows:

M&A Events

• Recertification is required within 30 calendar days of an approved novation, merger, acquisition, or sale, including agreements in principle, of or by a concern or an affiliate of the concern, which results in a change in controlling interest and that recertification shall relate to the size standard in effect at the time of recertification that corresponds to the NAICS code that was initially assigned to the award.
• Note: M&A events under the proposed rule are tethered not only to the concern but also to an "affiliate of a concern." The proposed rule also covers "agreements in principle," which is different from the current regulation.

Long-Term Contracts

• For long term contracts (including multiple award contracts) and orders with durations of more than five years (including options), a concern must recertify its size and status no more than 120 days prior to the end of the fifth year of the award, and no more than 120 days prior to exercising any option thereafter. A contracting officer may also request size and/or status recertification, as he or she deems appropriate, prior to the 120-day point in the fifth year of a long-term contract or order.

SBA's proposed rule would then categorize size and status recertifications (for the above) as either qualifying or disqualifying. A qualifying certification means the concern is "considered to be a small business or small business program participant for up to five years from the date of the recertification and remains eligible for set-aside or reserved awards unless there is a subsequent disqualifying recertification." The impact on a disqualifying certification is discussed below:

Pending Proposals

• If an M&A event (above) occurs within 180 days after the date of an offer (e.g., proposal submission) but prior to award, the concern is ineligible to receive the pending small business set aside or reserved award.
• If an M&A event occurs more than 180 days after the date of an offer but prior to award, the concern's eligibility hinges on whether the awarded effort is a single or multiple award contract. For a pending single award or reserve, the award will count as an award to a small business or small business program participant for goaling purposes for up to five years from the date of the award unless there is a disqualifying recertification. On the other hand, for a multiple award small business set aside or reserve, the concern is ineligible for the pending award because the concern would not be eligible for orders set aside for small business or set aside for a specific type of small business.

Future Set Aside or Reserved Awards

• Contracting Officer's Request: If a concern has a disqualifying recertification in response to a contracting officer request for recertification, the concern is ineligible for the specific order or agreement but remains eligible for other set aside or reserved awards and unrestricted awards.
• M&A Event: If a concern has a disqualifying recertification following an M&A event (above), aside from a contracting officer request for recertification, the concern is ineligible to submit an offer for a set aside or reserved award under a multiple award contract after the M&A event occurs. However, the concern will remain eligible for unrestricted awards under a multiple award contract and orders issued under a single award small business contract.

Options

• For a single award small business set-aside or reserve award or any unrestricted award, a concern that submits a disqualifying recertification remains eligible to receive options. The procuring agency cannot count the option period as an award to a small business or small business program participant for goaling purposes. Such a concern may make a qualifying recertification for a subsequent option period if it meets the applicable size standard or becomes a certified small business program participant.
• For a multiple award small business set-aside or reserve award, a concern that submits a disqualifying recertification is ineligible to receive options.

Joint Ventures

• Where a joint venture must recertify its small business size status following an M&A event, the joint venture can recertify as small where all parties to the joint venture qualify as small at the time of recertification, or the protégé small business in a still active mentor-protégé joint venture qualifies as small at the time of recertification. Notably, a joint venture can still recertify as small even though the date of recertification occurs more than two years after the joint venture received its first award (recertification is not considered a new contract under 13 C.F.R. §?121.103(h)).

Federal Supply Schedule

• Under the current rules, Federal Supply Schedule ("FSS") contracts (and related Blanket Purchase Agreements, BPAs) are treated differently whereby size is determined as of the date of offer for the FSS contract (or at the option year for that FSS contract), not for individual orders or BPAs against it. SBA's proposed rule eliminates this carveout, meaning that where an M&A event triggers recertification, size would be determined either as of the date of the recertification event or the date of the order or BPA where the contracting officer requests recertification. Thus, if the recertification following an M&A event results in the concern being an other than small business, it will be deemed an other than small business for the FSS contract itself, which then flows to all future orders and BPAs that may be issued against it.
• Note: For this issue, SBA's prefatory comments made clear that "SBA believes both GAO and OHA misinterpret SBA's regulations"

Takeaway

Simply stated, SBA's proposed rule is a major change to the current recertification scheme. Because SBA's proposed rule ties size/status recertifications to award eligibility, not goaling (for the most part), small businesses that go through an M&A event and are no longer small will be deemed ineligible for set-aside orders, including under the FSS program.

Practically speaking, because small business valuations are, in part, tied to the target company's contract backlog, those valuations necessarily will plummet – for those owners seeking a majority liquidity event for their hard work –?which will make it more difficult to achieve a lucrative exit. Indeed, as discussed in a prior article (here), because the proposed rule also changes SBA's negative control rules, small business owners will likely face additional challenges as the calculus for non-control minority investment opportunities also will change. The impact of SBA's proposed changes, however, doesn't end with the M&A landscape.

Beyond M&A, and as proposed, the rule could potentially cause procuring agencies to rethink procurement decisions. That is, it is no secret that procuring agencies want robust competition for complex task order requirements, particularly for IT, cybersecurity, and other complex services. Thus, for example, where a pool of awardees under an agency-specific set-aside multiple award contract is reduced because M&A activity has caused some offerors to be ineligible for task orders, those procuring officials may inevitably look to other vehicles to recompete their most sophisticated task order requirements.

In such a scenario, agencies also could potentially decide to either abandon those set-aside vehicles all together – e.g., where the remaining pool of small businesses are too small or lack the capabilities or past performance necessary for larger, more complex efforts – or keep those multiple award vehicles alive for only their smallest of requirements. Ultimately, SBA's proposed rule will likely have a significant impact on small business growth opportunities and the set-aside landscape. Industry should therefore take the opportunity to submit comments so that SBA can consider these issues when drafting the final rule.

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