2018 was a busy year in terms of changes to the statutes and regulations that govern small business and socioeconomic set-aside procurement activities for small and large firms alike. This Miles Alert discusses two of the highlights: (1) The Small Business Runway Extension Act of 2018 amending the Small Business Act to extend the period of measurement used to determine whether a business is considered “small,” and (2) the FAR Council’s long-awaited issuance of a proposed rule to reconcile the FAR’s Limitation on the Subcontracting clause with the requirements of the FY 2013 NDAA and its implementations that already exist in the SBA’s regulations.
The Small Business Runway Extension Act of 2018
On December 17, 2018 the Small Business Runway Extension Act of 2018 (the “SBREA”) was signed into law [1] – amending the Small Business Act at 15 U.S.C. § 632 to require that a service business’s size status be based on its average gross receipts over the previous five (5) years. Prior to this change, size status was calculated using average gross receipts over the past three (3) years.
The stated rationale behind the SBREA was to help growing small businesses survive the transition to “other than small” status – giving these businesses a longer “runway” before they are forced to “take-off” and compete against the largest, most sophisticated companies in the country. [2]
The Act gives growing entities more time to mature – to gain more past performance experience, build-up compliance systems, and create a stronger institutional talent base – before stepping into the full-and-open competition marketplace. Previously, the three-year window for growth carried with it a higher risk that if a firm’s revenues spiked in one year, it could outgrow its size standard. Given the present trend of large task orders under bundled/consolidated IDIQs and Best-in-Class vehicles, the “spike” year phenomenon is a real possibility. Allowing a company to average its revenues over a longer period of time might allow the company to absorb such a spike without immediate consequences to size status, resulting in continued eligibility for set-aside opportunities while it invests in infrastructure and prepares to compete in the full-and-open marketplace. Of course, if the spike becomes a trend, the company is graduated to “other than small.” Given the longer runway, Congress hopes that small firms will be less likely to “stay small, sell, or go out of business.” [3]
The SBREA provides additional benefits to Government customers and large businesses. Government customers will benefit because stronger small businesses graduates (“mid-size firms”) will be more competitive with large businesses. Enhanced competition should result in better prices and more innovative solutions. [4] Separately, large business prime contractors will enjoy the potential benefit of lengthier relationships with their small business subcontractors, addressing a common compliant that by the time primes establish a working relationship with a small subcontractor, the subcontractor outgrows its status and the prime has to look for another partner.
Not everyone is pleased by the new law. For firms with declining revenues hoping to sneak under a size standard using the 3 year look-back, the change comes at an inopportune time. In enacting the SBREA, Congress considered alternative proposals that would not be so harsh on such firms — such as a “lowest 3 out of 5” look-back — but Congress ultimately opted for the simpler straight 5 year look-back. We expect Congress to monitor how the marketplace reacts to this rule and that Congress will not hesitate to tinker with the legislation if results are not as intended.
Finally, a debate is brewing over when and how contractors can start to the use the new law. In an attempt to settle this question, SBA issued guidance that the SBREA does not effect “present contracts, offers, or bids[,]” and that the Act will not take effect until it is implemented through the rulemaking process. [5] Thus, small business contractors have been instructed to continue to use the three-year look back period, for now. However, SBA’s guidance in this area is just that – guidance. The SBREA did not specify any effective date, and it is an axiom of statutory construction that a statute without a stated effective date becomes effective on the date of its enactment. [6] So, it will no doubt be tempting for some contractors to try to use the new rule. Unless SBA can push out final regulations quickly, the question of whether the 5 year look-back is presently effective seems destined for SBA’s Office of Hearings and Appeals (OHA) and/or the courts.
The FAR Council Issues Proposed Limitation on Subcontracting Rules to Comply with the FY 2013 NDAA
On December 4, 2018, the FAR Council issued a proposed rule to amend FAR 52.219-14 – Limitation on Subcontracting, to bring the clause into compliance with the requirements of Section 1651 of the FY 2013 NDAA and give clarity to service contractors that have had to navigate the “compliance maze” of conflicting rules found in SBA’s regulations and the FAR.
As background, Section 1651 of the FY 2013 NDAA, made several changes to the small business limitation on subcontracting rules, chief among them the way small prime contractors are required to calculate subcontracting maximums. Prior to the FY 2013 NDAA, and as the FAR currently reads, small business primes under a set-aside or sole source contract must perform (with their own employees) at least 50% of all costs incurred for labor under the contract. This calculation was oftentimes difficult to perform and the rule was even more difficult for Government regulators to enforce. The NDAA for FY 2013 simplified the rule; now, small prime contractors cannot subcontract more than 50% of the total value of the contract to large firms (or to other small firms that are not “similarly situated” to the prime). [7]
The SBA issued its final rules implementing the requirements of the NDAA for FY 2013 on June 30, 2016. Then, on December 4, 2018, the FAR Council made its move. Once final, small prime contractors will be able to comply with their limitation on subcontracting obligations simply by tracking their subcontracting dollars spent on non-similarly situated entities. A definition of similarly situated entities that is similar to the SBA’s is also incorporated into the FAR Council’s proposed rule.
Mirroring the SBA’s regulations at 13 CFR 125.6, the proposed rule limits subcontracting to non-similarly situated entities to 50% of the contract value for service and supply contracts, 85% of the contract value, excluding the cost of materials, for construction contracts, and 75% of the contract value, excluding the cost of materials, for specialty trade construction contracts.8
Conclusion
The foregoing discusses only the highlights of these changes, both statutory and regulatory, that were enacted or proposed in 2018. Most significantly, because these changes affect the determination of business size status, subcontracting limits, plans, and relationships, these changes will affect small and large businesses alike.
[1] The legislation was supported by co-author of this article, Stephen P. Ramaley, who testified before the House Small Business Subcommittee on Contracting and Workforce on behalf of the Montgomery County Chamber of Commerce (“MCCC”), Maryland. His testimony is available online at www.youtube.com/watch?v=GmAKW3s2dCQ&t.
[2] See generally U.S. Senate Comm. on Small Bus. and Entrepreneurship, S. Rept. 115-431 (Dec. 11, 2018).
[3] See id. (quoting the testimony of Stephen P. Ramaley).
[4] For more discussion on the potential benefit that the SBREA confers upon the federal marketplace see Daniel S. Koch and Jason A. Blindauer, “Small Business Runway Extension Act of 2018 Passes the House: One Step Closer to a Five-Year Lookback for Small Business Federal Contractors.” M&S Government Contracts Blog (Sept. 27, 2018).
[5] For more information regarding regulatory implementation and changes needed to practically implement SBREA please see Daniel S. Koch, “The Small Business Runway Extension Act of 2018 Is Law, So It’s Five Years Instead of Three, But Starting When?,” M&S Government Contracts Blog (Dec. 26, 2018).
[6] See, e.g., Johnson v. United States, 529 U.S. 694, 695 (2000).
[7] SBA regulations define a similarly situated entity as a “subcontractor that has the same small business program status as the prime contractor. This means that: For a HUBZone requirement, a subcontractor that is a qualified HUBZone small business concern; for a small business set-aside, partial set-aside, or reserve a subcontractor that is a small business concern; for a SDVO small business requirement, a subcontractor that is a self-certified SDVO SBC; for an 8(a) requirement, a subcontractor that is an 8(a) certified Program Participant; for a WOSB or EDWOSB contract, a subcontractor that has complied with the requirements of part 127. In addition to sharing the same small business program status as the prime contractor, a similarly situated entity must also be small for the NAICS code that the prime contractor assigned to the subcontract the subcontractor will perform.” 13 CFR 125.1.
[8] There were several other small business regulatory changes proposed or enacted during 2018. The following is a non-exclusive list: (1) Updating the Service-Disabled Veteran-Owned Small Business (SDVOSB) eligibility and appeal rules, after bringing the VA and SBA SDVOSB Programs under one set of requirements; (2) Excluding for purposes of compliance with the limitation on subcontracting certain contracts performed outside of the United States, environmental remediation contracts, and information technology service acquisitions that require substantial cloud computing; (3) Requiring prime contractors with commercial subcontracting plans to include indirect costs in their subcontracting goals; (4) Establishing that failure to provide timely subcontracting reports may constitute a material breach of the contract and among other changes; and (5) Clarifying the requirements for size and status recertification.
Opinions and conclusions in this post are solely those of the author unless otherwise indicated. The information contained in this blog is general in nature and is not offered and cannot be considered as legal advice for any particular situation. The author has provided the links referenced above for information purposes only and by doing so, does not adopt or incorporate the contents. Any federal tax advice provided in this communication is not intended or written by the author to be used, and cannot be used by the recipient, for the purpose of avoiding penalties which may be imposed on the recipient by the IRS. Please contact the author if you would like to receive written advice in a format which complies with IRS rules and may be relied upon to avoid penalties.
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