A Tale of Two Protests: Itemized SBA JV Agreements and Dependence on a Large Business Determination Not Upheld

by Davis Wright Tremaine LLP

Recently, two Small Business cases that came out that are notable.  Both protests affect Small Business Administration interpretation and application of affiliation rules.  The first protest defeated a joint venture agreement between a mentor and a protégé because it was not specific enough, and the second one found that a small business owned by ANC was not dependent on a large business even though, by a strict reading of the affiliation test, it could have been found affiliated.  The second case seems to have a couple of layers of potential applications, which will be discussed in detail below, but could also apply to the primary/secondary NAICS code change in the proposed new regulations as well as the straight economic dependence proposed rule.

The Court of Federal Claims Upholds an Office of Hearing and Appeals (SBA Adjudication/Appeals Process) Finding That a Business Was Other than Small Based on a Deficient Joint Venture Agreement Between a Mentor and a Protégé.

  • IEI-Cityside JV v. US, Reissued by the Court of Federal Claims (COFC) on August 25, 2015
  • SBA’s Office of Hearings and Appeals (OHA) found that a joint venture agreement for a small business but non-8(a) Indefinite Duration/Indefinite Quantity (ID/IQ) procurement between a mentor and a protégé was not specific enough to qualify for the exception to affiliation.  Upon appeal, the COFC upheld the SBA’s decision.
  • IEI, an 8(a) Participant, and Cityside had a SBA-approved mentor protégé agreement and, as such, had a (potential) exception to affiliation for pursuing work through their joint venture. 
  • IEI and Cityside, as a JV, pursued the small business but non-8(a) contract at issue.  In order to continue to qualify for the exception to affiliation between a mentor and protégé, the JV was required to follow the 8(a) JV rules.  The JV was awarded the small business contract.
  • Three unsuccessful offerors protested the award made to the JV and the Area Office issued a size determination, finding that the JV did not qualify for the mentor protégé exception to affiliation because it did meet the regulatory requirement of specificity with regard to itemizing all major equipment, facilities, and other resources to be furnished by each joint venture partner, with a detailed schedule of cost or value of each.  (Recall, that the usual protocol is the have the overriding agreement approved for an 8(a) JV prior to award, and then list in an addendum, the specific details of additional contracts.  Non-8(a) JV procurements generally do not have to be approved for mentor/protégés in order to carry over the exception to affiliation as long as the JV follows the 8(a) JV rules.)   
  • Rather, the agreement simply stated that upon award, the managing director will purchase, in the name of the JV, facilities and equipment for the proper operation of the contract.  Upon appeal, the COFC also found this description lacking in specificity and therefore out of regulatory compliance.
  • OHA also found that the JV agreement was not specific in regards to IEI’s and Cityside’s respective duties, as required by regulation.  Upon appeal, the COFC also upheld this finding.
  • Based on these findings, the JV did not qualify for the mentor protégé exception to affiliation.  Thus, the JV parties became affiliated, their revenues combined, and the JV was found to be other than small and disqualified for the small business set aside.

Practice Pointer:  It is clear from this case that the itemization of costs, materials, facilities, and equipment is required to comply with the applicable JV regulations for any procurement—even those that fall under a mentor protégé agreement.  This particular JV agreement was so sparse, according to OHA and the COFC, that even for an ID/IQ contract, which can be a bit nebulous in determining what is required beforehand, parties to the JV must supply as much information as they can and is required by the regulations, or face a successful protest.   

The SBA’s Office of Hearing and Appeals Grants a Little Leniency to a Start-Up Small Business Owned by an Alaska Native Corporation.

  • Size Appeal of Olgoonik Solutions, LLC, Size No. 5669, 2015
  • The SBA’s Area Office determined that Olgoonik Solutions (OS) was not a small business because of its relationship/economic dependence with Stanley Convergent Security Solutions (Stanley).
  • Specifically, OS and Stanley had entered into three teaming agreements (sometimes considered dangerous unto themselves), one of which was to respond to solicitations for electronic security upgrade projects from the VA.
  • OS was a new company and generated, at times, nearly all or all of its revenues from the VA contract with Stanley. 
  • The Area Office applied the 70% test of revenue generation and found that since OS derived over 70% of its revenue from the Stanley relationship, it was economically dependent and affiliated with Stanley. (This case law is likely becoming codified in the new regulations.)
  • OS argued that such dependence should not be found because previous case law has established that under certain circumstances, such as a start-up situation, a company may derive most of its revenue from one source without a finding of economic dependence. 
  • OS also demonstrated its diligence in pursuing business beyond Stanley and trying to diversify its revenue stream.
  • OHA reversed the Area Office and found that OS and Stanley were not affiliated based on the facts presented.  Indeed, OHA found that finding affiliation with the facts presented would be unjust.

Points to Ponder:  The 70% rule of revenue for economic dependence is going to codification in the proposed new regulations.  It will be interesting to see how this develops with the existing case law.  I would hazard a guess that OHA would continue to apply its case law reasoning to the new regulation.  More importantly, I would hope that this is the type of rebuttable presumption that the SBA considers when and if it moves a secondary NAICS Code into a primary position under the proposed regulations.  In short, if a company can demonstrate that it has been trying to win work in its primary code and diversify its revenue stream from the majority of the revenue coming in from a secondary code, the SBA should be strongly considering those efforts and be slow to move those codes.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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