SBA Affiliation Rules and Economic Dependence: SBA OHA Backs off “70% Rule” (A Little)

When I was young, my parents gave me my first weekly allowance.  Grand total: twenty-five cents.  It doesn’t sound like much now (and it wasn’t then, either—I’m not that old!) but it was still 100% of my income.  I was economically dependent on my parents.

When it comes to the SBA affiliation rules, a small business need not receive 100% of its revenues from another company in order to be considered an affiliate by virtue of economic dependence.  For several years, the SBA followed a hard-and-fast rule: if a small business earned 70% or more of its revenues from another company, the two businesses were automatically affiliated.

But in Size Appeal of Argus & Black, Inc., SBA No. SIZ-5204 (2011), the SBA’s Office of Hearings and Appeals backed off the bright-line 70% rule, at least a little.  In a commonsense decision, SBA OHA held that in limited circumstances, applying the 70% rule would be unfair.

The Argus & Black size appeal arose out of a Navy procurement for anti-terrorism training, set aside for small businesses.  After Argus & Black was identified as the apparent successful offeror, two competitors filed size protests, alleging that the company was affiliated with two other businesses, TigerSwan, Inc. and TigerSwan International, Inc.

Looking at Argus & Black’s three-year revenues, the SBA determined that the company did not have any revenues in two years, and that its only revenues in the third came from TigerSwan, Inc.  Because Argus & Black had earned 100% of its revenues from TigerSwan, Inc. during the three-year period, the Area Office applied the 70% rule and deemed the companies affiliated.

On appeal, SBA OHA held that the applying the 70% rule would be unfair under the circumstances.  It wrote that the rule “was set forth in the context of long-term relationships” between the companies.  In contrast, Argus & Black had only performed one, four-month contract for TigerSwan over the preceding three years.  Because the company had been dormant for so long before it was purchased by a new owner and performed that contract it had “no time” to generate revenue from other sources.  SBA OHA judge Kenneth Hyde continued:

“I conclude that a mechanical application of the rule in this case would be an injustice.  It places too large a significance on too small a contract. It would unduly penalize start-up operations, which may have had the chance to obtain only one or two contracts at the time they face a size determination.”

SBA OHA’s decision to forego a mechanical application of the 70% rule in this case is a victory for start-ups and other companies that have not been in existence long enough to obtain revenues from a diverse array of sources.  The Argus & Black decision does not eliminate the 70% rule, but merely ensures that the rule is applied fairly, in cases when a longstanding relationship between companies indicates true economic dependence.  Although the blurring of the bright line might make size determinations a little more complicated, SBA OHA got this one right.

As for me?  Well, I remained economically dependent on my parents for quite a few years after I received that initial quarter.  Fortunately, I wasn’t worried about affiliation–and with my revenues (or lack thereof), I would have qualified as a small business under any size standard known to man.

One thought on “SBA Affiliation Rules and Economic Dependence: SBA OHA Backs off “70% Rule” (A Little)

  1. This OHA case is indeed a victory for common sense! The only problem is (as you noted) the ruling has created a bit of a gray area and it muddies the water in regards to the 70 percent number, leaving new 8(a) applicants at risk of initial denial by the SBA’s Department of Program Certification and Eligibility (DPCE), whose staff members may or may not be aware of this new court ruling and who often seem to apply rigid numerical parameters to their decision-making about economic dependence. My consultancy still advises its clients to obey the 70 percent rule carefully, as we have not known the DPCE staff members to be particularly forgiving or understanding about gray areas, and most of our clients don’t want to escalate this issue to the level of an OHA appeal, which can sometimes be too time, cost, and labor intensive for a small business to endure. It’s a shame the 70 percent rule is not articulated in specific terms within the SBA Standard Operating Procedures or codified more precisely within the SBA 8(a) regulations; many applicants want absolute certainty before applying for this certification, but the 8(a) program has some nebulous zones in which absolute certainty is not possible. It will be interesting to see how the 70 percent rule evolves over time in response to these OHA rulings (which generated the 70 percent metric in the first place).

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