A company’s minority owners often insist that certain actions be approved unanimously or on a supermajority basis, giving the minority owner the ability to control (or at least veto) those actions.
But small government contractors must tread very carefully when it comes to unanimity or supermajority provisions in their bylaws, operating agreements, or other governing documents. Although the SBA permits unanimity or supermajority provisions regarding certain “extraordinary” corporate actions, other unanimity or supermajority provisions may result in a finding that the minority owner exercises undue negative control over the company, leading to affiliation problems with other companies controlled by that minority owner.
The decision of the SBA’s Office of Hearings and Appeals in Size Appeal of DHS Systems, Inc., SBA No. SIZ-5211 (2011) offers some guidance as to which provisions pass muster under the SBA affiliation rules, and which do not.
In the DHS Systems size appeal, SBA OHA held that the provisions in a company’s operating agreement calling for unanimous decisions about the following matters did not result in a finding of control by the minority shareholder:
- Approval of the addition of new members
- Approval of the withdrawal of old members
- Increase or decrease the size of the Board
- Increase or decrease the number of authorized interests
- Reclassification of interests
However, in the same case, evaluating the same operating agreement, SBA OHA found that unanimity provisions regarding the following actions did result in control by the minority shareholder:
- Composition of Board committees
- Choice of officers
- Choice of auditor
- Control over budget
- Control over incentive plans
- Choice of accounting methods
As the breakdown above suggests, SBA OHA indicated that when unanimity or supermajority provisions involve the company’s day-to-day management or finances, they will likely result in a finding of negative control by the minority shareholder.
The long and short of it is that if a small business intends to bid on small business set-aside contracts, it should be very wary of any unanimity or supermajority provisions in its governing documents. While a few such provisions governing fundamental corporate matters may pass muster, broader unanimity or supermajority provisions may result in a finding of control by the minority shareholder, leading to affiliation with that shareholder and any other companies controlled by the shareholder.
Finally, note that DHS Systems involved unanimity in the context of small business set-asides. If a company pursues contracts set-aside for 8(a), service-disabled veteran-owned, or women-owned small businesses, SBA OHA case law suggests that unanimity or supermajority provisions, even those involving fundamental matters, may render the company ineligible, because these programs demand “unconditional” ownership and control by a specific individual.