SBA Finalizes “Universal” Small Business Mentor-Protege Program

The SBA has finalized its “universal” mentor-protege program for all small businesses.

In a final rule scheduled to be published in the Federal Register on July 25, 2016, the SBA provides the framework for what may be one of the most important small business programs of the last decade–one that will allow all small businesses to obtain developmental assistance from larger mentors, and form joint ventures with those mentors to pursue set-aside contracts.

First things first: while I’ve been using the term “universal” mentor-protege program for the last year and a half, the SBA apparently has had a change of heart when it comes to terminology.  The SBA now calls its new program the “small business mentor-protege program,” so that’s what I’ll call it, too, from now on.

The SBA’s final rule creates a new regulation, 13 C.F.R. 125.9, entitled “What are the rules governing SBA’s small business mentor-protege program?”  The new regulation sets forth the framework of the small business mentor-protege program.

Program Purpose

The SBA broadly explains the purpose of the new program in this way:

The small business mentor-protege program is designed to enhance the capabilities of protege firms by requiring approved mentors to provide business development assistance to protege firms and to improve the protege firms’ ability to successfully compete for federal contracts.  This assistance may include technical and/or management assistance; financial assistance in the form of equity investments and/or loans; subcontracts (either from the mentor to the protege or from the protege to the mentor); trade education; and/or assistance in performing prime contracts with the Government through joint venture arrangements.  Mentors are encouraged to provide assistance relating to the performance of contracts set aside or reserved for small business so that protege firms may more fully develop their capabilities.

Just like the longstanding and popular 8(a) mentor-protege program, the new small business mentor-protege program creates a framework under which mentor firms will provide a wide variety of potential benefits to their proteges.

Qualification as Mentor

As a general matter, “[a]ny concern that demonstrates a commitment and the ability to assist small business concerns may act as a mentor and receive benefits ” from the mentor-protege program.  Mentors may be large or small businesses.

In order to qualify, a prospective mentor must demonstrate that it is capable of meeting its commitments to the protege.  The SBA will evaluate a prospective mentor’s financial health, such as by reviewing the mentor’s tax returns, audited financial statements, and/or SEC filings (for publicly traded companies).  A mentor must “[p]ossess good character” and cannot appear on the government’s list of debarred or suspended contractors.  Once approved, a mentor must “annually certify that it continues to possess good character and a favorable financial position.”

A mentor “generally” will have only one protege at a time.  However, “SBA may authorize a concern to mentor more than one protege at a time where it can demonstrate that the additional mentor-protege relationship will not adversely affect the development of either protege (e.g., the second firm may not be a competitor of the first firm).  While mentors may, with SBA permission, have more than one protege, “[u]nder no circumstances will a mentor be permitted to have more than three proteges at one time . . ..”  In its commentary, the SBA explains:

SBA continues to believe that there must be a limit on the number of firms that one business, particularly one that is other than small, can mentor.  Although SBA believes that the small business mentor-protege program will certainly afford business development to many small businesses, SBA remains concerned about large businesses benefiting disproportionately.  If one firm could be a mentor for an unlimited number (or even a larger number) of proteges, that firm would receive benefits from the mentor-protege program through joint ventures and possible stock ownership far beyond the benefits to be derived by any individual protege.

Importantly, the “three-protege limit” is an aggregate of proteges under the small business mentor-protege program and the separate 8(a) mentor-protege program.  In other words, if a mentor already has two proteges under the 8(a) mentor-protege program, the mentor would be limited to a single additional protege under the small business mentor-protege program.

If control of a mentor changes (such as through a stock sale), the mentor-protege agreement can continue under the new ownership.  However, after the change in control, the mentor must “express[] in writing to SBA that it acknowledges the mentor-protege agreement and [certify] that it will continue to abide by its terms.”

Finally, in its proposed rule, the SBA suggested that a firm could not be both a mentor and a protege at the same time.  In my public speaking on the mentor-protege program, I questioned this proposal, noting that a firm may be well-established in one line of work, but require mentoring in a secondary line of work.  For instance, a company may be a longstanding, well-established plumbing contractor, and well-positioned to mentor a firm in that industry–while at the same time requiring mentoring to break into electrical work.

Perhaps the SBA was listening, because the final rule deletes that restriction.  The final rule provides that “SBA may authorize a small business to be both a protege and a mentor at the same time where the firm can demonstrate that the second relationship will not compete with or otherwise conflict with the first mentor-protege relationship.”

Qualification as Protege

To qualify as a protege, a company “must qualify as small for the size standard corresponding to its primary NAICS code or identify that it is seeking business development assistance with respect to a secondary NAICS code and qualify as small for the size standard corresponding to that NAICS code.”  However, if the prospective protege is not a small business in its primary NAICS code, “the firm must demonstrate how the mentor-protege relationship is a logical business progression for the firm and will further develop or expand current capabilities.”  Further, “SBA will not approve a mentor-protege relationship in a secondary NAICS code in which the firm has no prior experience.”

The portion of the final regulation involving secondary NAICS codes is an important change from the SBA’s proposed rule.  The SBA initially proposed that a protege would be required to qualify as small in its primary NAICS code, and could not obtain a mentor if that standard wasn’t met.  The final rule appropriately recognizes that a small business may desire mentorship to develop in a new or secondary line of work carrying a larger NAICS code (think of a plumbing contractor that wants to expand to general contracting, for example).

A protege ordinarily will have no more than one mentor at a time, although the SBA may approve a second mentor where certain conditions are met.  In no case will the SBA approve more than two concurrent mentors for any single protege.

Written Mentor-Protege Agreement Required

In order to participate in the mentor-protege program, “[t]he mentor and protege firms must enter into a written agreement setting forth an assessment of the protege’s needs and providing a detailed description and timeline for the delivery of the assistance the mentor commits to provide to address those needs . . ..”

Interestingly, as in the 8(a) program, the parties must “[a]ddress how the assistance to be provided through the agreement will help the protege firm meet its goals as defined in its business plan.”  I say “interestingly” because 8(a) program participants are required to submit 8(a)-specific business plans to the SBA; other small businesses are not.  It’s unclear, then, whether this regulation implicitly requires prospective proteges to have written business plans (which of course is a best practice, and often required for various types of financing–but still, not all small businesses have written business plans).

The mentor-protege agreement must provide that the mentor will provide assistance to the protege for at least one year.  However, the agreement must also provide “that either the protege or the mentor may terminate the agreement with 30 days advance notice to the other party . . . and to SBA.”

The written mentor-protege agreement must be approved by the SBA before it takes effect.  Additionally, the SBA “must approve all changes to a mentor-protege agreement in advance, and any changes made to the agreement must be provided in writing.”  If changes are made to the mentor-protege agreement without the SBA’s permission “SBA shall terminate the mentor-protege relationship and may also propose suspension or debarment of one or both firms . . ..”

The SBA states that it will “establish a separate unit within the Office of Business Development whose sole function would be to process mentor-protege applications and review MPAs and the assistance provided under them once approved.”  If this office becomes overwhelmed with applications (a concern a number of commenters raised in response to the proposed rule), SBA could consider using “open enrollment periods” in which mentor-protege applications would be accepted.  The final rule does not establish any open enrollment periods at this time, however.

Term of Mentor-Protege Agreement

A single mentor-protege agreement “may not exceed three years, but may be extended for a second three years.”  The SBA’s apparent intent is to cap, at six years, the length of time that two companies can be involved in a small business mentor-protege relationship.

In its commentary, the SBA explains:

The mentor-protege program should be a boost to a small business’s development that enables the small business to independently perform larger and more complex contracts in the future.  It should not be a crutch that prevents small businesses from seeking and performing those larger and more complex contracts on their own.  

Annual Reporting

Small business proteges must make annual reports to the SBA.  Within 30 days of the anniversary of the SBA’s approval of the mentor-protege agreement, the protege must make a report concerning the previous year, including a detailed list of assistance provided by the mentor, federal contracts awarded to the mentor-protege as joint venturers, and so on.  The protege must also submit a narrative “describing the success each assistance has had in addressing the developmental needs of the protege and addressing any problems encountered.”

The SBA will review the protege’s annual report to determine whether to reauthorize the mentor-protege agreement (provided that it has not expired).  However, no news is good news: “[u]nless rescinded in writing as a result of the review, the mentor-protege relationship will automatically renew without additional written notice or continuation or extension to the protege firm.”

If the SBA determines that the mentor has not provided the promised assistance, the SBA will give the mentor the opportunity to respond.  If the SBA is unconvinced by that explanation (or if the mentor offers no explanation), the SBA will terminate the mentor-protege agreement and bar the mentor from acting as a mentor for two years.  The SBA may also take other actions to penalize the mentor.

After the mentor-protege relationship has concluded, the SBA will require the protege to submit a final report to the SBA about “whether it believed the mentor-protege relationship was beneficial and describe any lasting benefits to the protege.”  If the protege fails to submit the report, the SBA will not approve a second mentor-protege relationship, either under the small business mentor-protege program or the 8(a) mentor-protege program.

Joint Venturing

The small business mentor-protege program allows the mentor and protege to form joint ventures and compete for set-aside contracts based solely on the protege’s size:

A mentor and protege may joint venture as a small business for any government prime contract or subcontract, provided the protege qualifies as small for the procurement.  Such a joint venture may seek any type of small business contract (i.e., small business set-aside, 8(a), HUBZone, SDVOS, or WOSB) for which the protege firm qualifies (e.g., a protege firm that qualifies as a WOSB could seek a WOSB set-aside as a joint venture with its SBA-approved mentor).

The SBA must approve the joint venture agreement before a mentor-protege joint venture may avail itself of the special exception from affiliation provided by the small business mentor-protege program.  The joint venture agreement, in turn, must satisfy the requirements of another new regulation the SBA has finalized, which will be codified at 13 C.F.R. 125.8.  And because this blog post is already approaching “War and Peace” length, we’ll discuss those new joint venturing requirements in a separate post.

According to the final regulation, “[o]nce a protege firm no longer qualifies as a small business for the size standard corresponding to its primary NAICS code, it will not be eligible for any further contracting benefits from its mentor-protege relationship.”  In my mind, though, this prohibition is inconsistent with the SBA’s decision to allow proteges to qualify for the small business mentor-protege program based on secondary NAICS codes.  If outgrowing the primary NAICS code precludes joint venturing for set-aside contracts carrying NAICS codes with higher size standards, the value of mentorship in a secondary NAICS code is greatly diminished.  Perhaps the SBA will clarify this piece of the rule moving forward.

The final rule provides that “a change in the protege’s size status generally does not affect contracts previously awarded to a joint venture between the protege and its mentor.”  The SBA specifies that “[e]xcept for contracts with durations of more than five years (including options), a contract awarded to a joint venture between a protege and mentor as a small business continues to qualify as an award to small business for the life of that contract and the joint venture remains obligated to continue performance on that contract.”  For contracts with durations of more than five years, recertification will be required as provided for in 13 C.F.R. 124.404(g)(3).

Affiliation Exception

As is the case under the 8(a) mentor-protege program, the small business mentor-protege program provides a broad “shield” from affiliation.  The SBA’s new regulation states that “[n]o determination of affiliation or control may be found between a protege firm and its mentor based solely on the mentor-protege agreement or any assistance provided pursuant to the agreement.”  The affiliation exception is not unlimited, however.  The new regulation provides that “affiliation may be found for other reasons set forth” in the SBA’s affiliation regulation, 13 C.F.R. 121.103.

Transfer of 8(a) Mentor-Protege Agreements

The final rule provides that when a protege graduates or otherwise leaves the 8(a) Program, but continue to qualify as small, that protege “may transfer its 8(a) mentor-protege relationship to a small business mentor-protege relationship.”  The mentor-and protege do not need to reapply, but must “merely inform SBA” of the intent to transfer the mentor-protege relationship to the small business mentor-protege program.

The Road Ahead

The SBA’s new small business mentor-protege program will become effective 30 days after the final rule is officially published on July 25.  Whether the SBA will begin accepting applications in late August, however, remains to be seen.

The small business mentor-protege program will be a game-changer in the world of small business contracting.  For small and large contractors alike, now is the time to get working to take advantage of this extraordinary new opportunity.