We at SmallGovCon are excited to announce this first in a new line of blogs we call Why File. Our firm handles a wide variety of federal procurement and contract litigation matters–from SBA size and status protests to contract claims and appeals, and everything in between. One of the most common and important questions we get in that regard is, should I file? Of course, we can only directly answer that question for our current clients after reviewing the relevant facts giving rise to the potential filing. But through our new Why File series, we will cover some of the most common facts and circumstances that lead contractors to initiate litigation. So, without further adieu, here is the first blog in the series, covering some of the most common reasons contractors file size protests.
Size protests are a vital and effective tool for promoting small business goals and competition in the federal procurement and award process. If the concept is newer to you–or you just need a refresher–check out this Back to Basics blog on the subjects of size protests and appeals. And if you want a deeper dive into how to file size protests and appeals, check out our handbook. When it comes to the question whether you should file a size protest, we can only provide a direct and specific answer to our clients after a review of the award and awardee at issue. But there are still some common red flags that have historically led contractors to file size protests–and that have even led SBA to agree and sustain in many cases.
1. The awardee has publicly available information that, under SBA’s size regulations, indicates it may be other-than-small for the contract’s assigned size standard.
This first reason to file a size protest goes to the most basic of SBA’s size regulations, those explaining how to calculate a firm’s size. In SBA’s words, “[t]o be eligible for government contracts reserved for small businesses, your business must meet size requirements set by SBA[,]” which “define the maximum size that a business — and its affiliates — can be to qualify as a small business for a particular contract.” As SBA’s size regulations explain:
SBA’s size standards define whether a business entity is small and, thus, eligible for Government programs and preferences reserved for “small business” concerns. Size standards have been established for types of economic activity, or industry, generally under the North American Industry Classification System (NAICS).
The size standard for a particular contract is the one that corresponds with the NAICS code assigned to the contract, which you can find here. Once you know the applicable size standard for the contract, you can use SBA’s size regulations to calculate the firm’s size. For purposes of this blog, we will briefly summarize and discuss SBA’s size calculation standards (but we won’t go into too much detail here; so, check out this Back to Basics blog for more information on calculating a firm’s size for purposes of federal government contacting).
At a basic level, SBA’s size standards are either based on number of employees or annual receipts. To determine number of employees, SBA’s size regulations say:
SBA counts all individuals employed on a full-time, part-time, or other basis. This includes employees obtained from a temporary employee agency, professional employee organization or leasing concern. SBA will consider the totality of the circumstances, including criteria used by the IRS for Federal income tax purposes, in determining whether individuals are employees of a concern. Volunteers (i.e., individuals who receive no compensation, including no in-kind compensation, for work performed) are not considered employees.
They clarify that the firm’s “average number of employees” is used, based on the “numbers of employees for each of the pay periods for the preceding completed 24 calendar months[,]” and SBA counts part-time and temporary employees the same as full-time employees.
To determine average annual receipts, SBA’s size regulations explain:
Receipts means all revenue in whatever form received or accrued from whatever source, including from the sales of products or services, interest, dividends, rents, royalties, fees, or commissions, reduced by returns and allowances. Generally, receipts are considered “total income” (or in the case of a sole proprietorship “gross income”) plus “cost of goods sold” as these terms are defined and reported on Internal Revenue Service (IRS) tax return forms[.]
The rule lists a few limited exceptions for what counts as annual receipts and notes that those are “the only exclusions from receipts” SBA will allow. So, “[a]ll other items, such as subcontractor costs, reimbursements for purchases a contractor makes at a customer’s request, investment income, and employee-based costs such as payroll taxes, may not be excluded from receipts.”
The rule explains, in determining size, “[t]he Federal income tax return and any amendments filed with the IRS on or before the date of self-certification must be used to determine the size status of a concern[.]” And where the firm hasn’t filed a federal income tax return for the fiscal year being measured, SBA calculates the firm’s annual receipts “using any other available information, such as the concern’s regular books of account, audited financial statements, or information contained in an affidavit by a person with personal knowledge of the facts.”
Based on both size regulations, it is easy to see why an unsuccessful offeror may want to protest an award upon finding public information indicating the awardee’s number of employees or annual receipts exceed the contract’s size standard–or information directly contradicting the awardee’s SAM profile or other representations or certifications of small business size. This could be information on the number of employees listed on a company website, SAM profile, or LinkedIn profile. Or it could be publicly available award and government spending information acquired from SBA’s Dynamic Small Business Search (or DSBS) website, the USA Spending.Gov website, or another reputable federal government contracting website. Since a size protest cannot be based on speculation alone, protesters often collect and use screenshots or print outs of this kind of information to allege that an awardee is too large for the award–and thus, ineligible. And where valid and reputable, such support could even lead to a sustained size protest on that basis.
Review of the regulatory language in SBA’s size rules also gives rise to our second reason to file a size protest, affiliation.
2. The awardee has a relationship with another entity or individual that gives rise to concerns about what or who has power to control.
Both rules for calculating size (employee and annual receipts based) note that a firm’s size must include in its calculations the employees or annual receipts of any acknowledged “affiliates” as well. SBA’s employee-based size regulations explain:
If a concern has acquired an affiliate or been acquired as an affiliate during the applicable period of measurement or before the date on which it self-certified as small, the employees counted in determining size status include the employees of the acquired or acquiring concern. Furthermore, this aggregation applies for the entire period of measurement, not just the period after the affiliation arose.
SBA’s receipt-based size regulations similarly explain:
The average annual receipts size of a business concern with affiliates is calculated by adding the average annual receipts of the business concern with the average annual receipts of each affiliate . . . [and] [t]his aggregation applies for the entire period of measurement, not just the period after the affiliation arose.
SBA’s affiliation rules, also found here (at section 121.103), state:
In determining the concern’s size, SBA counts the receipts, employees, or other measure of size of the concern whose size is at issue and all of its domestic and foreign affiliates, regardless of whether the affiliates are organized for profit.
Now, what constitutes an “affiliate” is not a simple question–nor does it have a simple answer, as affiliation can be found for many different reasons. Since we won’t get too deep into affiliation here, check out these two Back to Basics blogs covering affiliation generally, as well as the specific types of affiliation. But for purposes of this blog, we will briefly summarize why affiliation matters for purposes of size calculations.
SBA defines an affiliate as follows:
Concerns and entities are affiliates of each other when one controls or has the power to control the other, or a third party or parties controls or has the power to control both. It does not matter whether control is exercised, so long as the power to control exists.
As you can see, control is key. If SBA finds that one firm has the power to control another firm, the two firms are affiliates. Such control can be obvious, affirmative control (i.e. the right to make decisions on the company’s operations), or it can be negative control (i.e., “instances where a minority shareholder has the ability, under the concern’s charter, by-laws, or shareholder’s agreement, to prevent a quorum or otherwise block action by the board of directors or shareholders.”). Such control can be exercised indirectly through a third-party–or even, unexercised.
SBA will look at many factors, including the firms’ “ownership, management, previous relationships with or ties . . . and contractual relationships, in determining whether affiliation exists.” The rule even contains a fallback SBA can rely on to find affiliation where the firms are not considered affiliates under one specific affiliation basis (i.e., common ownership or management, economic dependence, familial affiliation). It says, “[i]n determining whether affiliation exists, SBA will consider the totality of the circumstances, and may find affiliation even though no single factor is sufficient to constitute affiliation.”
So, this second reason to file a size protest could actually be broken into 10 or so reasons, if we wanted to. For example, just to name a few, many size protests are filed because the unsuccessful offeror finds out or determines:
- The awardee works closely with another firm run by an immediate family member (potential familial affiliation);
- The awardee gets a substantial portion (70% or more) of its revenue from another firm–or provides a substantial portion of another firm’s revenue comes from the awardee (potential economic dependence);
- The majority owner of the awardee also holds majority ownership in another firm or firms–even if the ownership is less than 50%, but large compared to the other owners (potential common ownership affiliation);
- Individuals who manager the awardee also manage another firm or firms (potential common management affiliation); and
- The awardee simply has so many ties to another firm that it cannot be ignored (potential totality of the circumstances affiliation).
Again, this list is far from exhaustive. The only thing that matters across the board is that the size of the awardee, when the employees or annual receipts of all of its affiliates are added on, would no longer be small under the contract’s size standard. So, if you file a size protest that meets the jurisdictional prerequisites (i.e., relies on nonspeculative information or findings), the awardee will get a chance to show that affiliation doesn’t exist (typically, by providing information/documentation to SBA regarding its organization, owners and managers, financials, existing agreements, etc., and by showing that the affiliation factors and/or required control are not present)–or that the affiliation has been severed.
Notably, SBA’s rules do clearly allow companies to “sever their affiliation” by removing the ties giving rise to such affiliation or–where affiliation is familial–by showing a “clear fracture” of the relationship. In such case, the former affiliate’s employees or receipts would no longer be aggregated.
If the awardee cannot show that affiliation doesn’t apply or has been severed–and the addition of their affiliate’s size does make them too large for the contract at hand–SBA will find them ineligible and will likely require the contracting agency to rescind or terminate the award. If a size protest leads to a finding of general affiliation, such could affect the awardee’s size standard for other contracts moving forward (unless and until affiliation is severed)–and could even affect any certifications the awardee may hold (i.e., 8(a), WOSB, SDVOSB, etc.).
Affiliation, as well as SBA’s basic size regulations, also gives rise to the third reason to file a size protest that we will discuss.
3. The awardee has recently initiated M&A proceedings with the potential to affect its size calculations.
Affiliation can also be found where a firm has stock options, convertible securities, and agreements to merge with another firm. SBA will essentially treat such agreements as though they’ve already been put into effect under its “present effect” rule. But even where a firm is acquired by another firm or acquires another firm, and affiliation itself isn’t really the issue, the firm’s size could still be affected in a way that makes it ineligible for award.
Indeed, SBA’s employee-based size regulations explain:
If a concern has acquired an affiliate or been acquired as an affiliate during the applicable period of measurement or before the date on which it self-certified as small, the employees counted in determining size status include the employees of the acquired or acquiring concern. Furthermore, this aggregation applies for the entire period of measurement, not just the period after the affiliation arose . . . [and] if a concern has sold a segregable division to another business concern during the applicable period of measurement or before the date on which it self-certified as small, the employees used in determining size status will continue to include the employees of the division that was sold.
And SBA’s receipt-based size regulations similarly explain:
If a concern has acquired an affiliate or been acquired as an affiliate during the applicable period of measurement or before the date on which it self-certified as small, the annual receipts used in determining size status includes the receipts of the acquired or acquiring concern. This aggregation applies for the entire period of measurement, not just the period after the affiliation arose. However, if a concern has acquired a segregable division of another business concern during the applicable period of measurement or before the date on which it self-certified as small, the annual receipts used in determining size status do not include the receipts of the acquired division prior to the acquisition . . .
The annual receipts of a former affiliate are not included if affiliation ceased before the date used for determining size. This exclusion of annual receipts of such former affiliate applies during the entire period of measurement, rather than only for the period after which affiliation ceased. However, if a concern has sold a segregable division to another business concern during the applicable period of measurement or before the date on which it self-certified as small, the annual receipts used in determining size status will continue to include the receipts of the division that was sold.
Based on the size regulations, affiliation rules, and present effect rule, even an awardee’s written intent to engage in a business acquisition that affects its size–and thus, its eligibility for a small business set-aside contract–could give rise to a size protest, and even an SBA sustain of such protest. So, often, unsuccessful offerors will file a size protest upon getting word that the awardee plans to acquire another company or be acquired in the future.
Finally, our last reason to file isn’t based on regulations at all–but rather on a gut feeling.
4. Something doesn’t feel right and you want SBA to ensure the awardee is eligible for the award.
Indeed, many a size protest has been filed because the unsuccessful offeror simply has a bad feeling that the awardee is hiding something about its size, organization, or eligibility. And again, so long as the size protest isn’t solely based on speculation, that is ok. While we may not encourage protests based solely on a gut feeling, we are not naive to the fact that gut feelings serve as the basis for many size protests.
Now, there are SBA protective orders for size appeals that safeguard the proprietary information of the protested concern (where requested and granted by SBA). But many unsuccessful offerors will have their trusted government contracts attorneys file the size protest and eventual appeal to get access to information on the awardee’s size and eligibility. The protester can rely on its counsel, along with SBA, to check if the awardee is eligible for the award.
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These are just a few (of many) reasons why unsuccessful offerors file size protests. And a size protest–filed for any reason–is an important part of the government contracting world and process. Size protests, and their resulting size determinations, serve the crucial policies of transparency and fairness and further the nation’s small business contracting goals.
Questions about this post? Need help filing or responding to a size protest of your own? Or need additional government contracting legal assistance? Email us.