By: Maria L. Panichelli
In recent years, teaming has become an increasingly popular mechanism for winning federal government contracts. Many women-owned small businesses (“WOSBs”) like teaming because it is a good way to break into the federal contracting arena. In that arena, where past performance is key, WOSBs and other small businesses can team with larger companies, and use the larger companies’ past performance record to help secure a contract award. Small businesses can also use teaming partners to obtain higher-dollar contracts; by teaming with a large business, a small business can gain the financial or bonding support necessary to compete for more expensive projects, which might otherwise have been out of reach. In addition, through teaming arrangements, small contractors can utilize the resources of their teaming partners during contract performance, thereby successfully and efficiently completing larger, more complex projects and acquiring the experience (and positive performance evaluations) needed to compete for future federal contracts on their own. In short, teaming can offer small business contractors a number of advantages.
That said, when done improperly, teaming can also pose significant risks for a small business. It can destroy a concern’s “small” business size status, or otherwise render it ineligible to participate in the various Small Business Administration (“SBA”) programs. Most often, this occurs in one of two ways: (1) violation of the percentage of work requirements set forth at 13 C.F.R. § 125.6; or (2) a finding of “affiliation” pursuant to 13 C.F.R. § 121.103. This article seeks to educate small businesses about these common pitfalls and, more importantly, advise small businesses on how to avoid these dangers.
Percentage of Work Requirements
The SBA regulations set forth strict requirements concerning the amount of work a small business prime contractor must self-perform on each contract that it is awarded. If the small business contractor fails to meet these “percentage of work” requirements, it can be precluded from participating in the various SBA small business programs. It is, therefore, critically important that small businesses comply with all applicable limitations on subcontracting.
However, understanding what limitations apply to a given business or contract can be more complicated than one might expect. Each type of small business has its own requirements regarding limitations on subcontracting, and the percentages further vary depending upon the nature of the contract (services, supplies/products, general construction or specialty construction) being performed. For example, an 8(a) business performing a general construction contract is governed by completely different self-performance requirements than a SDVOSB performing a supply contract.
Contractors must also pay attention to how these percentages are calculated. In some cases, the required percentage of work is calculated using the total cost of the contract; in others it is calculated using the cost of the contract incurred for personnel only. Small businesses must make sure to keep these distinctions in mind when reviewing all of the applicable regulations (namely, 13 C.F.R. § 125.6 and § 121.600) and calculating their self-performance requirements.
Once the applicable limits have been determined, a small business contractor should share that determination with the procuring agency. It is wise to demonstrate to the government, at every stage, that both teaming partners are aware of, and have properly calculated, the applicable percentage of work requirements, and, further, that both parties have every intention of complying with those requirements. To that end, small business prime contractors should include in every teaming agreement (and resulting subcontract) the percentages (by number) and the specific scopes of work (by description) that will be performed by the small business prime contractor.
In everyday life, “affiliation” has no negative connotation. However, in the context of small business contracting, affiliation is a very bad word. A finding of affiliation can destroy a small business’ eligibility and prevent it from competing for small business set-aside contracts. This is due to the effect affiliation has on a business’ size. When two companies are found to be “affiliated,” their respective sizes (determined by either revenue or number of employees) are added together; the total is then evaluated to determine whether the company is “small,” as defined by SBA’s Small Business Size Standards. If the combined size of the two businesses exceeds the applicable size standard, neither company can be considered “small.” Affiliation is, therefore, something small businesses should avoid at all costs.
Affiliation is governed by 13 C.F.R. § 121.103, which explains that “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.” (13 C.F.R. 121 § 121.103(1)). In assessing whether or not two businesses are affiliated, the SBA considers factors such as ownership, management, previous relationships with or ties to another concern, and contractual relationships. (13 C.F.R. 121 § 121.103 (2, 5)). The SBA may find affiliation even though no single factor is sufficient to constitute affiliation. In the teaming context, affiliation generally occurs in one of two ways.
First, “affiliation” can be found due to something known as the “ostensible subcontractor” rule. This rule provides that a small business prime contractor that is “unusually reliant” on a subcontractor will be considered “affiliated” with that subcontractor for size determination purposes. In other words, a small business may be deemed “affiliated” with another business if it allows that other business to control a project for which the two companies teamed. In order to determine whether the subcontractor is, in fact, in control of a given project, the SBA will look to a variety of factors, including, but not limited to: whether it is the small business prime contractor or the subcontractor that is performing the vital components of the project; whether the small business prime contractor is financially reliant on the subcontractor; whether the small business has the requisite experience or managerial capability to control the project; and whether it is the small business prime contractor or the subcontractor who is, in reality, controlling the means and methods necessary to successfully complete the project. If the subcontractor appears to be the party in control, the SBA is likely to find that the small business prime contractor and subcontractor are affiliated pursuant to the “ostensible subcontractor” rule.
The second type of affiliation is typically referred to “general affiliation.” This type of affiliation occurs when there is an ongoing relationship between two companies, and either: (1) one business appears to control the other; or (2) the two companies appear too closely related or intertwined. In the teaming context, this type of general affiliation most often occurs if a small business repeatedly teams with the same subcontractor/teaming partner or is financially reliant on a teaming partner. A finding of affiliation is more likely if the teaming partners share employees, office space, equipment or other resources with the teaming partner, or if the small business and its teaming partner have common ownership. Familial relationships, or previous employee/employer relationships can also be considered signs of affiliation.
Now that you know the red flags that can indicate affiliation, it is relatively easy to avoid them – simply maintain control over your company and every project on which you are the prime contractor! If you are going to team with a company, make sure you do not have other ties to that company. If possible, avoid teaming with businesses at which you were previously employed. Companies owned by family members or previous business associates should also be considered off-limits. If you absolutely must team with such a company, be very careful that you do not appear in any way reliant on, or intertwined with, that business. Do not share employees, office space, or equipment. Do not allow your company to rely too heavily or regularly on a teaming partner for financial support, and avoid having another business serve as a guarantor, or co-signer, of your credit line. Team with a variety of other companies, rather than repeatedly teaming with the same business, especially if you have other ties (financial, familiar, or work-related) to that business. Overall, maintain all corporate formalities, and ensure that all transactions are made at arms-length. These tips should help you avoid a finding of general affiliation.
To avoid “ostensible subcontractor” affiliation, the same type of principals apply. Do not rely upon a subcontractor for financial assistance, or to supply the managerial experience needed to complete a project. Maintain control over the means and methods employed on-site. And, perhaps most importantly, do not allow subcontractors to take over or perform the most vital aspects of the contract; make sure your company performs the most important tasks, as well as the requisite percentages of work, as discussed above.
As 2015 approaches, teaming is becoming an increasingly important skill to master. With a growing number government contracts set-aside for small business, large contractors are being excluded from the competition more and more often. As a result, these large contractors are looking for any way to get back into the federal procurement process. That way is often teaming: By teaming with small businesses, large contractors can get access to contracts for which they would otherwise be ineligible. Teaming offers small businesses a plethora of opportunities as well, but also a host of potential dangers. Small businesses must remain cognizant of the rules pertaining to self-performance and affiliation, as s failure to do so can result in the loss of a concern’s eligibility to participate in small business programs. However, so long as a small business is aware of the issues discussed above, is careful to avoid such pitfalls, and properly structures its teaming relationship, teaming can be a rewarding, and very profitable experience for all involved. If you have any questions about how to properly team, contact a legal professional.