OPINION ON SBA PROPOSED REGULATIONS LETTING FIRMS RECEIVE ORDERS WITHOUT CERTIFYING THEY ARE SMALL

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1 UNIVERSITY OF BALTIMORE SCHOOL OF LAW Charles Tiefer 3904 Woodbine Street Professor of Law Chevy Chase, MD OPINION ON SBA PROPOSED REGULATIONS LETTING FIRMS RECEIVE ORDERS WITHOUT CERTIFYING THEY ARE SMALL Thank you for the opportunity to express my opinion on the subject of the failure. in SBA proposed regulations on multiple award contracts, to protect against wrongful poaching by larger contractors. I am Professor of Government Contracts at the University of Baltimore Law School and the co-author of GOVERNMENT CONTRACT LAW IN THE TWENTY-FIRST CENTURY (Carolina Academic Press 2012). I was Commissioner in on the Congressionally chartered, independent Commission on Wartime Contracting in Iraq and Afghanistan. My opinion is my own and not an opinion of my school or any other entity. The Small Business Administration s (SBA s) proposed regulations on treatment of small business during awards of orders on multiple award contracts (MACs) leave a gaping loophole. Firms will received favored treatment on one order after another during the lifetime of the contract, regardless of their having outgrown the right to such 1

2 treatment, or having become fronts for large firms, in that time. I have reviewed the new regulations. Also, I have reviewed the independent inquiries about the huge problem in SBA programs of wrongful poaching by larger businesses. How the New Regulations Work The government still mainly contracts based on choices newly made from an open pool of all interested offerors, However, increasingly, the government makes awards of task or delivery orders (simply called, here, orders) on the basis of a multiple award contract. As the SBA itself says in its regulations, study reports have found a marked increase in the use of multiple award indefinite delivery, indefinite quantity (IDIQ) contracting vehicles. 77 Fed. Reg. at For a MAC, first the government holds a competition (preferably a full and open competition, though there are major exceptions and shortfall) among what should be an open, non-limited pool of offerors. The awarded contract, an Indefinite Delivery Indefinite Quantity (IDIQ) contract, goes to several awardees, not just one. There might be, say, 3 to 5 awardees of the MAC. (For simplicity, from here on this opinion will just use the number for awardees of 3 to 5 because that is typical.) As the new regulations reinforce, the award may include SBA programs, such as set-asides for small business. From that overall MAC award, small business awardees do not yet, at that point, receive individual orders. Rather, during the life of the IDIQ contract, the purchasing agency from time to time makes individual offers. The competition for these offers is not full and open to the open, unlimited pool of potential offerors. Rather, the only competitors for each award are the contractors who won an award of the MAC -- say, the 2

3 3 to 5 individual awardees of the MAC. The competition for each order may well be serious and well-documented. Not surprisingly, it matters greatly whether the benefit of the SBA s programs, in the awards of orders, go entirely to small businesses, or instead go to larger businesses. This occurs either by large businesses using tricks so that small businesses front for them or when businesses that are no longer small pretend that they still are small. As the SBA Inspector General, Peggy Gustafson, testified, The bottom line is that there is a real societal cost when ineligible companies improperly profit from preferential contracting through fraud and illegal conduct.... This fraud thwarts congressional intent behind these programs and deprives legitimate small businesses of contracting opportunities. 1 For this issue, the key question is whether the putative small business contractors must re-certify their size to keep getting orders. This is their self-certification. Selfcertification is a powerful barrier to poaching by unworthy larger businesses because they have to affirmatively misstate their situation they cannot be silent or evasive or noncommittal, they must actually make the wrongful self-certification in a definite and conclusive way -- with very serious sanctions that potentially flow attempting false selfcertification. The SBA had a choice. It could have brought to bear that vital barrier to poaching. The SBA could have provided that each time a putative small business seeks an order under a MAC (that is part of a small business program) the firm must re-certify that it is still, in fact, a small business. That way, firms which started out, at the time of award of the overall MAC, as small businesses, must say whether they have continued to 1 Charles Clark, SBA Called Slow to Kill Duplicative Programs and Curb Improper Payments, Gov t Exec., June 16,

4 be a small business (and have not become a larger firm or a front for a larger firm). And, that way, before the SBA program s benefits go to a putative small business, it must recertify its worthiness as still a small business. This would catch, and stop, businesses which are no longer small from siphoning off the benefits of the SBA program. Seemingly that is the obvious choice to make. However, the SBA s proposed regulations have chosen not to go that way. Section , at 29150, of the proposed regulations, entitled When is the size status of a business concern determined? explains the following [w]ith respect to Multiple Award Contracts and orders issued against the Multiple Award Contract. SBA will determine size at the time of initial offer... for the Multiple Award Contract. In other words, at the initial time when the purchasing agency chooses the 3 to 5 MAC awardees, the small business submits a written self-certification that it is small to the procuring activity as part of its initial offer. What about down the road, when the purchasing agency has actual orders for which it chooses among the 3 to 5 MAC awardees? The small business is not required to recertify. If a business is small at the time of offer... on the Multiple Award Contract, it is small for each order issued against that category.... This means that if a business concern is small at the time of initial offer for a Multiple Award Contract... than it will be considered small for each order issued against the contract Fed. Reg. at (italics and underlining added). When a business represents that it is small, it is then considered small for the life of that specific contract Fed. Reg. at

5 This is not just some minor point. From the point of view of small businesses, this is one of the main thrusts of the proposed regulations one of the main actions in the proposed regulation is immunizing putative small businesses from certifying, when they get their orders, that they are, in fact, small. By making this choice, the SBA will be allowing firms that started out small, but became large, to siphon off a large part of the SBA program benefits going to MACs. Since MACs, in turn, are a substantial and growing part of the entire amount of government contracting of which small business might hope to get its fair share, this represents a gaping loophole in the world of contracting by which SBA benefits for small business get taken away by large businesses. Some may ask how it happens that a firm starting at the time of the MAC as a small business might no longer be a small business, or fronts for a larger business, as the years of the MAC go by and the various orders get awarded. A well-known example of a similar phenomenon in 2010 concerned the major IT service provider GTSI, with revenues of $762 million and gross profits of $101 million. GTSI had to settle with the government when it was charged with using an Alaska Native Corporation, Eyak Technology, as a front. In a letter to GTSI, the Small Business Administration s suspension and debarment official alleges that, in various Department of Homeland Security contracts where GTSI was a subcontractor, those subcontractors were little but fronts for a scheme participated in by GTSI. 2 Let us look at some small-to-large scenarios. First the growth ay scenario. This is simply that the firm was a prosperous firm that would have grown from small to large over the life of the MAC, which may regularly be five years. For example, a startup with a high-tech item might well start 2 Feds Suspend Major IT Contractor from Government Work, TECHWEB, Oct. 4,

6 small, and get awarded a MAC. Suppose it has a valuable product, as valuable to the private sector as to the federal government. In a few years it might grow fast, and no longer be small, yet it would still be able to receive SBA program benefits from orders on that MAC. In effect, it would be a large business siphoning those SBA benefits away from genuine small businesses. Second the growth from government orders scenario. The MAC itself may have lucrative orders of a substantial size. A small business becomes one of the 3 to 5 for that MAC at a date before, of course, it has had (or even sought) any of those lucrative orders. By the time it performs one or two orders, it has grown and it may now be larger. This is by no means far-fetched, given the value of task and delivery orders. Yet, it would still be able to receive SBA program benefits from orders on that MAC. In effect, it would be a large business siphoning those SBA benefits away from genuine small businesses. Third the tie to large business, or fronting for large business, scenario. In some ways, this is the most problematic. When a small business gets a MAC award, it becomes attractive for a large business to figure one way or another to get the benefit of that small business MAC award. The proposed regulations do recognize this problem. [A] contractor must also recertify its size status whenever there has been a... merger or acquisition. But, requiring recertification after a merger or acquisition is barely a halfmeasure. It requires a business to make the judgment about itself a judgment it will not want to make that it has changed and can no longer enjoy the benefits of the SBA programs. In this situation, both the large and the small business can resort to all their 6

7 tools of planned arrangement to obfuscate the situation and to let them rationalize a passive inaction on the question of recertification. Large businesses are adept at making those planned arrangements that obfuscate the situation. Large businesses may own what seem merely minority shares in small businesses, or otherwise may closely team with them coupled other relationships tying them together, or the small business may have multiple entities that purport to separate the one with the contract from the one with the large business tie but are in fact connected entities, and so on. The SBA s proposed regulations gave the small firm a way to front for a large business without having to certify the contrary. The small firm that fronts for the large firm just in time for the award of an order has not yet made a false certification. If an investigation occurred extremely rare for the SBA when there has not even been a pertinent self-certification the firm just resorts to any argument available as to why there was no reason for it to make a non-standard, unusual, in some contexts even extraordinary declaration that it had ceased to be worthy of small business contracts. 3 Fourth the subcontracting scenario. A large business wants to take advantage of a small business s MAC award and the small business s ability to get lucrative orders. As with the merger scenario, there are a variety of ways the large business can do so. Large businesses may subcontract with the awardee, in a way that seems on the surface to comply with the rules but finds a way that gives the large business an undue share of 3 Does it make a difference, in this situation, that the SBA is not requiring all small business to recertify? Absolutely. It makes all the difference in the world whether the SBA puts all the order awardees to the test of self-certification, or lets them passively slide by, say nothing about growing larger or fronting, and take the lucrative award. Again, this is by no means far-fetched, for large businesses often crave access to orders that have gone to small businesses, and both the putative small business and its partner the large firm may be licking their chops at what is, to be blunt, their misappropriating the benefits of the small business programs. 7

8 both the work and the profits, with the small firm s owners just being paid to set this up and then keep quiet Fifth the long term scenario. Although five years is an eternity for a small business to get a stream of orders without self-certifying, the MAC may not merely be five years long. It may be ten years long. 4 All kinds of things can happen in 6 to 10 years to make the business no longer small. The SBA proposal expresses hesitancy on this issue. The SBA has considered requiring businesses to recertify their size for long term orders. The SBA expresses that it is concerned and unsure about this. However, it is still in the process of deciding, and, it may well decide to allow a small business to get by with one self-certification and then ten years of orders. 77 Fed. Reg. at All the other scenarios become that much more highly alarming in the context of MACs that are from 6 to 10 years. Clearly, there are many scenarios by which, under the proposed regulations, large businesses will siphon off the benefits of SBA programs meant for small businesses. It is fair to ask how large a problem this is. It is fair to ask whether we already have a problem with large businesses grabbing the benefits of SBA programs. Let us work back in time from the most recent evidence. Several reporters, Danielle Ivory and others at Bloomberg News, completed in February 2012 a study on 4 Ten years is by no means unheard of. As Commissioner on the Wartime Contracting Commission, the contract for logistics by Halliburton/KBR was one of the most important in the warzone. It was awarded in 2000, and for ten years continued to give the billions and billions in wartime logistics orders to KBR until it expired in 2010 (and even then there was an extension.) 8

9 this phenomenon. They published their results in several stories, and they invited this professor to review their data and comment on it in a televised Bloomberg News video. 5 This team of diligent reporters had used public data mining techniques 6 to look for situations in which a small business, which should have had its time in the SBA program come to an end, continued to get the benefits of the program. They looked for the bluntest, most in-you-face scenario: a company had continued in business, and had even stayed at the same address, after it should no longer be in the program -- yet had continued to receive SBA program benefits. Since 1990, the SBA has certified multiple companies at a single address more than 100 times. U.S. Program Enriching Wealthy, supra. Twelve repeat participants have received $412 million in preferential contracts and more than $1 billion in total government awards, Bloomberg found. Id. A particular instance studied by Bloomberg involved A Florida family [that] grew rich on $256 million in federal contracts since 1993, in part through a web of closely held companies that allowed members to remain 18 years in the nine-year program for the disadvantaged. Id. This suggests that the problem exists on a very large scale. The proposed SBA regulations would set this very large problem loose in what will become the Wild West 5 The stories include Danielle Ivory, Elliot Blair Smith and Gopal Ratnam, Lawmakers Demand Crackdown on U.S. Program Enriching Wealthy, Bloomberg Businessweek, Feb. 22, The video was SBA Can t Police Contract Program, Tiefer Says, Video, Bloomberg News, Feb. 21, The video has this website: 6 What is striking about the problem found in this way is that Bloomberg News does not have, of course, grand jury or subpoena power, and has neither government auditors nor government investigators. Bloomberg News found its information from data mining the contracting information on the public domain. 9

10 of large business poaching, the enormous and still-growing domain of MACs and SBA programs. When the SBA Inspector General, rather than outside reporters, investigates an SBA program, the scale of improper payments can be startling. At a 2011 Senate hearing, the SBA Inspector General told Senator Landrieu about SBA loan guarantees in which she had found that 27% of the payments were improper. 7 At another 2011 hearing, this time in the House, the SBA Inspector General said that publicizing reviews of one program prompted contractors to drop out in droves. 8 In 2010, the Government Accountability Office issued a report in which it had tested whether SBA sufficiently vetted applications for government contracts under the HUBZone program. GAO submitted applications for four fake companies, including one from a company [with its address] at the Alamo and one at a city hall elsewhere in Texas. 9 This SBA does not seem in shape to give up, under the proposed regulations, one of the few tools it has to screen out inappropriate applications for small business program awards, by not even requiring the contract to self-certify for each order. Another GAO 2010 report was entitled 8(a) Program: Fourteen Ineligible Firms Received $325 Million in Sole-Source and Set-Aside Contracts, GAO (March 2010). In breaking down its findings, numerous instances were found where 8(a) firm presidents made false statements, such as underreporting income or assets, to either qualify for the program or to retain certification. Id. (Italics added.) Under the SBA 7 Charles S. Clark, SBA Called Slow to Kill Duplicative Programs and Curb Improper Payments, Gov t Exec., June 16, 2011; An Examination of Small Business Administration Programs: Eliminating Inefficiencies, Duplications, Fraud and Abuse: Hearing of the Sen. Small Business and Entrepreneurship Comm, June 16, Charles S. Clark, Fraud Continues in Small Business Preference Programs, Gov t Exec, Oct. 27, Sharon Bernstein, Auditors Find SBA Vulnerable to Fraud, L.A. Times, Aug. 10,

11 proposed regulations, a putative small business would not be required even to make such statements to retain certification from one task order to the next because they would not be required to re-certify for the successive orders. The GAO also found cases where ineligible companies used certified firms to secure 8(a) work. Id. This is one of the scenarios ticked off above for how large companies would use the SBA s proposed regulations to siphon off benefits in the SBA small business programs. After a small business won a MAC award, as the GAO just said, ineligible companies [would] use certified firms to secure 8(a) work. The next time the small business went after an order under the MAC, it would not have to recertify its status because the SBA proposed regulations do not require such recertification. Going back further, another survey, like Bloomberg s, surfaced many large firms receiving the benefits of small business programs. A key survey, of the top 1,000 contractors receiving small business awards, was conducted for the SBA s Office of Advocacy in It found 44 large companies, 11 receiving $2 billion in small business contracts, by some computer file cross-matching that basically comes down to looking up the company names. That SBA survey listed, as receiving extensive small business contracts, large companies including Titan, Raytheon, BAE, Northrop Grumman, CACI, L-3 Communications, the Carlyle Group, General Dynamics, EDS and SAIC Eagle Eye Publishers, Inc., Analysis of Type of Business Coding for the Top 1,000 Contractors Receiving Small Business Awards in FY 2002 (Dec. 2004), available at 11 To be precise, 39 of these were companies, and 5 more were other such as the State of Texas which apparently has done well obtaining small business contracts. 12 Id. at

12 Although the government does not prosecute criminally more than the tiniest sliver of large companies siphoning off the small business programs, its prosecutions show just how far larger businesses will go to do this how tempting it is. The two Orlando men were delighted in 2002 when their small business... won a $50 million contract to provide foreign-language instruction for the U.S. Special Operations Command.... But a federal indictment this week charges the men..., with then forming a second company to obtain a $100 million contract with SOCom in 2007 and fraudulently concealing or minimizing their involvement in the business. The indictment said they did so because [their company] was now too big and would not otherwise have qualified for the contract The indictment said the men made false representations and submitted false information to the Small Business Administration to win designation as a small business eligible to receive the SOCom contract. Id. Note that they had to make those false representations and submit false information -- and thereby set themselves up for criminal prosecution because the 2d contract was classified as a new contract. If it had been a 2d order under a MAC, then by the SBA s proposed regulations, the only requirement to self-certify would have been at the time of awarding of the MAC; the crooks would not have had to self-certify for the new order; and, it might not even be feasible to indict and prosecute them. For others with large businesses who game the system, the proposed regulations are like a Get Out of Jail Free card for their grabbing successive large orders from a MAC intended for small business. 13 William R. Levesque, 2 Accused of Lying to Get $100M SOCom Contract, St Petersburg Times, June 23,