We continue our discussion of the Small Business Administration’s (SBA) recent final rule on various small business programs. We previously discussed SBA’s changes to the effect of recertifications under multiple award contracts and new protest and size determination grounds related to such recertifications, but there is still much to cover. Today, we focus on revisions to the regulations governing joint ventures and Mentor-Protégé Agreements (MPA) at 13 C.F.R. § 125.8 and 125.9.
Evaluating Joint Venture Capabilities, Past Performance, and Experience
SBA’s prior regulations provided that when evaluating the capabilities, past performance, experience, business systems, and certifications of a small business joint venture for a contract set aside or reserved for small business, the government was required to consider work done and qualifications held individually by each partner to the joint venture, as well as any work done by the joint venture itself previously. The regulations also provided that, in the context of Mentor-Protégé Joint Ventures (MPJV), the government could not require the protégé firm to individually meet the same evaluation or responsibility criteria as that required of other offerors, generally. This specific aspect of the prior regulation ignored small business members of non-MPJVs, ambiguously suggesting only protégés, and not other small business joint venture members, enjoy flexibility in meeting criteria required for other offerors. Furthermore, there has been some confusion regarding what exactly the government can require of the protégé and how the experience of the protégé should be evaluated. Thus, SBA’s new rule provides welcome clarification and addresses the gap in coverage.
Specifically, the new rule provides that the procuring agency has discretion to require the protégé or lead small business member of a joint venture to demonstrate some level of past performance or experience. On the other hand, the procuring agency also has the discretion to rely solely on the experience of a mentor or non-similarly situated joint venture partner; the procuring agency presumably need only express its preference in the relevant solicitation. Where the government chooses to require a protégé or lead small business member demonstrate some level of past performance/experience, one way it may do so is to require successful performance on fewer previous contracts of lower values than other offerors. However, in that instance, successful performance identified by the protégé or lead small business member must be rated equally to successful performance by the mentor/non-similarly situated member or other offerors. In other words, the government cannot weigh other offerors’ past performance/experience meeting the solicitation’s requirements more heavily than the protégé’s/lead small business member’s, even if the protégé is held to a lower standard.
Impact of Transactions on Mentor-Protégé Agreements
On brand with a major theme of the final rule (i.e., impact of transactions), SBA made amendments to its MPA regulations related to the impact of a mentor firm undergoing a transaction.
First, SBA’s current regulations provide that a mentor cannot have two MPJVs (with different protégés) holding the same small business multiple award contract at the same time. The new rule “clarifies” that where a mentor that has an MPJV that holds a multiple award contract purchases another business entity that also serves as a mentor in an MPJV that has the same multiple award contract, the mentor must exit one of the JV relationships (although not necessarily the mentor-protégé relationship). The new rule does not specify whether the phrase “purchases another business entity” is meant to cover both asset purchases and equity purchases. This is an important distinction because, prior to the new rule, when one mentor purchases a controlling interest in another mentor, the two companies remain different mentors post-transaction because the entities remain two different legal entities (although now within the same corporate family). Therefore, this new rule seemingly expands the current restriction to mentors that are different entities but are now in the same corporate family post-transaction.
Recognizing that this “clarification” could hurt the protégé in the joint venture that the mentor decided to leave behind, the new rule provides that protégé with the following options: (i) to seek to acquire the “new” mentor’s interest in the contract and where necessary and appropriate, novate such contract to itself; or (ii) to replace the “new” mentor with another business in the MPJV, such that the revised MPJV will continue to qualify as small and be eligible for orders issued under the contract. These are fairly radical options that change the nature and capabilities of the awarded joint venture, so it is not entirely clear agencies will be as happy to accommodate them as SBA. Further, these options fail to recognize the most likely scenario where the mentor drops out of the MPJV, and the protégé becomes the 100% owner of the joint venture, thus converting the joint venture into a wholly owned subsidiary of the protégé that continues performance of the contract. This would eliminate the need to novate the contract to the protégé but might make it impossible to continue to claim credit under socio-economic programs that require direct individual ownership.
Second, SBA added provisions outlining a protégé’s options regarding its MPA with a mentor that has been “purchased” by another concern. Again, not specifying the difference between an asset or equity “purchase,” the new regulation states that the purchasing concern “shall become the new mentor of the protégé if it commits to honoring the obligations under the seller’s mentor-protégé agreement or the purchasing business concern and the protégé negotiate a new MPA that SBA approves.” The vague use of “purchase” again fails to recognize that, under an equity purchase, the buyer and seller remain separate legal entities. If the regulation means that the buyer entity literally becomes the new mentor in an equity purchase (even though the original mentor still exists in its same corporate form), this will create the (not particularly useful) burden of amending MPAs and MPJVs to swap out names in the MPA and MPJV agreements. In practice, one assumes mentors that are acquired but remain a separate corporate entity will remain as mentors and this rule will be limited to narrower asset acquisitions or mergers.
If the protégé’s mentor is purchased, the protégé can: (i) keep the same MPA with the “new mentor” if the “new mentor” commits to the terms and conditions of the original MPA; (ii) negotiate a new MPA with the “new mentor,” subject to SBA’s approval; or (iii) terminate its MPA, but only if the “new mentor” and the protégé cannot agree on either continuing with the previous MPA or negotiating a new MPA that is acceptable to SBA. Again, all of this seems unlikely to be followed in practice as long as the mentor remains a separate entity.
If the protégé and “new mentor” elect to negotiate a new MPA, it will be active only for the remaining time of the current MPA. Similarly, if the protégé elects to terminate the MPA under these circumstances, the new rule provides that the protégé is allowed to seek another concern to become its mentor, and that MPA will last for the remaining time left of the current MPA. In other words, the new post-transaction MPA, either with the entity that purchased the original mentor or with a new third-party mentor, does not extend the usual six-year term of the original MPA. Although providing the protégé with the ability to elect a third-party mentor to replace the original mentor is a welcomed gift for protégés that do not want to work with the company that purchased its original mentor (or for whom the new mentor poses a business conflict), it is unclear if the third-party mentor would count as an additional mentor for purposes of calculating a protégé’s lifetime limit of two mentors. Proteges should keep this in mind before shopping for a new third-party mentor.
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