Below is a novel thought, uttered in 1911 by the President of Columbia University, that may be equally true today:
I weigh my words when I say that in my judgment the limited liability corporation is the greatest single discovery of modern times. Even steam to electricity are far less important that the limited liability corporation, and they would be reduced to comparative impotence without it.[1]
[1] Corporate Law & Practice (Practicing Law Institute, 2nd Ed. 1999) at p. 11.
Consistent with that thought, perhaps the biggest sea-change in government contracts in recent years has been the use of mentor-protégé joint ventures in small business set-asides. According to the SBA, $145.7 billion were set-aside for small businesses in 2020.[1] The foremost advantage to a mentor-protégé joint venture (JV) is that, if properly structured, the mentor-protégé JV is entitled to small business status if the protégé qualifies as small under the corresponding NAICS code assigned to the contract.[2] By exploiting the SBA’s provisions for mentor-protégé joint ventures, small businesses can now more easily compete for larger contracts by leveraging the equipment, facilities, resources, and past performance of the mentor.
It is not unusual for the mentor to have recently been a small business who has outgrown its applicable NAICs code size status and, thus, is no longer eligible to compete as a small business. Nevertheless, if properly structured, the concern can still receive a sizable portion of the work as a mentor. Consequently, another beneficiary to this sea-change are mentors who are facing what is known as the “valley of death.” The valley of death is the predicament confronting a company whose growth has caused it to become a large business but now the company is at risk because its revenue has historically been largely tied to small business set-asides.
This sea-change in mentor-protégé JVs began with Section 1641 of the FY 2013 National Defense Authorization Act opening the mentor-protégé program up to “all small business concerns.” Effective August 24, 2016, the SBA published a final rule establishing a government-wide mentor-protégé program for all small businesses. The final rule also modified the SBA’s 8(a) Mentor-Protégé Program in an effort to merge the two programs. The SBA began to accept applications for the All Small Business Mentor-Protégé Program on October 1, 2016.[3]
The SBA has the following requirements to qualify as a mentor:[4]
(i) Is capable of carrying out its responsibilities to assist the protégé firm under the proposed mentor-protégé agreement;
(ii) Does not appear on the Federal list of debarred or suspended contractors; and
(iii) Can impart value to a protégé firm due to lessons learned and practical experience gained or through its knowledge of general business operations and government contracting.
Generally, the SBA does not allow a mentor to have more than three protégés at once.[5]
To qualify as a protégé, the concern must self-certify that is small for the relevant NAICs code. The concern must demonstrate to the satisfaction of the SBA how the mentor-protégé relationship will help it further expand its current capabilities. The SBA will not approve a mentor-protégé relationship if the small business concern has no prior experience in the NAICs code. However, the SBA may approve a mentor-protégé relationship where the small business can demonstrate that it has performed work in one or more similar NAICS codes or where the NAICS code is a logical business progression to work previously performed by the concern.[6]
A protégé firm may generally have only one mentor at a time. The SBA may approve a second mentor for a particular protégé firm where the second relationship will not compete or otherwise conflict with the first mentor-protégé relationship.[7]
The mentor-protégé agreement must comply with some SBA requirements and must be approved by the SBA’s Associate Administrator for Business Development (AA/BD) or his/her designee [8] Changes to the mentor-protégé agreement require advance approval from the SBA.[9]
Close attention needs to be paid to the drafting of the JV agreement to assure it complies with numerous SBA requirements.[10] If the contract is for supplies or services, the JV may not pay more than 50% of the revenue to firms that are not similarly situation.[11] As to the work that the JV must perform, 40% must be performed by the protégé.[12] For 8(a) participants, prior SBA approval of the JV is required.[13]
A frequent obstacle for small businesses is the SBA’s affiliation rule. Businesses are considered “affiliates” when one party has the power to control the other, or a third party has the power to control both. It does not matter whether control is exercised, so long as the potential to control exists. SBA considers factors such as ownership, management, previous relationships with or ties to another concern, and contractual relationships in determining whether affiliation exists. In 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. [14]
An applicant protégé and its prospective mentor may not be affiliated at the time of application.[15] However, once a mentor-protégé agreement is approved by the SBA, a JV between the mentor and protégé is exempt from the affiliation rule.[16]
In summary, the mentor-protégé JVs represent a sea-change in providing new opportunities for small businesses to capture larger contracts as well as an opportunity for former small businesses to potentially avoid “the valley of death” once their revenue growth prevents them from being able to compete as a small business. The eagerness of small businesses to take advantage of this sea-change is exemplified by the approximately 25% growth in a single year of the active mentor-protégé agreements monitored by the SBA.[17]
[1] https://www.sba.gov/article/2021/jul/28/federal-government-awards-record-breaking-1457-billion-contracting-small-businesses
[2] 13 C.F.R. § 125.9(d); 13 C.F.R. § 124.513(b)(2).
[3] Small Business Mentor-Protégé Programs (Congressional Research Service) November 8, 2019 at p. 3.
[4] 13 C.F.R. § 125.9(b)
[5] 13 C.F.R. § 125.9(b)(3)(ii).
[6] 13 C.F.R § 125.9(c)(1).
[7] 13 C.F.R. § 125.9(c)(2).
[8] 13 C.F.R. § 125.9(e). A sample template can be found at https://www.sba.gov/document/support-sba-mentor-protege-program-agreement-template
[9] 13 C.F.R. § 125.9(e)(7).
[10] 13 C.F.R. § 124.513(c).
[11] 13 C.F.R. § 125.6.
[12] 13 C.F.R. § 124.513(d)(2).
[13] 13 C.F.R. § 124.513(e).
[14] 13 C.F.R. § 121.103 provides additional information on the affiliation rule. Affiliation with a large business deprives a concern of its SBA small business size status.
[15] https://www.sba.gov/federal-contracting/contracting-assistance-programs/sba-mentor-protege-program
[16] 13 C.F.R. § 125.9(d)(1)(ii).
[17] As of December 5, 2020 there were 1218 active mentor-protégé agreements in the SBA’s data base. As of December 5, 2021, the number had increased to 1,514. https://www.sba.gov/document/support-active-mentor-protege-agreements.
