In the last Thompson Hine Business Law Update, we reviewed the business certification programs for small and disadvantaged businesses and how they provide lucrative opportunities to access contracts issued by all levels of government and by corporate entities. Contracting authorities increasingly require or provide evaluation preferences to companies holding specific small and disadvantaged business certifications. But merely existing as a small or disadvantaged business is not enough to access these contract opportunities. These certifications require businesses to navigate a maze of confusing and often conflicting regulatory regimes.
Of equal significance for many companies that have received certification is maintaining that certification as their businesses grow and mature, which, if not handled correctly, can jeopardize a company’s future access to additional contracts.
Issues in Maintaining Certification
Several issues may arise as a certified business grows. Some of the most common issues include:
1. Outgrowing the “Size Standards” as a small business. While outgrowing the Size Standards as a small business may not seem like a particularly devastating issue for a growing business, issues usually arise when that company fails to report the change in status. This is sometimes a challenge given these Size Standards are moving targets based on the number of employees or revenue generated by the small business. When nearing the Size Standard limits, companies often face challenges as to whether to continue to remain a certified business or to accept outgrowing small business status, which may then impact their ability to retain the growth they have seen which came from executing against the government contracts. Under some circumstances, outgrowing the applicable Size Standard may result in the government terminating a contract before performance is completed. And naturally, a lack of forthrightness in disclosing a company’s growth can lead to additional issues, as continuing to represent one’s business as certified may result in a bid challenge or, worse, accusations of an attempt to defraud the government leading to fines or even criminal charges.
2. Failing to maintain requisite ownership and/or control. While growth may be a company’s objective and utilizing outside investment capital to accelerate growth may be appealing, adding certain non-eligible investors into the business may destroy the 51% ownership eligibility of the business required to maintain certification. Further, minority-owners can create eligibility issues if they obtain too much influence over management decisions. Granting the ability to override the vote or objections of the eligible owners, whether in the form of standard preferred stockholder protective provisions or as board veto powers given to non-eligible investors or owners, may destroy the control eligibility of the business. Finally, though there may be advantages to indirectly owning the business through a trust, holding company, or other entity, this too may create issues for certifications. Many certification programs require ownership to be “directly” held by the individual upon whom certification eligibility is based, so owners should think twice before transferring their equity even if they will maintain control over the business.
3. Becoming affiliated with a non-eligible business. While pursuing business affiliations, contracts and strategic partnerships may seem like part of a natural progression for a growing business, such affiliations may also cause issues with maintaining a small business’ certification status. Affiliation occurs when a non-eligible business exerts too much control over the eligible business. This is a highly nuanced analysis and such control may come in a variety of forms, including but not limited to, having common ownership or management, sharing facilities and major resources, or, where a business may have been spun out of an existing business entity for the benefit of an eligible owner, affiliation may be concluded where the non-eligible business is acting as the sole customer or client of the eligible business.
4. Ignoring certification program updates. The rules governing certification programs are frequently revised and often, prompt action is required to maintain certification. Businesses who ignore these updates may lose their certifications and the lucrative contract opportunities that come with them. For example, in 2020, the Small Business Administration’s Women-Owned Small Business Program transitioned from self-certification to formal certification through the SBA or a third party. Failure to obtain formal certification by October 15, 2020, resulted in decertification from the program. Many women-owned businesses who missed this update—and our Government Contracts client update on it—lost lucrative contract opportunities. So be sure to keep an eye out for certification program updates and our coverage of them.
Whether seeking a contract with a federal, state, or private sector contracting authority, certification is a worthwhile means to gaining access to such contracts, but being aware of how growth, investment capital, or affiliations may impact the retention of that certification is of utmost importance, as the penalties for failure to comply may be steep or even result in criminal penalties. Knowing, understanding, and properly maintaining compliance is critical for any certified business’ continued certification and success.
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