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December 18, 2018

Turn Back the Clock: Congress Extends SBA's Runway for Small Business Size Status


Update (Jan. 4, 2019): The Small Business Administration (SBA) has issued a notice, effective December 21, 2018, stating that the Small Business Runway Extension Act is not presently effective. SBA’s notice says that the “Small Business Act still requires that new size standards be approved by the Administrator through a rulemaking process.” The SBA’s position is that until the change made by the Runway Extension Act is implemented through the “standard rulemaking process,” the change is not applicable to present contracts, offers or bids. Therefore, until SBA issues new regulations in response to the Act, businesses must still report their size based on average annual receipts over three years, rather than the new five-year period.

Small business contractors should closely monitor the rulemaking process implementing the Runway Act’s change. It is also possible that the SBA’s position on the effective date of the Runway Act could be the subject of protest litigation or other challenges.

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In one of the last legislative actions for 2018, Congress has passed, and the President has signed into law, the Small Business Runway Extension Act of 2018 (H.R. 6330 or the "Act").1 This Act amends the Small Business Act, 15 U.S.C. § 632, to increase the period for measurement of a contractor's size status by the Small Business Administration (SBA) from three to five years. Small businesses that are on the verge of exceeding their relevant industry small business size standard can extend their small business lifetimes and their access to small business set-aside procurements. This extension will also give small businesses additional time to build up their internal structure before entering the highly competitive full and open marketplace. The Act was passed by the House on September 25, 2018 and by the Senate on December 6, 2018. The President signed the Act into law on December 17, 2018.

Under SBA regulations, a small business concern must meet size standards based on the North American Industry Classification System (NAICS) code associated with their industry. Prior to the Act, the size standards were determined, for most industries, by the average of the annual receipts of a concern over its most recently completed three fiscal years.2

The intent of the Act, according to the House Committee on Small Business, is to "allow small businesses at every level more time to grow and develop their competitiveness and infrastructure, before entering the open marketplace," and "reduce the impact of rapid-growth years which result in spikes in revenue that may prematurely eject a small business out of their small size standard."3 By extending the "runway" for small businesses, the Act seeks to avoid what the House Committee characterized as the "mid-size issue," and the "other-than-small conundrum." The House Committee's concern is that once small businesses no longer qualify for set-aside contracts, many often struggle to compete with large businesses on full and open competition procurements. The reality is that small businesses can become victims of their own success, propelled out of the small business program by winning a large contract, but unprepared for what comes after.

One example of the "mid-size issue" highlighted by the House Committee is the $27.5 million small business size standard for information technology (IT). This size standard means that an IT company at a size standard of $28 million must compete with the largest IT contractors in the industry, which generate billions of dollars in revenue every year. It can be difficult for mid-market firms to compete with these industry giants, given that large firms have greater resources in marketing, proposal development, legal support, and other areas, such as past performance experience, that a mid-market firm cannot afford or has not had the opportunity to develop. The bottom line is that many recently "graduated" other-than-small firms have difficulty competing in the open market and must sell their business to a large firm upon graduation, seek subcontracting opportunities with large firms, or, in the bleakest scenario, simply fail to garner contract awards in the open market.

By extending to a five-year lookback, the Act grants many small businesses some increased flexibility after winning large awards to prepare for other-than-small status. Along with preparing for the increased competition in the full and open arena, small business now have more time to prepare for additional regulations and requirements applicable only to large businesses. For example, other-than-small firms must develop subcontracting plans and address small business participation in their proposals.

While well-intentioned, the Act could have the unintended effect of spiking some small businesses out of their small business size standard by virtue of the increased window. Take the example of a business that had a substantial increase in revenue four or five years back based on a large contract, but then experienced a subsequent downturn in revenue, followed by merely incremental growth. Under this scenario, a small business might be rendered other-than-small, whereas prior to the Act, it would still have qualified for small business status under the three year window.

Going Forward

Now that the President has signed the Act into law, the Small Business Administration will need to promulgate regulations in accordance with the Act. These regulations likely will address a variety of outstanding issues, including the method and timeframe for implementation. Small business contractors should keep abreast of these developments and potential new regulations.

© Arnold & Porter Kaye Scholer LLP 2018 All Rights Reserved. This Advisory is intended to be a general summary of the law and does not constitute legal advice. You should consult with counsel to determine applicable legal requirements in a specific fact situation.