The Small Business Administration’s (SBA) popular shields from affiliation for all-small and mentor-protégé joint ventures are powerful tools for helping small businesses succeed in the federal procurement marketplace. These tools, however, are subject to strict enforcement, iterative rule changes, and growing bodies of case law. To that end, a new decision from SBA’s Office of Hearings and Appeals (OHA) reverses a previous OHA rule that had, for the past two years, rendered many otherwise compliant joint venture agreements ineligible for favorable treatment under SBA regulations. This is the latest instance in which the rules for joint ventures have changed, and a good reminder for companies to be sure their joint venture agreements are compliant with the most current regulations and OHA case law.
Background
In Strategic Alliance Solutions, LLC, SBA No. VET-278 (2023), OHA took a second look at whether the joint venture appellant was fully controlled by its Service-Disabled Veteran-Owned Small Business (SDVOSB) member and qualified for award in a procurement set aside for SDVOSB concerns. OHA had previously found the appellant’s joint venture agreement was generally compliant with the governing regulations, with one exception: it required unanimous consent of the joint venture members before the joint venture was permitted to initiate litigation or pursue a claim under the contract. OHA relied on its precedents in Seventh Dimension, LLC, SBA No. VET-6057 (2020) and Swift & Staley, Inc., SBA No. SIZ-6125 (2021) for the principle that initiation or settlement of litigation was “essential to day-to-day operation” of the joint venture and, therefore, was not allowed to be subject to minority shareholder consent. OHA found this provision violated 13 C.F.R. § 125.18(b)(2)(ii)(A) (now re-codified at 13 C.F.R. §128.402(c)(2)(i)), which requires a joint venture’s managing member to have full control of all “day-to-day management and administration of the contractual performance of the joint venture.” And, because the SDVOSB managing member did not wholly control the joint venture, the joint venture was ineligible for award of the SDVOSB set-aside contract.
After its loss at OHA, the appellant filed a protest at the Court of Federal Claims, arguing that OHA’s decision was improper. In an interesting turn of events, SBA’s Office of the General Counsel took the position that SBA’s OHA was wrong: initiating or settling contract litigation is not an ordinary day-to-day activity, and therefore minority members may be given veto power over litigation decisions without running afoul of the joint venture regulations. SBA also argued that OHA improperly imposed the “negative control” provisions of the general affiliation regulations on the very different regulations governing joint ventures. The parties convinced the court (over the objection of the intervenor) to remand the matter to OHA for further consideration.
Decision on Remand
On remand, OHA observed that its first decision relied on Seventh Dimension, LLC, SBA No. VET-6057 (2020) and its progeny. OHA then noted that later in 2020, after issuance of Seventh Dimension, SBA revised its regulations governing SDVOSB joint ventures. Although OHA did not find the new regulations were promulgated expressly to undo Seventh Dimension, OHA found the new regulation made a material change by expressly providing that the non-managing partner(s) to a joint venture may participate in corporate governance and decisions “as is commercially customary.” 13 C.F.R. § 125.18(b)(2). In light of this regulatory update, OHA found a litigation decision “is more properly seen as part of corporate governance and is thus an area where the other partners to the joint venture may participate” because “[l]itigation on behalf of the joint venture can have results which might impair the interests of the venturers, and thus it is not inappropriate that [minority member(s)] have the right to approve contract litigation.” Accordingly, a minority member’s ability to block litigation decisions should be permissible under the governing regulations. Therefore, “upon further reflection,” OHA overturned its prior Strategic Alliance Solutions decision and granted the appeal.
Impact
As numerous OHA decisions over the years have demonstrated, it is extremely easy (and perhaps common) for a company accidentally to sign up to a joint venture agreement that fails to comply with one of the many nuanced requirements of the small business regulations or applicable case law. Noncompliance often involves omission of one of the long list of items the regulations require joint venture agreements to have. For some time now, savvy companies have had their attorneys review joint venture agreements prior to proposal submission to ensure the agreements are not missing anything that current regulations require. This is particularly prudent given the significant revisions to the joint venture regulations in recent years.
Since OHA issued its Seventh Dimension decision in 2020, however, SBA and protesters are more heavily scrutinizing additional terms joint venture agreements might include for the possibility of “negative control”—i.e., whether a particular provision gives minority member(s) the ability to block activities that an SBA analyst or OHA might consider “ordinary” business decisions. Companies not well versed in the nuances of OHA case law may not see any risk in a customary provision that could render them ineligible for award. Many companies do not seek legal review for these risks. Or they did so years ago, before Seventh Dimension articulated a harsher standard than SBA previously applied in practice. Strategic Alliance Solutions has now altered the rules again, rolling back Seventh Dimension, at least with respect to the question of whether litigation decisions are ordinary or extraordinary actions, but apparently leaving it otherwise unchanged.
It is uncertain how or whether the Strategic Alliance Solutions decision will affect negative control analysis under the separate regulations governing small business affiliation in general. Is the ability of a third party to veto litigation decisions indicative of negative control outside the context of joint ventures? The Strategic Alliance Solutions decision does not directly answer that question.
The new Strategic Alliance Solutions decision is welcome news, but also a good reminder for companies to consider whether their own joint venture agreements comply with both current regulations and OHA’s most recent case law.