As Congress works to reauthorize the Small Business Administration's financing and economic development programs, some critics say big business is winning contracting dollars intended for small firms.

The issue has been around for years, and industry and government policy-makers have debated potential remedies without results. A recent SBA news release said small businesses won a record $79.6 billion in contracts in fiscal 2005. The media and small-business advocacy groups greeted the announcement with sharp criticism.

"Flaws in the procurement process have allowed large companies to receive small-business awards and agencies to receive small-business credit for contracts performed by large businesses," said Eric Thorson, SBA's inspector general, in testimony this month at a Senate Small Business and Entrepreneurship Committee hearing. "We believe the problem to be widespread."

Paul Murphy, president of Eagle Eye Publishers, said his analysis of government procurement data lists multibillion-dollar companies, such as Science Applications International Corp., Lockheed Martin and Northrop Grumman, among the top 100 small-business contractors in fiscal 2005.

"Regulatory loopholes are allowing large companies to perform small-business contracts," Thorson told lawmakers at the hearing. "Studies have found that agencies count toward small-business goals contracts performed by companies that have either been acquired by large firms or outgrown small-business size standards."

"The acquisitions of small companies by large companies may well be a factor in the reports of large companies receiving small-business awards," said Northrop Grumman spokesman Gus Gulmert. "We are actively engaged with SBA to identify and correct any of our records that need to be updated. Once that is complete, we should have a better understanding of any problems with the existing process."

The Commerce Department's Commerce Information Technology Solutions Next Generation (COMMITS NexGen) contract vehicle, which is open only to small businesses, is a case in point. A Government Accountability Office briefing in June noted that "many of the 55 COMMITS NexGen contractors have grown significantly or have been acquired by larger businesses and may no longer meet small-business size standards."

Despite questions about the data, SBA has touted the fiscal 2005 numbers as evidence of success in its government contracting programs.

"The most important thing is [that] the dollars have gone from $43 billion in [fiscal 1999] to almost $80 billion," said Karen Hontz, SBA's associate administrator for government contracting.

"That's the big statistic. The increase to small business dollar-wise is a larger percentage than the increase in the overall contracting budget. That's the good news."

Root causes
Murphy said one reason small-business dollars go to large companies is no one has decided whether a small-business designation should follow the contract vehicle or follow the company. Small companies often merge with larger firms.

Another problem is that on some multiple-award contracts, agencies can obtain small-business credit for using a company classified as small even if it fails to meet all applicable size standards. Those explanations haven't calmed SBA's critics. "People are misrepresenting [their companies] as small businesses," said Lloyd Chapman, president of the American Small Business League. "People are going to manipulate the system for their benefit," said Guy Timberlake, chief executive officer of the American Small Business Coalition, which helps small firms do business with the government and prime contractors.

Timberlake said large businesses may claim a North American Industry Classification System code for which they don't qualify. In other cases, "large businesses get behind small companies that are nothing more than fronts that don't have the capability to do the work," he added. Thorson said that in the past five years SBA has opened 69 cases involving government contracting fraud, but it has yet to obtain a criminal prosecution.

He blamed prosecutors' reluctance to accept cases for which it is difficult to demonstrate a financial loss to the government.

One potential remedy is annual recertification of the size of a small business. SBA published a proposed rule requiring recertification in 2003 but has not released a final rule. Annual recertification "would provide a significant control over the accuracy and integrity of small-business contracting," Thorson said.

How large businesses gain small-business dollars

Critics of small-business designations say too many contracts set aside for small businesses are going to large firms, including Science Applications International Corp., GTSI, Lockheed Martin and Northrop Grumman.

Eric Thorson, SBA's inspector general, said some of the reasons large companies can win such contracts include:

• Regulatory loopholes.
• Fraud.
• Errors on the part of contracting officers.
• Incorrect entries in the Federal Procurement Data System.

Graph: Big companies and small-biz dollars

The Small Business Administration, claiming a major victory for its constituents, recently announced that small companies won $79.6 billion in federal prime contracts in fiscal 2005.

Former SBA administrator Hector Barreto, in one of his last official acts before stepping down April 25, praised the agency's year-end contract data and said that small businesses won 25.4 percent of the $314 billion total federal prime contracts awarded in fiscal 2005.

Meeting goals

The federal government has a congressionally mandated goal of awarding 23 percent of federal prime contracts to small companies, and Barreto said that 2005 marked the third straight year it had met that goal.

But Barreto's assertions have come under sharp attack from congressional leaders, as well as SBA's inspector general and the Government Accountability Office.

Critics there have complained repeatedly of problems in how the data is compiled and how the agency oversees federal small-business contracting. One complaint is that companies self-certify as small businesses in a government database that rarely is reviewed for accuracy.

Another is that large government contractors are winning small-business prime contracts.

Research company Eagle Eye Publishers Inc. of Fairfax, Va., in June released its own fiscal 2005 small-business contracting report using data produced by the General Services Administration and the Defense Department. Eagle Eye's report identified $377 billion in federal prime contracts, $63 billion more than SBA's report. Of that higher total, Eagle Eye found that small businesses won $65 billion in prime contracts, just 17 percent of the total, said company president and CEO Paul Murphy.

"Administrator Barreto is either comparing apples to oranges or else he has access to numbers that the general public does not," Murphy said. "They're manipulating the appearance of success."

But neither SBA nor GSA generates the report, said Karen Hontz, SBA associate administrator for government contracting. That job was outsourced in 2003 to Global Computer Enterprises Inc. of Reston, Va. GSA hired Global Computer to run the Federal Procurement Data System-Next Generation, the database that tracks government contracting including small-business contracts.

Hontz said she was comfortable with the accuracy of the data SBA was touting. SBA officials declined to comment on Eagle Eye's report.

When Eagle Eye compiled a list of the top 100 companies that won small-business contracts–for both IT and non-IT work–in fiscal 2005, it found several familiar large-company names. Among the IT contractors on its list was Science Applications International Corp. of San Diego, which ranked third, with more than $360 million in small-business contracts.

Other large companies included GTSI Corp. of Chantilly, Va., which was fourth with $291 million in small-business contracts, General Dynamics Corp., which ranked 12th with $233 million, and Lockheed Martin Corp., which came in at No. 19, with $175.3 million in small-business awards.

SBA officials declined to provide a list of the top 100 contract winners from its own data.

Asked how General Dynamics, a company with more than $21 billion in fiscal 2005 revenue and more than 72,000 employees, could make a list of the top small-business award winners, com-pany spokesman Rob Doolittle said the answer lies in the company's recent acquisition history.

"General Dynamics has acquired several small businesses over the last several years that were likely awardees of small-business contracts," Doolittle said. "They can't compete [for new contracts] as small businesses any longer, but the contracts continue to exist as they were awarded."

Hontz also said that large companies appeared on Eagle Eye's list because of their acquisitions of small companies that held small-business contracts.

It's unlikely that large companies are intentionally masquerading as small businesses, Eagle Eye's Murphy said.

"Deception is a rather small part of the explanation for this problem," he said.

Until late 2004, a large company could acquire a small business and roll it into its own corporate structure without ever changing the acquired company's size status, said Richard Vacura, a partner with law firm Morrison and Foerster LLP of McLean, Va.

"You ended up with what amounts to a large business performing the contract, and the agency still getting credit for a small-business contract," Vacura said.

A new regulation was adopted in December 2004. It requires that any small company that is bought by a larger one and either changes its name or is rolled into the larger company's corporate structure must report the change to the contracting officer overseeing the company's contracts. The company would be allowed to complete the term of the contracts, including option years, but the work would cease to count toward the contracting agency's small-business goals, Vacura said. The rule change, however, did not eliminate all loopholes in the regulations. Acquisitions made before December 2004 are exempt.

And if a larger company buys 100 percent of a smaller company's stock, leaves it as a subsidiary and does not change its name, the small company, even though it would be part of a much larger entity, would continue to be counted as a small business on its contracts, Vacura said. The smaller company would not, however, be allowed to compete for new contracts as a small business.

A fundamental problem remains: SBA's system requires companies to accurately update their own information–at all times, not only when a company is acquired–but it has no oversight of the process. During the course of a year, a company could outgrow its small-business size designations set by the North American Industrial Classification System codes. It would be up to the company to update its information in the Central Contractor Registry, a list of all federal contractors and their NAICS codes.

No oversight

There is no step in the process where a government official ever cross-checks information listed by a company on CCR, SBA's Hontz said. There is just too much activity to allow any oversight, she said. "To have somebody check the thousands of companies coming and going all the time is just not possible," Hontz said. "There are too many companies."

Although Eagle Eye's Murphy didn't have data on IT contracting alone, he said that, despite SBA's contracting foibles, small IT companies are doing well.

The U.S. Small Business Administration will continue battling Congress as it works to add funding the Bush administration opposes to two loan-guarantee programs for the year starting Oct. 1, the agency's regional administrator said during a visit to the Business Journal's offices.

The Senate this fall is expected to consider following the House of Representatives, which in June added funds to SBA's 7(a) and micro-loan programs for guarantees of $500 to $35,000. The House earmarked $40 million for 7(a) funding, and added $11 million for micro-loan funding – $10 million for technical help to business owners and $1 million for the loans.

William M. Manger Jr., SBA's administrator for the region that includes New York State, said the money would serve to cap the volume of 7(a) guarantees SBA can make, thus depriving some business people of the program's benefits.

"We would have to shut the program down. We would only be able to do the loans through January of 2007. That's crazy," said Manger, SBA's Region II administrator. "If we go back to a system where there's a partial subsidy to run the loan programs, that means there's a final cap on the number of loans that can be made."

Congress wants to fund the subsidy by cutting the budgets of SBA and three other agencies by $10 million each. That would force the layoff of 70 to 80 employees, Manger said. "I don't see how that's a win-win anywhere. We are hopeful the Senate will not take that up."

Earlier in July, the Senate Appropriations Committee held to the Bush SBA budget when it reported out a bill for the portion of the budget that includes the agency.

Sen. John Kerry (D-Mass.) had yet to decide on offering an amendment on the Senate floor to add subsidies for 7(a) and micro-loans, but will fight to contain loan fees, spokeswoman Kathryn Seck said. Kerry's the ranking Democrat on the Senate Committee on Small Business & Entrepreneurship.

Proponents of the higher loan, such as Rep. Nydia Velazquez (D-Brooklyn), have argued the extra money would benefit smaller businesses by lowering their fees. The proponents say that would help reverse a dip in the volume of SBA 7(a) loans.

Businesses can borrow up to $2 million under 7(a), with the agency guaranteeing up to $1.5 million.

From Oct. 1 through July 22, about $11.4 billion in 7(a) loan guarantees had been approved by the agency, down from $11.9 billion a year ago.

It's not the first time SBA has been in the ironic position of resisting more money from Congress for its operations. This budget squabble is different because Democrats are making the SBA more of an issue in this congressional election year. Hoping to derail the issue, President Bush this year has proposed his first budget increase for SBA – to $639 million next fiscal year, up $46 million over last year, but still about one-third less than its $900 million size when he took office.

The House has added $33.8 million to that budget, bringing it to $672.8 million, including $199 million for disaster loans. So far, the Senate has gone along with Bush.

"During the conference negotiations on SBA's appropriations, the difference between the House and Senate budget levels will be reconciled," said Kate Davis, a spokeswoman for Velazquez.

One professional who works with Westchester small-business owners praises the loan-guarantee programs.

"The programs are important and are worthy of funding." said Thomas Morley, director for the state Small Business Development Center region that takes in Westchester, Rockland and Putnam counties. "A lot of companies don't need it, but there are a lot of companies that do, and those companies can become very significant players."

Morley noted that SBA guarantees played important roles in the development of FedEx Corp., Staples Inc. and some of today's other corporate giants.

SBA said it agrees, but wants the programs to pay their own way through fees rather than rely on federal subsidies.

"The loans are now on a zero-subsidy from the taxpayer. That's a good thing," Manger said. "We're doing twice as many loans as the last year of the Clinton administration on less money from the taxpayer. Any way you look at it, that's a success story."

A Clinton-era SBA official says that success could be even greater if SBA received more funding from Washington. "It's not a cheap program, but it's a long-term investment. Regrettably, I'm not sure there's a cheaper way to do it," said Fred P. Hochberg, the SBA's deputy administrator and acting administrator from 1998-2001.

"It seems out of step that America's smallest entrepreneurs with the least amount of capital should have to go it alone more than any other segment of our economy," said Hochberg, now dean of Milano-The New School for Management and Urban Policy.

Lloyd Chapman, a persistent SBA critic and president of the American Small Business League in Petaluma, Calif., said the agency's fight with Congress reflected his view that the Bush administration is trying to starve SBA out of existence and shift its programs to the U.S. Commerce Department – a view SBA has emphatically denied.

The budget battle takes shape as SBA welcomes a new administrator. Steven C. Preston, executive vice president of strategic sources at The Service Master Co., whose holdings include pest control chain Terminix, was sworn in July 10 following a smooth confirmation by the Senate.

Manger said Preston has already identified one key priority: a better response to disasters than the slow going found by business owners damaged by Hurricane Katrina. To that end, Manger and all nine other regional administrators will attend a conference in New Orleans on the first anniversary of the disaster.

Other priorities of Preston will emerge in coming months, Manger said.

MINNEAPOLIS – On paper, 2005 was a very good year for Americans with small businesses. A "record breaking" $79.6 billion worth of federal contracts were given to small businesses, according to a press release issued by the Small Business Administration.
This is exciting news; small business, we're told (at least 10 times a week during election cycles) is the engine of innovation and hard work that drives the American economy.

So who are some of these little dynamos scooping up federal dollars? See if any of these names ring a bell: Northrop Grumman. Boeing. Bechtel. General Dynamics.

Since 2000, federal contracting has exploded in terms of annual volume, growing 55 percent to $377 billion in 2005. By law, at least 23 percent of that money should be awarded to small businesses - in order to nurture new ideas, the nimble exploitation of new economic opportunities, and the revitalization of neighborhoods that are down on their luck but trying to make a new start.

But nearly $5 billion of contracts - coded as "small business" - went to 13 of the largest government contractors, according to a recent review by The New York Times of data provided by Eagle Eye, a research firm based in Virginia. The same firm found that the percentage of federal contracts given to small businesses decreased last year from 20 percent to 17 percent.

Moreover, an unknown percentage of that 17 percent went to big businesses due to error, fraud, or loopholes. Some of the confusion surrounding these figures has been created by the Small Business Administration itself; newly appointed SBA administrator Steven Preston is refusing to release to the American public a list of firms coded as small businesses in fiscal year 2005.

A preference for massive, politically connected firms has been this administration's stock-in-trade. From Vice President Cheney's secret energy task force to the former industry lobbyists who weakened or destroyed federal environmental protections to the military contracts awarded to cronies of elected officials, a tone has been set: Big firms with Republican officers have prospered at the expense of transparency and the public good.

But small business has been central to this administration's economic policy. On issues ranging from fighting the estate tax to its aggressive campaign for tax cuts to its resistance to raising the minimum wage, the administration's war of words has been distinguished by its intense public devotion to the American small-business owner.

Putting its money where its mouth is - and was - wouldn't just help the Bush administration match its deeds to its rhetoric; it would be a politically shrewd way to court the votes of the millions of Americans who depend upon small businesses for their livelihoods.

From that perspective, using the SBA to rob small business on behalf of big business is a foolish long-term strategy.

But beyond that, it's also downright un-American. To the people of Western Europe, inventor and entrepreneur Ben Franklin represented the spirit and promise of America more than anyone else - including George Washington. Franklin turned new ideas into useful goods - everything from the lightning rod to an odometer to the revolutionary Franklin stove. And over the next couple of centuries, Franklin's spirit of industry - which he relentlessly flogged in a brand-building campaign that would turn Coca-Cola marketing executives green with envy - matured into a shorthand for the independent entrepreneurial spirit that remains one of America's most attractive features to the world as a whole.

Small businesses bring the small-scale but big-impact innovation of Ben Franklin into the modern era; as Republican leaders have said time and again on public occasions, small businesses are the front line of capitalism, and often the vehicles for helping outsiders and new immigrants get ahead.