Small businesses are supposed to get 23% of federal government contracts. Yet, big companies have been winning some of those jobs. New rules take effect tomorrow that are intended to change that. Steve Tripoli reports.

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SCOTT JAGOW: Small businesses are supposed to get a percentage of federal government contracts — 23 percent to be exact. But somehow, big companies have been getting some of those contracts. So, tomorrow, new rules take effect. They're supposed to address this problem.

But the small business community isn't exactly holding its breath. Steve Tripoli reports from the Entrepreneurship Desk.

Steve Tripoli: Small business owners are angry. They say that too many federal contracts marked as going to small-businesses continue to go to big businesses. The entrepreneurs and President Bush's Small Business Administration can't agree on the extent to which that's happening, or why.

Steve Preston heads the SBA. He doesn't think it's much of a problem. And besides, he says, the government isn't out to cheat anyone.

Steve PRESTON: It's less about something subversive or nefarious, and a lot more around people just not doing their jobs the way they need to.

Preston says simple data-entry mistakes are part of what's wrong. And small businesses that win contracts and then grow into big ones also skew the numbers.

Lloyd Chapman of the American Small Business League says Preston's just making excuses for a flawed contract-monitoring program.

Lloys CHAPMAN: The SBA doesn't want the public to realize that this program is largely smoke and mirrors.

Chapman accepts that small businesses grow or can be bought out by bigger competitors. But he says when that happens they shouldn't be able to be counted as small for as long as they are now. And he says that's not the worst of it.

CHAPMAN: There's been three federal investigations now that have found fraud as one of the reasons why large firms are getting small business contracts.

. . . including one from the SBA's own inspector general.

Chapman doesn't believe the SBA wants to crack down. He points to the agency's new regulation taking effect June 30th. Many businesses will have to report a change from small status sooner, but not until the regulation's been in effect for five years.

Chapman say that's not nearly soon enough, and other small-business people agree.

Cindy Frene: This is actually our backlot where we have just one vehicle, right now. It's part of our livery service.

Cindy Frene has owned her suburban Boston transportation business for 17 years. Like many other small-business owners she's come to see the SBA as more obstacle than advocate for small firms.

Frene has several state government contracts, and a few years ago she tried to qualify for federal work. But that's where she ran into a foul-up she says is typical of the SBA.

FRENE: I basically was turned down because I would have to have had proof that I was discriminated against because I was a woman. Which is laughable because, who would give me a letter that said they didn't hire me because I was a woman?

She sees the same unhelpful pattern in that new, five-year recertification rule that kicks in this month. Frene recertifies her small-business status every year. She has to do that for several state governments. She says it isn't onerous and the businesses handle most of the paperwork.

FRENE: If it's done as a matter of course for states, then why can't the federal government do it too? Rather than continue to put up barriers.

Frene says if companies reported their size annually the SBA would see how many of them are really big businesses taking contracts marked as small. Then it would be forced by law to reallocate more contracts to small firms.

The nonpartisan Government Accountability Office and several congressional committees seem to agree. They've joined small businesses in calling for the change.

PRESTON: There are many people on the other side as well.

That's SBA head Steve Preston. He says annual recertification is too onerous for many dynamic young companies.

Lloyd Chapman of the American Small Business League rejects that argument. He says waiting five years means billions in losses for small businesses. And it flaunts the intent of the 50-year-old Small Business Act.

CHAPMAN: I'm not gonna buy anyone's excuse that it's not feasible to enforce a piece of legislation that's been on the books for 50 years.

The irony here is that a previous SBA inspector general agreed with Chapman. Two years ago, he issued three reports saying that big businesses are unjustly hogging small-business contracts.

We asked the current inspector general via e-mail if those problems still exist, and whether they're adequately addressed by the June 30th rule change. His lawyer's answer? No comment.

I'm Steve Tripoli for Marketplace.

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Without a doubt, the federal government is the largest purchaser of goods and services in the universe, spending more than $300 billion a year on everything from pencils to fighter jets. And small businesses continue to watch those big, fat federal contracts get scooped up by businesses that shouldn't-under any sane definition of "small business"-qualify for them.

The unbalanced nature of federal small business contracting will continue for at least five more years, following the passage of new guidelines to take effect June 30. The rules have one tireless small business advocate fuming. It's a complex issue, yet it's very pure, says Lloyd Chapman, president of the American Small Business League (ASBL). He says the U.S. Small Business Administration continues to pass laws that are designed to keep government procurement contracts going to big business. "The key is not to stop granting contracts to large corporations," he says, "but to stop reporting them as small business contracts." He stresses that it's the lying that's got him so angry.

Change coming?

According to Arthur Collins, associate administrator of the Office of Government Contracting at the U.S. Small Business Administration, businesses with contracts that are still in their "base years"-meaning that until this initial period is up, some up to 5 years out of a 10-, 15- or 20-year contract-can continue doing business with the federal government, regardless of the legitimacy of their small business status. Only after the base period has passed will small businesses be required to re-certify annually during what are called "option years," when a contract is evaluated and may be renegotiated. By then the size standards will likely have been increased, according to Tim Walsh, president and CEO of epipeline Inc., a paid research and services-oriented matchmaking database designed to help would-be federal procurement contractors build their strategic plans. Walsh reiterates a quote by Tom Johnson in a recent "Set Aside Alert." He says, "Size standards are expected to be increased to allow for the fact that these small contractors will be getting larger and larger contracts."

Walsh says there are trillions of dollars to be had in federal procurement contracting money over the next several years. And with the legislation changing, he is hopeful that this will mean more opportunity for his company to assist small and large businesses in winning government contracts. SBA's "annual re-certification" rule will go into effect June 30. Chapman insists that it's aimed at keeping existing Fortune 1000 defense contractors for at least five additional years. For example, he says that L-3 Communications is coded as a small business, and is a top 2006 recipient of small business procurement contracting money at more than $600 million per year. Other "small businesses" under the new ruling include Lockheed Martin and Boeing.

'Unfairness'

A bill (H.R. 1873) that passed in the U. S. House of Representatives in May proposes several changes. Among them are:

1) Amending of the definition of the term "bundled contracts," restricting the bundling of contracts that were formerly performed by small businesses;

2) Increasing the percentage goal for contracting goods and services to small businesses from 23 to 30 percent;

3) Increasing the goal for disadvantaged and women-owned businesses from 5 to 8 percent.

The bill would "require the SBA to develop new regulations and new databases and to conduct other efforts to encourage and promote the use of small business in government." "I would call it the Small Business Unfairness in Contracting Act," says Chapman, because, he insists, H.R. 1873 allows Fortune 100, 500 and 1000 companies to keep their small business contracts. The SBA claims that the annual re-certification rule taking effect June 30 requires that all contractors re-certify their small business status annually. "The truth is that the SBA has written policies in the last decade that have allowed Fortune 500 corporations to get small business contracts. I've seen investigations finding as many as 5,000 large businesses in the government's database of small businesses, and reports on some of the major new networks indicating that 66 of those were receiving over $12 billion per year," he says. The increase in the percentage of the federal procurement pie to nearly $80 billion worth of set-aside contracts for small businesses last year actually went to large businesses, says Chapman.

Mistakes made

There have been some mistakes, according to Kate Davis Gilman, press secretary for the U.S. House of Representatives Committee on Small Business. She says, "A report did find that $12 billion went to ineligible entities and that they found about 2,000 contracts that were in the [U.S. SBA's] database that were ineligible; they were either large corporations, non-profit, or companies that had grown large." Gilman says that H.R. 1873 requires the businesses that are in the registry to re-certify every year and it also requires the agencies to go through their contracts every year and pull out any large businesses that have received a contract that has been counted as small. "I think it's a big improvement over what's out there right now," she says. Gilman says she believes the Senate will amend the House's bill.

According to Andrew M. Langer, manager of regulatory policy at the National Federation of Independent Business (NFIB) in Washington, NFIB members care more about health care, tax issues and reducing regulatory paperwork than about this complex legislation. Federal contracting ranks 69 of 75 recent issues those members are concerned about, says Langer. He says the problems with small businesses doing business with the federal government stem mostly from the fact that "the federal government does a bad job of contracting for small business. It's not easy for them to do it. It is much easier for them to create these sort of massive, no-bid sort of contracts that go to large businesses that are out there."

Compliance

Difficulties arise because it is a zero-sum game, says Gordon G. Miller, III, president and CEO of G3 Systems, Inc. The Internet and multimedia design and consulting firm in Blacksburg was founded in 1993. For over a decade, it has done work with the Department of Defense as a large business subcontractor under the Small Business Innovative Research (SBIR) program. Agencies have a set amount of funding and when companies grow out of their small business status, the money does not get replenished if they have to hire a replacement subcontractor that is a legitimate small business. This is how small business money can appear and actually does end up going to an illegitimate small business subcontractor-the company has simply graduated out of its small size industry classification. For example, he says, a company wins a $100 million 10-year prime contract and it hires a small business as a subcontractor for $10 million (at $1 million per year for 10 years) and due to its success, that company now becomes a large business. The problem is that there is only $90 million left to then hire another small contractor to finish the work, so primes are not inclined to spend another $10 million on a small business sub just to say that they are meeting their small business percentage promise.

Another problem occurs if the prime contractor fails to sub out at least 23 percent of the work to the small business as promised, says Mike O'Neill, business development specialist with the SBA in Richmond. Then the prime would not receive the monetary incentive (usually 1-2 percent of the value of the contract) and would receive a less than "outstanding" performance rating on the annual progress evaluation. No fines are imposed. Similar performance evaluation repercussions exist for agencies not meeting small business contracting goals. However, companies that misrepresent size criteria can be charged with a criminal offense, which could result in jail time. The SBA makes this decision, says O'Neill.

Oversight

Part of the problem with compliance, says O'Neill, is that the current administration has pared down the cadre of SBA officers-"cops on the beat," who see that the agencies follow the rules-from 400 procurement center representatives (PCRs) to 40 in the country. And with the average age of federal employees over 50 years, and the failure to prepare new federal employees to take the place of those who will retire in the next 10 to 15 years, the problem only seems to be getting worse. There is some debate about tougher legislation or enforcing legislation on the books. O'Neill says that tougher laws are needed. Langer favors enforcement of the existing rules. What needs to happen, he says, is that good questions need to be asked of the agencies. Among them:

1) What do you consider a small business?

2) Why are you giving small business contracts to businesses that are not small?

3) Why are you in favor of grandfathering in businesses that have grown to be big businesses?

"[It] really comes down to an oversight issue and an issue of the agencies themselves making it a priority," Langer says. "If the problem isn't that the law isn't strong enough, but that the laws are simply being ignored, then the problem is an oversight problem."

Obviously, there is more than one perspective here. Chapman at the ASBL says small business needs a stronger voice in Congress, among other things. Langer at the NFIB says it's an issue of oversight with a solution coming from an increased policing of federal contracting activities with small business. Gilman in the House says H.R. 1873 is huge step in the right direction and it's more than what is out there right now. O'Neill at the U.S. SBA believes that Congress is proposing legislation that will improve the situation. Meanwhile, the SBA institues a new and controversial "annual re-certification rule" that goes into effect this month. And Walsh at epipeline is hopeful about the opportunities with the trends he's identified-especially in the area of services contracts and with veterans, women and minorities.