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Shaky System

BY ANGELLE BERGERON

The federal government’s current, tiered system for counting small business participation on federal projects places an unfair burden on the construction industry, and doesn’t accurately reflect how well construction is doing in getting dollars to small, minority, and disadvantaged businesses. The AGC of America and its members want to change the U.S. Small Business Administration’s (SBA’s) formula for calculating small business participation in federal construction projects, which they say would allow prime contractors increased flexibility in selection of small subcontractors, and more accurately demonstrate how much the construction industry truly supports and is dependent upon small businesses.

“More than 80 percent of AGC’s 33,000 members are small businesses,” says Jimmy Christianson, AGC’s director of government affairs, federal & heavy construction division. A typical definition of a small construction business is one that employs fewer than 20 people. For SBA’s purposes, the North American Industry Classification System (NAICS) uses average annual earnings. For general and heavy construction (except dredging), NAICS says that threshold is $33.5 million. The annual earnings cap for specialty trade contractors to be considered a small business is $14 million.

The dependence upon small businesses to deliver construction projects seems obvious to those in the industry. “The process of construction depends on and requires small businesses because so many of the specialty trades — from bricklayers, to carpenters, to installers — are inherently small businesses,” says Joel P. Zingeser, vice president of planning and business development, Grunley Construction Company, Inc., Rockville, MD, and vice chairman of AGC’s federal & heavy construction division.

Yet, according to the way the SBA calculates small business participation, the federal government hasn’t met its goals in years. “The current, federal government-wide small business contracting goal for prime awards is 23 percent,” Christianson says. “I can’t remember the last time the federal government reached that 23 percent goal.”

THE PROBLEM: COUNTING ONLY FIRST-TIER SUBCONTRACTORS
The primary reason construction is consistently not meeting the SBA’s 23 percent goal is the way small businesses are counted. “The SBA only counts first-tier subs as small businesses toward their goals,” Christianson says. “Think of a food pyramid with meats and dairies at the top as the prime contractor. The next level is the first tier of subcontractors, with each level below designated as the second tier, third tier, and so forth.”

Counting only the first tier does not accurately capture the true amount of money that flows down to subcontractors who hire second- and third-tier firms, who actually perform the bulk of the work, Zingeser says. “The current system leaves prime contractors with subcontractor choices for larger projects that are beyond the capacity (especially bonding capacity) of small businesses, even though it is well understood that much of the work will flow down to small businesses.”

For example, if the federal government lets a $100 million project that has a $30 million mechanical component, a mechanical company capable of handling that is not likely going to be a small business, Zingeser says. Even though that contractor doesn’t satisfy credits for small business participation, he likely will farm out a large portion of that work to what the SBA considers third- and fourth-tier subcontractors. “If you follow the money, you will see that many more small business dollars are accounted for than the SBA is keeping score,” Zingeser says. “That means that full credit is not taken by the contracting government agencies or their construction contractors.”

The SBA’s failure to count that participation below the first tier often puts subcontractors in the position of assuming the role of general contractor and then bringing generals under them to complete projects, Zingeser says. “It becomes a charade. It isn’t a real viable business model,” he says. “It’s a relationship that doesn’t meet the real goal of the program, which is to grow small business.”

Allowing prime contractors to report small business subcontracting at all tiers would demonstrate true small business participation on a federal contract, and would show more accurately how the construction industry supports and is dependent upon small businesses, Zingeser says. “Changing the scoring system will also let prime contractors determine the best mix of large and small subcontractors, according to capacity and availability.”

Since most contracting firms are regionally based, it often happens that there may not be enough qualified small businesses in certain regions or sparsely populated areas to fulfill the SBA mandates, Christianson says. “If you have one contractor who can bring in someone from the outside to do the work, that contractor will have the advantage, to the detriment of the local workforce.”

ADMINISTRATIVE HURDLE
For many in the industry, it’s simply a frustrating, fruitless endeavor to attempt to meet goals that everyone knows are not truly representative of reality. “Since the results entered into the government system are not including all the small businesses that are actually participating, we are not showing the results that we are actually achieving,” says Nigel Cary, former president, Cox Construction Co. of San Diego, Calif. and chairman of AGC’s U.S. Army Corps of Engineers Committee. By counting only first-tier subs, the SBA is creating misleading record keeping for contractors doing federal work, Cary says. “When only a portion of what is subcontracted is being counted, federal contractors have to go to greater efforts to meet the goal,” he says “It’s a record-keeping thing. If more tiers were counted, it would reduce their workload and make it easier to show they have met the goals.”

Cox is a small business this year, and therefore not currently burdened with this responsibility. However, since 80 percent of the firm’s work is federal, Cary is quite familiar with the failings of the first-tier-only system. “It is costing more to break up subcontracting packages to meet goals, rather than what works best for the project,” he says. “Breaking the work up into packages that are artificial or not the most efficient way to do business is less productive and costs more.”

DISPROPORTIONATE REPRESENTATION
What makes the SBA’s 23 percent participation even more onerous for construction is the disproportionate burden placed on the industry to meet across-the-board government quotas. “Government contracting is not just construction, but construction is often called upon to meet goals when other sectors fall short,” Christianson says.

John W. Barotti, senior vice president, Skanska USA Building, Inc., of Parsippany, N.J. and chairman of AGC’s federal & heavy construction division, says that the burden on construction to produce higher small business participation is dictated by the requirements of the various government agencies letting the contracts. “If the Army and Navy are buying airplanes and battleships and they can’t contract with small businesses to do that, agencies have to make up that quota shortfall with construction,” Barotti says. “When they are buying $60 billion worth of F-18s in a given year, and doing it from some huge airline company, all of a sudden, that big dollar value is out of the [small business] equation. All of a sudden, construction has a 70 percent goal to meet, and that is unrealistic.”

Barotti says the Army released a statement this year that he believes is one of the best comments he’s heard on the first-tier accounting system. “The Army said, rather than count lower tiers, which may add administrative burden, let’s just lower the percentage goal,” Barotti says.

“After five years of tracking project performance for first-tier contracting for small businesses, the Army has never gone over 40 percent, even though their goal is 70 percent.”

In 2009, Zingeser presented AGC’s arguments against the current system of goals for small, minority and disadvantaged businesses to the U.S. House of Representatives’ Economic Development, Public Buildings and Emergency Management Subcommittee to the Committee on Transportation and Infrastructure. He suggested then that the federal government’s shift to Electronic Subcontractor Reporting System (eSRS) a few years ago provides the opportunity to easily track and report small business subcontractors on multiple tiers. “Everyone has routinely used eSRS for a few years, so it would be fairly simple to incorporate lower tiers,” Zingeser says.

But the Feds say that changing the first-tier-only system will require new legislation. “Subcontracting plans are required from large business prime contractors and large business subcontractors where the value of the subcontract exceeds the subcontracting plan threshold,” says Tiffani Shea Clements, public affairs specialist for the SBA. “By law, small business prime and subcontractors are not required to have a subcontracting plan. To capture all subcontracting data, at every tier, regardless of value, would require legislation, system changes and would significantly increase the recordkeeping and reporting requirements for both large and small businesses.”

WHAT NEXT?
Despite persistent failure to meet the 23 percent goal, the House Small Business Committee passed legislation in what is now included in the National Defense Authorization Act for fiscal year 2013 to increase that goal to 25 percent. The House approved the NDAA May 18. Notably, President Obama opposed raising the small business goal to 25 percent in the following, official, White House statement that concurs with AGC’s position.

“The Administration strongly supports efforts to increase federal contracting with small businesses, but opposes section 1631, which would establish a laudable but overly ambitious government-wide small business procurement goal and unrealistic individual agency goals that could undermine the goals process and take away the government’s ability to focus its efforts where opportunities for small business contractors are greatest.”

However, if Congress wants to increase small business goals, it can do so most expediently by accurately accounting for small business participation. That means counting subcontractors below the first tier, Christianson reiterates. “Our next step, and probably our best bet for correcting the problem during this current session of Congress, is to work for inclusion of lower tiers in a conference committee for NDAA,” Christianson says. “That probably won’t happen until after the election, in the lame duck session of Congress.”

For contractors who perform federal work, the first-tier system is a frustrating, fruitless, political loophole, and an unnecessary farce that requires everyone involved expending needless energy. “The problem has been that someone says you have to have 70 percent participation on a project when everybody in the room knows it’s impossible at the first tier,” Barotti says. “We don’t like having to acknowledge something and proceed forward when we know it’s unrealistic. Something should be done to fix it. We’ve been telling the king he has no clothes on, but no one is willing to make a change.”