Aero CNC, Inc., No. SDBA-106 (August 10, 1999) Docket No. SDBA-99-05-13-06 UNITED STATES OF AMERICA SMALL BUSINESS ADMINISTRATION OFFICE OF HEARINGS AND APPEALS WASHINGTON, D.C. ______________________________ ) IN THE MATTER OF: ) ) Docket No. SDBA-99-05-13-06 Aero CNC, Inc. ) ) Decided: August 10, 1999 Petitioner ) ______________________________) APPEARANCES William M. Penny, Jr., Esq, Wilson, Bakutis, Jones, Penny, McCully & Sawyer, PC For Aero CNC, Inc. David L. King, Esq. For the Small Business Administration DIGEST The standard of review applied by this Office in an appeal of an SBA determination denying a firm's admission to the Small Disadvantaged Business (SDB) program is whether the SBA's determination was arbitrary, capricious, or contrary to law. This Office will not consider on appeal evidence of changes to an SDB applicant firm's corporate structure, made after SBA's determination. The applicable regulation requires that a disadvantaged full-time manager hold the highest officer position (either President or Chief Executive Officer) in a firm applying for SDB certification. The publication of regulations in the Federal Register is constructive notice of their content to all affected, and they are binding regardless of actual knowledge of the regulations' content or of the hardship resulting from innocent ignorance of their content. The requirements of a general corpus of law, such as the Texas Business Corporation Act, cannot supersede SBA's more specific SDB regulations, promulgated by the Administrator under her authority to do so "as [s]he deems necessary" to implement the purposes of the Small Business Act. INITIAL DECISION HOLLEMAN, Administrative Judge: Jurisdiction This appeal petition is decided under the Small Business Act of 1958, 15 U.S.C. Sections 631 et seq., and 13 C.F.R. Parts 124 and 134 (1999). Issues What standard of review does this Office apply to an appeal from SBA's determination denying an applicant admission to the Small Disadvantaged Business (SDB) program. Whether this Office will consider on appeal evidence of changes to an SDB applicant firm's corporate structure, made after the SBA's determination. Whether a disadvantaged full-time manager must hold the highest officer position (either President or Chief Executive Officer) in a firm applying for SDB certification. Whether regulations published in the Federal Register are binding on all affected, regardless of whether they had actual notice of the regulations' content. Whether the provisions of the Texas Business Corporation Act may supersede SBA's SDB regulations. I. BACKGROUND A. Procedural Background On December 23, 1998, Aero CNC, Inc. (Petitioner) applied for certification as a Small Disadvantaged Business (SDB) with the Small Business Administration's (SBA or Agency) Acting Assistant Administrator for Small Disadvantaged Business Certification and Eligibility (Acting AA/SDBCE). 13 C.F.R. Section 124.1008(a). On April 1, 1999, the Acting AA/SDBCE denied certification. Petitioner -- through counsel -- filed an Appeal Petition with this Office on May 8, 1999. On May 17, 1999, the Administrative Judge issued a Notice and Deficiency Order (the Order), ordering Petitioner to correct specific deficiencies in its Appeal Petition. The Order also ordered SBA to file either the Administrative Record (AR) within 15 days of the service of an Appeal Petition conforming with the Order, or a statement that it would file the AR, together with an Answer, within 45 days of service of the Appeal Petition. On May 21, 1999, Petitioner complied with the Order. On June 15, 1999, the Administrative Judge issued an Order to Show Cause why he should not refuse to consider SBA's Answer, because it had failed to comply with the Order. On June 21, 1999, SBA responded, asserting its failure was due to the Agency Representative's misinterpretation of the Order, and asserting it would file the AR and an Answer by the due date. On July 6, 1999, SBA timely filed the AR, together with its Answer. [1] On July 20, 1999, Petitioner moved to strike the Agency's Answer for failure to comply with the Order to Show Cause. It asserted the Agency Representative's stated reason for noncompliance misinterprets the clear requirements of the Order, and does not excuse the failure to file. B. The SDB Application The following facts, based on the AR, are uncontroverted. Petitioner was incorporated as Burleson CNC, Inc., in the State of Texas, on March 5, 1981. On January 2, 1997, Petitioner changed its name to Aero CNC, Inc. The firm's primary Standard Industrial Classification codes are 3728, Aircraft Parts and Auxiliary Equipment, Not Elsewhere Classified, with a corresponding 1,000-employee size standard; and 3599, Industrial and Commercial Machinery and Equipment, Not Elsewhere Classified, with a corresponding 500-employee size standard. On January 3, 1983, Richard A. Layne, a nondisadvantaged individual, became Petitioner's sole shareholder. On December 1, 1992, Mr. Layne transferred 60% of Petitioner's stock to his wife, Mary A. Layne, a Native American and the individual upon whom Petitioner's claim of eligibility is based. Ms. Layne is Petitioner's Vice-President, Secretary, Treasurer, and one of two members of the Board of Directors. Mr. Layne is President and the other member of the Board. Mr. Layne's compensation was more than twice as much as Ms. Layne's in the years 1996 and 1997. Ms. Layne's resume describes her duties as overall management of accounting, incoming and outgoing paperwork, and various front office procedures. Mr. Layne's resume describes his duties as head of finance, production control, quality control manager, contract negotiations, and "day-to-day operations of a small business in a changing world market." C. The SBA Determination On April 1, 1999, the Acting AA/SDBCE issued her determination, denying Petitioner's request for SDB certification because Ms. Layne did not hold the position of President or Chief Executive Officer of the firm, as required by 13 C.F.R. Section 124.106(a)(2). Mr. Layne is President and, therefore, the Acting AA/SDBCE concluded he was responsible for day-to-day management of the firm. [2] D. The Appeal Petition Petitioner submits with its Appeal Petition new evidence which it urges the Administrative Judge to consider. The new evidence includes documentation of Mr. Layne's resignation as President; the minutes of a special Board meeting electing Ms. Layne to that office; a change in the composition of the Board of Directors, a copy of the "SDB Application Instructions and Tips" Petitioner received from the SBA field office; and statements from Petitioner's customers attesting to Ms. Layne's management of Petitioner. Petitioner asserts the SBA's determination is arbitrary, capricious, and contrary to law, because it was unaware of the regulatory requirement that the individual upon whom its claim of eligibility was based had to be President or Chief Executive Officer. SBA never included it, either in the "SDB Certification Checklist" or the "SDB Application Instructions and Tips" Petitioner received from SBA. Petitioner further asserts that, even if Ms. Layne was not the President or Chief Executive Officer, she works longer hours than any employee, and could have designated herself President had she been aware of the requirement. Ms. Layne is Petitioner's majority shareholder, and a full-time manager with substantive duties, including all financial matters, accounts payable and receivable, purchase orders, and customer relations. Ms. Layne thought it would be helpful for Mr. Layne be President when negotiating with other firms and in submitting bids and proposals. Petitioner thus asserts she meets the SDB application criteria. Finally, Petitioner relies on its Bylaws and the Texas Business Corporation Act for its argument that the Board of Directors is responsible for managing the corporation. Thus, Petitioner asserts, to deny it admission to the SDB program on this basis was arbitrary, capricious, and contrary to SBA's own regulations. E. The SBA Answer SBA opposes Petitioner's introduction of new evidence, because the Administrative Judge's review is limited to the facts before SBA at the time of the determination, unless Petitioner establishes that manifest injustice would occur if the appeal were limited to the record. SBA asserts Petitioner has failed to do so. SBA asserts the determination was not arbitrary, capricious, or contrary to law, because the record clearly demonstrates Ms. Layne did not satisfy the explicit regulatory requirement that, at the time SBA made its determination, she must be Petitioner's highest ranking officer and in control of day-to-day management of the firm. Indeed, SBA asserts Petitioner's own evidence clearly establishes Mr., not Ms., Layne was in control of the firm's day-to-day operations. Finally, ignorance of the regulation is irrelevant. II. DISCUSSION A. Threshold Matters Petitioner filed its Appeal Petition within 45 days after SBA denied its SDB application and, thus, it is timely. 13 C.F.R. Sections 134.202(a), 134.204(e)(2). The Administrative Judge must first dispose of threshold matters. The Administrative Judge DENIES Petitioner's Motion to Strike the Agency's Answer. While the Agency initially was tardy in its response to the Administrative Judge's interim Order, it filed the AR and its Answer timely; and Petitioner has failed to establish the Agency's action prejudiced it in any way. The Administrative Judge EXCLUDES Petitioner's proffered new evidence. The Administrative Judge notes his review of an SDB determination is explicitly limited to the facts before SBA at the time of the determination, and to the arguments on appeal. 13 C.F.R. Section 124.1008(f)(3)(ii). The Administrative Judge will admit new evidence only if he determines that manifest injustice would occur if he does not do so (Id.); that is, if his failure to admit the evidence would be plainly wrong, and would result in substantial prejudice to the Petitioner, such as would shock the judicial conscience. Blakey v. Continental Airlines, Inc., 992 F. Supp. 731, 738 (D.N.J. 1998); Maynard v. Central Intelligence Agency, 986 F.2d 547, 567 (1st Cir. 1993). Petitioner's proffer of new evidence does not meet this standard, because it is irrelevant to the issue here: whether the Acting AA/SDBCE's decision, on the basis of the record before her at the time, was arbitrary, capricious, or contrary to law. 13 C.F.R. Section 124.1008(f)(3)(ii); Matter of IRECOR, Inc., No. SDBA-104 at 5-6 (1999). Here, Petitioner took remedial action only after receiving the SBA determination, and attempts to enter evidence of that action into the record. Petitioner seeks a second chance at SDB certification, which is not the purpose of the appellate process. B. The Merits of the Appeal When a firm applies for SDB certification, it must demonstrate to the AA/SDBCE, by a preponderance of the evidence, that those individuals claiming disadvantaged status own and control the firm. 13 C.F.R. Section 124.1008(c)(2). In order for the AA/SDBCE to determine whether the firm has met that burden (13 C.F.R. Section 124.1008(f)(1)), the Agency must examine the relevant data and articulate a satisfactory explanation for its action, including a "rational connection between the facts found and the choice made." IRECOR, supra at 5 (citing Motor Vehicle Mfrs. Ass'n of the United States, Inc. v. State Farm Mut. Auto. Ins. Co., 461 U.S. 29, 43 (1983)) (citing Burlington Truck Lines, Inc. v. United States, 371 U.S. 156, 168 (1961)). In considering an Appeal Petition, OHA reviews the AA/SDBCE's determination. OHA's standard of review is whether the record demonstrates the SBA's determination was "arbitrary, capricious, or contrary to law." 13 C.F.R. Section 124.1008(f)(3)(ii). The scope of review under the "arbitrary and capricious" standard is narrow, and OHA cannot substitute its judgment for that of the Agency. State Farm, supra at 43. In reviewing SBA's determination, OHA must consider "whether the decision was based on a consideration of the relevant factors and whether there has been a clear error of judgment." IRECOR, supra at 5 (citing Bowman Transportation, Inc. v. Arkansas-Best Freight System, Inc., 419 U.S. 281, 285-286 (1974)). The issue on appeal here is whether the SDB applicant firm is owned and controlled by socially and economically disadvantaged individuals. 13 C.F.R. Section 124.1001(b). To determine whether firms meet this criteria the SDB program has adopted the criteria previously used in the 8(a) program, 13 C.F.R. Section 124.1002(a). The specific regulatory criterion at issue here is that a disadvantaged full-time manager must hold the highest officer position (either President or Chief Executive Officer) in an applicant firm. 13 C.F.R. Section 124.106(a)(2) (emphasis added). The regulation is explicit and has no exceptions. The record evidence is clear and undisputed. Mr. Layne, a nondisadvantaged individual, not Ms. Layne, the disadvantaged individual on whom Petitioner's claim of eligibility is based, was President when the Acting AA/SDBCE made her determination. The Administrative Judge rejects Petitioner's argument that it was unaware of the regulation, and properly relied upon the checklist and instructions SBA provided. The regulations were properly promulgated: They were published in the Federal Register for notice and comment, and republished as a final rule. 62 Fed. Reg. 43584, 43602, 43621 (August 14, 1997) (proposed rules); 63 Fed. Reg. 35726, 35744; 35767, 35773 (June 30, 1998) (final rules). It is settled law that such publication is constructive notice of their contents to all affected. They also are binding, regardless of actual knowledge of the regulations' content or of the hardship resulting from innocent ignorance. Bennett v. Director, Office of Workers' Compensation Programs, 717 F.2d 1167, 1169 (7th Cir. 1983) (citing Federal Crop Insurance Corp. v. Merrill, 332 U.S. 380, 384-85 (1947)). [3] Because the regulations were binding on this application, Petitioner's reliance upon the checklist and instructions, and its failure to inform itself of the regulations do not exempt it from the regulatory requirements. Similarly, the Administrative Judge rejects Petitioner's argument that Petitioner satisfied the regulatory requirement, because Ms. Layne has the power to name herself President. An unexercised right to effect a change in control does not in itself constitute control, regardless of how easily it may be exercised. 13 C.F.R. Section 124.106(a)(5). Further, Petitioner's Bylaws and the Texas Business Corporation Act cannot overcome the explicit SBA regulatory requirement that a disadvantaged individual hold the post of President. The requirements of a general corpus of law, such as the Texas Business Corporation Act, cannot supersede SBA's more specific SDB regulations, promulgated by the Administrator under her authority to do so "as [s]he deems necessary" to implement the purposes of the Small Business Act. 15 U.S.C. Section 634(b)(6); Size Appeal of Phillips National, Inc., No. 4332 at 8 (1998). Accordingly, the Administrative Judge concludes SBA's determination was not arbitrary, capricious or contrary to law but, instead, was based on the specific regulatory requirement. Because this issue is dispositive, the Administrative Judge need not consider the parties' other arguments. III. CONCLUSION Based on the Administrative Judge's conclusion that the SBA's determination was not arbitrary, capricious or contrary to law, he AFFIRMS the determination, and DENIES the Appeal Petition. This is the initial decision of the SBA. Absent a request for review, this decision will become the SBA's final decision 30 days after the date of this decision. 13 C.F.R. Sections 134.227(b), 134.228(a) (1999). ____________________________ CHRISTOPHER HOLLEMAN Administrative Judge _________________________ [1] As part of its Answer, SBA requested permission to withhold one document, claiming the deliberative process privilege. On July 19, 1999, the Administrative Judge issued an Order finding SBA's claim of privilege deficient; he ordered SBA either to restate its claim of privilege or to file the document. On July 27, 1999, SBA filed an unredacted copy of the document in question. [2] SBA also denied Petitioner's request for certification for another reason, because Ms. Layne did not control Petitioner's Board of Directors, as required by 13 C.F.R. Section 124.106(d)(2). Petitioner's Bylaws required the presence of a majority of Directors for a quorum and to conduct Petitioner's business. Thus, the Acting AA/SDBCE reasoned, Mr. Layne, the non-disadvantaged individual, had negative power to control Petitioner because his vote was necessary both for a quorum and to transact any business. Petitioner asserts that, under its Bylaws, Ms. Layne's 60% interest authorizes her to call a meeting at any time and replace the Board of Directors. In its Answer, SBA concedes Ms. Layne controls the Board of Directors, so that issue is not before this Office. But see 13 C.F.R. Section 124.106(a)(5) (an unexercised right to effect change in control does not in itself constitute control). [3] In addition, the Administrative Judge notes the requirement that a disadvantaged individual hold the position of President or Chief Executive Officer of an 8(a) applicant has been in effect for some time. See 13 C.F.R. Section 124.104(a)(2) (1998). Posted: August, 1999