Marine Tech, L.L.C., No. 4635 (May 11, 2004) Docket No. SIZ-2004-04-15-23 UNITED STATES OF AMERICA SMALL BUSINESS ADMINISTRATION OFFICE OF HEARINGS AND APPEALS WASHINGTON, D.C. ) SIZE APPEAL OF: ) ) Marine Tech, L.L.C. ) Docket No. SIZ-2004-04-15-23 ) Appellant ) Decided: May 11, 2004 ) Solicitation No. W911XK-04-B-0003 ) Department of the Army ) Detroit District, Corps of ) Engineers ) Detroit, Michigan APPEARANCES Marvin T. Fabyanske, Esq., Richard G. Jensen, Esq. Fabyanske, Westra & Hart, P.A. for Appellant DIGEST Where a firm established three years ago, was a subsidiary of a large firm which sold it to an individual who was the firm's Vice President and became through the sale the firm's sole owner; the large firm provided the initial financing for the sale; guaranteed a line of credit to the firm; and continues to assist financially and economically the firm, including renting space to it and purchasing promissory notes on which the firm almost defaulted; and a line of fracture between the two has not been established, the two firms will be considered affiliates both under the newly organized concern and the totality of circumstances rules. The mere passage of time does not end the affiliation of a newly organized concern with the large business from which it was spun off. Rather, there must be a clear fracture between the new firm and the older, large firm. DECISION BLAZSIK, Administrative Judge: Jurisdiction This appeal is decided under the Small Business Act of 1958, 15 U.S.C. Section 631 et seq., and 13 C.F.R. Parts 121 and 134. Issues Whether a firm spun off from a larger firm, which continues to receive financial and economic assistance from the large firm, and a clear fracture between the two firms has not been established, are affiliates under the newly organized concern and the totality of circumstances rules. Whether the mere passage of time ends affiliation under the newly organized concern rule where a clear fracture between the new firm and the older, large firm has not been established. Facts On January 30, 2004, the Contracting Officer (CO) for the Department of the Army, Detroit District, Corps of Engineers, in Detroit, Michigan, issued this small business set-aside solicitation for "Maintenance Dredging at Duluth/Superior Harbor."The CO assigned to the solicitation North American Classification Industry System (NAICS) code 237990, having a $17 million annual receipts size standard. Initial bids were due on March 2, 2004. On March 8, 2004, M.C.M. Marine, Inc. (Marine) filed a protest against the small business size status of Marine Tech, L.L.C. (Appellant). Also, on March 10, 2004, the CO filed a protest against Appellant's size status. Both protests alleged that Appellant is affiliated with Northland Constructors and other businesses which are all controlled by James L. Holmgren (Holmgren). The alleged affiliation would render Appellant other than a small business. The alleged affiliates will hereby be referred to as "the Northland Group" or "the Northland Group/Holmgren." On March 11, 2004, the CO referred Marine's and his own protest to the Small Business Administration's (SBA) Office of Government Contracting-Area IV (Area Office) for a size determination. Size Determination On March 31, 2004, the Area Office issued its size determination. Based on information received from Appellant, the Area Office made numerous factual findings. Appellant, established on March 1, 2001, alone, is small for the applicable size standard. Theodore R. Smith (Smith) owns all of Appellant's stock and is its sole member. Appellant's SBA Form 355 showed that there have been financial dealings and obligations between Appellant and the Northland Group/Holmgren from the time of Appellant's establishment to the present. The facts also showed that Holmgren helped finance Smith's purchase of Appellant. Also, Holmgren co-signed for Appellant's line of credit, and Holmgren agreed to sign as an additional guarantor on bonds for Appellant. Holmgren is the sole owner of the Northland Group, which is undisputedly a large business. Additionally, the Northland Group signed or is expected to sign "documents" to help Appellant receive indemnification and credit guarantees for award of the contract. The Area Office determination also noted that, during the course of the size investigation, the SBA learned that the Northland Group/Holmgren financed Smith's purchase of Appellant from Marine Tech of Duluth, Inc. Prior to March 1, 2001, the latter firm was a subsidiary of the Northland Group. On August 7, 2001, Smith entered into a Business Security Agreement with the Northland Group, signed a $1.3 million promissory note to the Northland Group, and a $1.1 million promissory note to U.S. Bank. Additionally, the Northland Group co-signed for Appellant's line of credit for the first year of the latter's existence. After Appellant defaulted or was about to default on these notes, Holmgren purchased the note from U.S. Bank and the note from the Northland Group. He also co-signed or guaranteed the current line of credit for Appellant from the Republic Bank. The Area Office inferred from these facts that Appellant has been dependent upon the Northland Group/Holmgren, both financially and commercially, during its entire three-year existence. The Area Office also noted that there is no evidence of record that there has been a clear line of fracture between Appellant and the Northland Group/Holmgren and Appellant remains to this time financially dependent upon the Northland Group/Holmgren. The Area Office referred to the regulation at 13 C.F.R. Section 121.103(a)(2) which requires SBA to consider "previous relationships with or ties to another concern.in determining whether affiliation exists." The Area Office observed that Appellant was previously a subsidiary of the Northland Group; 51% was then sold to Smith (its Vice President/key employee; and later the remainder was sold to Smith, who now owns Appellant's total shares. Additionally, Appellant owes its initial financing to the Northland Group and current financing to Holmgren, owner of the Northland Group. Appellant continues to rent space from the Northland Group/Holmgren. Although, Appellant is a newly organized business, that is no longer considered an independent basis for affiliation, although the concept has validity when evaluating the "previous relationships with or ties to another concern" as stated in 13 C.F.R. Section 121.103(a)(2), citing Size Appeal of Lyons Security Service, Inc., SBA No. SIZ-4264 (1997). The Area Office concluded that despite Appellant being established three years ago, it has not demonstrated a fissure from the Northland Group/Holmgren to rebut a finding of affiliation. Accordingly, because of its current and past ties to the Northland Group/Holmgren - - both business and economic - - the Area Office concluded the firms are affiliated and, therefore, Appellant was other than a small business for the applicable $17 million size standard when their receipts are aggregated. [1] Appellant received the size determination on March 31, 2004, and filed its appeal on April 15, 2004. The Appeal Appellant states that SBA will find companies are affiliates "when one concern controls or has the power to control the other, or a third party or parties controls or has the power to control both." 13 C.F.R. Section 121.103(a)(1). Appellant argues that here, the Area Office did not find that the Northland Group or Holmgren controlled, or were under common control with Appellant. In fact, the Area Office made no finding concerning control, rather it focused exclusively on the "limited contacts" Smith/Appellant, on the one hand, had with the Northland Group/Holmgren, on the other. An analysis of these "contacts" does not justify the Area Office's finding of affiliation. Appellant also asserts the Area Office essentially based its analysis on the outdated newly organized concern rule rather that using the above mentioned regulation and the totality of circumstances rule now in effect. Appellant restates the facts to support its theory and asserts the Northland Group/Holmgren provided a minimal, short- lived financial accommodation to Appellant to "induce" U.S. Bank to provide financing for Smith's purchase of Appellant by agreeing to co-sign Appellant's line of credit for one year (from August 7, 2001 to August 7, 2002). This limited relationship was short-lived and severed before the protests at issue on this appeal were filed. Appellant argues this "relationship" was an arm's-length arrangement and perfectly valid. Such transactions are common in business and are acceptable business practices. Finally, Appellant asserts it is a wholly separate and independent business from the Northland Group/Holmgren, neither the Northland Group nor Holmgren has any right to control Appellant, and neither of the former two entities has any ownership interest in, subcontracting relationship with, or right to receive any profits from Appellant. Accordingly, the Area Office's determination was fatally flawed in its interpretation of the regulation and thus contrary to fact and law. Discussion Appellant filed the instant appeal within 15 days of receiving the size determination and, thus, the appeal is timely. 13 C.F.R. Section 134.304(a)(1). Appellant has the burden of proving, by a preponderance of the evidence, all the elements of its appeal. Specifically, it must prove the size determination is based on a clear error of fact and law. 13 C.F.R. Section 134.314; Size Appeal of General Maintenance Engineering, Inc., SBA No. SIZ-4405 (2000). Here, Appellant failed to refute the material facts upon which the Area Office based its determination, and also failed to show the Area Office erred in applying the law to these facts. The Administrative Judge agrees that the newly organized concern rule no longer is an independent basis for finding affiliation. The Agency has deleted this regulation as part of its regulatory revision; nonetheless, it merely eliminated it as an independent basis for affiliation. The preamble to the current regulations still endorses use of the "newly organized concern rule" as a factor in finding affiliation on other grounds. 60 Fed. Reg. 57982, 57985 (1995). The concept, thus, remains relevant when evaluating "the previous relationships with or ties to another business." 13 C.F.R. Section 121.103(a)(2); Size Appeal of Lyons Security Service, Inc., SBA No. SIZ-4264 (1997). A review of the record demonstrates Appellant has not refuted the evidence of the Northland Group/Holmgren's close involvement with Appellant from Appellant's inception to the present time. Appellant's assertion that it is a wholly independent business from the Northland Group/Holmgren, that it has no ownership interest or subcontracting arrangements with the latter, and other related assertions are irrelevant. These assertions of independence do not overcome the strong evidence of affiliation between the two concerns based on 13 C.F.R. Section 121.103(a)(2). While Appellant was established three years ago, it has not demonstrated a clear line of fracture between it and the Northland Group/Holmgren. As noted, from the date of Appellant's establishment, the Northland Group/Holmgren financed the purchase; Smith (owner of Appellant) entered into a Business Security Agreement with the Northland Group/Holmgren and signed a $1.3 million promissory note to it and to the U.S. Bank. Further, the Northland Group/Holmgren was required to co-sign for Appellant's line of credit for one year and Holmgren has co- signed Appellant's current line of credit with Republic Bank. The record shows other indicia of Appellant's dependence on the Northland Group/Holmgren, both financial and economic, and detailed at great length in the Area Office's determination, to warrant a finding of affiliation between the two firms. In summary, when connections between firms are so suggestive of dependence, as here, affiliation will be found, under the totality of circumstances, even if no single factor constitutes affiliation. Lyons Security Service, Inc., supra. Conclusion For the above reasons, the Administrative Judge AFFIRMS the Area Office's size determination and DENIES the appeal. This is the final decision of the Small Business Administration. 13 C.F.R. Section 134.316(b). GLORIA E. BLAZSIK Administrative Judge _________________________ */ The Area Office also referred to 13 C.F.R. Section 121.103(a) which provides: Individuals or firms that have identical or substantially identical business or economic interests, such as family members, persons with common interests, or firms that are economically dependent through contractual or other relationships, may be treated as one party with such interests aggregated. Posted: May, 2004