Anil Verma Associates, Inc., No. MSB-536 (January 23, 1996) Docket No. MSBE-95-5-22-13 UNITED STATES OF AMERICA SMALL BUSINESS ADMINISTRATION OFFICE OF HEARINGS AND APPEALS WASHINGTON, D.C. ______________________________ ) IN THE MATTER OF: ) ) Docket No. MSBE-95-5-22-13 Anil Verma Associates, Inc. ) ______________________________) APPEARANCES For the Petitioner: For the Agency: B. D. Maheshwari, M.D. John T. Spotila, Esq. Attorney at Law General Counsel 1390 West 6th St., Suite 114 Robinson S. Nunn, Esq. Corona, CA 91720 Agency Representative Small Business Administration 409 Third Street, SW Washington, DC 20416 DIGEST Economic disadvantage is established with evidence proving that socially disadvantaged individuals "whose ability to compete in the free enterprise system has been impaired due to diminished capital and credit opportunities as compared to others in the same or similar line of business who are not socially disadvantaged, and such diminished opportunities have precluded or are likely to preclude such individuals from successfully competing in the open market." 13 C.F.R. Section 124.106(a)(1)(i). The SBA evaluates claims of economic disadvantage by examining a number of factors. These factors fall into three categories: The personal financial condition of the individuals claiming disadvantaged status, the financial condition of the applicant concern, and the applicant concern's access to credit, capital, and markets. The clear language of 13 C.F.R. Section 124.106(a)(2)(i) indicates that it is the personal income of the individuals claiming disadvan-tage that is to be used in making the evaluation. Nowhere in the regulations is there a suggestion that the income of a spouse who is not claiming disadvantaged status could also be considered in determining economic disadvantage. The SBA's comparison of 1993 and 1994 revenue and profit is contrary to the standard for assessing the financial condition of a business applying for admission into the 8(a) program. The pertinent regulation provides that this factor is evaluated by using a firm's financial picture "at a specific point in time." 13 C.F.R. Section 124.106(a)(2)(ii). Thus, by comparing a firm's financial picture in 1993 with that in 1994 and concluding that it improved, the SBA improperly assessed economic disadvantage. Assessing a firm's business financial condition by comparing financial ratios with other similar firms of the same or similar size runs afoul of the comparison standard set forth in 13 C.F.R. Section 124.106(a)(2)(ii). The regulation clearly provides that the comparison is to be made with "other concerns in the same or similar line of business which are not owned and controlled by socially and economically disadvantaged individuals." Id. The regulation does not permit the SBA to compare firms in a similar line of business and of a similar size in evaluating a firm's business financial condition. When an applicant concern "is being declined solely for reasons not identified in the initial decline, the concern will be advised that SBA will treat the decline as an initial decline, and that the concern will be afforded all rights which were available to it on its initial decline." 13 C.F.R. Section 124.206(c)(1). FINAL DECISION January 23, 1996 ARKOW, Administrative Law Judge: Petitioner Anil Verma Associates, Inc. (AVA) challenges a decision by the Respondent U.S. Small Business Administration (SBA) denying it entry into the 8(a) program[1] because it failed to establish that the individual upon whom eligibility is based, Mr. Anil Verma, is economically disadvantaged. AVA claims that the denial of its application is arbitrary, capricious, and contrary to law. I agree. Jurisdiction Jurisdiction on appeal is properly based on 15 U.S.C. Section 637(a)(9) and 13 C.F.R. Parts 124 and 134. The appeal was timely filed under 13 C.F.R. Sections 124.210(b) and 134.11(a)(7). Issue Whether the action of the SBA denying AVA entry into the 8(a) program is arbitrary, capricious, or contrary to law. 15 U.S.C. Section 637(a)(9)(C), 13 C.F.R. Section 124.210(h)(1). Facts On September 30, 1994, AVA applied for admission into the 8(a) program. The basis for the application is that AVA is owned and controlled by Mr. Anil Verma, a socially and economically disadvantaged individual. Mr. Verma, who is originally from India, is presumed to be socially disadvantaged because he is a "Subcontinent Asian American."[2] The SBA denied the application on January 9, 1995. AVA requested the SBA reconsider its decision on February 22, 1995. On April 6, 1995, the SBA denied AVA's reconsideration request and AVA filed an appeal of that denial on May 22, 1995. The SBA filed its Answer on July 6, 1995. Without objection from the SBA, AVA was permitted to file an Amended Appeal Petition on July 27, 1995.[3] The SBA did not answer the Amended Appeal Petition. When the SBA initially denied AVA's application on January 9, 1995, it requested that AVA submit with any request for reconsideration certain financial data for calendar year 1994. AVA complied with that request when it asked for reconsideration. The SBA denied AVA's 8(a) application on reconsideration affirming its earlier determination that Mr. Verma is not economically disadvantaged. It relied upon the 1994 financial information submitted for the first time in the reconsideration request to bolster its initial decision. Specifically the SBA advised AVA: Our determination that you are not economically disadvantaged is based on the fact that the 1994 year- end financial statements for Anil Verma Associates (AVA) indicates that you and your spouse have received over $200,000 in wages from Anil Verma Associates in 1994. . . . [Y]our wages alone place you in the top five percentile of all U.S. taxpayers in terms of income earned. In addition, we note that AVA increased revenues in 1994 by $600,000 compared to 1993 revenues and that profits increased from a negative of ($85,267) in 1993 to a positive $185,312 in 1994. A comparison of AVA financial ratios with other construction management firms of the same or similar size shows that AVA rates in the upper ranges in all areas. This indicates that AVA is competing well in the marketplace even without SBA assistance. Based on the documentation presented, you appear to have overcome any impediments you previously may have faced and that the applicant concern is doing exceptionally well without the business development assistance of the 8(a) program. Reconsideration Denial Letter at 1-2 (emphasis added). Position of the Parties In its Amended Appeal Petition AVA contends it is eligible for admission into the 8(a) program and the SBA's decision to decline its application is arbitrary, capricious, and contrary to law. Specifically, AVA alleges that the SBA improperly included Mr. Verma's spouse's income in evaluating whether his personal income exceeded the requirements of 13 C.F.R. Section 124.106(a)(2)(i). AVA also argues that the SBA acted contrary to its regulations when it compared AVA's financial picture with other construction management firms of the same or similar size rather than with other concerns in the same or similar line of business which are not owned and controlled by socially and economically disadvantaged individuals as required by 13 C.F.R. Section 124.106(a)(2)(ii). Further, AVA argues that a proper comparison under this regulation would show that AVA is economically disadvantaged. Specifically assessing its financial posture, AVA contends that its increased income for 1994 was the result of the Los Angeles earthquake, which was a unique one-time event which resulted in receipt of a contract without competing with others. It reasons that without this contract it would have sustained a loss rather than a profit for calendar year 1994. Consequently, it is not doing as well as the SBA believes. The SBA, in its Answer, contends that the SBA acted properly in concluding that AVA is not owned by an economically disadvantaged individual and that this decision is not arbitrary, capricious, or contrary to law. It urges that AVA's arguments concerning the income generated by the Los Angeles earthquake should not be considered in this appeal because the information was presented for the first time in this appeal. Discussion The only substantive issue to be resolved in this matter is whether the SBA properly concluded that Mr. Verma was not economically disadvantaged. Economic disadvantage is established with evidence proving that socially disadvantaged individuals-- whose ability to compete in the free enterprise system has been impaired due to diminished capital and credit opportunities as compared to others in the same or similar line of business who are not socially disadvantaged, and such diminished opportunities have precluded or are likely to preclude such individuals from successfully competing in the open market. 13 C.F.R. Section 124.106(a)(1)(i). The SBA evaluates claims of economic disadvantage by examining a number of factors. See 13 C.F.R. Section 124.106(a)(2). These factors fall into three categories: The personal financial condition of the individuals claiming disadvantaged status, the financial condition of the applicant concern, and the applicant concern's access to credit, capital, and markets. Id. Here, the denial of the reconsideration request rested upon the excessive income of Mr. Verma and his wife, the improved financial picture of AVA in 1994 in comparison with 1993, and AVA's success in competing in the marketplace without SBA assistance, as demonstrated by comparing AVA's financial ratios with other construction management firms of the same or similar size. This analysis of the economic disadvantage of AVA is arbitrary, capricious, and contrary to law. When analyzing the personal financial condition of the individual claiming disadvantaged status, the SBA may utilize "the individual's personal income for at least the past two years." 13 C.F.R. Section 124.106(a)(2)(i). If that income is excessive, the SBA may properly conclude that the individual is not economically disadvantaged. Matter of TAO of Systems Integration, Inc., SBA No. 528 at 6 (1995). In Matter of Autek Systems Corporation, SBA No. 417 at 12 (1992), the Administrative Law Judge considered the propriety of taking into account the income of a nondisadvantaged spouse. He concluded that while it may, in some cases, be appropriate to take into account such income, the SBA must provide a satisfactory explanation for considering that income. The Administrative Law Judge then remanded the matter for further consideration on that and other issues. In a subsequent consideration of the matter, the SBA again considered a nondisadvantaged spouse's income and provided an explanation of its rationale. The Administrative Law Judge concluded that the explanation was arbitrary and capricious. Matter of Autek Systems Corporation, SBA No. 420 at 5 (1992). Here, the SBA presented no explanation for its rationale. I disagree with the conclusion of that Administrative Law Judge that the SBA can consider a nondisadvantaged spouse's income if it provides a proper rationale. The clear language of the regulation indicates that it is the personal income of the individuals claiming disadvantage that is to be used in making the evaluation. Nowhere in the regulations is there a suggestion that the income of a spouse who is not claiming disadvantaged status could also be considered in determining economic disadvantage. Cf. 13 C.F.R. Section 124.106(a)(2)(i)(A)(1) (in determining an individual's net worth, the treatment of a spouse's assets are specifically addressed and treated separately). I recognize that the April 6, 1995 reconsideration denial letter, quoted above, states "your wages alone place you in the top five percentile of all U.S. taxpayers." It is, however, abundantly clear from reviewing the entire record that the SBA combined Mr. and Mrs. Verma's income in reaching that conclusion.[4] Thus, the SBA improperly considered Mrs. Verma's income in determining Mr. Verma's economic disadvantage. The SBA's comparison of AVA's 1993 and 1994 revenue and profit is contrary to the standard for assessing the financial condition of a business applying for admission into the 8(a) program. The pertinent regulation provides that this factor is evaluated by using a firm's financial picture "at a specific point in time." 13 C.F.R. Section 124.106(a)(2)(ii). Thus, by comparing AVA's financial picture in 1993 with that in 1994 and concluding that it improved, the SBA improperly assessed AVA's economic disadvantage. Further, in assessing the firm's business financial condition, the SBA compared AVA's financial ratios with other construction management firms of the same or similar size and concluded that AVA is competitive without SBA assistance. This comparison also runs afoul of the comparison standard set forth in 13 C.F.R. Section 124.106(a)(2)(ii). The regulation clearly provides that the comparison is to be made with "other concerns in the same or similar line of business which are not owned and controlled by socially and economically disadvantaged individuals." Id. The regulation does not permit the SBA to limit its comparison to firms in a similar line of business and of a similar size in evaluating a firm's business financial condition. This prohibition has been affirmed on a number of occasions. See Matter of Autek Systems Corporation, SBA No. 417 at 6 (1992), and Matter of Joanna T. Lau and Lau Acquisition Corporation, SBA No. 407 at 8 (1992). Accordingly, Counsel for AVA correctly argues that the SBA's comparison was inappropriate and the SBA should have considered evidence submitted by AVA which compared AVA to firms in a similar line of business, without regard to size, to establish economic disadvantage. Finally, the SBA improperly denied AVA its procedural rights to present evidence and request another reconsideration when the SBA considered Mr. Verma's and AVA's economic disadvantage using AVA's 1994 financial information. When the SBA initially denied AVA's application it requested that AVA submit 1994 financial information if it desired the SBA to have its application reconsidered. Presumably, this was because the application was submitted in September, 1994 using 1993 financial information. By the time the application was initially denied in January, 1995, the SBA sought and was provided AVA's 1994 financial information to make a current evaluation of AVA's economic position. The SBA then reached its conclusions using the more recent information. This is permissible. When an applicant concern, however, "is being declined solely for reasons not identified in the initial decline, the concern will be advised that SBA will treat the decline as an initial decline, and that the concern will be afforded all rights which were available to it on its initial decline." 13 C.F.R. Section 124.206(c)(1). Here, AVA's economic disadvantage was evaluated on both 1993 and 1994 financial information, whereas the initial application was not. While under the facts of this case such an evaluation is appropriate, the SBA did not follow the procedures required by the regulations when it takes such a course of action. The SBA should have afforded AVA another opportunity to request reconsideration. Thus, AVA was improperly denied the opportunity to address SBA's new conclusions on reconsideration. For these reasons, the decision of the SBA to deny AVA's application for admission into the 8(a) was arbitrary, capricious, and contrary to law. Conclusion Respondent's April 6, 1995 determination denying 8(a) program entry to Petitioner, Anil Verma Associates, Inc., is ARBITRARY, CAPRICIOUS, AND CONTRARY TO LAW. See 15 U.S.C. Section 637(a)(9)(C), 13 C.F.R. Section 124.210(h)(1). This is the final decision of the Small Business Administration and is binding upon all parties, including those within the employ of the Agency. 15 U.S.C. Section 637(a)(9)(D), 13 C.F.R. Sections 124.210(i), 134.32(a)(4). ______________________________ Richard S. Arkow Administrative Law Judge ____________________ [1] Small Business Act of 1958, Section 8(a), 15 U.S.C. Section 637(a) and 13 C.F.R. Part 124. "The 8(a) Program is intended to be used exclusively for business development purposes to help small businesses owned and controlled by socially and economically disadvantaged individuals. . . ." 13 C.F.R. Section 124.1(a). [2] 13 C.F.R. Section 124.105(b). [3] The original appeal of May 22, 1995 was filed pro se. Subsequently, AVA retained counsel who filed the Amended Appeal Petition which was substituted for the original petition. [4] In its initial denial, the SBA also combined Mr. and Mrs. Verma's income from their 1992 and 1993 federal income tax returns in reaching the same conclusion.