Congress Makes 100% ESOPs Eligible for Small Business Set-Asides

The National Defense Authorization Act signed into law by President Biden on December 27 contains the first-ever government contracting program to specifically encourage ESOPs. Section 874 of the new law creates a Department of Defense pilot program that would allow companies that are or become 100% ESOP-owned to receive noncompete follow-on contracts for the work, even if they no longer meet applicable small business or other set-aside requirements. The award would be contingent on a finding that the contractor’s performance was satisfactory or better. The program will run for five years, and the Government Accountability Office is required to provide an assessment of it within three years of the program’s enactment.

The specific language of the bill on contracting states that “Notwithstanding the requirements of section 2304 of title 10, United States Code, in the case of a follow-on contract for the continued development, production, or provision of products or services that are the same as or substantially similar to the products or services procured by the Department of Defense under a prior contract held by a qualified business wholly owned through an Employee Stock Ownership Plan, such products or services may be deemed to be available only from the holder of the prior contract and may be procured by the Department of Defense through procedures other than competitive procedures if the performance of the qualified business wholly owned through an Employee Stock Ownership Plan on the prior contract was rated as satisfactory (or the equivalent) or better in the applicable past performance database.”

The bill also directs the Department of Defense to look at “acquisition authorities that could be used to incentivize businesses to become qualified businesses wholly owned through ESOPs and to overcome challenges to partnering with the Department.”

For businesses that are 100% ESOP-owned and remain defined as small when a rebid of a contract comes up, the language means they can now qualify for a sole source bid. The situations is more ambiguous for businesses that become too large.

While the law seems clear that they should still qualify, the final report language accompanying the bill adds some ambiguity, stating that “we do not intend to make it possible for a business other than a small business to receive the award of a contract that would have otherwise been set aside for small businesses under the requirements of Federal Acquisition Regulation Subpart 19.502.” Report language is often used for guidance on writing regulations for a law, but is not binding. Backers of the bill will now turn to working on the final regulations.

The impetus for the bill came from the Employee-Owned Contractors Roundtable (ECR), a coalition of federal government contractors that are organized as private S corporations wholly owned through an ESOP. The roundtable will be working on further projects to qualify 100% ESOP-owned companies for contracting preferences in other agencies, as well as for allowing businesses that had woman, disabled veteran, or minority-owned preferences retain these after becoming 100% ESOP-owned.