June 6, 2013
By Jesse R. Orman
Contractors competing for public construction projects face the challenge of making good faith efforts to meet participation goals for minority and women-owned businesses (“DBEs”). In a perfect world, all available DBEs would be willing to submit bids to general contractors so that they all have the same opportunity to meet the DBE goal. But the world is not perfect. What happens if a successful and sought-after DBE firm (a firm the public agency believes is able to participate) essentially takes itself out of the market by entering into an “exclusive” arrangement with a single general contractor? This briefing paper explores the legal ramifications of these arrangements and whether they improperly influence the awards of competitively bid projects which are often based on the amount of DBE participation a general contractor can promise to provide.
General Background on DBE Programs
As a general rule, federally funded public construction projects are subject to the federal DBE program; the applicable regulations are contained in 49 C.F.R. Part 26. Under the federal program, and most other state and local programs, DBEs are generally minority or female owned small businesses; they are certified by state agencies as DBEs if, upon investigation, the state agency concludes that the DBE and its owner are sufficiently socially and economically disadvantaged. 49 C.F.R. § 26.1, 26.5 (2). Women and minorities are presumed to be socially disadvantaged; all others must prove social disadvantage. Courts have consequently concluded that the DBE program is primarily a race and gender based affirmative-action program. The DBE program requires funding recipients (i.e., government agencies) to (1) set a statewide (“overall”) goal for participation of DBE contractors on these federally-funded projects and (2) try to ensure, without use of quotas, that DBEs are awarded enough work on federally-funded projects to meet that goal. 49 C.F.R. § 26.45-55.
The overall goal is supposed to represent the amount of work DBEs would be performing in the state absent race and sex discrimination. 49 C.F.R. § 26.45(b) (“The goal must reflect your determination of the level of DBE participation you would expect absent the effects of discrimination.“) That way, the program ensures that it is not enforcing discrimination, but remedying discrimination. See 49 C.F.R. § 26.1. If the program were to require favoring of DBEs beyond that limit, it would be enforcing discrimination against non-DBEs, which would be unconstitutional. See City of Richmond v. J.A. Croson Co., 488 U.S. 469, 471 (1989).In order to avoid stepping over the line into unconstitutionally enforcing discrimination, the federal regulations give detailed instructions on how the overall goal is to be set:
(b) Your overall goal must be based on demonstrable evidence of the availability of ready, willing and able DBEs relative to all businesses ready, willing and able to participate on your DOT-assisted contracts (hereafter, the “relative availability of DBEs”). The goal must reflect your determination of the level of DBE participation you would expect absent the effects of discrimination. You cannot simply rely on either the 10 percent national goal, your previous overall goal or past DBE participation rates in your program without reference to the relative availability of DBEs in your market.
29 C.F.R. § 21.45(b).Goals that are not carefully set and narrowly tailored violate equal protection rights under the Constitution. City of Richmond, 488 U.S. at 471.
In Minnesota, particularly in the Twin Cities metropolitan area, many projects have project-specific goals set by the applicable agency whether MnDOT, the Metropolitan Airports Commission, Met Council, or the City of Minneapolis.
Exclusive Contracting Arrangements
Savvy general contractors recognize that obtaining sufficient DBE participation is often the key to obtaining a contract for public work. Accordingly, creative general contractors and some DBE subcontractors have attempted to obtain a critical competitive advantage by fashioning contractual arrangements that tie a particular DBE subcontractor to the general contractor and prevent that DBE subcontractor from bidding to other general contractors. These arrangements come in many different flavors and may be referred to as exclusive bidding arrangements, teaming agreements, and even exclusive mentor/protégée agreements. These arrangements may be limited to particular project or for a particular period of time. Certainly other creative arrangements exist. Regardless, the critical component of any of these arrangements is that it prevents other general contractors fromusing that DBE’s participation toward the goal.
Impact on General Contractors
These arrangements may not appear particularly troublesome if there were multiple competent, qualified, and available DBE subcontractors for any particular scope of work. But what if there is only one qualified DBE for a particular scope of work? Or only one qualified DBE that is available or has the capacity to perform the work? In those circumstances, general contractors that cannot obtain a bid from the appropriate DBE are left at a significant disadvantage relative to the general contractor with the exclusive arrangements. At minimum, the other general contractors are going to have a more difficult time locating adequate replacement participation from other DBE subcontractors for other scopes of work, and it may cost them more money to try to do so. Indeed, the other general contractor may be unable to obtain sufficient DBE participation to meet the goal. Even more troubling, the fact that general contractor with the exclusivity relationship was able to meet the goal has been used by agencies against other general contractors to conclude that the general contractors did not exert adequate good faith efforts because they did not meet the goal.
One of the most difficult factors in the traditional good faith efforts analysis in this context is a comparison against the efforts of other bidders. The following is an excerpt from the federal regulations, which most other programs adopt either in whole or part:
In determining whether a bidder has made good faith efforts, you may take into account the performance of other bidders in meeting the contract. For example, when the apparent successful bidder fails to meet the contract goal, but others meet it, you may reasonably raise the question of whether, with additional reasonable efforts, the apparent successful bidder could have met the goal. If the apparent successful bidder fails to meet the goal, but meets or exceeds the average DBE participation obtained by other bidders, you may view this, in conjunction with other factors, as evidence of the apparent successful bidder having made good faith efforts.
49 C.F.R. § 26, Appendix A, subp. V. If the public body enforcing these regulations does not know that the other bidder’s performance (i.e., level of participation) is artificially inflated because it was the only one with access to a key DBE, it will be difficult to argue that a bidder with a lower goal commitment made sufficient good faith efforts!
Even if the general contractor does bring this matter to the public body’s attention, the good faith efforts analysis is the subject of very specific and detailed regulations, under which DBE “availability” may only be one factor of many.
Regardless, public bodies and the agencies enforcing the DBE regulations are under increasing pressure to ensure (by whatever means necessary) that the goals of a particular project are met, and they are taking a harder line regarding good faith efforts. In those circumstances, general contractors have as their primary consideration meeting the goal, with good faith efforts as a fall-back only. Accordingly, general contractors who ensure they have exclusive access to key DBE subcontractors, or perhaps multiple DBE subcontractors, gain a significant advantage over general contractors who either cannot or have not attempted the same. The increasing number and frequency of these arrangements would appear – at least anecdotally – to confirm the public contracting community also believes these arrangements are beneficial and help the general contractors (and the associated DBE firm) get the work.
Impact on DBE Firms
Although at first glance these arrangements may appear advantageous to DBE firms, a closer analysis reveals significant problems.
Allowing DBE subcontractors to make exclusive arrangements runs counter to the purposes and goals of most of the DBE programs, which is to remedy discrimination in public contracting by providing DBE firms with opportunities and experience to grow into contractors competing on even footing with non-DBE firms. See, e.g., Appendix D of 49 C.F.R. Part 26 (A) (“The purpose of this program element is to further the development of DBEs, including but not limited to assisting them to move into non-traditional areas of work and/or compete in the marketplace outside the DBE Program, via the provision of training and assistance from other firms.&rdquo.
An exclusive arrangement serves to lock up a DBE firm and (depending on the arrangement) provide it only one opportunity to participate on what is likely a major construction project. If, for example, the general contractor with the exclusive arrangement does not obtain the contract, the DBE will not even have had an opportunity to bid to the other general contractors. Its success will rise and fall with a single general contractor’s bid, rather than the DBE firm’s own participation. Similarly, it may stunt the DBE’s ability to grow its bidding skills. Under normal circumstances, generally DBE firms are bidding against other similarly-situated DBE subcontractors, and building the business skills necessary to succeed in private construction without the program, or after the DBE programs have run their course once there is no longer a need for the programs.
Because this is an emerging area of the law, there is little legal authority regarding exclusive arrangements. However, there is enough legal authority to warrant a great deal of caution when considering these arrangements from both the general contractor and DBE firm perspective.
The most significant legal issue pertaining to these arrangements is that an exclusive arrangement may jeopardize the DBE’s status as a DBE. For example, under the federal regulations, only an “independent business” may be certified as a DBE.49 C.F.R. § 26.71. And the regulations emphasize that the DBE’s relationships with prime contractors must be examined to “determine whether a pattern of exclusive or primary dealings with a prime contractor compromises the independence of the potential DBE firm.” 49 C.F.R. § 26.71(b)(3). It is unclear how many exclusive bidding arrangements, for example, may constitute a “pattern” sufficient to impair a DBE’s independent status. Regardless, a risk exists whenever these arrangements are made. The risk exists both for the DBE, which may lose its certification, and the general contractor, who may lose the ability to claim DBE credit on the project. The risk the DBE is potentially company-ending. Depending on the project, the risk to the general contractor may also be quite severe – from antitrust concerns to potential False Claims Act liability.
As a result of the risk to DBEs, MnDOT’s Mentor Protégée Program specifically cautions participants about exclusive bidding arrangements and makes it clear that these arrangements are not permitted as part of the Mentor Protégée Program and that they may violate federal law:
An area of special concern is exclusive arrangements. Any relationship in which a contractor requires a subcontractor to have an exclusive bidding agreement may violate federal laws. During the course of the relationship, the subcontractor must have the right to quote bids to other prime contractors.
MnDOT Mentor Protégée Program. Other states have similar restrictions.
Trade groups for DBE firms and general contractors, National Association of Minority Contractors, Women 1st, and the Associated General Contractors of America, also caution against establishing exclusive arrangements for this reason. DBE Contractors’ Tool Kit § III, D, 6, which may be found on the AGC’s website:http://www.agc.org/cs/industry_topics/additional_industry_topics/disadvantaged_business_enterprises
Exclusive arrangements between general contractors and DBE subcontractors impose unfair restrictions on other contractors’ ability to compete on public jobs, particularly when the DBE is the only DBE available and qualified to perform a specific scope of work. Moreover, exclusive arrangements are a risky proposition, at best, for the DBE. They jeopardize the one asset a DBE firm depends on most – its DBE certification. Loss of DBE certification is not only potentially company-ending for the DBE, but it also may result in serious ramifications to the general contractor.
This discussion is generalized in nature and should not be considered a substitute for professional advice.© 2013 FWH&T