Terry Gerton We have so much to talk about, and we’re going to start with the new SBA proposed rule redrafting the size methodology for what constitutes a small business. This got a lot of attention. What, from your perspective, were the headlines in the new rule?

Emily Murphy So there are two things: the fact that they introduced a new methodology and a new set of proposed size standards on the same day was interesting enough. But there is substantial growth in the size standards. I think 114,000-plus companies are going to now be considered small that weren’t previously. And in some cases, those size standards, it’s not the normal inflationary increases we’re used to seeing of 5 million, 10 million. We’re seeing increases of about a half a billion dollars for some industries. So the computer design goes from … I think it now will have a size standard that’s gone from $34 million in annual receipts to $531 million in annual receipts. Consulting firms that are doing administrative management, general consulting, go from $24.5 million in receipts to $295 million in receipts. Those two companies don’t look a lot alike.

Terry Gerton So how different is this from the size standard reviews we’ve seen in the past?

Emily Murphy We’ve only started doing these reviews as a result of the 2010 Jobs Act, so 2011 was the first time we started seeing these. And interestingly, at the time, SBA did something similar where they consolidated a bunch of the size standards, and Congress got upset. They said, this is making too many businesses small, it’s taking industries and it’s sort of merging them together. And Congress actually came back and said, you can’t do that. They changed the Small Business Act and said, you can’t do that anymore. And so then we saw additional size standards come out at the five-year that seem more inflationary in their adjustments. This time around, we saw SBA take a different approach where they said, all right, we’re not going to consolidate industries. But instead of using six-digit NAICS codes, we are going to go and use four- or five-digit NAICS codes, so we’re going to create families of NAICS codes. I think they reduced it to about 335 size standards rather than over 1,000 size standards. So it’s a very different approach to how they’re looking at the problem. And when we look at what size standards do, I’m not sure that it all flows logically. For SBA size standards, they help make sure that small businesses who can’t get loans elsewhere can get a government-guaranteed loan. But a $531 million company is not going to be going after an SBA 7(a) loan. Frankly, they’re going to get their credit elsewhere. So this isn’t really for those companies. It’s not really for the companies needing entrepreneurial assistance through SBA’s entrepreneurial development programs. It’s possibly going to address some cases where rulemaking has to look at whether or not a small business is affected, and so in those cases, maybe a larger size standard makes sense. But then you get the government contracting area, and that’s where it’s going to really change what can be set aside. And it’s interesting because SBA not only consolidated the industries, but they sort of ignored another part of their statute. If you look at 15 U.S.C. 644, it actually says, hey, SBA, in the cases where NAICS code doesn’t adequately define what the government buys or how it buys it, feel free to break those apart into more size standards, not consolidate them into one. Now, SBA has never used that authority. And it was meant to address, for example, that an AI company doesn’t look like your average software company, or that a cybersecurity company might not look the same as a company that’s providing help desk support, and that the government buys things differently than the NAICS codes, those North American Industry Classification System codes, might reflect — because it’s a very different market. And so it was trying to say, you can have a little bit more flexibility and authority to come in and try and tailor this so you’re getting the right result. SBA instead is sort of saying, we want to make sure that there’s a growth path, and in many ways, they’re going to be addressing the concern that mid-sized companies didn’t have a place to fit. But I think you’re also going to have a problem where the companies that were your traditional smalls are going to feel that they don’t have place to compete anymore.

Terry Gerton Emily Murphy, a senior fellow with the George Mason University Baroni Center for Government Contracting. Emily, let’s follow that just like one more step farther, because I’m still struggling with the underlying logic here. People don’t sit around and come up with new NAICS codes over the weekend just because it seems like a fun party game, right? Why do this and why take this approach? Are they trying to provide more opportunity for small business set-asides? Are they trying to create longer pathways for growth? What do you think is behind it?

Emily Murphy I think both of those are part of the logic. I think there’s also a desire to simplify it. A thousand size standards is a lot of size standards. It can lead to some abuse — we used to call it NAICS code-shopping. Something would be set aside to try and limit competition using one NAICS code, and you ended up with protests around which NAICS code was assigned to a procurement, because it could affect who could compete. And I think there was a logical idea that a lot of companies that are in — this is an old example — a lot of companies that do architectural work also do engineering work. So because there’s a lot overlap, maybe it makes sense to combine them into a size standard. That was one of the arguments back in 2011, the problem being that the companies that only do architecture work are a lot smaller than the companies that do architecture and engineering. And there was a concern that that wasn’t going to let those architectural companies that are small, small companies really still compete in the space. So I think there’s a legitimate desire to simplify this, and we’ve seen this across administrations. We saw the Bush administration try to do something similar back in 2004, when they tried to simplify size standards. We saw, as I said, in 2011, we saw the Obama administration try to simplify it by reducing the number of size standards. We’re seeing it again now. So there really is this thought process that our current system is very complicated, and we’re making small businesses try and figure this out, and in some ways it limits their growth … and in limiting growth in some ways, it protects parts of industry in other ways. And it’s a really tough balance. I’m not sure that this gets it right.

Terry Gerton One of the recurring debates that we keep hearing in federal contracting is whether successful firms benefit from these programs long after they’ve established themselves. And we saw that argument again during the recent debate over the SBIR mills and the SBIR reauthorization earlier this year. Do you think these are connected?

Emily Murphy I think they are, and I think that there’s always this concern of, are large businesses benefiting from small business contracts? At the same time, how do we make sure that small businesses have the ability to grow into something that’s other than small? And again, this is an argument that’s been going on for decades. It used to be that if you won a contract as a small business, you could continue to perform it as a small business for the life of that contract. And then we started saying, oh, no, no — but if you’re acquired, you have to recertify. Now, OK, at the time of option, you need to recertify. At no more than five years, you must recertify. So we’re always trying to make sure that the companies getting that and benefiting from the program are true small businesses and they’re meeting the intention of the program. In doing so we also risk, though, creating disincentives to grow. So again, SBA has always struck with this balancing problem. We’re seeing it again; CSIS just came out with an article looking at what really happens with the SBIR mills, or the companies that are considered SBIR mills. I don’t think that any company out there identifies themselves as a SBIR mill. And these are the companies that submit a lot of phase one and phase two proposals. And the question’s always been, are these companies just exploiting the program and getting a lot of lower-dollar, phase one, phase two awards and never really commercializing? Or are these companies that really love the R&D process, love coming in, generating ideas, and then they successfully transition them or they sell them and they end up being commercialized elsewhere? It’s been a fascinating argument over the years — I think Thomas Edison has been misquoted, I don’t know how many times, but talking about how many times he failed in trying to invent a light bulb. And I’ve read it as a hundred, I’ve heard it as 500, I’ve read it as 1,000. I don’t know what the real number is but each failure, his point was, he learned something. And to the extent that companies that do a lot of SBIRs are doing iterative R&D at small dollar-value, $50,000 or $100,000 tranches where they’re making progress — that’s a good deal, or can be a very good deal, for taxpayers. If all they’re doing is just putting something out there, getting that $50,000, turning in a piece of paper that doesn’t actually turn into something, then that’s a really bad deal, because that means we’re denying opportunities to truly innovative companies. And the CSIS research paper that came out from my former colleague, Jerry McGinn, was really interesting because it came in and said, wait a second here, if we look at how often these end up commercializing and if we look at how many patents come out of these, we actually see that companies that do a lot of this, that they end up in commercializing at a higher rate in some cases and patenting their technologies at a higher rate. And I’ve always thought that the argument we’re having here might not be the right argument. Because the argument isn’t how many times should a company be able to get a SBIR, but what are the results of the SBIRs that a company is getting? And a few years ago, I actually wrote something that I think you all published in Federal News Network that said, what we really should be doing is better job with past performance on SBIRs — asking the people who are receiving the phase one and phase two results to evaluate whether or not this moved the needle. Did we learn something that advanced the R&D in this? Is this getting us closer to our goal? And then sharing that information so that, as companies are assessed for their next round of SBIRs, if they’re moving things forward, that’s considered positive. If they haven’t, if they seem to be just someone who’s generating, that’s considered negative. And so we’re not trying to apply a one-size-fits-all standard, we’re actually looking at the performance of a company itself. It would also have the advantage, then, of having better information out there on what we’re learning so that we could share it across agencies with SBIR authority. And ultimately, you know, at the end of the phase twos, when every agency can do phase threes, making that information available so that other agencies can leverage what has been learned and we can commercialize it better across the federal government, not just in the agency that paid for the initial R&D.