The mentor-protege programme as a source of capital

Among the federal small business programmes, the SBA Mentor-Protégé Program is the outlier. The certifications move procurement and stop there. This one contemplates capital, and SBA says so directly: protégés may receive "financial assistance in the form of equity investments, loans, and bonding" from the mentor, alongside help with internal business management systems, accounting, marketing, manufacturing and strategic planning.

Read the source of that money carefully. It is not the government. It is a private firm that has looked at your business and decided to put its own balance sheet behind you. Which means the terms are negotiated, the diligence is real, and the price includes something other than interest.

What the structure is

SBA describes a mentor as a for-profit firm or agricultural cooperative able to assist the protégé, of good character and not federally debarred. A protégé must be small under SBA size standards, organised for profit or as a cooperative, must have identified a proposed mentor before applying, and must not already be affiliated with the mentor. An agreement may last up to six years from SBA approval and may be extended by mutual agreement; a protégé may have two mentors at once and no more than two over the life of the business.

The commercially significant feature is the joint venture. A mentor and protégé can bid together on small business set-asides provided the protégé individually qualifies as small, including contracts set aside for 8(a), service-disabled veteran-owned, women-owned and HUBZone firms. To do that, the joint venture must obtain "an exclusion of affiliation for contracting purposes", and the mentor-protégé agreement must be approved before offers are submitted.

Performance is allocated: "the protégé must perform at least 40% of the work done by the joint venture", and 40 percent of the revenues under the contract are appropriated to the protégé for sizing purposes.

And the ownership limit: an approved mentor may own up to 40 percent of the protégé, an exception to the general ceiling in 13 CFR 124.105, which otherwise caps a non-participant firm in the same or similar line of business at 20 percent of a developmental-stage 8(a) participant and 30 percent of a transitional-stage one.

The arithmetic that actually matters

Run that through your own capacity honestly. Forty percent of a million-dollar contract is a real delivery obligation. If you do not have the people, the equipment or the working capital to perform 400,000 of work, the joint venture is not a shortcut — it is a commitment you will fail.

Now the capital side. If a mentor takes the maximum 40 percent stake and the agreed post-money value of your business is 1,000,000, the mentor is contributing at most 400,000 and taking 40 percent of everything you build thereafter, for as long as they hold it. Compare that against debt: 400,000 amortised over ten years at an illustrative 10.5 percent costs about 5,397 a month, or roughly 647,700 in total payments — and then it is finished and you own 100 percent.

Equity is not cheaper than debt because nobody sends an invoice. It is the most expensive money available to a business that is going to succeed, and the cheapest available to one that is not. The question to answer before accepting an equity investment from a mentor is whether you are confident enough in the next ten years to want to keep all of the upside.

A mentor loan is different and usually better. It is priced, it has a maturity, and it ends. Ask for that structure first.

The diligence to run on the mentor

You are choosing a commercial partner who will hold a minority stake, possibly lend you money, and share performance risk on contracts with your name on them.

1. Ask how many protégés they have had, and what happened to them. SBA limits protégés to two mentors over their lifetime; mentors have no equivalent limit. A firm with a long list should be able to describe outcomes.
2. Ask what they want. Past performance credit? Access to your set-aside eligibility? A pipeline in your geography? An honest mentor will say. A mentor who cannot articulate their own interest is either not serious or not telling you.
3. Get the workshare in writing, priced. Forty percent of the work is a floor, not a target, and the detail of which 40 percent decides whether the venture is profitable for you.
4. Negotiate the exit on the equity before you take it. A buyback right, a valuation method, a timeframe. Equity without an exit path is permanent.
5. Check what the mentor's involvement does to your other financing. A 40 percent holder is usually a control person for a lender's purposes, may trigger beneficial ownership identification under the bank's customer due diligence obligations, and may be asked to sign things they will not sign.

What it does to your ordinary borrowing

A mentor's loan or investment on your balance sheet is read exactly as any other capital would be. An equity investment increases net worth and improves debt-to-worth, which helps. A mentor loan increases debt and debt service, which hurts, unless it is formally subordinated and on standby — in which case ask for the subordination agreement in a form your bank will accept, and ask before you sign, not after.

Bonding is the quiet third benefit. If a mentor provides bonding support, it can enlarge the contracts you can pursue without enlarging your own balance sheet. Compare that against SBA's own Surety Bond Guarantee programme, which covers bid, performance, payment and ancillary bonds on eligible contracts up to 9 million non-federal and 14 million federal as SBA states them, with a fee of 0.6 percent of the contract price on performance and payment bonds and no fee on bid bond guarantees.

What to have ready and what to refuse

Have: a signed mentor-protégé agreement, training certificates for both parties, and evidence of experience in the NAICS codes you are claiming. Have your last three years of financials in a state a commercial partner can read without apology.

Refuse an equity investment you have not priced against a loan of the same size. Refuse a joint venture whose 40 percent workshare you cannot staff. And refuse to sign an agreement that has not been reviewed by someone who works for you rather than for the mentor.