Small Business Investment Companies-Early Stage SBICs, 5508-5511 [2016-01879]


[Federal Register Volume 81, Number 21 (Tuesday, February 2, 2016)]
[Pages 5508-5511]
From the Federal Register Online via the Government Publishing Office []
[FR Doc No: 2016-01879]



Small Business Investment Companies--Early Stage SBICs

AGENCY: U.S. Small Business Administration.

ACTION: Call for early stage fund managers.


SUMMARY: This call for proposals (``Call'') invites experienced early 
stage fund managers to submit the preliminary materials discussed in 
Section II below, in the form of the Small Business Investment Company 
(``SBIC'') Management Assessment Questionnaire (``MAQ''), for 
consideration by the Small Business Administration (``SBA'') to be 
licensed as Early Stage Small Business Investment Companies. Licensed 
Early Stage SBICs may receive SBA-guaranteed debenture leverage of up 
to 100 percent of their Regulatory Capital, up to a maximum of $50 
million. However, Early Stage SBICs may, and most existing Early Stage 
SBICs do, request less than 100 percent of their Regulatory Capital. 
Importantly, Early Stage SBICs must invest at least 50% of their 
investment dollars in early stage small businesses. For the purposes of 
this initiative, an ``early stage'' business is one that has never 
achieved positive cash flow from operations in any fiscal year. By 
licensing and providing SBA guaranteed leverage to Early Stage SBICs, 
SBA seeks to expand entrepreneurs' access to capital and encourage 
innovation as part of President Obama's Start-Up America Initiative 
launched on January 31, 2011. More information on the Early Stage SBIC 
Initiative and the regulations governing these SBICs may be found at

DATES: The following table provides the key milestones for the Early 
Stage SBIC Initiative.

                 Milestones                                              Dates/Times
MAQ Submission Period/Initial Review
  Management Assessment Questionnaires       5 p.m. EST--April 1, 2016-September 30, 2016.
   (``MAQs'') may be submitted at any time   Applications considered as they are received.
   between the following dates:.
  Funds have 12 months from issuance of a    Applications considered as they are received.
   Green Light to submit their license

ADDRESSES: Visit to download a copy of the 
Management Assessment Questionnaire (the ``MAQ''). You must submit via 
express or next day delivery service (i) the relevant MAQ signature 
pages and (ii) the completed MAQ on a CD-ROM in Word and Excel format 
to the following: Scott Schaefer, Senior Investment Officer, Office of 
Investment and Innovation, U.S. Small Business Administration, 409 3rd 
St. SW., Suite #6300, Washington, DC 20416.

SBA will not accept MAQs in .pdf format or MAQs delivered via regular 
mail (due to irradiation requirements), or hand delivery or courier 


I. Background Information

    SBA invites early stage fund managers to submit the preliminary 
materials, as discussed in Section II below, in the form of a 
Management Assessment Questionnaire (``MAQ'') for the formation and 
management of an Early Stage SBIC. In 2012, SBA introduced the Early 
Stage Initiative. Early Stage SBICs represent a new sub-category of 
SBICs that will focus on making investments in early stage small 
businesses. Go to for information on the 
Early Stage Initiative and links to the Early Stage SBIC Final Rule 
(``Final Rule''). This initiative is part of President Obama's ``Start-
Up America Initiative'' to promote American innovation and job creation 
by encouraging private sector investment in job-creating startups and 
small firms, accelerating research, and addressing barriers to success 
for entrepreneurs and small businesses. In the Final Rule, SBA stated 
that it intended to allocate $200 million per year ($1 billion total) 
of leverage commitments to Early Stage SBICs over the five year period 
from Fiscal Year (``FY'') 2012 through FY 2016. The Early Stage 
initiative is scheduled to terminate at the end of FY 2016. However, in 
FY 2016 SBA intends to make certain modifications to the Early Stage 
regulations and make clear SBA's intent to make the Early Stage program 
(including issuing new Early Stage licenses and leverage commitments) 
an ongoing part of the SBIC program.

II. Management Assessment Questionnaire/License Application Materials

    The first required submission in the Early Stage Licensing process 
is SBA's MAQ. The MAQ consists of two forms that cover qualitative and 
quantitative information on the management team, the proposed strategy 
for the SBIC, the principals' investment track record, and the proposed 
fund structure and economics. The MAQ consists of SBA Form 2181 and 
Exhibits A-F of SBA Form 2182.
    Should SBA issue you a ``Green Light letter,'' you must submit the 
SBIC License Application, consisting of SBA Forms 2181, 2182 and 2183 
(each of SBA Forms 2181 and 2182 updated to reflect any changes), for 
the final licensing phase. Exhibit O in SBA Form 2183 includes the 
fund's limited partnership agreement (``LPA''). Applicants should 
review this notice for special instructions associated with the LPA for 
Early Stage SBICs.

III. Early Stage Licensing Process

    There are four stages in SBA's Early Stage Licensing Process: (A) 
Call Period;

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(B) Initial Review; (C) Applicant Fundraising and Document Preparation; 
and (D) Licensing. Each of these stages is discussed below.
    A. Call Period. This notice signals the start of the FY 2016 Early 
Stage SBIC call period. Interested parties should download a MAQ from You should also review 
the information at which includes a list of 
frequently asked questions (``FAQs'') regarding the Early Stage 
Initiative. If you still have questions regarding the Early Stage 
process, please email your questions to SBA 
will endeavor to respond to your question within three business days, 
depending on volume. SBA may not be able to respond to fund-specific 
questions or questions that require a legal opinion.
    B. Initial Review. After completing its Initial Review of a 
submitted MAQ, SBA will issue a Green Light letter to the applicant if 
it has preliminarily met the evaluation criteria for an Early Stage 
SBIC, including the vintage year and geographic diversification 
criteria. The process for SBA's Initial Review is as follows:
    1. Submit MAQ. SBA must receive your completed MAQ no later than 
September 30, 2016. SBA will send a confirmation that it has received 
your MAQ within three (3) business days of your submission.
    2. Due Diligence. SBA will review all MAQs against the evaluation 
criteria identified in this notice. SBA may engage a contractor to 
assist in evaluating MAQs received in response to this Call. The 
Investment Committee (composed of senior managers from the Office of 
Investment and Innovation) will consider each MAQ, and if the 
Investment Committee concludes that the management team may be 
qualified for an Early Stage SBIC license, the entire team will be 
invited to SBA Headquarters at 409 Third Street SW., Washington, DC for 
an interview. Those applicants not invited for interviews will be 
notified. SBA will provide feedback upon request to applicants not 
selected for an interview.
    3. Interview. SBA's invitation for an interview will identify a 1-
hour time block, along with the topics that the applicant should be 
prepared to address. SBA will conduct interviews at SBA Headquarters.
    4. Green Light Letter. Following the interview, the SBA will issue 
a Green Light letter to an applicant that has met the criteria 
identified in this notice, as determined by the Investment Committee. 
Applicants approved by the Investment Committee can expect to receive 
the Green Light letter via email within a few days of the Investment 
Committee's decision. The Green Light letter formally invites an 
applicant to submit its application for an SBIC License. The Green 
Light letter is only an invitation to proceed to the next stage in the 
process, not a guarantee that a fund will be issued an Early Stage SBIC 
license. Those applicants that do not receive a Green Light letter will 
also be notified by email within a few days of the Investment 
Committee's decision.
    C. Fundraising and Document Preparation. If you receive a Green 
Light letter, you will need to raise the minimum Regulatory Capital 
needed to execute your strategy (which can be no less than $20 million) 
and submit your completed license application within one year from the 
date of the letter.
    1. Raise Regulatory Capital. An Early Stage SBIC applicant must 
have signed capital commitments for at least $20 million in Regulatory 
Capital prior to filing its license application.
    2. SBIC Education. All principals of the Early Stage SBIC applicant 
must attend a one-day SBIC Regulations training class. This training is 
held quarterly in Washington, DC The purpose of this class is to 
familiarize principals with the SBIC rules, regulations and compliance 
procedures. Although an applicant may receive a license before all 
principals have completed the training, a majority of principals must 
do so before licensing and all must do so before a licensed Early Stage 
SBIC will be permitted to draw leverage. Information concerning 
registration for classes can be obtained at Certain non-
principals such as members of a board of directors may also be required 
to take the class. In addition, any employees or consultants whom you 
have assigned to handle regulatory matters or to interact with the 
Office of Investment and Innovation should attend the class.
    3. Finalize Documents & Perform Checklist. The following items must 
be completed and submitted in order to proceed to the Licensing phase:

Updated SBA Form 2181.
SBA Forms 2182 & 2183.
At least $20 million in Regulatory Capital evidenced by signed Capital
 Certificate in Form 2183 (Exhibit K).
$25,000 Non-refundable licensing fee.

    D. Licensing. During this last stage, SBA will review your 
completed application, perform further due diligence and analysis as 
needed, and make the final licensing decision. Applicants must apply 
within one year of the issuance of their Green Light letter. The 
process for Licensing is detailed below.
    1. SBA acceptance of license application. Upon receipt of the 
application, SBA will acknowledge receipt by email. Within three 
business days, SBA will determine whether the application is complete, 
meets the minimum capital requirements and satisfies management 
ownership diversity requirements. If so, SBA will send the applicant an 
acceptance letter. If not, SBA will ask the applicant to resolve the 
issues identified.
    2. Background and Documentation Review. Once the application has 
been accepted, SBA will forward the fingerprint cards and Statements of 
Personal History to SBA's Office of Inspector General for processing by 
the FBI. Following a review of the application and legal documents, SBA 
will provide the applicant with a ``comment letter.'' Applicants must 
respond in writing to the comment letter. Applicants should respond as 
quickly as possible, but in any event within 30 days. Failure to 
address all comments to SBA's satisfaction will slow down the licensing 
process. Please note that pre-licensing investments, which SBA must 
review and approve before they are closed, will also add to the 
licensing time.
    3. Divisional Licensing Committee. After SBA's licensing staff and 
Office of General Counsel have completed their review, the license 
application is presented to the Divisional Licensing Committee. This 
committee is composed of the senior managers of the Office of 
Investment and Innovation. If approved by the Divisional Licensing 
Committee, the application is presented to the Agency Licensing 
Committee which consists of certain senior managers of SBA. Prior to 
consideration by the Agency Licensing Committee, an applicant must 
provide a signed, up-to-date capital certificate showing that it has at 
least $2.5 million in Leverageable Capital, consisting of cash on 
deposit, approved pre-licensing investments funded with partners' 
contributed capital, and/or approved organizational and operational 
expenses paid out of partners' contributed capital, and at least $20 
million in Regulatory Capital. The applicant's bank must certify that 
the requisite funds are in the applicant's account and unencumbered.
    4. Agency Licensing Committee and Administrator Approval. If the 
Agency Licensing Committee recommends approval of your license 
application, it will be forwarded to the SBA Administrator or her 
designee for final

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action as soon as you submit fully executed copies of all legal 
documents. (Please note that your counsel must certify that the 
executed documents are identical to the ``final form'' of the documents 
approved by SBA.) If the Administrator or her designee approves your 
application, your Early Stage SBIC license is issued.
    5. Leverage Commitments. As noted above, the Early Stage initiative 
is scheduled to terminate at the end of FY 2016, but during FY 2016 SBA 
intends make certain modifications to the Early Stage regulations and 
make clear SBA's intent to continue making Early Stage leverage 
commitments to current and newly licensed Early Stage SBICs.

IV. Early Stage SBIC LPA and Organizational Instructions

    A. Early Stage SBIC Model LPA. In order to expedite the review of 
Early Stage SBIC license applications, SBA has adopted a Model Early 
Stage SBIC Limited Partnership Agreement (``Model LPA''). The Model LPA 
includes required provisions shown in Bold Arial type and optional 
provisions in a different font. Please email SBA at for the appropriate version of the Model LPA. 
Applicants must use the Model LPA as a template and must follow the 
organizational structure of the Model LPA. Further, applicants must 
include in their limited partnership agreements all of the required 
provisions of the Model LPA that appear in Bold Arial type. SBA will 
not accept additions, deletions and other changes or modifications to 
any of those required provisions. Applicants are required to submit a 
copy of their limited partnership agreement blacklined against the 
Model LPA, as explained in the instructions provided at the beginning 
of the Model LPA. SBA provides the following further guidance on 
limited partnership agreements:
    1. SBA encourages applicants to adhere to the Model LPA to the 
maximum extent possible. The entire agreement is subject to SBA's 
    2. Conditions or restrictions on the ability of the general partner 
to call private capital commitments are limited to those permitted by 
the Model LPA.
    3. Withdrawal rights are limited to those permitted by the Model 
    4. Applicants must adhere to SBA's management fee policies 
available at This policy sets a maximum allowable 
management fee only. The actual management fee will be set by 
negotiation between the management team and the limited partners and 
may be less than the maximum. Early Stage SBIC applicants should be 
aware that the calculation of an SBIC's capital impairment percentage 
is affected by all fund expenses, including management fees. SBA will 
consider the management fee in its licensing evaluation criteria as 
part of fund economics. SBA believes that the primary incentive for 
fund managers should be carried interest rather than fees.
    5. The designation of fund expenses and expenses to be paid out of 
the management fee must be consistent with SBIC program regulations 
(see 13 CFR 107.520) and policies.
    a. Organizational costs, expenses incurred in applying for a 
license and forming the SBIC and its entity general partner (but not 
its parent fund or any other affiliate), are considered a partnership 
expense. Organizational expenses typically include items such as the 
licensing fee, cost of legal and other professional and consulting 
services, travel and other fundraising expenses, costs of preparing, 
printing and distributing the private placement memorandum or other 
offering materials, and other related expenses such as telephone and 
supply costs. SBA strongly encourages, and may require, applicants to 
include in the LPA a reasonable cap on the total organizational costs 
to be paid by the applicant. Costs that SBA deems excessive can be paid 
by an affiliate of the applicant or deducted from the applicant's 
Regulatory Capital prior to licensing (Regulatory Capital must still be 
at least $20 million after the deduction).
    b. Unreimbursed expenses on investments in small businesses that do 
not close may be designated as a partnership expense but must be capped 
at a reasonable level.
    6. Right of limited partners to remove general partner--Provisions 
allowing removal of the general partner without cause (``no-fault 
divorce'' provisions) are permitted only after the Early Stage SBIC has 
repaid all outstanding leverage and any other amounts payable to SBA 
and has surrendered its SBIC license.
    7. Any amendments to the limited partnership agreement required by 
SBA must be executed before licensing. Any amendments initiated by the 
applicant during the licensing process must be submitted to SBA in 
draft form as early as possible.
    B. Organization. Early Stage SBIC applicants must adhere to the 
following rules regarding organizational structure:
    1. Applicant cannot be a BDC or other public entity or a subsidiary 
of any such entity.
    2. All provisions governing the operation of the SBIC must be 
included in the limited partnership agreement. While SBA does not 
encourage the use of side letters, SBA recognizes that side letters 
form the basis of the understanding of the investment in an SBIC for 
certain investors, and, in particular, certain investors subject to 
regulatory oversight. If an investor requests a side letter provision 
that is of general interest to all investors (e.g., a provision 
regarding the fund's efforts to invest in certain geographic areas), 
that provision should be incorporated into the limited partnership 
agreement. Any provision of a side letter that purports to control, 
alter or supplement a section of the partnership agreement must 
expressly identify each such section. If a side letter fails to 
expressly identify any such section, SBA will consider the conflicting 
provision of the side letter to be without force or effect. All side 
letters require SBA's prior written approval.
    3. Applicant must adopt SBA Model Valuation Guidelines.
    4. Drop-down SBICs
    a. The drop-down structure should be used only when it has a clear 
business purpose:
    i. Example 1--Parent fund has already raised capital and begun 
operating and wants to commit a portion of its capital to an Early 
Stage SBIC.
    ii. Example 2--Substantial capital will be retained for investment 
at the parent level (SBA suggests that managers consider the 
alternative of structuring a non-SBIC fund side by side with the SBIC).
    b. Drop-down funds must have one parent fund only and the parent 
fund must be a U.S. entity.
    c. Parent must qualify as a traditional investment company based on 
established SBA precedent.
    d. Parent must disclose the identity of all of its investors.
    e. All of the investors in the parent fund (the SBIC's ``Class A'' 
limited partner) must agree to be ``Class B'' limited partners of the 
SBIC with an obligation to fund the Early Stage SBIC capital calls if 
the Class A limited partner does not. The obligation of the Class B 
limited partners to the Early Stage SBIC is reduced dollar for dollar 
as the parent fund contributes capital to the SBIC. The Model LPA 
contains required provisions for drop-down funds.
    f. The Class B limited partners' commitments to the SBIC applicant 
must be expressed as a specific dollar amount (not just as the 
``proportionate share'' of parent fund's commitment).

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    g. The total dollar amount of Class B commitments must be equal to 
the Class A limited partner's unfunded commitment to the SBIC. SBA will 
not require Class B commitments if the SBIC's Regulatory Capital will 
not include any unfunded commitments from the Class A limited partner.
    C. Capitalization. Applicants must raise the minimum $20 million in 
Regulatory Capital by the time the license application is submitted.
    1. Capital commitments from limited partners must be made directly 
to the SBIC (and its parent fund, in the case of a drop-down) with no 
intermediaries involved.
    2. The Early Stage SBIC applicant must have the unconditional 
ability to legally enforce collection of each capital commitment.
    3. Capital Certificate. Capital commitments must be documented in 
the capital certificate (Exhibit K of SBA Form 2183) and comply with 
the following:
    a. A signed Capital Certificate must be submitted with the license 
    b. SBA will permit only the sole following condition on private 
capital commitments: the receipt of an Early Stage SBIC license.
    c. Individual investors must list primary residence address, not a 
business address.
    d. Street addresses are required (no P.O. Box addresses).
    4. A dual commitment may be obtained to back up the commitment of 
any direct investor in the SBIC who is not an Institutional Investor.
    5. Capital commitments by the principals, general partner, or their 
affiliates must be payable in cash when called (cannot be satisfied 
with notes or management fee waivers).
    D. General Partner
    1. All principals must:
    a. Hold direct ownership interests in and be the direct individual 
managers of the general partner, with no intervening entities.
    b. Receive carried interest directly from the general partner; for 
drop-down SBICs, carried interest may be received from the parent 
fund's general partner.
    2. A maximum of 25% of the carried interest may be allocated to 
    3. Any provision to remove or terminate a principal must be spelled 
out within the general partner's organizational document and must not 
be tied to events occurring under other agreements (e.g., a principal's 
employment agreement with the management company).
    E. Investment Advisor (``Management Company''). Ownership of the 
Management Company that is highly disproportionate to the ownership of 
the general partner (e.g., one principal is the 100% owner) is not 
viewed favorably by SBA, but may be acceptable if there are adequate 
checks and balances on the powers of the dominant owner. Areas that 
cannot be subject to unilateral decision-making include the following:
    1. Power to remove or terminate other principals.
    2. Power to change the composition of the Early Stage SBIC's 
investment committee.

V. Early Stage SBIC Licensing Evaluation Criteria

    A. General Criteria. SBA will evaluate an Early Stage SBIC license 
applicant based on the submitted application materials, Investment 
Committee interviews with the applicant's management team, and the 
results of background investigations, public record searches, and other 
due diligence conducted by SBA and other Federal agencies. SBA will 
evaluate an Early Stage SBIC license applicant based on the same 
factors applicable to other license applicants, as set forth in 13 CFR 
107.305, with particular emphasis on managers' skills and experience in 
evaluating and investing in early stage companies. As discussed in the 
Final Rule, evaluation criteria fall into four areas: (A) Management 
Team; (B) Track Record; (C) Proposed Investment Strategy; and (D) 
Organizational Structure and Fund Economics. You should review these 
regulations prior to completing your MAQ.
    B. Managing SBA Leverage. SBA will pay particular attention to how 
a team's investment strategy works with proposed SBA leverage. Early 
Stage Debenture leverage either requires a 5 year interest and annual 
charge reserve from the date of issue or is structured with an original 
issue discount that covers the interest and annual charges for the 
first 5 years. In either case, Early Stage SBICs must identify how 
quarterly interest payments beginning in the 6th year from Debenture 
issue will be met. Sources of liquidity to make interest payments may 
include (a) private capital; (b) realizations; or (c) current income. 
As part of your plan of operations, you should carefully consider how 
your investment strategy will work with SBA leverage and make 
appropriate suggestions to manage risk. Risk mitigation strategies 
might include making some investments in current pay instruments, 
taking down less than a full tier of leverage (i.e., leverage less than 
100% of Regulatory Capital), taking leverage down later in the fund's 
life, lowering management expenses, and reserving more private capital. 
The strategies you choose to employ should be appropriate for your 
management team's track record and investment strategy.
    C. SBA Diversification Rights. Per 13 CFR 107.320, SBA reserves the 
right to maintain diversification among Early Stage SBICs with respect 
to (i) the year in which they commence operations (``vintage year'') 
and (ii) geographic location.
    1. Vintage Year Diversification. Vintage year has a major impact on 
the return expectations of a fund and excessive concentration in a 
single year could substantially increase program risk. Therefore, SBA 
reserves the right, when licensing Early Stage SBICs, to maintain 
diversification across vintage years. If SBA receives an extraordinary 
number of qualified applicants in FY 2016, it may not approve all such 
applicants in the same Fiscal Year.
    2. Geographic Diversification. All Early Stage SBICs must first 
meet SBA's basic licensing criteria. After those criteria are met, SBA 
reserves the right to maintain diversification among Early Stage SBICs 
with respect to the geographic location in which the Early Stage SBIC 
expects to invest.

Michele Schimpp,
Deputy Associate Administrator Office of Investment and Innovation.
[FR Doc. 2016-01879 Filed 2-1-16; 8:45 am]