March 30, 2020
CARES ACT CONSIDERATIONS FOR EMERGING COMPANIES AND OTHER SMALL BUSINESSES: Congress provides immediate relief in the form of small business loan
As the COVID-19 pandemic continues to take its toll in the United States, Congress has passed the Coronavirus Aid, Relief, and Economic Security (CARES) Act—a nearly $2 trillion package aimed at combating the economic impact of the crisis—signed into law by the President on March 27, 2020.
In order to assist Emerging Companies and other small businesses that are facing the impacts of the pandemic in unique ways, we’ve summarized here some of the provisions of the Act that we believe will be most helpful and provide immediate assistance.
The key new avenues are the expansion of the Economic Injury Disaster Loan Program and establishment of the Payment Protection Program. Both programs operate under the oversight of the Small Business Administration (SBA).
Payment Protection Program Loans: Long-term capital to cover the cost of retaining employees
Payment Protection Program (PPP) Loans are intended to provide cash-flow assistance through federally-guaranteed loans to entities who maintain their payroll during this emergency. If employers maintain their payroll, a portion of the loans would be forgiven. PPP, as written, contains a number of potentially attractive features, such as forgiveness of up to eight (8) weeks of payroll based on employee retention and salary levels and at least six (6) months of repayment deferral with maximum deferrals of up to twelve (12) months. Amounts eligible for forgiveness will be reduced by a percentage of the compensation that would otherwise have been paid to employees that have been laid off or had their salaries reduced, with certain exceptions and subject to certain adjustments.
Small businesses and other eligible entities will be able to apply if they were harmed by COVID-19 between February 15, 2020 and June 30, 2020. The program will be retroactive to February 15, 2020, in order to help bring workers who may have already been laid off back onto payrolls, so long as they are hired back prior to June 30, 2020. Loans will be available through June 30, 2020.
Who is eligible?
Eligible businesses are:
An entity applying for a PPP Loan must have (i) been in “operation” on February 15, 2020 and (ii) had employees for whom the borrower paid salaries and payroll taxes, or paid independent contractors.
What are the terms of the loan?
Eligible businesses can apply for a loan up to $10 million at 4% interest or less, for a term of up to 10 years, with zero loan fees and no prepayment fee. The maximum loan amount is calculated as the lesser of: (i) 2.5 x the total average monthly payments by the borrower for “payroll costs” incurred during the 1-year period prior to the date on which the loans is made (adjusted for seasonal employers or businesses not in operation for a full year); or (ii) $10,000,000.
What are allowable uses of the PPP Loan proceeds?
Loans will be available through June 30, 2020. There is no recourse against any shareholder, member, or partner of an eligible business except to the extent the PPP Loan is not used for an allowable purpose.
Will my eligibility be impacted by the SBA’s affiliation rules?
The SBA’s affiliation rules are broader than most common understandings of the affiliation concept in our industry, and will play an outsized role in determining whether an entity is eligible for a PPP Loan.
Under its affiliation rules, the SBA ordinarily aggregates the total number of employees or annual receipts of a business’s domestic and foreign “affiliates” when determining whether the business qualifies as a “small business.” As a result, it is imperative to determine whether an eligible business may be considered “affiliated” with others for purposes of the employee threshold (less than 500) or receipts (threshold varies by industry).
Based on recent NVCA guidance, an investor’s ownership of 50% or more of the voting securities of an entity, as a basic rule, will constitute control based on ownership alone and thus trigger affiliation between the business and its majority owner. This affiliation will also extend to any other businesses deemed to be controlled by the same investor, whether due to majority ownership or positive/negative controls.
However, where an investor owns a minority of the voting securities of an entity, close analysis of any positive or negative controls that the investor enjoys and the governing documents of the entity will be necessary in determining whether the investor’s minority position triggers affiliation and, accordingly, further affiliation among other entities controlled by the investor.
The Act contains a narrow waiver of these affiliation rules with respect to eligibility for PPP loans made for: (i) NAICS Sector 72 businesses (Accommodation and Food Services Sector), (ii) any business concern operating as a franchise, and (iii) any businesses receiving assistance from licensed small business investment companies (SBICs).
In light of the intent of the Act to provide broad relief, it is unclear whether the SBA will further relax some of these standards for venture-backed companies that may currently be ineligible due to the affiliation rules and that do not meet the strict waiver requirements. We expect that there may be additional interpretive guidance issued on this subject, and Nelson Mullins will provide further updates when such guidance becomes available. In the meantime, it is important that any affiliation concerns due to concentrated ownership positions of venture capital firms should be raised with counsel.
Will the government forgive PPP Loans?
A portion of a PPP Loan equal to eight (8) weeks of payroll costs, plus interest on mortgage obligations, plus rent and utility, will be eligible for forgiveness. The amount of debt forgiveness will be reduced by the percentage of any workforce reduction and any reduction in salaries and wages paid since February 15, 2020; however, there is an exemption for any employees that are hired back prior to June 30, 2020. Borrowers will need to apply with the lender for the forgiveness and be able to show employment levels and wage and salary amounts.
This means that even if you have laid people off, you’re still eligible for a PPP Loan and forgiveness, but the amount that can be forgiven will be reduced proportionally to the reduction in staff and wages. To promote rehiring though, a reduction occurring between February 15, 2020 and April 26, 2020 (30 days after the effective date of the Act) isn’t counted if that reduction is eliminated by June 30, 2020.
Economic Injury Disaster Loan Program: A quick infusion of cash to cover immediate expenses
The Economic Injury Disaster Loan (EIDL) Program is intended to provide a quick infusion of smaller amounts of cash to small businesses to cover immediate needs. This dual-layered program consists of (i) a facility to make available loans of up to $2 million to qualifying businesses (an “EIDL Loan”) along with (ii) Emergency Economic Injury Grants of up to $10,000 for any eligible business that has applied for such a loan (an “Emergency Grant”).
Who is eligible for an EIDL Loan?
Eligible businesses are small business concerns (including sole proprietorships, with or without employees), independent contractors, cooperatives and employee-owned businesses, as well as private non-profits, and certain other small businesses.
Geographically, businesses in all U.S. states, the District of Columbia, and U.S. territories are eligible to participate.
An entity applying for an EIDL Loan must have been a business in “operation” on January 31, 2020 (typically meaning that it had employees for whom the borrower paid salaries and payroll taxes, or paid independent contractors). However, we expect that additional interpretative guidance may be forthcoming on this point.
What are the terms of the EIDL Loan?
Eligible businesses can apply for a loan up to $2 million at 4% interest or less, and qualifying companies will receive Emergency Grants of up to $10,000 within three days of their application.
How do I request an Emergency Grant?
In order to access an Emergency Grant, an eligible business must first apply for an EIDL Loan (https://disasterloan.sba.gov/ela) and then request an advance in the form of an Emergency Grant.
After that request, an Emergency Grant of up to $10,000 will be distributed within three days to the applicant. An Emergency Grant does not need to be repaid, even if an entity’s underlying application for an EIDL Loan is subsequently denied.
An Emergency Grant request must certify that the business is eligible for an EIDL Loan, and the advance will be used to:
These Emergency Grants will be available until December 31, 2020.
Our entire Emerging Companies team, spread across offices spanning the country, is working to keep our clients informed about these and other important issues during this difficult time. We are working to distribute additional information in the coming days concerning other provisions of the CARES Act that may be important for Emerging Companies, including:
The contents of this publication and any attachments are not intended to be and should not be relied upon as legal advice.
These materials have been prepared for informational purposes only and are not legal advice. This information is not intended to create, and receipt of it does not constitute, an attorney-client relationship. Internet subscribers and online readers should not act upon this information without seeking professional counsel.