The one thing that all of the private and family-owned companies we serve have in common is limited access to capital. That need could not be greater in this time of crisis. As part of its stimulus program within the CARES Act, the Federal government has provided much-needed funding to businesses via the Paycheck Protection Program (PPP). The intended purpose of this program is to provide emergency funding in the form of a forgivable loan to companies so that they can retain workers during this economic crisis. Not so fast.
On April 23, the SBA issued new guidance that changed the eligibility rules to apply for a PPP loan. The guidance is a subjective standard that left many borrowers confused and concerned about their PPP loan - for good reason. We believe that this is patently unfair; however, it is a situation that all borrowers are forced to contend with and address.
In determining eligibility for the loan, the original PPP guidance required a borrower to make a good faith certification that:
"[C]urrent economic uncertainty makes this loan request necessary to support the ongoing operations of the applicant."
The new April 23 SBA guidance was issued as part of an FAQ document, which added the following language in determining whether the loan is "necessary" (FAQ #31):
"Borrowers must make this certification in good faith, taking into account their current business activity and their ability to access other sources of liquidity sufficient to support their ongoing operations in a manner that is not significantly detrimental to the business."
However, FAQ #31 also included this statement:
"[A]ll borrowers must assess their economic need for a PPP loan under the standard established by the CARES Act and the PPP regulations at the time of the loan application."
For many companies, FAQ #31 was not yet published at the time of their loan application, and they followed the "PPP regulations at the time of the loan application" as instructed in FAQ #31. It seems completely contradictory that within the same FAQ #31 , the SBA warns companies that they need to go back and revisit their original certification in light of FAQ #31 while at the same time instructing them to follow "PPP regulations at the time of the loan application."
This is especially troubling considering that many companies already made decisions based on receiving their PPP loan approval or had already received and were using PPP funds prior to FAQ #31 being issued. Nonetheless, the SBA has the authority to establish PPP rules, so borrowers need to consider this new guidance.
In subsequent guidance, the SBA made it clear that these rules apply to private companies and that it will review all applications for loans over $2 million. The SBA has also provided a safe harbor date of May 7, 2020 to return the funds if a borrower did not feel that they could make a good faith certification.
Each borrower should assess their compliance with this new guidance, even though it is ambiguous and conflicting. Additionally, many borrowers will need to be prepared to have their decisions and judgement as to their eligibility for a PPP loan reviewed by the SBA to determine whether they acted in good faith.
While it is unclear how the SBA will make its assessment of a borrower's application, we believe it will be critically important for borrowers to clearly document their business situation, decision processes, and actions at the time of their PPP application to demonstrate compliance with the SBA guidance. At a minimum, such analysis should incorporate commentary on the key elements of the good faith certification, including:
- the effect of the current economic uncertainty on the business
- current business activity
- the ability to access other sources of liquidity sufficient to support ongoing operations in a manner that is not significantly detrimental to the business
We have the benefit of working with many companies that have applied for PPP loans and are in the process of helping them evaluate their eligibility under the latest guidance. While SBA guidance remains subjective and ambiguous, below are some considerations related to the analysis and documentation that may help you evaluate eligibility and demonstrate compliance with the SBA certifications at the time of your PPP loan application.
We suggest that this analysis and documentation be rigorous and comprehensive, and should contain, at a minimum:
1. Impact Analysis
Develop an analysis that thoroughly documents the impact of the pandemic on your business. This should include the uncertainties and the state of your business conditions you were facing at the time of your PPP loan application. This analysis will be different for every company and will be case specific. It should include specific details of the key things going on in the business that illustrate the impact of the pandemic, which could include (among many other things) the following:
- The effect of mandated closures on the business and its ability to operate
- Customer losses, delays, closings, shutdowns, or cancellations
- Requests for price reductions or extended payment terms
- How the markets you serve are being affected by the pandemic
- Supply chain disruptions and closures
- People issues, including distancing measures, people not coming to work, etc.
- Layoffs, reductions, or other personnel actions
- Sales and booking details and trends
- Order cancellations
- Receivables and collections trends and deterioration
- Working capital levels and deterioration
- Production levels and trends
- Cash balances and cash flow trends
2. Decision Processes
- Document your analysis and the many alternative courses of action you considered to address the potential significant threats and adverse impacts on your business, including why you chose your course of action.
- Document the specific planning and actions you took when considering your PPP loan, such as layoffs, pay reductions, etc. that would have been necessary without the PPP funds.
- Document your thinking and decision process regarding the availability and use of other sources of liquidity and why you concluded that those sources would have been insufficient to support your business operations and to maintain employment and compensation. This should include your analysis of the risks and limitations associated with lines of credit and other forms of debt.
- Demonstrate the seriousness and intensity of your deliberations during this time related to the severity of the situation and the level of uncertainty you faced. You may want to assemble documentation consisting of meeting agendas, meeting notes, action steps, board meetings and resolutions, etc.
- Document the dates that you received PPP loan approval and PPP loan funding in relation to the date of FAQ #31 being published, as well as specific decisions you made based on the PPP approval and funding.
3. Financial Analysis and Planning
- Document the financial analysis and cash flow planning that you engaged in as part of your decision process to demonstrate the need to apply for the loan.
- Include various scenarios that you considered in projecting cash flows, cash balances, and other key business metrics.
- Consider other unique risk factors, including existing debt levels and leverage, cash levels, and customer, supplier, and market concentrations.
- Consider unique claims on capital, including existing purchase commitments, capital project commitments, shareholder redemption commitments, as well as ESOP redemptions.
- Include the factors and risks that affect your access to lines of credit, including borrowing base limitations, ramifications of potential debt covenant violations, and the uncertainty related to expiration and renewal of your line of credit given the current environment. This could include limitations or restrictions on your bonding lines.
4. Use of PPP Funds
Document your planned use of the PPP funds consistent with the purpose of the program. Demonstrate how this was part of your good faith effort in applying for the loan, as well as your planning and decision-making.
We believe you should assemble this documentation package now while the details of the analysis and decision-making process are fresh in your mind. It is also important that all of the qualitative and quantitative factors in your analysis be in sync so that the documentation is cohesive. Lastly, engaging in this rigorous process now should help you clarify your decision regarding your good faith certification of eligibility under the PPP program.
There is still a great deal of uncertainty regarding how the SBA will determine whether borrowers have made a good faith certification, and there are legal risks associated with that determination. As a result, it is very important for borrowers to consult legal counsel as part of assessing their PPP loan certification.
It is unfortunate and unfair for private and family-owned businesses to be put in a situation to make decisions when so much remains unclear, but we don't have a choice. However, we do feel that the process outlined above should help you present a clear, cohesive, and rigorous analysis of your specific situation and decision processes as it relates to determining your eligibility for a PPP loan.
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