The Federal Reserve recently announced that the Federal Reserve Bank of Boston has set up the special purpose vehicle (SPV) to purchase participations in loans originated by eligible lenders under the Main Street Lending Program (Program). In addition, Program loan participation agreement, form borrower and lender certifications, and other required form agreements are now available on the Federal Reserve Bank of Boston’s Main Street Lending Program Forms and Agreements website, available here. The Federal Reserve also updated its Frequently Asked Questions (FAQs), dated May 27, 2020, which can be found here.

As described in our earlier Alerts, the Federal Reserve and the U.S. Department of Treasury are making available up to $600 billion in new financing for eligible small and mid-sized businesses. The FAQs clarify the subordination rules for each of the Program’s three separate facilities, summarized below:

• Main Street New Loan Facility (New Loans). A New Loan may not be, at the time of origination or at any time during the term of the New Loan, contractually subordinated in terms of priority to any of the borrower’s other loans or debt instruments, other than mortgage debt;
• Main Street Priority Loan Facility (Priority Loans). A Priority Loan must be, at the time of origination and at all time while the Priority Loan is outstanding, senior to or pari passu with, in terms of priority and security, the eligible borrower’s other loans or debt instruments, other than mortgage debt; and
• Main Street Expanded Loan Facility (Expanded Loans). At the time of upsizing of an existing credit facility and at all times the upsized tranche is outstanding, the upsized tranche must be senior to or pari passu with, in terms of priority and security, the borrower’s other loans or debt instruments, other than mortgage debt.

What does “contractually subordinated in terms of priority” for New Loans mean?

This phrase is interpreted to mean that a New Loan may not be contractually junior in priority in bankruptcy to the borrower’s other unsecured loans or debt instruments. The Federal Reserve’s FAQs make significant exceptions to this general rule. First, the FAQs provide that a secured New Loan may be junior in lien priority to an existing loan.

Second, a New Loan may be unsecured even if the borrower has existing secured debt. Finally, the borrower may take on additional debt after receiving a New Loan provided the new debt would not have a senior contractual priority over the New Loan.

What does “senior to or pari passu with, in terms of priority and security” for Priority Loans mean?

Priority Loans have a leverage ratio of six times adjusted 2019 EBITDA compared to four times for New Loans. To partially offset the increased risk, Priority Loans must be senior to or pari passu with, in terms of priority and security, the borrower’s other debt. For purposes of the subordination rule, the term “other debt” includes debt for borrowed money and all obligations evidenced by bonds, debentures, notes, loan agreements or other similar instruments, and all guarantees, but excludes debt secured by real property at the time of origination. To comply with the Priority Loan subordination rules:

• First, if any of the borrower’s other debt is secured, the Priority Loan must be secured. The Priority Loan may be unsecured only if the borrower does not have, as of the date of origination, any secured other debt. This is different from a New Loan which does not have such a requirement.
• Second, the Priority Loan, whether or not secured, must, at origination and during the life of the Priority Loan, not be contractually subordinated in terms of priority to any of the borrower’s other debt.
• Third, the Priority Loan must, if secured, have a Collateral Coverage Ratio, at time of origination (i) at least 200% or (ii) not less than the aggregate Collateral Coverage Ratio for all of the borrower’s other secured debt. The term “Collateral Coverage Ratio” means (i) the aggregate value of any relevant collateral security, including the pro-rata value of any shared collateral, divided by (ii) the outstanding aggregate principal amount of the relevant debt. New Loans have no such Collateral Coverage Ratio requirement.
• Fourth, if the Priority Loan is secured by the same collateral as any of the borrower’s other debt, the Priority Loan lien upon such collateral must be and remain senior to or pari passu with the other debt liens.
• Finally, the Priority Loan must contain lien covenants consistent with those used by the lender in its ordinary course lending to similarly situated borrowers. The covenant may contain typical exceptions, limitations, carve-outs, baskets, materiality thresholds and qualifiers in accordance with its customary underwriting practices.

What does “senior to or pari passu with, in terms of priority and security” for an upsized tranche in an Expanded Loan mean?

Under the Expanded Loan Facility, the upsized tranche to the borrower’s existing credit facility is subject to the following subordination rules:

• First, the upsized tranche must be secured if, at the time of origination, the borrower has any secured other debts. The upsized tranche may be unsecured only if the borrower does not have, as of the date of origination, any secured other debt. In addition (i) the upsized tranche must be, at the time of origination and during its term, secured by the collateral securing any of the underlying credit facility on a pari passu basis; (ii) new collateral may be added to secure the upsized tranche at the time of upsizing and (iii) if the underlying credit facility includes both term loan tranches and revolver tranches, the upsized tranche needs to share collateral on a pari passu basis with the term loan tranches only.
• Second, the upsized tranche, whether or not secured, must, at origination and during the life of the upsized tranche, not be contractually subordinated in terms of priority to any of the borrower’s other debt.
• Finally, the upsized tranche has similar lien covenant requirements as Priority Loans.

What Should Prospective Borrowers Do Next?

Prospective borrowers should prepare in advance of the launch of the Program. This includes carefully reviewing the borrower’s existing indebtedness agreements and covenants, and, if applicable, commencing discussions with the borrower’s existing lenders of Program loan availability and compliance with the applicable subordination provisions.