If you were one of the thousands of small businesses who received a PPP loan in the initial wave of funding – or if you are still considering applying as part of the second wave – one of the key eligibility requirements for the loan substantively changed last week, at least according to the latest SBA guidance and public statements from other Federal officials. This is a troubling development for many borrowers, especially in light of the fact that $349 billion of loans have already been approved and funded, and many borrowers made important business decisions after receiving their loan funds.
In addition to certifying that the borrower is an eligible type of business for the program (i.e., 500 or fewer employees or otherwise considered a “small business” by the SBA’s standards), subject to other limited exceptions that we covered here, the PPP application also requires the borrower to certify in good faith that “the uncertainty of current economic conditions makes necessary the loan request to support the ongoing operations of the eligible recipient.” Up until last week, the SBA had not provided any guidance on how to interpret this requirement. In the absence of any direction from the SBA, the conventional wisdom among borrowers and their advisors was that a PPP loan was “necessary” if the borrower believed that the loan proceeds would reduce the borrower’s need to lay off or furlough employees in order for the business to remain viable. This interpretation seemed to be consistent with, as the SBA has repeatedly described it, the CARES Act’s “overarching focus on keeping workers paid and employed.”
However, seemingly in response to negative press coverage regarding certain large publicly traded companies receiving PPP loans, the SBA issued an update to its frequently asked questions page with the following statement (excerpts quoted below with emphasis added):
“Before submitting a PPP application, all borrowers should review carefully the required certification that “current economic uncertainty makes this loan request necessary to support the ongoing operations of the Applicant.” 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. For example, it is unlikely that a public company with substantial market value and access to capital markets will be able to make the required certification in good faith, and such a company should be prepared to demonstrate to SBA, upon request, the basis for its certification.”
This statement introduces even more questions than it answers. What are “other sources of liquidity”? What constitutes “not significantly detrimental to the business”? For example, if a borrower has access to loan proceeds from another lender, but on terms that are less favorable than the PPP loan terms, is the borrower required first to pursue that other source, even if those less favorable terms could impact the ongoing operations of the business? Is the loan “sufficient to support ongoing operations” if the borrower has not yet experienced a dramatic reduction in cash flow, but projects future operating losses given the overall state of the economy? Without additional clarifying guidance from the SBA, we do not have definitive answers to these questions. These new standards – and the timing of their issuance – are extremely frustrating to borrowers and their advisors who are struggling to interpret the SBA’s cryptic statements.
In public statements on Tuesday, Treasury Secretary Steven Mnuchin said the SBA will be doing a “full review” of loans in excess of $2 million before approving any loan forgiveness. For what it’s worth, the CARES Act already stated that the borrower’s forgiveness application was subject to the SBA’s approval, so it is unclear whether the “full review” contemplated by Sec. Mnuchin will actually be more rigorous than the regular approval process outlined in the CARES Act.
At the very least, the SBA’s new position introduces a level of uncertainty for (1) borrowers who may have access to other, non-PPP sources of capital, including retained earnings and other lending sources, and (2) businesses who have not experienced a significant loss in revenue as a result of the COVID-19 pandemic.
In a nod to the fact that it moved the goalposts on thousands of borrowers who already received a PPP loan, the SBA is providing a safe harbor of sorts. If a PPP recipient determines, based on this new guidance, that the loan should not have been certified as “necessary” and then repays the loan in full by May 7, 2020, the borrower will be deemed by the SBA to have made the required certification (i.e., on the initial loan application) in good faith and the individual who signed the application will be immune from potential criminal prosecution.
These recent developments are particularly concerning for PPP borrowers with a healthy (or even “middle of the road”) balance sheet. Many businesses who certified their PPP applications in good faith are now left wondering exactly how the SBA expects them to demonstrate the basis for that certification and what risks they face by keeping their PPP loan proceeds. In addition to the risk of a government audit or criminal liability for knowingly making a false certification on a PPP loan application, some larger companies are also justifiably concerned about a potential public relations backlash over their receipt of PPP funds (even if they can comfortably certify in good faith that the loan was “necessary” under the new SBA guidance). Ultimately, this is a risk-reward business decision for any company in a grey area, where almost every PPP borrower seems to find itself given the current guidance.
With the rules and program constantly evolving and guidance in the form of the FAQs being updated at random, we are vigilantly monitoring the situation. For businesses who have concerns about these issues, please reach out to us to discuss.