The Main Street Lending Program: Which Small and Mid-Sized Businesses Are Eligible?

Arnall Golden Gregory LLP
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The Federal Reserve continues to make major changes to the Main Street Lending Program (the “Program”), a brand-new, multi-facility $600 billion lending program designed to make additional credit available to small and mid-sized businesses, so that they can maintain their operations and payroll until conditions caused by the COVID-19 pandemic normalize. The Federal Reserve’s June 8, 2020, changes reduced by half the minimum size of Program loans, increased dramatically the maximum size of Program loans and extended by an additional year the term of Program loans, among other changes. As these changes were intended to—and should—make the Program more appealing to prospective borrowers, the question becomes—which small and mid-sized businesses are eligible for Program loans?

Background

Before we look at that question, a little more background about the Program: The Program currently  includes three different loan facilities, the New Loan Facility, the Priority Loan Facility and the Expanded Loan Facility, each of which has a different maximum loan size and other unique terms (though many terms are the same for all three facilities). See the Federal Reserve’s website for term sheets for each facility. Regardless of facility, borrowers obtain Program loans from eligible lenders, rather than the Federal Reserve or the Treasury. Why might lenders be more apt to make a Program loan than another loan? Lenders are encouraged to lend because an entity funded by Treasury and the Federal Reserve will purchase, at par value, a 95% participation in each Program loan, while participating lenders retain only 5% of each Program loan, reducing participating lenders’ credit risk relative to non-Program loans.

The Basics of Borrower Eligibility

We’ll start with the fundamentals of eligibility and then address some questions about eligibility.

To be eligible for a Program Loan,  a prospective borrower must be a “Business” (explained in the answer to question 1 below) and must:

  • have been established prior to March 13, 2020, and formed under the laws of the U.S., one of the several states, the District of Columbia, any of the territories and possessions of the U.S. or an Indian Tribal Government;
  • not be an “Ineligible Business”;3
  • meet at least one of following two conditions (but does not need to meet both): (a) have 15,000 employees or fewer; or (b) have 2019 annual revenues of $5 billion or less, after combining—as further explained below—the employees and revenues of the Business with the employees and revenues of the Business’s affiliates;
  • be a U.S. entity created or organized in U.S. or under the laws of the US with significant operations in and a majority of employees based in the U.S.;
  • participate in one only one of the Main Street facilities and not also participate in Primary Market Corporate Credit Facilities (which support large companies);
  • have received no specific support pursuant to section 4003(b)(1)-(3) of the Coronavirus Aid, Relief, and Economic Security Act (including passenger air carriers, cargo air carriers and businesses critical to maintaining national security);
  • be able to make all certifications and covenants required to be made under the Program.

Notably, a Business that has received a Paycheck Protection (“PPP”) loan, or that has affiliates that have received PPP loans, may obtain a Program loan, assuming the Business is otherwise eligible.

Ten Questions and Answers About Borrower Eligibility4

1. What is the definition of “Business?”

A Business is an entity that is organized for profit as a:

  • Partnership;
  • Limited liability company;
  • Corporation;
  • Association;
  • Trust;
  • Cooperative;
  • Joint venture (with no more than 49% participation by foreign business entities); or
  • Tribal business concern.
2. How should a Business count employees for purposes of determining eligibility under the Program?

Count as employees all full-time, part-time, seasonal or otherwise employed persons, excluding volunteers and independent contractor—including those of any affiliates (foreign or domestic) of the Business. Use the average of the total number of persons employed by the business and its affiliates for each pay period over the 12 months prior to the origination or upsizing of the Program loan.

3. How should a Business calculate 2019 revenues for purposes of determining eligibility under the Program?

Aggregate revenues with any affiliates of the Business and use either of the following methods of determining revenue: (a) the Business and its affiliates’ annual revenue for 2019, as reported in the Business’s audited financial statements prepared in accordance with GAAP; or (b) the Business and its affiliates’ annual receipts for the fiscal year 2019, as reported to the IRS.

If a Business (or its affiliate) does not yet have audited financial statements or annual receipts for 2019, the Business (or its affiliate) should use its most recent audited financial statements or its most annual receipts.

4. Which entities are a Business’s affiliates for purposes of the employee and revenue eligibility criteria?

The Program utilizes the same regulations (13 CFR § 121.301(f), as it existed on January 1, 2019) as the PPP for purposes of determining if an entity is an affiliate of the Business. Yes, the dreaded SBA affiliation rules are back! Businesses should carefully analyze their organizational structure in view of these rules to determine whose employees and revenue must be included for purposes of satisfying the revenue and employee criteria.

5. Are non-profit organizations eligible to borrow under the Program?

No, not yet, but the Federal Reserve is seeking comment on two potential nonprofit-focused loan facilities to be included in the Program, and it published draft term sheets for these facilities on June 15, 2020.

6. Will an alternative underwriting metric be developed for asset-based borrowers?

Potentially. The Federal Reserve has said it recognizes that that the credit risk of asset-based borrowers isn’t generally evaluated on the basis of EBITDA and noted that it and the Treasury will be evaluating adjustments to the loan eligibility metrics for those Businesses.

7. What does “significant operations in the U.S.” mean?

For purposes of making that determination, the Business’s operations should be evaluated on a consolidated basis together with its subsidiaries, but not with its parent companies or sister affiliates.

A Business has significant operations in the U.S. if, when consolidated with its subsidiaries, greater than 50% of the Business’s (a) assets are located in the U.S.; (b) annual net income is generated in the U.S.; (c) annual net operating revenues are generated in the U.S.; or (4) annual consolidated operating expenses (excluding interest expense and any other expenses associated with debt service) are generated in the US.

The Federal Reserve has instructed that the foregoing list is not exhaustive but illustrates the principles Businesses should apply to determine if they have significant operations in the U.S.

8. Can a U.S. company that is a subsidiary of a foreign company be eligible for a Program loan?

Yes, the Business may be a subsidiary of a foreign company, but the Business itself must be created or organized in the U.S. or under the laws of the U.S. (and meet the other eligibility criteria).

However, a Business that is a subsidiary of a foreign company must use the proceeds of a Program loan only for the benefit of the Business, its consolidated U.S. subsidiaries and other affiliates of the Business that are U.S. businesses and not for its foreign parents, affiliates or subsidiaries.

9. Is a private equity fund eligible for a Program Loan? What about a portfolio company of a private equity (or venture capital) fund?
  • Private Equity Funds: No, SBA has determined that private equity funds are ineligible to receive PPP loans under 13 C.F.R. §120.110(s), which also makes them “Ineligible Businesses” for purposes of the Program.
  • Portfolio Companies. If the Business is eligible under the Program’s eligibility criteria, then its status as a portfolio company won’t preclude it from obtaining a Program loan. One potential obstacle for such companies (particularly private equity-owned portfolio companies) are the above-mentioned affiliation rules. Under those rules, the portfolio company’s employees and 2019 annual revenues are calculated by aggregating the employees and the 2019 annual revenues of the portfolio company with those of its affiliated entities in accordance with SBA’s affiliation rules. For example, assume a portfolio company is seeking a Program loan. The company has fewer than 15,000 employees and its 2019 annual revenues were below $5 billion, so it could pass the size eligibility criteria when viewed by itself. However, assume a private equity fund owns more than 50% of the voting equity of the company, as well as several other businesses. As a result of the affiliation rules, the company and such other businesses are determined to be affiliated. The company must therefore include the revenues and employees of such other business—in addition to its own revenues and employees—in determining whether it meets the size eligibility criteria (e., 15,000 or fewer employees; or 2019 annual revenues of $5 billion or less).
10. Are landlords and other owners of real property eligible for a Program Loan?

Generally not. Passive owners of real estate and most other landlords and property owners are generally ineligible. The relevant provisions of SBA’s Standard Operating Procedures and 13 CFR § 120.110(c) make the following Businesses ineligible for a Program loan (subject to certain limited exceptions):

  • passive business owned by developers and landlords that do not actively use or occupy the assets acquired or improved with the loan proceeds (except “Eligible Passive Companies”5);
  • businesses primarily engaged in subdividing real property into lots and developing them for resale;
  • businesses that are primarily engaged in owning or purchasing real estate and leasing it for any purpose;
  • business that lease land for the installation of cell phone towers, solar panels, billboards or wind turbines (though the businesses operating cell phone towers, solar panels or wind turbines may be eligible);
  • businesses that have entered into a management agreement with a third party that gives the management company sole discretion to manage the business with no involvement by the owner;
  • apartment buildings and mobile home parks, and
  • residential facilities that do not provide healthcare and /or medical services.

There are some limited exceptions to the foregoing passive ownership exclusions, which exceptions apply to the following Businesses:

  • hotels, motels, RV parks, marinas, campgrounds or similar types of businesses if more than 50% of their revenue for the prior year is derived from transients who stay for 30 days or less;
  • licensed nursing homes or assisted living facilities providing healthcare and/or medical services;
  • business that are engaged in leasing equipment or other items (unless ineligible as a lender under 13 CFR § 120.110(b));
  • barbershops, nail salons and similar types of personal services businesses regardless of whether they have employees or contract with individuals to provide services; and
  • with respect to a passive business owned by developers and landlords that do not actively use or occupy the assets acquired or improved with the loan proceeds, an Eligible Passive Company.

These rules (including the difficulty of qualifying as an Eligible Passive Company) mean most passive owners of real estate, landlords and property owners will be ineligible for a Program loan.

[1] As of June 17, 2020.

[2] Eligibility criteria are the same across all three facilities.

[3] Ineligible Businesses include Businesses listed in 13 CFR § 120.110(b)-(j), (m)-(s): (i) Financial businesses primarily engaged in the business of lending, such as banks, finance companies and factors (pawn shops, although engaged in lending, may qualify in some circumstances); (ii) as further explained below in the answer to question 10, passive businesses owned by developers and landlords that do not actively use or occupy the assets acquired or improved with the loan proceeds (except Eligible Passive Companies under § 120.111); (iii) life insurance companies; (iv) businesses located in a foreign country (though businesses in the U.S. owned by aliens may qualify); (v) pyramid sale distribution plans; (vi) businesses deriving more than one-third of gross annual revenue from legal gambling activities; (vii) businesses engaged in any illegal activity; (viii) private clubs and businesses that limit the number of memberships for reasons other than capacity; (ix) loan packagers earning more than one third of their gross annual revenue from packaging Small Business Administration (“SBA”) loans; (x) businesses with an Associate (defined at 13 CFR § 109.20) who is incarcerated, on probation, on parole, or has been indicted for a felony or a crime of moral turpitude; (xi) businesses in which a participating lender or Community Development Corporations, or any of its Associates owns an equity interest; (xii) businesses that present live performances of a prurient sexual nature or derive directly or indirectly more than de minimis gross revenue through the sale of products or services, or the presentation of any depictions or displays, of a prurient sexual nature; (xiii) unless waived by SBA for good cause, businesses that have previously defaulted on a Federal loan or Federally assisted financing, resulting in the Federal government or any of its agencies or Departments sustaining a loss in any of its programs, and businesses owned or controlled by an applicant or any of its Associates which previously owned, operated or controlled a business which defaulted on a federal loan (or guaranteed a loan which was defaulted) and caused the federal government or any of its agencies or departments to sustain a loss (which will be deemed to include a compromise agreement); (xiv) businesses primarily engaged in political or lobbying activities; and (xv) speculative businesses (such as oil wildcatting).

[4]   Most of these questions and answers are based on the Federal Reserve’s Q&A (available here) 

[5] Unfortunately, most developers and landlords cannot meet the strict SBA requirements relating to an Eligible Passive Company as set forth in 13 CFR § 120.111.

DISCLAIMER: Because of the generality of this update, the information provided herein may not be applicable in all situations and should not be acted upon without specific legal advice based on particular situations.

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