Some growing food and beverage companies are concerned that they will be left out of a new set of loans designed to lessen the impact of the coronavirus crisis because they are backed by investment funds.
Over the past two weeks, a series of emergency acts have increased the availability of loans to small business owners during the coronavirus crisis. The passage last week of the Coronavirus Aid, Relief, and Economic Securities Act (CARES Act) and the expansion of the Economic Injury Disaster Loan (EIDL) Program both created new lending capabilities for use by the U.S. Small Business Association (SBA).
The acts followed the declaration of a state of emergency by President Donald J. Trump. That announcement opened up the opportunity for businesses to apply for loans of up to $2 million under the Economic Injury Disaster Loan Program (EIDL). Normally offered to businesses within a geographic area that has suffered a natural disaster, in this instance, an “economic disaster classification” was added, Jeremy Triefenbach, Managing Partner at Stage 1 Financial told NOSH.
The capital “is tied to money that will help you absorb the impact of the disaster,” Triefenbach said of the program. The CARES Act, which was signed into law by President Trump last week, allotted $10 billion for these loans.
In addition, the CARES Act’s Paycheck Protection Program (PPP) also modified the SBA’s 7(a) Loan Program to offer qualified businesses loans of up to 250% of their average monthly payroll to be spent on approved expenditures such as rent, mortgage payments, payroll or utility payments.
Ordinarily a program where the SBA partially guarantees loans made by participating banks to qualified borrowers, the PPP modifies the 7(a) program in three ways: it expands the pool of eligible borrowers; it allows for forgiveness of all or some of the loan if a company maintains its payroll; and it eliminates the need for securitization and guarantees of the loans.
Both loans, however, are raising the attention of trade groups and venture firms because of the key to determining if a business is even eligible for a loan: size. Under current regulations, a packaged food or beverage company would generally qualify for the 7(a) or EIDL program if it has under 500 employees. However, this gets trickier if the company has ever accepted capital from an outside investor, which may trigger the SBA’s affiliation rules.
According to current policies, if a company has taken outside capital and that investor has “control” over the company, the startup becomes affiliated with any other companies controlled within the investor’s portfolio. For example, if a firm has three 250 person companies under control, that’s now a group of 750 employees — too many to qualify for the program. The delineation also does not compare stock owned by any one investor versus all stock owned by all founders, but rather looks at each shareholder individually.
However, the concept of “control” is still nebulous and, in some cases, financial control can be superseded by showing that founders still have “management” control, said Philip Feigen, managing partner at the law firm Polsinelli.
It’s a slippery situation, he added: “If [investors] own 51% of the stock and/or they control management and/or they have certain blocking rights and/or it kind of looks and smells like control, then [companies] have to worry about affiliation rules.”
He added that Polsinelli has heard of some investment funds adjusting legal documentation and company structures, but noted this needs to be done carefully — and with the advice of an attorney.
Experts are looking for further guidance from the government to resolve the issue. Earlier this week 130 groups investing in the technology space, including the National Venture Capital Association, sent a letter to Treasury Secretary Steve Mnuchin and SBA Administrator Jovita Carranza urging them to clarify that equity-led startups will not be excluded from receiving 7(a) loans.
Industries are focusing on 7(a) loans because of their size and the lack of a need for securitization. EIDL loans under $200,000 currently do not have to be approved without a personal guarantee or collateral. But anything over that, up to the $2 million maximum, does require such a declaration — something that might prove burdensome for small business owners and unpalatable for investors.
However, Triefenbach also thinks these rules may be relaxed with further guidance, noting that his clients applying for an EIDL over the last 72 hours have seen a different set of questions from the norm.
“All the information that you would typically need to understand the collateral requirements of people are going away,” Triefenbach, said. ”So our assumption is that there’ll be a good chance these loans could get waivers around collateral and guarantee.”
One sector group that’s excluded from both loans regardless of investors or size: cannabis.
According to existing SBA regulations, while hemp or hemp-derived CBD companies can participate in SBA programs, “Direct Marijuana Businesses” may not. Earlier in March, several cannabis-focused groups, including the Cannabis Trade Federation, the Global Alliance for Cannabis Commerce and the National Cannabis Industry Association, sent a letter to House and Senate leadership urging them to also include cannabis companies in all economic stimulus planning, but so far, no changes have been made.
Still, despite the prior SBA guidance allowing hemp-derived companies to take part, some CBD brands are concerned, especially since there are still hazy banking regulations around cannabis and hemp using companies.
“Legally, there’s nothing in federal law that precludes participating SBA institutions from lending to hemp CBD businesses,” Justin Singer, CEO and co-founder of CBD brand Caliper Foods, said. “Practically, though, until Congress passes the SAFE [banking] Act and makes it explicit that these businesses possess the same rights and privileges as any other federally legal business, it remains an open question whether banks will actually make the loans.”