The recently passed CARES Act authorizes nearly $1 trillion in emergency relief for businesses, largely in the form of loans, to combat the economic fallout of Covid-19. It offers limited guidance on how businesses can access these loans, leaving the job of establishing guidelines to federal agencies.
The Treasury Department and the Small Business Administration have rolled out several programs, including the Paycheck Protection Program, to allow certain businesses to maintain their work forces, and to allow air carriers and related businesses to keep operating.
The Federal Reserve has also released details regarding new and expanded programs to give certain businesses access to up to $2.3 trillion in loans. Further Treasury and Federal Reserve programs remain under development.
While each existing and future program will have its own requirements and restrictions, the guidance issued to date provides a useful road map for potential pitfalls to be navigated by businesses that apply for relief.
History teaches us that after this crisis passes, there will be a searching effort to identify and address any abuse of the current stimulus effort. So businesses applying for economic relief under the CARES Act would be wise to think ahead about how prosecutors, regulators, and oversight bodies will look back on their actions and statements.
Oversight and Enforcement
The CARES Act provides for appointment of a Special Inspector General for Pandemic Recovery, whose mission will be to conduct investigations of the “making, purchase, management, and sale of loans” under the act. Other investigative bodies provided for by the act include the Pandemic Response Accountability Committee and the Congressional Oversight Commission.
Beyond the act, investigatory committees in Congress will be motivated to investigate wrongdoing in connection with pandemic relief, and the U.S. Department of Justice—the only body with authority to bring criminal charges—has already directed federal prosecutors to prioritize the “detection, investigation, and prosecution of all criminal conduct related to the current pandemic.”
Based on our experience, prosecutors and others will be motivated to bring wrongdoers to justice when the dust settles.
Certifications at the Time of Application
The application forms and term sheets released to date require certain certifications, at least some of which must be made under penalty of criminal prosecution. Some of those certifications are vague, and others involve commitments that may be difficult to meet.
For example, some borrowers must certify that they are eligible for the loan under the “rules in effect at the time” the application is submitted. Businesses will need to pay close attention to the specific and evolving rules of each program.
In addition, some borrowers may have to certify that, to the extent feasible, they will purchase “only American-made equipment and products.”
Another potential landmine for some borrowers is the certification that current economic uncertainty makes the loan “necessary” to support the company’s ongoing operations. The certifications differ from program to program. Each certification should be made with great care.
Restrictions on Compensation by Officers and Employees
Another set of important restrictions concerns compensation for officers and executives. Certain medium and large businesses, for example, must agree to cap total compensation for executives and limit severance payments. Because total compensation includes awards of stock and “other financial benefits,” this will likely be an area ripe for scrutiny.
Restrictions on Stock Buybacks and Dividends
Certain borrowers with more than 500 employees also face restrictions when it comes to stock buybacks and dividends. Such a borrower cannot repurchase its own shares or those of a parent company, and cannot pay dividends or make any capital distributions, for up to one year after repayment of the loan. Treasury can waive these restrictions in particular cases, but will have to justify those decisions to Congress.
Companies, and in some cases their shareholders, will need to weigh the benefit of accepting these loans against the strings attached.
Collateral/Compensation to the Government
The CARES Act also requires that all non-SBA loans made to businesses be “sufficiently secured.” For air carriers and related businesses, the applicant must propose financial instruments that “provide appropriate compensation” to the government, and may include financial instruments such as warrants, options, or preferred stock.
For the Federal Reserve programs, while the security at issue (where necessary) varies from program to program, its selection and valuation will invite close scrutiny from regulators.
Best Practices/Exercising Care
What should businesses do that are considering taking advantage of the pandemic relief programs created by Congress? We offer four immediate points to keep in mind.
- Scrutinize your application. Things are happening fast. But don’t let that affect the accuracy of representations you make on your loan applications, or you could be in for a painful landing.
- Stay vigilant once you receive the funds. Compliance with the terms of pandemic relief loans -- e.g., no outsourcing of labor -- are mandatory, and failing to pay attention to these terms could expose you down the line.
- Make sure the rest of your house is in order. It is important to keep in mind that if you accept pandemic relief, you may open yourself up to investigations for non-loan-related conduct, so pay attention to how your business is functioning overall. Depending on the specific relief program at issue, businesses may face limited flexibility and increased oversight for years.
- Pay close attention to program requirements. On the other side of this crisis, prosecutors and regulators may be motivated to scrutinize businesses perceived to have improperly taken advantage of the programs created by the legislation. In seeking these funds, be prepared to account for your decisions to regulators well into the future.
This column does not necessarily reflect the opinion of The Bureau of National Affairs, Inc. or its owners.