Law360 is providing free access to its coronavirus coverage to make sure all members of the legal community have accurate information in this time of uncertainty and change. Use the form below to sign up for any of our weekly newsletters. Signing up for any of our section newsletters will opt you in to the weekly Coronavirus briefing.
Sign up for our Banking newsletter
You must correct or enter the following before you can sign up:
Thank You!
Law360 (July 16, 2020, 5:13 PM EDT) --
 |
| Michael Chernick |
 |
| Tomasz Kulawik |
Under the program, the Federal Reserve will purchase participations in loans from a special purpose vehicle, or SPV, established by the Fed as a conduit to make such loans.
Pursuant to the most recent terms through June 20, the program will make available up to $600 billion in liquidity to eligible lenders that will in turn provide direct loans to eligible businesses. The program will be deployed through the Main Street New Loan Facility, the Main Street Expanded Loan Facility and the Main Street Priority Loan Facility — or the MSNLF, MSELF and MSPLF, respectively.
To provide more direct and prioritized support to small businesses, the CARES Act also established a new Payroll Protection Program, or PPP, under section 7(a) of the Small Business Act to provide small businesses with forgivable, low-interest, nonrecourse loans to be used for traditional Section 7(a) purposes, including plant acquisition, construction, conversion, or expansion, and loans for any qualified small business concern, in addition to special designated purposes such as payroll, health care, and rent.
Unlike the program facilities, PPP loans are fully guaranteed by the Small Business Administration and are forgivable if they are used for the aforementioned purposes during either an eight-week period if the loan was disbursed prior to June 5, or a 24-week period if the loan was disbursed on or after June 5, and if the borrower has maintained or rehired recently laid-off employees prior to the end of the applicable eight or 24-week period, provided that in no event will such period extend past Dec. 31.
Access to the program facilities and the PPP is not mutually exclusive, as both programs are intended to work together to provide both immediate and medium/long-term support to smaller businesses.
The first installment of this two-part article provides a brief summary of the most recent terms of the MSNLF, MSPLF and MSELF, including how borrowers and lenders can qualify for these programs.
Businesses seeking to promptly access the facilities under the program will need to work with lenders to carefully assess how eligible loans will integrate with existing capital structures.
As such, the second part of this article will provide some guidance on practical issues that should be considered by borrowers and lenders that desire to participate in the program facilities.
Borrower Eligibility
While the PPP and the also newly created Primary Market Corporate Credit Facility, or PMCCF, are designed to provide immediate liquidity support for a range of small, medium and large businesses, the Federal Reserve has indicated the purpose of the program is to support lending to small- and medium-sized businesses that were in sound financial condition prior to the onset of the COVID-19 pandemic.
The program is intended for certain businesses that meet the below characteristics:
- Businesses that are for-profit, legally formed entities created or organized in the U.S. or under the laws of the U.S. prior to March 13, with significant operations in, and a majority of its employees based in the United States, though it should be noted that the Federal Reserve is considering expanding the program to include not-for-profit businesses;
- Businesses that have not received support pursuant to section 4003(b)(1)-(3) of the CARES Act nor are participating in the PMCCF or constitute businesses of the type listed in Title 13 of the Code of Federal Regulations, Sections 120.110(b)-(j) and (m)-(s), as modified and clarified by regulations implementing the PPP on or before April 24, which include a wide range of businesses primarily engaged in lending, insurance services, gambling, speculation (e.g., oil wildcatting) and so on; and
- Businesses that have either (1) 15,000 employees or fewer, based on the average total number of employees for each pay period over the 12-month period prior to the origination of the loan, or (2) annual revenues based on either the applicant's audited financials under GAAP or annual receipts reported to the Internal Revenue Service, of no greater than $5 billion for 2019. Note these eligibility requirements are subject to the Small Business Act's affiliation rules, which generally require borrowers to aggregate their employees and revenues with those of its affiliates.
It is worth noting that despite the fact that the program was expanded beyond its original formulation to include companies with higher revenue and employment thresholds, it will likely be unavailable to private equity and venture capital-backed companies due to the required application of the Small Business Act's affiliation rules.
In addition, since earnings before interest, taxes, depreciation, and amortization, or EBITDA, is the key underwriting metric for determining the size of the loan available under one of the programs, businesses that have in the past borrowed based on recurring revenues because they have low or negative EBITDA, or on an asset-based basis may not be able to avail themselves of one of the programs.
Lender Eligibility
To participate in the program, each lender must meet certain eligibility requirements. To be eligible, such lender must be a U.S. federally insured depository institution — including any bank, savings association or credit union — a U.S. branch or agency of a foreign bank, a U.S. bank holding company, a U.S. savings and loan holding company, a U.S. intermediate holding company of a foreign banking organization, or a U.S. subsidiary of any of the foregoing.
Nonbank lenders (e.g., business development companies or other private capital providers) are not currently eligible to participate in the program. However, the Federal Reserve has said that it is considering expanding the lender eligibility criteria in the future. In addition, an eligible lender will need to be eligible under the program's conflict of interest prohibitions as well as being able to certify that it is not insolvent.
MSELF participants should be especially vigilant in assessing eligibility of syndicate participants in any upsize. Inadvertent inclusion of an existing syndicate member that happens to be an ineligible lender could trigger an event of default, as the MSELF upsize will be in direct violation of the program requirements, making the loan ineligible for purchase by the SPV and potentially causing cross-defaults throughout the borrower's debt facilities.
The Fed has informed lenders that want to make loans under one of the programs that they should view the eligibility criteria in the term sheets as the minimum requirements for the program, and lenders are expected to conduct a customary review and due diligence of the potential borrower's financial condition at the time of the loan application based on their typical underwriting standards.
Lenders will need to carefully assess the impact of the COVID-19 pandemic on such borrower and its business and consider its future prospects of being able to repay the loan on a current basis when determining whether a borrower should be granted a loan and at what size, notwithstanding that the provisions of the term sheets would permit such loan.
Lenders should use their own standard loan documentation with respect to program loans, which loan documents should be substantially similar to the loan documentation lenders use for similarly situated borrowers as adjusted to include program-required provisions.
The Fed has provided model language for certain of the provisions it requires to be in loan documents, as well as a list of required financial information borrowers are required to deliver on an ongoing basis, but lenders are permitted to use their own provisions.
In addition, borrowers and lenders will be required to make various certifications in connection with each loan.
Funding and Assignments
Lenders will have two options for funding loans. A lender can extend a loan under the program and then can seek to sell a participation in such loan to the SPV by submitting the required paperwork to the Fed within 14 days of making the loan. Once the Fed has determined that such loan was made in compliance with the program requirements, the SPV would purchase its participation interest.
The other way a lender could extend a loan under the program is to enter into documentation for the loan with the borrower and make it contingent upon receiving a binding commitment from the SPV to purchase the participation.
If such a commitment is received, the lender will be required to fund such loan within three business days of the date of such commitment letter and notify the SPV of the date the funding occurred, and the SPV will generally be able to advance funds to purchase its participation within one business day.
Operationally, each time an eligible lender sells a participation to the SPV, such lender will be required to enter into a loan participation agreement, a servicing agreement, an assignment-in-blank and a co-lender agreement with the SPV, in addition to making the required certifications, covenants, etc.
The participation agreement, which also incorporates standard terms and conditions, governs the funding and sale mechanics of a program loan. In addition, the participation agreement also provides for the SPV's transfer and voting rights.
Except in certain limited circumstances, the SPV cannot elevate its interest into an assignment of the loan without the prior consent of the lender. Following such elevation, the SPV may transfer its rights without further consent from the lender.
In general, the lender is granted sole authority for most decisions and votes relating to the loan other than with respect to certain enumerated core rights acts. Such core rights acts include customary lender sacred rights that ordinarily require each lender's consent — such as delaying the time to make payments and reductions in the principal and the rate of interest — as well as additional items relating to program-mandated provisions — such as waivers of conditions precedent, amendments to mandatory prepayments relating to borrower certifications, adding restrictions on the ability of any lender to assign or pledge its rights or obligations under any loan document, and amendments to periodic financial and notice reporting.
Additional Documentation and Diligence
The servicing agreement sets forth the lender's and the SPV's rights in connection with the administration of the loan, as well as requiring the delivery of certain documentation and information by the lender to the SPV. The assignment in blank is to be used by the SPV to elevate its interest in a loan to become a lender of record.
The colender agreement is executed in connection with bilateral facilities to provide mechanics for a multi-lender facility if the SPV elevates its participation interest to that of a lender of record.
The ultimate decision to extend a loan to the applicant will rest with the eligible lender, which is expected to conduct an assessment of the financial condition and creditworthiness of the potential borrower.
Borrower and Lender Certifications
To qualify for the programs, both borrowers and lenders are required to make certain covenants — some of which survive for 12 months following the date such loan is no longer outstanding — and make a number of certifications relating to the borrower being an eligible borrower under the program.
Below are some of the key certifications that may have a restrictive effect on a borrower's business and operations or a lender's willingness to make a loan.
Borrower Certifications and Agreements
In order to obtain a program loan, a borrower must certify and agree, among other things:
- Unavailability of adequate sources of credit;
- Solvency;
- Limit on repaying other debt;
- Commercially reasonable efforts to maintain payroll;
- Limits on compensation;
- Limits on repurchases of equity securities; and
- Limits on distributions.
Lenders are not required to independently verify the borrower's certifications or actively monitor ongoing compliance with covenants, but if such lender becomes aware of a breach or of a material misstatement during the term of the loan, the lender is required to notify the Federal Reserve Bank.
Lender Certifications and Agreements
In connection with each program loan, the lender must certify and agree, among other things:
EBITDA Requirement for the Borrower
The lender must certify that the borrower and/or its affiliates meets the relevant financial covenant set out under the relevant program terms and that the method of calculation of EBITDA is in accordance with methods previously used by such lender for that borrower or is typically used by the lender for similarly situated borrowers.
Lien Certification
If a loan under the MSPLF is secured, the lender must certify that the collateral coverage ratio is at least 200% or else not less than the collateral coverage ratio for the borrower's secured debt, other than mortgage debt. If the loan is under the MSELF, the lender must certify that any collateral securing the underlying credit facility at the time of the loan secures both the underlying facility and the new loan.
Eligible Loan not Subordinated
The lender must certify at the time of origination that the eligible loan is not and will not become through the action, consent, or facilitation of the lender, contractually subordinated in terms of priority to any of the borrower's other loans or debt instruments.
Existing Debt
The lender must certify that it will not cancel or reduce any existing committed lines of credit to the borrower except in the case of events of default or require payments of principal of, or interest on, any such existing debt unless such payments is mandatory and due or in the case of default and acceleration.
Material Breach of Certain Borrower Certifications and Covenants
The lender must certify that the eligible loan documentation contains a provision triggering a mandatory prepayment upon the lender's receipt of notice that the borrower has materially breached its certifications or covenants.
Cross-Acceleration Provisions
The lender must certify that the eligible loan documentation contains a provision triggering an event of default or acceleration if the borrower has defaulted on any other loans made by the lender or its affiliates.
Financial Reporting Covenant
The lender must certify that the eligible loan documentation contains a financial reporting covenant requiring the borrower to deliver the required financial information and calculations in accordance with the relevant Program requirements.
Conclusion
Businesses seeking to promptly access the facilities under the program will need to work with lenders to carefully assess how eligible loans will integrate with existing capital structures.
The second part of this article will provide some guidance on practical issues that should be considered by borrowers and lenders that desire to participate in the program facilities.
Michael Chernick and Tomasz Kulawik are partners at Shearman & Sterling LLP
Mohamed El-Sayed and Lisseth A. Rincon Manzano, associates at the firm, contributed to this article.
This article is excerpted from Lexis Practice Advisor®, a comprehensive practical guidance resource that includes practice notes, checklists, and model annotated forms drafted by experienced attorneys to help lawyers effectively and efficiently complete their daily tasks. For more information on Lexis Practice Advisor or to sign up for a free trial, please click here. Lexis is a registered trademark of RELX Group, used under license.
Law360 is owned by LexisNexis Legal & Professional, a RELX Group company.
The opinions expressed are those of the author(s) and do not necessarily reflect the views of the firm, its clients, or Portfolio Media Inc., or any of its or their respective affiliates. This article is for general information purposes and is not intended to be and should not be taken as legal advice.
For a reprint of this article, please contact reprints@law360.com.
