In the rush to deliver PPP funding, it should come as no surprise that in the interest of helping, and rightfully so, deployment took precedence despite the rules not being completely "fleshed-out." The same goes for the recipients of the PPP funds, many of which, rightfully so, wanted to protect their business and their employees not knowing what the next day, much less the next month or quarter, would look like. However, in a recently released poll from the National Federation of Independent Business, nearly 75% of the PPP loan recipients found the loan terms and conditions very or somewhat difficult to understand. There are two main issues leading to the confusion - the requirement to use 75% of the loan towards payroll expenses, and that the business must use the loan proceeds within eight weeks. While Congress is working on legislation that would extend the deadline to apply to December 31, 2020, and will give businesses 16 weeks to spend the money, there is also discussion of relaxing the 75% rule, which is causing one resounding problem to potentially lead to another. To start, the latest guidance shows that businesses will not have a reduction in loan forgiveness for employees who refuse to return to work even if they are making more money on unemployment. This, among other challenges, is leading to another issue - paying back what is not forgiven. Consider a distressed small business that generates $3.5MM in annual revenue with $80K/month in payroll expenses, but due to other operating expenses, is running on razor-thin margins, and with current debt servicing and extended days sales outstanding of no fault of their own, cash flow is tight. The business received $200K (2.5x payroll) in PPP funding, but because the business was trending downward, they triaged how they spent the money in an attempt to stay in business. It is determined that $100K of the PPP funding will not be forgiven. When plugged into an amortization schedule (18 months at 1% interest), the company is now facing an additional $5,600 in monthly debt service to pay off the PPP balance, whenever servicing begins. Although this is a simple example, for many businesses at different scales, the same picture can be painted. Not only is it possible they did not have enough cash prior to the lockdown to service additional debt, but if demand tanks even further after re-opening, the inevitable will likely be accelerated. This alone is why lenders and business owners should consider 13-week rolling cash flow projections to stress-test models and stay prepared for uncertainty. As of now, PPP loans can be discharged in bankruptcy, which is especially helpful for zombie companies that got a temporary lifeline as they march to a predictable future. However, if the rules do not continue to adapt to the needs of what is required to operate businesses at different scales, otherwise healthy businesses could be on the march to some form of a workout as well. Stay safe and healthy.
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