Good fortune is what happens when opportunity meets with planning. ― Thomas Edison
Running a business always involves uncertainty but the COVID-19 pandemic has raised uncertainty to a completely new level. At the core, a profitable business comes down to the interplay of supply and demand, and companies are suffering on both sides. Demand (both retail and B2B) has deteriorated for most businesses due to lockdowns. Supply chains have been ruptured, and even as some areas start to reopen from lockdowns, the need to increase physical distance between employees is putting new limits on capacity.
Nearly a year after the COVID-19 pandemic landed in the United States, we still do not yet know where we are on the path to economic recovery – while the number of COVID-19 cases may have peaked, business uncertainty has not, and no one knows how the economic recovery will play out (V-shaped, U-shaped, W-shaped, “swoosh” or otherwise). So, it is best to plan for almost any scenario. While your company may have been generating consistent, positive cash flow prior to the pandemic with little or no need for external financing, your latest forecasts may show a need for outside funds to push through this unprecedented and unpredictable time.
The good news is, there are ways to access funds with help from the government. If your business received funds under the Paycheck Protection Program (PPP) but that won’t be enough to sustain operations until demand has improved further, or if you decided not to apply for PPP funds but are interested in other types of loans, here is a primer to help you decide the best fit for your business.
The EIDL Program, and SBA 7(a) Loans
Businesses that do not need the $500k minimum required by the MSLP, and not-for-profits that are not MSLP-eligible may want to consider the SBA’s Economic Injury Disaster Loan (EIDL) Program. However, due overwhelming demand created a huge backlog, and the SBA is now accepting new applications only from agricultural businesses.
Goal: To help entities suffering substantial economic injury as a result of a declared disaster, whether or not the business sustained physical damage. The Covid-19 pandemic qualifies as a declared disaster nationwide.
Who is eligible: Businesses with 500 or fewer employees; sole proprietors; independent contractors; most private nonprofits.
Basic Terms: When the program was launched, the maximum loan was $2 million, based on the extent of economic injury. The huge number of applicants led the SBA to abruptly drop the cap to $150K. Loans carry an interest rate of 3.75% for businesses and 2.75% for non-profits. Borrowers have up to 30 years to repay the loan, and payments on Coronavirus EIDLs are deferred for one year.
While EIDLs usually require a personal guarantee, this is being waived for loans of up to $200,000, through the end of 2020. Since the EIDL terms appear to be in flux, business owners should clarify the status of a personal guarantee requirement with their lender and weigh this carefully before proceeding. Collateral is not required for EIDLs up to $25,000; above that, a general security interest in business assets will be used for collateral. EIDL borrowers must allow the SBA to review their tax records.
Companies can request an emergency advance of up to $10,000 that can be forgiven if the EIDL application is later denied and the funds are spent on maintaining payroll, paid leave, mortgage or rent, cost increases due to supply chain disruptions, or to cover other expenses that cannot be met due to pandemic-related revenue losses. As of now, this is also limited to agricultural businesses.
EIDL and PPP?
Companies can participate in the PPP and qualify for an EIDL, although the amount of economic injury assessed for the EIDL will be reduced by the amount of a PPP loan. While Congress appears likely to loosen some of the PPP’s restrictions on the use of funds, EIDLs can be used for many business expenses, including:
- Working capital to continue business operations
- Expenditures to address the economic injury suffered
- Sick leave for employees unable to work because of COVID-19;
- Increased supply costs;
- Rent or mortgage payments;
- Repaying debt that cannot be otherwise repaid due to revenue losses.
Note that EIDLs cannot be used to refinance debt incurred prior to the disaster, to repair physical damage, or to pay dividends.
SBA 7(a) Loans are another possible source of funds for businesses. These loans are not related to Covid-19 relief and are available for small businesses at any time. A company can borrow up to $5 million, and the SBA guarantees 85% of loans up to $150,000 and 75% for higher amounts. The interest rate is negotiated between the borrower and the lending bank, with a cap set by the SBA.
To protect lenders and the SBA, collateral is required for loans over $25,000. For loans greater than $350,000, collateral is required “to the maximum extent possible” up to the loan amount. If a company’s fixed assets are not sufficient, lenders must take equity in the personal real estate (residential and investment) of the principals as collateral.
Asset-based Lending and Factoring
If PPP, EIDL and/or SBA 7(a) loans are not sufficient, or a business does not qualify for those programs for some reason, another alternative is asset-based lending (ABL). This can make sense for a business with large amounts of inventory, equipment, or accounts receivable that needs funding now to get through a cash flow crisis.
With ABL, the assets are not sold – they serve as collateral. If the business fails to make its loan payments, the lender can take the assets. The process of valuing the collateral is more costly, and ongoing monitoring is more extensive than with traditional loans, so companies tend to use asset-based lending only if they cannot obtain funds from a traditional lender. For businesses in need of cash quickly, who do not have time to go through ABL process, factoring may be a solution. With factoring, also known as invoice or accounts receivable factoring, receivables/invoices are sold, at a small discount, to a factoring company. Since factoring is not lending it is generally easier and faster to obtain.
There are a number of sources of funds to help businesses get back on their feet after the supply and demand “one-two punch” the pandemic has delivered to the global economy. While borrowing money may be counter to a company’s practices under “normal” conditions, it can make sense if it is a bridge that allows a viable business to return to solid ground.
At G-Squared Partners, we have helped many companies to analyze their need for funds and understand their alternatives. We are helping many businesses to work through a variety of financial challenges during this time, and we invite you to contact us today for a free, no-obligation conversation about how we could help your business.