On March 27, 2020, President Trump signed the Coronavirus Aid, Relief, and Economic Security Act (CARES Act). The CARES Act provides more than $2 trillion in emergency relief to address the economic fallout from the COVID-19 crisis, including $500 billion in aid for businesses, states, and municipalities in distressed sectors of the economy. This includes approximately $46 billion earmarked for the air transportation industry and businesses deemed essential for national security. About $454 billion remains uncommitted, and will be administered as loan, loans guarantees, or other investments in eligible businesses.

The CARES Act is by no means the first major stimulus program implemented by the federal government in the midst of a crisis. In the last two decades, stimulus packages were authorized to aid businesses, including airlines, banks, and automotive manufacturers, during economic downturns resulting from the 9/11 terrorist attacks and the financial crisis.

However, the breadth and scope of this crisis, which is affecting large and small businesses across almost all industries, has led to a much swifter and larger response. Shortly after passing the CARES Act, and before any funds were even distributed, government leaders began debating the need for another relief package similar in size and scope.

Historically, “bailouts” of this variety have been politically unpopular, as stimulus funds are often perceived as handouts to large businesses. Unlike past programs, the CARES Act includes a large allocation of funds — $349 billion — for small businesses. A significant portion of these small business loans will be eligible for forgiveness to the extent certain conditions are met.

However, the CARES Act funds set aside for larger businesses come with strings attached.

Based on the legislative requirements, initial guidance provided by the U.S. Department of the Treasury, and historical precedent from past stimulus programs, businesses should be prepared to go through a rigorous process, and in some cases should expect to give up ownership stakes, to receive funding under the CARES Act.

Historic Rationales

In 2001, the federal government created a $7 billion fund to support airlines forced to shut down in the wake of the 9/11 terrorist attacks. The airlines were deemed to have fallen victim to an “act of God” that was no fault of their own. Therefore, the thinking went, they were worthy of financial support to avoid widespread failures across a critical industry.

In 2008, the situation was different. No act of God was involved, and the recipients of funds under the Troubled Asset Relief Program (TARP) were not perceived as blameless victims. Many argued that the banks and other financial institutions who received funding were the principal architects of the very financial crisis they had fallen victim to.

Nonetheless, the $700 billion TARP fund was established to shore up the banks because the systemic risk of failure of our financial system was too great to bear.

Much the same argument was made in favor of rescuing the automakers, who were allocated $81 billion in TARP funds in 2009. In both cases, it was determined that the ripple effects of the failure of “too big to fail” institutions were a systemic risk that merited swift and decisive action in the form of massive federal financial relief.

The COVID-19 crisis, on the other hand, is a perfect storm, involving an act of God that poses systemic risks across all sectors of the economy, of a size and scale not seen since the Great Depression.

Is “Strings Attached” Typcial?

Financial support for larger companies during crises is almost never in the form of no-strings-attached free money.

The Paycheck Protection Program, under Title I of the CARES Act, has a loan forgiveness element meant to incentivize small business employers to retain employees. But no such forgiveness provision exists (at least according to the legislative guidelines) for larger companies under Title IV of the CARES Act. This is consistent with historical practice.

In 2008, the most relevant benchmark for the current situation, the federal government,  through the administration of TARP, took an active and aggressive role in ensuring that distributed funds were repaid. The loans that were issued had to be paid back with interest. In some cases, the government took equity positions in financial institutions in return for its investment. Ultimately, in the years following the financial crisis, the government realized a profit of about $15 billion from interest paid on loans and sales of equity positions.

In the case of the automakers, the government played the role of lender in the General Motors and Chrysler bankruptcies, and also took large equity stakes in the reorganized entities. It also dictated the terms of the companies’ restructurings, including ousting GM CEO Rick Wagoner and facilitating Chrysler’s merger with Fiat, among other actions. Taxpayers lost over $11 billion from the automaker bailouts.

Expectations

Loans, loan guarantees, and other investments under Title IV of the CARES Act are likely to be administered in a manner consistent with how TARP was handled in 2008. The CARES Act specifically requires that airlines, and other designated industries vying for $46 billion in earmarked funds, propose how the federal government can retain a financial stake in their companies in exchange for a share of the funds allocated toward their industries. This provision is meant to ensure, similar to what happened in the wake of the financial crisis, that taxpayers will participate in any future gains as bailed out companies recover.

The U.S. Department of the Treasury issued guidelines to airlines and other designated industries on March 30, 2020, that outlined additional requirements involved in submitting an application for financial support, including:

  • Evidence there is no alternative access to credit
  • A description of covered losses
  • A description of how the loan proceeds will be used
  • An operating plan for the remainder of 2020
  • Cost-restructuring plans

The remaining $454 billion under the CARES Act is not designated for specific industries and will be provided through programs or facilities established by the board of governors of the Federal Reserve System (the “Federal Reserve”). The CARES Act outlines certain guidelines that are intended to govern the approval and disbursement of stimulus funds, including, among other things:

  • Assistance is available to businesses that have between 500 and 10,000 employees
  • Any company receiving a loan under the program is barred from making stock buybacks for the term of the loan plus one year
  • Caps on compensation for highly paid employees
  • Companies must not cut staffing by more than 10% through the end of September 2020
  • The Secretary of Treasury is authorized, but not required, to receive warrants, options, stock and other financial instruments to provide appropriate compensation for the government for the assistance

While the MSLP program authorizes unsecured loans, larger loans to larger businesses are likely to have stricter collateral requirements and possibly require the transfer of ownership stakes.

On April 9, pursuant to the CARES Act, the Federal Reserve announced the establishment of the Main Street Lending Program (the “MSLP”), the details of which are still being finalized. Eligible borrowers are small to midsize businesses with up to 10,000 employees or up to $2.5 billion in 2019 annual revenues. The Treasury Department will use $75 billion of the $454 billion in funds allocated by Congress under Title IV of the CARES Act to fund the program. When leveraged by the Federal Reserve, there will be up to $600 billion in liquidity available to participating lenders that provide loans to eligible businesses.

After backing out the $46 billion earmarked for airlines and national security-related businesses, and the $75 billion being used for the MSLP, that leaves $379 billion in funds remaining under the CARES Act that may be available to businesses with more than 10,000 employees or $2.5 billion in revenue.

Preparing to Apply

In November 2008, when automotive executives first traveled to Washington, D.C., to request $25 billion in TARP funds, we witnessed what happens when businesses fail to thoroughly prepare when requesting taxpayer support. The Big Three automakers were turned away by Congress and told by Senate Majority Leader Harry Reid to come back with “…a responsible plan that gives us a realistic chance to get the needed votes.”

As the old saying goes, those who do not learn from history are doomed to repeat it.

Despite the lack of specific guidelines for unallocated funds, large businesses should plan for tremendous amounts of scrutiny and underwriting, including oversight from Congress and from a specially created inspector general.

They must also be prepared to make sacrifices in order to receive support. Historical precedent suggests that those who are seeking financial assistance should, prior to starting down this path, work with their advisers to  develop detailed and realistic plans explaining how they will maintain their workforces, restructure costs, improve operational efficiencies, and, if necessary, provide the federal government with a financial stake in their businesses in order to protect taxpayers. While the MSLP program authorizes unsecured loans, larger loans to larger businesses are likely to have stricter collateral requirements and possibly require the transfer of ownership stakes.

A great deal is not known about how the government will move forward with future programs. One of the biggest questions is where the government will draw the line when determining which businesses, in which industries, will be eligible.

As in past bailout scenarios, there is no doubt that industry lobbyists are busy at work making the case for their clients. Five hundred billion dollars may seem like a large sum of money, but based on the voracious appetite of small businesses for the $350 billion available under the Paycheck Protection Program, the need for financial assistance by businesses of all sizes across the economy is great — the funds will run out quickly. Accordingly, it’s incumbent upon businesses to be prepared with sound and detailed plans that demonstrate viability and ensure taxpayer protection.

Gene Kohut is a managing director and leads the fiduciary services practice at Conway MacKenzie, a part of Riveron. He serves as a receiver, assignee, chapter 11 trustee, liquidating trustee, and chief restructuring officer in bankruptcy, restructuring, and turnaround cases.

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