Federal Reserve Updates Key Features of the Main Street Lending Program

On April 30, 2020, the Board of Governors of the Federal Reserve System (“FRB”) announced an expansion of the Main Street Lending Program (“MSLP”) and clarified certain aspects of the program through publication of a list of FAQs. In general, the changes expand the number of businesses eligible to borrow, reduce the minimum loan size for eligibility, and establish a third facility under the program, the Main Street Priority Loan Facility (“MSPLF”), expanding the loan types eligible for financing. In addition, certain U.S. operations of foreign banking organizations (“FBOs”) are now permitted to participate as lenders in the program. This client alert provides an overview of the MSLP facilities and summarizes the key changes to the MSLP, as announced on April 30, 2020.

Background

The MSLP was approved by the FRB on April 8, 2020 as one of several actions pursuant to its authority under Section 13(3) of the Federal Reserve Act to support the economy in the midst of the COVID-19 public health crisis. It is designed to facilitate loans to small- and medium-sized businesses. Under the MSLP, the Federal Reserve Bank of Boston will commit to lend to a special purpose vehicle (“SPV”) on a recourse basis, which will then purchase up to $600 billion in Eligible Loans from Eligible Lenders, as those terms are defined in the relevant facility term sheets, thereby leveraging the U.S. Department of the Treasury’s (“Treasury”) initial equity investment of $75 billion in the SPV. The SPV will cease acquiring Eligible Loans on September 30, 2020, unless the date is extended by the FRB and the Treasury. For additional information regarding the terms and structure of the MSLP as initially proposed, please see our earlier Client Alert.

Overview of the MSLP Facilities

The SPV will acquire Eligible Loans under three separate facilities (current term sheets for which are provided in the following links): the Main Street New Loan Facility (“MSNLF”), the Main Street Expanded Loan Facility (“MSELF”) and the new facility announced on April 30, 2020, the MSPLF. The MSNLF and the MSPLF are designed to facilitate the extension of new credit. In contrast, the MSELF will facilitate the extension of additional credit, referred to as the “upsized tranche,” on existing term loans or revolving credit facilities between an Eligible Lender and an Eligible Borrower. To borrow under any of the MSLP facilities, as revised on April 30, 2020, a borrower must either: (a) have 15,000 or fewer employees;[1] or (b) had 2019 annual revenues of $5 billion or less.[2]

The chart below, adapted from the FRB’s April 30, 2020 press release, summarizes and compares the requirements for loan eligibility under each facility:

Summary of Changes to MSLP Announced on April 30, 2020

The remainder of this client alert summarizes the significant changes and clarifications to the MSLP that were announced on April 30, 2020. Such changes fall into the following categories: (1) expansion of Eligible Lenders; (2) revised restrictions on borrower eligibility; (3) new requirements for loans; (4) new requirements concerning risk retention and sale of participations to the SPV; (5) revisions to lender and borrower certifications and covenants; (6) updates to the fee requirements; and (7) clarifications regarding capital treatment.

1. Expansion of Eligible Lenders

As initially proposed, only U.S. insured depository institutions, U.S. bank holding companies, and U.S. savings and loan holding companies could serve as Eligible Lenders under the MSLP. The pool of Eligible Lenders has since been expanded to include U.S. branches and agencies of foreign banks, U.S. intermediate holding companies of FBOs (“IHCs”), and any U.S. subsidiary of an Eligible Lender. The FRB also indicated in FAQ I.1 that it is currently considering options for further expansions to the scope of Eligible Lenders.

FAQ I.1 also states that “nonbank financial institutions are not considered Eligible Lenders for purposes of the” MSLP. But this broad statement creates a potential conflict with the facility term sheets when it comes to nonbank U.S. subsidiaries of Eligible Lenders. As a result, it remains unclear as to whether nonbank subsidiaries of U.S. bank holding companies and IHCs, or U.S. lending affiliates of U.S. branches of foreign banks, can serve as Eligible Lenders under the MSLP. We expect this to be clarified in future guidance.

2. Revised Restrictions on Borrower Eligibility

As discussed above, the pool of Eligible Borrowers was significantly expanded by modifying the employment and revenue conditions from 10,000 to 15,000 employees and from $2.5 billion to $5 billion in 2019 revenues.

However, there were certain additional conditions placed on borrower eligibility that will limit the scope of Eligible Borrowers in some respects. For instance, the employees and revenue of any affiliates of a borrower may count towards the employee and revenue caps for MSLP eligibility. The inclusion of this restriction means that even with the higher employee and revenue caps, a borrower with a large parent company might not qualify for MSLP assistance.

In addition, importantly, the FRB expects Eligible Lenders to use their internal underwriting processes to assess a potential borrower’s financial condition at the time of its application for a loan under the MSLP, as they would for any loan. As a result, Eligible Lenders may impose additional requirements on borrowers and are not required to lend to borrowers simply because they meet the conditions of an Eligible Borrower.

New requirements on borrower eligibility include:

• Borrower must have been established prior to March 13, 2020.
• Borrower must be organized for profit as one of the following organizational forms:
  
  • partnership;
  • limited liability company;
  • corporation;
  • association;
  • a trust;
  • a cooperative;
  • a joint venture with no more than 49 percent participation by foreign business entities;
  • a tribal business concern;[7] or
  • another form of organization at the discretion of the FRB.
  • Borrower may not be an “Ineligible Business,” a term which generally includes most of the business types that are ineligible for SBA loans (e.g., banks, life insurance companies, businesses located in a foreign country with no activities in the United States, among others).[8]
  • Borrower may not have received specific support pursuant to Subtitle A of Title IV of the CARES Act (support for airlines, cargo air carriers, and businesses critical to national security).
  • For the MSNLF and the MSPLF, any loans the borrower had with the Eligible Lender as of December 31, 2019 must have had an internal risk rating equivalent to a “pass” in the FFIEC’s supervisory rating system on that date.

Businesses that have received loans under the Paycheck Protection Program also are permitted to borrow under the MSLP as long as they meet the conditions to be considered an Eligible Borrower.

Finally, while non-profits are currently ineligible to participate as borrowers in the MSLP, the Federal Reserve indicated in FAQ E.6. that it is working with Treasury to consider ways to modify the borrower and loan eligibility metrics to enable their participation. The issue is that the current metrics used for determining eligibility are based on EBITDA, which is not an appropriate metric for evaluating the credit risk of non-profit organizations.

3. New Requirements for Loans

The scope of loans eligible to be purchased by the SPV was expanded by reducing the minimum loan size for the MSNLF to $500k from $1M and increasing the maximum loan size for the MSELF to $200M from $150M. In addition, the following changes were made to the eligibility requirements for loans:

• To be eligible for the MSNLF and MSPLF, the loan must have been originated after April 24, 2020, and for the MSELF, the existing loan must have been originated on or before April 24, 2020 (previously it was April 8, 2020).
• The facility term sheets were clarified to make clear that while principal and interest payments are deferred for the first year of the loan, unpaid interest will be capitalized during the deferral period.
• The rate was changed from SOFR + 250-400 bps to LIBOR (1 or 3 month) + 300 bps.
• An amortization schedule was established, as detailed in the chart above.
• For the MSELF, the existing loan that will be expanded with the upsized tranche must have a remaining maturity of at least 18 months at the time of upsizing.
• For the MSELF, the Eligible Lender must be one of the lenders that holds an interest in the existing loan as of the date of the upsizing.

The benchmark rate used for Eligible Loans was changed from SOFR to LIBOR in response to significant comment from potential participants. SOFR initially was proposed as the benchmark rate because LIBOR will no longer reliably be published after the end of 2021. Nevertheless, lenders were concerned that using SOFR would require a diversion of resources to implement new systems, which otherwise could be used to respond to the effects of the pandemic. While the FRB changed the benchmark rate for Eligible Loans to LIBOR, it expects fallback contract language to be used in case LIBOR becomes unavailable during the loan term.[9]

The April 30, 2020 updates also clarify the methodology Eligible Lenders should use for determining a borrower’s adjusted 2019 EBITDA for purposes of calculating the maximum loan size. For the MSNLF and MSPLF, the Eligible Lender should use the methodology previously used for adjusting EBITDA when extending credit to the Eligible Borrower or similarly situated borrowers on or before April 24, 2020. For the MSELF, the Eligible Lender should use the same methodology used when originating or amending the existing loan being upsized. As discussed below, Eligible Lenders must certify that they have followed these requirements.

Finally, the FAQs clarify that multi-lender facilities may be eligible for an upsized tranche under the MSELF. For these loans, the Eligible Lender must continue to be a lender in the original loan as of the date of upsizing; however, not all lenders in the multi-lender facility must meet the Eligible Lender requirements.[10]

4. Loan Participations and Risk Retention

New requirements were established concerning risk retention by Eligible Lenders and sale of participations to the SPV, including:

• The percentage of the loan or upsized tranche required to be retained by the Eligible Lender (5% for MSNLF and MSELF, 15% for MSPLF) must be retained until either: (a) the loan or upsized tranche matures; or (b) the SPV sells all of its participation.
• The sale of a participation in the Eligible Loan, or an upsized tranche, to the SPV will be structured as a “true sale” and must be completed expeditiously after the Eligible Loan’s origination or upsizing.
• For the MSELF, the SPV will purchase a participation in the upsized tranche only, not the existing loan.
• For the MSELF, any collateral securing the existing loan (at the time of upsizing or on any subsequent date) must secure the upsized tranche on a pro rata basis. Previously, collateral needed to secure only the loan participation acquired by the SPV.

5. Required Certifications and Covenants

a. Required Lender Certifications and Covenants

The following changes have been made to the certifications and covenants required of Eligible Lenders:

• The Eligible Lender must commit that it will not cancel or reduce any existing or committed lines of credit to the Eligible Borrower, except in event of default.[11]
• For the MSNLF and MSPLF, an Eligible Lender must certify that the methodology used for calculating the Eligible Borrower’s adjusted 2019 EBITDA for the leverage requirement is the methodology it has previously used for adjusting EBITDA when extending credit to the Eligible Borrower or similarly situated borrowers on or before April 24, 2020. For the MSELF, the methodology used must be the same that was used when originating or amending the existing loan being upsized.
• For the MSNLF, rather than attesting that proceeds of an Eligible Loan will not be used to repay or refinance preexisting loans or lines of credit to the Eligible Borrower, Eligible Lenders must commit that they will not request that the Eligible Borrower repay debt previously extended, or pay interest on such outstanding obligations, until the Eligible Loan is repaid in full, unless the debt or interest payment is mandatory and due, or in the case of default and acceleration. This requirement has been carried through to the MSPLF.

b. Required Borrower Certifications and Covenants

The following changes have been made to the certifications and covenants required of Eligible Lenders:

• The borrower must commit that it will not seek to cancel or reduce any of its committed lines of credit with the Eligible Lender or any other lender (note, loans under the MSLP may be prepaid without penalty).
• The borrower must certify that it has a reasonable basis to believe, as of the date of origination of the Eligible Loan, or the upsized tranche, and after giving effect to such loan, that it has the ability to meet its financial obligations for at least the next 90 days and does not expect to file for bankruptcy during that time period.
• The borrower is no longer required to attest that it requires financing due to the exigent circumstances presented by the COVID-19 pandemic.
• The borrower is no longer required to attest that it will make reasonable efforts to maintain its payroll and retain employees during the term of the eligible loan; however, as discussed below, the requirement to make reasonable efforts in this regard remains.
• In general, the borrower still must commit that it will follow compensation, stock repurchase, and capital distribution restrictions that apply to direct loan programs under section 4003(c)(3)(A)(ii) of the CARES Act.[12] However, a new exception was created for S corporations and other tax pass-through entities that may make distributions to the extent reasonably required to cover its owners’ tax obligations in respect of the entity’s earnings.
• The borrower is no longer required to attest that it meets the EBITDA leverage condition.

While a borrower is no longer required to make an attestation related to maintaining payroll and employee retention, borrowers participating in the MSLP should make commercially reasonable efforts to maintain their payroll and retain employees during the time the Eligible Loan is outstanding. According to FAQ G.8, this would include “good-faith efforts to maintain payroll and retain employees, in light of its capacities, the economic environment, its available resources, and the business need for labor.” However, a borrower is not precluded from participation in the MSLP if it has already laid-off or furloughed employees as a result of disruptions due to the pandemic.

The required certifications and covenants will be collected by the Eligible Lender, but the Eligible Lender is not required to independently verify statements made by borrowers or monitor compliance with the requirements imposed on Eligible Borrowers. Eligible Lenders should, however, notify the Federal Reserve Bank of Boston if they become aware of any material misstatements made by the Eligible Borrower or any covenants breached by an Eligible Borrower during the term of the loan.[13]

6. Fees

A few adjustments were made to the fee requirements under the MSLP:

• For the MSNLF and the MSPLF, the Eligible Lender will pay the SPV 100 bps of the principal amount of an Eligible Loan at the time or origination, which may be passed on to the Eligible Borrower. Previously, this fee was 100 bps of the principal amount of the loan participation acquired by the SPV.
• For the MSNLF and the MSPLF, the Eligible Lender has discretion to charge the Eligible Borrower an origination fee set at a maximum of 100 bps. Previously, the fee was set at 100 bps.
• For the MSELF, the Eligible Lender will pay the SPV a transaction fee of 75 bps of the principal amount of the upsized tranche at the time of upsizing, which may be passed on to the Eligible Borrower. Previously, no transaction fee for the MSELF was specified.
• For the MSELF, the Eligible Lender has discretion to charge the Eligible Borrower an origination fee set at a maximum of 75 bps of the upsized tranche. Previously, the fee was set at 100 bps. 

Since the fees charged by the SPV will now be based on the total amount of the Eligible Loan and not the participation acquired by the SPV, the changes to the MSNLF term sheet increased fees by 5%. In addition, by setting the origination fee at a maximum rather than a set rate, the term sheets permit Eligible Lenders to charge lower fees to borrowers, which could have the effect of encouraging price competition among lenders.

Consistent with the initial announcement of the MSLP, the facility term sheets provide that the SPV will pay an annual fee to an Eligible Lender of 25 bps of the principal amount of the SPV’s participation in the Eligible Loan, or upsized tranche, for loan servicing. The April 30 announcement stated that further information will be released by the Federal Reserve regarding credit administration and loan servicing.

7. Capital Treatment of MSLP Loans

In FAQ K.1, the Federal Reserve provided guidance regarding the capital treatment for MSLP loans for Eligible Lenders subject to the federal banking agencies’ capital rules (which excludes credit unions). Specifically, the interest retained by an Eligible Lender should be assigned a risk weight applicable to the counterparty for the loan, which is generally 100% for corporate borrowers under the standardized approach. For the MSELF, this capital treatment would apply only with respect to the portion of the upsized tranche retained by the Eligible Lender and not the original extension of credit, which would be subject to the same capital treatment as before the upsizing.

In addition, MSLP loans that are secured are eligible for credit risk mitigation treatment under the standardized approach as long as the collateral is eligible financial collateral. Any collateral attributed to the portion of the loan held by the SPV may not be recognized for credit risk mitigation treatment.

[1] As explained in FAQ E.3, “[t]o determine how many employees a Business has, it should follow the framework set out in the SBA’s regulation at 13 CFR 121.106. As set out in 13 CFR 121.106, the Business should count as employees all full-time, part-time, seasonal, or otherwise employed persons, excluding volunteers and independent contractors. Businesses should count their own employees and those employed by their affiliates. In order to determine the applicable number of employees, Businesses should use the average of the total number of persons employed by the Eligible Borrower and its affiliates for each pay period over the 12 months prior to the origination or upsizing of the Main Street loan.”

[2] Annual revenues for 2019 are calculated by aggregating the revenues of the borrower together with its affiliates. Acceptable methods for calculating annual revenues include: (1) GAAP audited financial statements; or (2) annual receipts for FY 2019 as reports to the Internal Revenue Service. Borrowers that do not have this information for 2019 should use the most recent information available. See FAQ E.4.

[3] While a borrower may only participate in one of the three facilities under the MSLP, a borrower can receive more than one loan under a single facility as long as the total loans received do not exceed $25M for the MSNLF and MSPLF or $200M for the MSELF, and the requirements for the facility continue to be met. See FAQ G.9.

[4] As it is used for the calculation of maximum loan size under each facility, according to FAQ G.2, existing outstanding and undrawn available debt “includes all amounts borrowed under any loan facility, including unsecured or secured loans from any bank, non-bank financial institution, or private lender, as well as any publicly issued bonds or private placement facilities. It also includes all unused commitments under any loan facility, excluding (1) any undrawn commitment that serves as a backup line for commercial paper issuance, (2) any undrawn commitment that is used to finance receivables (including seasonal financing of inventory), (3) any undrawn commitment that cannot be drawn without additional collateral, (4) any undrawn commitment that is no longer available due to change in circumstance. Existing outstanding and undrawn available debt should be calculated as of the date of the loan application.”

[5] This means that the Eligible Loan may “not be junior in priority in bankruptcy to the Eligible Borrower’s other unsecured loans or debt instruments.” However, it does not prevent participation in the facility through loans secured by a second lien or unsecured loans of a borrower that has outstanding secured debt. It also does not prevent the borrower from taking on new secured or unsecured debt as long as the new debt does not have higher contractual priority in bankruptcy than the MSNLF loan. See FAQ B.3.

[6] This commitment, which is required under each facility, does not prevent an Eligible Borrower from (a) repaying a line of credit (including a credit card) in accordance with normal business usage; (b) taking on and paying additional debt obligations required in the normal course of business and on standard terms as long as such debt is secured by newly acquired property and is of equal or lower priority than the MSLP loan; or (c) refinancing maturing debt. See FAQ H.3.

[7] The term “tribal business concern” is a Business that is: (a) wholly owned by one or more Indian tribal governments, or by a corporation that is wholly owned by one or more Indian tribal governments; or (b) owned in part by one or more Indian tribal governments, or by a corporation that is wholly owned by one or more Indian tribal governments, if all other owners are either U.S. citizens or Businesses. See 15 U.S.C. § 657a(b)(2)(C).

[8] For purposes of the MSLP, an Ineligible Business is “a type of business listed in 13 CFR 120.110(b)-(j) and (m)-(s), as modified by regulations implementing the Paycheck Protection Program established by section 1102 of the CARES Act (“PPP”) on or before April 24, 2020. The application of these restrictions to the [MSLP] may be further modified at the discretion of the Federal Reserve.” See also SBA, SOP 50 10 5(k): Lender and Development Company Loan Programs (April 1, 2019), available here (providing guidance on types of ineligible businesses).

[9] See FAQ G.3.

[10] See FAQ D.3.

[11] This would not prevent the lender from: (a) reducing or terminating uncommitted lines of credit; (b) allowing the expiration of existing lines of credit in accordance with their terms; or (c) reducing the availability under existing lines of credit in accordance with their terms due to changes in borrowing bases or reserves in asset-based or similar structures. See FAQ H.5.

[12] See our client alerts discussing CARES Act restrictions on executive compensation, as well as stock repurchase programs in light of the CARES Act.

[13] See FAQ H.6.