Is Maximizing PPP Lending The Real Endgame?


On May 15, 2020, the Small Business Administration approved the loan waiver application for the Paycheck Protection Program. The application is packed with guides and guides to help businesses calculate loan waivers, including helpful worksheets and step-by-step guides. After the application was published, Congress passed the Paycheck Protection Program Flexibility Act of 2020, which changed the award criteria. With this additional guide in hand, borrowers work diligently to find ways to maximize their forgiveness.

But is maximizing forgiveness the real endgame?

I believe that some borrowers are doing themselves a disservice by focusing on maximum forgiveness rather than maximum long-term profitability.

In a recent webinar, the New York Small Business Development Center confirmed that any PPP funds that were not used in the covered period (recently increased to 24 weeks due to the PPPFA), along with the unallocated portion of the covered period as five year loan as adjusted by the PPPFA at 1 percent and the remaining funds can be used for any business expenses approved by the SBA.

Forgiveness vs. Viability

While the economy appears to be opening up, it will be a slow process and companies can suffer potential future setbacks. When evaluating their PPP funds, borrowers should ask themselves many questions: Does the borrower have the working capital to survive the period covered and the months that follow? Is there enough cash to support the day-to-day business until the borrower can achieve positive cash flow? Does it make sense for the borrower to pay underutilized or worse home-seated employees when many of them can earn similar, or in some cases better, wages when unemployed? These and many other questions boil down to the core question:

“Am I better off using the PPP funds to maximize payroll and forgiveness, or should I use them for other Approved Uses in the Period Covered and then for additional SBA Approved Uses after the Period Covered?”

To answer this question, a borrower needs to look at the big picture of long-term profitability. Many companies have been unable to work in the past few months. Most or all of their revenues have dried up and, unfortunately, they still have significant fixed costs. You have to make tough decisions about how to survive in the long run. The decisions they make shouldn’t be based solely on getting through the 24 week period covered. Companies then have to look to the next few months. Many borrowers may conclude that maximum forgiveness is not the best way to go.

Employment level is key

The largest variable in the short term is employment. Since many workers can become unemployed, the fact that they stay on the payroll to do little to nothing has a net zero effect on the borrower’s cash flow. You pay the coworker to stay home and you get full forgiveness. If the employee can earn almost as much, and in some cases more, from unemployment, it may be better for a borrower to use the PPP funds for other purposes or to expand payroll for a smaller number of key employees.

It should be noted that the CARES Act, and the PPP in particular, are not only intended to get companies through the end of the covered period. It is part of a larger effort to keep businesses viable after the current economic hardship has ended. Therefore, the effective use of funds to achieve this goal in terms of long-term viability supports this goal.

An illustration

The following figure shows the comparison results of a fictional company or borrower based on their use of their PPP funding. The three scenarios are:

  • Scenario 1: full employment / maximum forgiveness
  • Scenario 2: 50 percent employment / 50 percent forgiveness
  • Scenario 3: 25 percent employment / 25 percent forgiveness

There are many factors that determine an employment decision. Borrowers should consider the well-being of their employees when developing further. This analysis assumes several factors related to employment and operational decisions:

  • Most or all workers are entitled to extended unemployment benefits and may have the option of maintaining their wages close to their pre-unemployment levels for a period of time.
  • The borrower only plans to reduce the workforce until they can cover salaries with restored cash flow.
  • The example assumes that no income is received for the entire overdrawn period. This is an extreme case, but it best illustrates the potential worst-case benefits of a cash-holding strategy.
  • The figure also assumes that the reduction in full-time positions occurred mainly after April 26, 2020, which means that it will not be possible to restore it until December 31. Another worst-case scenario.

Note: The following example is for illustrative purposes only and does not take into account many other factors that affect cash flow and profitability, such as:

Table 1 shows the assumptions used in this figure. Please note that this analysis is oversimplified and aims to give direction to the potential outcomes of certain decisions.

Scenario 1Scenario 2Scenario 3
Cash before PPP$ 200,000$ 200,000$ 200,000
PPP loan amount$ 100,000$ 100,000$ 100,000
Monthly payroll with full employment$ 40,000$ 40,000$ 40,000
Keep employment100%50%25%
Other monthly PPP approved uses$ 10,000$ 10,000$ 10,000
Other monthly expenses$ 10,000$ 10,000$ 10,000
Period covered in months5.545.545.54

Table 2 illustrates the funds deployed for each of the scenarios during the period covered (24 weeks). The table also shows the resulting cash positions for each scenario at the end of the period covered. As shown, the cash availability increases by $ 166,000 from Scenario 1 to Scenario 3. It is also important to note that the borrower will not even survive the period covered in Scenario 1.

The excess cash positions in scenarios 2 and 3 are now available for use both over the covered period and in the weeks and months after the covered period. Please note that the PPP funds that have not been used in the covered period can only be used for SBA approved expenditures in the future, but these uses are wider than the PPP approved expenditures. The scenarios presented assume that there is enough SBA-approved spending to fully utilize the remaining PPP funds.

Scenario 1Scenario 2Scenario 3
Usages in the covered period
Payroll from PPP$ 221,538$ 110,769$ 55,385
Other uses of PPP$ 55,385$ 55,385$ 55,385
Total uses of PPP$ 276,923$ 166,154$ 110,769
Non-PPP spending$ 55,385$ 55,385$ 55,385
TOTAL CASH USE$ 332,308$ 221,538$ 166,154
Cash position for the period covered
Initial cash before PPP$ 200,000$ 200,000$ 200,000
PPP proceeds$ 100,000$ 100,000$ 100,000
Less: PPP uses($ 276,923)($ 166.154)($ 110,769)
Less: non-PPP usage($ 55,385)($ 55,385)($ 55,385)
New liquidity position after the covered period($ 32,308)$ 78,462$ 133,846
Cash position relative scenario$ –$ 110,769$ 166,154

Table 3 shows how these additional funds can be used to increase the borrower’s profitability. Again, please note that Scenario 1 does not even support the borrower during the period covered. The table shows two possible approaches at the end of the period covered: Approach 1 is based on the restoration of full employment. Approach 2 shows a case where job cuts must be held at a reduced number, provided that business has not recovered fully enough to support full payroll. Using a strategic spend, this particular graph shows that the business can in the worst case extend its viability by up to 1.85 to 2.77 months. Approach 2 shows that viability can be extended by 5 months. This creates more runway to perform a recovery.

Scenario 1Scenario 2Scenario 3
Approach 1: Full restoration of employment
Monthly burn rate (no income)$ 60,000$ 60,000$ 60,000
Remaining cash flow in months-0.541.312.23
Increase in profitability in months compared to scenario 11.852.77
Approach 2: Maintaining reduced employment
Monthly burn rate (no income)$ 60,000$ 40,000$ 30,000
Remaining cash flow in months-0.541.964.46
Increase in profitability in months compared to scenario 12.505.00

In all scenarios, it is assumed that the downsizing took place after the downsizing deadline of April 26th, 2020, so that even with a complete restoration by December 31st, 2020 the forgiveness will still be reduced by the downsizing of FTE. Table 4 shows the relative cash positions for each scenario. Although the PPPFA increases the new term to five years, this figure assumes payment after two years.

Although forgiveness is greatly reduced in Scenarios 2 and 3, the long-term benefits in terms of cash preservation are significant.

Scenario 1Scenario 2Scenario 3
Loan repayment / no forgiveness$ 101,480$ 101,480$ 101,480
forgiveness$ 100,000$ 50,000$ 25,000
Award percentage100%50%25%
Credit not granted$ –$ 50,000$ 75,000
Capital / interest payments with forgiveness$ –$ 50,740$ 76,110
Relative cash impact of credit waiver($ 50,740)($ 76,110)
Relative liquidity position according to the period covered$ –$ 110,769$ 166,154
Relative net cash position after 2 years$ –$ 60,029$ 90,044

While this is only an exemplary illustration, it shows that there are situations when the borrower is better off foregoing the perk in order to extend their principal.

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