President Donald Trump signed a $2 trillion economic stimulus package into law Friday afternoon, bringing small businesses across the country a step closer to much-needed financial relief in the wake of a pandemic.
The nation’s startup community, and the 2.7 million people who work for VC-backed companies, are still fighting for access to the $350 billion earmarked for small business loans.
Under the new law, businesses with fewer than 500 employees may apply for up to $10 million in short-term loans with a maximum interest rate of 4 percent. If they use the funds for payroll, rent, mortgages or utilities, they can qualify for loan forgiveness. But confusing language surrounding the eligibility of VC-backed companies left many wondering where startups stand.
“I think it was an honest mistake.”
The more-than-800-page law set up the new lending program by expanding the authority of an existing Small Business Association program. That program comes with guidelines called “affiliation rules.” These rules dictate that companies majority-owned by private equity or venture capital (VC) firms must count the employees of other startups in their investors’ portfolios toward their own employee totals.
In other words, if a VC firm has funded two startups with 300 employees each, both companies become ineligible.
Betsy Ziegler, CEO of the Chicago-based innovation hub 1871, said the exclusion of startups from the stimulus bill, if left unaddressed, could be potentially devastating to the broader economy.
“The vast majority of job growth in the past decade has come from small businesses. If the startup engine is broken, the job creation engine is broken,” she said. “If the stimulus bill excludes venture-backed companies, that would be devastating.”
Another stipulation in the SBA’s eligibility rules, criticized by many for their vagueness, excludes startups that have multiple VC firms that are “large compared to other stock holdings.” That vagueness does leave some room for optimism, however. According to Troy Henikoff, managing director at MATH Venture Partners, it’s quite possible that startups may have been overlooked by mistake.*
“I think it was an honest mistake in that they set this up so the money would go to the companies that need it the most, and one of the unintended consequences was they used this affiliation language that was actually trapping companies with venture capital backing,” Henikoff said.
Small businesses in the emerging cannabis industry are also excluded from the stimulus program.
For tech startups, which are almost categorically VC-backed past a certain growth stage, the affiliation rules present a serious obstacle. Many rely on VC funds to make payroll as they pursue fast growth or a path to profitability. As revenues dip — or, in certain sectors, dry up — startups without deep cash reserves will be faced with the difficult decision to reduce their workforces or burn through their funding.
Corporate subsidiaries, which affiliation rules originally targeted, can rely on parent companies to float them money during tough times. Venture-backed startups, though, cannot easily ask their investors for more cash.
“A VC firm doesn’t have the money lying around to do that,” Henikoff said. “A VC fund is sort of like a mutual fund, except instead of investing in publicly traded companies, we’re investing in earlier-stage private companies. It would be like asking a mutual fund that invested in American Airlines to bail out American Airlines.”
“Companies should investigate what programs they are eligible for. There are pockets of money in the hundreds of billions being made available to small businesses right now.”
The National Venture Capital Association, along with other advocacy groups, worked fast to remove a provision requiring founders to personally guarantee any government-backed loans before the bill made it through the Senate on Wednesday. They were successful, but in their hustle to protect founders, they failed to notice the implications for venture-backed startups, NVCA head of government affairs Justin Field told Protocol.
Now, the NVCA and other advocates are focusing their efforts in two places: The SBA itself, and the U.S. Department of the Treasury.
The SBA, as outlined in a March 27 open letter from NVCA to the agency, could clarify or relax affiliation rules to include venture-backed startups and the 2.7 million people they employ in the United States.
The letter reads: “If the current SBA rules on affiliation are applied, they will create significant confusion about eligibility, delay the application process, render many small businesses ineligible, and cause many more to forego the process. Each of these challenges will exacerbate layoffs.”
The NVCA goes on to describe an informal survey it conducted among its member firms, in which “many companies” reported they may lay off from 25 to 50 percent of their workforces to remain operational.
According to Ziegler, startups within Chicago’s 1871 ecosystem are already feeling the economic impact of the pandemic.
“We’re trying to show up for our members during these incredibly hard times,” Ziegler said. “People are making decisions about members of their teams, as customers are going away and their revenue is going away. For those who were in the middle of a fundraising round — some may be lucky, but, for others, things have just ground to a halt.”
In addition to the small-business lending facility, the stimulus package outlines a lending program under the purview of the Treasury for mid-size businesses with 500 to 1,000 employees. The language, however, leaves it unclear if and when that program will take form.
The law also includes provisions for the deferral of employer social security payroll tax payments, refundable employee retention credits and unemployment insurance for furloughed workers.
The timeline for loan applications is still unknown, but Treasury Secretary Steven Mnuchin said at a White House press briefing Wednesday he expects a streamlined version of the process to be rolled out by the end of next week, the Wall Street Journal reported. In the meantime, Henikoff suggested concerned founders and employees reach out to their senators and congresspeople about affiliation rules. Companies also have other relief options, Ziegler said, like state-apportioned funds.
“Companies should investigate what programs they are eligible for,” she said. “There are pockets of money in the hundreds of billions being made available to small businesses right now.”
*Disclosure: MATH Venture Partners is an investor in Built In.