Who may be disqualified from aid? Many venture capital-backed and most private equity-backed companies will be ineligible to qualify for the Paycheck Protection Program and enhanced Economic Injury Disaster Loans under the recently adopted CARES Act unless regulations for determining whether a company qualifies as a “small business” are waived or modified.
Why is this happening? The CARES Act, the historic U.S. stimulus plan, is to provide increased disaster relief to small businesses adversely impacted by the financial downturn triggered by the COVID-19 crisis. Congress chose the U.S. Small Business Administration (SBA) as the federal agency for making such aid to businesses.
However, VC- and PE-backed companies often fail to meet the SBA’s 500-employee cap for small businesses because, under SBA rules, employees of companies “affiliated” with a business are counted as employees of that business. Under these rules, a business that has received investment from a VC firm will often be deemed “affiliated” with the other portfolio companies of the VC firm. So a business with less than 500-employees may be disqualified if its venture capital investor’s total portfolio of companies exceeds 500 employees.
The SBA rules for determining affiliation are not based on a simple percentage ownership test, but look at many factors for determining whether there is common control of a business. SBA rules also presume the two entities are affiliated, unless rebuttal evidence is presented by the applying company showing otherwise.
What attempts are being made to rectify this? The National Venture Capital Association (NVCA), Center for American Entrepreneurship, and other business associations are presently lobbying to convince the SBA to modify criteria to allow venture capital-backed companies to fully participate in COVID-19 disaster relief aid.
Click here to learn more about capital relief alternatives for small businesses. Please do not hesitate to reach out to our attorneys with any questions.
About the Author: Robert Chow
Robert Chow’s practice focuses mainly on general corporate, securities, mergers and acquisitions, strategic alliance, as well as licensing and commercial matters. Robert advises companies at all stages of development, including formation and governance issues, equity and compensation matters, venture capital financing, technology licensing, and other regulatory compliance. He provides actionable legal advice to entrepreneurs, emerging growth companies, and venture investors. He can be reached at firstname.lastname@example.org or 617.345.3599.