Startup stimulus? How logjams and ethics are impacting federal loans for tech companies

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The U.S. Capitol in Washington D.C. (GeekWire Photo / Taylor Soper)

A small business owner in Seattle waited nearly 12 hours to speak with a representative at her credit union, seeking to apply for a federal relief program designed to mitigate the economic injury of the coronavirus crisis.

One entrepreneur waited nearly 12 hours to speak to a representative, a necessary part of her Paycheck Protection Plan application.

“It is super frustrating,” said the entrepreneur, who runs a professional services startup and asked to remain anonymous for fear that publicizing financial hardship could impact her business. “The lack of clarity and direction on a federal level with these particular programs has really been, on top of the negative business impact of the shutdown, really distressing and disheartening.”

Many startups and small businesses impacted by the COVID-19 pandemic have been encountering similar frustrations as they seek loans and grants through the federal government’s $2 trillion stimulus package. Banks began accepting applications for the Paycheck Protection Program this week, but eligibility requirements and major logjams have many startups in the tech industry scrambling.

Complicated rules about investor control cast uncertainty on whether many tech startups are eligible for the program. Some tech companies, flush with cash from recent funding rounds, also find themselves in an ethical dilemma. Should they forego the limited funds so that other businesses with fewer resources can stay afloat?

The legislation earmarks $349 billion for forgivable loans to qualifying small businesses that retain their workforce or use the money to re-hire laid-off employees.

Coronavirus Live Updates: The latest COVID-19 developments in Seattle and the world of tech

Banks were supposed to start accepting applications for the Paycheck Protection Program on Friday but the rollout has been marked by delays, crashes, and confusion.

It’s a capacity issue, in part. The federal government’s Small Business Administration is tasked with scaling up dramatically to administer the program. The SBA facilitated 63,000 loans amounting to $28 billion in the entire fiscal year 2019. Now the organization is now expected to lend nine times that amount in a matter of weeks.

The rollout issues are alarming to many small businesses because the funds Congress allocated for the program are likely to run out. Loans are disbursed on a first-come, first-served basis, which could leave companies trapped by red tape out in the cold. Treasury Secretary Steve Mnuchin is asking Congress for another $250 billion to supplement the program.

Fresh Chalk CEO Liz Pearce speaking at a 2016 event. (GeekWire Photo)

Many tech startups are also conflicted about whether or not to apply for the program when other small businesses are in such dire need of relief. Liz Pearce, CEO and co-founder of Fresh Chalk, wrestles with this question.

Her one-year-old startup helps users find local professionals by tapping into the knowledge of their friends. Fresh Chalk aims to build a faster and more efficient way to find everything from doctors to plumbers to landscapers. The company is operating on $8 million of early-stage funding. The lights won’t go out tomorrow, but Pearce does worry about the COVID-19 pandemic’s impact on her business.

“It is first come first served,” she said. “We’re seeing firsthand how small businesses are in imminent danger and possibly never going to be able to recover so we’re definitely not planning to be the first at the buffet but we want to make sure we’re doing what’s right for the business, what this actually intends to do, which is to shore up financial futures for small companies.”

GeekWire interviewed entrepreneurs, investors, and banks to understand how the Paycheck Protection Program rollout is functioning in practice and glean advice for companies seeking relief.

How it works:

  • Qualifying businesses are eligible for loans that the federal government will forgive if all employees are kept on payroll for eight weeks and the funds cover wages, rent, mortgage, interest, or utility expenses.
  • Companies can borrow 2.5 times their average monthly payroll costs up to $10 million.
  • At least 75% of the funds must be used for payroll in order to be forgiven.
  • Funds that go toward salaries that exceed $100,000 a year are not forgiveable.
  • Loan payments that are not forgiven will be deferred for six months.
  • Loans have a maturity of 2 years and a 1% interest rate.
  • PPP loans are administered through banks and credit unions.

Who qualifies?

  • Companies with 500 or fewer employees and/or businesses that meet other federal size requirements can apply for the program.

The exceptions

The legislation attempts to exclude businesses that are controlled by other entities through a complex set of affiliation rules. A company may be deemed an affiliate of a larger entity and therefore ineligible if one or more of these factors applies:

  • An investor or other outside entity controls more than 50 percent of voting equity
  • A minority shareholder has the power to prevent or block action by the board or other shareholders
  • It has formal plans to merge with another company or a non-controlling party has stock options or convertible securities that, if exercised, would give that entity control
  • The CEO or president also controls management or the board of another company
  • Close relatives control other similar companies with substantially similar business or economic interests

The affiliation rules have some venture capital-backed startups scrambling to figure out whether they qualify for the program.

“There is definitely confusion around the program and the clarifications that are coming out are helpful – this is to be expected since it’s a huge program and there is a lot at stake,” said Erika Shaffer, director of communications at Seattle-based Madrona Venture Group. “For our part, we think every company has to look at the program and figure out if they qualify, weigh the strengths and weaknesses of taking a loan and make the decision based on need.”

The affiliation rules don’t explicitly bar VC-backed startups from applying for the program but uncertainty is causing many to tread cautiously.

Venture capital firms are working with the Small Business Administration to clarify participation requirements in the program. The National Venture Capital Association sent a letter to the Treasury Department and SBA asking for revised guidance that explicitly allows venture-backed startups to participate.

“But the reality is, in a world in which there’s finite funding for a stimulus program like this, every bit of uncertainty doesn’t help,” Aziz Gilani, a managing director of the VC firm Mercury, told Marketplace Tech. “If our companies can’t get access to these programs, the real victims are going to be the overall economy and the employees at our companies which these programs were meant to protect.”

Not all lenders are created equal

Several startup founders attributed their experience, good or bad, to the bank facilitating the loan. Dan Wachtler, CEO of an artificial intelligence upstart called Darklight, immediately recognized that the type of bank he chose would impact his likelihood of success. Wachtler’s background working with big banks as clients informed his decision.

“I believed our best strategy was to be with a large bank that has the infrastructure that could ramp up quickly to handle it,” he said.

Darklight Inc. CEO Dan Wachtler.

Wachtler woke up at 12:15 a.m. on Friday, the earliest possible day to submit an application, and began refreshing Chase’s website every hour. The application form went live at 10:15 a.m., and by 10:33 a.m., his preliminary application was in. Chase told him that the timestamp associated with his application would hold his place in line. If he is approved, $272,000 will be deposited in his checking account. Wachtler says the funds will allow his furloughed team of 13 to get back to work immediately.

Darklight has raised $8.2 million to date, though no investors have a controlling stake in the startup, Wachtler said.

Smaller banks appear to be overwhelmed or ramping up more slowly. Seattle-based BECU said Tuesday that it will stop accepting applications for the program “due to the high volume” of requests. Silicon Valley Bank, a fixture in the startup community, had to delay its application rollout.

“We understand this is difficult for many of our business members and it was not an easy decision,” said BECU VP of business services, Dana Gray, in a statement. “We knew demand would be high and are committed to helping as many members as we can. It’s important that before we accept new applications, we process the ones we’ve already received with the SBA.”

Some larger banks are equally inundated. Wells Fargo said it will stop accepting applications for the program because it has already reached its capacity. The bank plans to lend a maximum of $10 billion under the PPP and has more than enough applications to achieve that goal.

Startups considering applying for the PPP will likely have the most success with a bank they already work with. Some banks have said they will only lend to existing customers while others will accept applications from new ones. Starting from scratch with a new bank could slow the process, however.

During a press conference Tuesday, Washington Gov. Jay Inslee urged small businesses in the state to continue pursuing the loans despite the bureaucratic hurdles.

“We need Washington businesses to keep applying so our state isn’t leaving federal relief dollars on the table,” he said.”There is frustration but we’ve got to keep those federal relief dollars coming in.” Inslee announced a $5 million grant program for small businesses in the state at the press conference.

The application deadline for Paycheck Protection Loans loans is June 30, although the funds allocated for the program are expected to run out earlier if they are not replenished.

RELATED: Watch this video from a recent GeekWire webinar on the federal stimulus.

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