September ’20

The BAN Report: Back to School / Eviction Update / House Questions PPP Oversight / Child Care Costs Surge / LIBOR Transition-9/3/20

Back to School

Schools and colleges are loading up on pandemic-related items, including keyboard covers, webcams, and plexiglass.

Schools and colleges are purchasing these and other protective products in great quantities as they try to prevent the spread of the coronavirus and calm concerns of teachers, students and parents.

The average U.S. school district will spend nearly $400,000 on products related to the pandemic response, according to an estimate from the Association of School Business Officials International. The Cares Act included $30.8 billion in emergency funding for schools and colleges.

Increased demand from the tens of thousands of U.S. schools and colleges is providing a boost to manufacturers whose sales to other sectors hit particularly hard by the coronavirus, such as the restaurant, travel and entertainment industries, have fallen. Some manufacturers, particularly those that don’t normally count schools among their customers, are straining to meet so much new demand.

The University of Illinois at Urbana-Champaign has been the leader in widescale testing on campus, administering its own two-weekly saliva test.

Here’s how the UIUC system is set up. Each person who comes to campus gets an initial test, then must get tested twice a week. A negative test result within the past four days is linked to your ID via a university-developed tracking app, and without that green light you won’t be admitted to university buildings.

A key component of UIUC protocol is its saliva-based test, which was developed in-house and is similar to one developed at Yale. As researchers at Yale outlined, nasal swab tests have several disadvantages, notably that the swabs can be in short supply, testing requires health care workers to use lots of PPE, and there are also shortages of the special chemicals needed for processing. Those factors make testing expensive and mean tests can take days to process: “Meanwhile, if patients don’t quarantine while awaiting test results that turn out to be positive, infection can continue to spread,” the Yale authors wrote.

In contrast, the UIUC website says that typical saliva test results are available within five hours. A map of on-campus testing centers shows 17 locations, something of a miracle to any city- or suburb-dweller who has had to travel miles—or even to another state—to find an available COVID test.

Even with these protocols, Illinois has seen a recent spike in cases due to campus parties and they are now enforcing stricter protocols.   But, to their credit, they are offering an in-person experience. Many students are questioning why their tuition has remained the same while the product offering has been downgraded to online-only.

WSJ Noted spoke to more than two-dozen college students at both public and private universities, as well as about a dozen college officials for this article. These students overwhelmingly say they shouldn’t have to pay full tuition if instruction is online. Many institutions maintain that, regardless of the mode of delivery, the ultimate value lies in the education they provide. And, in terms of fees, colleges also say they are necessary to maintain services that draw students to their institutions in the first place. 

Colleges are in a bind as national enrollment dropped by over 200,000 students last year, largely due to the cost, which has grown much faster than median income. But, paying the same for online classes has touched a nerve for many and there are more than 100 lawsuits seeking refunds.

Eviction Update

As courts have re-opened and state eviction moratoriums end, retail landlords are launching eviction proceedings against their delinquent tenants.

While overall retail rent collections have improved to 77% in July from around 54% in April, some tenants, particularly from the apparel, fitness and theater categories, have continued to struggle with payments, according to data from Datex Property Solutions, a real-estate data firm that tracks rent collection on thousands of properties across the country.

During the coronavirus-shutdown period that started mid-March and extended to as late as August in some cities, tenants have implored their landlords for deferrals and lower rents to stay in business. States also imposed moratoriums on commercial-real-estate evictions, which offered temporary respite until they expire. New York Gov. Andrew Cuomo extended the state’s moratorium until Sept. 20 from a previously extended Aug. 20 deadline.

Landlords said they have modified tens of thousands of leases over the past few months, including deferrals or discounts in exchange for lease extensions or other concessions, such as the removal of clauses that prohibited certain types of tenants in the neighboring space, such as direct competitors or other uses of common-area space. But for some, negotiations reached a stalemate and landlords said they have no choice but to resort to litigation.

In Minneapolis, Eric Ruzicka, a partner at Dorsey & Whitney LLP, said his law firm has commenced around 30 eviction filings for commercial tenants, including restaurants, children’s play zones and bridal shops that were hurt by the drop in tuxedo rentals for proms.

As deferrals from lenders run off, landlords need to collect their rents in order to make their loan payments.   Securitized lenders, in particular, seem to be acting faster to demand loan payments, as they did not receive the same relief from TDR status that the banks received from the CARES Act.   Tenants and landlords not paying their rents and mortgages only work so long as the lenders play along, but that can’t last forever. Apartment evictions are still subject to various state, local and federal moratoriums. This week, the CDC announced a four-month ban on most evictions Tuesday. Here is who is covered:

“Covered person” means any tenant, lessee, or resident of a residential property who provides to their landlord, the owner of the residential property, or other person with a legal right to pursue eviction or a possessory action, a declaration under penalty of perjury indicating that:

1) The individual has used best efforts to obtain all available government assistance for rent or housing;

2) The individual either (i) expects to earn no more than $99,000 in annual income for Calendar Year 2020 (or no more than $198,000 if filing a joint tax return),6 (ii) was not required to report any income in 2019 to the U.S. Internal Revenue Service, or (iii) received an Economic Impact Payment (stimulus check) pursuant to Section 2201 of the CARES Act;

3) the individual is unable to pay the full rent or make a full housing payment due to substantial loss of household income, loss of compensable hours of work or wages, a lay-off, or extraordinary7 out-of-pocket medical expenses;

4) the individual is using best efforts to make timely partial payments that are as close to the full payment as the individual’s circumstances may permit, taking into account other nondiscretionary expenses; and

5) eviction would likely render the individual homeless— or force the individual to move into and live in close quarters in a new congregate or shared living setting— because the individual has no other available housing options.

This is an extraordinary intervention in housing by the CDC that will likely be challenged. Unfortunately, evictions are a necessary tool for landlords to manage their delinquent tenants and continued government intervention may produce negative externalities.

House Questions PPP Oversight

A report from the majority staff of the Select Subcommittee on the Coronavirus Crisis questioned the oversight of the PPP programming, raising a number of issues affected tens of thousands of loans.

  1. Over $1 Billion in Loans Went to Companies That Received Multiple Loans. Staff analysis identified 10,856 loans in which the borrower received multiple PPP loans, for a total of over $1 billion in outstanding loans. Of the 10,856 loans identified, only 65 would be subject to additional scrutiny based on the Administration’s stated plans to audit loans over $2 million. PPP rules prohibit companies from receiving multiple loans.
  2. More Than 600 Loans Totaling Over $96 Million Went to Companies Excluded From Doing Business With the Government.  Staff identified 613 PPP loans, amounting to $96.3 million, provided to borrowers that are ineligible to receive PPP funds because they have been debarred or suspended from doing business with the federal government.
  3. More Than 350 Loans Worth $195 Million Went to Government Contractors With Significant Performance and Integrity Issues. Staff found that SBA approved 353 PPP loans, amounting to approximately $195 million, to government contractors previously flagged by the federal government for performance or integrity issues.
  4. Federal Database Raises Red Flags for $2.98 Billion in Loans to More Than 11,000 PPP Borrowers. Select Subcommittee staff compared the federal government’s System for Award Management (SAM) database against the information companies used to obtain PPP loans to identify red flags, such as mismatched addresses. These flags implicated more than 11,000 borrowers and $2.98 billion in PPP loans.
  5. SBA and Treasury Approved Hundreds of Loan Applications Missing Key Identifying Information About the Borrower. These PPP loan applications were approved despite incomplete or missing identifying information on the loan applications, including missing names and addresses.

One should not be surprised that a small percentage of the PPP loans have serious issues. Many of these issues will be addressed during the forgiveness process, as many of these borrowers will not get forgiveness. Secretary Mnuchin did say earlier this week that all of the loans are subject to an audit.

Child Care Costs Surge

COVID-19 has disrupted the cost structure of child care providers, as their costs have jumped 47%.

The coronavirus pandemic has battered child care providers in the U.S. over the past six months, forcing many to close, at least temporarily, and demanding those open adhere to new, stringent safety guidelines. 

Unsurprisingly, these challenges have had financial consequences. To meet the enhanced health and safety guidelines imposed by local and federal agencies, the costs for licensed child-care centers have increased an average of 47%, according to a new report by the Center for American Progress. Home-based family child care is seeing costs increase an average of 70%. 

The cost increases are driven in large part by the need to source and purchase additional sanitation supplies and personal protective equipment for staff. Social distancing guidelines — typically limiting class sizes to groups of 10 — also remain a stumbling block. These restrictions generally reduce the number of children a provider can enroll and increase staff costs. 

The largest expense for child-care providers is staff, according to Simon Workman, American Progress’ director for early childhood policy and author of Tuesday’s report. Staff compensation typically makes up about 70% of a provider’s business budget, even though the average employee makes just above $12 an hour. 

Rising child care costs make returning to the office more difficult. So far, child-care providers have not raised their tuitions, but the providers can’t bear the burden of higher costs indefinitely.

LIBOR Transition

Will there ever be a cooler index than the “London Inter-Bank Offered Rate?” I remember my old man fondly telling me that the bank likes him so much that they gave him a “LIBOR loan.”   Who wants to be a Prime Rate borrower when they can get LIBOR? Unfortunately, we only have 500 days left of LIBOR. Meredith Coffey of the Loan Syndications & Trading Association had some great recommendations on phasing out LIBOR.

New business loans should include hardwired U.S. Dollar Libor fallback language by Sept. 30, 2020. This hardwired language just means that a loan will automatically convert from Libor to SOFR, instead of undergoing a time-consuming amendment process. There are more than 10,000 U.S. dollar syndicated loans outstanding; quickly executing so many amendments to replace Libor when it ends would be challenging—even in a benign market. And there should be no presumption that the market will be benign when Libor ends.

Third-party technology and operations vendors should complete all necessary enhancements to support SOFR by Sept. 30, 2020. Lenders and borrowers must be confident that SOFR can be operationalized by Libor cessation as they begin using hardwired fallbacks. The ARRC Business Loans Working Group has worked for over a year with vendors and lenders to develop conventions and calculations to help update loan systems.

No business loans using U.S. Dollar Libor should be originated after June 30, 2021. This is just six months before the potential end of Libor. At that point, it seems wildly inadvisable to add still more deals to the loan backlog that must convert from Libor.

For business loans specifying that a party will select a replacement rate for U.S. dollar Libor at their discretion, that party should disclose to relevant parties the replacement rate they anticipate selecting at least six months prior to when it would become effective. Granted, that’s a mouthful, but lenders and borrowers will need to prepare to transition their loans and uncertainty around the replacement rate makes a challenging process that much harder.

This is a massive headache for lenders, many of whom have notes written years ago that do not even contemplate the end of LIBOR. And, there is no clear question as to what replaces LIBOR, although SOFR has been endorsed by the Fed.

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