Thoughts on the Paycheck Protection Program (PPP)

Nearly everyone with a radio, TV, or internet connection in the U.S. has heard or seen the term “PPP” bantered around

in the news. It seems to have slipped temporarily out of the news cycle, so here’s a quick refresher.

The Coronavirus Aid, Relief, and Economic Security Act of 2020, otherwise known as the CARES Act (I am amazed at the acronyms the guys in Washington come up with) is a $2 Trillion stimulus bill designed to minimize damage to the U.S. economy based on COVID-19 related shutdowns. Within the massive bill was a $349 Billion fund intended to provide loans to small businesses with the intent of guaranteeing eight weeks of payroll and other costs associated with remaining viable. This little sliver of the gigantic stimulus bill is referred to as the Paycheck Protection Program or PPP.

How this applies to knowledge-based distributors
All but the largest of distribution-based companies easily qualify for the program. Based on a weekly survey we developed for the Association for High Technology Distribution (AHTD), nearly 64 percent of their distributor members participated in the program. Since the “Don’t know” response rate was remarkably high, the actual number could approach the 80 percent mark. Further, during dozens of conversations with distributors in the week ahead of the survey, I did not have a single person indicate they were not going to apply.

Paycheck Protection Program
Participating	Distributors
Yes	63.6 %
No	18.2 %
Don’t know	18.2 %

The program is near perfect for knowledge-based distributors. Here’s why:

• All but a few engage under 500 workers in their organization.
• Employee cost is the largest single expense of these organizations. I use 60 percent of Gross Margin as a rule of thumb.
• Many of the employees possess special skills (technical or otherwise) which are in scarce supply.
• These companies have largely been deemed essential to maintaining infrastructure, supporting manufacturing, keeping supply chains intact, or providing resources to those directly involved in the previous efforts.

Most distributors report very few problems with getting approved for the program; so too did thousands of companies in other sectors. But soon after, the airwaves were filled stories tied to either abuse or at least unintended use of the PPP funding. Companies like Shake Shack, Ruth's Chris Steakhouse, and even the Los Angeles Lakers surfaced as having received funding and suffered a storm of public and governmental wrath. To the best of my knowledge, all returned the money to the government.

A question from a distributor
Last week we received a question from a distributor which I feel is worthy of exploring. Considering the negative publicity surrounding the companies mentioned above, this distributor questioned whether they should stop the process and return the funds previously allocated.

This was based on one of the certifications required in the application. Below is the certification transposed directly from the Small Business Administration form:

Second Certification (not numbered on the form) 

• Current economic uncertainty makes this loan request necessary to support the ongoing operations of the applicant.

The distributor’s current situation:

• The distributor provided the following information:
• Business was down 15+ percent.
• Their cash position allowed them to operate under current conditions for 4-5 months.
• Most of their customers have extended payment terms from typical 30-60 to something longer. In many cases extending payment to 100+ days.
• They were in a position of losing money each month under current operating conditions.

The stumbling point was this. Under current conditions the company could make changes and survive so was the loan actually “necessary” to support ongoing operations?

When asked how the company could continue in a money-losing environment, the answer was by trimming staff and making a few other cuts tied to overhead.

My view of the situation
The U.S. Department of Treasury defines the CARES PPP Program thusly”
“The Paycheck Protection Program is providing small businesses with the resources they need to maintain their payroll, hire back employees who may have been laid off, and cover applicable overhead.”
Based on this statement, the PPP is designed specifically to avoid what the distributor described as “trimming staff and cutting overhead.”

Let’s take a deeper look
The customers of knowledge-based distributors depend heavily on the advice, guidance, engineering, technical and other support provided by these distributors. If the distributor cuts people, the level of support will certainly not be there when the current situation ends. This places unnecessary strain on the economy’s ability to rebound.

Most, if not all, knowledge-based distributors have been deemed essential to the economy. Why? As previously stated, these distributors provide support to the industries most needed in the recovery. When the recovery comes, these businesses will not only support growth via the services mentioned in the previous paragraph, they will play a financial role as well. When a distributor runs low on cash, they cannot support their customers’ account balances. Distributors are required to pay for the products they sell long before the customer pays.

Distributors run low of cash for two reasons. First, when

business takes a downward turn and the cash is used to ride through the downward cycle. On the opposite end of the spectrum, cash is used to fund business growth. This is the situation of rapid expansion. One measure of this is referred to as the Growth Potential Index:

Growth Potential Index = Profit After Taxes ÷ (Accounts Receivable + Inv. - Accounts Payable)The Growth Potential Index (GPI) measures approximately how fast the firm can increase its sales each year using only internally generated funds. Increasing sales faster than the growth potential index will necessitate additional borrowing. Increasing sales slower than the growth potential index will create additional cash reserves.

According to the Association for High Technology (AHTD) Profit Analysis Report (PAR Report), the typical distributor during good economic times holds enough cash to grow about 15 percent per year without seeking outside capital.

It should be understood, this measure is for good economic times; not immediately following a “black swan” of the magnitude of our COVID-19 crisis. In today’s Coronavirus-driven environment, distributors will see their cash reserves consumed by the abrupt downward trend, customer payment behaviors, and the potentially abrupt uptick when things return to normal.

I am not a lawyer or an accountant, but...
I do understand the dynamics of the distributor business. From where I sit, this distributor and others in their position should rest easy in the knowledge that the PPP program is necessary to support the ongoing operations of your business.

If you have questions, additional observations or know of additional resources for distributors, please comment or drop me a line. I would be happy to use this forum to share…

Frank Hurttte is the Founding Partner of River Heights Consulting. He combines the battle scars of 28 years of front line "in the trenches" experience with over 13 years of service to knowledge-based distributors and their manufacturer partners.
Email or call today to make these virus-driven times work for you.