Shake Shack Tycoon Says You Can Have Your $10 Million Back, Since You’re Going To Whine About It

On Monday, Larry Kudlow was given the unenviable task of defending the government’s flagship rescue vehicle for small businesses against criticism that the rules permitted large companies to access tens of millions in forgivable loans despite reporting hundreds of millions in revenue in the prior year.

The Paycheck Protection Program has, generally speaking, been a success, although that depends on your definition of “success”. It was tapped for the maximum $349 billion appropriated by Congress, and lamentable partisan bickering notwithstanding, will almost surely be topped up to the tune of another $300 billion within days.

In addition to the delay in approving the new funding, the program has been criticized for funneling money to the likes of Ruth’s Hospitality Group, Potbelly and Shake Shack, all of which are publicly traded and none of which can be described as “small businesses” on any reasonable definition of the word “small”.

Read more: Big Fat Checks, Steve Mnuchin’s Idea And Alms For The ‘Poor’

The publicity was especially bad for Shake Shack, which received a $10 million loan under the program.

Purely from a PR perspective, there are two reasons this is particularly problematic for the company. First, it’s a more recognizable name than Ruth’s and Potbelly, although the latter is hardly obscure. Second, some Potbelly and Ruth’s Chris locations are franchises. Shake Shack doesn’t franchise. Given that, the $10 million is just corporate welfare. Plain and simple.

Apparently realizing as much, CEO Randy Garutti and founder Danny Meyer decided to go ahead and give the money back, rather than deal with the bad publicity. Here’s Meyer explaining why the company (and his Union Square Hospitality Group) took the money in the first place:

The “PPP” came with no user manual and it was extremely confusing. Both Shake Shack (a company with 189 restaurants in the U.S., employing nearly 8,000 team members) and Union Square Hospitality Group (with over 2,000 employees) arrived at a similar conclusion. The best chance of keeping our teams working, off the unemployment line and hiring back our furloughed and laid off employees, would be to apply now and hope things would be clarified in time.

While the program was touted as relief for small businesses, we also learned it stipulated that any restaurant business — including restaurant chains — with no more than 500 employees per location would be eligible. We cheered that news, as it signaled that Congress had gotten the message that as both as an employer, and for the indispensable role we play in communities, restaurants needed to survive. There was no fine print, anywhere, that suggested: “Apply now, or we will run out of money by the time you finally get in line.”

Few, if any restaurants in America employ more than 500 people per location. That meant that Shake Shack – with roughly 45 employees per restaurant — could and should apply to protect as many of our employees’ jobs as possible. The immediate drop in business due to the virus had caused the company to face operating losses of over $1.5 million each week, simply by keeping our doors open with the goal of paying our people and feeding our communities. Our teams have been heroic, pivoting our business to a new curbside pickup and delivery model, while keeping our teams and guests at a safe distance.

That’s some semblance of plausible, although the company surely realized that by virtue of having vastly superior resources in terms of clerical, legal and accounting staff (versus some random dive bar down the street, for example), they were in a far better position to get the money quickly. Because $349 billion is a finite number, any money they accessed was, by definition, money which would not be available to independently-owned restaurants. More on that in a moment.

The next passage in the message from Meyer is particularly interesting, as it directly speaks to how large entities are approaching the notion of forgivable “loans” which, of course, aren’t really loans – they are grants. To wit, from Meyer:

For Union Square Hospitality Group, the decision as to whether or not to apply for PPP loans was more complicated. All USHG restaurants closed as of March 13th, and with no revenue, the company was forced to lay off over 2000 employees. Since the PPP loans would be forgivable only if employees were hired back by June, and since most USHG restaurants are based in New York City where that timeline is unlikely achievable for full service restaurants, that application decision relied upon our conviction that one day we would be able to pay back the loan. After careful consideration, USHG opted to apply for PPP loans, taking on the risk in order to hire back laid off employees as soon as possible. Some USHG loans have been funded, and we await the day we’re able to re-open. 

So, USHG wanted to make sure that this was free money. And because the timelines around when employees had to be rehired in order to have the loan forgiven didn’t match up with the likely timeline of the resumption of business as usual in New York City, it was at least possible  the company would be compelled to repay the loan. This gives you a window into the thought process behind PPP deliberations at larger firms.

In the comments on the above-linked article posted here over the weekend, I made a simple observation. These companies are partially substituting SBA “loans” (grants) for more expensive capital they’d have to raise in the market, I suggested.

I also noted that the PPP is likely allowing large companies to avoid having to tap revolving credit lines at banks, assuming they haven’t maxed them out already.

Local Joe, dive bar owner, can’t just call JPMorgan and set up a $100 million revolver, I quipped. Another thing Joe can’t do is sell equity.

Well, guess what Shake Shack did on Friday? They sold some equity – $150 million, in fact. And a filing on Monday indicates they’re going to allocate some more to the book-runners.

“Shake Shack was fortunate last Friday to be able to access the additional capital we needed to ensure our long term stability through an equity transaction in the public markets”, Meyer writes, in the same message cited at length above.

Of course, that capital isn’t as attractive as, you know, free money from the government, but hey, it’ll work.

As for Shake Shack’s revolver, I’ll just let the company explain the situation (from an 8K dated Thursday):

Our liquidity position is, in part, dependent upon our ability to borrow under our current credit facility. As previously disclosed, on August 2, 2019, we entered into a credit facility with Wells Fargo Bank, National Association (“Wells Fargo”), providing for a $50.0 million senior secured revolving credit facility with the ability to increase available borrowings under the credit facility by up to an additional $100.0 million through incremental term and/or revolving credit commitments, subject to the satisfaction of certain conditions set forth in the facility. In March 2020, we drew down the full $50.0 million available to us under the credit facility to increase liquidity and enhance financial flexibility given the uncertain market conditions as a result of the COVID-19 outbreak. We are required to comply with maximum net lease adjusted leverage and minimum fixed charge coverage ratios, in addition to other customary affirmative and negative covenants, including those which (subject to certain exceptions and dollar thresholds) limit our ability to incur debt; incur liens; make investments; engage in mergers, consolidations, liquidations or acquisitions; dispose of assets; make distributions on or repurchase equity securities; engage in transactions with affiliates; and prohibits us, with certain exceptions, from engaging in any line of business not related to our current line of business. As of December 25, 2019, we were in compliance with all covenants. However, as a result of the COVID-19 outbreak, our total revenues have decreased significantly and we have implemented certain operational changes in order to address the evolving challenges presented by the global pandemic on our domestic and licensed operations. While we expect to be in compliance with the financial covenants for the first quarter, due to the impacts of COVID-19, our financial performance in the first quarter was, and in future fiscal quarters will be, negatively impacted. As a result, it is likely that we will be unable to continue to comply with certain covenants contained in the credit facility, potentially as early as the second quarter compliance date. We are in discussions with Wells Fargo regarding potential modifications to our covenants, and/or temporary waivers, but there is no guarantee that we will be able to reach any such agreement. A failure to comply with the financial covenants under our credit facility would give rise to an event of default under the term of the credit facility, allowing the lenders to refuse to lend additional available amounts to us and giving them the right to terminate the facility and accelerate repayment of any outstanding debt under the credit facility.

Sarcasm aside, the company is experiencing difficulties, and in that respect, you can hardly blame management for availing itself of the PPP funding.

And yet, the suggestion (tacit or otherwise) that senior executives didn’t immediately understand that they were, in effect, taking money out of the pockets of local business owners who literally have nothing left and no options, seems implausible.

Meyer addresses this – that is, he attempts to explain how he suddenly realized that his decision to tap $10 million in PPP funds did, in fact, mean that some literal “random Joe” may have had to close the doors on a local bar somewhere:

Late last week, when it was announced that funding for the PPP had been exhausted, businesses across the country were understandably up in arms. If this act were written for small businesses, how is it possible that so many independent restaurants whose employees needed just as much help were unable to receive funding? We now know that the first phase of the PPP was underfunded, and many who need it most, haven’t gotten any assistance. 

Again, I would point out that because $349 billion (the original amount appropriated for the PPP) is a finite number, it is impossible that Shake Shack did not understand that by taking $10 million, it was depriving someone else of that same $10 million. And because actual small businesses weren’t applying for anywhere near $10 million at a time, that “someone” who was deprived is actually multiple someones.

The only way that assessment isn’t true is if Meyer thought the funding wouldn’t run out – i.e., that $349 billion was more than enough to make every affected small business in America whole. I’ll leave it to readers to debate the plausibility of that.

At the end of the day, Meyer is to be applauded, though. He did the right thing. Shake Shake is, according to its own account, staring down $1.5 million in operating losses every week.

Crucially, the fact that Shake Shack’s employees work for a publicly traded company doesn’t make them any less deserving of a bailout than the waitstaff at a local bar. So, to the extent the PPP money was indeed earmarked for keeping them on payroll, we’re really splitting hairs by criticizing the company, or any other public company who plays by the rules as they were written by lawmakers and the administration.

On the other hand, the company retains market access. And Danny Meyer is, personally, a tycoon. While it’s completely understandable that Shake Shack and USHG would take steps to improve their liquidity position and shore up their balance sheet in a crisis that has affected restaurants perhaps more than any other industry save the airlines, it is by no means clear why an entity that generated $143 million in gross revenue from January 1 through March 25 (according to preliminary results) and/or a man who is himself worth more than $350 million (by almost every account I can find) needs a measly $10 million from the SBA.

As Meyer (a legendary restaurateur) surely knows, that $10 million could fund payroll and operating costs for some of the smallest of America’s locally-owned establishments for a year or more.

“We’re thankful”, Meyer said, of the equity capital the company raised last week. “And we’ve decided to immediately return the entire $10 million PPP loan we received to the SBA so that those restaurants who need it most can get it now”.

Well, Danny, consider America’s small restaurants “thankful”. Although one imagines they’ve already passed judgement.

---