What is a BDC?
Business development companies, or BDCs, enable the flow of capital from individual investors to private U.S. middle market companies. By pooling investments from individuals, BDCs help provide many middle market companies with the capital they need to operate and grow. A BDC must invest at least 70% of its assets in private U.S. companies or public companies with a market capitalization of less than $250 million.
Regulatory oversight
Congress created BDCs in 1980 through the Small Business Act. They are regulated under the Investment Company Act of 1940 and are required to:
- Maintain an independent board of directors
- Disclose financial performance through regular filings with the U.S. Securities and Exchange Commission
- Provide the value of their investments on a quarterly basis
How large is the BDC market?
BDCs are part of a growing set of lenders that serve as an alternative to traditional banks. BDC assets have grown from nearly $5 billion in 2002 to over $200 billion in 2021.1 Their greatest period of growth occurred in the years following the 2008 financial crisis amid a wave of bank consolidations and reduced lending to middle market companies.
Total assets: Public vs. private vs. perpetual BDCs¹
Types of BDC investments
The vast majority of BDCs invest in the debt of private companies. As a result, BDCs may provide investors with an alternative source of income compared to traditional assets.
Common BDC asset types:
- 1st lien senior secured loans
- 2nd lien senior secured loans
- Secured bonds
- Subordinated debt
- Equity
- Structured products
Investor considerations
BDCs typically invest in below-investment-grade companies, which means they may experience higher default rates and be more illiquid and difficult to value compared to investment grade companies.
A BDC’s yield and total return potential should be weighed against the level of risk assumed within the portfolio.
An investment in a BDC can involve significant costs. Investors should consider a BDC’s fees as well as liquidity, or the frequency with which an investor may buy or sell their shares. Public BDCs trade on a national securities exchange and typically provide investors with liquidity on a daily basis. Shares of publicly traded BDCs are subject to the daily volatility of the public markets.
A private BDC does not trade on a national securities exchange and is designed as a long-term investment, generally providing investors with limited liquidity five to seven years following its launch. Private BDCs seek to provide liquidity through a listing on a national securities exchange or through a sale or merger of its portfolio. In addition, the share price of a private BDC is typically based on the value of the fund’s investments while public BDC shares can trade at a premium or discount to net asset value.
Investors need a clear understanding of the risks and benefits of BDCs to make well-informed decisions on how to best incorporate them to construct diversified portfolios. Working with a financial professional, investors should take these primary considerations into account before investing.