Business Development Company (BDC)

A business development company (BDC) is an organization that invests in and helps small- and medium-size companies grow in the initial stages of their development. Many BDCs are set up similarly to closed-end investment funds and are typically public companies whose shares are traded on major stock exchanges, such as the American Stock Exchange (AMEX), Nasdaq and others.

To qualify as a business development company (BDC), a company must be registered in compliance with Section 54 of the Investment Company Act of 1940. A major difference between a BDC and a venture capital fund is that BDCs allow smaller, non-accredited investors to invest in startup companies. Some of the reasons BDCs became popular is because they provide permanent capital to companies, allow investments by the general public and finance other companies by taking advantage of a wide variety of sources, such as equity, debt, and hybrid financial instruments.

A BDC is a type of closed-end fund that makes investments in developing companies and in firms that are financially distressed. The U.S. Congress created BDCs in 1980 to fuel job growth and assist emerging U.S. businesses in raising funds. BDCs are closely involved in the operations of their portfolio companies, providing advice. Many BDCs make investments in private companies or sometimes small public firms that have low trading volumes.

To acquire BDC status, a firm must be a domestic company whose class of securities is registered with the Securities and Exchange Commission (SEC), and it must also invest in the securities of emerging businesses that are suffering or recovering from financial difficulties. Additionally, a BDC must provide managerial assistance to companies in its portfolio. A BDC must invest at least 70% of its assets in private or public U.S. firms with market values of less than $250 million.

BDCs provide investors with exposure to debt and equity investments in predominantly private companies, which are typically hard to invest in. Because BDCs are regulated investment companies, they must distribute over 90% of their profits to shareholders, which results in above-average dividend yields. Also, BDC investments may diversify investors' portfolios with securities that can display substantially different returns from stocks and bonds. However, because most BDC holdings are typically invested in illiquid securities, a BDC's portfolios have subjective fair value estimates and may take sudden and quick losses.

BDCs represent attractive investment alternatives to venture capital funds, which are available mostly to large institutions and wealthy individuals through private placements. Venture capital funds keep a limited number of investors and must meet certain asset-related tests to avoid being classified as regulated investment companies. BDC shares, on the other hand, are typically traded on stock exchanges and are available investments for the public. BDCs that decline listing on an exchange are still required to follow the same regulations as listed BDCs. Less stringent provisions for the amount of borrowing, related-party transactions and equity-based compensation make the BDC an appealing form of incorporation to venture capitalists who were previously unwilling to assume the burdensome regulation of an investment company.