Business development companies (“BDCs”) offer retail investors the allure of becoming venture capitalists, funding emerging enterprises with the help of professional asset managers. BDCs are investment companies that finance businesses traditionally locked out of conventional capital markets. Nearly forty years old, the BDC has remained virtually unexplored by academic researchers.
I begin by analyzing the laws that govern BDCs. To protect investors, BDCs are subject to the Investment Company Act of 1940. But to encourage the financing of smaller businesses, Congress excused BDCs from certain provisions of the Act, allowing them to engage more freely in leverage and related-party transactions. BDCs are neither fully regulated by the Act nor fully exempt.
Using a novel dataset constructed from hand-collected filings, I then study BDCs empirically. I find more than fifty exchange-traded BDCs are available to the public today. BDCs generally have attractive dividend yields. But they are risky investments with high leverage and volatile returns. BDCs significantly underperform their benchmark indices after I accommodate for the substantial risk that investing in a BDC entails.