Non-Traded BDC & REIT Investments

Business development companies (BDCs) were enacted by a Congressional Act in 1980 to stimulate the U.S. economy to encourage investments in American companies.  BDCs invest primarily in debt issued by small to medium-sized private companies with annual revenues from $25 million to $25 billion. BDCs have been providers of “middle market” debt financing for Private U.S. corporations has exploded since the Credit Crisis in 2008.  Commercial banks no longer play this role since the Dodd-Frank banking reform rules created disincentives for banks to provide capital to this sector of the loan demand marketplace. 

Business Development Company investments offer individual investors access to private debt, an asset class that typically was available only to individual with the ability to understand and assume risk, such as high-net-worth and institutional investors.  To evaluate a non-traded BDC, investors have less public information to rely upon to determine historical performance and valuation.  This fact results is greater reliance upon brokerage firms and financial advisors to adequately disclose all relevant facts including the fees, expenses and risks associated with BDCs. 

Non-Traded BDCs have annual expenses and fees ratios which are significantly higher when compared to most investments.  Generally speaking, the higher expenses and fees charged to BDC Investors can be summarized into the following categories:

• Annual Operating Expense Ratios range between 3.00% – 6.00%,
• Annual Advisory Fees range between 1.50% – 2.00%,
• Front-End Distribution Costs (Dealer Fees and Commissions) range between 10.00% – 11.50%, and
• Net Capital Gains from the Sale of Securities payable to the BDC Advisor are 20%.

Non-traded BDCs give investors the ability to purchase shares in a managed portfolio of loans made to private American companies. To evaluate the suitability of a non-traded BDC, consider the following before investing:

• How does a BDC investment interact with existing portfolio holdings;
• Investment track record of portfolio manager;
• Portfolio protections from rising interest rates;
• Financial reporting transparency, and;
• BDC Capital Structure.

Investors must examine more closely upon fees, costs and risks disclosed in a prospectus before investing in a non-traded BDC. Some risk considerations include:

• Limited liquidity and share repurchase/redemption plan subject to suspension and/or modification;
• Distributions that are not guaranteed in frequency or amount;
• Effects on valuation from distributions made from loans and return of capital instead of earnings;
• Limited operating history of portfolio manager, and;
• Undue reliance upon the financial advisor with conflicts of interest due to high compensation paid.

According to Financial Regulatory Industry Authority (FINRA), non-traded BDCs are not suitable for all investors. Suitability standards generally require an investor to have either a net worth of at least $250,000, or an annual gross income of at least US $70,000. In order to improve investment transparency and suitability standards for non-traded BDCs, FINRA Notice to Members 15-02, requires that brokerage firms disclose more accurate account statement valuations.  A financial advisor who fails to limit the amount invested in BDCs subjects a client to the risks of securities concentration.  Securities concentration risk occurs when a portfolio is over-weighted in a particular asset class or investment product.