Securities Regulators Direct Attention to Nontraded BDCs

A recent article by Bruce Kelly of the investmentnews.com reports on how nontraded business development companies (BDC’s) are becoming more popular by “Meeting investors’ demand for yield and corporate borrowers’ thirst for capital” and that as a vehicle increasing in popularity, it is also “drawing the attention of securities regulators.”

Kelly notes that only 5 BDC’s have launched since “the first — FS Investment Corp., launched near the beginning of 2009.” However, the success of that investment offering has caused tremendous interest in this type of vehicle among investment professionals and more offerings are likely to be coming soon. According to Kelly, due to the increase in interest, “securities regulators have begun to keep a close eye on these illiquid investments and the sponsors bringing them to market.”

These nontraded business development companies “invest in the debt and equity of small to middle-market companies, with the debt instruments ranging from the senior secured level to below-investment- grade, or “junk,” an asset class typically not available to retail investors.” These investments are illiquid because they are not traded publicly and investors may not always have the ability to sell the investments on demand.

The White Law Group is all too familiar with another illiquid investment vehicle which has drawn the attention of regulators such as FINRA, nontraded REITs. Our firm is involved with many FINRA dispute resolution claims involving nontraded REITs where brokers failed to adequately disclose their illiquid nature and also failed to perform adequate due diligence on the investments.

Brokers selling nontraded BDC’s will need to take even more care to perform due diligence on the investments before selling them to clients. The investmentnews.com quoted Tony Chereso, CEO of a due diligence firm, as saying, “Broker-dealers can’t underwrite a BDC like a traditional nontraded-REIT or real estate deal…They need to understand the caliber of individuals running these portfolios.” Brokers will also still need to adequately disclose the illiquidity of the investment and how long the investment may be tied up.

Brokers will need to be careful to ensure that their responsibility to their clients is more important than the relatively high sales commission offered for selling nontraded business development companies. According to Kelly, “The sales commission in nontraded BDCs typically is 7%, and the product is supposed to be sold only to those investors with a net worth of $250,000 or more, or a net income of at least $70,000 combined with a net worth of at least $70,000. Investors also are supposed to be informed of the product’s illiquidity.”

Brokerage firms have a fiduciary duty to perform due diligence on any investment and to insure that an investment is appropriate in light of the investor’s age, investment experience, and investment objectives. If a broker fails in this responsibility, investors may have an actionable claim to recover their losses in a product in a claim through FINRA dispute resolution.

If you have questions about your investment in a nontraded business development company (BDC) or another nontraded illiquid investment vehicle and would like to speak to a securities attorney about your potential to recover losses through FINRA arbitration, please call our Chicago office at 312-238-9650.

The White Law Group, LLC is a national securities fraud, securities arbitration, investor protection, and securities regulation/compliance law firm with offices in Chicago, Illinois and Boca Raton, Florida.

For more information on The White Law Group, please visit our website at http://whitesecuritieslaw.com.