Like Venture Capital Firms but Better: 3 BDCs for Dividend Investors

Business development companies, or BDCs, are similar to private equity firms, but with a clear advantage for investors. These closed-end investment companies typically make debt or equity investments in small, private companies that cannot easily access funding. But BDCs tend to lean more heavily on debt investments to generate interest income, which is then largely distributed to shareholders through dividends.

As a bonus, they generally offer high dividend yields — with some offering yields that reach into the double-digits and with most around at least 5%. Risks come with these yields, but we’ll highlight three BDCs we like today for their high current yields.

Drive to Main Street (Capital)

Founded in 2007, Main Street Capital (MAIN) , is a BDC that specializes in equity capital invested in lower middle market companies. Main Street performs recapitalizations, management buyouts, refinancing, family estate planning, and more. It also provides debt capital for target companies to grow via acquisition, or investment into the business. Main Street is active in a huge variety of industries, choosing diversification over specialization.

Main Street generates about $340 million in annual revenue, and trades today with a market cap of $2.9 billion.

Like most BDCs, Main Street’s dividend per share has been volatile. This is because BDCs are required to pay out virtually all of their earnings via dividends to shareholders, so when earnings decline from year-to-year, the dividend typically follows suit. However, in the past 10 year, eight of them have produced higher year-over-year dividends. Thus, while the company’s current dividend streak is just two years, it has a strong track record.

We see upside from the current $2.64 annual payout – which is paid monthly — as limited. However, the current payout ratio of 88% is actually lower than it has been at any point in the past decade, so Main Street’s dividend safety has improved substantially. Importantly, we think today’s dividend is very sustainable.

The current yield is 6.8%, or more than four times that of the S&P 500. Given the combination of outstanding yield and the safety of the payout, we think Main Street is a very strong income stock today.

Horizon Technology Finance (HRZN) , which is a BDC that specializes in lending and investing in development-stage companies in the technology, life science, health care, and cleantech industries. Unlike Main Street, which seeks high levels of diversification, Horizon deliberately chooses specialization, believing the mentioned industries offer superior returns over time, particularly from capital appreciation.

The company was founded in 2008, generates about $70 million in annual revenue, and trades today with a market cap of $281 million.

Horizon’s dividend for this year is expected to be slightly lower than that of last year, so its streak of dividend increases is zero. But w hile there have been cuts to the company’s payout in the past decade, the current dividend of $1.20 per share annually — paid in monthly installments — is only 15 cents lower than it was 10 years ago. While we obviously prefer rising dividends, Horizon makes up for this lack of dividend growth via its massive current yield of 10.8%. That’s more than six times that of the S&P 500, so on a pure income basis, Horizon is terrific.

The payout ratio is 89% for this year, so despite the massive yield, we think the dividend looks fairly secure at the moment. BDCs always have high payout ratios, and Horizon paid out more than 100% of its earnings in past years, but has cut its payout to the point where that is no longer necessary.

We currently expect to see the dividend remain at $1.20 per share annually for the foreseeable future, as management is likely keen to avoid another cut down the road.

TriplePoint Venture Growth

Our final stock is TriplePoint Venture Growth (TPVG) , a BDC that invests in venture capital-backed companies at the growth stage. It also provides debt financing to venture growth companies in a variety of ways. Like Horizon, TriplePoint is focused rather than diversified. TriplePoint invests in e-commerce, entertainment, technology, and life sciences companies, primarily. This includes software companies, networking and communication companies, biotech, surgical and healthcare services, and more.

The company was founded in 2013, produces about $110 million in annual revenue, and trades with a market cap of $415 million.

TriplePoint began paying dividends to shareholders in 2014, and since that time, it has never cut its payout. This is unusual for a BDC — in a good way — in that TriplePoint has managed to maintain its earnings sufficiently to keep the dividends flowing to shareholders at a rate of $1.44 per share annually. Unlike the first two stocks on our list, TriplePoint pays its dividend on a typical quarterly basis, rather than monthly.

TriplePoint’s payout ratio has generally been below 100% for its time as a public company, and it is 90% today. Given we expect modest earnings growth in the years ahead, but a payout that should remain flat, the payout ratio and dividend safety should improve over time. At this point, we have no concerns over dividend safety barring a massive contraction in earnings.

TriplePoint stands out among the crowd on a yield basis as well, providing a colossal 12.1% current dividend yield based on the declines in the share price thus far this year. That sets the company apart from just about any other stock in the market today, and in particular, for stocks where we see the dividend as secure.