Startups, especially the tech upstart companies, are largely dependent and are powered by the amount of funding received, to survive in high growth, high-risk market segment. In fact, over the past few years, there has been a rock-solid growth in the number of investments. This onslaught of investments, however, seems to be engulfed by a tightening funding climate, as the amount of funding received by VC has seen a major downfall.
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According to a report published by Pitchbook, 2021, “US Venture Capital Outlook,” The total VC count in Silicon Valley dropped below 20% percent for the first time in history. The decline in the VCs for startups is not due to lack of funds, but due to big investors pooling capital in large investments, and creating intense competition amongst entrepreneurs for limited slots. Given the uncertainty and the arduousness of raising VC financing, it is high time start-ups start exploring and transitioning from traditional investors to alternatives such as the BDC, which is said to be the next best alternative to VC.
A Business Development Company (BDC), simply put, is an organization that invests in small and medium-sized companies, also referred to as the lower middle market in the US, and helps them in their initial development stages and also for distressed companies to regain a stable financial footing. It is set up in the same way as close-end investment funds, and are typically public companies that trade their shares on major stock exchanges. BDCs provide permanent capital to businesses by utilizing a variety of sources such as debt, equity and, hybrid financial instruments.
BDC can seem to be similar to venture capital funds, however, they are some key differences that tend to differentiate the two. Venture capital funds seek large institutions and wealthy individuals, while BDC’S look for small growth companies to invest in them. In order to avoid being classified as regulated investment companies, VC funds keep a bar on the number of investors and have to meet certain asset-related requirements. BDC, in contrast, can be taken as open-source venture capital funds for they are open to all investors and are regulated investment companies (RIC). The RIC status basically means they do not pay corporate income tax on profits before distributing them to shareholders and even though, they are taken as a high risk, they offer high dividend yields.
To sum it up, startups with traction need funding to realize their goals and achieve the growth intended. With the VC funds increasingly becoming inaccessible, BDC’s for startups familiar with volatility and uncertainty seems to be the sensible choice given how it works as democratized investing by being constantly available for investments for the public and by trading on stock exchanges.