It is not hard to see why Business Development Companies—or BDCs—are popular investments among income investors.

Consider that the S&P 500 Index currently has an average dividend yield of just 2%. With the 10-year U.S. Treasury Bond yielding 2.2%, bonds aren’t much better right now.

This underscores the challenge for income investors. In a climate of low interest rates, yields are very low.

Meanwhile, BDCs typically offer very high dividend yields. For example, Gladstone Investment Corporation (GAIN) is a BDC with a current dividend yield of 8.4%.

It is one of 416 stocks with a 5%+ dividend yield.

And, it is one of a select few stocks that pays its dividend each month.

GAIN is one of just 29 stocks that pay monthly dividends.

This article will discuss GAIN’s business model, and whether the sky-high dividend yield is too good to be true.

Business Overview

GAIN is a Business Development Company that places debt and equity investments in privately-held companies, which are at an early stage of development.

A collection of GAIN’s portfolio investments is as follows:

Source: March Quarterly Review Presentation, page 13

Its debt investments primarily consist of senior term loans, senior subordinated loans, and junior subordinated loans.

On the equity side, investments primarily consist of preferred or common stock, or options as a means of acquiring stock. Equity investments are usually made in anticipation of a buyout or some form of recapitalization.

Investments are made in the lower-middle market segment, meaning companies that are medium-sized. GAIN intends its portfolio to have a 75%-25% split between debt and equity investments.

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Source: March Quarterly Review Presentation, page 7

GAIN makes money in two ways. First, when its investments are successful, it will realize capital gains. In addition, it receives interest and dividend income from securities held.

As of March 31st, the portfolio consisted of equity or loans in 35 companies, located in 17 U.S. states and in 18 different industry groups.

The company aims to invest in businesses that provide stable earnings and cash flow, which GAIN can use to pay operating expenses, meet its own debt obligations, and make distributions to shareholders with residual cash flow.

Growth Prospects

GAIN’s investment strategy has been very successful over the past several years. From 2013-2017, GAIN’s portfolio value grew at a double-digit annualized rate.

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Source: March Quarterly Review Presentation, page 9

The company recently wrapped up its fiscal 2017, and the results were very strong. Net investment income rose 8.2%

Total investments rose 2.9% last fiscal year, to $501.6 million. Net Asset Value, or NAV, rose 8% to $9.95 in fiscal 2017.

More important for GAIN last year, was growth in interest income, which has risen significantly over the past several years.

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Source: March Quarterly Review Presentation, page 10

The company also conducted significant investment sales over the course of the year, at a hefty profit.

For example, GAIN sold its investment in Acme Cryogenics in the first quarter. The sale resulted in a realized gain of $18.8 million, $2.8 million of other income, and the repayment of its $14.5 million debt investment at par.

Another profitable sale last year was GAIN’s investment in Behrens Manufacturing in the third quarter, which resulted in a realized gain of $5.8 million, other income of $9.9 million, and the repayment of its $10 million debt investment at par.

GAIN generated realized gains of $24 million, and other income of over $4 million, from the exits of buyout investments in fiscal 2017.

One important factor for GAIN moving forward is interest rates. Since it predominantly invests in debt securities, rising interest rates could be a negative drag up ahead.

Fortunately, GAIN’s debt portfolio is 93% variable-rate, with a floor or minimum. This will help protect interest income in a rising-rate environment.

Continued growth going forward will rely on the successful implementation of the investment strategy, which appears likely, given the company’s history of proven results.

GAIN shareholders benefit from the company’s strong investment performance, through a high yield and growing dividend payout.

Dividend Analysis

One of the reasons why BDCs like GAIN can pay high dividends is because of a favorable tax structure. GAIN qualifies as a regulated investment company.

As such, it generally is not subject to income taxes, so long as it distributes taxable income to shareholders.

GAIN is a very attractive stock for dividend investors. It pays a monthly dividend of $0.064 per share. On an annualized basis, the $0.77 per-share dividend represents an 8.3% dividend yield.

The company has made more than 140 consecutive monthly dividends since inception. Over the past five years, dividends have grown by 25%.

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Source: March Quarterly Review Presentation, page 11

Not only that, but GAIN also provides supplemental dividends, based from undistributed capital gains and investment income.

For example, the company announced a $0.06 per-share supplemental dividend payment for June 2017. Going forward, GAIN plans to make two such supplemental dividend payments each year.

As of March 31st, GAIN had approximately $0.47 per share of undistributed earnings, which can be used for supplemental dividends moving forward.

GAIN has a modest capital structure, which helps secure the dividend.

Leverage was less than 50% of total assets, as of March 31, 2017. And, the company has solid liquidity—the fair value of GAIN’s assets more than triple that of all liabilities.

GAIN maintained a distribution coverage ratio of 132% in fiscal 2017, up from 128% in the previous year.

Final Thoughts

GAIN’s strongest competitive advantage is its investment strategy, which is to make long-term investments in high-quality businesses, with strong management teams.

This has produced strong results for GAIN since inception. Going forward, investors should expect the company to continue covering its distribution, with modest distribution growth of 2%-4% each year.

Plus, shareholders can expect GAIN to make two supplemental dividend payments each year, when its investment strategy performs well.

GAIN’s high distributions seem to be secure, given the company’s investment income and capital gains. This makes it an attractive stock for income investors.