Ares Capital once more eyes acquisitions

The BDC said that any below book equity issuance would be driven by acquisition(s). Ares Capital’s fourth quarter earnings revealed unrealised mark-to-market losses and yield compression caused by the wind-down of its GE Capital JV, SSLP.  

Potential acquisitions are becoming more attractive in the midst of market volatility and general concerns about the BDC sector, said Kipp DeVeer (pictured), Ares Capital Corporation’s chief executive, on the firm’s Q4 and fully year 2015 earnings call yesterday (24 February).

Ares last week filed a proxy statement seeking the renewal of shareholder permission to issue equity below net asset value (NAV). DeVeer explained that any fresh equity issuance would likely be in the event of attractive purchase opportunities. He pointed out that Ares has sought and received this permission for many years, but only went forward with it once when it acquired Allied Capital in 2010.

Many BDC stocks have been beaten down my market volatility, shareholder activism, weaker performance, lawsuits and investigations. Of the ones that are on the block, analysts, media and other sources have speculated that American Capital (ACAS) would be the most likely buy for Ares. DeVeer declined to say which BDCs he might be looking to acquire.

The BDC reported $149.6 million of net unrealized losses for the last quarter. The declines “were primarily driven by a widening spread environment for the securities in which we invest, along with some credit-driven markdowns and select underperformers”, said chief financial officer Penni Roll. The largest unrealized loss was a $50 million write-down of the subordinated slice of a loan in the Senior Secured Loan Programme (SSLP), a partnership with GE Capital that Ares is in wind-down.

“The underlying loans in the SSLP portfolio continue to perform well from a fundamental credit perspective, and we do not currently foresee any credit events in the portfolio,” Roll said. The BDC’s portfolio’s weighted average yield also decreased slightly due to a decline in subordinated assets, DeVeer said.

Otherwise, the BDC posted healthy financials. Net investment income (NII) stood at $147.1 million or $47 cents per share for the fourth quarter, up from $128.2 million or $41 cents per share in the same period of 2014. The firm declared a dividend of $38 cents per share.

MARKET CONDITIONS

Speaking broadly about the market, DeVeer said he expects the current challenging situation to continue. “We believe the volatility in the high-yield leveraged loan markets has been driven largely by declines in oil and other commodity prices, outflows of capital from both markets and concerns around the expected of higher interest rates and increased defaults in the future. We also believe this is a lasting change and unlikely to reverse itself any time soon,” he said.

This is prompting the BDC to be more cautious and focus on senior secured structures. Just over 50 percent of ARCC’s new investment in the fourth quarter was into first lien debt.

On the poor performance of BDC shares DeVeer opined: “We believe many of the stocks in the BDC space today are oversold and we feel that this is particularly true as it relates to ARCC. Unfortunately, certain companies that we’re often compared with have not met the expectations of investors and we are sympathetic with the sentiment of disappointed investors.”

ARCC stock has lately traded at about 0.8x NAV, while many of the beaten down BDCs reportedly up for sale are trading even lower at 0.6x NAV.

When questioned by Wells Fargo senior analyst Jonathan Bock on whether Ares would actually dilute shareholders in order to make an acquisition, DeVeer said he’d evaluate many factors before doing so. “The way we think about it is: whether it’s good for existing and future dividends, if it’s good for book value and that it would certainly be accretive from an earnings per share perspective,” he replied.