Ares Capital, Varagon partnership goes live

Kipp deVeer touted the JV and Ares Capital’s acquisition of American Capital as evidence of his firm’s ability to lead ever-larger transactions, despite concerns over a decline in deal quality.

The Ares Capital Corporation (ARCC) and Varagon Capital Partners have formalised their partnership, the Senior Direct Lending Programme (SDLP), announced last year.

The programme now has $926 million in first lien senior secured loans with 10 borrowers, ARCC chief executive Kipp deVeer (pictured) said on the business development company’s earnings call on Wednesday.  

He highlighted the partnership, as well as ARCC’s acquisition of American Capital, as ways the firm can compete in leading larger deals. The ACAS acquisition is meant to close in the fourth quarter and the combined firm is expected to have $12 billion in assets.  

“We believe the increase in scale will enhance our leadership position in mid-market direct lending and give us the ability to originate and hold ever larger transactions, which we think will improve shareholder returns in the long term,” deVeer said. 

He underlined ARCC’s recent lead arranger role in its largest deal yet, backing Thoma Bravo’s acquisition of Qlik Technologies, with Ares leading a $1 billion debt package with three other arrangers, holding about half between the four of them and syndicating down the rest. DeVeer said Ares’ increasing capital base should help it lead more transactions like these. 

However, he added that the deals Ares is seeing are declining in quality.  

“With a lack of activity in the market, terms tend to get worse and documents tend to loosen up and covenants don’t look as good. So we’ve passed on a whole host of transaction over the past six months,” deVeer said. “I do think that we get a first look at deals based on our origination platform and the relationships that we’ve had over our history, but it’s just yielding fewer quality names right now.”  

Ares Capital’s gross commitments in Q2 were at $539.9 million, down from $820.3 million in the first quarter and $972.2 million in Q4 2015. The BDC reported net investment income of $105.3 million, or 34 cents per share. Its core earnings per share were at 39 cents. The BDC declared a quarterly dividend of 38 cents. Assets declined slightly to $9.2 billion in the second quarter from $9.3 billion last quarter. 

The weighted average yield on the BDC’s investments in Q2 was 9.8 percent, down from 10.1 percent as of 31 March. The decline was attributed to repayments on certificates in the Senior Secured Loan Programme (SSLP), a former unitranche partnership Ares used to run with Antares Capital, which was shut down after Antares was sold to CPPIB.  

“The declines in our portfolio yields were primarily driven by the drop in yield on our SSLP subordinated certificates which declined from 11.75 percent at the end of the first quarter to 10 percent at the end of the second quarter,” said chief financial officer Penni Roll on the earnings call. 

The SDLP is replacing the SSLP and analysts on the earnings call asked whether Ares can roll the loans in the former partnership into the new one. ARCC and Varagon, a New York-based lending firm backed by AIG and Oak Hill Capital Partners, have already been doing deals together and some loans were meant to “graduate” into the SDLP partnership once it was formalised.  

DeVeer said that he would like to transfer the loans in the old partnership into the SDLP. But since he is winding down the portfolio through General Electric, which has largely exited the lending business, it’s been difficult to get that approved.  

“We have made every attempt to do that and I’d say that GE is just not focused on [the finance business] today. We’re hopeful that we can gain their focus and do exactly what you’re laying out, but we haven’t had any luck so far,” he said.