American Capital Misses Earnings on Lower Revs - Analyst Blog

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Impacted by lower top line, American Capital Ltd. ACAS reported first-quarter 2014 operating income of 2 cents per share, significantly lagging the Zacks Consensus Estimate of 22 cents. Moreover, results compared unfavorably with the prior-quarter earnings of 14 cents per share.

Lower-than-expected results were attributable to a disappointing top-line performance and elevated expenses. Further, the low interest environment during the quarter was a negative. However, new investments and realization from portfolios were the positives.

Net operating income for the quarter came in at $5 million, substantially down from $38 million reported in the prior quarter. Net income was reported at $70 million or 25 cents per share, against a net loss of $182 million or 66 cents per share in the prior quarter.

Performance in Detail

Total operating revenue was $84 million in the final quarter, down 29% from $118 million in the prior quarter, due to lower interest and dividend income and reduced fee income. Additionally, operating revenue lagged the Zacks Consensus Estimate of $132 million.

In the quarter under review, total interest and dividend income was $71 million, down 23% sequentially. The weighted average effective interest rate on the company's debt investments as of Mar 31, 2014, was 9.1%, decreasing 90 basis points from the end of the prior quarter. Moreover, fee income decreased 50% sequentially to $13 million.

Operating expenses increased 3% sequentially to $68 million. The rise in interest expenses was primarily due to elevated salaries, benefits and stock-based compensation along with higher general and administrative expenses.

As of Mar 31, 2014, non-accrual loans were $165 million, representing 9.2% of total loans at fair value, up from $154 million of non-accrual loans, indicating 9.7% of total loans at fair value, as of Dec 31, 2013. Net asset value NAV per share came in at $19.29, up 7.0% annualized or 32 cents per share from $18.97 as of Dec 31, 2013.

In spite of the volatile capital markets affecting valuations of the investment portfolio in the quarter, the overall underlying performance of American Capital's portfolio companies continue to remain a positive. Management not only anticipates an improvement in the portfolio along with an economic recovery but also expects to post a better book value.

American Capital's asset coverage ratio declined to 528% in the quarter from 588% in the prior quarter. The company made new investments of $321 million in the first quarter while strengthening its balance sheet. Moreover, the company recorded $442 million of cash proceeds from the realization of portfolio investments.

Share Repurchase Update

During first-quarter 2014, American Capital repurchased 8.9 million shares for $137 million at an average price of $15.38 per share. Since the beginning of the new repurchase program, adopted in Aug 2011, the company repurchased 101.6 million shares of common stock for $1.2 billion at an average price of $11.74 per share.

Notably, in Mar 2014, American Capital's board of directors suspended the repurchase program for an indefinite period.

Our Viewpoint

American Capital's successful restructuring of debt empowered it with sufficient operating flexibility. The company is also capable of providing flexible financing solutions ranging from a variety of senior debt and uni-tranche to mezzanine and equity co-investments. Further, American Capital provides multi-currency funding with underwriting platform globally, thereby boosting growth of its portfolio companies.

Such benefits provided by the company compel private equity clients to consider it as an investment partner, which in turn, helps it diversify. The company formed ACE III, the fifth company investing in private equity with $1.1 billion of assets and capital. Such a move will bring in more institutional investors and expand the asset management business.

Though the improved portfolio performance is expected to continue with the economic recovery, we believe the low interest rate environment and global cues might act as headwinds in the upcoming quarters. Moreover, the capital deployment by the company is expected to impact investors' confidence negatively.

Currently, American Capital carries a Zacks Rank #3 (Hold). Some better-ranked companies in the same sector worth considering include PennantPark Investment Corporation PNNT, BancFirst Corporation BANF and Old Second Bancorp Inc. OSBC. All the 3 companies carry a Zacks Rank #2 (Buy).


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