Ares Capital (ARCC 2.27%) spent much of last year trading above $22 per share. However, it dipped below that price point in late fall and hasn't been back since. As a result, the business development company's (BDC) dividend yield is above 9%. That's multiples above the S&P 500's 1.2% dividend yield.
Here's a look at whether the BDC is worth buying while it's below $22 a share.
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Growing bigger and better amid falling rates
Ares Capital provides capital (direct loans and other investments) to private middle market companies ($100 million to $1 billion in annual revenue) to support their business needs. Those investments generate interest and dividend income for the company. As a regulated investment company, Ares must distribute 90% of its taxable net income to investors via dividend payments to remain in compliance with IRS regulations.
NASDAQ: ARCC
Key Data Points
Given its dividend requirements, the BDC must regularly raise capital to make new investments. It has a strong record of growing its portfolio and shareholder value over the years, despite constantly evolving market conditions. For example, Ares has grown the value of its investment portfolio from $25.9 billion in the third quarter of 2024 to $28.7 billion in the third quarter of last year. While the weighted average yield of its investments has fallen over the past year (from 11.7% to 10.6%), the company's net asset value (NAV) per share has risen from $19.77 to $20.01. Even though the company's current NAV is above its recent share price, that premium has narrowed over the past year. That arguably makes Ares Capital a better value today than it was a year ago.
Lower interest rates over the past year have acted as a headwind for Ares Capital. As existing portfolio companies pay off their loans, the BDC often must redeploy those proceeds into lower-yielding investments. However, Ares can also capitalize on lower rates by raising lower-cost debt to fund new investments. It recently raised $750 million by issuing 5.25% unsecured notes due in 2031. That's an improvement from the 5.8% rate on the $1 billion of unsecured notes due in 2032 that it issued a year ago. The lower interest expense on new debt will help offset some of the impact of lower yields on new investments.
A massive opportunity to continue growing
Ares Capital sees an enormous opportunity to continue growing its portfolio and shareholder value. The number of banks has fallen by 70% over the past 40 years due to consolidation and failures. That's leaving companies with fewer banking options for their financing needs. Meanwhile, many companies are remaining private for longer or going private by selling to a private equity fund. That's limiting their ability to raise additional capital from public market investors to fund their business needs.
That has opened the doors for private credit companies like Ares Capital to provide direct loans to increasingly larger private companies. Ares estimates that there's a $3 trillion market opportunity in the traditional middle market and another $2.4 trillion opportunity in companies with over $1 billion in revenue.
The company is capitalizing on the growing private credit opportunity by raising additional capital to fund new investments. It raised over $1 billion in new debt capital during the third quarter through its long-standing relationships with banks and institutional capital providers. That enabled the company to make $3.9 billion of new investment commitments during the period across 35 new and 45 existing portfolio companies, more than offsetting the $2.6 billion of exited investment commitments. With a strong financial profile and an outstanding investment track record, Ares Capital is in an excellent position to continue growing its portfolio and shareholder value. That includes its high-yielding dividend. The BDC has paid a stable or higher regular quarterly dividend for 16 straight years.
A buy below $22
Ares Capital has grown its NAV over the past year despite the impact of lower interest rates. As a result, it's a more attractive investment opportunity right now. The BDC is in a strong position to continue growing shareholder value, including paying its more than 9% yielding dividend.
