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On Jun 14, 2013, we downgraded our long-term recommendation on American Capital, Ltd. (ACAS - Analyst Report) to Neutral from Outperform. This was based on the company’s first-quarter 2013 operating earnings, which lagged the Zacks Consensus Estimate.

Why the Downgrade?

American Capital’s declining top line remains a cause of concern. The company’s operating revenues are heavily skewed toward interest and dividend income, which constitutes almost 92% of the total operating revenue. With the recovery in interest rates appearing bleak in the near term, we expect the company’s top line to remain under pressure.

Further, over the past 60 days, estimates have been declining. The Zacks Consensus Estimate for 2013 fell by 11.3% to $1.02 per share. The Zacks Consensus Estimate for 2014 also declined by 7.2% to $1.16 per share. American Capital currently carries a Zacks Rank #3 (Hold).

Other Areas of Concern

American Capital was significantly impacted by the global financial crisis, which limited the company’s access to the debt and equity capital markets. The market disruption and liquidity crisis also dramatically reduced the volume of mergers and acquisitions in the market, thereby affecting the company’s ability to continue generating additional liquidity.

Additionally, a persistent low interest rate environment can adversely affect American Capital’s growth. Moreover, American Capital has investments in privately-held, middle-market businesses that are more susceptible to general market declines, resulting from narrower product lines, smaller market shares, and highly-leveraged capital structures.

Stocks to Consider

Better performing stocks include Gladstone Investment Corporation (GAIN - Snapshot Report), ICG Group, Inc. (ICGE - Snapshot Report) and MCG Capital Corporation (MCGC - Snapshot Report). While Gladstone carries a Zacks Rank #1 (Strong Buy), the other 2 companies have a Zacks Rank #2 (Buy).

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