American Capital Downgraded

We are lowering our rating on the shares of American Capital Strategies, Ltd. (ACAS - Analyst Report) to a Hold from a Buy after the company’s core 1Q08 operating results fell three cents shy of our expectations. FY08 and FY09 are proving to be somewhat difficult years for this company and we have lowered our EPS expectations accordingly.

ACAS has a track record of increasing its earnings and dividends since becoming a public entity since it went public in 1997. Presently with a debt to equity ratio of 0.7:1, it creates the potential to sustain growth trends by continuing to reinvest in its middle markets niche. However, we think the high dividend yield may be perceived as less secure than in the past.

We expect to see the earnings and dividend growth to continue through 2008. Though we anticipate results to be less linear in the course of the year, the deal pipelines should remain strong. But mergers & acquisitions (M&A) volumes declined in 1Q08. Also, the deterioration in the credit markets created general market volatility, and illiquidity has resulted in significant declines in the market values of debt and equity investments.

Based on 1Q08 results and company guidance, we have adjusted our FY08 and FY09 earnings expectations to $3.02 per share and $3.25 per share, respectively, from $3.55 per share and $3.65 per share. At the current price level, the shares of ACAS trade at 1.12x its current net asset value (NAV) of $28.16 per share, which continues to remain below its 10-year historical range of 1.2 1.7x for the past several quarters and is now in-line with its current peer group level.

Read the full analyst report on ACAS