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On Mar 19, 2013, we upgraded American Capital, Ltd. (ACAS - Analyst Report) to Outperform from Neutral, based on the company’s new investments and reduction of debt.

Why the Upgrade?

American Capital reported fourth-quarter results on Feb 11. Earnings per share came in at 26 cents, beating the Zacks Consensus Estimate by a penny but significantly lower than the prior-year quarter earnings of 67 cents.

Better-than-expected results were attributable to top-line growth along with decreased operating expenses, reflecting prudent expense management. Moreover, new investments and reduction of debt were positives in the quarter. However, the low interest environment during the quarter was a negative. Further, in the past year, the company has reported an average surprise of 37.4%.

Estimates over the past 60 days have been on the rise with the Zacks Consensus Estimate for 2013 going up 5% to $1.10 per share. Similarly, the Zacks Consensus Estimate for 2014 advanced 2.0% to $1.16 per share. With the Zacks Consensus Estimates for both the years moving north, American Capital now has a Zacks Rank #1 (Strong Buy).

Reasons for Positive Bias

American Capital’s efforts to de-risk and de-leverage the balance sheet are commendable. The company’s restructuring initiatives are also anticipated to enhance top-line growth as well as improve efficiency.

Moreover, the company is focused on maximizing shareholder value through accretive acquisitions, organic growth and also by making new portfolio investments. Further, American Capital has a competitive advantage over its peers given its ability to fund the entire capital structure in middle-market transactions.

American Capital provides multi-currency funding with underwriting platform globally, thereby driving growth for 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.

However, we remain concerned about the low interest rate environment and global cues, which are likely to be headwinds in the upcoming quarters.

Other Stocks That Warrant a Look

While we prefer American Capital, other Zacks Rank #1 stocks worth a look are Meta Financial Group, Inc. (CASH - Snapshot Report), Flagstar Bancorp Inc. (FBC - Snapshot Report) and First Defiance Financial Corp. (FDEF - Snapshot Report).

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