Ares Capital’s Performance: Long-Term Returns and Investment Potential

Ares Capital (NASDAQ: ARCC), a business development company (BDC) that distributes most of its profits as dividends, went public in October 2004 at $15 a share. While its stock price has only risen about 45% since then, the total return stands at an impressive 1,090% when reinvested dividends are included. A $10,000 investment at its IPO would now be valued at approximately $119,000, generating roughly $10,450 per year in dividends.

This performance surpassed the S&P 500 total return of 627% in the same timeframe, but how many millionaires has it created? The question remains: can Ares Capital deliver millionaire-making gains from a new $10,000 investment over the next two decades, or is it primarily a steady dividend stock for conservative investors?

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How Ares Capital Generates Revenue

Ares Capital operates as a BDC by providing direct loans to “middle market” companies that typically earn between $10 million and $250 million in EBITDA annually. These businesses often face challenges in securing loans from traditional banks due to their perceived higher risk, yet they are often too small to attract investments from larger investors and venture capitalists. Ares typically invests between $30 million to $500 million in debt and equity in these firms.

While Ares assumes more risk than conventional banks, it also charges higher interest rates. Its floating-rate loans are tied to the Federal Reserve’s benchmark rate, meaning that higher interest rates can enhance its net income. Conversely, abrupt interest rate hikes may impact growth by diminishing the attractiveness of its loans.

Over the past two decades, Ares has expanded by acquiring companies such as Allied Capital, Area Property Partners, Energy Investors Funds, American Capital, SSG Capital Holdings, Landmark Partners, Black Creek Group, and AMP Infrastructure Debt. These acquisitions have diversified its portfolio, which now spans across 550 companies. Notably, 63.8% of this portfolio consists of first- and second-lien secured loans, positioning Ares favorably among creditors in case of client bankruptcies.

Ares Capital’s Growth Metrics

The health of a BDC can often be gauged through its net assets per share and debt-to-equity ratio. From 2004 to 2024, Ares Capital’s year-end net assets per share rose from $14.43 to $19.89, reflecting portfolio expansion. The debt-to-equity ratio increased from 0.38 to 0.99 as more loans were issued; however, its total liabilities have not yet surpassed shareholder equity. Historically, Ares’ stock trades at a slight premium of $1-$2 over its net assets per share.

To maintain favorable tax rates, Ares must distribute at least 90% of its pre-tax profits as dividends. Although it does not raise dividends annually, the company has increased its annual payout from $1.30 per share in 2005 to $1.92 per share today, yielding a forward dividend of about 8.8% at the current price.

Analysts project Ares’ core EPS to decrease by 7% to $2.16 per share in 2025 as interest rates taper off. Nevertheless, this should still comfortably cover its dividends. Priced at $22, Ares also appears relatively undervalued at about 10 times this year’s core EPS.

Can Ares Capital Make You a Millionaire?

If Ares continues its cautious strategy and grows similarly over the next 20 years, it could achieve the same 1,090% total return as seen since its IPO. However, it seems unlikely that a single $10,000 investment would balloon to $1 million. Yet, it remains a dependable stock that might keep outperforming the market with substantial total returns.

Should You Invest $1,000 in Ares Capital Now?

Before making a purchase in Ares Capital, consider the following:

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Consider Nvidia, which was listed on April 15, 2005—investing $1,000 then would have resulted in $745,726 today.

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Leo Sun has no position in any of the stocks mentioned. The Motley Fool has no position in any of the stocks mentioned. The Motley Fool has a disclosure policy.

The views and opinions expressed herein are of the author and do not necessarily reflect those of Nasdaq, Inc.