Table of Contents
UNITED STATESSECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
FORM 10-Q
x
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended March 31, 2010
OR
o
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period to
Commission File No. 000-50697
ARES CAPITAL CORPORATION
(Exact name of Registrant as specified in its charter)
Maryland
33-1089684
(State or other jurisdiction of
(I.R.S. Employer
incorporation or organization)
Identification Number)
280 Park Avenue, 22nd Floor, Building East, New York, NY 10017
(Address of principal executive office) (Zip Code)
(212) 750-7300
(Registrant’s telephone number, including area code)
N/A
(Former name, former address and former fiscal year, if changed since last report)
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days: Yes x No o
Indicate by check mark whether the registrant has submitted electronically and posted on its corporate Web site, if any, every Interactive Data File required to be submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit and post such files). Yes o No o
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, or a smaller reporting company. See definitions of “large accelerated filer,” “accelerated filer,” and “smaller reporting company” in Rule 12b-2 of the Exchange Act. (Check one):
Large accelerated filer x
Accelerated filer o
Non-accelerated filer o
Smaller reporting company o
(Do not check if a smaller reporting company)
Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act). Yes o No x
Indicate the number of shares outstanding of each of the issuer’s classes of common stock, as of the latest practicable date.
Class
Outstanding at May 7, 2010
Common stock, $0.001 par value
191,688,014
INDEX
Part I.
Financial Information
Item 1.
Financial Statements
Consolidated Balance Sheet as of March 31, 2010 (unaudited) and December 31, 2009
1
Consolidated Statement of Operations for the three months ended March 31, 2010 (unaudited) and March 31, 2009 (unaudited)
2
Consolidated Schedule of Investments as of March 31, 2010 (unaudited) and December 31, 2009
4
Consolidated Statement of Stockholders’ Equity for the three months ended March 31, 2010 (unaudited)
28
Consolidated Statement of Cash Flows for the three months ended March 31, 2010 (unaudited) and March 31, 2009 (unaudited)
29
Notes to Consolidated Financial Statements (unaudited)
30
Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations
49
Item 3.
Quantitative and Qualitative Disclosures About Market Risk
61
Item 4.
Controls and Procedures
62
Part II.
Other Information
Legal Proceedings
Item 1A.
Risk Factors
63
Unregistered Sales of Equity Securities and Use of Proceeds
Defaults Upon Senior Securities
Submission of Matters to a Vote of Security Holders
Item 5.
Item 6.
Exhibits
64
ARES CAPITAL CORPORATION AND SUBSIDIARIES
CONSOLIDATED BALANCE SHEET
(dollar amounts in thousands, except per share data)
As of
March 31, 2010
December 31, 2009
(unaudited)
ASSETS
Investments at fair value (amortized cost of $2,374,092 and $2,376,384, respectively)
Non-controlled/non-affiliate company investments
$
1,533,470
1,568,423
Non-controlled affiliate company investments
250,761
276,351
Controlled affiliate company investments
435,998
327,040
Total investments at fair value
2,220,229
2,171,814
Cash and cash equivalents
83,813
99,227
Receivable for open trades
19,288
—
Interest receivable
26,155
28,019
Other assets
29,862
14,455
Total assets
2,379,347
2,313,515
LIABILITIES
Debt
771,358
969,465
Management and incentive fees payable
16,600
66,495
Accounts payable and accrued expenses
19,241
16,533
Interest and facility fees payable
3,166
2,645
Payable for open trades
489
Total liabilities
810,365
1,055,627
Commitments and contingencies (Note 6)
STOCKHOLDERS’ EQUITY
Common stock, par value $.001 per share, 300,000,000 common shares authorized, 133,195,477 and 109,944,674 common shares issued and outstanding, respectively
133
110
Capital in excess of par value
1,771,630
1,490,458
Accumulated undistributed (overdistributed) net investment income
(11,668
)
3,143
Accumulated net realized loss on investments, foreign currency transactions and extinguishment of debt
(35,996
(31,115
Net unrealized loss on investments and foreign currency transactions
(155,117
(204,708
Total stockholders’ equity
1,568,982
1,257,888
Total liabilities and stockholders’ equity
NET ASSETS PER SHARE
11.78
11.44
See accompanying notes to consolidated financial statements.
CONSOLIDATED STATEMENT OF OPERATIONS
For the three months ended
March 31, 2009
INVESTMENT INCOME:
From non-controlled/non-affiliate company investments:
Interest from investments
46,075
43,831
Capital structuring service fees
1,350
1,050
Interest from cash & cash equivalents
11
153
Management fees
328
Dividend income
426
Other income
795
949
Total investment income from non-controlled/non-affiliate company investments
48,559
46,409
From non-controlled affiliate company investments:
4,620
5,575
138
125
103
14
58
90
Total investment income from non-controlled affiliate company investments
4,919
5,804
From controlled affiliate company investments:
10,841
2,938
751
194
1,021
591
378
41
80
Total investment income from controlled affiliate company investments
13,032
3,803
Total investment income
66,510
56,016
EXPENSES:
Interest and credit facility fees
8,588
6,581
Base management fees
8,456
7,498
Incentive management fees
8,144
7,550
Professional fees related to the acquisition of Allied Capital Corporation
3,789
Professional fees
2,504
1,397
Insurance
359
334
Administrative
1,231
1,004
Depreciation
163
173
Directors fees
134
102
Other
1,599
1,146
Total expenses
34,967
25,785
NET INVESTMENT INCOME BEFORE INCOME TAXES
31,543
30,231
Income tax expense (benefit), including excise tax
(162
31
NET INVESTMENT INCOME
31,705
30,200
REALIZED AND UNREALIZED GAINS (LOSSES) ON INVESTMENTS AND FOREIGN CURRENCY TRANSACTIONS:
Net realized gains (losses):
2,261
(1,305
(7,659
(482
432
Foreign currency transactions
85
(48
Net realized gains (losses)
(4,881
(1,835
Net unrealized gains (losses):
30,974
(8,559
11,845
(2,006
6,924
(9,324
(152
15
Net unrealized gains (losses)
49,591
(19,874
Net realized and unrealized gains (losses) from investments and foreign currency transactions
44,710
(21,709
REALIZED GAIN ON EXTINGUISHMENT OF DEBT
26,543
NET INCREASE IN STOCKHOLDERS’ EQUITY RESULTING FROM OPERATIONS
76,415
35,034
BASIC AND DILUTED EARNINGS PER COMMON SHARE (Note 4)
0.61
0.36
WEIGHTED AVERAGE SHARES OF COMMON STOCK OUTSTANDING — BASIC AND DILUTED (Note 4)
124,544,026
97,152,820
3
CONSOLIDATED SCHEDULE OF INVESTMENTS
As of March 31, 2010 (unaudited)
(dollar amounts in thousands, except per unit data)
Company(1)
Industry
Investment
Interest(5)(10)
AcquisitionDate
Amortized Cost
Fair Value
Fair ValuePer Unit
Percentageof Net Assets
Financial
Carador PLC(6)(8)(9)
Investment company
Ordinary shares (7,110,525 shares)
12/15/2006
9,033
2,915
0.41
CIC Flex, LP(9)
Investment partnership
Limited partnership units (0.94 unit)
9/7/2007
47
Covestia Capital Partners, LP(9)
Limited partnership interest (47% interest)
6/17/2008
1,059
1,006
Firstlight Financial Corporation(6)(9)
Senior subordinated loan ($73,258 par due 12/2016)
1.00% PIK
12/31/2006
73,185
51,280
0.70
(4)
Common stock (10,000 shares)
10,000
Common stock (30,000 shares)
30,000
Imperial Capital Group, LLC and Imperial Capital Private Opportunities, LP(9)
Investment banking services
Common units (2,526 units)
5/10/2007
Common units (315 units)
Common units (7,710 units)
14,997
18,750
2,431.91
Limited partnership interest (80% interest)
6,794
6,233
Ivy Hill Asset Management, LP (7)
Investment manager
Member interest
6/15/2009
85,424
99,123
Ivy Hill Middle Market Credit Fund, Ltd.(7)(8)(9)
Class B deferrable interest notes ($40,000 par due 11/2018)
6.28% (Libor+ 6.00%/Q)
11/20/2007
40,000
37,600
0.94
Subordinated notes ($15,681 par due 11/2018)
15.50%
15,681
15,053
0.96
Knightsbridge CLO 2007-1 Ltd. (7)
Class E interest notes ($20,350 par due 1/2022)
9.29% (Libor+ 9.00%/Q)
3/24/2010
14,852
0.73
Knightsbridge CLO 2008-1 Ltd. (7)
Class C interest notes ($14,400 par due 6/2018)
7.79% (Libor+ 7.50%/Q)
14,400
1.00
Class D interest notes ($9,000 par due 6/2018)
8.79% (Libor+ 8.50%/Q)
9,000
Class E interest notes ($14,850 par due 6/2018)
5.29% (Libor+ 5.00%/Q)
13,596
0.92
Partnership Capital Growth Fund I, LP(9)
Limited partnership interest (25% interest)
6/16/2006
3,017
Senior Secured Loan Fund LLC (7)
Subordinated certificates ($175,378 par due 12/2015)
16.13%
10/30/2009
166,414
170,000
0.97
Trivergance Capital Partners, LP(9)
Limited partnership interest (100% interest)
6/5/2008
2,216
VSC Investors LLC(9)
Membership interest (4.63% interest)
1/24/2008
648
510,366
457,473
29.16
%
Healthcare Services
American Renal Associates, Inc.
Dialysis provider
Senior secured loan ($721 par due 12/2010)
8.50% (Base Rate+ 5.00%/D)
12/14/2005
721
(3)(14)
Senior secured loan ($10,377 par due 12/2011)
8.50% (Base Rate+ 5.00%/Q)
10,377
Capella Healthcare, Inc.
Acute care hospital operator
Junior secured loan ($10,000 par due 2/2016)
13.00%
2/29/2008
Junior secured loan ($30,000 par due 2/2016)
(2)
CT Technologies Intermediate Holdings, Inc. and CT Technologies Holdings, LLC(6)
Healthcare analysis services
Preferred stock (7,427 shares)
14.00% PIK
6/15/2007
8,763
7,887
1,061.91
Common stock (9,679 shares)
4,000
7,411
765.69
Common stock (1,546 shares)
1,184
DSI Renal, Inc.
Senior secured loan ($19,514 par due 3/2013)
9.00% (Libor+ 7.00%/Q)
4/4/2006
15,795
19,515
(14)
Senior subordinated loan ($63,679 par due 4/2014)
6% Cash, 11.00% PIK
63,197
61,769
Common stock (20,726 shares)
20,684
997.97
GG Merger Sub I, Inc.
Drug testing services
Senior secured loan ($11,330 par due 12/2014)
4.26% (Libor+ 4.00%/Q)
12/14/2007
10,941
10,424
Senior secured loan ($12,000 par due 12/2014)
11,460
11,040
(3)
HCP Acquisition Holdings, LLC(7)
Healthcare compliance advisory services
Class A units (10,044,176 units)
6/26/2008
10,044
4,249
0.42
Heartland Dental Care, Inc.
Dental services
Senior subordinated loan ($27,717 par due 7/2014)
14.25%
7/31/2008
27,717
Magnacare Holdings, Inc., Magnacare Administrative Services, LLC, and Magnacare, LLC
Healthcare professional provider
Senior secured loan ($4,372 par due 1/2012)
7.50% (Libor+ 5.50%/M)
2/26/2010
4,328
4,372
Senior subordinated loan ($54,000 par due 3/2015)
15.00% (Libor+ 10.00% Cash, 3.00%PIK/Q)
3/26/2010
54,000
(3)(4)(14)
MWD Acquisition Sub, Inc.
Junior secured loan ($5,000 par due 5/2013)
6.50% (Libor+ 6.25%/M)
5/3/2007
5,000
4,450
0.89
MPBP Holdings, Inc., Cohr Holdings, Inc. and MPBP Acquisition Co., Inc.
Healthcare equipment services
Junior secured loan ($19,748 par due 1/2014)
1/31/2007
19,748
1,975
0.10
(13)
Junior secured loan ($11,849 par due 1/2014)
11,849
1,185
(3)(13)
Common stock (50,000 shares)
OnCURE Medical Corp.
Radiation oncology care provider
Senior secured loan ($3,060 par due 2/2012)
3.75% (Libor+ 3.50%/M)
8/18/2006
3,060
2,754
0.90
Senior subordinated loan ($32,765 par due 8/2013)
11.00% Cash, 1.50% PIK
32,786
30,799
Common stock (857,143 shares)
3,000
3.50
Passport Health Communications, Inc., Passport Holding Corp. and Prism Holding Corp.
Healthcare technology provider
Senior secured loan ($490 par due 5/2014)
10.50% (Libor+ 7.50%/M)
5/9/2008
490
(2)(14)
Senior secured loan ($11,570 par due 5/2014)
11,570
Senior secured loan ($452 par due 5/2014)
452
Senior secured loan ($10,680 par due 5/2014)
10,680
Series A preferred stock (1,594,457 shares)
7/30/2008
9,900
6.21
Common stock (16,106 shares)
100
PG Mergersub, Inc.
Provider of patient surveys, management reports and national databases for the integrated healthcare delivery system
Senior subordinated loan ($4,000 par due 3/2016)
12.50%
3/12/2008
3,940
Common stock (16,667 shares)
167
10.00
Preferred stock (333 shares)
333
1,000.01
The Schumacher Group of Delaware, Inc.
Outsourced physician service provider
Junior secured loan ($30,909 par due 7/2013)
11.13% Cash, 1.00% PIK
7/18/2008
30,909
(2)(4)
Univita Health, Inc.
Outsourced services provider
Senior subordinated loan ($20,618 par due 12/2014)
15.00%
12/22/2009
20,618
5
VOTC Acquisition Corp.
Senior secured loan ($7,465 par due 7/2012)
11.00% Cash, 2.00% PIK
6/30/2008
7,465
Preferred stock (3,888,222 shares)
7/14/2008
8,748
7,511
1.93
467,842
429,708
27.39
Services-Other
American Residential Services, LLC
Plumbing, heating and air-conditioning services
Junior secured loan ($20,711 par due 4/2015)
10.00% Cash, 2.00% PIK
4/17/2007
20,711
Diversified Collection Services, Inc.
Collections services
Senior secured loan ($10,205 par due 2/2011)
9.50% (Libor+ 6.75%/Q)
2/2/2005
9,043
10,205
Senior secured loan ($3,632 par due 2/2011)
3,632
Senior secured loan ($1,931 par due 8/2011)
13.75% (Libor+ 11.00%/Q)
1,931
Senior secured loan ($7,492 par due 8/2011)
7,492
Preferred stock (14,927 shares)
5/18/2006
169
274
18.33
Common stock (114,004 shares)
295
438
3.84
Driven Brands, Inc.
Automotive aftermarket car care franchisor
Senior subordinated loan ($41,524 par due 7/2015)
1/28/2010
41,524
GCA Services Group, Inc.
Custodial services
Senior secured loan ($2,771 par due 12/2011)
12.00%
2,688
2,771
Senior secured loan ($14,229 par due 12/2011)
14,256
14,229
Senior secured loan ($9,506 par due 12/2011)
9,506
Growing Family, Inc. and GFH Holdings, LLC (6)
Photography services
Senior secured revolving loan ($108 par due 3/2013)
9.00% (Libor+ 6.00%/Q) 5.00% Cash, 4.00% PIK
3/16/2007
108
48
0.44
(4)(14)
Senior secured revolving loan ($2,252 par due 3/2013)
2,244
1,002
Senior secured loan ($6,811 par due 3/2013)
6,799
3,031
Preferred stock (8,750 shares)
Common stock (552,430 shares)
872
Warrants to purchase up to 11,313,678 Class B units
NPA Acquisition, LLC
Powersport vehicle auction operator
Junior secured loan ($12,000 par due 2/2013)
6.99% (Libor+ 6.75%/M)
8/23/2006
12,000
Common units (1,709 units)
1,000
1,705.68
PODS Funding Corp.
Storage and warehousing
Senior subordinated loan ($25,125 par due 6/2015)
12/23/2009
25,125
Subordinated loan ($6,500 par due 12/2015)
16.64% PIK
5,114
5,070
0.78
Service Champ Inc.
Automotive maintenance and repair parts distributor
Senior subordinated loan ($26,425 par due 4/2012)
13.00% Cash, 2.50% PIK
26,425
Web Services Company, LLC
Laundry service and equipment provider
Senior secured loan ($4,925 par due 8/2014)
7.00% (Base Rate+ 3.75%/Q)
4,633
4,925
Senior subordinated loan ($13,308 par due 8/2016)
11.50% Cash, 2.50% PIK
8/29/2008
13,308
12,909
Senior subordinated loan ($25,965 par due 8/2016)
25,965
25,186
234,840
231,349
14.75
6
Education
Campus Management Corp. and Campus Management Acquisition Corp.(6)
Education software developer
Senior secured loan ($3,281 par due 8/2013)
10.00% Cash, 3.00% PIK
2/8/2008
3,281
(4)(15)
Senior secured loan ($30,502 par due 8/2013)
30,502
(2)(4)(15)
Senior secured loan ($9,030 par due 8/2013)
9,030
Preferred stock (493,147 shares)
8.00% PIK
9,949
17,100
34.68
ELC Acquisition Corporation
Developer, manufacturer and retailer of educational products
Senior secured loan ($161 par due 11/2012)
3.50% (Libor+ 3.25%/M)
11/30/2006
161
156
Junior secured loan ($8,333 par due 11/2013)
7.25% (Libor+ 7.00%/M)
8,333
Instituto de Banca y Comercio, Inc. & Leeds IV Advisors, Inc.(8)
Private school operator
Senior secured loan ($11,670 par due 3/2014)
8.50% (Libor+ 6.00%/Q)
3/15/2007
11,670
Senior subordinated loan ($19,101 par due 6/2014)
13.00% Cash, 3.00% PIK
6/4/2008
19,101
Preferred stock (165,811 shares)
978
2,470
14.90
Preferred stock (140,577 shares)
3/31/2009
755
2,094
Common stock (214,286 shares)
54
3,192
Common stock (140,577 shares)
35
JTC Education Holdings, Inc.
Postsecondary school operator
Senior secured loan ($20,250 par due 12/2014)
12.50% (Libor+ 9.50%/M)
12/31/2009
20,250
Senior secured loan ($11,000 par due 12/2014)
11,000
Lakeland Finance, LLC
Junior secured loan ($2,423 par due 12/2012)
11.50%
12/13/2005
2,423
Junior secured loan ($24,231 par due 12/2012)
24,231
R3 Education, Inc. (formerly known as Equinox EIC Partners, LLC and MUA Management Company) and EIC Acquisitions Corp. (8)
Medical school operator
Senior secured loan ($7,275 par due 4/2013)
9.00% (Libor+ 6.00%/Q)
4/3/2007
7,275
10,691
1.47
Senior secured loan ($10,113 par due 4/2013)
9/21/2007
10,113
14,860
Senior secured loan ($4,000 par due 4/2013)
5,878
Senior secured loan ($395 par due 6/2010)
4/24/2009
395
581
Senior secured loan ($5,203 par due 4/2013)
13.00% PIK
12/8/2009
1,483
7,645
Preferred stock (8,800 shares)
2,200
1,100
125.00
Warrants to purchase up to 27,890 shares
Common membership interest (26.27% interest)
15,800
20,072
193,019
227,754
14.52
Restaurants
ADF Capital, Inc. & ADF Restaurant Group, LLC
Restaurant owner and operator
Senior secured revolving loan ($2,010 par due 11/2012)
6.50% (Libor+ 3.50%/Q)
11/27/2006
2,010
Senior secured revolving loan ($283 par due 11/2012)
6.50% (Base Rate+ 2.50%/Q)
283
Senior secured loan ($23,464 par due 11/2013)
12.50% (Libor+ 6.50% Cash, 3.00% PIK/Q)
23,470
23,464
(2)(4)(14)
Senior secured loan ($10,998 par due 11/2013)
10,998
Promissory note ($13,105 par due 11/2016)
12.00% PIK
6/1/2006
13,093
13,105
Warrants to purchase up
7
to 0.61 shares
Encanto Restaurants, Inc.(8)
Junior secured loan ($20,997 par due 8/2013)
11.00%
8/16/2006
20,997
19,947
0.95
Junior secured loan ($3,999 par due 8/2013)
3,999
3,799
OTG Management, Inc.
Airport restaurant operator
Junior secured loan ($24,070 par due 6/2013)
20.50% (Libor+ 17.50%/M), 14.00% Cash, 6.50% PIK
6/19/2008
24,070
Warrants to purchase up to 100,857 shares of common stock
3,112
30.85
Warrants to purchase up to 9 shares of common stock
Vistar Corporation and Wellspring Distribution Corp.
Food service distributor
Senior subordinated loan ($31,625 par due 5/2015)
13.50%
5/23/2008
31,625
30,676
Senior subordinated loan ($30,000 par due 5/2015)
29,100
Class A non-voting common stock (1,366,120 shares)
7,500
4,050
2.96
168,145
164,614
10.49
Business Services
Booz Allen Hamilton, Inc.
Strategy and technology consulting services
Senior secured loan ($739 par due 7/2015)
7.50% (Libor+ 4.50%/S)
727
739
Senior subordinated loan ($250 par due 7/2016)
219
250
Senior subordinated loan ($12,400 par due 7/2016)
12,309
12,400
Investor Group Services, LLC(6)
Financial services
Limited liability company membership interest (10.00% interest)
6/22/2006
500
Pillar Holdings LLC and PHL Holding Co.(6)
Mortgage services
Senior secured loan ($15,351 par due 11/2013)
5.78% (Base Rate+ 5.50%/B)
15,351
Senior secured loan ($9,582 par due 11/2013)
9,582
Senior secured loan ($1,875 par due 5/2014)
14.50%
1,875
Senior secured loan ($5,500 par due 5/2014)
5,500
Common stock (84.78 shares)
3,768
8,873
104,654.16
Primis Marketing Group, Inc. and Primis Holdings, LLC(6)
Database marketing services
Senior subordinated loan ($10,222 par due 2/2013)
8/24/2006
10,222
0.01
Preferred units (4,000 units)
3,600
Common units (4,000,000 units)
400
Prommis Solutions, LLC, E-Default Services, LLC, Statewide Tax and Title Services, LLC & Statewide Publishing Services, LLC (formerly known as MR Processing Holding Corp.)
Bankruptcy and foreclosure processing services
Senior subordinated loan ($16,621 par due 2/2014)
11.50% Cash, 2.00% PIK
2/8/2007
16,621
Senior subordinated loan ($26,763 par due 2/2014)
26,763
Preferred units (30,000 units)
4/11/2006
6,221
207.35
R2 Acquisition Corp.
Marketing services
Common stock (250,000 shares)
5/29/2007
Summit Business Media, LLC
Business media consulting services
Junior secured loan ($11,494 par due 7/2014)
8/3/2007
10,276
575
0.05
VSS-Tranzact Holdings, LLC(6)
Management consulting services
Common membership interest (8.51% interest)
10/26/2007
10,204
8,163
130,667
113,765
7.25
8
Retail
Apogee Retail, LLC
For-profit thrift retailer
Senior secured loan ($26,047 par due 3/2012)
5.50% (Libor + 5.25%/M)
3/27/2007
26,047
24,744
Senior secured loan ($11,397 par due 3/2012)
11,397
10,827
Senior secured loan ($2,962 par due 3/2012)
5.48% (Libor + 5.25%/M)
2,962
2,813
Senior secured loan ($3,318 par due 9/2012)
12.00% Cash, 4.00% PIK
5/28/2008
3,318
Senior secured loan ($11,180 par due 9/2012)
11,180
Savers, Inc. and SAI Acquisition Corporation
Common stock (1,170,182 shares)
8/8/2006
4,500
5,902
5.04
Things Remembered, Inc. and TRM Holdings Corporation
Personalized gifts retailer
Senior secured loan ($20 par due 9/2012)
6.50% (Base Rate + 2.25%), 5.50% Cash, 1.00% PIK
9/28/2006
19
0.91
Senior secured loan ($3,626 par due 9/2012)
3,624
3,300
Senior secured loan ($138 par due 9/2012)
137
126
Senior secured loan ($36 par due 9/2012)
36
32
Senior secured loan ($28,402 par due 9/2012)
28,382
25,846
Senior secured loan ($7,303 par due 9/2012)
7,311
6,646
Preferred stock (73 shares)
3/19/2009
140
1,919.75
Preferred stock (80 shares)
1,800
154
1,919.81
Common stock (800 shares)
200
Warrants to purchase up to 859 shares of preferred stock
100,913
95,047
6.06
Consumer Products-Non-durable
Blacksmith Brands Holdings, Inc. and Blacksmith Brands, Inc.
Consumer products and personal care manufacturer
Senior secured loan ($22,398 par due 12/2014)
12.50% (Base Rate + 8.50%/Q)
10/23/2009
22,398
Making Memories Wholesale, Inc.(7)
Scrapbooking branded products manufacturer
Senior secured loan ($9,625 par due 8/2014)
10.00% (Base Rate + 5.50%/Q)
8/21/2009
7,670
9,625
Senior secured loan ($5,235 par due 8/2014)
7.50% Cash, 7.50% PIK
4,098
262
Common stock (100 shares)
The Thymes, LLC(7)
Cosmetic products manufacturer
Preferred units (6,283 units)
6/21/2007
6,921
6,229
991.44
Common units (5,400 units)
Woodstream Corporation
Pet products manufacturer
Senior subordinated loan ($4,743 par due 2/2015)
1/22/2010
4,091
4,173
0.88
Senior subordinated loan ($50,257 par due 2/2015)
43,223
44,227
Common stock (4,254 shares)
1,222
287.36
89,623
88,136
5.62
9
Manufacturing
Emerald Performance Materials, LLC
Polymers and performance materials
Senior secured loan ($536 par due 5/2011)
8.25% (Libor + 4.25%/M)
5/16/2006
536
manufacturer
Senior secured loan ($8,392 par due 5/2011)
8,392
Senior secured loan ($469 par due 5/2011)
8.50% (Base Rate + 3.50%/M)
469
Senior secured loan ($1,604 par due 5/2011)
10.00% (Libor + 6.00%/M)
1,604
Senior secured loan ($4,974 par due 5/2011)
4,974
Reflexite Corporation (7)
Developer and manufacturer of high-visibility reflective products
Senior subordinated loan ($6,041 par due 11/2014)
20.00% (Base Rate + 9.00% Cash, 7.50% PIK)
2/26/2008
6,041
Senior subordinated loan ($11,044 par due 11/2014)
11,044
(3)(4)
Common stock (1,821,860 shares)
3/28/2006
27,435
24,595
13.50
Saw Mill PCG Partners LLC
Precision components manufacturer
Common units (1,000 units)
2/2/2007
UL Holding Co., LLC
Petroleum product manufacturer
Junior secured loan ($2,970 par due 12/2012)
14.00%
2/13/2009
2,970
2,822
Junior secured loan ($990 par due 12/2012)
990
941
Junior secured loan ($2,124 par due 12/2012)
2,124
2,018
Junior secured loan ($846 par due 12/2012)
846
803
Junior secured loan ($10,890 par due 12/2012)
9.13%
10,890
10,346
Common units (50,000 units)
4/25/2008
Universal Trailer Corporation(6)
Livestock and specialty trailer manufacturer
Common stock (74,920 shares)
10/8/2004
7,930
90,715
77,906
4.97
Printing, Publishing and Media
Canon Communications LLC
Print publications services
Junior secured loan ($12,034 par due 11/2011)
13.75% (Libor + 8.75% Cash, 2.00% PIK/Q)
5/25/2005
12,023
9,627
0.80
Junior secured loan ($12,264 par due 11/2011)
12,253
9,811
LVCG Holdings LLC(7)
Commercial printer
Membership interests (56.53% interest)
10/12/2007
6,600
330
National Print Group, Inc.
Printing management services
Senior secured revolving loan ($1,141 par due 3/2012)
9.00% (Libor + 6.00%/Q)
3/2/2006
1,141
628
0.55
Senior secured revolving loan ($1,613 par due 3/2012)
9.00% (Base Rate + 5.00%/Q)
1,613
887
Senior secured loan ($7,301 par due 3/2012)
16.00% (Libor + 13.00%/Q), 9.00% Cash, 7.00% PIK
7,073
4,016
Senior secured loan ($640 par due 3/2012)
16.00% (Libor + 12.00%/Q), 9.00% Cash, 7.00% PIK
352
Preferred stock (9,344 shares)
2,000
10
The Teaching Company, LLC and The Teaching Company Holdings, Inc.
Education publications provider
Senior secured loan ($18,000 par due 9/2012)
10.50%
9/29/2006
18,000
(2)(11)
Senior secured loan ($10,000 par due 9/2012)
(3)(11)
Preferred stock (29,969 shares)
2,997
3,872
129.21
Common stock (15,393 shares)
0.26
74,331
57,527
3.67
Beverage, Food and Tobacco
Apple & Eve, LLC and US Juice Partners, LLC(6)
Juice manufacturer
Senior secured revolving loan ($1,000 par due 10/2013)
12.00% (Libor + 9.00%/M)
10/5/2007
Senior secured loan ($15,105 par due 10/2013)
15,105
Senior secured loan ($15,892 par due 10/2013)
15,892
Senior units (50,000 units)
100.00
Bumble Bee Foods, LLC and BB Co-Invest LP
Canned seafood manufacturer
Common units (4,000 units)
11/18/2008
7,400
1,850.00
Charter Baking Company, Inc.
Baked goods manufacturer
Senior subordinated loan ($6,272 par due 2/2013)
2/6/2008
6,272
Preferred stock (6,258 shares)
9/1/2006
2,500
1,725
275.64
49,769
52,394
3.34
Telecommunications
American Broadband Communications, LLC and American Broadband Holding Company
Broadband communication services
Senior subordinated loan ($32,216 par due 11/2014)
16.00% (12.00% Cash, 4.00% PIK/Q)
32,216
Senior subordinated loan ($10,147 par due 11/2014)
11/7/2007
10,147
Warrants to purchase up to 170 shares
42,363
2.70
Environmental Services
AWTP, LLC
Water treatment services
Junior secured loan ($4,755 par due 12/2012)
12/23/2005
4,755
1,902
0.40
Junior secured loan ($2,086 par due 12/2012)
2,086
834
Mactec, Inc.
Engineering and environmental services
Class B-4 stock (16 shares)
11/3/2004
Class C stock (5,556 shares)
150
26.92
Sigma International Group, Inc.
Water treatment parts manufacturer
Junior secured loan ($1,833 par due 10/2013)
16.00% (Libor + 8.00%/Q)
10/11/2007
1,833
1,283
Junior secured loan ($917 par due 10/2013)
11/6/2007
917
642
Junior secured loan ($2,778 par due 10/2013)
11/1/2007
2,778
1,944
Junior secured loan ($4,000 par due 10/2013)
2,800
Junior secured loan ($2,000 par due 10/2013)
1,400
Junior secured loan ($6,060 par due 10/2013)
6,060
4,242
Waste Pro USA, Inc.
Waste management services
Preferred Class A common stock (611,615 shares)
11/9/2006
12,263
14,102
23.06
Wastequip, Inc.(6)
Waste management equipment manufacturer
Senior subordinated loan ($13,121 par due 2/2015)
2/5/2007
13,030
1,312
Common stock (13,889 shares)
1,389
57,952
33,347
2.13
Cargo Transport
The Kenan Advantage Group, Inc.
Fuel transportation provider
Senior secured loan ($2,394 par due 12/2011)
3.00% (Libor + 2.75%/M)
12/15/2005
2,394
Senior subordinated loan ($26,354 par due 12/2013)
9.50% Cash, 3.50% PIK
26,354
Preferred stock (10,984 shares)
2,714
247.09
Common stock (30,575 shares)
56
1.83
30,262
31,518
2.01
Aerospace and Defense
AP Global Holdings, Inc.
Safety and security equipment manufacturer
Senior secured loan ($6,844 par due 10/2013)
4.75% (Libor + 4.50%/M)
11/18/2007
6,752
6,639
ILC Industries, Inc.
Industrial products provider
Junior secured loan ($12,000 par due 6/2014)
6/27/2006
Thermal Solutions LLC and TSI Group, Inc.
Thermal management and electronics packaging manufacturer
Senior secured loan ($353 par due 3/2011)
4.04% (Libor + 3.75%/Q)
3/28/2005
353
339
Senior secured loan ($2,724 par due 3/2012)
4.54% (Libor + 4.25%/Q)
2,724
2,479
Senior subordinated loan ($2,179 par due 3/2013)
11.50% Cash, 2.75% PIK
2,178
1,896
0.87
Senior subordinated loan ($3,441 par due 3/2013)
3,438
2,994
Senior subordinated loan ($2,764 par due 3/2013)
3/21/2006
2,762
2,404
Preferred stock (71,552 shares)
716
Common stock (1,460,246 shares)
Wyle Laboratories, Inc. and Wyle Holdings, Inc.
Provider of specialized engineering, scientific and technical services
Senior preferred stock (775 shares)
1/17/2008
96
103.85
Common stock (1,616,976 shares)
2,004
1,600
0.99
33,038
30,681
1.96
Health Clubs
Athletic Club Holdings, Inc.
Premier health club operator
Senior secured loan ($12,500 par due 10/2013)
4.75% (Libor + 4.50%/Q)
12,500
(2)(12)
Senior secured loan ($11,500 par due 10/2013)
11,500
10,120
Senior secured loan ($1,750 par due 10/2013)
4.74% (Libor + 4.50%/M)
1,750
1,540
Senior secured loan ($993 par due 10/2013)
993
874
Senior secured loan ($7 par due 10/2013)
6.75% (Base Rate + 3.50%/M)
26,750
23,540
1.50
Containers-Packaging
Industrial Container Services, LLC(6)
Industrial container manufacturer, reconditioner and servicer
Senior secured revolving loan ($826 par due 9/2011)
5.75% (Base Rate + 2.50%/M)
6/21/2006
826
Senior secured loan ($295 par due 9/2011)
4.25% (Libor + 4.00%/M)
Senior secured loan ($4,515 par due 9/2011)
4,515
12
Senior secured loan ($134 par due 9/2011)
Senior secured loan ($2,052 par due 9/2011)
2,052
Senior secured loan ($268 par due 9/2011)
4.29% (Libor + 4.00%/M)
268
Senior secured loan ($4,105 par due 9/2011)
4,105
Senior secured loan ($17 par due 9/2011)
17
Senior secured loan ($257 par due 9/2011)
257
Common units (1,800,000 units)
9/29/2005
9,350
5.19
14,269
21,819
1.39
Grocery
Planet Organic Health Corp.(8)
Organic grocery store operator
Junior secured loan ($670 par due 7/2013)
15.00% (Libor + 12.00%/M)
7/3/2007
663
670
Junior secured loan ($7,987 par due 7/2013)
7,906
7,987
Senior subordinated loan ($12,919 par due 7/2012)
12,724
10,852
0.84
21,293
19,509
1.24
Computers and Electronics
TZ Merger Sub, Inc.
Senior secured loan ($4,678 par due 8/2015)
7.50% (Libor + 4.50%/Q)
4,574
4,678
X-rite, Incorporated
Artwork software manufacturer
Junior secured loan ($3,074 par due 7/2013)
14.38% (Libor + 11.38%/Q)
7/6/2006
3,074
Junior secured loan ($7,685 par due 7/2013)
7,685
Junior secured loan ($42 par due 7/2013)
14.38% (Base Rate + 10.38%/Q)
42
Junior secured loan ($105 par due 7/2013)
105
15,480
15,584
Consumer Products-Durable
Direct Buy Holdings, Inc. and Direct Buy Investors, LP(6)
Membership-based buying club franchisor and operator
Senior secured loan ($2,099 par due 11/2012)
6.75% (Libor + 5.00%/M)
2,036
1,994
Senior secured loan ($23 par due 11/2012)
22
Partnership interests (19.31% interest)
11/30/2007
12,058
6,016
0.38
Housing
HB&G Building Products Inc.
Synthetic and wood product manufacturer
Senior subordinated loan ($8,956 par due 3/2011)
8,991
179
0.02
Warrants to purchase up to 4,464 shares
653
Common stock (2,743 shares)
753
10,397
2,374,092
13
(1) Other than our investments in HCP Acquisition Holdings, LLC, Ivy Hill Asset Management, LP., Ivy Hill Middle Market Credit Fund, Ltd., Knightsbridge CLO 2007-1 Ltd., Knightsbridge CLO 2008-1 Ltd., LVCG Holdings, LLC, Making Memories Wholesale, Inc., Reflexite Corporation, Senior Secured Loan Fund LLC and The Thymes, LLC, we do not “Control” any of our portfolio companies, as defined in the Investment Company Act. In general, under the Investment Company Act, we would “Control” a portfolio company if we owned more than 25% of its outstanding voting securities and/or had the power to exercise control over the management or policies of such portfolio company. All of our portfolio company investments are subject to legal restrictions on sales which as of March 31, 2010 represented 142% of the Company’s net assets.
(2) These assets are owned by the Company’s wholly owned subsidiary Ares Capital CP, are pledged as collateral for the CP Funding Facility and, as a result, are not directly available to the creditors of the Company to satisfy any obligations of the Company other than Ares Capital CP’s obligations under the CP Funding Facility (see Note 7 to the consolidated financial statements). Unless otherwise noted, as of March 31, 2010, all other investments were pledged as collateral for the Revolving Credit Facility (see Note 7 to the consolidated financial statements).
(3) Pledged as collateral for the ARCC CLO. Unless otherwise noted, as of March 31, 2010, all other investments were pledged as collateral for the Revolving Credit Facility (see Note 7 to the consolidated financial statements).
(4) Has a payment-in-kind interest feature (see Note 2 to the consolidated financial statements).
(5) Investments without an interest rate are non-income producing at March 31, 2010.
(6) As defined in the Investment Company Act, we are an “Affiliated Person” of this portfolio company because we own 5% or more of the portfolio company’s outstanding voting securities or we have the power to exercise control over the management or policies of such portfolio company (including through a management agreement). Transactions during the three months ended March 31, 2010 in which the issuer was an Affiliated company (but not a portfolio company that we “Control”) are as follows (in thousands):
Company
Purchases
Redemptions(cost)
Sales (cost)
Interestincome
Capitalstructuringservice fees
DividendIncome
Net realizedgains (losses)
Net unrealizedgains (losses)
Apple & Eve, LLC and US Juice Partners, LLC
2,087
2,816
1,044
Carador, PLC
427
Campus Management Corp. and Campus Management Acquisition Corp.
1,671
3,069
CT Technologies Intermediate Holdings, Inc. and CT Technologies Holdings, LLC
299
Direct Buy Holdings, Inc. and Direct Buy Investors LP
1,212
Firstlight Financial Corporation
(3,681
Growing Family, Inc. and GFH Holdings, LLC
614
(1
9,155
Industrial Container Services, LLC
1,964
131
43
1,638
Investor Group Services, LLC
Pillar Holdings LLC and PHL Holding Co.
3,589
667
1,055
Primis Marketing Group, Inc. and Primis Holdings, LLC
(409
Universal Trailer Corporation
VSS-Tranzact Holdings, LLC
204
Wastequip, Inc.
(656
(7) As defined in the Investment Company Act, we are an “Affiliated Person” of this portfolio company because we own 5% or more of the portfolio company’s outstanding voting securities or we have the power to exercise control over the management or policies of such portfolio company (including through a management agreement). In addition, as defined in the Investment Company Act, we “Control” this portfolio company because we own more than 25% of the portfolio company’s outstanding voting securities or we have the power to exercise control over the management or policies of such portfolio company (including through a management agreement). Transactions during the period for the three months ended March 31, 2010 in which the issuer was both an Affiliated company and a portfolio company that we Control are as follows (in thousands):
HCP Acquisition Holdings, LLC
(8
Ivy Hill Asset Management, L.P.
48,248
2,555
Ivy Hill Middle Market Credit Fund, Ltd.
1,761
1,270
Knightsbridge CLO 2007-1 Ltd.
418
Knightsbridge CLO 2008-1 Ltd.
36,996
LVCG Holdings, LLC
Making Memories Wholesale, Inc.
342
155
25
(465
Reflexite Corporation
842
Senior Secured Loan Fund LLC
11,594
8,605
7,237
897
407
3,586
The Thymes, LLC
(14
(8) Non-U.S. company or principal place of business outside the U.S. and as a result is not a qualifying asset under Section 55(a) of the Investment Company Act. Under the Investment Company Act, we may not acquire any non-qualifying asset unless, at the time such acquisition is made, qualifying assets represent at least 70% of our total assets.
(9) Non-registered investment company.
(10) A majority of the variable rate loans to our portfolio companies bear interest at a rate that may be determined by reference to either Libor or an alternate Base Rate (commonly based on the Federal Funds Rate or the Prime Rate), at the borrower’s option, which reset annually (A), semi-annually (S), quarterly (Q), bi-monthly (B), monthly (M) or daily (D). For each such loan, we have provided the interest rate in effect at March 31, 2010.
(11) In addition to the interest earned based on the stated interest rate of this security, we are entitled to receive an additional interest amount of 3.00% on $17.2 million aggregate principal amount of the portfolio company’s senior term debt previously syndicated by us.
(12) In addition to the interest earned based on the stated interest rate of this security, we are entitled to receive an additional interest amount of 2.50% on $25.0 million aggregate principal amount of the portfolio company’s senior term debt previously syndicated by us.
(13) Loan was on non-accrual status as of March 31, 2010.
(14) Loan includes interest rate floor feature.
(15) In addition to the interest earned based on the stated interest rate of this security, we are entitled to receive an additional interest amount of 2.98% on $15.0 million aggregate principal amount of the portfolio company’s senior term debt previously syndicated by us.
As of December 31, 2009
AmortizedCost
FairValue
FairValuePer Unit
Percentageof NetAssets
Healthcare—Services
Senior secured loan ($902 par due 12/2010)
8.50% (Libor + 5.00%/D)
902
(3)(15)
Senior secured loan ($10,389 par due 12/2011)
8.50% (Libor + 5.00%/Q)
10,389
Junior secured loan ($12,500 par due 2/2016)
8,467
8,043
950.00
8,114
840.00
Senior secured revolving loan ($2 par due 3/2011)
7.25% (Base Rate + 4.00%/M)
Senior secured revolving loan ($132 par due 3/2011)
132
Senior secured revolving loan ($20 par due 3/2011)
20
Senior secured revolving loan ($7,392 par due 3/2011)
7,392
7,022
Senior secured revolving loan ($122 par due 3/2011)
122
116
Senior secured loan ($339 par due 3/2013)
7.25% (Base Rate + 4.00%/Q)
237
322
Senior secured loan ($44 par due 3/2013)
Senior secured loan ($16,960 par due 3/2013)
12,323
16,112
Senior subordinated loan ($66,552 par due 4/2014)
16.00% PIK
66,215
63,220
Senior subordinated loan ($14,285 par due 4/2014)
14,211
13,571
4.26% (Libor + 4.00%/Q)
10,919
10,197
10,800
4,256
0.72
Senior subordinated loan ($32,717 par due 8/2013)
11.00% Cash, 3.25% PIK
32,717
Health plan management company
Senior subordinated loan ($4,670 par due 1/2013)
12.75% Cash, 2.00% PIK
2/9/2009
3,363
4,670
Senior secured loan ($997 par due 1/2013)
0.63
Junior secured loan ($20,000 par due 1/2014)
6.48% (Libor + 6.25%/B)
20,049
0.25
Junior secured loan ($12,000 par due 1/2014)
Junior secured loan ($5,000 par due 5/2012)
6.48% (Libor + 6.25%/M)
4,350
16
Senior secured loan ($3,068 par due 6/2012)
3.75% (Libor + 3.50%/M)
3,068
2,761
Senior subordinated loan ($32,642 par due 8/2013)
32,664
29,378
Senior secured loan ($12,660 par due 5/2014)
10.50% (Libor + 7.50%/M)
12,660
(2)(15)
Senior secured loan ($11,686 par due 5/2014)
11,686
3,938
1,000.00
Junior secured loan ($5,229 par due 7/2013)
5,229
30,943
Senior subordinated loan ($20,500 par due 12/2014)
20,500
Senior secured loan ($17,417 par due 7/2012)
17,417
3,800
0.98
438,337
397,958
31.64
2,489
0.35
Limited partnership units (0.69 unit)
40,505.00
Senior subordinated loan ($73,077 par due 12/2016)
73,032
54,808
0.75
Ivy Hill Asset Management, LP
37,176
48,321
6.28% (Libor + 6.00%/Q)
36,800
18.70%
14,583
0.93
Imperial Capital Group, LLC and Imperial Capital Private Opportunities, LP(6)(9)
18,400
2,386.51
6,094
5,663
3,045
Subordinated certificates ($172,796 par due 12/2015)
16.23%
165,000
2,016
407,825
352,876
28.05
Senior secured loan ($3,256 par due 8/2013)
3,256
(4)(16)
Senior secured loan ($30,269 par due 8/2013)
30,269
(2)(4)(16)
Senior secured loan ($8,961 par due 8/2013)
8,961
(16)(4)
9,668
13,750
27.88
Senior secured loan ($162 par due 11/2012)
3.48% (Libor + 3.25%/M)
162
157
7.23% (Libor + 7.00%/M)
8,167
Instituto de Banca y Comercio, Inc. Leeds IV Advisors, Inc.(8)
Senior secured loan ($11,700 par due 3/2014)
8.50% (Libor + 6.00%/Q)
11,700
Senior subordinated loan ($30,877 par due 6/2014)
30,877
788
12.81
668
1,801
2,745
Senior secured loan ($31,250 par due 12/2014)
12.50% (Libor + 9.50%/M)
31,250
(15)
R3 Education, Inc. (formerly known as Equinox EIC Partners, LLC and MUA Management Company)(7)(8)
Senior secured loan ($791 par due 6/2010)
9.00% (Libor + 6.00%/M)
791
1,101
10,127
Senior secured loan ($5,041 par due 4/2013)
1,244
3,186
Senior secured loan ($14,113 par due 4/2013)
14,113
19,646
Warrants to purchase 27,890 shares
11,515
204,098
220,187
17.50
Services—Other
Junior secured loan ($20,608 par due 4/2015)
20,608
20,195
Senior secured loan ($10,529 par due 2/2011)
9.50% (Libor + 6.75%/M)
9,280
10,529
Senior secured loan ($3,747 par due 2/2011)
3,747
13.75% (Libor + 11.00%/M)
269
18.02
402
3.53
18
Senior secured loan $(13,255 par due 12/2011)
13,171
13,255
Senior secured loan $(14,768 par due 12/2011)
14,765
14,768
Senior secured loan $(9,866 par due 12/2011)
9,866
Senior secured loan $(11,188 par due 8/2011)
11,188
2,238
0.20
Senior secured loan $(372 par due 8/2011)
372
74
Senior secured revolving loan $(2,500 par due 8/2011)
1,513
303
Senior secured loan $(3,575 par due 8/2011)
3,575
715
Senior secured loan $(147 par due 8/2011)
147
Junior secured loan $(12,000 par due 2/2013)
6.98% (Libor + 6.75%/M)
2,570
1,503.80
Storage and warehousing provider
Senior subordinated loan $(25,125 par due 6/2015)
Subordinated loan $(6,500 par due 12/2015)
16.64%
5,079
Senior secured loan $(4,938 par due 8/2014)
7.00% (Base Rate + 3.75%/Q)
4,607
4,938
Senior subordinated loan $(18,219 par due 8/2016)
18,219
17,308
Senior subordinated loan $(25,804 par due 8/2016)
25,804
24,513
190,825
177,337
14.10
Restaurants and Food Services
Senior secured revolving loan $(3,592 par due 11/2012)
6.50% (Libor + 3.00% Cash, 0.50% PIK/S)
0.56
Senior secured revolving loan $(1,408 par due 11/2012)
6.50% (Base Rate + 2.50%/Q)
1,408
Senior secured loan $(23,574 par due 11/2013)
12.50% (Libor + 6.50% Cash, 3.00% PIK/Q)
23,580
23,574
Senior secured loan $(11,049 par due 11/2013)
11,049
(3)(4)(15)
Promissory note $(13,105 par due 11/2016)
Warrants to purchase 0.61 shares
2,719
Junior secured loan $(20,997 par due 8/2013)
7.50% Cash, 3.50% PIK
Junior secured loan $(3,999 par due 8/2013)
7.50% Cash + 3.50% PIK
Senior secured loan $(16,149 par due 6/2013)
20.500% (Libor + 11.00% Cash, 6.50% PIK/M)
16,149
Warrants to purchase up to 88,991 shares of common stock
1,102
Senior subordinated loan $(43,625 par due 5/2015)
43,625
41,444
Senior subordinated loan $(30,000 par due 5/2015)
28,500
173,410
168,856
13.42
3091779 Nova Scotia Inc.(8)
Senior secured revolving loan $(5,485 par due 1/2010)
8.00%
11/2/2007
1,385
1,494
0.27
(4)(12)
Senior secured revolving loan $(1,016 par due 1/2010)
1,016
969
Junior secured loan $(14,386 par due 1/2010)
10.00% Cash, 4.00% PIK
15,147
10,292
Warrants to purchase 57,545 shares
Senior secured revolving loan $(10,000 par due 10/2013)
0.30
Senior secured loan $(17,963 par due 10/2013)
17,963
Senior secured loan $(15,937 par due 10/2013)
15,937
Best Brands Corporation
Senior secured loan $(324 par due 12/2012)
7.48% (Libor + 7.25%/M)
2/15/2008
324
Senior secured loan $(13,034 par due 12/2012)
11,035
13,034
Junior secured loan $(28,692 par due 6/2013)
12/14/2006
28,112
28,692
Junior secured loan $(11,733 par due 6/2013)
11,733
Junior secured loan $(8,611 par due 6/2013)
8,531
8,611
Common stock (4,000 shares)
6,760
1,690.00
Senior subordinated loan $(5,883 par due 2/2013)
5,883
131,566
131,417
10.45
Senior secured loan $(1,859 par due 3/2012)
5.23% (Libor + 5.00%/M)
1,859
1,747
Senior secured loan $(2,969 par due 3/2012)
2,969
2,791
Senior secured loan $(26,670 par due 3/2012)
26,670
25,070
Senior secured loan $(11,670 par due 3/2012)
10,970
Senior secured loan $(11,069 par due 9/2012)
11,069
Senior secured loan $(11,411 par due 9/2012)
11,411
Dufry AG(8)
Retail newstand operator
Common stock (39,056 shares)
3/28/2008
2,638
Senior subordinated loan $(5,524 par due 8/2014)
5,524
Senior subordinated loan $(20,323 par due 8/2014)
20,323
5,840
4.95
Senior secured loan $(11 par due 9/2012)
5.50% Cash, 1.00% PIK Option
Senior secured loan $(3,626 par due 9/2012)
2,901
Senior secured loan $(68 par due 9/2012)
68
55
Senior secured loan $(18 par due 9/2012)
Senior secured loan $(28,402 par due 9/2012)
28,388
22,722
Senior secured loan $(7,303 par due 9/2012)
7,300
5,843
Warrants to purchase 859 shares of preferred shares
140,404
128,927
10.25
Senior secured loan $(741 par due 7/2015)
7.50% (Libor + 4.50%/S)
741
Senior subordinated loan $(250 par due 7/2016)
245
Senior subordinated loan $(12,400 par due 7/2016)
12,296
Senior secured revolving loan $(3,750 par due 11/2013)
5.78% (Libor + 5.50%/B)
1,313
Senior secured loan $(16,752 par due 11/2013)
16,752
Senior secured loan $(10,456 par due 11/2013)
10,456
Senior secured loan $(1,875 par due 5/2014)
Senior secured loan $(5,500 par due 5/2014)
7,818
92,208.00
Senior subordinated loan $(10,222 par due 2/2013)
511
Senior subordinated loan $(26,526 par due 2/2014)
26,526
Senior subordinated loan $(26,630 par due 2/2014)
26,630
Preferred stock (30,000 shares)
207.37
Junior secured loan $(11,078 par due 7/2014)
10,018
554
7,850
143,578
126,147
10.03
Arrow Group Industries, Inc.
Residential and outdoor shed manufacturer
Senior secured loan $(5,616 par due 4/2010)
5.25% (Libor + 5.00%/Q)
5,653
4,437
0.79
Polymers and performance materials manufacturer
Senior secured loan $(536 par due 5/2011)
531
Senior secured loan $(8,392 par due 5/2011)
8,308
Senior secured loan $(626 par due 5/2011)
8.50% (Base Rate + 5.25%/M)
626
620
Senior secured loan $(1,604 par due 5/2011)
1,556
Senior secured loan $(4,937 par due 5/2011)
4,937
4,838
21
Reflexite Corporation(7)
Senior subordinated loan $(16,785 par due 11/2014)
12.50% Cash, 5.50% PIK
16,785
Senior secured loan $(2,978 par due 12/2012)
2,978
2,829
Senior secured loan $(993 par due 12/2012)
943
Senior secured loan $(848 par due 12/2012)
848
805
Senior secured loan $(2,130 par due 12/2012)
9.15% (Libor + 8.88%/Q)
2,130
2,023
Senior secured loan $(10,918 par due 12/2012)
10,918
10,372
96,243
81,970
6.52
Consumer Products—Non-Durable
Senior secured loan $(32,500 par due 12/2014)
32,500
Innovative Brands, LLC
Senior secured loan $(8,881 par due 9/2011)
10/12/2006
8,881
Senior secured loan $(8,198 par due 9/2011)
8,198
Making Memories Wholesale, Inc.(6)
Senior secured loan $(9,750 par due 8/2014)
7,770
9,750
Senior secured loan $(5,138 par due 8/2014)
15.00% (7.50% Cash, 7.50% PIK/Q)
4,062
514
Preferred stock (6,283 shares)
6,785
6,107
972.06
Common stock (5,400 shares)
68,196
65,950
5.24
Aerospace & Defense
Senior secured loan $(7,414 par due 10/2013)
11/8/2007
7,295
6,969
Junior secured loan $(12,000 par due 6/2014)
Senior secured loan $(462 par due 3/2011)
4.00% (Libor + 3.75%/Q)
462
444
Senior secured loan $(2,732 par due 3/2012)
4.50% (Libor + 4.25%/Q)
2,732
2,486
Senior subordinated loan $(2,747 par due 3/2013)
2,747
2,554
Senior subordinated loan $(2,165 par due 3/2013)
2,165
2,013
Senior subordinated loan $(3,418 par due 3/2013)
3,418
3,178
529
7.39
Junior secured loan $(16,000 par due 1/2015)
16,000
Junior secured loan $(12,000 par due 1/2015)
103.24
61,650
59,864
4.76
Junior secured loan $(11,968 par due 11/2011)
11,957
9,574
Junior secured loan $(12,197 par due 11/2011)
12,190
9,757
Senior secured revolving loan $(3,926 par due 3/2012)
9.00% (Libor + 6.00%/S)
1,428
771
Senior secured revolving loan $(183 par due 3/2012)
9.00% (Libor + 5.00%/M)
183
99
0.54
Senior secured loan $(7,119 par due 3/2012)
16.00% (Libor + 9.00% Cash, 4.00% PIK/Q)
7,024
3,844
(3)(15)(4)
Senior secured loan $(1,071 par due 3/2012)
16.00% (Base Rate + 8.00% Cash, 4.00% PIK/M)
1,071
578
The Teaching Company, LLC and The Teaching Company Holdings, Inc.(11)
Senior secured loan $(18,000 par due 9/2012)
Senior secured loan $(10,000 par due 9/2012)
129.20
73,453
56,829
4.52
Senior subordinated loan $(31,902 par due 11/2014)
18.00% (10.00% Cash, 8.00% PIK/Q)
31,902
Senior subordinated loan $(8,050 par due 11/2014)
8,050
Warrants to purchase 166 shares
39,952
3.18
Junior secured loan $(4,755 par due 12/2012)
Junior secured loan $(2,086 par due 12/2012)
27.00
Junior secured loan $(917 par due 10/2013)
Junior secured loan $(2,750 par due 10/2013)
2,750
1,925
Junior secured loan $(1,833 par due 10/2013)
23
Junior secured loan ($6,000 par due 10/2013)
6,000
4,200
13,263
21.69
10.00% Cash, 2.50% PIK
1,968
0.15
57,864
33,103
2.63
RedPrairie Corporation
Software manufacturer
Junior secured loan ($3,300 par due 1/2013)
6.78% (Libor + 6.50%/Q)
7/13/2006
3,135
Junior secured loan ($12,000 par due 1/2013)
11,400
Senior secured loan ($4,818 par due 7/2015)
4,711
4,818
30,917
30,259
2.41
Senior secured loan ($2,400 par due 12/2011)
2.98% (Libor + 2.75%/M)
2,400
2,304
Senior subordinated loan ($26,125 par due 12/2013)
26,125
25,603
1,454
1,932
175.89
1.34
30,010
29,880
2.38
4.73% (Libor + 4.50%/M)
(2)(13)
Senior secured loan ($1,000 par due 10/2013)
880
Senior secured loan ($17 par due 10/2013)
6.75% (Base Rate + 3.50%/Q)
Senior secured loan ($16 par due 10/2013)
Senior secured loan ($11,484 par due 10/2013)
11,484
10,106
Senior secured loan ($12,483 par due 10/2013)
12,483
10,985
1.87
Senior secured revolving loan ($15,696 par due 9/2011)
950
922
0.06
Senior secured loan ($322 par due 9/2011)
4.23% (Libor + 4.00%/M)
312
130
Senior secured loan ($4,926 par due 9/2011)
4,926
4,778
1,991
260
3,982
Senior secured loan ($27 par due 9/2011)
27
26
Senior secured loan ($410 par due 9/2011)
410
398
Common stock (1,800,000 shares)
8,550
4.75
14,994
21,349
1.70
24
Junior secured loan ($876 par due 7/2013)
15.00% (Libor + 12.00%/Q)
832
Junior secured loan ($10,436 par due 7/2013)
10,414
9,914
Senior subordinated loan ($12,724 par due 7/2012)
13.00% Cash, 4.00% PIK
12,572
9,416
0.74
23,863
20,162
1.60
Consumer Products—Durable
0.85
2,030
1,784
12,052
4,803
Housing—Building Materials
HB&G Building Products
448
Warrants to purchase 4,464 shares
0.04
2,376,384
(1)
Other than our investments in HCP Acquisition Holdings, LLC, Ivy Hill Asset Management, LP., Ivy Hill Middle Market Credit Fund, Ltd., LVCG Holdings, LLC, Making Memories Wholesale, Inc., Reflexite Corporation, Senior Secured Loan Fund LLC and The Thymes, LLC, we do not “Control” any of our portfolio companies, as defined in the Investment Company Act. In general, under the Investment Company Act, we would “Control” a portfolio company if we owned more than 25% of its outstanding voting securities and/or had the power to exercise control over the management or policies of such portfolio company. All of our portfolio company investments are subject to legal restrictions on sales which as of December 31, 2009 represented 173% of the Company’s net assets.
These assets are owned by the Company’s wholly owned subsidiary Ares Capital CP, are pledged as collateral for the CP Funding Facility and, as a result, are not directly available to the creditors of the Company to satisfy any obligations of the Company other than Ares Capital CP’s obligations under the CP Funding Facility (see Note 7 to the consolidated financial statements). Unless otherwise noted, as of December 31, 2009, all other investments were pledged as collateral for the Revolving Credit Facility (see Note 7 to the consolidated financial statements).
Pledged as collateral for the ARCC CLO. Unless otherwise noted, as of December 31, 2009, all other investments were pledged as collateral for the Revolving Credit Facility (see Note 7 to the consolidated financial statements).
Has a payment-in-kind interest feature (see Note 2 to the consolidated financial statements).
(5)
Investments without an interest rate are non-income producing at December 31, 2009.
(6)
As defined in the Investment Company Act, we are an “Affiliated Person” of this portfolio company because we own 5% or more of the portfolio company’s outstanding voting securities or we have the power to exercise control over the management or policies of such portfolio company (including through a management agreement). Transactions during the period for the year ended December 31, 2009 in which the issuer was an Affiliated company (but not a portfolio company that we “Control”) are as follows (in thousands):
15,019
9,800
5,335
37
12,283
285
(1,778
2,953
15,000
6,518
442
1,040
152
(3,218
2,936
1,442
(11,055
Imperial Capital Group, LLC
5,210
2,972
7,517
12,621
709
(341
750
(240
3,179
2,874
33
2,551
(511
R3 Education, Inc.
24,000
31,600
697
87
1,850
1,535
(5,787
Wear Me Apparel, LLC
34,110
75
(15,002
22,055
(7)
As defined in the Investment Company Act, we are an “Affiliated Person” of this portfolio company because we own 5% or more of the portfolio company’s outstanding voting securities or we have the power to exercise control over the management or policies of such portfolio company (including through a management agreement). In addition, as defined in the Investment Company Act, we “Control” this portfolio company because we own more than 25% of the portfolio company’s outstanding voting securities or we have the power to exercise control over the management or policies of such portfolio company (including through a management agreement). Transactions during the period for the year ended December 31, 2009 in which the issuer was both an Affiliated company and a portfolio company that we Control are as follows (in thousands):
Net realizedgains(losses)
1,495
(3,721
37,406
236
2,391
494
19,145
5,742
1,265
1,284
66
(8,170
199
14,224
518
(14,173
12,822
15,613
6,050
651
(3,696
7,800
2,830
71
(10,925
4,831
640
502
455
(8)
Non-U.S. company or principal place of business outside the U.S. and as a result is not a qualifying asset under Section 55(a) of the Investment Company Act. Under the Investment Company Act, we may not acquire any non-qualifying asset unless, at the time such acquisition is made, qualifying assets represent at least 70% of our total assets.
(9)
Non-registered investment company.
(10)
A majority of the variable rate loans to our portfolio companies bear interest at a rate that may be determined by reference to either Libor or an alternate Base Rate (commonly based on the Federal Funds Rate or the Prime Rate), at the borrower’s option, which reset annually (A), semi-annually (S), quarterly (Q), bi-monthly (B), monthly (M) or daily (D). For each such loan, we have provided the interest rate in effect at December 31, 2009.
(11)
In addition to the interest earned based on the stated interest rate of this security, we are entitled to receive an additional interest amount of 2.50% on $18.4 million aggregate principal amount of the portfolio company’s senior term debt previously syndicated by us.
(12)
Principal amount denominated in Canadian dollars has been translated into U.S. dollars (see Note 2 to the consolidated financial statements).
In addition to the interest earned based on the stated interest rate of this security, we are entitled to receive an additional interest amount of 2.50% on $25.0 million aggregate principal amount of the portfolio company’s senior term debt previously syndicated by us.
Loan was on non-accrual status as of December 31, 2009.
Loan includes interest rate floor feature.
(16)
In addition to the interest earned based on the stated interest rate of this security, we are entitled to receive an additional interest amount of 2.98% on $15.0 million aggregate principal amount of the portfolio company’s senior term debt previously syndicated by us.
CONSOLIDATED STATEMENT OF STOCKHOLDERS’ EQUITY
For the Three Months Ended March 31, 2010 (unaudited)
Common Stock
Capital inExcess of
AccumulatedUndistributed(Overdistributed)Net Investment
AccumulatedNet RealizedGain (Loss) onSale
Net Unrealized(Depreciation)Appreciation
TotalStockholders’
Shares
Amount
Par Value
Income
of Investments
Equity
Balance at December 31, 2009
109,944,674
Issuance of common stock from add-on offering (net of offering and underwriting costs)
22,957,993
277,184
277,207
Net increase in stockholders’ equity resulting from operations
Dividend declared ($0.35 per share)
(46,516
Shares issued in connection with dividend reinvestment plan
292,810
3,988
Balance at March 31, 2010
133,195,477
CONSOLIDATED STATEMENT OF CASH FLOWS
(dollar amounts in thousands)
OPERATING ACTIVITIES:
Adjustments to reconcile net increase in stockholders’ equity resulting from operations:
Realized gain on extinguishment of debt
(26,543
Net realized losses from investments and foreign currency transactions
4,881
1,787
Net unrealized losses (gains) from investments and foreign currency transactions
(49,591
19,874
Net accretion of discount on securities
(993
(93
Increase in accrued payment-in-kind dividends and interest
(7,134
(10,722
Amortization of debt issuance costs
2,687
174
Proceeds from sale and redemption of investments
288,493
77,091
Purchases of investments
(305,174
(84,770
Changes in operating assets and liabilities:
2,697
272
(1,818
(49,895
7,314
3,041
904
521
(1,838
Net cash provided by (used in) operating activities
(35,707
19,488
FINANCING ACTIVITIES:
Net proceeds from issuance of common stock
Borrowings on debt
195,000
100,000
Repayments on debt
(392,947
(79,247
Credit facility financing costs
(16,439
Dividends paid in cash
(42,528
(81,608
Net cash provided by (used in) financing activities
20,293
(60,855
CHANGE IN CASH AND CASH EQUIVALENTS
(15,414
(41,367
CASH AND CASH EQUIVALENTS, BEGINNING OF PERIOD
89,383
CASH AND CASH EQUIVALENTS, END OF PERIOD
48,016
Supplemental Information:
Interest paid during the period
4,953
7,204
Taxes paid during the period
Dividends declared during the period
46,516
40,804
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(dollar amounts in thousands, except per share data and as otherwise indicated)
1. ORGANIZATION
Ares Capital Corporation (the “Company” or “ARCC” or “we”) is a specialty finance company that is a closed-end, non-diversified management investment company incorporated in Maryland. We have elected to be regulated as a business development company under the Investment Company Act of 1940 (the “Investment Company Act”). We were incorporated on April 16, 2004 and were initially funded on June 23, 2004. On October 8, 2004, we completed our initial public offering (the “IPO”). On the same date, we commenced substantial investment operations.
On October 26, 2009, we entered into a definitive agreement to acquire Allied Capital Corporation (“Allied Capital”), in an all stock transaction upon the consummation of which each existing share of common stock of Allied Capital was exchanged for 0.325 shares of our common stock (the “Allied Acquisition”). The boards of directors of both companies each unanimously approved the Allied Acquisition and on March 26, 2010, Allied Capital’s stockholders approved the merger and our stockholders approved the issuance of shares of our common stock to Allied Capital’s stockholders. We consummated the Allied Acquisition on April 1, 2010 in a transaction valued at approximately $907 million as of the closing date. In connection therewith, we issued approximately 58.5 million shares of our common stock (including the effect of outstanding in-the-money Allied Capital stock options) to Allied Capital’s then-existing stockholders, thereby resulting in our then-existing stockholders owning approximately 69% of the combined company and then-existing Allied Capital stockholders owning approximately 31% of the combined company.
The Company has elected to be treated as a regulated investment company (a “RIC”) under subchapter M of the Internal Revenue Code of 1986, as amended (the “Code”), and operates in a manner so as to qualify for the tax treatment applicable to RICs. Our investment objective is to generate both current income and capital appreciation through debt and equity investments. We invest primarily in first and second lien senior loans and mezzanine debt, which in some cases includes an equity component like warrants, and, to a lesser extent, in equity investments in private middle market companies.
We are externally managed by Ares Capital Management LLC (“Ares Capital Management” or the “investment adviser”), an affiliate of Ares Management LLC (“Ares Management”), a global alternative asset manager and a Securities and Exchange Commission (“SEC”) registered investment adviser. Ares Operations LLC (“Ares Operations” or the “administrator”), an affiliate of Ares Management, provides the administrative services necessary for us to operate.
Interim financial statements are prepared in accordance with generally accepted accounting principles in the United States (“GAAP”) for interim financial information and pursuant to the requirements for reporting on Form 10-Q and Articles 6 or 10 of Regulation S-X. In the opinion of management, all adjustments, consisting solely of normal recurring accruals considered necessary for the fair presentation of financial statements for the interim period, have been included. The current period’s results of operations will not necessarily be indicative of results that ultimately may be achieved for the fiscal year ending December 31, 2010.
2. SIGNIFICANT ACCOUNTING POLICIES
Basis of Presentation
The accompanying consolidated financial statements have been prepared on the accrual basis of accounting in conformity with GAAP, and include the accounts of the Company and its wholly owned subsidiaries. The consolidated financial statements reflect all adjustments and reclassifications which, in the opinion of management, are necessary for the fair presentation of the results of the operations and financial condition as of and for the periods presented. All significant intercompany balances and transactions have been eliminated.
Cash and Cash Equivalents
Cash and cash equivalents include funds from time to time deposited with financial institutions and short-term, liquid investments in a money market fund. Cash and cash equivalents are carried at cost which approximates fair value.
Concentration of Credit Risk
The Company places its cash and cash equivalents with financial institutions and, at times, cash held in money market accounts may exceed the Federal Deposit Insurance Corporation insured limit.
Investments
Investment transactions are recorded on the trade date. Realized gains or losses are computed using the specific identification method. Investments for which market quotations are readily available are typically valued at such market quotations. In order to validate market quotations, we look at a number of factors to determine if the quotations are representative of fair value, including the source and nature of the quotations. Debt and equity securities that are not publicly traded or whose market prices are not readily available (i.e., substantially all of our investments) are valued at fair value as determined in good faith by our board of directors, based on the input of our management and audit committee and independent valuation firms that have been engaged at the direction of the board to assist in the valuation of each portfolio investment without a readily available market quotation at least once during a trailing 12 month period, and under a valuation policy and a consistently applied valuation process. The valuation process is conducted at the end of each fiscal quarter, with approximately 50% (based on value) of our valuations of portfolio companies without readily available market quotations subject to review by an independent valuation firm each quarter.
As part of the valuation process, we may take into account the following types of factors, if relevant, in determining the fair value of our investments: the enterprise value of a portfolio company (an estimate of the total fair value of the portfolio company’s debt and equity), the nature and realizable value of any collateral, the portfolio company’s ability to make payments and its earnings and discounted cash flow, the markets in which the portfolio company does business, comparison of the portfolio company’s securities to publicly traded securities, changes in the interest rate environment and the credit markets generally that may affect the price at which similar investments may be made in the future and other relevant factors. When an external event such as a purchase transaction, public offering or subsequent equity sale occurs, we use the pricing indicated by the external event to corroborate our valuation.
Because there is not a readily available market value for most of the investments in our portfolio, we value substantially all of our portfolio investments at fair value as determined in good faith by our board of directors, based on the input of our management and audit committee and independent valuation firms, under a valuation policy and a consistently applied valuation process. Due to the inherent uncertainty of determining the fair value of investments that do not have a readily available market value, the fair value of our investments may fluctuate from period to period. Additionally, the fair value of our investments may differ significantly from the values that would have been used had a ready market existed for such investments and may differ materially from the values that we may ultimately realize. Further, such investments are generally subject to legal and other restrictions on resale or otherwise are less liquid than publicly traded securities. If we were required to liquidate a portfolio investment in a forced or liquidation sale, we may realize significantly less than the value at which we have recorded it.
In addition, changes in the market environment and other events that may occur over the life of the investments may cause the gains or losses ultimately realized on these investments to be different than the gains or losses that would be realized based on the valuations currently assigned.
With respect to investments for which market quotations are not readily available, our board of directors undertakes a multi-step valuation process each quarter, as described below:
· Our quarterly valuation process begins with each portfolio company or investment being initially valued by the investment professionals responsible for the portfolio investment in conjunction with our portfolio management team.
· Preliminary valuation conclusions are then documented and discussed by our management.
· The audit committee of our board of directors reviews these preliminary valuations, as well as the input of independent valuation firms with respect to the valuations of approximately 50% (based on value) of our portfolio companies without readily available market quotations.
· & #160; The board of directors discusses valuations and determines the fair value of each investment in our portfolio without a readily available market quotation in good faith based on the input of our management and audit committee and independent valuation firms.
Effective January 1, 2008, the Company adopted Accounting Standards Codification (“ASC”) 820-10 (previously Statement of Financial Accounting Standards No. 157, Fair Value Measurements (“SFAS 157”)), which expands the application of fair value accounting for investments (see Note 8).
Interest Income Recognition
Interest income, adjusted for amortization of premium and accretion of discount, is recorded on an accrual basis. Discounts and premiums on securities purchased are accreted/amortized over the life of the respective security using the effective yield method. The amortized cost of investments represents the original cost adjusted for the accretion of discounts and amortization of premiums.
Loans are generally placed on non-accrual status when principal or interest payments are past due 30 days or more or when there is reasonable doubt that principal or interest will be collected in full. Accrued interest is generally reversed when a loan is placed on non-accrual status. Interest payments received on non-accrual loans may be recognized as income or applied to principal depending upon management’s judgment regarding collectability. Non-accrual loans are restored to accrual status when past due principal and interest is paid and, in management’s judgment, are likely to remain current. The Company may make exceptions to this if the loan has sufficient collateral value and is in the process of collection. As of March 31, 2010, 4.2% of total investments at amortized cost (or 1.0% at fair value) were on non-accrual status. As of December 31, 2009, 2.5% of total investments at amortized cost (or 0.5% at fair value) were on non-accrual status.
Payment-in-Kind Interest
The Company has loans in its portfolio that contain payment-in-kind (“PIK”) provisions. The PIK interest, computed at the contractual rate specified in each loan agreement, is added to the principal balance of the loan and recorded as interest income. To maintain the Company’s status as a RIC, this non-cash source of income must be paid out to stockholders in the form of dividends even though the Company has not yet collected the cash. For the three months ended March 31, 2010 and 2009, $7,134 and $10,722, respectively, in PIK income were recorded.
Capital Structuring Service Fees and Other Income
The Company’s investment adviser seeks to provide assistance to our portfolio companies in connection with the Company’s investments and in return the Company may receive fees for capital structuring services. These fees are generally only available to the Company as a result of the Company’s underlying investments, are normally paid at the closing of the investments, are generally non-recurring and are recognized as revenue when earned upon closing of the investment. The services that the Company’s investment adviser provides vary by investment, but generally consist of reviewing existing credit facilities, arranging bank financing, arranging equity financing, structuring financing from multiple lenders, structuring financing from multiple equity investors, restructuring existing loans, raising equity and debt capital, and providing general financial advice, which concludes upon closing of the investment. Any services of the above nature subsequent to the closing would generally generate a separate fee payable to the Company. In certain instances where the Company is invited to participate as a co-lender in a transaction and does not provide significant services in connection with the investment, a portion of loan fees paid to the Company in such situations will be deferred and amortized over the estimated life of the loan. The Company’s investment adviser may also take a seat on the board of directors of a portfolio company, or observe the meetings of the board of directors without taking a formal seat.
Other income includes fees for asset management, consulting, loan guarantees, commitments, and other services rendered by the Company to portfolio companies. Such fees are recognized as income when earned or the services are rendered.
Foreign Currency Translation
The Company’s books and records are maintained in U.S. dollars. Any foreign currency amounts are translated into U.S. dollars on the following basis:
(1) Market value of investment securities, other assets and liabilities — at the exchange rates prevailing at the end of the period.
(2) Purchases and sales of investment securities, income and expenses — at the exchange rates prevailing on the respective dates of such transactions, income or expenses.
Results of operations based on changes in foreign exchange rates are separately disclosed in the statement of operations. Foreign security and currency translations may involve certain considerations and risks not typically associated with investing in U.S. companies and U.S. government securities. These risks include, but are not limited to, currency fluctuation and revaluations and future adverse political, social and economic developments, which could cause investments in foreign markets to be less liquid and prices more volatile than those of comparable U.S. companies or U.S. government securities.
Accounting for Derivative Instruments
The Company does not utilize hedge accounting and marks its derivatives to market through operations.
Offering Expenses
The Company’s offering costs, excluding underwriters’ fees, are charged against the proceeds from equity offerings when received. For the three months ended March 31, 2010, the Company incurred approximately $872 of offering costs. There were no equity offerings during the three months ended March 31, 2009.
Debt Issuance Costs
Debt issuance costs are being amortized over the life of the related credit facility using the straight line method, which closely approximates the effective yield method.
U.S. Federal Income Taxes
The Company has elected to be treated as a RIC under subchapter M of the Code and operates in a manner so as to qualify for the tax treatment applicable to RICs. In order to qualify as a RIC, among other things, the Company is required to timely distribute to its stockholders at least 90% of investment company taxable income, as defined by the Code, for each year. The Company, among other things, has made and intends to continue to make the requisite distributions to its stockholders, which will generally relieve the Company from U.S. federal income taxes.
Depending on the level of taxable income earned in a tax year, we may choose to carry forward taxable income in excess of current year dividend distributions into the next tax year and pay a 4% excise tax on such income, as required. To the extent that the Company determines that its estimated current year annual taxable income will be in excess of estimated current year dividend distributions, the Company accrues excise tax, if any, on estimated excess taxable income as taxable income is earned. For the three months ended March 31, 2010 and 2009, a net benefit of $70 and $30, respectively, was recorded for U.S. Federal excise tax.
Certain of our wholly owned subsidiaries are subject to U.S. Federal and state income taxes. For the three months ended March 31, 2010, we recorded a tax benefit of approximately $92 for these subsidiaries, and for the three months ended March 31, 2009, we recorded a tax expense of approximately $61 for these subsidiaries.
Dividends
Dividends and distributions to common stockholders are recorded on the record date. The amount to be paid out as a dividend is determined by the board of directors each quarter and is generally based upon the earnings estimated by management. Net realized capital gains, if any, are generally distributed at least annually, although we may decide to retain such capital gains for investment.
We have adopted a dividend reinvestment plan that provides for reinvestment of any distributions we declare in cash on behalf of our stockholders, unless a stockholder elects to receive cash. As a result, if our board of directors authorizes, and we declare, a cash dividend, then our stockholders who have not ‘‘opted out’’ of our dividend reinvestment plan will have their cash dividends automatically reinvested in additional shares of our common stock, rather than receiving the cash dividend. While we generally use primarily newly issued shares to implement the plan (especially if our shares are trading at a premium to net asset value), we may purchase shares in the open market in connection with our obligations under the plan. In particular, if our shares are trading at a significant enough discount to net asset value and we are otherwise permitted under applicable law to purchase such shares, we intend to purchase shares in the open market in connection with our obligations under our dividend reinvestment plan.
Use of Estimates in the Preparation of Financial Statements
The preparation of financial statements in conformity with GAAP requires management to make estimates and assumptions that affect the reported amounts of actual and contingent assets and liabilities at the date of the financial statements and the reported amounts of income or loss and expenses during the reporting period. Actual results could differ from those estimates. Significant estimates include the valuation of investments.
New Accounting Pronouncements
In January 2010, the Financial Accounting Standards Board (“FASB”) issued Accounting Standard Update 2010-06, Fair Value Measurements and Disclosures (Topic 820), Improving Disclosures About Fair Value Measurements (“ASU 2010-06”). ASU 2010-06 adds new requirements for disclosures about transfers into and out of Level 1 and 2 inputs and separate disclosures about fair value measurements (see Note 8), particularly with respect to purchases, sales, issuances and settlements relating to Level 3 inputs. It also clarifies existing fair value disclosures about the level of disaggregation, will require that entities provide fair value measurement disclosures for each class of assets and liabilities, and adds requirements relating to inputs and valuation techniques used to measure fair value. Generally, ASU 2010-06 is effective for interim and annual reporting periods beginning after December 15, 2009, however, the disclosures about purchases, sales, issuances and settlements in the roll forward of activity in Level 3 inputs will not be required until fiscal years beginning after December 15, 2010. The adoption of ASU 2010-06 did not have a significant impact on the Company’s financial condition and results of operations.
3. AGREEMENTS
Investment Advisory and Management Agreement
The Company is party to an investment advisory and management agreement (the “investment advisory and management agreement”) with Ares Capital Management. Subject to the overall supervision of our board of directors, Ares Capital Management provides investment advisory services to the Company. For providing these services, Ares Capital Management receives a fee from us, consisting of two components—a base management fee and an incentive fee. Ares Capital Management has committed to defer up to $15 million in base management and incentive fees for each of the first two years following the Allied Acquisition (as defined in Note 15) if certain earnings targets are not met.
The base management fee is calculated at an annual rate of 1.5% based on the average value of our total assets (other than cash or cash equivalents but including assets purchased with borrowed funds) at the end of the two most recently completed calendar quarters. The base management fee is payable quarterly in arrears.
The incentive fee has two parts. One part is calculated and payable quarterly in arrears based on our pre-incentive fee net investment income for the quarter. Pre-incentive fee net investment income means interest income, dividend income and any other income (including any other fees such as commitment, origination, structuring, diligence and consulting fees or other fees that we receive from portfolio companies but excluding fees for providing managerial assistance) accrued during the calendar quarter, minus operating expenses for the quarter (including the base management fee, any expenses payable under the administration agreement, and any interest expense and dividends paid on any outstanding preferred stock, but excluding the incentive fee). Pre-incentive fee net investment income includes, in the case of investments with a deferred interest feature such as market discount, debt instruments with PIK interest, preferred stock with PIK dividends and zero coupon securities, accrued income that we have not yet
34
received in cash. The investment adviser is not under any obligation to reimburse us for any part of the incentive fee it received that was based on accrued interest that we never actually receive.
Pre-incentive fee net investment income does not include any realized capital gains, realized capital losses or unrealized capital appreciation or depreciation. Because of the structure of the incentive fee, it is possible that we may pay an incentive fee in a quarter where we incur a loss. For example, if we receive pre-incentive fee net investment income in excess of the hurdle rate (as defined below) for a quarter, we will pay the applicable incentive fee even if we have incurred a loss in that quarter due to realized and unrealized capital losses.
Pre-incentive fee net investment income, expressed as a rate of return on the value of our net assets (defined as total assets less indebtedness and before taking into account any incentive fees payable during the period) at the end of the immediately preceding calendar quarter, is compared to a fixed “hurdle rate” of 2% per quarter. If market interest rates rise, we may be able to invest our funds in debt instruments that provide for a higher return, which would increase our pre-incentive fee net investment income and make it easier for our investment adviser to surpass the fixed hurdle rate and receive an incentive fee based on such net investment income. Our pre-incentive fee net investment income used to calculate this part of the incentive fee is also included in the amount of our total assets (other than cash and cash equivalents but including assets purchased with borrowed funds) used to calculate the 1.5% base management fee.
We pay the investment adviser an incentive fee with respect to our pre-incentive fee net investment income in each calendar quarter as follows:
· no incentive fee in any calendar quarter in which the pre-incentive fee net investment income does not exceed the hurdle rate;
· 100% of our pre-incentive fee net investment income with respect to that portion of such pre-incentive fee net investment income, if any, that exceeds the hurdle rate but is less than 2.5% in any calendar quarter. We refer to this portion of our pre-incentive fee net investment income (which exceeds the hurdle rate but is less than 2.5%) as the “catch-up” provision. The “catch-up” is meant to provide our investment adviser with 20% of the pre-incentive fee net investment income as if a hurdle rate did not apply if this net investment income exceeds 2.5% in any calendar quarter; and
· 20% of the amount of our pre-incentive fee net investment income, if any, that exceeds 2.5% in any calendar quarter.
These calculations are adjusted for any share issuances or repurchases during the quarter.
The second part of the incentive fee (the “Capital Gains Fee”), is determined and payable in arrears as of the end of each calendar year (or, upon termination of the investment advisory and management agreement, as of the termination date) and is calculated at the end of each applicable year by subtracting (a) the sum of our cumulative aggregate realized capital losses and aggregate unrealized capital depreciation from (b) our cumulative aggregate realized capital gains, in each case calculated from October 8, 2004. If such amount is positive at the end of such year, then the Capital Gains Fee for such year is equal to 20% of such amount, less the aggregate amount of Capital Gains Fees paid in all prior years. If such amount is negative, then there is no Capital Gains Fee for such year.
The cumulative aggregate realized capital gains are calculated as the sum of the differences, if positive, between (a) the net sales price of each investment in our portfolio when sold and (b) the accreted or amortized cost basis of such investment.
The cumulative aggregate realized capital losses are calculated as the sum of the amounts by which (a) the net sales price of each investment in our portfolio when sold is less than (b) the accreted or amortized cost basis of such investment.
The aggregate unrealized capital depreciation is calculated as the sum of the differences, if negative, between (a) the valuation of each investment in our portfolio as of the applicable Capital Gains Fee calculation date and (b) the accreted or amortized cost basis of such investment.
We defer cash payment of any incentive fee otherwise earned by the investment adviser if during the most recent four full calendar quarter period ending on or prior to the date such payment is to be made the sum of (a) the
aggregate distributions to our stockholders and (b) the change in net assets (defined as total assets less indebtedness and before taking into account any incentive fees payable during the period) is less than 8.0% of our net assets at the beginning of such period.
For the three months ended March 31, 2010, we incurred $8,456 in base management fees and $8,144 in incentive management fees related to pre-incentive fee net investment income. For the three months ended March 31, 2010, we accrued no incentive management fees related to net realized capital gains. As of March 31, 2010, $16,600 was unpaid and included in “management and incentive fees payable” in the accompanying consolidated balance sheet.
For the three months ended March 31, 2009, we incurred $7,498 in base management fees and $7,550 in incentive management fees related to pre-incentive fee net investment income. For the three months ended March 31, 2009, we accrued no incentive management fees related to net realized capital gains.
Administration Agreement
We are party to a separate administration agreement, referred to herein as the “administration agreement,” with our administrator, Ares Operations. Pursuant to the administration agreement, Ares Operations furnishes us with office equipment and clerical, bookkeeping and record keeping services. Under the administration agreement, Ares Operations also performs, or oversees the performance of, our required administrative services, which include, among other things, being responsible for the financial records that we are required to maintain and preparing reports to our stockholders and reports filed with the SEC. In addition, Ares Operations assists us in determining and publishing our net asset value, oversees the preparation and filing of our tax returns and the printing and dissemination of reports to our stockholders, and generally oversees the payment of our expenses and the performance of administrative and professional services rendered to us by others. Payments under the administration agreement are equal to an amount based upon our allocable portion of Ares Operations’ overhead in performing its obligations under the administration agreement, including our allocable portion of the cost of certain of our executive officers and their respective staffs. The administration agreement may be terminated by either party without penalty upon 60-days’ written notice to the other party.
For the three months ended March 31, 2010 and 2009, we incurred $1,231 and $1,004, respectively, in administrative fees. As of March 31, 2010, $1,231 was unpaid and included in “accounts payable and accrued expenses” in the accompanying consolidated balance sheet.
4. EARNINGS PER SHARE
The following information sets forth the computations of basic and diluted net increase in stockholders’ equity per share resulting from operations for the three months ended March 31, 2010 and 2009:
Three months endedMarch 31, 2010
Three months endedMarch 31, 2009
Numerator for basic and diluted net increase in stockholders’ equity resulting from operations per share:
Denominator for basic and diluted net increase in stockholders’ equity resulting from operations per share:
Basic and diluted net increase in stockholders’ equity resulting from operations per share:
5. INVESTMENTS
Under the Investment Company Act, we are required to separately identify non-controlled investments where we own more than 5% of a portfolio company’s outstanding voting securities as “affiliated companies.” In addition, under the Investment Company Act, we are required to separately identify investments where we own more than 25% of a portfolio company’s outstanding voting securities as “control affiliated companies.”
For the three months ended March 31, 2010, the Company funded $19.8 million aggregate principal amount of senior term debt, $170.4 million aggregate principal amount of senior subordinated debt, $11.6 million for the
investment in Senior Secured Loan Fund LLC (the “Senior Secured Loan Fund”) (see Note 10), $51.9 million of investments in collateralized loan obligations, and $51.0 million of investments in equity securities.
In addition, for the three months ended March 31, 2010, $228.4 million aggregate principal amount of senior term debt, $73.0 million of senior subordinated debt, $8.6 million of the investment in the Senior Secured Loan Fund and $3.0 million of investments in equity securities were sold or redeemed.
As of March 31, 2010, investments and cash and cash equivalents consisted of the following:
Senior term debt
1,073,539
993,359
Senior subordinated debt
612,801
572,853
Senior Secured Loan Fund
Equity securities
413,810
379,516
Collateralized loan obligations
107,528
104,501
Total
2,457,905
2,304,042
As of December 31, 2009, investments and cash and cash equivalents consisted of the following:
1,152,462
1,072,149
658,787
595,668
344,454
287,614
55,681
51,383
2,475,611
2,271,041
The amortized cost represents the original cost adjusted for the accretion of discounts and amortization of premiums on debt using the effective interest method.
The industrial and geographic compositions of our portfolio at fair value at March 31, 2010 and December 31, 2009 were as follows:
20.6
16.2
Health Care
19.3
18.3
Other Services
10.4
8.2
10.2
10.1
7.4
7.8
5.1
5.8
4.3
5.9
Consumer Products
3.2
3.5
3.8
Printing/Publishing/Media
2.6
Beverage/Food/Tobacco
2.4
6.1
1.9
1.8
1.5
1.4
2.8
1.1
Containers/Packaging
1.0
0.9
Computers/Electronics
0.7
Homebuilding
0.0
0.1
100.0
Geographic Region
Mid-Atlantic
29.5
22.2
West
20.7
24.8
Southeast
19.1
19.7
Midwest
15.4
International
9.9
Northeast
5.4
6. COMMITMENTS AND CONTINGENCIES
As of March 31, 2010 and December 31, 2009, the Company had the following commitments to fund various revolving senior secured and subordinated loans to its portfolio companies:
Total revolving commitments
106,800
136,800
Less: funded commitments
(22,900
(37,200
Total unfunded commitments
83,900
99,600
Less: commitments substantially at discretion of the Company
(9,400
(4,000
Less: unavailable commitments due to borrowing base or other covenant restrictions
(2,700
(16,200
Total net adjusted unfunded revolving commitments
71,800
79,400
Of the total commitments as of March 31, 2010, $49,000 extend beyond the maturity date for our Revolving Credit Facility (as defined in Note 7). Included within the total commitments as of March 31, 2010 are commitments to issue up to $25,800 in standby letters of credit through a financial intermediary on behalf of certain portfolio companies. Under these arrangements, the Company would be required to make payments to third parties if the portfolio companies were to default on their related payment obligations. As of March 31, 2010, the Company had $14,900 in standby letters of credit issued and outstanding on behalf of the portfolio companies, of which no amounts were recorded as a liability on the balance sheet as they are considered in the valuation of the investments in the portfolio company. Of these letters of credit, $200 expire in June 2010, $3,300 expire in July 2010, $4,700 expire in September 2010, $300 expire in December 2010, $800 expire in January 2011, $4,100 expire in February 2011 and $1,500 expire in March 2011.
As of March 31, 2010 and December 31, 2009, the Company was subject to subscription agreements to fund equity investments in private equity investment partnerships, substantially all at the discretion of the Company, as follows:
Total private equity commitments
428,300
Total unfunded private equity commitments
414,500
415,400
See Note 10 for more information on the Company’s commitment to the Senior Secured Loan Fund.
7. BORROWINGS
In accordance with the Investment Company Act, with certain limited exceptions, we are only allowed to borrow amounts such that our asset coverage, as defined in the Investment Company Act, is at least 200% after such borrowing. As of March 31, 2010, our asset coverage for borrowed amounts was 303%.
Our debt obligations consisted of the following as of March 31, 2010 and December 31, 2009 (see Note 17):
Outstanding
TotalAvailable(1)
CP Funding Facility
208,421
400,000
221,569
Revolving Credit Facility
300,500
615,000
474,144
525,000
CP Funding II Facility(2)
200,000
Debt Securitization
262,437
266,213
273,752
274,981
1,281,213
1,221,550
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(1) Subject to borrowing base and leverage restrictions.
(2) The CP Funding II Facility was combined with the CP Funding Facility on January 22, 2010. In connection therewith, the CP Funding II Facility was terminated.
The weighted average interest rate of all our debt obligations as of March 31, 2010 and December 31, 2009 was 2.25% and 2.05%, respectively.
In October 2004, we formed Ares Capital CP Funding LLC (“Ares Capital CP”), a wholly owned subsidiary of the Company, through which we established a revolving facility (as amended, the “CP Funding Facility”) that, as amended, allowed Ares Capital CP to issue up to $350,000 of variable funding certificates (“VFC”). On May 7, 2009, the Company and Ares Capital CP entered into an amendment that, among other things, converted the CP Funding Facility from a revolving facility to an amortizing facility, extended the maturity from July 21, 2009 to May 7, 2012 and reduced the availability from $350,000 to $225,000.
On July 21, 2009, we entered into an agreement with Wachovia Bank N.A. (“Wachovia”) to establish a new revolving facility (the “CP Funding II Facility”) whereby Wachovia agreed to extend credit to us in an aggregate principal amount not exceeding $200,000 at any one time outstanding. The CP Funding II Facility was scheduled to expire on July 21, 2012.
On January 22, 2010, we combined the CP Funding Facility with the CP Funding II Facility into a single $400,000 revolving securitized facility (the “combined CP Funding Facility”). In connection with the combination, we terminated the CP Funding II Facility and entered into an Amended and Restated Purchase and Sale Agreement with Ares Capital CP Funding Holdings LLC, our wholly owned subsidiary (“CP Holdings”), pursuant to which we may sell to CP Holdings certain loans that we have originated or acquired, or will originate or acquire (the “Loans”) from time to time, which CP Holdings will subsequently sell to Ares Capital CP, which is a wholly owned subsidiary of CP Holdings. The combined CP Funding Facility is secured by all of the assets held by, and the membership interest in, Ares Capital CP. The combined CP Funding Facility, among other things, extended the maturity date of the facility to January 22, 2013 (with two one-year extension options, subject to mutual consent). Prior to January 22, 2010, the interest rate charged on the CP Funding Facility was the commercial paper rate plus 3.50%. After January 22, 2010, subject to certain exceptions, the interest charged on the combined CP Funding Facility is based on LIBOR plus an applicable spread of between 2.25% and 3.75% or on a “base rate” (which is the higher of a prime rate, or the federal funds rate plus 0.50%) plus an applicable spread of between 1.25% to 2.75%, in each case, based on a pricing grid depending upon our credit rating. As of and for the three months ended March 31, 2010, the effective LIBOR spread under the combined CP Funding Facility was 2.75%.
As of March 31, 2010, there was $208,421 outstanding under the combined CP Funding Facility and the Company continues to be in material compliance with all of the limitations and requirements of the combined CP Funding Facility. As of December 31, 2009, there was $221,569 outstanding under the CP Funding Facility. The combined CP Funding Facility is secured by all of the assets held by and the membership interest in Ares Capital CP, which assets as of March 31, 2010 consisted of 30 investments. As of March 31, 2010, the rate in effect was one month LIBOR, which was 0.25%. For the three months ended March 31, 2010 and 2009, the average interest rates (i.e. rate in effect plus the spread) on the combined CP Funding Facility and the CP Funding Facility were 3.16% and 3.59%, respectively. For the three months ended March 31, 2010 and 2009, the average outstanding balances on the combined CP Funding Facility and the CP Funding Facility were $216,575 and $92,822, respectively. For the three months ended March 31, 2010 and 2009, the interest expense incurred on the combined CP Funding Facility and the CP Funding Facility was $1,710 and $832, respectively. Cash paid for interest expense on the combined CP Funding Facility and the CP Funding Facility during the three months ended March 31, 2010 and 2009 was $2,119 and $1,869, respectively.
We are required to pay a commitment fee of between 0.50% and 2.00% depending on the usage level on any unused portion of the combined CP Funding Facility. Prior to May 7, 2009, we were required to pay a commitment fee for any unused portion of the CP Funding Facility equal to 0.50% per annum for any unused portion of the CP Funding Facility. Prior to January 22, 2010, we were also required to pay a commitment fee on any unused portion of the CP
39
Funding II Facility of between 0.50% and 2.50% depending on the usage level. For the three months ended March 31, 2010 and 2009, we incurred commitment fees on the CP Funding Facility together with the CP Funding II Facility of $657 and $321, respectively.
In December 2005, we entered into a senior secured revolving credit facility (as amended and restated, the “Revolving Credit Facility”), under which, as amended, the lenders agreed to extend credit to the Company. On January 22, 2010, we entered into an agreement to amend and restate the Revolving Credit Facility. The amendment and restatement of the Revolving Credit Facility, among other things, increased the size of the facility from $525,000 to $690,000 (comprised of $615,000 in commitments on a stand-alone basis and an additional $75,000 in commitments contingent upon the closing of the Allied Acquisition), extended the maturity date from December 28, 2010 to January 22, 2013 and modified pricing. As of March 31, 2010, there was $300,500 outstanding under the Revolving Credit Facility and the Company continues to be in material compliance with all of the limitations and requirements of the Revolving Credit Facility. As of December 31, 2009, there was $474,144 outstanding under the Revolving Credit Facility.
Prior to January 22, 2010, subject to certain exceptions, pricing on the Revolving Credit Facility was based on LIBOR plus 1.00% or on an “alternate base rate” (which was the highest of a prime rate, the federal funds rate plus 0.50%, or one month LIBOR plus 1.00%). After January 22, 2010, subject to certain exceptions, pricing under the Revolving Credit Facility is based on LIBOR plus an applicable spread of between 2.50% and 4.00% or on the “alternate base rate” plus an applicable spread of between 1.50% and 3.00%, in each case, based on a pricing grid depending upon our credit rating. As of and for the three months ended March 31, 2010, the effective LIBOR spread under the Revolving Credit Facility was 3.00%. As of March 31, 2010, the one, two, three and six month LIBOR was 0.25%, 0.27%, 0.29% and 0.44%, respectively. For the three months ended March 31, 2010 and 2009, the average interest rate was 3.24% and 2.50%, respectively, the average outstanding balance was $325,216 and $492,495, respectively, the interest expense incurred was $2,633 and $3,073, respectively, and the cash paid for interest expense was $2,441 and $3,903, respectively.
Additionally, we are required to pay a commitment fee of 0.50% on any unused portion of the Revolving Credit Facility. For the three months ended March 31, 2010 and 2009, the commitment fees incurred were $390 and $2, respectively.
In connection with the amendment and restatement of the Revolving Credit Facility, we paid structuring and arrangement fees totaling $15.6 million. The Revolving Credit Facility includes an “accordion” feature that allows us, under certain circumstances, to increase the size of the facility to a maximum of $897,500 on a stand-alone basis prior to the closing of the Allied Acquisition, and up to a maximum of $1,050,000 upon the closing of the Allied Acquisition. With certain exceptions, the Revolving Credit Facility is secured by substantially all of the assets in our portfolio (other than investments held by Ares Capital CP under the combined CP Funding Facility and those held as a part of the Debt Securitization, discussed below), which as of March 31, 2010 consisted of 168 investments.
The amount available for borrowing under the Revolving Credit Facility is reduced by any standby letters of credit issued through the Revolving Credit Facility. As of March 31, 2010, the Company had $32,519 in standby letters of credit issued through the Revolving Credit Facility. As of December 31, 2009, the Company had $24,000 in standby letters of credit issued through the Revolving Credit Facility.
In July 2006, through ARCC Commercial Loan Trust 2006, a vehicle serviced by our wholly owned subsidiary, ARCC CLO 2006 LLC (“ARCC CLO”), we completed a $400,000 debt securitization (the “Debt Securitization”) and issued approximately $314,000 principal amount of asset-backed notes (including an aggregate amount of up to $50,000 of revolving notes, $46,224 of which was drawn down as of March 31, 2010) (the “CLO Notes”) to third parties that are secured by a pool of middle market loans that were purchased or originated by the Company. The CLO Notes are included in the March 31, 2010 consolidated balance sheet. We retained approximately $86,000 of aggregate principal amount of certain BBB and non-rated securities in the Debt Securitization at the time of issuance.
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During the three months ended March 31, 2009, we repurchased, in several open market transactions, $34,790 of CLO Notes consisting of $14,000 of Class B Notes and $20,790 of Class C Notes for a total purchase price of $8,247. As a result of these purchases, we recognized a $26,543 gain on the extinguishment of debt for the three months ended March 31, 2009. As of March 31, 2010, we held an aggregate principal amount of $120,790 of CLO Notes (the “Retained Notes”), in total. The CLO Notes mature on December 20, 2019, and, as of March 31, 2010, there was $262,437 outstanding under the Debt Securitization (excluding the Retained Notes). The blended pricing of the CLO Notes, excluding fees, is approximately 3-month LIBOR plus 31 basis points.
The classes, amounts, ratings and interest rates (expressed as a spread to LIBOR) of the CLO Notes are as follows:
Rating(S&P/Moody’s)
LIBOR Spread(basis points)
A-1A
69,337
AAA/Aaa
A-1A VFN
46,224
A-1B
14,000
AAA/Aa2
A-2A
67,666
A-2B
33,000
AAA/Aa1
B
AA/A1
C
23,210
A/Baa3
70
(1) Revolving Notes, in an aggregate amount of up to $50,000.
As of March 31, 2010, there were 49 investments securing the notes. The interest charged under the Debt Securitization is based on 3-month LIBOR, which as of March 31, 2010 was 0.29% and as of December 31, 2009 was 0.25%. For the three months ended March 31, 2010 and 2009, the effective average interest rates were 0.56% and 1.66%, respectively. For the three months ended March 31, 2010 and 2009, we incurred $381 and $1,249 of interest expense, respectively. For the three months ended March 31, 2010 and 2009, the cash paid for interest was $390 and $1,295, respectively. The Company is also required to pay a commitment fee of 0.175% for any unused portion of the Class A-1A VFN Notes. For the three months ended March 31, 2010, we incurred $1 in commitment fees on these notes. For the three months ended March 31, 2009, there were no commitment fees incurred on these notes.
8. FAIR VALUE OF FINANCIAL INSTRUMENTS
Effective January 1, 2008, the company adopted ASC 825-10 (previously SFAS No. 159, the Fair Value Option for Financial Assets and Liabilities), which provides companies the option to report selected financial assets and liabilities at fair value. ASC 825-10 also establishes presentation and disclosure requirements designed to facilitate comparisons between companies that choose different measurement attributes for similar types of assets and liabilities and to more easily understand the effect of the company’s choice to use fair value on its earnings. ASC 825-10 also requires entities to display the fair value of the selected assets and liabilities on the face of the balance sheet. The Company has not elected the ASC 25-10 option to report selected financial assets and liabilities at fair value. As a result, with the exception of the line items entitled “other assets” and “debt,” which are reported at cost, all assets and liabilities approximate fair value on the balance sheet. The carrying value of the line items entitled “interest receivable,” “receivable for open trades,” “payable for open trades,” “accounts payable and accrued expenses,” “management and incentive fees payable” and “interest and facility fees payable” approximate fair value due to their short maturity.
Effective January 1, 2008, the Company adopted ASC 820-10 (previously SFAS No. 157, Fair Value Measurements), which expands the application of fair value accounting. ASC 820-10 defines fair value, establishes a framework for measuring fair value in accordance with GAAP and expands disclosure of fair value measurements. ASC 820-10 determines fair value to be the price that would be received for an investment in a current sale, which assumes an orderly transaction between market participants on the measurement date. ASC 820-10 requires the Company to assume that the portfolio investment is sold in a principal market to market participants, or in the absence of a principal market, the most advantageous market, which may be a hypothetical market. Market participants are defined as buyers and sellers in the principal or most advantageous market that are independent, knowledgeable, and willing and able to transact. In accordance with ASC 820-10, the Company has considered its
principal market as the market in which the Company exits its portfolio investments with the greatest volume and level of activity. ASC 820-10 specifies a hierarchy of valuation techniques based on whether the inputs to those valuation techniques are observable or unobservable. In accordance with ASC 820-10, these inputs are summarized in the three broad levels listed below:
· Level 1 — Valuations based on quoted prices in active markets for identical assets or liabilities that the Company has the ability to access.
· Level 2 — Valuations based on quoted prices in markets that are not active or for which all significant inputs are observable, either directly or indirectly.
· Level 3 — Valuations based on inputs that are unobservable and significant to the overall fair value measurement.
In addition to using the above inputs in investment valuations, we continue to employ the valuation policy approved by our board of directors that is consistent with ASC 820-10 (see Note 2). Consistent with our valuation policy, we evaluate the source of inputs, including any markets in which our investments are trading (or any markets in which securities with similar attributes are trading), in determining fair value. Our valuation policy considers the fact that because there is not a readily available market value for most of the investments in our portfolio, the fair value of the investments must typically be determined using unobservable inputs.
Due to the inherent uncertainty of determining the fair value of investments that do not have a readily available market value, the fair value of our investments may fluctuate from period to period. Additionally, the fair value of our investments may differ significantly from the values that would have been used had a ready market existed for such investments and may differ materially from the values that we may ultimately realize. Further, such investments are generally subject to legal and other restrictions on resale or otherwise are less liquid than publicly traded securities. If we were required to liquidate a portfolio investment in a forced or liquidation sale, we may realize significantly less than the value at which we have recorded it.
The following table presents fair value measurements of cash and cash equivalents and investments as of March 31, 2010:
Fair Value Measurements Using
Level 1
Level 2
Level 3
2,217,314
The following tables present changes in investments that use Level 3 inputs as of and for the three months ended March 31, 2010:
As of and for thethree months endedMarch 31, 2010
Balance as of December 31, 2009
2,166,687
Net realized and unrealized gains (losses)
43,844
Net purchases, sales or redemptions
6,783
Net transfers in and/or out of Level 3
Balance as of March 31, 2010
As of March 31, 2010, the net unrealized loss on the investments that use Level 3 inputs was $147,745.
Following are the carrying and fair values of our debt instruments as of March 31, 2010 and December 31, 2009. Fair value is estimated by discounting remaining payments using applicable current market rates which take into account changes in the Company’s marketplace credit ratings.
Carrying Value
226,000
447,000
209,000
217,000
717,921
890,000
9. RELATED PARTY TRANSACTIONS
In accordance with the investment advisory and management agreement, we bear all costs and expenses of the operation of the Company and reimburse the investment adviser for certain of such costs and expenses incurred in the operation of the Company. For the three months ended March 31, 2010 and 2009, the investment adviser incurred such expenses totaling $685 and $417, respectively. As of March 31, 2010, $213 was unpaid and such payable is included in “accounts payable and accrued expenses” in the accompanying consolidated balance sheet.
We rent office space directly from a third party pursuant to a lease that expires on February 27, 2011. In addition, we have entered into a sublease agreement with Ares Management whereby Ares Management subleases approximately 25% of our office space for a fixed rent equal to 25% of the basic annual rent payable by us under this lease, plus certain additional costs and expenses. For the three months ended March 31, 2010 and 2009, such amounts payable to the Company totaled $125 and $67, respectively. As of March 31, 2010, there were no unpaid amounts.
We recently entered into a new long-term office lease pursuant to which we will lease new office facilities from a third party. We expect to enter into separate subleases with Ares Management and IHAM (as defined in Note 10) for their respective use of the new office space.
As of March 31, 2010, Ares Investments LLC, an affiliate of Ares Management (the sole member of our investment adviser) owned 2,859,882 shares of the Company’s common stock, representing approximately 2.1% of the total shares outstanding as of March 31, 2010.
See Notes 3 and 10 for descriptions of other related party transactions.
10. IVY HILL ASSET MANAGEMENT, L.P. AND OTHER MANAGED FUNDS
In November 2007, we established Ivy Hill Asset Management, L.P. (“IHAM”) to serve as a manager for Ivy Hill Middle Market Credit Fund, Ltd. (“Ivy Hill I”), an unconsolidated investment vehicle focusing on investments in middle market loans. From inception until the second quarter of 2009, IHAM’s financial results were consolidated with those of the Company. In June 2009, because of a shift in activity from being primarily a manager, with no dedicated employees, of funds in which the Company has invested debt and equity, to a manager with investment professionals dedicated to managing an increasing number of third party funds, we concluded that GAAP requires the financial results of IHAM to be reported as a portfolio company in our schedule of investments rather than as a consolidated subsidiary in the Company’s financial results. The Company made an initial equity investment of $3,816 into IHAM in June 2009. As of March 31, 2010, our total investment in IHAM at fair value was $99,123 with an unrealized gain of $13,699.
IHAM receives a 0.50% management fee on the average total assets of Ivy Hill I as compensation for managing Ivy Hill I. For the three months ended March 31, 2009, the Company earned $488 in management fees from IHAM’s management of Ivy Hill I prior to IHAM’s conversion to a portfolio company in June 2009. Ivy Hill I primarily invests in first and second lien bank debt of middle market companies. Ivy Hill I was initially funded with $404,000 of capital including a $56,000 investment by the Company, consisting of $40,000 of Class B notes and $16,000 of subordinated notes. For the three months ended March 31, 2010 and 2009, the Company earned $1,761 and $1,652, respectively, from its investments in Ivy Hill I.
Ivy Hill I purchased investments from the Company of $8,000 and $9,000 during the three months ended March 31, 2010 and 2009, respectively, and may from time to time purchase additional investments from the Company. Any such purchases require approval by third parties unaffiliated with the Company or IHAM. There was no gain or loss
recognized by the Company on these transactions.
In November 2008, the Company established a second middle market credit fund, Ivy Hill Middle Market Credit Fund II, Ltd. (“Ivy Hill II” and, together with Ivy Hill I and Ivy Hill SDF (as defined below), the “Ivy Hill Funds”), which is also managed by IHAM. IHAM receives a 0.50% management fee on the average total assets of Ivy Hill II as compensation for managing this fund. Ivy Hill II primarily invests in second lien and subordinated bank debt of middle market companies. Ivy Hill II was established with an initial commitment of $250,000 of subordinated notes, of which $125,000 has been funded, and may grow over time with leverage. Ivy Hill II purchased $86,500 and $27,500, respectively, of investments from the Company during the three months ended March 31, 2010 and 2009 and may from time to time purchase additional investments from the Company. Any such purchases require approval by third parties unaffiliated with the Company or IHAM. A loss of $1,218 and $1,388, respectively, was recorded on these transactions. For the three months ended March 31, 2009, the Company earned $78 in management fees from IHAM’s management of Ivy Hill II prior to IHAM’s conversion to a portfolio company in June 2009.
In December 2009, the Company made an incremental cash investment of approximately $33 million in IHAM to facilitate IHAM’s acquisition of Allied Capital’s management rights in respect of, and interests in, the Allied Capital Senior Debt Fund, L.P. (now referred to as Ivy Hill Senior Debt Fund, L.P. or “Ivy Hill SDF”). Ivy Hill SDF currently has approximately $272 million of committed capital invested primarily in first lien loans and, to a lesser extent, second lien loans of middle-market companies. IHAM manages Ivy Hill SDF and receives fee income and is entitled to potential equity distributions in respect of interests that it acquired in Ivy Hill SDF.
In March 2010, the Company made an incremental cash investment of approximately $48 million in IHAM to facilitate IHAM’s acquisition of Allied Capital’s management rights in respect of, and equity interests in, the Knightsbridge CLO 2007-1, Ltd. and Knightsbridge CLO 2008-1, Ltd. (the “Knightsbridge Funds”). The Knightsbridge Funds have approximately $769 million of committed capital invested primarily in senior debt. IHAM manages the Knightsbridge Funds and receives fee income and is entitled to potential equity distributions in respect of equity interests that it required in the Knightsbridge Funds.
In addition to the Ivy Hill Funds and the Knightsbridge Funds, IHAM also serves as the sub-adviser/sub-manager to four other funds, including Firstlight Funding I, Ltd., which is affiliated with our portfolio company, Firstlight Financial Corporation.
For the three months ended March 31, 2010, the Company received $378 in distributions from IHAM consisting entirely of dividend income.
Beginning in November 2008, IHAM, was party to a separate services agreement, referred to herein as the “services agreement,” with Ares Capital Management. Pursuant to the services agreement, Ares Capital Management provides IHAM with office facilities, equipment, clerical, bookkeeping and record keeping services, services of investment professionals and others to perform investment advisory, research and related services, services of, and oversight of, custodians, depositories, accountants, attorneys, underwriters and such other persons in any other capacity deemed to be necessary. Under the services agreement, IHAM reimburses Ares Capital Management for all of the costs associated with such services, including Ares Capital Management’s allocable portion of overhead and the cost of its officers and respective staff in performing its obligations under the services agreement. The services agreement may be terminated by either party without penalty upon 60 days’ written notice to the other party. For the three months ended March 31, 2010 and 2009, IHAM incurred such expenses payable to Ares Capital Management of $304 and $256, respectively.
In October 2009, we completed our acquisition of Allied Capital’s interests in the Senior Secured Loan Fund for $165 million. The Senior Secured Loan Fund was formed in December 2007 to invest in “unitranche” loans (loans that combine both senior and subordinated debt, generally in a first lien position) of middle-market companies and has approximately $3.6 billion of committed capital, approximately $915 million in aggregate principal amount of which is currently funded. Of the $2.7 billion of unfunded committed capital, approximately $340 million would be funded by the Company. Our investment entitles us to a coupon of LIBOR plus 8.0% plus a portion of the excess cash flow from the loan portfolio as well as certain other sourcing and management fees. Together with GE Commercial Finance Investment Advisory Services LLC, we serve as co-managers of the Senior Secured Loan Fund for which we receive a management fee. As of March 31, 2010, the Senior Secured Loan Fund’s portfolio consisted of $906 million of loans at par among twelve different issuers. For the three months ended March 31, 2010, we
44
earned $868 in management fees and $7,237 in interest income from the Senior Secured Loan Fund.
11. DERIVATIVE INSTRUMENTS
In October 2008, we entered into a two-year interest rate swap agreement to mitigate our exposure to adverse fluctuations in interest rates for a total notional amount of $75 million. Under the interest rate swap agreement, we will pay a fixed interest rate of 2.985% and receive a floating rate based on the prevailing three-month LIBOR. As of March 31, 2010 and December 31, 2009, the 3-month LIBOR was 0.29% and 0.25%, respectively. For the three months ended March 31, 2010 and 2009, we recognized $333 in unrealized appreciation and $11 in unrealized depreciation, respectively, related to this swap agreement. As of March 31, 2010 and December 31, 2009, this swap agreement had a fair value of $(1,408) and $(1,741), respectively, which is included in “accounts payable and other liabilities” in the accompanying consolidated balance sheet.
12. STOCKHOLDERS’ EQUITY
In February 2010, we completed a public add-on equity offering (the “February Add-on Offering”) of 22,957,993 shares of common stock (including 1,957,993 shares purchased pursuant to the partial exercise by the underwriters of their over-allotment option) at a price of $12.75 per share, less an underwriting discount totaling approximately $0.6375 per share. Total proceeds received from the February Add-on Offering, net of underwriters’ discount and offering costs, were approximately $277.2 million.
The following table summarizes the total shares issued and proceeds we received net of underwriter and offering costs for the three months ended March 31, 2010 (dollar amounts in millions, except per share data):
Shares issued
Offering priceper share
Proceeds net ofunderwritingandoffering costs
February 2010 public offering
12.75
277.2
Total for the three months ended March 31, 2010
There were no sales of equity securities during the three months ended March 31, 2009.
13. DIVIDENDS
The following table summarizes our dividends declared during the three months ended March 31, 2010 and 2009 (in millions, except per share data):
Date Declared
Record Date
Payment Date
AmountPer Share
TotalAmount
February 25, 2010
March 15, 2010
46.5
Total declared for the three months ended March 31, 2010
March 2, 2009
March 16, 2009
40.8
Total declared for the three months ended March 31, 2009
During the three months ended March 31, 2009, as part of the Company’s dividend reinvestment plan (the “DRIP”) for our common stockholders, we purchased 844,879 shares of our common stock at an average price of $5.02 per share in the open market in order to satisfy part of the reinvestment aspect of the DRIP. There were no purchases of shares of our common stock by the Company during the three months ended March 31, 2010.
14. FINANCIAL HIGHLIGHTS
The following is a schedule of financial highlights for the three months ended March 31, 2010 and 2009:
45
Per Share Data:
Net asset value, beginning of period(1)
11.27
Issuance of common stock
0.12
Effect of antidilution
(0.04
Net investment income for period(2)
0.31
Net realized and unrealized gains for period(2)
Net increase in stockholders’ equity
Distributions from net investment income
(0.35
(0.30
Distributions from net realized capital gains on securities
(0.13
Total distributions to stockholders
(0.43
Net asset value at end of period(1)
11.20
Per share market value at end of period
14.82
4.84
Total return based on market value(3)
21.85
(16.75
)%
Total return based on net asset value(4)
5.33
3.20
Shares outstanding at end of period
Ratio/Supplemental Data:
Net assets at end of period
1,088,071
Ratio of operating expenses to average net assets(5)(6)
9.99
9.57
Ratio of net investment income to average net assets(5)(7)
9.05
11.16
Portfolio turnover rate(5)
(1) The net assets used equals the total stockholders’ equity on the consolidated balance sheets.
(2) Weighted average basic per share data.
(3) For the three months ended March 31, 2010, the total return based on market value equals the increase of the ending market value at March 31, 2010 of $14.82 per share over the ending market value at December 31, 2009 of $12.45 per share, plus the declared dividend of $0.35 per share for the three months ended March 31, 2010, divided by the market value at December 31, 2009. For the three months ended March 31, 2009, the total return based on market value equals the decrease of the ending market value at March 31, 2009 of $4.84 per share over the ending market value at December 31, 2008 of $6.33 per share, plus the declared dividend of $0.42 per share for the three months ended March 31, 2009, divided by the market value at December 31, 2008. Total return based on market value is not annualized. The Company’s shares fluctuate in value. The Company’s performance changes over time and currently may be different than that shown. Past performance is no guarantee of future results.
(4) For the three months ended March 31, 2010, the total return based on net asset value equals the change in net asset value during the period plus the declared dividend of $0.35 per share for the three months ended March 31, 2010, divided by the beginning net asset value at January 1, 2010. For the three months ended March 31, 2009, the total return based on net asset value equals the change in net asset value during the period plus the declared dividend of $0.42 per share for the three months ended March 31, 2009, divided by the beginning net asset value at January 1, 2009. These calculations are adjusted for shares issued in connection with the dividend reinvestment plan and the issuance of common stock in connection with any equity offerings. Total return based on net asset value is not annualized. The Company’s performance changes over time and currently may be different than that shown. Past performance is no guarantee of future results.
(5) The ratios reflect an annualized amount.
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(6) For the three months ended March 31, 2010, the ratio of operating expenses to average net assets consisted of 2.41% of base management fees, 2.33% of incentive management fees, 2.45% of the cost of borrowing and other operating expenses of 2.79%. For the three months ended March 31, 2009, the ratio of operating expenses to average net assets consisted of 2.78% of base management fees, 2.81% of incentive management fees, 2.44% of the cost of borrowing and other operating expenses of 1.54%. These ratios reflect annualized amounts.
(7) The ratio of net investment income to average net assets excludes income taxes related to realized gains.
15. ALLIED ACQUISITION
On October 26, 2009, we entered into a definitive agreement to acquire Allied Capital in an all stock transaction. On April 1, 2010, we completed the Allied Acquisition by acquiring the outstanding shares of Allied Capital in exchange for shares of our common stock valued at $907 million as of the closing date. Concurrently with the completion of the Allied Acquisition, we repaid in full the $138 million of remaining amounts outstanding on Allied Capital’s $250 million senior secured term loan. We also assumed all of Allied Capital’s other outstanding debt obligations, including approximately $745 million in Allied Capital’s publicly traded unsecured notes. As previously disclosed, the amount available for borrowing under our senior secured revolving credit facility (as amended and restated, the “Revolving Credit Facility”) increased by $75 million to $690 million with the closing of the Allied Acquisition.
Under the terms of the transaction, each Allied Capital stockholder received 0.325 shares of our common stock for each share of Allied Capital common stock then owned by such stockholder. In connection with the Allied Acquisition, approximately 58.5 million shares of our common stock (including the effect of outstanding in-the money Allied Capital stock options) were issued to Allied Capital’s then-existing stockholders, thereby resulting in our then-existing stockholders owning approximately 69% of the combined company and the then-existing Allied Capital stockholders owning approximately 31% of the combined company.
The Allied Acquisition will be accounted for in accordance with the acquisition method of accounting as detailed in ASC 805-10 (previously SFAS No. 141(R)), Business Combinations. The acquisition method of accounting requires an acquirer to recognize the assets acquired, the liabilities assumed and any noncontrolling interest in the acquiree based on their fair values as of the date of acquisition. As described in more detail in ASC 805-10, if the total acquisition date fair value of the identifiable net assets acquired exceeds the fair value of the consideration transferred, the excess will be recognized as a gain. As of the date of this filing, the initial accounting for the business combination is not complete, including the valuation of the acquired investments in accordance with Ares Capital’s valuation policy (see Notes 2 and 8). We are unable to determine the final fair value of the net assets acquired until this valuation is complete.
Prior to the completion of the Allied Acquisition, but subsequent to October 26, 2009, the date we entered into a definitive agreement to acquire Allied Capital, we purchased $340 million of assets from Allied Capital in arm’s length transactions. Additionally, during the same period of time, IHAM purchased $69 million of assets from Allied Capital, also in arm’s length transactions.
16. LITIGATION
A number of lawsuits were filed by stockholders of Allied Capital challenging the Allied Acquisition. These include: (1) In re Allied Capital Corporation Shareholder Litigation, Case No. 322639V (Circuit Court for Montgomery County, Maryland) (the “Maryland action”); (2) Sandler v. Walton, et al., Case No. 2009 CA 008123 B (Superior Court for the District of Columbia), which was consolidated with Wienecki v. Allied Capital Corporation, et al., Case No. 2009 CA 008541 B (Superior Court for the District of Columbia) (the “D.C. Superior Court action”); and (3) Ryan v. Walton, et al., Case No. 1:10-CV-000145-RMC (United States District Court for the District of Columbia) (the “D.C. Federal Court action”). The suits were filed after the entry by the Company, Allied Capital and ARCC Odyssey Corp. (“Merger Sub”) into the Agreement and Plan of Merger (the “Merger Agreement”) and the announcement of the Allied Acquisition on October 26, 2009, either as putative stockholder class actions, shareholder derivative actions or both. All of the actions asserted similar claims against the members of Allied Capital’s board of directors alleging that the Merger Agreement was the product of a flawed sales process and that Allied Capital’s directors breached their fiduciary duties by agreeing to a structure that was not designed to maximize the value of Allied Capital’s stockholders, by failing to adequately value and obtain fair consideration for Allied Capital’s shares and by improperly rejecting competing offers by Prospect Capital Corporation. They also claimed that the Company (and, in several cases, Merger Sub, and, in several other cases, Allied Capital) aided and
abetted the directors’ alleged breaches of fiduciary duties. In addition, in Ryan v. Walton, et al., the plaintiffs also alleged violations of Rule 14a-9(a) under the Securities Exchange Act of 1934. All of the actions demanded, among other things, a preliminary and permanent injunction enjoining the merger and rescinding the transaction or any part thereof that may be implemented.
On March 2, 2010, the plaintiffs in the Maryland action, Allied Capital and the Company reached an agreement in principle to settle the Maryland action on terms and conditions substantially similar to those set forth in a Stipulation of Settlement dated March 17, 2010. Although the Company and Allied Capital believe that the disclosures already provided were thorough and complete, in connection with the settlement we and Allied Capital agreed to make certain additional disclosures that are contained in the Supplement to the Joint Proxy Statement, dated March 8, 2010, and pay counsel for the plaintiffs in the Maryland action certain of their fees and expenses. The settlement is subject to final settlement documentation and approval by the Maryland court, after, among other things, notice is provided to the stockholders of Allied Capital.
On March 19, 2010, the plaintiffs in the D.C. Federal Court action, Allied Capital and the Company reached an agreement in principle to settle the D.C. Federal Court action. On April 15, 2010, the plaintiffs in the D.C. Superior Court action, Allied Capital and Ares Capital reached an agreement in principle to settle the D.C. Superior Court action. The D.C. Federal Court action and the D.C. Superior Court action were stayed on March 22, 2010 and March 26, 2010, respectively, in contemplation of dismissal with prejudice once the settlement of the Maryland action has been finally approved by the Maryland court. The parties to the Maryland action, the D.C. Federal Court Action, and the D.C. Superior Court action are entering into, and plan to file with the Maryland court, an Amended Stipulation of Settlement, which provides for, among other things, settlement of all the actions.
A final hearing on the settlement is scheduled to be held on July 29, 2010 before the Maryland court. There can be no assurance that the settlement will be finalized or that the Maryland court will approve the settlement. The settlement terms, which require court approval, provide that the Maryland action will be dismissed with prejudice against all defendants.
We, along with Allied Capital and the other defendants, have vigorously denied all liability with respect to the facts and claims alleged in the actions. The settlement is not, and should not be construed as, an admission of wrongdoing or liability by any defendant. The parties considered it desirable that the actions be settled to avoid the expense, risk, inconvenience and distraction of continued litigation and to fully resolve the settled claims.
17. SUBSEQUENT EVENTS
Management has evaluated subsequent events through the date of issuance of the consolidated financial statements included herein. There have been no subsequent events that occurred during such period that would require disclosure in this Form 10-Q or would be required to be recognized in the Consolidated Financial Statements as of and for the three months ended March 31, 2010 and 2009, except as disclosed below.
In April 2010, we consummated our acquisition of Allied Capital. See Note 15 for more detail on the Allied Acquisition.
Since March 31, 2010, we increased the size of the Revolving Credit Facility under the “accordion” feature by an additional $25,000 and received an additional $75,000 in additional commitments upon the closing of the Allied Acquisition. Subject to customary closing conditions, we expect to receive an additional commitment of $25,000, which will bring the total amount available for borrowing under the Revolving Credit Facility to $740,000.
Item 2. Management’s Discussion And Analysis Of Financial Condition And Results Of Operations.
The information contained in this section should be read in conjunction with our financial statements and notes thereto appearing elsewhere in this quarterly report. In addition, some of the statements in this report constitute forward-looking statements, which relate to future events or the future performance or financial condition of Ares Capital Corporation (the “Company”, “ARCC,” “we,” “us” or “our”). The forward-looking statements contained in this report involve risks and uncertainties, including statements as to:
· our, or our portfolio companies’, future business, operations, operating results or prospects;
· the return or impact of current and future investments;
· the impact of a protracted decline in the liquidity of credit markets on our business;
· the impact of fluctuations in interest rates on our business;
· the valuation of our investments in portfolio companies, particularly those having no liquid trading market;
· our ability to recover unrealized losses;
· market conditions and our ability to access alternative debt markets and additional debt and equity capital;
· our contractual arrangements and relationships with third parties;
· the general economy and its impact on the industries in which we invest;
· the financial condition of and ability of our current and prospective portfolio companies to achieve their objectives;
· our expected financings and investments;
· our ability to successfully integrate any acquisitions;
· the adequacy of our cash resources and working capital;
· the timing, form and amount of any dividend distributions;
· the timing of cash flows, if any, from the operations of our portfolio companies;
· the ability of our investment adviser to locate suitable investments for us and to monitor and administer our investments;
· the outcome and impact of any litigation relating to the Allied Acquisition;
· the period following the completion of the Allied Acquisition; and
· our ability to successfully integrate Allied Capital’s business.
We use words such as “anticipates,” “believes,” “expects,” “intends,” “will,” “should,” “may” and similar expressions to identify forward-looking statements. Our actual results could differ materially from those projected in the forward-looking statements for any reason, including the factors set forth in “Risk Factors” included in our annual report on Form 10-K for the fiscal year ended December 31, 2009.
We have based the forward-looking statements included in this report on information available to us on the date of this report, and we assume no obligation to update any such forward-looking statements. Although we undertake no obligation to revise or update any forward-looking statements, whether as a result of new information, future events or otherwise, you are advised to consult any additional disclosures that we may make directly to you or through reports that we have filed or in the future may file with the Securities and Exchange Commission (the “SEC”), including annual reports on
Form 10-K, registration statements on Form N-2, quarterly reports on Form 10-Q and current reports on Form 8-K.
OVERVIEW
We are a specialty finance company that is a closed-end, non-diversified management investment company incorporated in Maryland. We have elected to be regulated as a business development company (a “BDC”) under the Investment Company Act of 1940 (the “Investment Company Act”). We were founded on April 16, 2004, were initially funded on June 23, 2004 and on October 8, 2004 completed our initial public offering.
Our investment objective is to generate both current income and capital appreciation through debt and equity investments. We invest primarily in first and second lien senior loans and mezzanine debt, which in some cases includes an equity component like warrants. To a lesser extent we make equity investments.
We are externally managed by Ares Capital Management, an affiliate of Ares Management, a global alternative asset manager and an SEC-registered investment adviser, pursuant to an investment advisory and management agreement. Ares Operations, an affiliate of Ares Management, provides the administrative services necessary for us to operate.
As a BDC, we are required to comply with certain regulatory requirements. For instance, we generally have to invest at least 70% of our total assets in “qualifying assets,” including securities and indebtedness of private U.S. companies and certain public U.S. companies, cash, cash equivalents, U.S. government securities and high-quality debt investments that mature in one year or less.
The Company has elected to be treated as a regulated investment company (a “RIC”) under Subchapter M of the Internal Revenue Code of 1986, as amended (the “Code”), and operates in a manner so as to qualify for the tax treatment applicable to RICs. To qualify as a RIC, we must, among other things, meet certain source-of-income and asset diversification requirements and timely distribute to our stockholders generally at least 90% of our investment company taxable income, as defined by the Code, for each year. Pursuant to this election, we generally will not have to pay corporate level taxes on any income that we distribute to our stockholders provided that we satisfy those requirements.
Allied Acquisition
On October 26, 2009, we entered into a definitive agreement to acquire Allied Capital Corporation (“Allied Capital”), in an all stock transaction upon the consummation of which each existing share of common stock of Allied Capital was exchanged for 0.325 shares of our common stock (the “Allied Acquisition”). The boards of directors of both companies each unanimously approved the Allied Acquisition and on March 26, 2010, Allied Capital’s stockholders approved the merger and our stockholders approved the issuance of shares of our common stock to Allied Capital’s stockholders. We consummated the Allied Acquisition on April 1, 2010 in a transaction valued at approximately $907 million as of April 1, 2010. In connection therewith, we issued approximately 58.5 million shares of our common stock (including the effect of outstanding in-the-money Allied stock options) to Allied Capital’s then-existing stockholders, thereby resulting in our then-existing stockholders owning approximately 69% of the combined company and then-existing Allied Capital stockholders owning approximately 31% of the combined company.
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PORTFOLIO AND INVESTMENT ACTIVITY
(in millions, except number of new investment commitments, terms and percentages)
Three months ended
New investment commitments (1):
New portfolio companies
168.4
3.1
Existing portfolio companies
130.4
34.7
Total new investment commitments
298.8
37.8
Less:
Investment commitments exited
308.6
103.9
Net investment commitments
(9.8
(66.1
Principal amount of investments purchased:
19.8
52.4
170.4
31.6
11.6
Equity and other
102.9
0.8
304.7
84.8
Principal amount of investments sold or repaid:
228.4
44.7
73.0
34.5
8.6
3.0
313.0
79.2
Number of new investment commitments (2)
Average new investment commitments amount
18.7
6.3
Weighted average term for new investment commitments (in months)
67
59
Percentage of new investment commitments at floating rates
Percentage of new investment commitments at fixed rates
84
Weighted average yield of debt and income producing securities at fair value funded during the period (3)
13.64
10.67
Weighted average yield of debt and income producing securities at amortized cost funded during the period (3)
13.88
10.95
Weighted average yield of debt and income producing securities at fair value sold or repaid during the period (3)
12.12
15.31
Weighted average yield of debt and income producing securities at amortized cost sold or repaid during the period (3)
12.09
14.77
(1) New investment commitments include new agreements to fund revolving credit facilities or delayed draw loans.
(2) Number of new investments represents each commitment to a particular portfolio company.
(3) When we refer to the “weighted average yield at fair value” in this report, we compute it with respect to particular securities by taking the (a) annual stated interest rate or yield earned plus the net annual amortization of original issue discount and market discount earned on accruing debt included in such securities, and dividing it by (b) total debt and income producing securities at fair value included in such securities. When we refer to the “weighted average yield at amortized cost” in this report, we compute it with respect to particular securities by taking the (a) annual stated interest rate or yield earned plus the net annual amortization of original issue discount and market discount earned on accruing debt included in such securities, and dividing it by (b) total debt and income producing securities at amortized cost included in such securities.
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The investment adviser employs an investment rating system to categorize our investments. In addition to various risk management and monitoring tools, the investment adviser grades the credit status of all investments on a scale of 1 to 4 no less frequently than quarterly. This system is intended to reflect the performance of the portfolio company’s business, the collateral coverage of the investment and other relevant factors. Under this system, investments with a grade of 4 involve the least amount of risk in our portfolio. This portfolio company is performing above expectations and the trends and risk factors are generally favorable, including a potential exit. Investments graded 3 involve a level of risk that is similar to the risk at the time of origination. This portfolio company is performing as expected and the risk factors are neutral to favorable. All new investments are initially assessed a grade of 3. Investments graded 2 involve a portfolio company performing below expectations and indicates that the investment’s risk has increased materially since origination. This portfolio company may be out of compliance with debt covenants, however, payments are generally not more than 120 days past due. For investments graded 2, our investment adviser increases procedures to monitor the portfolio company and will write down the fair value of the investment if it is deemed to be impaired. An investment grade of 1 indicates that the portfolio company is performing materially below expectations and that the investment risk has substantially increased since origination. Most or all of the debt covenants are out of compliance and payments are substantially delinquent. Investments graded 1 are not anticipated to be repaid in full. Our investment adviser employs half-point increments to reflect underlying trends in portfolio company operating or financial performance, as well as the general outlook. As of March 31, 2010, the weighted average investment grade of the investments in our portfolio was 3.1 with 4.2% of total investments at amortized cost (or 1.0% at fair value) on non-accrual status. The weighted average investment grade of the investments in our portfolio as of December 31, 2009 was 3.0. The distribution of the grades of our portfolio companies as of March 31, 2010 and December 31, 2009 is as follows (dollar amounts in thousands):
Number ofCompanies
Grade 1
19,626
7,170
Grade 2
85,211
154,509
Grade 3
1,849,451
1,796,641
Grade 4
265,941
213,494
94
95
The weighted average yields of the following portions of our portfolio as of March 31, 2010 and December 31, 2009 were as follows:
Debt and income producing securities
12.39
12.17
12.67
12.08
Total portfolio
10.41
9.74
11.19
10.23
10.84
10.16
11.42
10.62
12.76
13.74
12.47
16.64
17.00
Income producing equity securities
9.07
10.61
9.61
10.52
First lien senior term debt
10.38
Second lien senior term debt
12.27
9.98
12.92
11.06
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RESULTS OF OPERATIONS
For the three months ended March 31, 2010 and 2009
Operating results for the three months ended March 31, 2010 and 2009 are as follows (in thousands):
Net investment income before income taxes
Net investment income
24,708
Net income can vary substantially from period to period as a result of various factors, including the recognition of realized gains and losses and unrealized appreciation and depreciation. As a result, quarterly comparisons of net income may not be meaningful.
Investment Income
For the three months ended March 31, 2010, total investment income increased $10.5 million, or 19%, to $66.5 million from $56.0 million for the comparable period in 2009. For the three months ended March 31, 2010, total investment income consisted of $61.5 million in interest income from investments, $2.1 million in capital structuring service fees, $1.5 million in management fees, $0.5 million in dividend income and $0.9 million in other income. Interest income from investments increased $9.2 million, or 18%, to $61.5 million for the three months ended March 31, 2010 from $52.3 million for the comparable period in 2009. The increase in interest income from investments was primarily due to the increase in investments, as the average investments at fair value increased from $2.0 billion for the three months ended March 31, 2009 to $2.2 billion for the three months ended March 31, 2010. Capital structuring service fees increased $0.9 million, or 75%, to $2.1 million for the three months ended March 31, 2010 from $1.2 million for the comparable period in 2009. The increase in capital structuring service fees was primarily due to the increase in new investment commitments for the three months ended March 31, 2010 as compared to the three months ended March 31, 2009. Management fees increased $0.8 million, or 108%, to $1.5 million for the three months ended March 31, 2010 from $0.7 million for the comparable period in 2009. The increase in management fees was primarily related to management fees earned in respect of Senior Secured Loan Fund LLC (the “Senior Secured Loan Fund”).
Operating Expenses
For the three months ended March 31, 2010, total expenses increased $9.2 million, or 36%, to $35.0 million from $25.8 million for the comparable period in 2009. Interest expense and credit facility fees increased $2.0 million, or 31%, to $8.6 million for the three months ended March 31, 2010 from $6.6 million for the comparable period in 2009, primarily due to higher amortization of debt costs and the higher weighted average stated interest rate on our debt. For the three months ended March 31, 2010, the Company also incurred $3.8 million in professional fees related to the Allied Acquisition that were not incurred in the comparable period in 2009.
Income Tax Expense, Including Excise Tax
The Company has elected to be treated as a RIC under Subchapter M of the Code and operates in a manner so as to qualify for the tax treatment applicable to RICs. In order to qualify as a RIC, among other things, the Company is required to timely distribute to its stockholders at least 90% of investment company taxable income, as defined by the Code, for each year. Among other things, the Company has, in order to maintain its RIC status, made and intends to continue to make the requisite distributions to its stockholders which will generally relieve the Company from U.S. Federal income taxes.
Depending on the level of taxable income earned in a tax year, we may choose to carry forward taxable income in
53
excess of current year dividend distributions into the next tax year and pay a 4% excise tax on such income, as required. To the extent that the Company determines that its estimated current year annual taxable income will be in excess of estimated current year dividend distributions, the Company accrues excise tax, if any, on estimated excess taxable income as taxable income is earned. For each of the three months ended March 31, 2010 and 2009, the Company recognized a benefit of $0.1 million for U.S. Federal excise tax.
Certain of our wholly owned subsidiaries are subject to U.S. Federal and state income taxes. For the three months ended March 31, 2010, we recorded a tax benefit of $0.1 million for these subsidiaries, and for the three months ended March 31, 2009, we recorded a provision of approximately $0.1 million for these subsidiaries.
Net Unrealized Gains/Losses
For the three months ended March 31, 2010, the Company had net unrealized gains of $49.6 million, which was primarily comprised of $16.5 million in unrealized depreciation, $57.5 million in unrealized appreciation and $8.6 million related to the reversal of prior period net unrealized depreciation. The most significant changes in net unrealized appreciation and depreciation (excluding the reversal of prior period net unrealized depreciation) during the three months ended March 31, 2010 were as follows (in millions):
For the three monthsended March 31, 2010
Portfolio Company
Net UnrealizedAppreciation(Depreciation)
14.4
Things Remembered, Inc.
4.6
3.7
3.6
Campus Management Corp.
Planet Organic Health Corp.
Vistar Corporation
Growing Family, Inc.
1.7
OnCure Medical Corp.
1.3
Direct Buy Holdings, Inc.
1.2
Woodstream Group, Inc.
Instituto de Banca y Comercio, Inc.
Pillar Holdings LLC
Trivergance Capital Partners, LP
(2.2
ADF Restaurant Group, LLC
(2.7
FirstLight Financial Corporation
(3.7
MPBP Holdings, Inc.
(4.5
1.6
41.0
For the three months ended March 31, 2009, the Company had net unrealized losses of $19.9 million, which was comprised of $39.3 million in unrealized depreciation, $18.0 million in unrealized appreciation and $1.4 million relating to the reversal of prior period net unrealized depreciation. The most significant changes in net unrealized appreciation and depreciation (excluding the reversal of prior period net unrealized depreciation) during the three months ended March 31, 2009 were as follows (in millions):
For the three monthsended March 31, 2009
Apple and Eve, LLC
5.6
Capella Healthcare, Inc
Prommis Solutions, LLC
Magnacare, Inc.
(0.5
Universal Lubricants, LLC
(0.7
(0.8
Savers, Inc.
(0.9
(1.0
The Teaching Company, LLC
(1.1
(1.4
(1.6
Carador PLC
Courtside Acquisition Corp.
(1.7
(1.8
(2.5
(3.4
(8.1
(2.4
(21.3
Net Realized Gains/Losses
During the three months ended March 31, 2010, the Company had $307.5 million of sales and repayments resulting in $4.9 million of net realized losses. These sales and repayments included $94.5 million of loans sold to Ivy Hill Middle Market Credit Fund, Ltd. (“Ivy Hill I”) and Ivy Hill Middle Market Credit Fund II, Ltd. (“Ivy Hill II”), two middle market credit funds managed by our portfolio company, Ivy Hill Asset Management L.P. (“IHAM”) (see Note 10 to the consolidated financial statements for more detail on IHAM and its managed funds). Net realized losses on investments were comprised of $8.9 million of gross realized gains and $13.8 million of gross realized losses. The most significant realized gains and losses on investments for the three months ended March 31, 2010 were as follows (in millions):
RealizedGain (Loss)
Daily Candy, Inc.
Wyle Laboratories, Inc.
(1.2
3091779 Nova Scotia Inc.
(7.7
(4.9
During the three months ended March 31, 2009, the Company repurchased $34.8 million of the CLO Notes (as defined below) resulting in a $26.5 million gain on the extinguishment of debt. The Company also had $77.4 million of sales and repayments resulting in $1.8 million of net realized losses. These sales and repayments included $36.5 million of loans sold to Ivy Hill I and Ivy Hill II. Net realized losses on investments were comprised of $0.1 million of gross realized gains and $1.9 of gross realized losses. The most significant realized gains and losses on investments for the three months ended March 31, 2009 were as follows (in millions):
(0.2
Bumble Bee Foods, LLC
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
Since the Company’s inception, the Company’s liquidity and capital resources have been generated primarily from the net proceeds of public offerings of common stock, the Debt Securitization and advances from the combined CP Funding Facility (and its predecessors) and Revolving Credit Facility, each as defined below (together, the “Facilities”), as well as cash flows from operations.
As of March 31, 2010, the Company had $83.8 million in cash and cash equivalents and $771.4 million in total indebtedness outstanding. Subject to leverage and borrowing base restrictions, the Company had approximately $509.9 million available for additional borrowings under the Facilities and the Debt Securitization as of March 31, 2010.
Equity Offerings
The following table summarizes the total shares issued and proceeds we received net of underwriter, dealer manager and offering costs for the three months ended March 31, 2010 and 2009 (dollar amounts in millions, except per share data):
Proceeds net ofunderwriter andoffering costs
Part of the proceeds from this public offering were used to repay outstanding indebtedness. The remaining unused portions of the proceeds from this public offering were used to fund investments in portfolio companies in accordance with our investment objective and strategies and market conditions.
As of March 31, 2010, total market capitalization for the Company was $2.0 billion compared to $1.4 billion as of December 31, 2009.
Debt Capital Activities
Our debt obligations as of March 31, 2010 and December 31, 2009 consisted of the following (in millions):
Total Available(1)
208.4
400.0
221.6
300.5
615.0
474.1
525.0
200.0
262.5
266.2
273.8
275.0
771.4
1,281.2
969.5
1,221.6
(2) The CP Funding II Facility was combined with the CP Funding Facility on January 22, 2010. In connection therewith the CP Funding II Facility was terminated.
The weighted average interest rate and weighted average maturity of all our outstanding borrowings as of March 31, 2010 were 2.25% and 5.2 years, respectively. The weighted average interest rate and weighted average maturity of all our outstanding borrowings as of December 31, 2009 were 2.05% and 3.8 years, respectively.
The ratio of total debt outstanding to stockholders’ equity as of March 31, 2010 was 0.49:1.00 compared to 0.77:1.00 as of December 31, 2009.
As required by the Investment Company Act, with certain limited exceptions, we are only allowed to borrow amounts such that our asset coverage, as defined in the Investment Company Act, is at least 200% after such borrowing. As of March 31, 2010, our asset coverage for borrowed amounts was 303%.
CP Funding Facilities
In October 2004, we formed Ares Capital CP Funding LLC (“Ares Capital CP”), a wholly owned subsidiary of the Company, through which we established a revolving facility (as amended, the “CP Funding Facility”) that, as amended, allowed Ares Capital CP to issue up to $350 million of variable funding certificates (“VFC”). On May 7, 2009, the Company and Ares Capital CP entered into an amendment that, among other things, converted the CP Funding Facility from a revolving facility to an amortizing facility, extended the maturity from July 21, 2009 to May 7, 2012 and reduced the availability from $350 million to $225 million.
On July 21, 2009, we entered into an agreement with Wachovia Bank N.A. (“Wachovia”) to establish a new revolving facility (the “CP Funding II Facility”) whereby Wachovia agreed to extend credit to us in an aggregate principal amount not exceeding $200 million at any one time outstanding. Prior to its combination with the CP Funding Facility, the CP Funding II Facility was scheduled to expire on July 21, 2012.
On January 22, 2010, we combined the CP Funding Facility with the CP Funding II Facility into a single $400 million revolving securitized facility (the “combined CP Funding Facility”). In connection with the combination, we terminated the CP Funding II Facility and entered into an Amended and Restated Purchase and Sale Agreement with Ares Capital CP Funding Holdings LLC, our wholly owned subsidiary (“CP Holdings”), pursuant to which we may sell to CP Holdings certain loans that we have originated or acquired, or will originate or acquire (the “Loans”) from time to time, which CP Holdings will subsequently sell to Ares Capital CP, which is a wholly owned subsidiary of CP Holdings. The combined CP Funding Facility is secured by all of the assets held by, and the membership interest in, Ares Capital CP. The combined CP Funding Facility, among other things, extends the maturity date of the facility to January 22, 2013 (with two one-year extension options, subject to mutual consent). Prior to January 22, 2010, the interest rate charged on the CP Funding Facility was the commercial paper rate plus 3.50%. After January 22, 2010, subject to certain exceptions, the interest charged on the combined CP Funding Facility is based on LIBOR plus an applicable spread of between 2.25% and 3.75% or on a “base rate” (which is the higher of a prime rate, or the federal funds rate plus 0.50%) plus an applicable spread of between 1.25% to 2.75%, in each case, based on a pricing grid depending upon our credit rating. Additionally, we are required to pay a commitment fee of between 0.50% and 2.00% depending on the usage level on any unused portion of the combined CP Funding Facility.
57
As of March 31, 2010, the principal amount outstanding under the combined CP Funding Facility was $208.4 million and the Company continues to be in material compliance with all of the limitations and requirements of the CP Funding Facility. See Note 7 to our consolidated financial statements for more detail on the combined CP Funding Facility.
In December 2005, we entered into a senior secured revolving credit facility (as amended and restated, the “Revolving Credit Facility”), under which, as amended, the lenders agreed to extend credit to the Company. On January 22, 2010, we entered into an agreement to amend and restate the Revolving Credit Facility. The amendment and restatement of the Revolving Credit Facility, among other things, increased the size of the facility from $525 million to $690 million (comprised of $615 million in commitments on a stand-alone basis and an additional $75 million in commitments contingent upon the closing of the Allied Acquisition), extended the maturity date from December 28, 2010 to January 22, 2013 and modified pricing. As of March 31, 2010, there was $300.5 outstanding under the Revolving Credit Facility and the Company continues to be in material compliance with all of the limitations and requirements of the Revolving Credit Facility.
Prior to January 22, 2010, subject to certain exceptions, pricing on the Revolving Credit Facility was based on LIBOR plus 1.00% or on an “alternate base rate” (which was the highest of a prime rate, the federal funds rate plus 0.50%, or one month LIBOR plus 1.00%). After January 22, 2010, subject to certain exceptions, pricing under the Revolving Credit Facility is based on LIBOR plus an applicable spread of between 2.50% and 4.00% or on the “alternate base rate” plus an applicable spread of between 1.50% and 3.00%, in each case, based on a pricing grid depending upon our credit rating. See Note 7 to our consolidated financial statements for more detail on the Revolving Credit Facility.
In July 2006, through ARCC Commercial Loan Trust 2006, a vehicle serviced by our wholly owned subsidiary, ARCC CLO 2006 LLC (“ARCC CLO”), we completed a $400 million debt securitization (the “Debt Securitization”) and issued approximately $314 million principal amount of asset-backed notes (including revolving notes in an aggregate amount of up to $50 million, $46.2 million of which were drawn down as of March 31, 2010) (the “CLO Notes”) to third parties that were secured by a pool of middle market loans that have been purchased or originated by the Company. The CLO Notes are included in the March 31, 2010 consolidated balance sheet. We retained approximately $86 million of aggregate principal amount of certain BBB and non-rated securities in the Debt Securitization. During the first quarter of 2009, we repurchased $34.8 million of other certain CLO notes, bringing our total holdings of CLO Notes to $120.8 million (the “Retained Notes”).
The CLO Notes mature on December 20, 2019 and have a blended pricing of LIBOR plus 0.31%. As of March 31, 2010, there was $262.4 million outstanding under the Debt Securitization (excluding the Retained Notes). See Note 7 to our consolidated financial statements for more detail on the Debt Securitization.
In addition, as of March 31, 2010, we had a long-term counterparty credit rating from Standard & Poor’s Ratings Service of BBB, a long-term issuer default rating from Fitch Ratings of BBB and a long-term issuer rating of Ba1 from Moody’s Investor Service.
PORTFOLIO VALUATION
Investment transactions are recorded on the trade date. Realized gains or losses are computed using the specific identification method. Investments for which market quotations are readily available are typically valued at such market quotations. In order to validate market quotations, we look at a number of factors to determine if the quotations are representative of fair value, including the source and nature of the quotations. Debt and equity securities that are not publicly traded or whose market prices are not readily available (i.e., substantially all of our investments) are valued at fair value as determined in good faith by our board of directors, based on the input of our management and audit committee and independent valuation firms that have been engaged at the direction of the board to assist in the valuation of each portfolio investment without a readily available market quotation at least once during a trailing 12-month period, and under a valuation policy and a consistently applied valuation process. The valuation process is conducted at the end of each fiscal quarter, with approximately 50% (based on value) of our valuations of portfolio companies without readily available market quotations subject to review by an independent valuation firm each quarter.
As part of the valuation process, we may take into account the following types of factors, if relevant, in determining the fair value of our investments: the enterprise value of a portfolio company (an estimate of the total fair value of the
portfolio company’s debt and equity), the nature and realizable value of any collateral, the portfolio company’s ability to make payments and its earnings and discounted cash flow, the markets in which the portfolio company does business, a comparison of the portfolio company’s securities to publicly traded securities, changes in the interest rate environment and the credit markets generally that may affect the price at which similar investments may be made in the future and other relevant factors. When an external event such as a purchase transaction, public offering or subsequent equity sale occurs, we use the pricing indicated by the external event to corroborate our valuation.
In addition, changes in the market environment, such as inflation, and other events that may occur over the life of the investments may cause the gains or losses ultimately realized on these investments to be different than would be realized based on the valuations currently assigned. See the factors set forth in “Risk Factors” included in our annual report on Form 10-K for the fiscal year ended December 31, 2009, including the Risk Factor entitled “Risk Factors—Risks Relating to our Investments—Price declines and illiquidity in the corporate debt markets have adversely affected, and may continue to adversely affect, the fair value of our portfolio investments, reducing our net asset value through increased net unrealized depreciation.”
· The board of directors discusses valuations and determines the fair value of each investment in our portfolio without a readily available market quotation in good faith based on the input of our management and audit committee and independent valuation firms.
Effective January 1, 2008, the Company adopted Accounting Standards Codification (“ASC”) 820-10 (previously Statement of Financial Accounting Standards No. 157, Fair Value Measurements (“SFAS 157”)), which expands the application of fair value accounting for investments (see Note 8 to the consolidated financial statements).
OFF BALANCE SHEET ARRANGEMENTS
As of March 31, 2010 and December 31, 2009, the Company had the following commitments to fund various revolving senior secured and subordinated loans to its portfolio companies (in millions):
106.8
136.8
(22.9
(37.2
83.9
99.6
(9.4
(4.0
(16.2
71.8
79.4
Of the total commitments as of March 31, 2010, $49.0 million extend beyond the maturity date of our Revolving Credit Facility. Included within the total commitments as of March 31, 2010 are commitments to issue up to $25.8 million in standby letters of credit through a financial intermediary on behalf of certain portfolio companies. Under these arrangements, the Company would be required to make payments to third parties if the portfolio companies were to default on their related payment obligations. As of March 31, 2010, the Company had $14.9 million in standby letters of credit issued and outstanding on behalf of the portfolio companies, of which no amounts were recorded as a liability. Of these letters of credit, $0.2 million expire in June 2010, $3.3 million expire in July 2010, $4.7 million expire in September 2010, $0.3 million expire in December 2010, $0.8 million expire in January 2011, $4.1 million expire in February 2011 and $1.5 million expire in March 2011.
As of March 31, 2010 and 2009, the Company was a party to subscription agreements to fund equity investments in private equity investment partnerships. The Company’s obligation to fund these commitments are substantially all at the discretion of the Company as follows (in millions):
428.3
414.5
415.4
See Note 10 to the consolidated financial statements for more information on the Company’s commitment to the Senior Secured Loan Fund.
RECENT DEVELOPMENTS
On April 1, 2010, we consummated the acquisition of Allied Capital (the “Allied Acquisition”), becoming the largest business development company measured by market capitalization and total portfolio companies under management as of April 1, 2010. Allied Capital stockholders received 0.325 shares of our common stock for each share of Allied Capital common stock held immediately prior to the merger (subject to adjustment for fractional shares to be paid in cash), resulting in approximately 58.5 million newly issued shares of our common stock. At closing, we repaid in full the $138 million of remaining amounts outstanding on Allied Capital’s $250 million senior secured term loan. We also assumed all of Allied Capital’s other outstanding debt obligations, including approximately $745 million in Allied Capital’s publicly traded unsecured notes. As previously disclosed, the amount available for borrowing under our senior secured revolving credit facility (as amended and restated, the “Revolving Credit Facility”) increased by $75 million to $690 million with the closing of the Allied Acquisition.
Since March 31, 2010, we increased the size of the Revolving Credit Facility under the “accordion” feature by an additional $25 million and received an additional $75 million in additional commitments upon the closing of the Allied Acquisition. Subject to customary closing conditions, we expect to receive an additional commitment of $25 million, which will bring the total amount available for borrowing under the Revolving Credit Facility to $740 million.
As of May 6, 2010 we had made $95 million of investments since March 31, 2010. Of these investments, 75% were in second lien senior secured debt and 25% were in first lien senior secured debt. All of the investments were floating rate with a weighted average spread at amortized cost of 14%. As of May 6, 2010, we had exited $143 million of investments since March 31, 2010. Of these investments, 67% were in first and second lien senior secured debt, 28% were in senior subordinated debt and 5% was in the Senior Secured Loan Fund. Of the $143 million of investments, 57% were in fixed rate investments with a weighted average yield at amortized cost of 13%. Of the remaining investments, 32% were in floating rate investments with a weighted average spread at amortized cost of 13%. Of the $143 million of investments exited since March 31, 2010, $27 million were investments originated by Allied Capital.
In addition, as of May 6, 2010, we had an investment backlog and pipeline of $72 million and $980 million, respectively. We expect to syndicate a portion of these investments and commitments to third parties. The consummation of
60
any of the investments in this backlog and pipeline depends upon, among other things: satisfactory completion of our due diligence investigation of the prospective portfolio company, our acceptance of the terms and structure of such investment and the execution and delivery of satisfactory transaction documentation. We cannot assure you that we will make any of these investments or that we will syndicate any portion of such investments and commitments.
Finally, as of May 7, 2010, we had identified between $300 million and $600 million of potential exit opportunities for the second quarter of 2010, which is higher than our normal level of exits. Approximately $400 million of these exits are portfolio investments acquired in connection with the Allied Acquisition. However, we cannot assure you that any of these exits will be made.
Item 3. Quantitative and Qualitative Disclosures About Market Risk.
We are subject to financial market risks, including changes in interest rates and the valuations of our investment portfolio.
Interest Rate Risk
Interest rate sensitivity refers to the change in earnings that may result from changes in the level of interest rates. Because we fund a portion of our investments with borrowings, our net investment income is affected by the difference between the rate at which we invest and the rate at which we borrow. As a result, there can be no assurance that a significant change in market interest rates will not have a material adverse effect on our net investment income.
As of March 31, 2010, approximately 51% of the investments at fair value in our portfolio were at fixed rates while approximately 33% were at variable rates and 16% were non-interest earning. Additionally, as of March 31, 2010, 21% of the investments at fair value or 65% of the investments at fair value with variable rates contain interest rate floors. The Debt Securitization, the CP Funding Facility and the Revolving Credit Facility all feature variable rates.
We regularly measure our exposure to interest rate risk. We assess interest rate risk and manage our interest rate exposure on an ongoing basis by comparing our interest rate sensitive assets to our interest rate sensitive liabilities. Based on that review, we determine whether or not any hedging transactions are necessary to mitigate exposure to changes in interest rates.
In October 2008, we entered into a two-year interest rate swap agreement for a total notional amount of $75 million. Under the interest rate swap agreement, we will pay a fixed interest rate of 2.985% and receive a floating rate based on the prevailing three-month LIBOR.
While hedging activities may mitigate our exposure to adverse fluctuations in interest rates, certain hedging transactions that we may enter into in the future, such as interest rate swap agreements, may also limit our ability to participate in the benefits of lower interest rates with respect to our portfolio investments.
Based on our March 31, 2010 balance sheet, the following table shows the impact on net income of base rate changes in interest rates assuming no changes in our investment and borrowing structure and reflecting the effect of our interest rate swap agreement described above and in Note 11 of the consolidated financial statements (in millions):
Basis Point Change
Interest Income
Interest Expense
Net Income
Up 300 basis points
12.1
20.9
(8.8
Up 200 basis points
6.8
13.9
(7.1
Up 100 basis points
7.0
Down 100 basis points
(2.0
Down 200 basis points
Down 300 basis points
Based on our December 31, 2009 balance sheet, the following table shows the impact on net income of base rate changes in interest rates assuming no changes in our investment and borrowing structure and reflecting the effect of our interest rate swap agreement described above and in Note 11 of the consolidated financial statements (in millions):
17.6
26.8
(9.2
11.2
17.9
(6.7
8.9
(3.3
(2.1
(2.9
(3.1
(4.1
Item 4. Controls and Procedures.
As of the end of the period covered by this report, we carried out an evaluation, under the supervision and with the participation of our management, including our President and Chief Financial Officer, of the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rule 13a-15 of the Securities Exchange Act of 1934). Based on that evaluation, our President and our Chief Financial Officer have concluded that our current disclosure controls and procedures are effective in timely alerting them of material information relating to the Company that is required to be disclosed by us in the reports we file or submit under the Securities Exchange Act of 1934.
There have been no changes in our internal control over financial reporting during the three months ended March 31, 2010 that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.
PART II — OTHER INFORMATION
Item 1. Legal Proceedings.
A number of lawsuits were filed by stockholders of Allied Capital challenging the Allied Acquisition. These include: (1) In re Allied Capital Corporation Shareholder Litigation, Case No. 322639V (Circuit Court for Montgomery County, Maryland) (the “Maryland action”); (2) Sandler v. Walton, et al., Case No. 2009 CA 008123 B (Superior Court for the District of Columbia), which was consolidated with Wienecki v. Allied Capital Corporation, et al., Case No. 2009 CA 008541 B (Superior Court for the District of Columbia) (the “D.C. Superior Court action”); and (3) Ryan v. Walton, et al., Case No. 1:10-CV-000145-RMC (United States District Court for the District of Columbia) (the “D.C. Federal Court action”). The suits were filed after the entry by the Company, Allied Capital and ARCC Odyssey Corp. (“Merger Sub”) into the Agreement and Plan of Merger (the “Merger Agreement”) and the announcement of the Allied Acquisition on October 26, 2009, either as putative stockholder class actions, shareholder derivative actions or both. All of the actions asserted similar claims against the members of Allied Capital’s board of directors alleging that the Merger Agreement was the product of a flawed sales process and that Allied Capital’s directors breached their fiduciary duties by agreeing to a structure that was not designed to maximize the value of Allied Capital’s stockholders, by failing to adequately value and obtain fair consideration for Allied Capital’s shares and by improperly rejecting competing offers by Prospect Capital Corporation. They also claimed that the Company (and, in several cases, Merger Sub, and, in several other cases, Allied Capital) aided and abetted the directors’ alleged breaches of fiduciary duties. In addition, in Ryan v. Walton, et al., the plaintiffs also alleged violations of Rule 14a-9(a) under the Securities Exchange Act of 1934. All of the actions demanded, among other things, a preliminary and permanent injunction enjoining the merger and rescinding the transaction or any part thereof that may be implemented.
Item 1A. Risk Factors.
In addition to the other information set forth in this report, you should carefully consider the factors discussed in Part I “Item 1A. Risk Factors” in our Annual Report on Form 10-K for the fiscal year ended December 31, 2009, which could materially affect our business, financial condition and/or operating results. The risks described in our Annual Report on Form 10-K are not the only risks facing our Company. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially and adversely affect our business, financial condition and/or operating results.
Item 2. Unregistered Sales of Equity Securities and Use of Proceeds.
We did not sell any securities during the period covered in this report that were not registered under the Securities Act of 1933.
We did not repurchase any shares issued during the period covered in this report.
Item 3. Defaults Upon Senior Securities.
Not applicable.
Item 4. Submission of Matters to a Vote of Security Holders.
(a) At 3:00 p.m. (Eastern Time) on March 26, 2010, we held a special meeting of our stockholders at The Westin Grand, located at 2350 M Street Northwest, Washington, D.C., United States 20037 (the “Special Meeting”).
(b) The issued and outstanding shares of our stock entitled to vote at the Special Meeting consisted of 130,944,674 shares of common stock outstanding on the record date, February 2, 2010. Our common stockholders of voted on two matters at the Special Meeting, both of which were approved. The final voting results from the Special Meeting were as follows:
(1) A proposal to approve the issuance of the shares of Ares Capital common stock to be issued pursuant to the Agreement and Plan of Merger, dated as of October 26, 2009, among us, Allied Capital and ARCC Odyssey Corp., our wholly owned subsidiary.
FOR
AGAINST
ABSTAIN
88,554,166
627,518
278,690
(2) A proposal to approve the adjournment of the Special Meeting, if necessary or appropriate, to solicit additional proxies if there are not sufficient votes at the time of the Special Meeting to approve the foregoing proposal.
84,315,454
4,551,667
593,253
Item 5. Other Information.
None.
Item 6. Exhibits.
EXHIBIT INDEX
Number
Description
Articles of Amendment and Restatement, as amended(1)
Second Amended and Restated Bylaws(2)
3.3
First Amendment to Second Amended and Restated Bylaws(3)
4.1
Form of Stock Certificate(4)
Amended and Restated Purchase and Sale Agreement, dated as of January 22, 2010, among Ares Capital Corporation, as seller, and Ares Capital CP Funding Holdings LLC, as purchaser(5)
Second Tier Purchase and Sale Agreement, dated as of January 22, 2010, among Ares Capital CP Funding Holdings LLC, as seller, and Ares Capital CP Funding LLC, as purchaser(5)
10.3
Amended and Restated Sale and Servicing Agreement, dated as of January 22, 2010, among Ares Capital CP Funding LLC, as borrower, Ares Capital Corporation, as servicer, Wachovia Bank, National Association, as note purchaser, U.S. Bank National Association, as trustee and collateral custodian, and Wells Fargo Securities, LLC, as agent(5)
Senior Secured Revolving Credit Agreement, dated as of December 28, 2005 and amended and restated as of January 22, 2010, among Ares Capital Corporation, the lenders party thereto and JPMorgan Chase Bank, N.A., as Administrative Agent(5)
10.5
Amendment No. 1 to the Amended and Restated Sale and Servicing Agreement, dated as of May 6, 2010, among Ares Capital CP Funding LLC, as borrower, Ares Capital Corporation, as servicer, Wachovia Bank, National Association, as note purchaser, U.S. Bank National Association, as trustee and collateral custodian, and Wells Fargo Securities, LLC, as agent*
31.1
Certification by President pursuant to Exchange Act Rule 13a-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002*
31.2
Certification by Chief Financial Officer pursuant to Exchange Act Rule 13a-14(a), as adopted pursuant to Section 302 of the Sarbanes-Oxley Act of 2002*
32.1
Certification by President and Chief Financial Officer pursuant to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the Sarbanes-Oxley Act of 2002*
*
Filed herewith
Incorporated by reference to Exhibit 1 to the Company’s Registration Statement under the Securities Act of 1933, as amended, on Form N-14 (File No. 333-163760), filed on December 16, 2009.
Incorporated by reference to Exhibit 3.1 to the Company’s Form 8-K (File No. 814-00663), filed on February 27, 2009.
Incorporated by reference to Exhibit 3.1 to the Company’s Form 8-K (File No. 814-00663), filed on April 30, 2010.
Incorporated by reference to Exhibit (d) to the Company’s pre-effective Amendment No. 2 to the Registration Statement under the Securities Act of 1933, as amended, on Form N-2 (File No. 333-114656), filed on September 28, 2004.
Incorporated by reference to Exhibits 10.1 through 10.4, as applicable, to the Company’s Form 8-K (File No. 814-00663), filed on January 25, 2010.
SIGNATURES
Pursuant to the requirements of the Securities Exchange Act of 1934, the registrant has duly caused this report to be signed on its behalf by the undersigned thereunto duly authorized.
Dated: May 10, 2010
By
/s/ Michael J. Arougheti
Michael J. Arougheti
President
/s/ Richard S. Davis
Richard S. Davis
Chief Financial Officer
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