Looking ahead to 2025, market observers are beginning to plan strategies based on a return to pro-business policies and deregulation. The prospect of a decline inflation and lower interest rates promise easing debt pressures, which will be beneficial for lenders and other financial services companies.
This will lead investors to turn to BDCs, business development companies. These are investment companies operating outside the traditional banking system but making capital and credit available to small and medium-sized businesses. This is a vital niche that supports one of the key engines of the U.S. economy.
One of the key characteristics of BDCs, which makes them attractive to their investors, is their propensity to pay high dividends. These companies offer capital, which means they have to provide it – and their investors expect a return. Dividends provide a convenient way for BDCs to return capital to their own investors. It's a trait that makes these companies a solid addition to any set of dividend stocks in your portfolio.
Wells Fargo analyst Finian O'Shea pays particular attention to this sector. In a recent report, O'Shea highlighted the potential of BDCs, saying: “BDCs appear to offer an improved relative entry point into the world of balance sheet finance today. A development scenario of higher and longer growth with a strong economy, for example, could re-emerge for an attractive configuration. This assumes that credit losses are benign, which is generally true, but with increasing dispersion.
Goes into Details, Wells Fargo Analyst Makes It Clear He Likes Two BDCs dividend stocks in particular – including one that yields up to 15%, a powerful return by any standard. We used the TipRanks Platform to find details about these two BDCs. Let's take a closer look.
Track Growth Financial Company(RWAY)
The first stock on our list is Runway Growth Finance Corporation, a BDC focused on low-dilutive venture capital. Runway's business is particularly focused on venture debt, providing capital support to new companies in the technology, healthcare and consumer niches. The company's strategy, by avoiding dilution of client companies' shares, allows the founders and early investors of these companies to retain their ownership, a key point for many startups.
Runway Growth has been backing startups since 2015 and has backed more than 60 companies during that time, with 91 transactions totaling some $3 billion in loan commitments. Target companies generally match a profile; they are backed by venture capital or private equity, typically have $10 million to $20 million in annual revenue with strong year-over-year growth, and seek loans between $10 million and $75 million. million dollars. Runway describes its mission as supporting passionate entrepreneurs in creating innovative businesses.
Regarding the dividend, Runway last declared payment for its common stock on November 5 at a price of 40 cents per share. The dividend was paid on December 2. Its annualized rate of $1.60 per share gives a forward return of more than 15.3%.
The company's dividend has been supported by its recent financial results. In 3Q24, Runway reported total investment income of $36.7 million, although this figure missed expectations by $1.32 million. Ultimately, Runway's net investment income came to $15.9 million, which translates to 41 cents per share. Although this missed forecasts by 4 cents per share, it was enough to fully cover the regular dividend payment.
In his article on this company for Wells Fargo, analyst O'Shea notes that this BDC is near the bottom of a cycle – and that the company's current situation offers a good buying opportunity. He writes: “RWAY shares are lagging the industry. of approximately 18% on a year-to-date total return basis and trades at 0.78x book value, and could be re-rated if there is a change from what is likely a “peak pessimism and uncertainty” with what we consider to be a more right-wing consensus. NOI Estimate… We are upgrading RWAY (from EW to OW) as we believe sentiment has likely bottomed and its valuation has more upside potential than downside risk.
Along with his upgraded Overweight (Buy) rating, O'Shea sets an $11 price target on the stock, implying a 5% gain in the coming months. Add in the dividend yield and the one-year total return on these stocks can climb above 20%. (To see O'Shea's track record, Click here)
There are only 3 recent analyst reviews on record for RWAY stock, and they include 2 Buys to 1 Hold for a Moderate Buy consensus rating. Shares have a current price of $10.44, and their average price target of $11.08 suggests a one-year gain of 6%. (See RWAY Stock Forecast)
Ares Capital Corporation(ARCC)
The next stock on our BDC list is Ares Capital Corporation, a leading credit provider to the US small business sector. This is an important niche in financial services, as small and medium-sized businesses are the traditional engine of the U.S. economy. Ares Capital Corporation has 20 years of experience in the field and provides an essential service to its corporate clients: it provides them with the resources they need to survive.
Ares Capital Corporation has, over its two decades of operation, built up a significant portfolio, with an estimated fair value of $25.9 billion. This portfolio is made up of 535 companies, themselves supported by 240 private equity sponsors. Digging deeper into the data, we see that almost 53% of the portfolio is comprised of senior secured loans. The senior second lien secured loans and preferred equity securities each represent approximately 10.5% of the total. By sector composition, Ares Capital's portfolio includes just over a quarter of software and services companies; health care service companies represent 12.8% and business and professional services companies 10.7% of the total.
The return on this portfolio constitutes Ares' revenue stream, which during the most recently reported quarter, 3Q24, amounted to total quarterly investment income of $775 million. This number increased more than 18% year over year and is almost $1.7 million better than expected. The company's net income, non-GAAP EPS of 59 cents, was 1 cent lower than expected.
Despite the lack of EPS, the company's earnings still easily cover the dividend. Ares Capital Corp. reported a common stock payment of 48 cents on October 30, for payment on December 30. The annualized rate of $1.92 per common share yields a substantial forward yield of approximately 8.7%.
O'Shea, in reviewing this stock, is impressed by Ares Capital's strong performance and the high quality of its portfolio. He said of the company: “In a market where many more mid-range performers are at or near book value, ARCC gets the reliability award, which it has demonstrated once again through to best-in-class credit performance throughout the Fed's campaign. Credit performance since the start of 2024 and since 2022 are both #1 in our coverage, where gains from equity investments, including Heelstone, have helped cover credit losses…”
Describing the opportunity here, the analyst adds: “Thematically, we view a lower base rate environment as a likely positive for ARCC, which has an impressive track record in junior/structured credit. Lower rates could lead to an expansion of this opportunity available to ARCC.
This is another stock getting an upgrade from the Wells Fargo analyst; its Overweight (Buy) rating here is an increase from Equal Weight. O'Shea's price target of $23 suggests the stock will gain 4% by this time next year. With the dividend yield, ARCC's total return, for the coming year, could reach almost 13%.
The Street in general likes this stock, as evidenced by the Strong Buy consensus rating – a rating backed by 10 reviews with a split of 8 Buys to 2 Holds. Shares are priced at $22.10, and the average target price of $22.40 implies they will remain range-bound for the time being. (See ARCC Stock Forecast)
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Disclaimer: The opinions expressed in this article are solely those of the analyst featured. The content is intended to be used for informational purposes only. It is very important to do your own analysis before making any investment.