A License to Send and Print Money

11/16/2009 11:00 am EST


Paul Larson

Editor, Morningstar StockInvestor

Paul Larson, editor of Morningstar StockInvestor, and analyst Brett Horn like Western Union, which abandoned telegrams to focus on its lucrative money-transfer business.

Western Union (NYSE: WU) is positioned for long-term success because of the combination of industry growth, market opportunities, and its competitive advantages.

WU provides domestic and international money transfers through its global network of 400,000 outside agents. It is the largest money-transfer company in the world, with almost 20% market share in international remittances, and it is one of only two companies with a truly global agent network, MoneyGram being the other.

About 200 million people live outside their country of origin, and the growth in the worldwide immigrant population has driven money-transfer growth of about 8% annually. To send money home, [immigrants] often use money transmitters like WU, which have networks of outside agents that can collect and distribute cash across the globe.

WU is the clear leader in an industry where size confers significant advantages. The money-transfer business is scalable because the incremental costs of processing additional transactions are minimal. This gives WU a marked cost advantage over its rivals. Finally, the WU brand is the most recognized in the industry, and WU’s size allows it to invest more heavily to maintain this advantage.

We think WU can expand its already dominant industry position. WU processes almost five times the transactions of its closest competitor, but only has about 20% share. This leaves the company plenty of room to grow as the industry consolidates, and it is actively using its cost advantages to price out smaller competitors.

Further, substantial opportunities exist to expand in markets that Western Union has still barely penetrated. For instance, WU estimates that the Asia Pacific region accounts for 19% of the global money-transfer market, but this area accounts for only 7% of the company’s revenue.

As the largest and most profitable money-transfer player by a wide margin, we think WU is well positioned to come out on the back end of the global economic downturn in a stronger position. Its smaller competitors are only borderline-profitable and many won’t survive, allowing WU to gain further share.

Our fair value estimate is $28 per share. (The stock closed below $19.50 Friday—Editor.) We expect revenue to drop materially in 2009 and then start to recover in 2010, before returning to growth rates in line with the company’s historical experience from 2011 to 2013. The net result is a 4% compound annual growth rate from 2008 to 2013. Despite a difficult environment, it continues to generate over $1.2 billion in free cash flow annually.

We expect margin pressure in 2009 as a result of lower average money-transfer amounts, the ongoing shift to the lower-margin international business, and negative operating leverage. But the company’s cost-control efforts should largely offset these factors. We expect margins to improve in the following years, reaching 28% by 2013.

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