Western Union (WU) came to my attention where I was prowling the internet in search of ideas. It seems that a number of value investors have taken position in the company, believing that it is significantly undervalued. That certainly got my attention.
WU is a good vehicle for investing in the secular growth of money transfer between migrant workers and their home country. Many blue collar migrants typically do not have bank accounts and have to use other means of transferring money back home to their families. WU fulfills that niche. In America, it is the hispanic workers that consistently need to send money home. In Singapore and Hong Kong, there is a similar trend in that the filipino domestic helpers and foreign construction laborers often need to send money home. As a matter of coincidence, a WU branch popped up here in my neighbourhood in Singapore, which was certainly surprising. Just a little of tidbit for the financial history junkies. WU is a very old company. It dates back to 1851 and was first traded on the NYSE in 1865. In fact, it was one of the original 11 companies included on the fist Dow Jones average listing.
Business Model
WU is the largest global money transfer and payment service operating, with a network of 510,000 agent locations in over 200 countries, 90% of which are outside of the United States. WU handled US$79bn in remittance volume in 2012, over 90% of which were done in the form of walk-in cash-to-cash transactions.
In this business, network is king. The more outlets you have, the likely it is for consumers to use your services. Since money sent is typically received at another WU branch, having more branches increases the convenience of consumers. Branding and reputation is another crucial differentiating factor. Consumers are only going to use money transfer agents they can trust. Being the industry leader here can bestow one with multiple benefits.
Generally WU operates through third party agents. The agents provides the physical location and staff to complete the transfers while WU provides the equipment, training and back-end transactions. Agents are paid a commission based on a percentage of revenue. For most agents, the cost of providing the physical infrastructure is typically covered by their primary business, which may be postal service, banking, travel, retail and etc.
Revenue Generation
WU separates its business into four different segments:
(i) Consumer-to-Consumer (81% of revenue)
Revenue in this segment is derived from transaction fees charged to consumers to transfer money. The money transfer can involve different send and receive currencies. Agents accept cash and sometimes debit cards to initiate a transfer. The receiver can choose to receive the money directly into their bank account, a stored value card, or through the issuance of a money order. Recipients generally do not pay a fee. The fee paid by the sender is determined based on the principal amount of the transaction and the send and receive locations. Revenue is also generated from the FX spread charged by WU to the consumer.
(ii) Consumer-to-Business (11% of revenue)
The C2B segment provides fast and convenient option to make one-time or recurring payment from consumers to businesses and other organizations, including utilities, auto finance companies, mortgage servicers, financial service providers, government agencies and other businesses. Consumers may make a cash payment at an agent or owned location, or may make an electronic payment over the phone or on the internet using their credit or debit card, through the automated clearing house system or via a wire transfer. Revenue is derived from transaction fees paid by the consumer.
(iii) Business Solutions (6% of revenue)
The business solutions segment facilitiate payment and foreign exchange solutions for cross-border, cross-currency transaction. The target audience are small and medium size enterprises. The majority of revenue generated in this segment is derived from the FX spread between what WU charges its customer and what is actually transacts at.
(iv) Others (2%)
This includes money order, prepaid services, mobile money transfer and other businesses and services.
The percentage breakdown of the revenue between the segments has remained relatively stable over time. The C2C business has always been the dominant part of the company. Let's take a look at the geographical breakdown and growth rates of the C2C segment.
WU is a global play on regional and cross border monetary transactions. The business is well-diversified geographically and covers a very wide area. The areas that are seeing across above average growth include APAC and LACA (Latin America and Central America). Their online money transfer business is growing very rapidly, but this to a certain extent cannibalises their brick-and-mortar operation.
The remittance market is highly fragmented. It is estimated that Western Union, the market leader, has a 17% market share, followed by MoneyGram at 4.4%, Ria Envia at 2% and DolEx at 1%. The other formal channels accounts for 36% of transactions and the remaining 40% of transactions goes through informal channels.
Moneygram is their main competitor, and also listed in the US. Comparing agent growth rates between WU and Moneygram, WU has lagged its competitor since 2010. Moneygram unfortunately does not disclose total no. of C2C transactions. Nonetheless, WU has been experiencing slowing transactional volume growth in the last few years. The World Bank forecasts that global remittance market will growth at mid-single digits over the next years. Onward to the financial statements.
WU is mostly a mature business, with revenue growing at low to mid single digits. I expect revenue growth for WU to be in line with World Bank global remittance growth estimates, growing at flattish to low single digits. EPS growth has largely outpaced revenue growth because they have been gradually shrinking their shareholder base through share buybacks. While margins have mostly been stable I expect them to fall this year. In fact, the 1Q2013 results has already shown that. Money transfer is a commodity type business with multiple players. WU faces competition not only from other money transfer agents such as MoneyGram, but also faces competition from banks, credit unions, phone payment systems, etc. The industry is fairly fragmented and no single player has pricing power. In 4Q2012, WU made fee reductions in certain key money transfer corridors in order to gain market share. The management expects to maintain these reduction and may make further fee cuts in 2013. WU is the market leader in the industry. Smaller competitors will be compelled to follow the price cuts. Any market share gains by WU is unlikely to be significant. Instead, by initiating price cuts, what WU has done is to lower margins across the board for everyone. Unless weaker operators are driven out of business, lowering the intensity of competition, the price cuts are not going to do anyone any good.
Regular readers should be quite familiar with this by now. WU generates significant free cashflow. Capex for the business is minimal since they do not usually own and operate the physical stores. While there have been cases of WU buying over some of their agents, this has not happened on a big scale. The WU management has put their free cashflow to good use by buying back shares. In this case, net profit can be used as a rough approximation to free cashflow. At last Friday's closing price of $16.65, WU trades at a PE of 10x, FCF yield of about 10% and a dividend yield of 2.5-3%. While I do think this is cheap, I do not feel comfortable including WU in my portfolio for reasons which I will elaborate below.
Risks to the Business Model
(i) Over the long-term, there are emerging alternatives to cash money transfer, such as online mobile payments. The electronic payment space is evolving very rapidly. Many new technology are springing up, trying to take the place of cash and credit cards in making payments. It is quite possible that new technology will emerge to challenge the place of traditional money transfer models.
(ii) Traditional money transfer agents appeals to the under banked population. Consumer with bank accounts normally refer to their banks for making cross border money transfers. As the general population becomes more affluent, WU could lose their customers when they start to qualify and sign up for bank accounts.
(iii) Margin are going to fall in the near term. This is a commodity type business. When margins fall in a fragmented, commodity-like industry, they tend to stay depressed.
(iv) There are signs that in some countries, regulators are going to enforce a non-exclusive money transfer agent model. Currently, it is mandatory that WU's agent do not use the services of their competitors. If those regulations are enforced, WU will be forced to share their agents with their competitors.
Conclusion
Over an investment horizon of 3-5 years, it is quite possible that WU will face a worse competitive environment. I do not think one has a sufficient margin of safety to buy WU at these levels. However, if WU falls to 8x PE, I might revisit my thesis.
WU is a good vehicle for investing in the secular growth of money transfer between migrant workers and their home country. Many blue collar migrants typically do not have bank accounts and have to use other means of transferring money back home to their families. WU fulfills that niche. In America, it is the hispanic workers that consistently need to send money home. In Singapore and Hong Kong, there is a similar trend in that the filipino domestic helpers and foreign construction laborers often need to send money home. As a matter of coincidence, a WU branch popped up here in my neighbourhood in Singapore, which was certainly surprising. Just a little of tidbit for the financial history junkies. WU is a very old company. It dates back to 1851 and was first traded on the NYSE in 1865. In fact, it was one of the original 11 companies included on the fist Dow Jones average listing.
WU is the largest global money transfer and payment service operating, with a network of 510,000 agent locations in over 200 countries, 90% of which are outside of the United States. WU handled US$79bn in remittance volume in 2012, over 90% of which were done in the form of walk-in cash-to-cash transactions.
In this business, network is king. The more outlets you have, the likely it is for consumers to use your services. Since money sent is typically received at another WU branch, having more branches increases the convenience of consumers. Branding and reputation is another crucial differentiating factor. Consumers are only going to use money transfer agents they can trust. Being the industry leader here can bestow one with multiple benefits.
Generally WU operates through third party agents. The agents provides the physical location and staff to complete the transfers while WU provides the equipment, training and back-end transactions. Agents are paid a commission based on a percentage of revenue. For most agents, the cost of providing the physical infrastructure is typically covered by their primary business, which may be postal service, banking, travel, retail and etc.
Revenue Generation
WU separates its business into four different segments:
(i) Consumer-to-Consumer (81% of revenue)
Revenue in this segment is derived from transaction fees charged to consumers to transfer money. The money transfer can involve different send and receive currencies. Agents accept cash and sometimes debit cards to initiate a transfer. The receiver can choose to receive the money directly into their bank account, a stored value card, or through the issuance of a money order. Recipients generally do not pay a fee. The fee paid by the sender is determined based on the principal amount of the transaction and the send and receive locations. Revenue is also generated from the FX spread charged by WU to the consumer.
(ii) Consumer-to-Business (11% of revenue)
The C2B segment provides fast and convenient option to make one-time or recurring payment from consumers to businesses and other organizations, including utilities, auto finance companies, mortgage servicers, financial service providers, government agencies and other businesses. Consumers may make a cash payment at an agent or owned location, or may make an electronic payment over the phone or on the internet using their credit or debit card, through the automated clearing house system or via a wire transfer. Revenue is derived from transaction fees paid by the consumer.
(iii) Business Solutions (6% of revenue)
The business solutions segment facilitiate payment and foreign exchange solutions for cross-border, cross-currency transaction. The target audience are small and medium size enterprises. The majority of revenue generated in this segment is derived from the FX spread between what WU charges its customer and what is actually transacts at.
(iv) Others (2%)
This includes money order, prepaid services, mobile money transfer and other businesses and services.
The percentage breakdown of the revenue between the segments has remained relatively stable over time. The C2C business has always been the dominant part of the company. Let's take a look at the geographical breakdown and growth rates of the C2C segment.
| C2C revenue as % of total | 2011 | 2012 | C2C revenue growth | 2011 | 2012 |
| Europe and CIS | 24.0% | 22.0% | Europe and CIS | 3.0% | -6.0% |
| North America | 22.0% | 20.0% | North America | 3.0% | -3.0% |
| Middle East and Africa | 15.0% | 15.0% | Middle East and Africa | 4.0% | 3.0% |
| APAC | 12.0% | 12.0% | APAC | 10.0% | 3.0% |
| LACA | 9.0% | 9.0% | LACA | 7.0% | 3.0% |
| Online | 2.0% | 3.0% | Online | 37.0% | 24.0% |
WU is a global play on regional and cross border monetary transactions. The business is well-diversified geographically and covers a very wide area. The areas that are seeing across above average growth include APAC and LACA (Latin America and Central America). Their online money transfer business is growing very rapidly, but this to a certain extent cannibalises their brick-and-mortar operation.
The remittance market is highly fragmented. It is estimated that Western Union, the market leader, has a 17% market share, followed by MoneyGram at 4.4%, Ria Envia at 2% and DolEx at 1%. The other formal channels accounts for 36% of transactions and the remaining 40% of transactions goes through informal channels.
| 2007 | 2008 | 2009 | 2010 | 2011 | 2012 | |
| WU Agents | 335,000 | 375,000 | 410,000 | 445,000 | 485,000 | 510,000 |
| Growth (%) | N.A. | 11.9% | 9.3% | 8.5% | 9.0% | 5.2% |
| No of C2C Transactions (m) | 167.7 | 188.1 | 196.1 | 213.7 | 225.8 | 231.0 |
| Growth (%) | N.A. | 12.2% | 4.3% | 9.0% | 5.6% | 2.3% |
| Moneygram Agents | 143,000 | 176,000 | 190,000 | 227,000 | 267,000 | 310,000 |
| Growth (%) | N.A. | 23.1% | 8.0% | 19.5% | 17.6% | 16.1% |
Moneygram is their main competitor, and also listed in the US. Comparing agent growth rates between WU and Moneygram, WU has lagged its competitor since 2010. Moneygram unfortunately does not disclose total no. of C2C transactions. Nonetheless, WU has been experiencing slowing transactional volume growth in the last few years. The World Bank forecasts that global remittance market will growth at mid-single digits over the next years. Onward to the financial statements.
| Income Statement (US$m) | 2007 | 2008 | 2009 | 2010 | 2011 | 2012 |
| Transaction fees | 3,989.8 | 4,240.8 | 4,036.2 | 4,055.3 | 4,220.2 | 4,210.0 |
| FX revenue | 771.3 | 896.3 | 910.3 | 1018.8 | 1151.2 | 1332.7 |
| Other revenue | 139.1 | 144.9 | 137.1 | 118.6 | 120.0 | 122.1 |
| Revenue | 4,900.2 | 5,282.0 | 5,083.6 | 5,192.7 | 5,491.4 | 5,664.8 |
| COGs | (2,808.4) | (3,093.0) | (2,874.9) | (2,978.4) | (3,102.0) | (3,194.2) |
| Gross profit | 2,091.8 | 2,189.0 | 2,208.7 | 2,214.3 | 2,389.4 | 2,470.6 |
| Sales and marketing expenses | (769.8) | (834.0) | (926.0) | (914.2) | (1,004.4) | (1,140.6) |
| EBIT | 1,322.0 | 1,355.0 | 1,282.7 | 1,300.1 | 1,385.0 | 1,330.0 |
| Interest income | 79.4 | 45.2 | 9.4 | 2.8 | 5.2 | 5.5 |
| Interest expense | (189.0) | (171.2) | (157.9) | (169.9) | (181.9) | (179.6) |
| Derivative gains/losses | 8.3 | (6.9) | (2.8) | (2.5) | 14.0 | 0.5 |
| Other income net | 1.7 | 16.6 | 0.1 | 14.7 | 52.3 | 12.4 |
| Profit before Tax | 1,222.4 | 1,238.7 | 1,131.5 | 1,145.2 | 1,274.6 | 1,168.8 |
| Tax | (365.1) | (319.7) | (282.7) | (235.3) | (109.2) | (142.9) |
| Net Profit | 857.3 | 919.0 | 848.8 | 909.9 | 1,165.4 | 1,025.9 |
| No. of shares (diluted) | 773 | 738 | 701 | 669 | 634 | 607 |
| EPS | 1.11 | 1.24 | 1.21 | 1.36 | 1.84 | 1.69 |
| Revenue growth rate | N.A. | 7.8% | -3.8% | 2.1% | 5.8% | 3.2% |
| Net Profit growth rate | N.A. | 7.2% | -7.6% | 7.2% | 28.1% | -12.0% |
| EPS Growth Rate | N.A. | 12.2% | -2.7% | 12.3% | 35.1% | -8.1% |
| Gross Margin | 42.7% | 41.4% | 43.4% | 42.6% | 43.5% | 43.6% |
| EBIT Margin | 27.0% | 25.7% | 25.2% | 25.0% | 25.2% | 23.5% |
| Net Margin | 17.5% | 17.4% | 16.7% | 17.5% | 21.2% | 18.1% |
WU is mostly a mature business, with revenue growing at low to mid single digits. I expect revenue growth for WU to be in line with World Bank global remittance growth estimates, growing at flattish to low single digits. EPS growth has largely outpaced revenue growth because they have been gradually shrinking their shareholder base through share buybacks. While margins have mostly been stable I expect them to fall this year. In fact, the 1Q2013 results has already shown that. Money transfer is a commodity type business with multiple players. WU faces competition not only from other money transfer agents such as MoneyGram, but also faces competition from banks, credit unions, phone payment systems, etc. The industry is fairly fragmented and no single player has pricing power. In 4Q2012, WU made fee reductions in certain key money transfer corridors in order to gain market share. The management expects to maintain these reduction and may make further fee cuts in 2013. WU is the market leader in the industry. Smaller competitors will be compelled to follow the price cuts. Any market share gains by WU is unlikely to be significant. Instead, by initiating price cuts, what WU has done is to lower margins across the board for everyone. Unless weaker operators are driven out of business, lowering the intensity of competition, the price cuts are not going to do anyone any good.
| 2007 | 2008 | 2009 | 2010 | 2011 | 2012 | |
| Net Profit | 857.3 | 919.0 | 848.8 | 909.9 | 1,165.4 | 1,025.9 |
| CFO | 1,103.5 | 1,253.9 | 1,218.1 | 994.4 | 1,174.9 | 1,185.3 |
| CAPEX | (192.1) | (153.7) | (98.9) | (113.7) | (162.5) | (268.2) |
| FCF | 911.4 | 1,100.2 | 1,119.2 | 880.7 | 1,012.4 | 917.1 |
Regular readers should be quite familiar with this by now. WU generates significant free cashflow. Capex for the business is minimal since they do not usually own and operate the physical stores. While there have been cases of WU buying over some of their agents, this has not happened on a big scale. The WU management has put their free cashflow to good use by buying back shares. In this case, net profit can be used as a rough approximation to free cashflow. At last Friday's closing price of $16.65, WU trades at a PE of 10x, FCF yield of about 10% and a dividend yield of 2.5-3%. While I do think this is cheap, I do not feel comfortable including WU in my portfolio for reasons which I will elaborate below.
Risks to the Business Model
(i) Over the long-term, there are emerging alternatives to cash money transfer, such as online mobile payments. The electronic payment space is evolving very rapidly. Many new technology are springing up, trying to take the place of cash and credit cards in making payments. It is quite possible that new technology will emerge to challenge the place of traditional money transfer models.
(ii) Traditional money transfer agents appeals to the under banked population. Consumer with bank accounts normally refer to their banks for making cross border money transfers. As the general population becomes more affluent, WU could lose their customers when they start to qualify and sign up for bank accounts.
(iii) Margin are going to fall in the near term. This is a commodity type business. When margins fall in a fragmented, commodity-like industry, they tend to stay depressed.
(iv) There are signs that in some countries, regulators are going to enforce a non-exclusive money transfer agent model. Currently, it is mandatory that WU's agent do not use the services of their competitors. If those regulations are enforced, WU will be forced to share their agents with their competitors.
Conclusion
Over an investment horizon of 3-5 years, it is quite possible that WU will face a worse competitive environment. I do not think one has a sufficient margin of safety to buy WU at these levels. However, if WU falls to 8x PE, I might revisit my thesis.
No comments:
Post a Comment