When discussing consumerism from a socio-economic standpoint, the term “upward mobility” is always used. When consumers move up in economic class, money moves with them.

I’ve discussed the rise of the emerging market middle class in previous articles. One product/service that had trouble gaining traction among the new middle class is consumer banking. Financial institutions like Citigroup (NYSE: C) and JP Morgan Chase (NYSE: JPM) have established large institutional footprints in emerging markets in corporate banking, as well wealth management services for the emerging market rich.

#-ad_banner-#However, unlike in the United States where there is a brick and mortar bank on every single corner, brick and mortar banking has not grown in emerging markets. But money still needs to move and consumers will find other ways to do it besides a traditional bank.

Enter Western Union (NYSE: WU).

Spun off from First Data Corp (NYSE: FDC) in 2006, Western Union is recognized as one of the nation’s largest independent providers of consumer money transfer services. Nearly 80% of the company’s revenues come from consumer to consumer services such as its branded Western Union Money Gram product, pre-paid debit cards, and money orders. In the United States, these services are distributed through a widespread network of 500,000 agents in over 200 countries and territories. Western Union’s range makes Citigroup’s 3,000 global consumer banking locations look like the JV team.

The transaction fees generated by consumers transferring money earned the company nearly $5.5 billion in revenue last year with average four-year EBITDA (earnings before interest, taxes, depreciation and amortization) growth of 8.1%. Historically, Western Union has spent between 4% and 5% on marketing and advertising. That’s a strong commitment to branding and selling the product.

Earlier this month the company inked an enormous deal with Wal-Mart de Mexico. Prior to the agreement Western Union boasted over 13,000 agents throughout Mexico. The Wal-Mart de Mexico deal added nearly 1,300 more locations, effectively increasing its distribution channel in the country by almost 10%. 

Aside from being an impressive number, this deal shows the significant growth opportunities created by the rise of the emerging middle class. According to mexiconewsdaily.com, nearly 47% of Mexican households fit the definition of emerging middle class, defined as those earning between $15,000 and $45,000.  Two decades ago these people, as a group, were impoverished. Unsurprisingly, they were extremely underbanked. Now, they have money and payment processors have stepped in to fill the needs that banks have ignored.

Last year Western Union generated over $1.1 billion in free cash flow, and had an operating income of around $1.4 billion, with net margins of 15.28%. The company has deployed this cash to the benefit of shareholders by buying back $511million in shares and raising the annual dividend 24% from 50 cents to 62 cents per share, while keeping its dividend payout ratio at a comfortable 38% ( Remember: higher than 60% is my yellow flag).

Risks To Consider: The obvious macro risk to the Western Union growth thesis is a weak global economy. While the U.S. economy has shown some perkiness of late, GDP is still growing at an anemic rate of between 2 and 3%. Emerging economies are expected to grow around 5%, which is better than the developed world but not a double digit economic miracle. 

At the company level, Western Union’s long term debt to capitalization sits at nearly 70%, which is fairly high. However, the company’s solid cash flow, stable and predictable five year average annual revenue of $5.5 billion with average annual EPS (earnings per share) alleviate that discomfort.

Action To Take: Western Union shares currently trade around $19.96 with a forward PE of 12.3 and 3.2% dividend yield. The share price is not far from its 52 week high of $20.62. By that metric, WU wouldn’t seem like a great bargain. However, trading at 12.38 times forward earnings, just 3 times trailing EBITDA and a growing dividend, the stock is a deal.

Based on Western Union’s strong brand, huge global footprint, favorable global demographics and solid operating history, shares could rise 22% over the next 12 to 18 months based on a PE expansion to just 15. 

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