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Moody's Cuts WU's Debt Rating by a Notch

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Moody’s Investors Service of Moody’s Corp. (MCO - Free Report) have downgraded Western Union Co.’s (WU - Free Report) , senior unsecured rating by one notch to Baa2 from Baa1, following a review of the company’s operating profile.

The rating agency is of the opinion that huge compliance costs, significant competitive pressure, and a challenging macro environment are some of the headwinds, which will keep the company’s revenue growth under check.

Western Union has also given a constrained outlook regarding its 2014 operating profit. The company does not expect any operating profit growth in 2014 since the improvement in revenue will be offset by higher compliance costs.

Western Union’s financial policy will also strain its debt profile. Despite having $1.7 billion cash, half of this amount is located outside U.S. There is also short-term restriction on the use of available cash. This financial policy would compel the company to use incremental debt in order to provide funds for a purpose such as share buyback, which will weaken its leverage position.

Another worry for the rating agency is that Western Union’s traditional money transfer business suffers from competitive pricing pressures and emerging payment technologies.  In order to preserve and grow market share, initiatives such as pricing reduction, higher expenditure on research and development, mergers and acquisitions, customer acquisition costs, payout to agents; will only thin bottom-line earnings. Moody's expects that the company’s adjusted debt to EBITDA will remain in the mid-to-high 2 times range going into 2015 with free cash flow to debt of around 15%. These metrics are in line with companies belonging to Moody’s Baa2 tier rating.

Moody’s maintains a stable outlook on the company taking into consideration factors such as low single digit revenue growth which will also be supported by overall industry revenue growth, flat profits, and cash flow from operations of approximately $1 billion in 2014.

Financial strength and credit ratings measure the company’s ability to meet policyholder obligations, and are important factors affecting public confidence and creditworthiness of a company that reflect a company’s competitiveness. Though the downward rating movement cautions us about the company’s operating condition, yet a stable outlook suggests that no near-term adverse rating action is on the cards.

Going forward a positive rating action may follow if the company manages to grow its profit by a minimum of 5%, adjusted debt to EBITDA moderates to lower than 2x, operating margins stay above 25%, and cash flow from operations exceed $1.3 billion. A reverse rating action may follow if the company loses market share and revenue growth, there are increases in regulatory control over the industry, debt to EBITDA of more than 3x, operating margins fall below 18%, and the company increases use of debt.

Western Union carries a Zacks Rank #3 (Hold). Other players FleetCor Technologies, Inc. (FLT - Free Report) with Zacks Rank #1 (Strong Buy) and Portfolio Recovery Associates Inc. (PRAA - Free Report) with Zacks Rank #2 (Buy) are worth considering.

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