Western Union 2006 Annual Report Download - page 47

Management’s Discussion and Analysis of Financial Condition and Results of Operations 45
The year ended December 31, 2005 included lower
employee incentive compensation expense compared to
2004 primarily as a result of certain internal performance
targets for First Data not being achieved in 2005 whereas
all targeted discretionary incentive compensation was paid
in 2004.
Selling, General and Administrative
Selling, general and administrative expenses increased for
the year ended December 31, 2006 due primarily to higher
costs incurred in 2006 related to Vigo, increased costs
associated with being a stand-alone public company
discussed below, higher stock compensation expense
from the adoption of SFAS No. 123R, and higher employee
incentive compensation expenses in 2006 compared
to 2005.
In line with our strategic objective of building the
Western Union brand, marketing related expenditures
included in operating expenses increased during the year
ended December 31, 2006 over the comparable period in
2005 and were approximately 7% of consolidated revenue,
a trend that has occurred over the last three years and we
expect will continue in the future. Marketing expense
includes advertising, events, loyalty programs and employees
dedicated to marketing activities.
Incremental independent public company expenses
of $25 million in 2006 relate to staffing additions and related
costs to replace First Data support, corporate governance,
information technology, corporate branding and global
affairs, benefits and payroll administration, procurement,
workforce reorganization, stock compensation, and other
expenses related to being a stand-alone public company
as well as recruiting and relocation expenses associated
with hiring key management positions new to our company,
other employee compensation expenses and temporary
labor used to develop ongoing processes. These expenses
are those in excess of amounts allocated to us by First
Data prior to September 29, 2006 or beyond amounts we
presume First Data would have allocated subsequently
thereto. We expect most of these expenses will continue
to be incurred in future periods.
SG&A expenses increased for the years ended
December 31, 2005 and 2004 due to an increase in
marketing related expenses over that in the prior years in
line with increases in our revenues. The year ended
December 31, 2005 also included lower employee incentive
compensation expense compared to 2004 primarily as
a result of certain internal performance targets for First
Data not being achieved in 2005 whereas all targeted
discretionary incentive compensation was paid in 2004.
Interest Income
Interest income increased during the year ended
December 31, 2006 compared to 2005 due to higher
international cash balances resulting from the net cash
received in connection with the settlement of intercompany
notes with First Data (net of certain other payments made
to First Data) on the spin-off date, and from cash generated
through our international operations. Also contributing to
higher interest income in 2006 was interest income recorded
in connection with a loan for $140.0 million made to one
of our agents in the first quarter of 2006. Interest income
during the year ended December 31, 2005 also benefited
from higher international cash balances generated through
our international operations compared to 2004.
Interest Expense
Interest expense increased to $53.4 million for the year
ended December 31, 2006 compared to $1.7 million
during 2005, due to interest expense on our outstanding
borrowings that arose in connection with the spin-off
on September 29, 2006. Interest expense will increase
significantly in 2007 since the related borrowings will be
outstanding during the full year of 2007 compared to three
months during 2006.
Derivative (Losses)/Gains, Net
Our foreign currency forward contracts that did not qualify
as hedges under applicable derivative accounting rules
were held primarily in the euro and British pound and have
a maturity of one year or less. Prior to September 29, 2006,
we did not have any forward contracts that qualified
as hedges, and therefore the gains and losses on these
contracts were reflected in income prior to that date. Gains
and losses resulting from changes in the valuation of these
forward contracts were recognized based on variations
between foreign currency market exchange rates and the
forward contract rates, primarily the euro, which resulted
in foreign currency losses in 2006 of $21.2 million, gains of
$45.8 million in 2005, and losses of $30.2 million in 2004.
On September 29, 2006, we re-established our foreign
currency forward positions to qualify for cash flow hedge
accounting. As a result, on a go-forward basis, we anticipate
the amounts reflected in this income statement caption
will be minimal, and will relate primarily to the portion of
the change in fair value that is considered ineffective or is
excluded from the measure of effectiveness related to
contracts designated as accounting hedges. For example,
in the fourth quarter of 2006, after we re-established our
foreign currency forward positions to qualify for hedge
accounting, our foreign exchange gain recognized was
$0.6 million compared to a gain of $7.2 million during the
fourth quarter of 2005 when our foreign currency forward
contracts did not qualify for hedge accounting treatment.