Carriage Services Inc (CSV) 2010 Q3 法說會逐字稿

Good afternoon, and welcome to the Carriage Services third quarter 2010 results conference call. All participants will be in a listen-only mode. (Operator Instructions), After today's presentation, there will be an opportunity to ask questions. Please note, this event is being recorded.

I would now like to turn the conference over to Alexandra Tramont. Ms. Tramont, you may begin.

Thank you, and good morning, everyone. I would like to welcome you to the Carriage Services conference call. We are here to discuss the Company's 2010 third quarter results, which were released after the close of the market yesterday.

Additionally, Carriage Services has posted supplemental financial tables and information on its website at www.carriageservices.com. If you would like to be on the e-mail distribution list for future Carriage Services releases, or if you would like to receive a copy of the press release, please call our offices at FD at 212-850-5600, or visit Carriage Services' website.

This conference is being broadcast live over the internet on Carriages' website, and a subsequent archive will be made available. Additionally, in a few hours a telephonic replay of this call will be available, and active for the next seven days. The replay information for the call can be found in the news release distributed yesterday.

With us today from management are Mel Payne, Chairman and Chief Executive Officer, Terry Sanford, Executive Vice President and Chief Financial Officer, and Jay Dodds, Executive Vice President and Chief Operating Officer. Today's call will begin with formal remarks from management, followed by a question-and-answer period.

Please note that in this morning's call, management may make forward-looking statements in accordance with the Safe Harbor Provision of the Private Securities Litigation Reform Act of 1995. We would like to call your attention to the risks associated with these statements, which are more fully described in the Company's annual report filed on Form 10-K, and other filings with the Securities and Exchange Commission.

Forward-looking statement assumptions or factors stated or referred to on this conference call are based on information available to Carriage Services as of today. Carriage Services expressly disclaims any duty to provide updates to these forward-looking statements, assumptions or other factors after the date of this call, to reflect the occurrence of events, circumstances or changes in expectations.

In addition, during the course of this call, management will reference certain non-GAAP performance measures. Management's opinion regarding the usefulness of such measures, together with the reconciliation of such measures for the most directly comparable GAAP measures for historical periods, are included in the earnings release and the Company's filings with the Securities and Exchange Commission.

With these formalities out of the way, I would like to turn the call over to Mel Payne, Chairman and Chief Executive Officer. Mel, please go ahead.

Thank you, Alex. I'm going to turn the call over to Terry Sanford, our CFO, and save my remarks until later in the call. Terry?

Thanks, Mel, and I want to welcome everyone on the call. We provided a lot of information in our press release, so I'll try not to repeat information as much as practical.

I have to say that this was a very good third quarter from a revenue perspective, during what is seasonally the weakest quarter of our calendar year. On the funeral side, which is 70% of our business, the most important data point is same-store sales volume changes, because that drives the organic growth. Our same-store volumes increased 1.6% for the quarter, which is very good. Year-to-date, we have performed only 26, or 0.2%, fewer funerals than a year ago, so we're relatively flat compared to a year ago.

The other variable that drives the funeral revenue number is the average revenue per funeral service. The average revenue per same-store service increased $10 to $5,553 for the quarter, and increased $47 on a year-to-date basis, both of which are lower than the increases we have experienced historically.

The cremation mix increased a modest 140 basis points to 41.5% for the quarter, and 100 basis points to 40.5% for the nine months. Our cemetery revenues, which represent approximately 22% of our business, is driven by pre-need property sales, which builds heritage in our cemeteries, and sets the stage for add-on product and service sales. Pre-need property revenues increased 6.1% for the quarter, but we are 10.5% lower than 2009 on a year-to-date basis, against the backdrop of really tough comparables. Last year was a record year for us.

We posted a strong year-over-year increase in financial revenue of $1.1 million. That's an increase of 45.5% for the quarter, and a $3.1 million or 40.2% increase on a year-to-date basis. On a year-to-date basis, the financial revenue has added $0.10 per diluted share to our profitability this year. This increase is driven primarily because of approximately $23 million of realized gains year-to-date in our trust funds, and higher trust fund income than in the past from our large and growing fixed income portfolio.

The ability to increase financial revenue is an important aspect in our industry, because this is how we mitigate the guaranteed price of the pre-need contracts, coupled with cost inflation over the life of the pre-need contracts. We measure and report in our income statement the results at the location level via the field EBITDA and field EBITDA margins. Generally, all funeral and cemetery field areas performed on a comparable or better basis versus last year, with the exception of our acquired funeral homes, which Jay will discuss in a few minutes.

We did experience increases in certain costs this quarter that partially offset the higher revenues. The transaction costs of closing and acquisition will always impact our bottom line in the periods leading up to the closing. Costs in our corporate development department are also higher, and will continue to increase as we are investing in people and processes to acquire businesses that meet our criteria.

Of note, our self-insurance costs for our medical benefit plan for employees was higher than expected for the quarter. Historically, we experienced approximately 1.25 large claims per year. Now, large claims are individual claims that meet our stop loss cap of $200,000. We are now experiencing five large claims. So, we had to add to our reserves an amount in the quarter that equates to $0.02 per share. Though we do expect health costs to increase in future years, we expect our large claims experience to move back to somewhere around the historical average.

On the acquisition front, we reported an acquisition of Dilday Brothers Funeral Directors, a funeral home in Huntington Beach, California, at the end of September. Year-to-date, we have spent $16.8 million on acquisitions that are expected to generate annual revenue of approximately $10 million, annual EBITDA in the range of $3.3 million to $3.5 million, and increase our EPS somewhere in the range of $0.03 to $0.05 per share, factoring in our cost of capital. Because of our strong cash flow, we only owe $5 million on our line of credit. The remainder of the $16.8 million purchase price has been paid from our cash flow this year.

The fourth quarter is typically our strongest quarter from a cash flow perspective. Excluding acquisitions in the fourth quarter, we should be able to pay off the balance on the line of credit, and accumulate more cash by year end.

And with that, I would like to turn the call over to Jay Dodds, our Chief Operating Officer, to provide some color on our operations.

Thanks, Terry, and good morning. As you can see from our press release, and from Terry's comments, Carriage continues to produce strong results in the face of industry challenges. Our results demonstrate that Carriage's business has matured into a business with greater stability and predictability compared to previous years. We have been unwavering in executing our leadership model in regards to selecting and hiring quality leadership in our businesses. The past quarter has been no exception, with seven managerial changes.

As we continue to execute our strategies, it continues to be apparent that having the right leadership in our local businesses is a critical step for our continued success. Accordingly, we modified our standards operating model, and respective managing partner incentive plan to increase the performance incentives to our local leadership.

In addition, we have added an incentive structure for all our full-time employees for the first time, which ties all the staff at a business into our operating model. The feedback from the field has been overwhelmingly positive.

We continue to emphasize the importance of our training and practice modules, which focus on our ability to create more and better services for our client families. The execution of the learned skills will create more service opportunities, thus higher funeral and cemetery averages.

The practice modules help the funeral directors and cemetery pre-need counselors with skills necessary to show each family the actual benefits of our services. Recently, we updated our quality of staff standard in our standards operating model by adding specific behavioral criteria that measures objectively the performance of all staff members at a particular business. The feedback from our objective measurements will be a great barometer to the success of our training and practice emphasis.

During the second quarter conference call, we introduced our new software program called Carriage 1. This is a platform to increase our client family offerings, and create new revenue streams that include webcasting, DVD recording and presentations, memorial websites, stationary production, grief counseling and local business websites. The rollout has been completed, and we are currently enhancing the system to provide more products and tools to increase the level of service to our customers. As technology continues to impact our sector, we feel we are on the leading edge in both the use of technology internally, as well as technology offerings to our customers.

The death rate continues to be a challenge across the industry. But we did see positive trends in our same-store contract numbers of 1.6% growth for the same quarter of last year. Growing our business organically is and always has been a priority at Carriage. Market share growth is continually highlighted at all our meetings, communications, the hiring process, and especially in the decisions at each local business. Pre-need funeral sales have been steady, but will remain only focused in certain markets that require a stronger pre-need presence for market share growth. Our operating strategies are more focused on the relationships in our local markets, as well as the high service standards that Carriage requires.

We are transitioning several large businesses into Carriage, and are working through the operational issues at each business. Originally, we believed the transition would take approximately one year, but it appears that these businesses should be integrated no later than the end of next year's first quarter. Our acquisition candidates historically operate at a very high level, yet Carriage brings a new level of service and business requirements. Process systems, regulation, reporting, training, technology, and personnel changes are all simultaneously being adjusted, and in the in-depth nature of all of these changes, considering the business is still open and operating, leads to either a compressed or lengthened timeframe. We are getting much better at this transition, so the timeframe is becoming shorter.

In conclusion, we are excited about the remainder of 2010 for Carriage. And we expect our operating and financial results to continue to demonstrate stability and predictability.

With that, I would like to turn the call back to Mel.

Thank you, Jay. At this point, I'm going to deviate a little bit from historical pattern. I want to introduce another member of our executive team, Brad Green, who is heading up our strategic development, the acquisition growth part of Carriage. Brad joined the Company in October of 2006 as our General Counsel, and did a lot of good work, which I highlighted last year in the shareholder letter. He took over this job at the beginning of the year, and is building rapidly a very effective group that has been successful in the markets, and I want to introduce Brad, and let him talk a little bit about what he's doing. Brad?

Thanks, Mel. For those of you all who remember last quarter's call, Mel read my prepared remarks due to the fact that I was out of the country. I'm going to keep my comments brief today in hopes that I can do as good a job being me as Mel did playing me last quarter.

As you know, we've been actively identifying and evaluating acquisition candidates in strategic markets around the country. As Terry stated, we recently acquired Dilday Brothers Funeral Home, which when integrated with Heritage Memorial Services, will represent approximately a 1,000 call business in Orange County, California. More importantly, watching the Dildays and Gallaghers work closely with us to combine and integrate their premiere businesses into Carriage, is an absolute confirmation to me that we're not only acquiring the right businesses, but the right people.

We have a unique culture at Carriage when compared to other businesses in our industry. It's something we are very proud of, and protect. A significant part of my job is to ensure that the businesses and the people that join our Company are capable of following our guiding principles on the way to our goal of being the best. We continue to build relationships with the leading high quality private funeral home operators that fit that criteria. As a result, we believe we are well positioned to acquire several high-quality businesses as we move into next year and beyond.

In closing, we're on track to meet our target to acquire an average of $10 million of revenue per year over the next five years, even with a strict adherence to our acquisition criteria and strategy. That's it for me. I'll turn it back over to Mel.

Thank you, Brad. In closing, I would like to step back and reflect as we bring 2010 to a close on the big picture outlook for our Company. First, I believe that in a couple of years, we will look back on the recent tweaks to our standards model, and see that they had a profoundly positive impact on our operating performance, by linking every full-time employee to the success of their local business. The expanded incentive and right quality of staff changes that Jay has implemented related to what we refer to as being the best standards achievement, will no doubt take time to gain traction, and to produce broad operating performance improvements. But as I wrote in the 2009 shareholder letter, the evolution of our business model and culture over the past seven years has been continuous and unstoppable, always positioning us for greater long-term sustainable performance.

As we close 2010, our Company has never been better positioned for success, both near and long-term. We have become a highly preferred succession planning solution for quality independent owners in our targeted strategic markets, and we will get better, as Jay said, at operational integration as we move forward. As the economy and consumer confidence improves, which it is, we expect our funeral and cemetery operating trends to improve throughout 2011. And with the recent equity and fixed income market strength, our trust funds are positioned to continue their growing EPS contribution.

And finally, we are monitoring the high yield market very carefully to be sure we are positioned to seize the moment, to refinance our existing senior debt, and any outstanding bank debt on highly favorable terms, given the expected low rate environment over the next six to nine months. It is difficult for an outsider to sense the energy and excitement that now permeates all levels of our organization at this time. But it is there, and should be reflected in our performance over time. Starting in the fourth quarter, our five-year plan of revenue and earnings growth is visible and achievable, and we look forward to reporting our progress every step of the way.

With that, I would like to take questions.

Yes, sir. We will now begin the question-and-answer session. (Operator Instructions). The first question is from Nicholas Jansen of Raymond James. Please go ahead.

Good morning, guys. Just a couple of questions. First, on the pipeline, can you just talk about what you see over the next six months, how many deals are currently there, and size and perhaps kind of geographic locations?

Sure. While nothing is imminent, we're working on some deals that we hope that we can close maybe in the fourth quarter, if not the first quarter of next year. The pipeline is specific to the 10 to 15 strategic markets that we've been talking about, and we continually focus on. It is my hope at least, that we'll be able to close some deals by the end of this year, and some by the first quarter.

Great. And then if you look at the changes to your operating standards model, and having every employee focused on the operations, is there going to be any incremental cost to that, or do you think just clearly the revenue and EBITDA impact would offset those incremental bonuses from that strategy?

Yes, we see very little incremental costs. There will be no incremental costs that I can see that will not be offset by new revenue. Our businesses, the revenue is produced in the arrangement conference room, and with the sales counselors, and these are the folks that are going to be benefiting from the bonuses, and for the first time, we have every employee tied into the models. So, the managing partner will be able to help direct those revenues, and watch the costs, and we're really excited about this and what we're getting for it in the field.

This is Mel. We did take a hit in the third quarter on the retroactive incentive accrual. But what's happened with our Company over the last seven years, after we rolled out this standards model in 2003, is we have a lot of leadership, really aligned with the standards, which are all about growing the business locally organically, growing the average revenue modestly, and sustainable margins with really good people. This ties in the really good people part. So, we have complete linkage throughout the Company.

What we've found in the past, it took so long to build the framework in what we call a high performance culture, that when you make a change like this, and really challenge your people to achieve a certain level of standards, and we do have a goal for 2011 that's a specific number. Then you get a response, because the talent is there, they're motivated, and now they're linked with their people and it puts everything -- everybody going in the same direction, trying to achieve the same goals, and we're very excited about what will happen.

It will take some time, but we don't think the cost will be a burden. In fact, we think the performance will way outdo whatever costs. We hope the cost is high because it's all incentive based.

Okay, thanks for the feedback. And then lastly on the positive volume growth during the quarter, is that a sign that the death rate has started to move off the bottom, or are you guys capturing a little more share in your markets? I know one of your larger peers reported a negative number, albeit better relative to previous quarters, but I was just trying to get a sense on the death rate trend right now. Thanks.

This is Mel. We don't know what the death rate is, to be honest. And we learned -- and that's part of this model is, you're not supposed to worry about the death rate locally. You're supposed to be focused on growing your business, so that you don't have to worry about the death rate locally. If you look at our five year same-store volume trends, I think you will find they're the best in the industry by margin. The reason for that is our people are not worried about the death rate. They're worried about taking business away from their competitor.

All right, that's all for me. Thanks, guys.

There are no excuses.

Thanks. Nice quarter, guys.

(Operator Instructions). The next question is from Alan Weber of Robotti & Company. Please go ahead.

Good morning.

Hi, Alan.

Hi. Just a few quick questions. One is, when you talked about the margins, and some of the acquisitions being lower in the integration process, can you just talk about what actually -- what you're actually doing from when you make the acquisition until it's fully integrated?

Yes, Alan. I mentioned it in my remarks. When we come into a business, there's a lot of process things that we have to bring that just changes and disrupts some of the business flow for a short period of time. Now, one of the challenges we have is, the largest business we acquired this year is in Naples, Florida. And the majority of the population of Naples, Florida, all leaves in May and comes back in November. So, we bought it -- we closed it at the end of June, right when they're at their lowest part of their year. So, they still have four facilities to operate, and a staff to pay. And as we come into the busier season of the year at that business, it really makes a big difference on -- and that's such a large business, that it makes a difference on the whole portfolio.

But there's a number of things, as we convert, most independents aren't at the same spot we are with servicing cremation families, servicing burial families. So, we have training, and what was okay for them is not okay for us. So, it used to take us several years, and now we've brought it down to a year, and as you've seen by the release today, we're getting better at it. We're shortening that timeframe, as well.

Okay, so really, I guess I missed that part earlier. So really, the bulk of it was because of what you just said about the seasonality in Florida.

Yes, that had an impact on it.

Okay. And then -- okay. And then maybe for Terry, a quick financial question. When you talk about the free cash flow in the earnings release, like for the rolling four quarters, what kind of -- what is the current cash taxes that you're paying?

Year-to-date, we have paid right at $600,000 in cash taxes.

And in the projections for the next four quarters?

It's approximately in that same area, $600,000 to $800,000.

So then your free cash flow would actually be somewhat higher than what you show in the release?

Excuse me?

In other words, in the release, it shows taxes of $5.5 million to $6 million.

Right. But that's in determining the net income. That's not a calculation of the free cash flow. Some of that is added back. A good bit of it is.

Okay. And my last question was, Jay, when you talked about the new software services like webcasting and some of that, any idea when you look out a few years, potentially what that all might mean in terms of revenues?

We're excited about what that means in revenues as we start to get our store up, direct to the consumer store on our website, as more of our people sell these products to families, and it becomes more accepted. In a very short period of time, we had some pretty costly start-up costs in this, and in a very short period of time we've covered all that, and we're starting to get into where we're making some money at it. As we continue to go, and as technology becomes more of a requirement by families, our anticipation is that that will have a nice significant revenue stream for us.

Okay. And then I guess my last question is, maybe for Mel, when you talk about better people and more incentives and selling like that, how do you balance the idea of overselling and being too aggressive?

Overselling, I'm not sure I follow you there, Alan.

Meaning a family comes in, and it's just the sales people, because there's more incentives in place. That there's some level of appearing to be too aggressive.

Hi, Alan, this is Jay. In our standard operating model, 30% of the model, likewise 30% of the incentive, is driven by market share. You start to get aggressive with a family, and not look out for their best interests, it will bite you in market share so fast. And I think that's why you see people -- other companies struggling with market share, because they tend to be too aggressive in that arrangement room.

But you also have to remember, funeral directors by nature aren't aggressive. And the benefits that we give families for what we do when we do it well, are priceless. So, we do have to be aggressive in the sense of showing every option to every family every time. But if it gets to the point where someone is doing something for a commission, or something for their benefit, that impacts the market share very quickly.

I think there might be a misunderstanding here. When I'm talking about aggressive or -- we try to get managing partners who are truly treated like partners at a local business to be aggressive in finding out what their competitors are doing, and how to get their business away from them and bring them to our place. That's a different aggression than our service people who are handling our client families.

Right, okay. Great. Thanks an awful lot.

You bet.

The next question is from Clint Fendley of Davenport. Please go ahead.

Hi, good morning, guys. Thanks for taking my question.

Good morning, Clint.

I guess first off, on one of the earlier questions, maybe a different way of asking it, how did your volumes fair for the month of October?

I think they were okay --.

Yes, they were relatively flat compared to a year ago. There was very little -- I don't have the numbers in front of me, but they were relatively flat.

Okay. That's helpful. And I guess also, specifically here, on the retroactive modification to the incentive comp that impacted the earnings for the quarter, what exactly changed there?

The change to the incentive metrics that we did, one, we raised the percentage of the EBITDA that the players that meet at least 80% of their standards, we raised that by 1 percentage point, and the people between 65% and 80%, we raised by 0.5 of a percentage point.

What we were doing there, Clint, was we were trying to catch some momentum into 2011, and have a great fourth quarter. And we wanted to add some distance between -- in our standards operating model, if you achieve 50% of the standards, you start to get into the incentive. But in the model that we were currently running before, there wasn't that big a separation between 50% in the model and the higher levels of standard achievement.

So, we wanted to increase that to get the attention of these managing partners that we're serious. And when we hired -- we brought in a number of managing partners over the last year to 18 months, that we're dealing with some of the issues of prior management at that business. So, they were struggling, and I wanted to create some momentum into next year, so I gave them an incentive to really get focused in the fourth quarter.

That makes sense.

The retroactive impact of that was about $0.01 a share.

Okay, and that would be for, retroactive back to January 1, then?

That's correct.

Okay, so going forward, it really shouldn't make a material difference in the earnings.

No, it should not.

If the payment is materially higher, Clint, you will see a real momentum northward in the earnings.

Okay. Got it. And then last question here, the cremation rate for some of your recent acquisitions has obviously been meaningfully higher than the average across your size, as high as 60% or so. How should that rate change? And if you could talk about the revenue opportunity, even post the integration into your operating model.

Well, the last couple of large businesses we've acquired have been in Florida and in the LA area, and their cremation rate has been very high for a long period of time. So, the growth in their cremation rate should be a little slower than across our other parts of the country. But with that said, what we found is, because of our ability to touch so many businesses, and learn so much about cremation families and how they're purchasing and how we need to sell to them, we can bring to these businesses some methodologies that will increase that cremation rate. And that's part of this transition process, as we get their staff, or in some cases, the staff is unwilling to present in the methodology that we require, so we replace some of them. And our opportunity with revenue at these new acquisitions is very good.

Okay. Great. Thanks, guys.

Thank you.

And this concludes our question-and-answer session. I would like to turn the conference back over to management for any closing remarks.

Well, we all appreciate your attention, and following our progress, and we look forward to reporting the full year performance in January. That concludes the call.

That does conclude today's event. Thank you for attending today's presentation. You may now disconnect.