Service Corporation International (SCI) 2004 Q1 法說會逐字稿

Corp. Please stand by . This is Service Corp International. Please stand by for the earnings conference call . Thank you for holding, you are on online for today's Service Corp International conference call. We are gathering additional participants and will be under way momentarily. We appreciate your patience. Please stand by . Please stand by, we are about to begin. Good day day and welcome to the Service Corp International first quarter, 2004 earnings conference call. Today's call is being recorded. At this time for opening remarks and introduction, I would like to turn the call over to the Chairman and Chief Executive Officer, Mr. Robert L Waltrip. Please go ahead, sir.

We want to thank all of you for taking time to participate in this call this morning. and I'll now turn the meeting over to Eric Tanzberger who will give you his remarks.

Good morning, I would like to remind everyone that statements that will be made during this conference call that are not historical facts are forward-looking statements made on the reliance of the Safe Harbor protection provided under the Private Securites Litigation Reform Act of 1995. These statements may be accompanied by words such as believe, estimate, project, expect and convey the certainty of future evenings evenings or use similar words as well. All of the statements today are based on assumptions that we as a management team believe are reasonable. However, there are many important factors that could cause our actual results in the future to differ materially from the forward-looking statements that we will make today on this call. Our earnings release was issued this morning, and I also want to remind everyone that the earnings release will be available on our website, which is www- , excuse me, www.sci- corp.com, under the subheading, "in the news" on the home page. With that, for prepared remarks, I'll turn the call over to Tom Ryan, our president and Chief Operations Officer.

Thank you, Eric. The first quarter of 2004 was one of very solid performance for SCI. We met or exceeded all of our operating and financial expectations. We made significant project towards resolving key litigation issues and we successful joint ventured our French operation. This hard work and execution has brought us to a position of financial strength and flexibility that we have not enjoyed for some time. Our net debt dipped below 1.2 billion, the lowest level of net debt since 1994, and we continue to produce strong free cash flow of more than $95 million for the quarter. This performance is the result of the dedication and execution of our more than 20,000 employees who really make it happen every day. While we still have much to accomplish, we move into 2004 with financial flexibility, a streamlined infrastructure and a more disciplined operating structure. From this operating platform, you should expect continued margin improvement in 2004 as we grow our business long term behind the discipline of our brands and the development of our number one research, our people.

By simplifying and standardizing the process by which we operate, we were able to implement our new management structure in November of 2004. This new structure is leaner, reduces bureaucracy and focuses us on accountability. While it is still early, we are very pleased with the progress from these changes. Now, I would like to review with you our operational performance for the first quarter of 2004. Comparable North American funeral revenue increased 11.2 million or 3.8% in the first quarter, as compared to the first quarter of 2003. An increase in the number of funeral services performed, and an increase in the average revenue per service performed, were partially offset by an increasec cremation volume mix and lower levels of revenue reporting from our Kenyan subsidiary. We experienced a funeral volume increase of 3.5% for the quarter as compared to the prior year quarter.

Representing our second consecutive quarter of increased comparable volume Europe. Contributing to the recent increase was an increase in deaths caused by pneumonia and influenza which were above epidemic levels in late December 2003 and early January 2004. Also keep in mind that the first quarter of 2003 was a big weak volume quarter. While the trends experienced by our competitors, CDC Statistics, and feedback from our major major industry suppliers, for the most part, support expectation of increased number of funerals perform, our comparable North American volume increase of 3.5% compares very favorably to these statistics for the quarter. Having said that, we believe market share can only be measured on a long-term basis, and really is only relevant on a local basis. Our average revenue per funeral for the first quarter of 2004 increased by 1.3% above the prior year quarter.

This is partially due to the increased success of our Dignity Memorial Funeral and Cremation Package plan. For the first quarter of 2004, approximately 16.7% of the total of customers we serve on an at need basis, selected a Dignity Memorial package. Remember Dignity burial plans have a higher average sell than the non-Dignity burial plan as well as the Dignity Cremation plan. This favorable impact was partially offset by the negative impact from a cremation mix increase for approximately 10 basis point for the quarter. This increase is much lower than than we would anticipate for the rest of the year. For the first quarter our comparable North American funeral margin was 25.2% versus 23.8% in the prior year year quarter. The gross margin improvement was primarily the result of the increased revenues from funeral operations, funeral margins also benefitted from reductions in overhead costs due to the management structure changes implemented in the fourth quarter of 2003 and reduced pension costs. These expense reductions helped to mitigate increasing facilities and vehicle costs which were driven by the rise in the cost of energy.

During the first quarter of 2004, prearranged funeral sales production on a comparable basis improved by 5.8 million or approximately 7%. This reverses the downward trend experienced in 2003 as we went through some major changes to our sales organization. A substantial portion of this improvement is attributable to increased Dignity plan sales being added to our trainees funeral backlog. For the first quarter of 2004, 26.2% of premium funeral sales were a Dignity sales versus 17.9% in the prior year quarter. This will enhance revenue to future period. Comparable North American cemetery revenues for the first quarter increased by 7.5% or $10 million as compared to the prior year quarter. This increase is mainly attributable to higher levels of property sales in at need merchandise and service revenue. These were partially offset by reduced recognition of pre-need backlog merchandise and service revenue, trust income also increased by 2 million during the quarter.

For the first quarter, our comparable North American cemetery margin was 16.6% versus 19.2% in the prior year period. Improvements in revenues and savings from reductions in overhead costs were negated by increase in sales costs, maintenance costs and higher utilities. The cemetery margins for the fourth quarter of 2003, and for the year 2003 were 9% and 13% respectively. Therefore, we were rather pleased with the first quarter results, where we believe that selling costs as a percentage of revenues should trend down throughout the year as we we improve in our ability to manage in the new compensation structure. This structure, as a component of fixed costs, it must be managed more closely than in a full commission environment. We believe this new compensation plan will allow us to attract and retain higher-quality sales professionals in our organization. Premium cemetery sales production at comparable locations increased 6.8 million or 9% versus the first quarter of 2003. While some of these sales resulted in immediate recognition, most into the pre-need cemetery backlog. This is an important barometer for growth in our future cemetery business.

We surely recognize the long-term success of SCI can only be achieved by delivering topline growth and a challenging revenue environment. We are working diligently on our long-term growth initiatives which to doesed on revenues to three primary items, number one, investing capital and reef growth in our existing business to more contemporary marketing of the memorial brand which includes promotion through relationships, with strategically aligned infinity partners, utilization of effective merchandising tools in our location and strategic investment in our existing cemetery. These strategies are a primary focus today. Second, growing through strategic acquisitions of funeral homes and high internment cemeteries in large metropolitan markets. The construction of new funeral facilities and through the continued growth of our our franchising network.

This will come slowly as business becomes available and we solidify the standard, training and value of potential facilities. Number 3, assuring that we attract, hire, develop and retain the best with the brightest people we possibly can. This emphasis on leadership, development, training, and certification will be delivered through our Dignity University and could of the greatest impact on the long-term opportunity for SCI. With that, I would like to thank you and hand it over to Jeff Curtiss, our Chief Financial Officer. Jeff.

Thanks, Tom. During the first quarter of 2004, SCI generated free cash flow of approximately $95 million. SCI's determination of precash flow is on page 5 of its earnings press release issued this morning. On a comparable basis, free cash flow in the first quarter of 2003 was approximately $72 million. Changes in North American cash flow due to working capital improvement and interest expense reduction were the primary reasons for the improved cash flow. SCI's total cash debt, less cash and cash equivalents at April 30, was less than 1.2 billion. At March 31, 2004, SCI also had $356 million of surety bonds outstanding and $72 million of outstanding letters of credit. In April and May, SCI received approximately $48.5 million, for most of its interests in its U.K. affiliate.

After the public offering of the U.K. company, SCI continues to own Dignity's U.K. shares worth approximately $5 million. Our first quarter reflects a $27.2 million gain related to the value of a U.K. note that was settled in April. The remainder of the gain related to the transaction will be recognized in the second quarter. SCI's general and administrative expenses in the first quarter of 2004 include $35 million of litigation-related costs related to our shareholder class action lawsuit. General and administrative expenses of 2003 included $4.6 million of accelerated systems amortization costs. Excluding both these items, first quarter general and administrative expenses, declined about $800,000 in 2004 versus 2003. Based on discussions with the Securities and Exchange Commission, SCI did remove its $1.9 billion of North American pree-need insurance receivables and their related deferred income from its March 31 balance sheet.

However, our disclosesures in the footnotes to our 10-Q for this quarter give you the information about the backlog of our insurance contracts. SCI's March 31 balance sheet also reflect the adoption of 1046 R effective as of that date. This accounting change required SCI to consolidate its merchandise and service and perpetual care trust and to mark the trust assets to market. In general, our adoption of this accounting standard should not have an impact on our reported profit in future quarters. The face of the income statement will not change, but footnotes will expand on both positive and negative items, included in other income. It impacts classifications in our cash flow statement and balance sheet. It does not impact the cash available for unrestricted uses. Rather than detailing each impact, I encourage you to read our 10-Q and the related footnotes, which sets forth a more complete description than we could give on this call. The implementation of 1046 R also required SCI to consolidate certain Michigan non for profit cemeteries. The consolidation of these cemeteries caused SCI to take a change in accounting, non-cash, after tax charge of approximately $14.5 million during the quarter. It also added approximately $6 million worth of debt to SCI's consolidated balance sheet.

SCI's tax rate for the first quarter of 2004 was favorably impacted by the $25 million benefit associated with the French transaction. This benefit is noncash in the current period and is composed partially of a tax reserve reversal and partially of tax benefiting of currency laws associated with the joint venture transaction. We continue to expect our full-year tax rate to be in the 15 to 18% range. Although, it is possible that the rate may be slightly less. SCI's $3 billion of funeral, cemetery merchandise and endowment care trust performed well during the first quarter of 2004. The returns include the impact of both earned income and changes in portfolio values, but do not include the trust management fees or related costs of approximately 1.1% per annum. The funeral trust, had a positive quarterly return of approximately 3%. The cemetery merchandise and service trust had a positive quarterly return of approximately 2.7%, and the endowment care trust had a positive quarterly return of approximately 3.2%. In addition, the current market value of our trust portfolio, at March 31, 2004, exceeded our cost of the investments in the trust, by approximately $161 million. Our cash balance pension plan also had a good total return performance in the first quarter of 2004, up 7.65%.

The fair market value of the assets in the plan, at March 31, were about $96 million. At December 31, 2003, SCI's pension benefit obligation was $111 million. SCI incurred about $5 million of settlements in the quarter, so it should be slightly lower at the end of March. We realigned the investments in this plan in March, so that 50% of the assets are in hedge funds, and the other 50% are in more traditional asset classes, including debt and equity securities. Beginning January 1, 2004, SCI has changed its accounting method, prospectively, for pension costs to recognize the plans, investment income, gains and losses in each year, rather than to amortize the accumulated unexpected gains and losses over seven years. This resulted in a noncash after tax change in accounting charge of approximately $33.6 million in the first quarter of 2004, and reduced pension costs for the first quarter by approximately $2.5 million.

From an economic standpoint, SCI currently believed that our existing cash balance plan assets should be able to service the plan liabilities over time. On February 1, 2004, SCI began trusting as a financial assurance mechanism in Florida, rather than surety bonding on new premium business. SCI's net trust deposits in Florida, attributable to these two months, were $2.85 million. No trust deposits were made in 2003 in Florida because SCI used surety bonding as its financial assurance mechanism on new business in that year. The internal revenue service has completed its field work with respect to SCI's tax years of 1999 through 2001. SCI and the IRS have agreed on the adjustments proposed in the revenue report and the report has been referred to the joint committee on taxation for review, because the potential cash refund of $1.4 million is owed to SCI. SCI's liquidity remains strong as we held on May 7, over $450 million in cash and cash equivalents and had approximately $113 million of borrowing capacity under our bank credit line. SCI currently has less than $155 million of debt maturing during the remainder of 2004 and the full-year 2005.

This liquidity and modest debt maturity provide SCI with significant financial flexibility to consider capital structure modification or acquisitions. With these comments, we will now go to the question and answer phase of this call. Jami, will you take us there?

Thank you. Ladies and gentlemen, if you would like to ask a question, you may do so by pressing the star key followed by the digit 1 on your touchtone phone. Again, that's star 1 or questions or comments. We'll go first to AJ Rice with Merrill Lynch.

Hello, everybody. A couple of questions if I could ask. First of all, I think the comment was made that on a go forward basis, the accounting changes you're announcing today, that it involve one-time items did not have an ongoing effect on your guidance? I just wanted to confirm that in total you're not changing your guidance because because of any of these accounting changes?

Yes. I think we had factored the accounting changes, so we are not factoring the guidance, just the accounting change.

Great, sure. Can you guys update us on any discussions with the insurers, where that stands through all -- gardens in the settlement there?

AJ, this is Jim Schelger [sp]. We are in litigation with two of the carriers. We have, as you know, received proceeds of 25 million from one of the carriers, and there had been no recent discussions with the carriers that we are involved in litigation with, in fact, litigation is not progressing at a very fast pace. So the answer is we have not had any discussion, but I am sure there will be some.

AJ, I would just add to that, that the 25 million that we have received from the one insurer is in a restricted escrow account so it is reflected in other assets on our balance sheet and is not in our cash number.

Okay. And then just the last, I think, comment that Jeff made, about having the options of capital market restructuring and then acquisitions. In front of you with the cash balance and availability. Can you just comment on, I mean, I know you have mentioned the convertibles before, something that you would look at. Is there any change in your general thinking, and is there any update on acquisition opportunities in the tone of the market, generally?

I will comment on the convertibles and let Tom comment on the acquisition. Convertible becomes callable on June 22. And we have a Board meeting later this week, where we will be discussing the appropriate action with respect to that. Once the Board chooses to act at the appropriate time, we would issue a public announcement to that, because the bondholders would be due, I think, 30 days notice. So there will be some sort of an announcement if the Board chooses to act on that. My advice to the Board will be to have -- to call the bond, because I think it is a good use of our money, but obviously we may have other uses and I will let Tom talk about those.

Sure, Jeff.

We are still seeing an acquisition market that has not changed dramatically. There are people out there that I think want to sell their business. I think there's still an expectation gap between the bid and the ask. Having said that, we're seeing more and more, and I would be surprised if we didn't have new acquisitions that happened within the year 2004, and we think, overtime, as that gap narrow, there will be more and more availability, and we are in a position to do it. We sure think, with the infrastructure changes that we've made, and a lot of the new training and displays that go along with our Dignity branding initiatives, we can have an impact with the acquisition unlike we have ever been able to do before. So we are excited about the opportunity. We're going to be out there looking at them. We just want to pay the right price and get them on board.

Okay. Great, thanks a lot.

Yes.

Once again, ladies and gentlemen. That's star 1 or questions or comments. We will go next to John Ransom with Raymond James.

Hi, good morning. A couple of things. Do you, looking at your South American assets, which are a fairly deminimus aspect of your business, what's the company's thought process with either the retention or disposition of those assets?

I think our intention is to dispose of the assets in an orderly manner so that we get good value, and the tax benefits associated with them. But we have no reason to have to rush to get it done.

Okay. Secondly, you mention in your last conference call that you would petition the banks to allow share repurchases in the future, could you remind us where you stand with that process?

We have been discussing with several of our bankers ways to improve our credit , and I would suspect an item we would discuss at our board meeting would be whether or not we should do that. My expectation is that sometime over the summer, we will have a revised bank credit agreement, and it will include more flexibility. The exact details of that are yet to be worked out at this time.

Okay. Remind us now of the restrictions inherent in your bank, no share REPOs. Any other restrictions that you would be looking to remove that would add some material flexibility?

Yes. We will be focusing on, for example, allowing us to declare reasonable dividends, where under the current agreement we can't, share repurchases would be in that same bailiwick. We have used up a lot of our flexibility to buy debt in the future, that matures in the future. We'd like to replenish the ability to do that. We had limitations on acquisitions, I think, that we might want to expand those. We also would like to get away from some of the detailed recordkeeping that are involved in our current credit agreement and perhaps even reduce the scope of the security package that is currently -- includes receivables, inventories and stopage subsidiaries, we think stopage subsidiaries is the most important security for our bank.

Okay. Do you have any reason you wouldn't be able to get that done in the current banking environment?

I believe we can get it done currently.

Okay, and just finally, given all of these accounting changes, as we look prospectively and read the clues inherent in your balance sheet, what items should ininvestors focus on with respect to sequential changes in your your balance sheet that would either mark progress or lack there of in your business, and what do you think -- when do you think about differently, when you look at your business, say, perhaps that we might have thought about under the old, under the old accounting rules?

Well, the balance sheet has undergone significant transition. We have taken off the insurance receivables. We have added the trust assets, including unrealized depreciation, and so the current quarter that we are in, I think, has dramatic change.

Uh-huh.

And I think that the main thing to remember about the business is that it generates good cash flow, and to get that cash flow to where we can use it for unrestricted purposes, essentially, we need to have people die, and we have to provide services, is really what it boils down to. As you will see this Q that's going to be filed shortly, you will see there's tremendous disclosure associated with the assets on the balance sheet, and, quite frankly, on the flows that are occurring in those various accounts.

Okay.

I think that will help you decide essentially that we're handling the assets in a proper manner. At the same time, performance will depend on how many cases we handle.

Right.

And how many even terments we make -- interments we make.

And on that note, could you remind me again, I know you said this and I apologize what is the difference of the mix of your at need -- was it 60% preneed and 27% at need or did I hear a different number?

Approximately 17% on an overall case performed basis, that is what is on your income statement today, John.

Yep.

And then about 27% of what is going into the backlog today is preneed Dignity. What I would add to what Jeff said, he said it, I just want to say it more specifically. That the asset or the lines that you ought to be looking at, unfortunately, aren't on the balance sheet. I would go to your footnote disclosure, look at those pre-need backlogs, see if we are filling it up appropriately and if we are filling it up at an appropriate cost.

Yes.

That's how we drive our business.

Right. And do you think your DIGNITY penetration, is it topped out at what you think a 30% penetration as what we think should be a max out point or where could that go?

You know, it's hard to tell at this point. I think some of it will be on success of some of the new displays we are rolling out. We sure saw on the horizon, John, that without some standardized training, some very effective training and certification, and utilization of some more contemporary merchandising techniques, that that was the case. I think it's really, on an as need basis, your availability tops out at some point. So also remember what helps you, how we fill up that preneed backlog. We're very pleased with what we are doing today and see a tremendous opportunity on a preneed basis to do that. So, I don't want to predict any numbers.

Uh-huh.

We sure think the thing has room to trend up over the next few years.

Do you think this will remain a retail sale or become a more institutional infinity sale?

I think, first, it's going to be predominantly retail sale. I think, overtime, you will see more and more through the Infinity network. But I don't see that something near term in nature. I see that more as a long term.

Okay. I'll jump out of the queue. Thanks a lot.

Thanks.

We will go next to Bill Burns with Johnson Rice.

Good morning. Jeff, do you have the current face of the convertible. How much is outstanding?

Roughly 313 is currently outstanding.

About the same as what it was three months ago then?

Yes, and to take that out, basically call for cash, it would take about $325 million to call for cash.

In okay. In your preliminary balance sheet that I have, there's a current maturities of long-term debt of 371.7 million. Could you explain that?

That is caused by the fact that when we made the tender offer for the '05s, they had to be reclassified as current. We also had 110 million, Bill, this was paid in April, also with that tender that was completed, there's really about 60 million that is left due in December of '04.

Thanks. I know there was something specific. Thank you. And then finally, just looking at your North American operations, the little table where it has your funeral services up 3.0%, which is one of the largest numbers I have seen recently, then average revenue per service up 1.2%. We are just looking at North American funeral here. I would have expected the total revenues to be slightly higher than 3.8%. What are the other components in there besides just volume and quantity?

Bill, this is Tom Ryan.

Hi, Tom.

What that is, we have a knowledge, emergency services, that is a unique business. And last year, we, in the first quarter, had a significant amount of revenue associated with with the 9/11 emergency in New York. We had a significant amount of work. We did $2 million worth of recognition that occured last year that didn't occur this year.

Yes. I remember you talking about that now. Thanks.

That puts a little bit down ward pressure on that line item.

Got you. Thank you very much.

Okay.

Once again, ladies and gentlemen, if you would like to ask a question, that's star 1 on your touchtone phone. Again, star 16789 we will go next to Lee Cooperman with Omega Advisors.

Thank you very much. My question was asked and answered. Thank you.

Once again, ladies and gentlemen, that is star 1. We are standing by with no further questions at this time. I would like to turn the conference back to Mr. Waltrip for any additional closing comments.

All right. Thank you, again, for participating in the call. We all look forward to an opportunity talking to you next time. Thanks.

Ladies and gentlemen, thank you for today's call. Thank -- that concludes today's call. Thank you for your participation. You may dis -- is disconnect