Service Corporation International (SCI) 2016 Q1 法說會逐字稿

Welcome to the Quarter One 2016 Service Corporation International conference call. My name is Yolanda, and I will be your operator for today's call. (Operator Instructions). It is now my pleasure to turn the call over to SCI management. You may begin.

Good morning, and welcome to our first quarter earnings call. This is Debbie Young and I am the Director of Investor Relations at SCI. As customary, let me begin today with the Safe Harbor language. The comments made by our management team today will include statements that are not historical and are forward-looking. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations and projections.

These risks and uncertainties include, but are not limited to, those factors identified in our press release and in our filings with the SEC that are available on our website. In today's comments we may also refer to certain non-GAAP measurements such as normalized EPS, adjusted operating cash flow and free cash flow. A reconciliation of these measurements to the appropriate measures calculated in accordance with GAAP is provided on our website and in our press release and 8-K that were filed yesterday. With that out of the way, I will now turn the call over to Tom Ryan, SCI's Chairman and CEO.

Thanks, Debbie. Good morning everyone and thank you for joining us on the call today. I'm going to begin with an overview of the quarter followed by a more detailed analysis of our funeral and cemetery operations. So let's begin with an overview of the quarter.

Today we reported normalized earnings per share of $0.28 for the quarter, which was lower than the prior year number but in line with our internal expectations. We were facing a tough comparable earnings per share hurdle versus a strong first quarter 2015 which was influenced by an unusually severe flu season. We anticipated this decline in funeral volume when we gave our guidance back in February and these results are in line with our expectations. At a high level, I summarized the $0.04 decline in the quarter like this; lower funeral profits primarily driven by lower funeral volume created a $0.06 decline in normalized earnings per share. This was partially offset by cemetery results which added back just over $0.01. We had another $0.01 contribution from fewer shares outstanding reflecting the effects of our share buyback activity over the last 12 months. And finally we also had temporally higher tax rate, but that was offset by lower general and administrative expenses.

The highlight of the quarter was our preneed sales success in both funeral and cemetery, which grew on a combined basis at about 8%. This is what should happen when you combine talented sales people with the right training and the tools like our customer relationship management system sales force to help drive productivity. Thank you sales team for your tremendous efforts.

Let me mention a few other highlights in the quarter. On the cash flow front we generated $190 million in adjusted operating cash flows, only slightly below our prior year number despite the lower earnings and higher cash tax payments year-over-year. With that robust cash flow we are very proud to report that we continued to deploy capital in accordance with our strategy, utilizing $23 million for growing our business through developing cemetery property and constructing new funeral home locations. Additionally, we returned capital to our shareholders through both share repurchases and dividends totaling just under $78 million during the first quarter of 2016. Additionally, we enhanced our liquidity and improved our debt maturity profile by entering into a new $1.4 billion five year credit agreement. This affords us continued flexibility in deploying capital in shareholder-friendly ways while reducing our overall cost of debt.

Finally, I would like to take a moment to announce that we were extremely honored to be presented with the prestigious J.D. Power President's award in recognition of our dedication to service excellence. We have worked with J.D. Power for the last ten years to measure our customers' experience, satisfaction and loyalty. We join a very small and elite group of just 12 other companies to receive this award in J.D. Power's 47 year history. My heartfelt thanks to my SCI colleagues for their commitment to delivering consistent high-quality customer service which is the foundation of everything we do.

Now let's shift to a deeper dive into funeral operations for the quarter. When compared to the prior year, comparable funeral revenues decreased by $14.7 million or nearly 3%. This was expected as lower funeral volume, negative currency trends and lower funeral trust fund income put downward pressure on our funeral revenues. As noted in the table of our press release on page 3 core revenues declined $26.1 million or about 6%, due primarily to a decline in core comparable funeral volume of 6.5%. Slightly offsetting the negative effect that volume had on core revenue was a slight increase in the core funeral average. When you break down the components of core funeral average, we are pleased to see a 2.4% organic growth at the customer level.

This core customer growth was negatively impacted by three things. First, the Canadian dollar was $0.73 versus $0.81 in the prior year. This had a 70 basis point reduction in core average. The good news is at the profit level it was not material and it should be a better comparison going forward. Second, the increase in the cremation mix had a 50 basis point negative effect on the core average. And finally lower trust fund income of $1.5 million negatively impacted the core average by another 40 basis points.

So these three negative trends took a 2.4% customer average growth down to 0.8%. While cremation mix should continue to have a negative impact, currency movements and trust income can become a tailwind at some point. Outside of core revenues we saw growth of $5.7 million in recognized preneed revenue, which is our non-traditional funeral home business or SCI Direct. Remember these are the deliverable product components of the preneed contract that are delivered immediately after sale representing cremation merchandise or travel protection policies. And finally, other revenue grew $5.9 million or 20%, which primarily consists of general agency commissions earned on higher preneed insurance sales production.

Now from a profit perspective. Comparable funeral profits decreased $20.4 million. On a core revenue decline of $26.1 million assuming an 80% incremental margin as this now excludes selling cost results in a profit decline of $20.9 million. Then we would anticipate our fixed cost base which approximates $250 million a quarter to grow at about 2% or $5 million. However, our fixed cost grew at about 1.3%, and therefore only negatively impacted margins by a little over $3 million for the quarter. The $5.7 million revenue growth from recognized preneed revenues for SCI-Direct generated about a 30% or a $1.6 million increase in funeral profits. While general agency revenues grew by $5.9 million, these are offset by similar increases in selling costs associated with our preneed selling efforts. While these can fluctuate some by quarter, the general agency revenue, which is only earned on insurance funded production, generally covers all selling compensation costs including trust fund and production.

Finally, comparable preneed funeral sales production, which is deferred into our backlog, grew an impressive $16.6 million or 8.5% in the quarter. This is a great start towards our annual guidance of mid single-digit growth. While we experienced a slightly higher selling cost percentage in the first quarter we expect for that to normalize as we progress through 2016.

Now moving on to cemetery operations. Comparable cemetery revenue grew by $15.1 million or 6.3%. Recognized preneed revenue accounted for $11 million of the increase, aided by a $1.4 million increase in at need revenue and a $2.7 million increase in other revenue, which is primarily trust fund income. Recall that from a seasonal perspective we sell a lot more contracts than we recognized as revenue in the first quarter of the year, some $40 million worth more in both 2016 and 2015. This is mainly because we are selling into projects that have yet to be constructed and seasonally the work gets initiated once the weather gets more conducive. Many projects finish in the back half of the year and those quarters will see higher recognized revenues versus the current sales production. Remember we recognized increases in preneed revenue of $11 million for the quarter. But preneed sales production or activity grew even more at $13 million or 7.7%.We started the quarter off slowly coming off the December close in 2015 but we had a strong finish in the last half of the quarter, particular as we experienced a significant increase in large sales in the month of March.

Now comparable cemetery profits increased $3.5 million and the gross margin was essentially flat at 21%. Growth from the core revenue increase of $12.4 million should produce 60% incremental margins as these would include selling costs or about$7.5 million of profit for the quarter. However our profit was slightly reduced this quarter by some 200 basis points or call it $4.8 million due to higher selling cost rates and higher property and merchandise unit costs. Trust fund income increased by $2.7 million and that is 100 percent margin. And finally our $100 million a quarter of cemetery fixed cost base grew at an inflationary rate of 2.3% and reduced profits by just over $2 million.

So to wrap it up, we believe we are on track to deliver solid results this year. We are glad to have this tough first quarter comparison behind us, and we expect to return to our normal pattern of earnings per share growth in the remaining quarters of the year. We are excited to see the growth in both our funeral and cemetery preneed sales program, and at present we remain confident in our earnings per share and cash flow targets for the year. Lastly, we will continue to deploy our capital wisely so we can continue to enhance the value of SCI for our shareholders. With that, I will turn the call over to Eric.

Thanks, Tom. Good morning everybody. This morning as usual I am going to walk you through the details of our cash flow performance as well as our capital deployment for the first quarter. And then I want to touch on our current guidance as we go forward for the remainder of 2016. So let's start with some details on cash flow.

As you saw in yesterday's press release we generated $190 million of adjusted operating cash flow during the first quarter, which was just under $8 million below the first quarter last year. The main cause for the decrease was lower earnings driven by the decreases in funeral volumes offset somewhat by robust preneed cemetery sets. But additionally we did pay about $4 million more in recurring cash taxes during the quarter. And both of these declines were partially offset by increases in cash receipts from preneed installment collections during the quarter.

Now, one cash flow item I really wanted to touch on quickly was $7 million of capital gains that we received from our cemetery ECF trust funds during the current year. A $3 million increase compared to $4 million of capital gains received from those same ECF trust funds in the prior year. And similar to what I have mentioned in the past, these capital gains distributions continued to relate to the liquidation of the trust assets at the end of 2014, when we implemented a change in the trust structure following the Stewart acquisition. This $3 million increase in capital gains over prior year was not contemplated in our models when we talked to you in February.

Maintenance CapEx and cemetery development CapEx, which as you remember are the two components that we consider our recurring CapEx, for the quarter came in at $37 million, which was about $12 million higher than prior year. The increase relates to the development of contemporary cemetery property which of course enables our sales force to drive sustainable growth in our preneed property sets.

However, we do view this increase in the first quarter as a timing issue which really related to the timing of cash invoices being paid for these projects. So our 2016 full year recurring CapEx guidance remains unchanged at $150 million. When you deduct these recurring capital spending items from our adjusted cash flow from ops we calculate our free cash flow for the first quarter to be just over $150 million. This was slightly below our quarterly expectations, but that's because of the timing I just mentioned of the cemetery development CapEx during the first quarter.

So now let's talk about how we deployed that free cash flow during the quarter. And as we have consistently said, returning capital to our shareholders is a top priority for us. We returned almost $80 million in the form of share repurchases and dividends during the quarter. Specifically we paid a $0.12 dividend in the quarter funding just over $23 million in dividend payments. And then we repurchased 2.3 million shares for a total investment of about$55 million during the quarter. Subsequent to the end of the quarter, we have repurchases another just north of 400,000 shares, additional shares, for a total investment of about $10 million.

So to update you on our program, we currently have about 194 million shares outstanding and about $216 million of remaining share repurchase authorization. Finally during the quarter we had no material acquisition activity. However in April we invested almost $12 million in the acquisition of two premier funeral businesses that we welcome into the SCI network.

So shifting now to the cash flow outlook for 2016. First let me take a few minutes to discuss our full year cash flow guidance. Our expectation for the full year 2016 cash flow from operations excluding special items continues to be $450 million to $500 million. When reflecting on the first quarter cash flow remember that our first quarter cash flow is seasonally high due to cash interest payments that primarily occur in the second and fourth quarters each year. So during this quarter we paid $16 million in cash interest. We expect to pay about $64 million in the second quarter and about $75 million to $80 million in the second half of 2016.

With regard to cash taxes we still anticipate our full year normalized cash tax payment we previously communicated to you to remain unchanged at that level, which, remember, is at an expected $140 million spent. Moving on to our recurring CapEx, I already mentioned this to you that our cemetery development spend came in higher, but also as I said this is a timing issue. So we still expect our full year guidance to remain unchanged at approximately $150 million.

So when you put all these pieces together and you deduct the recurring CapEx items from our 2016 recurring cash flow from operation expectations this results in free cash flow for the full year in 2016 ranging from $300 million to $350 million, which by the way equates to about $1.64 per share at the midpoint of this free cash flow guidance.

Now let's move on to capital deployment for the remainder of 2016, and of course the foundation to our capital deployment strategy is first having adequate liquidity and a manageable near term debt maturity profile. So let me tell you about a 2016 refinancing that helped to bolster this. So in the month of March we entered into a new $1.4 billion five year credit agreement with a $700 million revolving credit facility and a $700 million term loan. In March we drew $550 million on the term loan and an additional $30 million on the revolver which was used to fund the outstanding balances on the old credit agreement.

As a result, we finished the quarter with outstanding liquidity of just over $850 million which consisted of $200 million of cash and about $640 million of availability on that new revolver. But subsequent to the end of the quarter we refinanced our $295 million of senior notes that were due in 2017 using this new credit agreement through an incremental $150 million term loan funding and $170 million additional drawn down on our revolver. This leaves us as we speak with about $683 million of liquidity.

So now I know there is a lot of moving parts in what I just described and of course I also said that it crossed over the quarter end, so let me just summarize what I tried to say at a very high level in terms of how it impacted SCI. From a liquidity perspective at the end of the year at December 31, 2015, we had about $335 million of liquidity. Today we have about $680 million of liquidity.

Our weighted average interest rate came down. At the end of 2015 it was about 5.2%, today it is about 4.7%. And our weighted average maturity pushed out from 5.5 years at that end of 2015 to 6.2 years today. So of course, this transaction that we did positions us very well to strategically execute our capital deployment plans going forward.

Our leverage, which is calculated as net debt-to-EBITDA in accordance with our updated credit facility, was 3.75 times as of March 31. This also sets us nicely at the midpoint of our target leverage range of 3.5 times to 4 times. So therefore our liquidity, leverage ratio as well as our favorable near-term debt maturity profile created a solid platform for us to continue deploying capital to achieve the highest total shareholder return.

So from an acquisition perspective I've just noted acquisitions we closed in April. We believe we have a healthy acquisition pipeline in place; and therefore we are comfortable with our current $50 million to $100 million acquisition spending guidance for 2016. Based on our outstanding share count and current dividend rate, we expect dividends to be paid about $100 million in total for 2016. And therefore any remaining excess cash flow will be available to be deployed towards other value accretive opportunities such as the share repurchase program.

So in conclusion with the first quarter behind us, we are excited about the prospects for the remainder of 2016. Our robust cash flow coupled with the strength of our balance sheet will continue to provide us with a tremendous amount of financial flexibility to focus on deploying our capital to increase shareholder value. We appreciate you joining us this morning. That concludes our prepared remarks. And now we'll go ahead, operator, and open it up to questions.

Thank you. (Operator Instructions). Our first question comes from Scott Schneeberger from Oppenheimer. Your line is open.

Thanks, good morning. I would like to start out by congratulating you on the J.D. Power award. The first question I would like to ask is with regard to flu impact. We kind of been tracking it and obviously we saw the results in the first quarter. Could you please comment on thoughts on a year-over-year comparison in the second quarter, the relevancy and how you would consider looking forward to next year? Obviously we've have had a lot volatility in the first quarter. What you think appropriate run rate would be or thoughts just for modeling purposes. Thanks.

Scott, as you think about the impact of severe flu and you can go back and look some of the data particularly over the last ten years, when you see severe downturns like we are seeing in the core part of our business or call it a rounded 6% down, historically when that has occurred, we end the year close to down 1% to 2%, which bodes very well for your comparisons when you think about the rest of this year.

I will say last year my memory is the second quarter was still a little strong, pretty close to flat volume. So that may be our harder comparisons as you think about quarter over quarter. And then I think as we think of the long-term, we have said this historically, we generally tend to model flat to down 2%, generally somewhere in that 1% to 2% down range until we see what we believe is the demographic impact of what will happen in the United States. And again I point back to people we are seeing that demographic impact, impact our cemetery business already today. So we know it is going to occur. What we can't predict is exactly when it is going to occur. So we run our businesses with an idea that we can ramp up when volume shows up but we tend to model down call it 1% to 2% as we think near-term.

Thanks, appreciate that. Kind of a similar modeling question, gross margin was a little lighter than we expected in the first quarter by some usual culprits and then of course the elevated expenses you mention with regard to presales, which is essentially a good thing. So just looking for a little bit more, and thanks for what you have already provided, with regard to cadence over the year on how you would expect gross margin to expect, thank you, and drivers.

If you separate the two businesses on the funeral side volume has such a big impact on what is going to happen to margins. I think we feel pretty good about the comparisons as we go forward when you think about funeral volumes. Now by pretty good that probably means that they can be essentially flat when you think about the percentage gross margins. We expect to be able to grow revenue slightly and therefore the gross margin dollars should increase in funeral. But as you think about that, to really move the needle on funeral you need volume. So think of that as a very consistent predictable cash flow volume.

The one piece you'll notice, Scott, that I am trying to talk to people too about the way to think about our margins, and this is a little bit of an evolutionary thinking, is think of funeral margins as being 80% incrementally on a gross margin level. That just includes your ancillary service costs and your merchandise costs against that revenue. Then we have this what I call a big fixed cost pool of about $250 million on the funeral side which should grow at inflationary rates, call it 2% in today's world. And what we do now is we take the selling costs and the (inaudible) revenue and separate those out. Because if you think about it that activity has nothing to do with delivery of funeral services. It is a pre selling activity that generates a general agency commission for insurance funded and we pay our selling compensation cost and those tend to offset one another.

So as we grow preneed sales, it is going to have a natural gross margin percentage decline built into the business that in my opinion you have to look at separately. Cemetery wise we feel very good about our ability to continue to grow cemetery margins in the near term. That is going to occur mainly because we believe we can grow preneed cemetery sales in the high single-digit range. Again, we have done that for five or six years. We believe we can continue to do it. We did it again this quarter. I would expect that to continue.

You did refer to selling costs, we had selling costs a little higher than we wanted. We understand why that was. We think there is a fix in place to manage that. So we feel better about the back half of the year when you think about selling costs related to production.

Sounds good. Looking forward to the balance of the year and I will pass it along. Thanks.

Thank you.

Our next question comes from A.J. Rice from UBS. Your line is open.

Hi, this is Brandon In for A.J. here. The question really is around the preneed sales. At investor day last year I think you talked about around 25% market share of preneed sales in terms of overall market that you have annually. I was wondering if you had an updated figure on that? And also I haven't heard you talk about what you think the people over age 60, for example, how many have bought a preneed cemetery contract at this point or preneed funeral? If you have any data points around that. Thanks.

First as it relates to that 25%, I want to make it clear, that relates to funeral preneed only. So cemetery, most cemeteries that are for profit have a pretty substantial sales force and the customers preneed selling. But funeral is a little different and you see it in different parts of the country and different businesses and different philosophies about it. So that 25% was a really an estimate from us. There is not good national data. We do our best market by market to understand how people are selling. We can look at some of our larger public competitors. We see things when we are in the acquisition market. When we buy a business we know how active they are in preneed selling.

And what I would say is generally we see when we come in we are going to have more activity preneed selling program than the people that we are acquiring. Not always the case. We run across some really good preneed selling companies. But that is really how we have derived that data. So I don't have a new number for you because, again it is predominantly an estimate. But we feel very good about our competitive position in that market. Second question you had was, I'm sorry, was related --

If you had any data around people over age 60, for example, that have already purchased a preneed cemetery contract, just sort of your overall market penetration if you will? And also on the funeral side if you have any data there as well.

I don't have those specific data as to in the country how many have. But again I would remind you the average age or the age that we see as the sweet spot for selecting cemetery property is in that low to mid 60s. If you think about the baby boomers who are now, I guess the first are about to turn 70 this year, think about it this way, that six years of an 18-year span have run through the first part of that sweet spot .

So as we view the world there is two-thirds of the baby boomers left to enter into that decision point. Having said that, that is the average age. So there are people who are 68 that are going to come preneed with us that haven't done it yet. What we do know is this, that at the time people become at need or we're burying them in the cemeteries about somewhere between 65% and 70% of those people have selected a final resting place before they show up. So a pretty high percentage before they pass away are selecting cemetery property in advance and again we see a lot of activity in that 60 level.

Okay. Thank you.

Our next question comes from Chris Rigg from Susquehanna Financial. You're line is open.

Good morning. Just wanted to get a little more detail on the current M&A environment and it ebbs and flows every year and just a sense for where you think you could end up this year. Is it more likely to be towards the lower end or towards the upper end of the target? Thanks.

Chris, you always ask the hard questions, my friend. I wish I could say with certainty. It is a hard thing to say because the difference between 50 and 100 generally is going to be a large transaction that comes our way. So it isn't because we are going to do 15 $3 million transaction or 10 $7 million transactions. It is because we're going to a $25 million to $40 million transaction. That is what is so hard to predict. You have got some out there that we are speaking to. Timing is always difficult to predict. That is the way to think about it. I think as we get one of those in the chutes then you can have a stronger opinion about our ability to get to the higher end. We'll probably know a lot better as the year goes on. I wish I could be more specific.

Okay. No problem. And then just one question around some of the larger sale activity that you described. Is there any rhyme or reason to that or is that just luck that certain things hit up at a random time or is there a long lead cycle or just some details around how the higher end properties get sold would be helpful.

I think we view -- I think our cut off for analyzing large sales is $40,000. And I think if you went to different parts of the country, people would give you different opinions about what a high end sale is, so it is hard to define what that means. My reaction to this is a couple of things. We tend to see a lot of activity around Ching Ming, which occurs at the end of the first quarter and the beginning of the second quarter. That is a very, very important time of year. So you can see a lot of activity from time to time depending on what is going on in those market. The big markets for us are going to be Vancouver and California and different pockets there. Again, if things are good in those cities then you probably tend to see people with a little more confidence and a little more buying opportunity.

The other thing is our available inventory. I think as you open a new park and you put in high end inventory you tend to see a flock to the new place impact and over time that is going to slow down, the excitement. It is like the new ride at Disneyland that I'm going to have to go to someday soon. That is the way you have to --that kind of effect when you think about large sales. So hard to predict, economically driven, confidence driven, availability and new opportunities for sale is the way to think about it.

Got you. Great, Thanks a lot.

Our next question comes from Robert Willoughby from Credit Suisse. Your line is open.

Hi, Tom and Eric. Penny Willoughby in for Bob. Can you tell us how the death rate trended in February and March? And do you have any comment on the April trend?

We're sorry; the last part of your question? We heard the February and March death rate.

Is there a comment on the April trend as well?

Okay. April trend -- well, first of all let's start with February and March. Obviously things accelerated in the back half of the quarter and that comes across (Inaudible). We could talk about sales and we could also talk about the number of funeral services being performed. I mean when we talked to you, Bob, in February, I think it was February 10th around that time, things were kind of bleak. We just had got January results; it was double digits in terms of down in terms of the number of funeral services performed year-over-year. That really flattened out towards the end of February and actually had a little bit of momentum going into March.

So far I would put that April is really kind of neither way. It is not that it is really accelerated but it is also not going back towards the January and February almost doom and gloom that we saw. Continuing to trudge along pretty consistent with prior year and our expectations of flat to slightly down in terms of funeral services.

A follow up for Penny if I could. The share repurchase, Eric, was a little bit lower in the quarter. You had a bigger CapEx number. Would we expect a bigger share repurchase going forward or maybe just remind us a target for the year potentially.

I think obviously we're going to throttle it up and throttle it down based on the share price in the market compared to what we think the intrinsic value is. At this level we think that it is definitely something we want to invest capital towards. However, we also believe and our history with our acquisition program is that was a better value for our shareholders over the long-term in terms of return on invested capital. So we did have some in acquisition deployment in April. And of course as I said we have been excited about the pipeline, which means that we want the capital for that pipeline to some degree.

The dividends pretty normal at the $100 million annual mark that we said and we will always revisit that as we do kind of midyear. Ultimately I don't think there is any reason one way or the other. I think when you are comparing it to the prior year, you have to remember we had a significant cash balance from the Stewart divestitures that allowed us to go heavier in 2015. So I would call 2015 more of the anomaly, Bob, as opposed to 2016 being kind of right on mark where I expected it.

And maybe another last question maybe, Eric. The cemetery trust did well, up 2% or so plus in the quarter whereas the other ones were a bit flat. Any reason for the variability between the individual trusts? I mean there is some difference in investments, I guess, but I thought they would all be reasonably similar. Why wouldn't they be?

The cemetery perpetual care is a different animal, as you know between the preneed funeral and preneed cemetery. Both of those were somewhat consistent with what you just described at 0.3% and 0.5% up for the quarter. Those are the two trust funds that back the contracts, the preneed contracts and the merchandise and services on those contracts. And those are invested over that 10 to 12-year life and have the high equity component 50%, about 30% fixed income and then some alternatives and some cash.

The endowment care fund obviously is different because that corpus we'll never get so we invest it differently for a yield perspective because as it creates interest and dividends and to some extent realized capital gains under state laws, that is when that earnings gets distributed to us to offset maintenance costs under those specific state laws. And of course this quarter we said it is a little bit higher because we had a little bit more realized capital gains come through than what we originally expected when we talk to you in February. So it is a little bit of a different animal. And when you really look at them together in terms of funeral and cemetery you got to look at those first two line items, which are the merchandise and service trusts.

That makes a great deal of sense. Thank you.

(Operator Instructions). Our next question comes from Duncan Brown from Wells Fargo. Your line is open.

Good morning. On the non funeral home matured preneed pricing front it was down mid single-digits. Is there anything you can talk about that? Is that just pressure on the pricing front in business in the Neptune business or how should we be thinking about that?

I think that is a bit of -- if you think about Neptune and the way we sell, and this kind of gets into the functional aspects, you have a service component and then you've got what I will call a merchandise component. The merchandise component consists of essentially an urn and a away-from-home protection or travel protection policy. When we tell those, Duncan, they get recognized immediately in income because they are delivered. So the customer gets the urn, the customer gets the protection provided through a third party insurance provider, so we are done.

The last piece is when the person actually is deceased we have the responsibility to again perform that cremation and those funds are trusted over time. So what you are beginning to see occur is the backlog of that service component becoming a bigger part of our business. We're seeing a volume growth because they did such a good job in grabbing market share. So it is profitable business but it puts pressure on the overall average because there is more of those type of contracts. But think of it as you would rather do it because you are making a little bit of money on it than not do the business.

Also year-over-year as you think about comparing the two averages, we had a business that was in the direct cremation business but it had a different model. It didn't have the same, I would day, sales and marketing emphasis that Neptune had. So as we have begun to convert those businesses to look more like Neptune their backlog that is now running through the income statement is shrinking because we used to put more into trust, put more emphasis on the actually cremation itself. It is not something to be concerned with at all. It ought to level out at some point, but that's what's driving that. It is not a big number so we don't get a lot of questions about it, but that's what's happening.

No, that is fair. I appreciate that. And then Eric, I think I missed that you mentioned earlier about some capital gains benefit that you received this quarter that you weren't expecting previously. Was that just a cash flow item or was there some impact to the P&L there?

No, Duncan. It was from the eternal care fund. So the eternal care fund when it gets distributed to us it is both income and cash.

So was there a component of sort of one-time income gains in the quarter that we should be thinking about?

Yes, I would say there was. I would say we could always, as I described earlier on the earlier question, we'll always have our portfolio managers perhaps realize some gains on their own. We are obviously not managing the money or influencing them. But ultimately in certain states that gets distributed to us.

But I do agree with you that it was elevated this year because this is some trail end pieces to it from the original realized gains from the Stewart integration and whether the states distribute it to us or not has taken some time to get through it. The elevated part, I would call it $3 million which is kind of the increase year-over-year.

Great. Okay. Thanks a lot.

Thank you.

We have no further questions. At this time I would turn the call back over to SCI management.

I want to thank you all for participating today. And we look forward to talking to you next time in July. Thanks so much.

Thank you. Ladies and gentlemen, this concludes today's conference. Thank you for participating. You may now disconnect.