Terminix Global Holdings Inc (TMX) 2003 Q1 法說會逐字稿

Ladies and gentleman, thank you for standing by. Welcome to the Service Master First Quarter 2003 Earnings Conference Call. During the presentation all participants will be in the listen-only mode. Afterwards, we will conduct a question and answer session. At that time, if you have a question, please press the 1 followed by the 4 on your telephone. As a reminder, this conference is pre-recorded Thursday, April 24th, 2003. I would now like to turn the conference over to Mr. Jon Ward, Chairman and Chief Executive Officer of ServiceMaster.

Please go ahead, Sir.

Thank you, Kim, I'm here this morning with Bruce Byots, Investor Relations, and Steve Preston, Executive Vice President and Chief Financial Officer. Obviously, you've seen our press release this morning and I'd characterize the quarter as a tough one. We were a little disappointed in that we also think there are significant underlying strengths in both the business model and the opportunity to create value as we go forward. It was just about 30 days ago we talked to you about 2002. As you know, it was later than usual due to our re-audit, our restatement.

In our last call, we said that year-to-date, particularly March and April, were going to be very important, would give us more visibility into the year and it has. We've been tracking a lot of factors and we talked a month ago, a lot of these were right in the middle of becoming visible to us both with the positive and in some instances, negatively.

What are these things that we're tracking? We're tracking news on growth of "Do Not Call Us" on both the national and state level. And I want to emphasize here that the recent restrictions that polo isn't (ph) put in place by the FCC do not really impact our TruGreen business because they cover interstate calls, while we are really an intra-state call. So the interstate restriction do not effect our business, but obviously there's still a significant growth in "Do Not Call Us" nationwide.

But still, today, 100s of thousands of our customers today prefer telemarketing as their avenue of choice to be solicited by. But we've made additional pro-active choices in our marketing choice, adding much more direct mail pro-active quotes and inquiries. And we're doubling the number of customers this year versus last year. Close to 20 percent of our new customers come from the non-telemarketing channel. And I think that's a remarkable change, projecting the move from telemarketing to where we are today, and the continued ability in this business to attract and grow our customer base. New sales methods are initially a bit more expensive, but we know these customers stay with us longer. So it may cost us a few more dollars in customer acquisition, but at least extend the lifetime value or reduce cancellates because we have a more secure customer, in the end, our customer acquisition costs, we believe will be as cheap if not cheaper.

And as I said earlier, we are projecting customer growth of 2 to 3 percent organically this year in our TruGreen business despite this seachange in the channel. We talked about the sustainability of the housing as the underlying strength of our business. It has been a refuge for the consumer over the last couple of years. We did see a two month stall in January and February in new housing listings -- excuse me, housing listings for sale. Real estate listings were down and sales of existing homes were down. They rebounded nicely in March, and we believe we're on track for another strong year with housing sales in excess of five million units. It came back in March and we think we're back on track for double-digit growth in this business throughout the year.

We've seen mortgage rates at a 30 year low. Refinancing has been at a record pace, yet in the Journal today they said this refinancing phenomenon is flattening. People forget about renewing their Home Shield contract as they refinance their homes. So this flattening of renewals actually will allow us in the consumer channel to keep customers longer as the refinancing stops the loss of customers that are going through that transaction. Retention rate is up despite this refinancing and we know that we have a strong consumer desired product that will continue to grow in double digits in 2003 and beyond.

We've had impact by weather. We went into the year very optimistic around termites. There was great moisture content in the ground. But the lack of hot days, particularly in the South, Texas and Florida have hurt our termite sales over the last two and three months. There are two types of termite sales. The first: preventative sales. Those customers who make a regular investment and buy termite because they feel their home needs protection. It's no different from basic homeowners insurance. A lot of our sales, however, particularly in February, March and April come from what we call "swarm sales." These are customers who call when they see very active termite activities in their homes. They see a swarm of termites in their home or outside their home and they call and say "Get over here today!" This is the sale that we are not getting in 2003. The moisture is there but the heat has not been. We've been tracking approximately a half a million dollars a day less in sales this period than we did a year ago. We anticipate that this will cause a lack of sales, approximately 25-30 million dollars in 2003. These are attractive sales, high unit price sales and ones that will probably not be recovered during the rest of the year.

We also had snow in the Northeast and Mid-Atlantic. On the LawnCare side, that cost us 12-13 million dollars in revenue in March alone. The good news? We believe that we will recover most if not all of it in the second and third quarter. We'll be quicker on our applications, we'll make sure to work Saturdays, but despite our customer counts being up 3 percent in March, our revenue is down 12 million dollars over the prior year. This is a temporary situation, as I said, earnings and revenue just pushed (ph) in the second/third quarter.

The snow also helped LandCare. We had about 8 million dollars more in snow removal than we had anticipated. So the additional snow removal and snow did help our LandCare business. That kind of gives you an overview of the temporary conditions that we've been tracking that we want to talk about with you today in our call.

The economic environment is still tough. It's a weak consumer out there. We need to go in (ph) and we've planned for a soft economy. We're in it, and we anticipate it will stay this way, at least for the next couple of quarters. Now, if you'll remember, our two big sales seasons, our two big units for sales season is the first and second quarter. We weren't planning for any improvements during the year, and we don't expect the next to go up. (ph)

The War in Iraq broke out in the middle of our [Inaudible] sales season. It had some impact, impossible to tell how much, but consumers were definitely distracted. We entered the year with consumer sentiment at a ten year low, and though we've just seen a slight tick-up, it's still awful pessimistic, and we've done some more work and in one of the indicators we talk about today you'll see a slight reduction in pest renewal. As you go back and look at pest renewals as a comparative with consumer confidence, it tracks very closely over the last several years, and going forward, consumer confidence is an emerging indicator of what our pest renewals are likely to be.

So, despite the slight downtick, we don't attribute it to the quality of our service, we attribute it that there is a discretionary fun out there where some people are choosing on pest renewals not to invest money.

Our own situation in 2003 creates what we call some natural blowovers. We're going to have an unfavorable (ph) tax rate of 3 to 4 cents, remember, Steve'll talk about this, and the very low tax rate we had in 2002. Our prolltisk (ph) compliance is up, like many companies, with 404 sarbanes oxrate (ph) in the new audit, we have tightened our focus on both compliance, internal controls, and reinvesting some money to insure that with both (ph) our investors and related (ph) industries we are a fully compliant company.

We all did the right thing by starting to expense options. There was more news on it today, it is inevitable for all companies we are in front, but it is costing us close to a penny a year as we go forward. It's in our numbers for 2003 and creates a natural blowover. We are continuing to make the right investments for value creation for the mid and long term in marketing and technology. These investments are necessary to transform not only our company, but to transform this industry, and I'll talk more about that together (ph) .

Taking that together, we believe that our best estimate for the year of earnings is likely to be flat compared to last year. Despite that flat EPS, earnings from operations and revenue will grow, and Steve will talk a little more on that in his comments. But I'm encouraged and optimistic about what lays ahead for us as a company. We're making progress, the business units are generating revenue and earnings growth, and with the exception of the unusual setback in Terminix, will continue to grow customers and retention rates throughout the year.

Now, putting these things together and more attention into organic growth as we go forward. That begins with the hard work and determination of our entire team in the field. 47,000 employees walk into 45 million homes and businesses throughout the year, making a difference. They represent our brands, and we're dedicated to keeping our brands at the current high level of performance and enhancing it in the quarters ahead. The highest priority of our people is to satisfy the customer.

Teams in our branches are making hundreds of optional improvements guided by local and customer data that we've extracted over the last year. Those changes are giving us a lift now and will accelerate our growth when economic conditions improve. We're going to build organic growth and market expansion by transforming our customers' experience.

We have large, well-known, but very undeveloped brands. This is what we're finding in the consumer research that we just completed. It's the first set of comprehensive consumer research across all our brands in several years. We talked to you earlier about the customer satisfaction work we're doing, and now we're going after understand what the non-users and those that use our competitors want and desire from the verticals (ph) brand. It's going to lead us to much different and sharpened value propositions across our brands, such as leading brands, well-recognized, but not differentiated as well as we are today.

And it's going to be backed up by advertising and marketing by challenging our entire business units to be their brand, and I'll give you an example of that from ARS in a few minutes. It's not just the advertising that's going to change, but it's fundamentally changing the value delivery and service delivery for every one of our branches to align with what the customers want in various businesses. Now let me give you an example in ARS in how this is coming together. We did the research, and historically in ARS our advertising model will be there within an hour. It was in our billboards and mostly in our yellow page advertising. We've now changed the brand position to be ARS Service Express, and what we have found is that it's not important whether they are there in important, but it is very, very important to be there when we say we're going to be there. So we're launching a guaranteed on-time across both Rescue Rooter and ARS as we go forward.

And you know what? The challenge is not in developing the opera (ph) , the challenge is in operationalizing the offer. This takes time and dedication. It takes our branches understanding how we can over time tighten the windows of arrival in what is currently today a half a day or four hour window, and our eventual goal is to tighten it to a two or maybe even one hour window with a guaranteed discount if we can't get there on time. That's not just advertising, that's fundamentally changing the value delivery across our businesses, and it requires systemic change down to the branch and technician level. That's where we're going, we're going there over time, and that's the transformation of both ARS and our company.

The simple vision for ServiceMaster? Transform the service experience for homeowners and business owners by being predictably on time, getting it right the first time, and resolving problems quickly. We are more convinced than ever that the opportunity is large. We also know it is going to take a lot of hard work, patience and tenacity to make it happen.

Before I turn it over to Steve, I'd like to add one more comment. We are moving to put a lot more of our energy right now into revenue growth. Our hard work over the past couple years has us now in the position where 80 percent of our business revenue is earning in excess of its cost to capital on a CFROI (ph) basis. It's kind of the whole methodology that we worked with with PCG. That means revenue growth can and will create significant shareholder value, something we have been struggling with because our internal focus, number 1, and the external economic and weather conditions. Over the last 18 months we've talked to you a lot about six sigma, procurement, risk, or, in our terms, safety. They're becoming more and more of our DNA every day, and we can now turn our attention to what's going on in our markets and how to take advantage of it. So revenue growth is becoming our mantra. Revenue growth that is smart, profitable, and built off a differentiated value platform.

You'll see us be much more aggressive in differentiating in our advertising and marketing and what we call "being the brand": It's not just the advertising, it's how we operationalize it. We'll make significant investment in the U.S. geography growth over the next year or two. Look for more of this over the next couple of quarters, particularly as it relates to TruGreen, Terminix and possibly Rescue Rooter. We're going to be much more focused and prudent in price-management as a value creator as you differentiate brand, you'll be able to command a value differentiation through price. Undifferentiated brands cannot create value by differentiated pricing.

We've talked about it before but we are fully fine-tuning and developing a strong B2B sales capability inside our company that did not exist before. We've got back into talking acquisition in a more disciplined but stronger way, and look for TruGreen and Terminix to continue their investments in tuck-in (ph) acquisitions throughout this year and 2004. And yes, there is a possibility that further developed regional brands that exist within our company, particularly within ARS, Rescue Rooter into national rollouts, particularly along the plumbing line. And, with Mitch Engel's help and his team, the development of new channel development for crop sale and third party customer growth that is not apparent inside our company today. Simply put, with sulcomp (ph) we are still very confident in our ability to generate significant growth in earnings where earnings will be growing quicker than sales in the years ahead. With that, I'll turn it over to Steve for more details on the first quarter and we'll both be in a position to take questions in a few minutes. Steve?

Alright thanks a lot Jon, good morning everybody, before I start I'd like to remind you about one accounting change that we've discussed with you and that we reported in our 10-K, but your seeing it in action for the first time this quarter. The company amended its policy of accounting for seasonal costs at TruGreen and ChemLawn which had the effect of reducing the first quarter earnings and increasing later quarter earnings. These changes are reflected in both 2003 and 2002 results, and the policy only effects the quarterly timing of expense recognition, it doesn't have any effect on annual results.

Also, tomorrow we file an 8K (ph) with the quarterly segment and inter-statement data that reflects this adjustment, and then additionally, over the next few weeks, we'll be restating the full 10-Qs for the second and third quarter to give you much more fullsome (ph) MD&A and the other statements for those periods. Following John's comments, I'd like to give you a more detailed perspective on how we're entering the year compared with our earlier expectations and how that effects our views going forward. We talked with you, we had talked with you over time about a number of trends and initiatives. We want to make sure that you get a better sense now for how they're effecting the financial results much more specifically.

As we entered the year we anticipated a number of trends that continue coming out of last year. On the positive side, we expected to see continued positive momentum in both retention rates and overall customer counts resulting from the programs we've instituted. That favorable trend has continued attributing ChemLawn and American Homes showed much the same way we saw last year, though we clearly did have a setback in terms of Terminix, which will have a full impact in the full year.

We have also expected to see continuing improvement in certain aspects of the cost structure, from the strategic sourcing initiative from the six sigma initiative. We continue to have conviction that these programs will have value, in fact, we think they could add as much as four or five cents per share in net benefit in 2003, once again, just from those two programs. And finally, our debt reduction program should result in lower interest expense this year of about a penny a share. Now, on the other hand, there are a number of factors that are weighing us in the opposite direction. Most of which we anticipated, some of which we didn't. First there are a number of offsetting cost factors which we will absorb this year, we had a one-time benefit last (ph) from the tax rate of about 4 cents a share based on our ability to utilize the net operating cost carried forward at the ServiceMaster Home Service Center. We talked to you about that in the past. In addition, we continue to anticipate further increases in health care, insurance, and to a lesser extent, fuel costs. We discussed this in our last call, we're getting at the insurance side very aggressively through risk management programs focused specifically on loss claims management, safety, healthcare -- we're taking a hard look at potentially revising our healthcare, probably one that's more difficult to effect, and then also, our fuel costs, we have an active hedging program in place and we're actually hoping now with the war in Iraq behind us we will begin to see some pressure taken off of those -- of that particular cost line.

But if you add up all those three costs together, those three cost items represent over 250 million dollars in our cost structure, so they're very significant. Based on the trends we've seen, we anticipate that the increases in these costs will have about a five cent a share negative impact in 2003. Finally, higher current investments to support a stronger company in the future are a continuing reality for us. Investments in marketing, technology and process improvement are necessary to meet the desires of the customer to develop a clear strategic advantage and to meet the demands of an increasingly intense regulatory environment. These investments in 2003 are expected to grow 3 or 4 cents a share. Nonetheless, we do need to continually assess these programs and then spend aggressively to be sure that we're getting the kinds of returns that we want out of them.

The surprises in the first quarter dealt with something we primarily try not to talk about, but frankly, it's weather. We believe that we lost more than 20 million dollars in new termite sales volume at Terminix just in the first four months, which we think will be very difficult to recover. The swarm, the March through May period of the year is when the termite sales is driven by visible sales. And swarm activity was heavily diminished. In addition, weather delays probably 10-15 million of production at the TruGreen ChemLawn unit. We will work very hard to pick up that production in subsequent quarters.

Jon (ph) also mentioned that our 2003 estimate at this time is in line with the 2002 level. I'd like to emphasize that it is early in the year and our selling programs are later than usual. Our migration away from telemarketing, along with the cold weather and war in Iraq have resulted in a portion of our marketing programs being delayed until later in the season to insure that we get a higher buy rate. So we're very focused on the ongoing sales effort, and it is increasingly important to us this year compared to historical periods.

Let me turn now to a more detailed financial result from the first quarter. Revenue in the first quarter was 735 million, was flat as compared to the prior year. Revenue growth was led again by our home warrantee business, American Home Shield. Also during the quarter, Terminix, TruGreen LandCare and our franchise businesses experienced growth in earned revenues. Offsetting the growth were declines at the ARS/AMS segment, including ChemLawn. Operating income for the quarter was 25 million, compared with 40 million last year. The TruGreen segment was the largest contributor to this decline, reflecting a difficult in beginning service on contracts that they already sold and which they normally begin servicing in the first quarter.

Along the operating income line net interest expense for the quarter improved by about 4 million due to lower debt levels, and as we discussed, our tax rate has returned to a more normalized rate of 40 percent compared to the 36 percent tax provision last year. Turning to cash flow the company used 37 million in cash from operations in the first quarter, whereas we generated 2 million last year. Now, as many of you know, the first quarter has historically been a time of investment for our various business units as they gear up for the summer production season. Therefore, our first quarter cash flows due to higher working capital needs are lower than in any other quarter, and we are often negative. In fact, last year was somewhat of an anomaly in that we had the lowest level of first quarter working capital usage in recent memory. I think we looked back to 99 for that statistic, or actually 98, and it was the only first quarter in the last five years that we had a positive cash flow after adjusting for unusual items.

So while the 2003 working capital use of 61 million looks poor in comparison, it is not out of line with historical levels, and our businesses typically do use cash in the first quarter. Let me give you a little bit more visibility to discuss major components that contributed to cash flow variance. The largest component was about 25 million dollars in lower deferred revenue. Debt reduction was primarily driven by a change in our pre-paid renewal program in TruGreen ChemLawn. Now TruGreen picked up the renewal program in 2003 earlier than last year and it pulled the pre-payments into the fourth quarter.

But many of those same pre-payments would have occurred in the first quarter in '02, so 2002 had a little bit of a double dose of pre-payments. That was about two thirds of the amount. The remainder related to lower sales of Terminix and reduced pre-payment discount at TruGreen, which led to fewer customers pre-paying. We made a very conscious choice to reduce the pre-payment discount after we had tested various discounting levels last year, because our tests show that the margin benefit of higher pricings clearly outweighed the working capital benefit of marginal additional prepayments. And I think that's a very important point to understand in understanding the TruGreen pre-payment strategy. Now, whereas many of our business units continued to show improvements in receivables management this year, we didn't see nearly the same level of incremental improvement that we saw last year, when both LandCare and ARS were making very big strides in bringing their receivables on line.

In addition, we received a large payment last year following our work at the Pentagon in ServiceMaster Clean. So as a result, the first quarter of last year had about 16 million more in cash flow from receivables management just form those three businesses that we saw in this year.

And then finally, there were a number of payments the company made in the quarter relating to insurance, bonuses and vendors, which had an effect on the quarter. So when all is said and done, although the operating challenges we had in the quarter certainly did make the rated cash flow statement, the nature of the first-quarter cash flow has been very much in line with historical experience if you exclude 2002.

For the full year, we do continue to expect strong cash flows, and we expect to see continuing improvement in our working capital.

Turning to the balance sheet, our total debt at the end of the quarter was 830 million, down slightly from the year end level of 835 million. The cash and marketable security and quarter end was about 197 million.

Although we intend to keep our share repurchases to be in line with last year's level of about 50 million, we have a had a prolonged quiet period that began really January 1 and ends tomorrow. So the program has not kicked in. We do plan now to continue our share repurchase program. This level is fairly moderate. We have the capacity to go much higher, considering our annual cash flow. But I do want to reiterate that our repurchase policy will remain consistent with our stated objective and our commitment to remain investment grade.

Tuck-in acquisitions in the first quarter were 13 million. That compared to 4 million last year. The tuck-ins primarily occurred at TruGreen ChemLawn. Looking now at the business units, revenue in the TruGreen segment declined one percent, while the segment had an operating loss of 8.8 million, compared with income of 6.5 last year.

This decline was entirely due to a delay in TruGreen's ability to begin servicing residential contracts that it had already sold. The business was delayed based on late season snowfall experienced throughout the central, mid-Atlantic and eastern regions of the country. Now, while revenue at TruGreen ChemLawn declined two percent, customer accounts were up over -- I'm sorry. While revenue declined eight percent, customer counts were up over two percent, and the contracts we sold included slightly higher pricing and more services, which brings the annual value of those contracts up approximately four percent.

So this increase was supported by both a higher renewal rate, which we reported in our key performance indicators, and a moderate level of acquisitions. As a result, TruGreen ChemLawn will be heavily focused on taking measures to capture all of their revenue associated with the contracts that it's already sold. Management is taking measures to ensure that the labor force is in place to meet that production demand. If we've sold it, we want to realize it. So hitting our production targets will be absolutely necessarily for TruGreen ChemLawn to meet its expectations.

Revenue in the LandCare business increased five percent due to an increase in the snow removal business. Although snow removal is a relatively small portion of that business, generally in the $15 to $20 million range in revenues, it made the unit this year because of the significant snowfall in areas where we do provide that service.

We're also hitting the ground running with new maintenance contract sales this year. Investments we've made in our sales programs are beginning to show promise. Our primary concern in this unit is the difficulty in selling higher priced discretionary services. We refer to those as enhancements, in a time when many companies are looking to save pennies. The loss in this segment was entirely due to the delay in production at TruGreen ChemLawn. We did see lower profitability in the LandCare business resulting from pricing pressures in the utility line clearing business, known as Trees, Inc.

Now, as we continued the year, the new contract sales in TruGreen ChemLawn will continue to be an important factor in the results, as we've shifted more of our emphasis away from telemarketing, other forms of selling, as I mentioned earlier, due to tend to be later season efforts, especially in a year like this when the winter lingers on.

For example, while customers will respond to phonecalls in the winter to sign up for our services, direct mail gets a lot less attention until the snow is gone and the smell of spring is in the air. So we expect to see important things from these programs in the second quarter. Capital employed in that segment decreased one percent.

In Terminix, many of the same patterns affected results, however in Terminix's case, much of the first-quarter impact will be difficult to make up. Revenue increased by three percent due to higher customer renewals and growth in the commercial customer base. Revenue from new termite contracts actually declined four percent, while pest control revenue was flat.

The cold weather significantly impeded the termite swarm and other pest activity, which led to a significant reduction in both termite and pest control leads, especially in certain important southern regions, leads were down very significantly.

At this point in the year, termite leads are driven by the prevalence of a visible termite swarm, and that effectively didn't occur to any significant degree in many regions. While pest activity could recover in these regions, a portion of the year will nevertheless have been lost. At this point, we're hopeful that the swarm will take place in the northern regions of the country. Although we have not yet seen evidence of this taking place, overall higher moisture levels in the country bode well for pest activity, however, we do need a solid step into the warm weather season for it to materialize. Not surprisingly, these conditions also led to a reduction in the renewal rates in that business, and we also do believe that the weak economy contributed somewhat to softer renewal rates in this business line.

Now, later in the year, our new sales are driven by creative marketing programs and summer pest activity. Termite customers are more focused on preventative measures than fending off a visible invasion. And last year, we did see positive occasions from increasing our emphasis on direct mail programs later in the year. So we do believe that will continue to provide revenue growth in 2003.

Operating income of 34 million at Terminix was 12 percent below 2002. Revenue growth was offset by higher sales, marketing and overhead costs. In addition, Terminix will incur about $8 million in incremental expense this year, relating to the implementation of a new operating system which we have discussed with you in the past.

Capital employed in this segment was in line with last year. Revenue increased 10 percent in the American Home Shield segment, reflecting growth in contracts throughout last year and in the first quarter. We continue to see solid growth in new warranty contracts sold in the first quarter, driven primarily by strong renewals. We did see slightly lower sales through the real estate channel. And much of the first-quarter marketing activity in our third party channel -- specifically with our third-party partners was deferred into the second quarter because of concerns that consumers would be less receptive during the war. That activity has already begun to tick up again.

One exciting development in the third-party channel has been the successful introduction of our first major insurance company relationship with Farmers' Insurance. We've been working on breaking into this channel for quite some time now. It does appear that the Farmers' relationship could become one of our strongest partners really in a very short period of time. So we're very excited about that opportunity there.

Although renewal rates continue to show improvement year over year in American Home Shield, we have seen higher cancellations in our mortgage channel. Many of our customers in that channel participate in a program where the warranty payment is right on the mortgage statement. So if a customer refinances, our contract is effectively terminated. And because we have no clear mechanism at this point to migrate them to a new contract quickly, those cancellation rates have been increased.

So we are working on ways to bridge those transitions more effectively.

Operating income in the segment increased from 3 million to 8 million on the strength of higher sales, lower claims costs and favorable trending from prior year claims. Capital employed in the segment increased 15 percent. That reflected the volume growth in the business, which resulted in a higher level of required regulatory investments.

Revenue in the ARS/AMS segment was 151 million, which is eight percent below the prior year, driven primarily by lower construction revenue in the residential sector. We saw residential HVAC replacement increase for the second quarter, based on a strong increase in our air conditioner and heater replacements. That's when we also did see it in the fourth quarter of last year. This is a very welcome shift in that sector of the business, because it's very important to the segment's profitability.

The operating loss in the segment was reduced from 3 million to 1 million, even with the lower revenue. Higher gross margins and profits in both HVAC and plumbing service lines were more than offset in lower earnings in the construction business. Capital deployed in that segment decreased six percent, reflecting a reduced receivables level.

The other operations segment had revenues increasing seven percent, reflecting higher earned revenue at ServiceMaster Clean and Merry Maids. This segment reported a first-quarter operating loss of 7 million, compared with a loss of 5 million the prior year, reflecting continued growth in the profit of its franchise businesses, but offset by higher costs related to the aforementioned technology, marketing and compliance initiatives.

As we look at the full year, a good portion of the three to four cents a share I mentioned earlier relating to those initiatives will show up in the other operations segment. That's because most of the coordination from the enterprise initiatives will be driven from the center to ensure we work together on an affiliated basis where it makes the most sense and can support the business units with expertise.

Capital employed in other operations was reduced by 261 million. Over 200 million of that relates to us having less cash on the balance sheet following our debt reduction program. There was also about 30 million from shutting discontinued operations and another 56 million in deferred taxes. So there are a number of items that supported that significant shift.

Now, before we take your questions, I would like to make a couple of administrative comments. First, as many of you know, we have been planning our 2003 investor day conference for June 19 in New York City. As the calendar shaped up, it turns out that we will be at four investor conferences in June already, Lehman Brothers and Bear Stearns in New York City in early June, Tom Weisel in Santa Barbara in mid-June and then William Blair in Chicago in late June. In addition, we will be out on the road with investors in both May and June.

So as a result, it makes a lot more sense to hold this event later in the year, when we have fewer other venues to share investors and it would add a lot more value. We do not have a date finalized. We are targeting mid-September at this point, but when we get more details we will get back to you.

I should also mention that our annual shareholders' meeting is in Chicago on May 21st. I'm sure many of you saw that in our proxy. So, also I'd like to remind you, as we always do, that our comments have included statements which are forward-looking in nature.

Our actual results may differ materially from those stated. Additional information concerning factors that could cause actual results to differ materially from those in our forward-looking statements is contained in the company's press release, 10-K annual report and other SEC filings. In addition, I would invite you to read the forward-looking statement in our press release for a broader discussion of risks.

So, at this point, we would be happy to take your questions.

Thank you, sir.

Ladies and gentlemen, if you would like to register a question, please press the one, followed by the four, on your telephone. You will hear a three-tone prompt to acknowledge your request. If your question has been answered and you would like to withdraw your registration, please press the one, followed by the three. If you are using a speakerphone, please lift your handset before entering your request.

One moment please for the first question.

The first question is from the like of Chris Gutek with Morgan Stanley.

Please go ahead.

Good morning, Jon and Steve. It's Sherlaz Roth (ph) , filling in for Chris.

Hi, Sherlatz (ph) .

Morning.

Morning. A couple of questions, if I may. You mentioned that you expect some pick up in the second and the third quarter in TruGreen. If you go back a couple of seasons, I guess there were similar weather conditions, and the pickup didn't really come through as you had expected in the second half. So I'm wondering, how is it different this time, and what gives you the confidence that it will happen.

Two things. We learned some lessons from that experience. First, when we sat down with Don and Dave and saw this delayed revenue situation, typically what we do is we take that additional revenue and spread it out through the second, third and well into the fourth quarter, including November. And a lot of time what happens is that fourth quarter revenue gets truncated by adverse weather on the back end. So we saw this occurring in March.

We went to Don and Dave and we said we want all of this revenue recaptured by no later than mid-October. So what it's had us do is think about our staffing in the branches differently, the work weeks differently, and instead of both retiring some trucks, we found a way to put more trucks on the road and beef up our workforce. So we can't go out and spray our customers' lawns every week. There is a certain number of weeks and days between applications, so we have taken the number of work days between let's say the first week in April and what I call mid-October and spread it out and have figured out how many technicians we need, how many trucks, how to staff the trucks. Some of our trucks are going to two technicians instead of one to ensure that we can get the revenue done.

So we've plotted it out, we think we've got a good plan, and as you saw, we want to make sure we learn form what happened a couple years ago.

Great. Switching to AHS, you mentioned that mortgage refinancings are sort of restraining revenue growth, and you expect that to improve going forward. Just curious, what percentage of revenues for AHS do you derive from that particular channel.

Well, listen, we don't think it's restraining it. What's happened is that we used to sell through a real estate channel and we've started to develop new channels through insurance. Exact answer to your question -- Bruce will have to get back to you. Well, the last couple of years we've started to sell a lot of our consumer-direct through the insurance and mortgage channel. So it's a mortgage channel, someone comes up, three years ago they bought a home and today they're refinancing it. It's not significant. I also want to emphasize that the business unit still grew 10 percent in the first quarter. Consumer sales were still strong. You saw retention rates still moving up, and the only weakness below this mid-double-digit growth, the high mid-teens was really in the real estate channel because home listings were down significant. Particularly where if you're on the west coast, home listings were down 15 to 20 percent in January and February.

And that's still by and far the biggest regeneration channel that we have. Bruce will get back with an exact number.

And Sherlatz (ph) , just to make sure you understood my comment on that, the issue that I mentioned was the fact that often when we sell the mortgage channel, the customer likes to put their American Home Shield payment right on their mortgage statement. Well, if you go refinance with another mortgage provider, that billing mechanism is no longer there and our contract is effectively terminated, so we had to chase that customer down to resell them on a new contract. And there's not a simple mechanism to do that right now.

So it's a little bit different issue then than having our sales impacted by refinancings.

OK, fair enough. And my final question would be on your guidance. You mentioned flat EPS growth year over year. Can you maybe just aggregate that a little and talk about what kind of revenue growth you're expecting, pricing growth, and then any expectations of a margin expansion.

Yes, I think we would expect low to mid single digit top line growth. Margin growth really is difficult to sort of dis-aggregate, because it occurs in a specific business unit and it's offset by items that I enumerated.

So what I would say is if you kind of looked at the items I mentioned, for example, three to four cents a share impact from the other operations line, the four cents a share hitting the tax line, and the penny a share hitting the interest expense -- benefiting the interest expense line. If you sort of net those items out, that's the amount of growth we're going to have to get from the full primary operating units, and that will give you a sense of the margin expansion collectively in the four primary units.

But the margin trends is different in each one of those units, but that's basically how they aggregate.

OK. And ...

One thing, I want to make sure that we let others on the phone, so if you can cycle back through and get back in. I just want to make sure we give everybody an opportunity to get in questions, if that's OK. So try to limit ourselves to two questions, then we can cycle back through.

OK, thanks.

The next question is from the line of Jim Barrett with C.L. King & Associates.

Hi, everyone.

Good morning, Jim.

Jon, could you talk about -- and I got on the call a few minutes late, but could you talk about the do not call law that apparently is going into effect, and to what degree do you see that changing the business, and not only TruGreen but possibly other businesses as well?

Yes. The business that would naturally be affected the most by a do not call list would be our TruGreen business, although Terminix does have some call sellers, but Terminix is all lead-generated caller sellers, so we'd be a permissive call, someone sending a coupon and calling and saying, "Hey, I want to get a termite inspection." So let's come back to TruGreen.

The current federal legislation has minimal impact on us, because it oversees interstate calls. There are certainly, and I think in some 30-some-odd states today regulations that have emerged on intrastate calls, when all of our calls take place from the local branches. So the vast majority of our calls are intrastate.

Clearly, there are a significant number of consumers that are saying, "We don't want to be called at home." We started two years ago to test and move away from telemarketing as our primary customer acquisition vehicle. I think it's safe to say that we'll move from over five percent to close to 20 percent of our customers this year will come from non-telemarketing channels.

We see -- we're doing a lot of testing this year. We see the continued move toward inquired or direct mail sales, and we're also starting to look at, and I think we'll be announcing some significant programs for the next couple of quarters, what we call community-based marketing activities. I can't go into detail about these, because they're still in negotiation, but really what we're going to do is move to a direct person-to-person community to community sales organization in the years ahead, along with direct mail.

Now, having said that, there are still a significant number of people who want to and like telemarketing. So we absolutely will abide by the laws, but -- and basically, we're making an assumption that 30 to 40, maybe as high as 50 percent of the households that we currently call will not be available to call over the next three years.

Now, that being the reality of the environment we're in today, and I want to come back and point it out to you that despite that environment and not having fully developed the alternative marketing programs, we are still growing customer counts in TruGreen in this environment for the last two years. It's the first time that's happened since 1998. So I'm proud of the team. I wish we were growing five or six percent, but to think about rebuilding the airplane as we're flying it in a very, very tough marketing environment to be getting this type of customer growth I think is a great accomplishment and talks to the strength of the brand.

One step further. We just completed the brand research. So we've been doing this with what I would say -- with this brand that has high recognition. But the data is coming back that it's not truly differentiated the way we'd like it to. So in the quarters ahead, we'll be building out a value proposition that we think will be very concise and target what consumers are looking for. And that will both be in our advertising, our marketing, but equally important how the technician and the branch interacts with the customer and the prospect, what we call being the brand.

And that's why I sit here and say, "Boy, this is hard work." Quite honestly a little harder than I thought when I got here two years ago, but we're absolutely dedicated to making these value propositions differentiable, and then driving the brand strength to the consumer.

OK, I didn't quite understand if the federal law is for interstate calls and most of your calls are intrastate. Why would 30 to 50 percent of the households not be available to you?

Because each state can pass legislation, and 30 some-odd states have today that create their own do not call list.

OK, and finally I did not quite understand your comment. You're saying you're switching to some sort of direct sales force.

Well, what we do now is what we call our ex leads. So instead of calling your home and asking if you'd like a quote, if we have a neighborhood where we have a series of customers, we will go out and leave a quote on your door that says we'll do your lawn for $45 an application. Please call us if you're interested in. So we call it our ex lead. We canvass -- we literally canvass neighborhoods where we think there's a high and the demographics of that neighborhood match very well with our current customer set.

OK, thank you very much.

The next question is from the line of Kevin Monroe for Thomas Weisel Partners.

Good morning.

I was wondering, in the Terminix business, some of it was due to the cold weather that you kind of talked about in your prepared remarks, but it seems like the growth in customer contracts and retention rates has kind of been trending down for the past two quarters. And so what are you guys kind of putting in place to reverse this trend.

Kevin, maybe a couple of things. What sort of leads -- and I'll give you some stats, but I think I mentioned briefly a month ago. Leads for both pest and termite have been running double digits, close to 20 percent, below last year, on the same marketing program. No, I can't go any in between. There's no weather to help, or economy or law (ph) , but clearly this is the business that has the best developed integrating market program across all of our businesses, and to see a lead falloff of 20 percent in one year when no competition is really coming towards us, you have to say there's some external short-term factors going on in there.

Now, you also heard me say that on pest we've gone back and done some work and it looks remarkably consistent over the last several years how pest renewals have tracked with consumer confidence. So we're starting to think here, the one statement that pest is a little bit discretionary based on consumer confidence. We're going to go back and do some more work, and I think we'll be talking about it on our road shows and investor conference to fully understand what we're controlling about pest renewals, and what's controlling us, i.e. economy.

Termites, it's off a percent from last year. This is not a business where we think we're going to push renewals past 89, 88, 90 percent. It's going to fluctuate. It's just, as we would call it, it's a process in control, a six sigma process. It doesn't stay static. It can go from 87 to 90, and that's just going to be the normal variation of both season and short-term anomalies, so we don't see anything going on in termite that is significant. And what I was talking about the termite leads, the lead fill particularly being down 20 percent is where we're not getting any level of swarm that we would expect to be weather-related.

OK, and on the AHS business, this refinancing boom of mortgages has been going on for quite a while. So I'd imagine, why such the impact in the first quarter where your growth in warranty contracts has kind of fallen off relative to kind of the historical growth.

Yes, I think I'm giving you a little bit of misinformation here. We're not attributing much of any of the falloff of contracts in the first quarter to the mortgage refinancing. That is in the short term affecting some renewal rates, but renewal rates are still up.

What we saw in the first quarter, new sales are down in the real estate channel, because new listings are down. Our real estate channel gives a listing on a sale when the people put the homes on the market the first times to sell.

The National Real Estate Board is still anticipating about 5.4 million units to be sold this year, kind of consistent with last year. It was significantly down. I think it was down 15 to 20 percent in our major markets, in the first two months. So we saw listings down and therefore real estate sales down in the first two months. Refinancing had nothing to do with the new sale falloff in the first quarter. It was all due to real estate, and we are not convinced it was a short term phenomenon. It bounced back in March and is looking good going forward.

OK, thank you.

Ladies and gentlemen, if there are any additional questions, please press the one, followed by the four, on your telephone.

Once again, if you do have a question, please press the one, followed by the four.

I'm showing no further questions at this time. Please continue with your presentation or closing remarks.

Thank you for turning it back over to me. We appreciate you all being with us today. Steve, Bruce and I are available this afternoon and tomorrow, and we're going to be out on the west coast next week, and then making some trips to the east coast. So we're more than happy to spend some time with you to understand what your thoughts and questions are and have further dialogue with you. And thank you for being with us this morning.

Bye.

Ladies and gentlemen, that does conclude your conference call for today. We thank you for your participation and ask that you please disconnect your lines.