Terminix Global Holdings Inc (TMX) 2012 Q3 法說會逐字稿

Ladies and gentlemen, welcome to the ServiceMaster Company's third-quarter 2012 earnings conference call. Today's call is being recorded and broadcast on the internet. Beginning today's call is Roger Cregg, ServiceMaster's Chief Financial Officer. Mr. Cregg will introduce the other speakers on the call. As a reminder, during the question-and-answer session please limit yourself to one follow-up question. At this time we will begin today's call. Please go ahead.

Good afternoon and thank you for joining our third-quarter 2012 earnings conference call. Joining me for today's call is ServiceMaster's Chief Executive Officer, Hank Mullany, and our Controller, David Martin. We'll make some prepared remarks and then address your questions during the question-and-answer session. Before we begin, I'd like to remind you that throughout today's call, management may make forward-looking statements to assist you in understanding the Company's strategy and operating performance.

All forward-looking statements are subject to the forward-looking statement legends contained in our public filings with the Securities and Exchange Commission. These forward-looking statements are not guarantees of performance and are subject to risk factors contained in our public filings that may cause actual results to vary materially from those contemplated in the forward-looking statements.

Information discussed on today's call speaks only as of November 14, 2012, and any rebroadcast or distribution of information presented on today's call after such date is not intended and will not be construed as updating or confirming such information. The ServiceMaster Company undertakes no obligation to update any information discussed on today's call.

Earlier this morning ServiceMaster filed a press release highlighting our third-quarter financial results. Additionally, a handout summarizing our third quarter results and key performance indicators can be found next to the webcast icon on the Investor Relations section of our website. Included in our press release and handout are additional disclosures that we believe will enhance your understanding of our financial and operating results. We may reference throughout today's call non-GAAP financial measures such as adjusted EBITDA, comparable operating performance, and operating performance which factors in adjustments related to such things as restructuring expenses, non-cash goodwill and trade name impairments, and non-cash option and stock-based compensation expense, among others.

We have included in our press release available on our website definitions of these terms and we have included in our press release and handout relevant reconciliations to the most appropriate GAAP financial measures in order to better assist you in understanding our financial performance. During the question-and-answer session, we encourage you to ask any questions that you may have. Due to our disclosure policy and legal requirements, we are limited in our ability to hold follow-up conversations with our public-side investors and such, we request that you please ask any questions during this public forum.

I'll now turn the call over to Hank Mullany for opening comments.

Thanks, Roger. Good afternoon everyone and thanks for joining our third-quarter earnings call.

I want to thank you for your understanding while we rescheduled this call so that Roger could be with his family last week. As you know, Roger's here with me today and he'll be covering the details of our financial performance with you in a few minutes.

I have a lot to share with you today about TruGreen, but first let me give you some perspective on the total Company. Our third-quarter operating revenue was down 3.2% to $901 million compared to 2011. Meanwhile, operating performance for the quarter was down 12.8% versus the same period in 2011.

Neither of these numbers is acceptable to us and we've already put plans in place to help boost operating performance by reducing costs through the end of the year. We've done this by tightening the controls on discretionary spending, making improvements in our strategic sourcing practices, and through ongoing simplification and standardization of our processes, both in our business support center and in the field. Nevertheless, based on our current forecast, we've determined that our 2012 revenue will be slightly below our 2011 revenue and that our 2012 operating performance will be lower by approximately 5% to 9% compared to our 2011 consolidated operating performance.

I think it's important to know that even though we've adjusted our forecast, there are many positive things happening today at ServiceMaster. As we lay out a plan to retool TruGreen which I'll share with you in a few minutes, we're seeing the benefits of having a diverse set of businesses that make up our family of brands. In fact, excluding TruGreen, our operating revenue for the first nine months of this year was up almost 6%, and our operating performance was up 5%.

Terminix, our largest business, reported 5.6% revenue growth in the quarter and its 6.2% revenue growth year-to-date was the best the business has seen since our equity sponsors acquired our Company in 2007. Operating performance at Terminix grew 8% through the first nine months of the year.

American Home Shield also had a strong third quarter. Revenue was up 4.2% and operating performance was up 22% over the same period a year ago. Our customer satisfaction scores continue to improve as well. Year-to-date through the third quarter, customer satisfaction scores were up in four of five segments including TruGreen as well as for ServiceMaster overall. That's a sign that our focus on customer experience is paying off.

Let me talk more about what's specifically happening at TruGreen. At TruGreen, revenue for the third quarter was down approximately 15% compared to the third quarter of 2011. TruGreen's operating performance for the third quarter declined roughly 35% to the third quarter of 2011. Last month, we announced the resignation of Tom Brackett as TruGreen President. We've already begun the search for a new president, but in the meantime, I'll be leading the business with the TruGreen management team reporting directly to me.

During this leadership transition, we're fortunate that we have a highly motivated team of lawn care professionals who are committed to the work that has been done to transform TruGreen into a best-in-class service provider. Our updated full-year TruGreen forecast for 2012 now shows a 10% to 12% decline in revenue and approximately a 27% to 31% decline in operating performance compared to 2011. This drove the impairment charge that Roger will talk about later.

TruGreen's full-year revenue forecast is being driven by lower sales from our Residential business as a result of the continued impact of our lower residential full program customer counts. The decline in TruGreen's full year operating performance forecast compared to 2011 is primarily due to lower residential sales, lower labor productivity, and higher fertilizer and fuel costs.

I know this is a lower forecast than we provided in August, but we're confident it's a realistic forecast for the full year given that we're now past the volatility of our peak season and that the team and I have spent the last month digging into what's working and what's not working at TruGreen. Obviously, the third quarter results at TruGreen didn't meet our expectations but you're not going to hear any excuses from us. We're confident in our strategies to transform, then grow TruGreen. However, we just hadn't executed them as well as we needed to.

As you'll recall, we decided to rebalance TruGreen's sales and marketing program. We also decided to scale back on sales of less than full service programs which weren't meeting our customers' expectations for lawn care quality. We just didn't achieve the overall sales levels we had expected.

This year we introduced our new Healthy Lawn Plan which provides an excellent treatment plan that matches the growing conditions in each part of the country. It also includes protection and treatment for lawn-damaging insects. Although it's only been rolled out on a limited basis, early customer feedback has been extremely positive. Cancellations are lower and customer satisfaction is higher for customers who are enrolled in the plan.

But in the process of introducing this new treatment plan, we believe we abandoned a profitable segment of the market that wanted more choices in lawn care services. In response, we're developing new variations of the Healthy Lawn Plan that will give customers more options while delivering the results they expect, no matter which option they choose.

We will also continue to transform customer service at TruGreen through a combination of new technology, including a new operating system and the mobility tools, new processes and tighter branch standards similar to those that have proven success in Terminix. For example, the roll-out of a new call management system that will be completed by year-end will help provide better customer service on the phone.

We've also implemented a better system of pre- and post-service communication, keeping customers informed when their lawn technicians are going to be on the property and letting them know which services have been delivered. In addition to improving our service, we believe these technology and process enhancements will also help improve our cost structure and drive higher operating margins.

Although the roll-out for all of the technology isn't complete yet, these process changes and technology improvements are giving us more controls and visibility into business operations than ever before. For example, to better manage our labor costs. We're confident they'll be fully operational in time for the spring selling season. So, while it's disappointing we have to sit here and tell you we fell short of expectations, I'm also here to tell you that we will get this right.

Let me be clear. TruGreen has the right fundamentals and is positioned for success in the marketplace. Why? Because TruGreen is number one in its category and four times larger than its nearest competitor. Yet we still have a huge opportunity to grow the business, both by increasing our penetration in the residential lawn care market segment and by gaining share in the $3 billion commercial lawn care market segment.

We look at the opportunity in front of us. We're encouraged that TruGreen has the size and scale to invest in new technologies and provide new, improved services. Another reason why we believe in TruGreen is positioned for success is our agronomic expertise, led by our team of highly skilled technical staff who are experts in treating lawns based on specific geographies, climates, and soil conditions. It's a competitive advantage in a highly fragmented category. As I said earlier, we're also encouraged by the initial results of our Healthy Lawn Plan. For those customers enrolled in the plan, we're seeing reduced cancellations and improved customer satisfaction.

At the same time, we are developing and testing new variations of the Healthy Lawn Plan and other service offerings to be sure we're not excluding profitable segments of the market. And finally, there are thousands of passionate, dedicated, hard working TruGreen associates who are committed to improving the business. Since I've taken over TruGreen, I have opened up the lines of communication directly with TruGreen field teams, spoken to hundreds of our associates, and I can tell you they're excited about the changes we're making. Because they're closest to our customers, they're in the best position to tell us what we need to do to improve our service and they're committed to helping our business win.

As we close the year and prepare for 2013, we're focused on a few priorities at TruGreen. First, I'll be working with the TruGreen marketing team to review all of our marketing programs for 2013 selling season to ensure they're the right ones with the right channel mix. We want to ensure they're aligned with what consumers want and ultimately drive better revenue growth.

Second, for TruGreen to win, we also have to get our workforce management and labor costs in line with seasonal customer demand. We weren't able to staff our branches at the right levels at the right times in 2012 or adjust quickly enough when demand shifted. To address the workforce management challenge, I'm already meeting regularly with our field leadership team to make sure we have the right operational capabilities and capacity to meet changing demand throughout the selling season.

Third, I'm personally committed to getting TruGreen on track and finding the right leader to take TruGreen into the future. The challenges we've experienced this year don't change our vision for TruGreen. Our customers will have the best looking lawns anywhere. TruGreen will be recognized for delivering an exceptional customer experience. We'll use our scale as a competitive advantage, leveraging investments in technology and back office centralization.

The business will grow profitably through improved retention, geographic expansion in the United States, and greater penetration into the commercial market segment. And like all of our businesses, we will simplify and improve the quality of our customers' lives. We will continue to transform then grow TruGreen and I'm looking forward to sharing our progress with you on our next call.

As I said earlier, there are a lot of positive things happening in our Company and I want to spend some time talking about a few of those today. Terminix continued its strong 2012 performance, growing revenue 5.6% in the third quarter and 6.2% year-to-date compared to 2011. That's the best revenue growth in years. In the third quarter we saw higher pest revenue, higher termite revenue, higher product sales, and higher termite renewals, and higher customers satisfaction. We believe we have additional opportunities to grow the Terminix business simply by expanding our footprint in certain US residential and commercial geographies, where our penetration is low.

We're sizing up that opportunity today and we expect to capitalize on those underserved areas next year. As the category leader, Terminix has the scale, technology, and expertise to drive a superior customer experience. However, even as the category leader, we believe we have a huge opportunity to grow the business. That's especially true in the commercial pest control market segment where our market penetration is about 12% in a $2 billion category.

American Home Shield reported increases in both revenue and operating performance in the third quarter compared to the same period in 2011. Also as we announced in August, we've hired a new President, Mark Barry, to replace Dave Crawford who announced he was retiring from the Company. I want to again thank Dave for his 25 years of outstanding service and leadership.

Our growth strategy at American Home Shield includes, first, capturing a larger share of home warranty sales at a key purchasing point for consumers, when they're looking to buy a new home. Second, we're putting more focus on customer retention strategies, including better communication throughout the customer life cycle. And third, expanding our footprint in the US.

We have many geographies today where our penetration is low and where we believe we can better leverage our existing contractor network to serve more customers. As we grow, we still have some important work ahead of us to help ensure our home warranty customers are consistently receiving an exceptional experience at every customer touch point.

One of the key initiatives we've been talking about at American Home Shield involves introducing new technology that will enable us to deliver a better customer experience. That means everything from how we take a service request, and how long customers are left waiting for their service request to be answered, how we dispatch a contractor to the home, ensuring the service was completed in a timely fashion, and of course, following up with customers to make sure the service met or exceeded expectations.

The implementation of this new technology platform will make a huge difference in all of these areas and open the door to new product offerings and sales opportunities. However, the project has been delayed. Obviously, we're anxious to see it completed but it's a significant investment and we want to make sure that it's executed properly. For that reason, we're reevaluating our technology partner and developing a new implementation schedule that works for the business and our customers. Once it's rolled out we believe it will result in a better experience for our associates and our customers.

Technology is also a critical aspect of our growth plans and our franchise businesses. Year-to-date, customer satisfaction scores in both ServiceMaster Clean and Merry Maids are up and we're seeing a favorable response from our franchise owners to the new technology and marketing tools we're introducing, an investment we're making to help them grow their business so in turn, we can grow ours. Our ServiceMaster Clean franchise owners have also been strong supporters of our commercial growth plans and we are actively seeking ways to help them partner with our other brands to deliver additional services to commercial customers.

I'm very pleased with the results at Merry Maids. I've talked before about the Merry Maids Advantage Program. It's been a great customer retention tool and it's also helped improve our customers satisfaction scores. We know satisfied customers are much more likely to provide us with valuable referrals from their friends and family members. In all of our businesses, our commitment to transforming the customer experience remains at the heart of everything we do. It's our mission. We want to simplify and improve the quality of our customers' lives.

One more thing before I turn the call over to Roger. The executive team and I are 100% committed to our vision to be a rapidly growing, best-in-class service provider. We will be the best place to work and invest. And with our commitment comes the commitment of 21,000 associates throughout the Company who are delivering on our mission and vision every day. As I said, our third quarter results overall and TruGreen's in particular weren't up to our expectations.

While the TruGreen transformation will not happen overnight, we are making progress in many key areas. We're seeing good year-over-year improvements in our customer experience. Our strategic IT road map is helping us capitalize on opportunities to simplify our back-office processes, both in our businesses and in our support center. Our recruiting and talent development efforts are paying off in the form of stronger leadership and bench strength throughout the Company. You have my personal commitment to keep you informed as we move forward.

There's some work ahead of us, but we will get this right. We're on the way to building a ServiceMaster that is rapidly growing, best-in-class service provider, the best place to work and invest, and I'm looking forward to reporting our progress on our next call.

Now, I'd like to turn it over to Roger to review our results in more detail. Roger?

Thank you, Hank and good afternoon everyone.

As you've just heard and read, ServiceMaster's revenue and operating performance for the third quarter of 2012 decreased as compared to the third quarter of 2011, largely due to TruGreen. Let me briefly cover our third quarter consolidated results, then I'll move on to the segment results. For the third quarter of 2012 consolidated revenue decreased 3.2% to just under $901 million, compared to $931 million a year ago. The decrease in revenue is primarily driven by a 13.7% decline in customer accounts at TruGreen, partially offset by improved pest revenue at Terminix and improved price realization at American Home Shield.

As Hank mentioned earlier, the decline at TruGreen was driven by two factors -- the rebalancing of TruGreen's sales and marketing programs and the loss of a segment of customers who wanted more product choices than our standard full-service Healthy Lawn Plan. Operating performance decreased 12.8% to $169 million, or approximately $25 million below third-quarter 2011 results. And third quarter operating performance margins declined 200 basis points to 18.8% compared to 20.8% in the third quarter of 2011.

The decrease in operating performance was primarily driven by the decrease in revenue and a reduction in labor productivity at TruGreen. That was partially offset by lower home warranty claim costs at American Home Shield.

Cost of goods sold as a percentage of revenue increased 150 basis points to 57.1%, compared to the third quarter of 2011. The increase primarily reflects lower labor productivity and higher fertilizer cost at TruGreen, higher fuel costs, and increased expenses in our automobile, general liability, and workers' compensation insurance programs. These items were partially offset by lower claims costs at American Home Shield. For the quarter, we saw fuel prices increase $2.9 million, and for the full year we're forecasting that fuel prices will have an unfavorable impact of approximately $8 million to $11 million compared to 2011, after the impact of fuel hedging.

SG&A expense as a percentage of revenue increased 90 basis points to 27.3%, compared to the third quarter of 2011. The increase primarily reflects increased technology costs related to new operating systems at TruGreen and Merry Maids, increased incentive compensation expense at Terminix, and increased provisions for certain legal matters at American Home Shield. These items were partially offset by lower sales and marketing expense at American Home Shield.

Based on our current forecast, we have determined that 2012 consolidated revenue will be slightly below 2011 consolidated revenue, and that our 2012 consolidated operating performance will be lower by approximately 5% to 9% when compared to 2011 consolidated operating performance. The forecasted decrease in consolidated operating performance against prior year is primarily the result of anticipated decreases in both operating revenue and operating performance at TruGreen.

Excluding TruGreen, we're forecasting that consolidated 2012 revenue will be approximately 5% higher than 2011, and that our consolidated 2012 operating performance will be approximately 2% to 6% higher than 2011.

Moving on to the balance sheet for the third quarter of 2012. Our cash balance increased from $300 million to $325 million in the quarter, or 8%. In August, we completed a $750 million senior unsecured note offering maturing in 2020 at a coupon of 7%. Proceeds from the offering were used to retire the remaining $396 million of our 10.75% notes due in 2015 and to repay $276 million of borrowing under our term facility. We were also able to negotiate an extension of our maturity date of $1 billion of our borrowings under our term facility from July 2014 to January 2017.

Net cash provided from operating activities for the quarter of $6 million was driven by $101 million in earnings adjusted for non-cash charges, partially offset by an $80 million increase in working capital needs, $4 million in restructuring spend, and $11 million call premium payment related to the redemption of the remaining $396 million in principal on the 2015 notes. The increase in working capital requirements resulted from normal seasonal working capital needs and the timing of interest payments on our senior notes. For the quarter, net cash used for investing activities of $24 million primarily reflects purchases of technology and property improvements of $13 million, and $18 million used for tuck-in acquisitions. These items were partially offset by $7 million in sales of marketable securities.

For the year, capital expenditures are expect to be in the range of $80 million to $90 million. Additionally, new lease financings for vehicles are expected to be in the range of $40 million to $50 million for 2012, with in-year principal payments of approximately $4 million. Net cash provided by financing activities was $43 million, consisting of the sale of $750 million in 2020 notes, partially offset by the repayment of the remaining $396 million in principal outstanding on the 2015 notes, the repayment of $276 million of borrowings under the term facilities, scheduled debt repayments of $15 million, and debt issuance cost of $20 million related to the sale of the 2020 notes.

Interest expense for the third quarter of 2012 was $62 million, while cash interest paid totaled $91 million. Our liquidity profile remains strong. Cash and short- and long-term securities totaled $474 million, of which $254 million is associated with regulatory requirements at American Home Shield and other working capital requirements. We currently have $447 million of capacity under our revolving credit facility and there were no borrowings on our revolving credit facility during the third quarter.

Now let's talk about the segment results. At Terminix, revenue for the third quarter of 2012 was $317 million, up 5.6% compared to the third quarter of 2011, reflecting strong growth in our pest control business. Pest control revenue increased 8% which reflected a 4.1% increase in average customer counts, a $4.1 million increase in other pest revenue, primarily bed bug services, and improved price realization. The increase in customer counts was driven by an increase in acquisitions, partially offset by a decrease in new unit sales and a 50-basis-point decline in the customer retention rate.

Termite revenue including new unit sales and renewals increased 1.8%, reflecting improved price realization, partially offset by a decline in average customer counts. The decrease in customer counts was driven by a decrease in new unit sales and a 40-basis-point decline in the customer retention rate. Terminix's operating performance for the third quarter of 2012 was approximately $70 million, an improvement of 2.8% compared to the third quarter of 2011. This $1.9 million increase in operating performance primarily reflects the impact of higher revenue and cost reductions realized through ongoing initiatives. These items were partially offset by increased incentive compensation expense and fuel prices.

At TruGreen, revenue for the third quarter of 2012 was $313 million, down 14.7% compared to the third quarter of 2011. As Hank described earlier, TruGreen has embarked on a strategy to redesign its product offerings in three ways. One, by employing the latest agronomic techniques, customized for regional weather and soil conditions. Two, by transforming the customer experience through a combination of new technology, improved processes, and stricter branch standards. And third, by rebalancing the sales mix toward channels with higher retention and profitability.

The changes we've made to date in our product offerings and the rebalancing of our sales mix have resulted in declines in new unit sales and full program customer counts in the third quarter of 2012 as compared to 2011.

In the third quarter of 2012, revenue from residential lawn service customers declined 17.2%, resulting from a 13.7% decline in average customer counts and lower price realization. The decline in customer counts was driven by a decrease in new unit sales partially offset by a 60-basis-point improvement in the customer retention rate.

TruGreen's operating performance for the third quarter of 2012, which excludes the goodwill and trade name impairment charges, was $59 million, a decline of 35.2% compared to the third quarter of 2011. This $32 million decline in operating performance mainly reflects the impact of lower revenue, a reduction in labor productivity, higher fertilizer and fuel costs, and increased technology costs related to a new operating system which is in the process of being implemented and deployed.

Other than the impact of lower revenue, the reduction in labor productivity was the largest factor impacting TruGreen's operating performance in the quarter. This one item had an approximate $6 million negative impact on operating performance, and as Hank mentioned earlier, resulted from our workforce management challenges.

As we noted in our press release this morning, TruGreen's third-quarter operating income was negatively impacted by an $845 million pretax non-cash impairment charge to reduce the carrying value of TruGreen's goodwill and the TruGreen trade name to their estimated fair value. The goodwill impairment charge is primarily attributable to a decline in the forecasted 2012 cash flows and a decrease in the projected future growth in cash flows at TruGreen over a defined projection period as of September 30, 2012, compared to the projections used in the last annual impairment assessment performed for goodwill on October 1, 2011.

The amount recorded in the third quarter reflects our current best estimate of the total goodwill impairment charge. A further adjustment may be recorded in the fourth quarter when the analysis has been finalized. The trade name impairment charge was primarily attributable to further revisions to the projected revenue for TruGreen for the remainder of 2012 and future years compared to the projections used in the second quarter 2012 impairment test.

Based on the current forecast, we expect that TruGreen's full-year 2012 revenue will be lower by approximately 10% to 12% compared to its full-year 2011 revenue and that TruGreen's full-year 2012 operating performance will be lower by approximately 27% to 31% compared to its full year 2011 operating performance.

The forecasted reduction in TruGreen's revenue is due primarily to lower anticipated residential revenue production driven by the impact of the year-over-year decline in residential full-program customer counts. The lower forecasted operating performance is primarily the result of the impact of lower forecasted revenue, a reduction in labor productivity, and higher fertilizer cost, fuel prices, and technology cost related to a new operating system.

At American Home Shield, revenue for the third quarter of 2012 was $213 million, up 4.2% compared to the third quarter of 2011, reflecting an increase in average price of home warranties. American Home Shield's operating performance for the third quarter of 2012 was just under $50 million, an improvement of 22.1% compared to the third quarter of 2011. This $9 million increase in operating performance is primarily due to the impact of higher revenue and a reduction in home warranty claims costs and sales and marketing expense. These items were partially offset by a reduction in interest income and increased provisions for certain legal matters.

The ServiceMaster Clean segment, which also includes the Furniture Medic and AmeriSpec brands, reported revenues for the third quarter of 2012 of $34.6 million, down 4.9% compared to the third quarter of 2011. This was driven by clear domestic royalty fees from disaster restoration services and lower sales of products to franchisees, partially offset by an increase in revenue from janitorial national accounts.

ServiceMaster Clean's operating performance for the third quarter of 2012 was just under $15 million, a decline of 6.3% compared to the third quarter of 2011. This $1 million decrease primarily reflects the impact of lower revenue. The other operations and headquarters segment, which includes our Merry Maids operations, ServiceMaster Acceptance Company, and our business support functions reported revenue for the third quarter of 2012 of $22 million, up 1.2% compared to the third quarter of 2011.

This increase reflected comparable revenue at Merry Maids, where a 10.5% increase in royalty revenue was offset by a 2.4% decrease in revenue from Company-owned branches. That decrease was driven by a $1.2 million reduction in revenue driven by the sale of 11 Company-owned branches to new and existing franchisees in the fourth quarter of 2011, partially offset by improved price realization. After adjusting for the impact of the branch sales, revenue benefited from a 6.6% increase in average customer accounts at our Company-owned branches. That was driven by a 470-basis-point increase in the customer retention rate.

Merry Maids operating performance for the third quarter of 2012 was $4.5 million, a decline of 4.1% compared to the third quarter of 2011. This $200,000 decrease reflects increased technology costs related to a new operating system which is currently under development, partially offset by labor efficiencies. The operating performance of ServiceMaster Acceptance Company and the Company's headquarter functions declined $2.6 million in the third quarter of 2012, compared to the third quarter of 2011. This was primarily driven by increased expenses in our automobile, general liability, and workers' compensation insurance programs, due primarily to the reversal in the third quarter of 2011 of claims reserves driven by favorable claims experience, partially offset by lower key executive transition charges.

I think it's important to reiterate something Hank said earlier. Although revenue and operating performance growth at TruGreen were challenged during the third quarter, our other businesses grew revenue by 4.2% and improved operating performance by 6.9% during the quarter. Moving forward, we'll continue to stay focused on executing our strategies that will get TruGreen on track to support the 2013 season and drive growth and profitability in all of our businesses.

That concludes our prepared remarks. Operator, if you would please open up the lines for our question-and-answer session.

Certainly.

(Operator Instructions)

Karru Martinson, Deutsche Bank.

If we look at when we did the bonds here, we were in the middle of August, kind of in the last 45 days -- clearly TruGreen had to have had a massive drop. Are we looking at a regional change? Was there things that you could isolate on that? It just seems a bit out of place just labor of $6 million and yet EBITDA drops $32 million.

Yes, Karru, to help give some clarity on that, really what happened with TruGreen is our revenue declined more than we anticipated and in addition to that, our labor productivity and our management of labor was not what we had expected it to be. So what we're doing is we're in the process of improving our labor management tools that we provide to the field so that moving forward next year, we don't see a similar situation like this.

Okay. And then when we look at the regional layout of TruGreen, were certain areas weaker or were there pockets of strength or was it just really kind of broad-based?

It was really broad-based. There weren't significant regional variances that stood out or drove the results.

All right. Thank you very much.

Thanks, Karru.

Yilma Abebe, JPMorgan.

Following up on TruGreen, as you look at your internal forecasts, where do you see the most uncertainty? What areas could you have the most negative surprise as you look forward in 2013?

Where we saw the greatest variability in our forecasting was in TruGreen, and the reason for that is we're in the process of transforming TruGreen so that we can grow it. We've also injected numerous changes into TruGreen this year to help that business grow in the future. So with all of the change in that environment, that led to the greater variability in terms of the forecast. As we go forward with TruGreen, as you know, we're in the process of implementing a new operating system that will provide much better visibility as well as operational discipline. We're in the process of improving our branch standards and we're also in the process of making sure that from a revenue perspective we've got products that appeal to a broad range of consumers. So I think as you think about the future, all of those things coming together will help improve not only the performance of TruGreen, but also the forecasting of it.

Is your sense, given the decline in customer count, we have re-based at the bottom or could there be more significant declines in customer counts?

Really, as we sit here today, the majority of our selling season is behind us. There's just a few weeks left in this year and as you know, our revenue in November and December are very low compared to our revenue in other months. We feel very confident about the work that we're doing in TruGreen from a marketing perspective. We've got some exciting things that we're working on there. And also we're doing some extensive consumer research to make sure that we've got a very compelling offering for consumers as we move forward.

Thank you. A couple more, I'll move on. If I back into the TruGreen revenue and EBITDA performance in the fourth quarter, given your guidance, looks like revenue's about $185 million versus $214 million the prior year. But operating performance looks like it's in the $9 million to $10 million area versus $49 million which implies about a 5% margin. Can you bridge us in terms of why the operating performance decline is so much more steeper than the revenue decline?

This is Roger. Again, we're doing some things to make changes in the business. We're putting more money into the marketing aspects of our business. We've got some more focus on the labor side of it. So we're spending some money there as well. So we've got a number of activities to begin to firm up our overall operations running into 2013. And we felt we needed to continue to bolster the back end of the year, now going into next year to make sure we're ready to perform.

Okay. Then my final question is, as we look forward, I'm trying to get a sense for how to measure the efforts you're putting in place at TruGreen. Obviously, the first quarter of 2013 is not a significant operating performance quarter for TruGreen. What are the milestones that we should be looking at and around what time period should we be looking for certain milestones to be met in terms of measuring the success rate of your efforts?

I think as you see our selling season kick in next year, as the weather warms up and people start thinking about getting outside on their lawns, you'll be able to see the results of our marketing efforts and our consumer research that's in process right now. Also, as we start to generate revenue in our busy season, you'll be able to see the impact of some of the improved labor management tools that are going in place and also the results of the new operating system which is being installed in TruGreen as we speak. So I think really as some of those three key events happen, you'll start to be able to measure the progress of TruGreen as we move into 2013 and beyond.

Thank you. That's all I had.

Thank you.

Kevin Coyne, Goldman Sachs.

I was wondering if I could just touch on Hurricane Sandy and if you could just give us some general color of how that is affecting your businesses. I assume could be certainly a lift on the ServiceMaster Clean side. But the part I'm most interested about is on the American Home Shield side, is there any sense as to reserves or liabilities that you may have there?

Thanks for the question, Kevin. In terms of Hurricane Sandy, as you mentioned, our ServiceMaster Clean franchise owners and our associates are busy right now helping people get back into their homes and get them restored and back. We're out in the field right now, working with businesses to get businesses back up and operational. So that will help our ServiceMaster Clean business.

In terms of our other businesses, we had minimal damage to our branches and locations so we're very fortunate from that standpoint. We have included in our forecast for the remainder of this year a negative impact in terms of our operating revenue and our operating performance due to Hurricane Sandy. It's not material. And in specific to response to your question about American Home Shield, no material impact whatsoever with that business.

Just a follow-up to that. Is that just because you could tell the contracts, you don't have a lot of penetration in the affected areas?

That's a big driver of it. The Northeast is a very low penetration area for us and also in terms of the types of coverage we provide for different appliances or HVAC systems, that's another protection for us.

Great. Thank you.

Thanks.

And then just another one on TruGreen, if it's okay. Going back to August, you had mentioned about a large corporate customer that was going to order less for the remainder of 2012. I guess just is this more or less a permanent change with that customer or do you think that customer will see let's say a recovery in '13 and start ordering at normal levels?

Kevin, that was not a permanent change. We anticipate that that customer will go back to normal activities and really what happened at TruGreen was due to residential revenue shortfall, not a commercial shortfall. It was on the residential side.

Okay. Thank you.

Thanks, Kevin.

Marianne Manzolillo, Angelo Gordon.

Some more questions regarding TruGreen. If you look at your TruGreen revenues, about how much of your revenues came from full program selling and how much from non-full program sales?

All of our new revenue in this year is coming from full program sales.

So if I look at the revenue for TruGreen of $313 million for this third quarter, that's all full program sales?

No, I'm sorry. Let me try to be more clear. All of our new customers in 2012 are full program accounts.

Okay.

That represents less than 30% of our total revenues.

Full program accounts represent less than 30%?

No. I'm sorry, Marianne. The Healthy Lawn program, the new Healthy Lawn Plan that we rolled out this year is less than 30% of our total revenues.

Okay. And Healthy Lawn implies a full program type of customer?

That's correct. That's correct. However, there are other legacy customers that are on full program results. They're just not what we categorize as Healthy Lawn or our new program for this year.

So how many legacy customers are on the full program?

The majority of our customers today are full program residential lawn customers.

Okay. And then will you be -- I think you mentioned you'd be changing or offering more variations, though, of the Healthy Lawn kind of offering where -- by that do you mean customers can select something more than just a full program or what kind of options would you offer customers?

Marianne, that's exactly what we said. We are going to offer consumers more choices next year. We're in the process of right now of literally finalizing our consumer research and what we offer will be very consumer-driven and consumer-centric. We're going to listen to our consumers, find out what they want, and make sure that we have a selection of offerings that meets their needs.

More than what you've offered now is what you're implying?

That's exactly right, Marianne.

And any sense of when we'll get to see a turnaround in the full program customer count, any sense of when that number will turn positive?

We are focused on improving and strengthening our TruGreen business every single day. I mean, it's a journey, not a destination. Every journey begins with a single step and we've already taken several steps along the process of strengthening and improving TruGreen. So I think you'll be able to see our progress as we continue to report out on each of our calls.

If I could just please ask a question on the American Home Shield side. It's my understanding that you recognize revenue in proportion to the claims. So I'm having a bit of a difficulty understanding lower claims yet higher revenues.

There's actually a couple of elements to that. So first of all, you've got some favorable timing with respect to revenue associated with higher claims costs but in two specific trades, that being our plumbing trade and our appliance trade. So that's what's really driving the higher revenue. Having said that, if you look at claims costs as a whole, there is a favorable driver to claims costs in two different trades, that being our HVAC and our AC. So when you combine those dynamics, you actually do end up with a favorable revenue drive as you mentioned and at the same time an overall favorable claims cost.

Okay. Great. Thank you very much.

Thank you, Marianne.

Kevin Seagraves, Fort Washington Advisors.

With the new guidance for 2012, and I know you haven't said anything about '13, but just given what you know about 2013, can you speak to the bank facilities, revolver, term loan in terms of covenants, any danger there in terms of losing access of having problems with banking facilities?

We haven't given guidance on 2013, Kevin, but we see no problems with where we are today, what we know in 2012, and even potentially looking out in 2013. So I think we're very comfortable with all of our facilities.

Okay. Great. And then with looking -- TruGreen and then -- I can't remember what you guys call it, if you call it corporate or kind of the catch-all in your expenses -- how about expenses kind of moving forward. I know you talked about in the fourth quarter you're making some investments. With the changes you're making in TruGreen and with the systems getting implemented, should you see better comparisons next year with cost there or is it going to be dependent on what happens with commodities? Could you talk about the corporate costs related to whatever drives that terms of systems, et cetera, also with the costs related to TruGreen specifically?

Okay. On TruGreen, typically again we saw fuel prices up this year so we've had an impact of that. We also saw fertilizer costs, urea specifically, we saw that earlier in the season in 2012 where corn was being pushed into many of the agricultural fields. So there was a demand for urea and fertilizer on that side of it that drove up our costs. Again, those commodities will move around based on what's going on in the market in general. And you know how fuel works.

We typically hedge about 75% of our fuel cost going into the next year so we try to protect ourselves on that side. The other side of course you don't get the big gains if it moves in the other direction. But we're trying to protect ourselves from getting too much or getting hurt from the expense. The fertilizer is just something that is a spot market. There's not much hedging availability from that standpoint.

On the corporate side, typically those are costs are based on the corporate structure itself. In that, we also have some of our systems work that goes on. Some of that does get allocated out specifically out to the business units that we have. So most of the costs are really driven by labor and headcount and constantly we're looking at that, looking for ways to streamline and improve our overall processes in the system. So again, from year to year, we continue to look for continual decreases and productivity improvements on the side of the corporate expense.

Okay. I guess coming at it from a different angle with TruGreen, are there significant costs as you move forward that are within your control that you can act on or is it really just you have to drive the top line to, in turn, drive the better operating performance of that business?

Yes, I think definitely you always want to drive the top line. There's no doubt about that. But you get to a point in seasonality where if you don't react quick enough on your cost side or you don't manage your labor productivity appropriately it can hurt you because you don't have the revenue, especially this time of year. As we come through typically third quarter beginning of fourth quarter it's imperative on ourselves to make sure we're focused on the labor management side of it. That's where it can get away from you quicker than anything else. A lot of it's controllable. Some of it on the commodity side, some of it's in our control, some of it's not. Certainly the way we manage our routing and our scheduling is important to managing the overall efficiency of the cost side.

Okay. Great. Thanks. And lastly, the interest cost in the third quarter, $62 million, the book number, is that a good run rate going forward with the changes to the cap structure?

Yes, I mean, roughly 6%, a little bit plus or minus. But yes.

Okay. Thank you.

Thanks, Kevin.

Todd Harkrider, UBS.

Congratulations on the continued success with Terminix and American Home Shield. But I wanted to try to continue the topic on TruGreen. Can you talk about Tom Brackett's resignation if you're at liberty to? He's a driving force at what Terminix is today. Seemed like he was also l the front man on trying to turn around TruGreen. Was his resignation more personal in nature in regards to he couldn't go back to Terminix and was unhappy at TruGreen? Or could we see that as an indication that lawn care is going to go down the same route as land care where revenues fell by 50% and it's going to take much longer to turn around TruGreen? Any help, appreciate it. Thanks.

Good afternoon, Todd. Yes, Tom did a lot of good things for our Company over the years which we're grateful for and I wish him and his family continued success in their future endeavors. I don't think you should read anything into his departure in terms of the future of TruGreen or where that business is going. As I said, we think that's a great business, it's number one in its category, it's four times larger than its closest competitor. We're in the process of implementing process improvements and systems that were key drivers to the margin improvement that Terminix realized over the years and we feel very confident in our strategies with TruGreen and view that as a very strong business.

Okay. That sounds good. And then in regards to the revenues being down substantially, the full-program customer counts were down 14%. Is it fair to say that the aggregate customer counts were down in excess of 14% or -- any clarity in regards to where the total counts were down? Thanks.

No, year-to-date our total customer counts are down 13.7%.

Okay. Then can you provide a little bit of color, was all of those you think self-inflicted, as in you were trying to [improve] the ones that weren't accepting the full applications and where do you think they went? Is the commercial side getting a lot more aggressive on the residential side or is it a lot of the smaller players that's picking up those customers or do you have any sense of where they went?

Yes, I mean, if you reflect back on our strategy, some of the decline in customer count was strategically planned as we decided to reduce the neighborhood marketing channel which we knew was an unprofitable channel for us. Some of it was planned. Some of it was not planned and it was just a function of -- for the Healthy Lawn Care program, which we love, is providing great results and is providing improved retention and higher satisfaction scores. We just need to make sure that that Healthy Lawn Plan appeals to a broader customer segment base. So in a nutshell, that's it. And again, all on the residential side, Todd.

Got you. And in order to bring TruGreen back do you think it's more driving the residential side back or do you think it's expansion into commercial, because it sounds like the commercial side, it seems like it's more consolidated and tougher to gain market share there.

Well, we think the key driver will be growing residential sales. However, we also see opportunities to grow in the commercial space. We've got very low penetration in that space and it's a very large market, so we feel great about our ability to grow, Todd, in both the residential space and the commercial space.

Okay. I appreciate it and hope you all have a good holiday.

You too. Thanks, Todd.

Thomas Shur, Federated Investors.

Thank you for taking my call. It's a follow-up on the questions of Todd and Marianne. Just to attempt to simplify this -- is the crux of the issue here that the Healthy Lawn Program is a full encompassing program. It's also probably a relatively expensive program versus some of the partial options that have been in the past. Going forward you need to come up with programs that are less expensive for certain customers.

Yes, that's it in a nutshell.

Okay. Also want to ask you a little about your flip in marketing channels. I think you had specifically mentioned out of kind the door-to-door type sales versus digital marketing. What kind of returns have you seen on those versus your expectations?

Well, Thomas, just to clarify, we're not out of the neighborhood market door-to-door, we're just decreasing the frequency of it. So it's still a channel but what had happened over the last few years is that channel had grown exorbitantly high as a percent of our total. We're not walking away from it totally. We're just rationalizing it and bringing it down to prior years' levels when it was effective. It's not a total abandonment of, it's just a reduction of. What we've done is invested in some other marketing channels where we're seeing improved return on those investments. And as I mentioned, the consumer research that we're doing, we believe that we'll be able to sharpen our marketing message even better and also sharpen where we invest those dollars to generate improved returns as we move forward.

Okay. And you've been talking all year about an attempt to gain more traction to the commercial business. I'm assuming you've put meaningful marketing and sales efforts around that as well. Can you talk about how much of those efforts you've seen come to fruition to date?

Thomas, really to date we have not put significant marketing in the commercial space. What our focus has been to date is making sure that we have the people, the processes, the talent, that we can penetrate that market to an even greater degree than we've done in the future. So that's something that's a key part of our strategies, as we move forward and we'll keep you updated in future calls how we're tracking against those strategies.

Okay. Thank you.

Thanks, Thomas.

We have no further questions at this time. I would now turn the call back to you to continue with your closing remarks.

Okay. We thank everybody for being on the call today and we'll look forward to updating you in our next call. So thank you very much.

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