Service Corporation International (NYSE:SCI) Q1 2024 Earnings Call Transcript

Service Corporation International (NYSE:SCI) Q1 2024 Earnings Call Transcript May 2, 2024

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Operator: Good day and welcome to the SCI First Quarter 2024 Earnings Conference Call. All participants will be in a listen-only mode. [Operator Instructions] After today’s presentation, there will be an opportunity to ask questions. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to SCI management. Please go ahead.

Debbie Young: Thank you, and good morning. This is Debbie Young. We appreciate you joining us today as we talk about our first quarter results. We’re going to have some prepared remarks about the quarter from Tom and Eric in just a moment. But before that, let me quickly go over the Safe Harbor language. Any comments made by our management team that state our plans, beliefs, expectations or projections for the future are forward-looking statements. These forward-looking statements are subject to risks and uncertainties that could cause actual results to differ materially from those contemplated in such statements. These risks and uncertainties include, but are not limited to, those factors identified in our earnings release, and also in our filings with the SEC that are available on our website.

Today, we might also discuss certain non-GAAP financial measures. A reconciliation of these measures can be found in the tables at the end of our earnings release and also on our website. With that, out of the way, I will now turn it over to Tom Ryan, Chairman and CEO.

Tom Ryan: Thank you, Debbie. Hello, everyone, and thank you for joining us on the call today. This morning, I’m going to begin my remarks with some high-level color on our business performance for the quarter and provide some greater detail around our solid funeral and cemetery results. I will then close with some thoughts on our outlook for the rest of 2024. For the first quarter, we generated adjusted earnings per share of $0.89, which compared to $0.93 in the prior year or a decline of $0.04 per share. We had anticipated a decline in earnings per share from operations for the quarter due to lower funeral volumes, lower non-funeral home revenues and lower cemetery revenues recognized from completed construction concert projects.

While these trended as we had anticipated, stronger than expected pre-need cemetery sales, in a slightly better funeral sales average, allowed us to reduce the operating shortfall, resulting in a better than expected $0.06 per share decline in operating earnings per share over the prior year quarter. Below the line, the favorable impact of the lower share count and a lower income tax rate more than offset the impact of higher interest expense, producing a net favorable increase in earnings per share of $0.02, resulting in a combined net $0.04 decrease and earnings per share for the quarter. Now, let’s take a deeper look into the funeral results for the quarter. Total comparable funeral revenues declined $9 million or about 1% over the prior year quarter and an increase of $4 million in core funeral revenue was more than offset by an expected $12 million decrease in non-funeral home pre-need sales revenue.

Although core funeral volume declined 3% compared to the prior year quarter, we believe due to the COVID pull-forward effects, volumes were in line with what we had anticipated. Our core average revenue per service grew over the prior year by an impressive 4%, even after absorbing the negative effects of a modest 70 basis point increase in the cremation mix. SCI Direct, non-funeral home pre-need sales revenue, decreased by $12 million, primarily due to operational changes in our California market with respect to the timing of merchandise delivery. We would anticipate the quarter-over-quarter net revenue decline to diminish over the coming quarters as compared to the first quarter of 2024. It is our intention over the next several quarters to implement this and other operational changes across the remaining non-funeral home market as we begin offering in insurance-funded product for SCI Direct service and merchandise sales as well as shifting certain travel protection sales to an insurance-funded product where it makes sense.

While these changes will defer recognition of these revenue streams until the at-need cremation services performed, it will also generate significant general agency revenue upon the sale of the preneed contracts, which we expect to mitigate the effect of the revenue decline from these operational changes. Over the coming years, we would expect to grow General Agency revenues at a very healthy and sustainable growth rates. And when combined with organic growth in the number of contracts maturing from the preneed backlog for SCI Direct should result in very impressive revenue and profit growth rates for SCI Direct. From a profit perspective, funeral gross profit declined $18 million, while the gross profit percentage declined by 270 basis points to about 22%.

This decrease is primarily due to the decline in revenue and an increase in annual incentive compensation costs over the prior year quarter. Preneed funeral sales production decreased by $8 million or about 2% over the first quarter of 2023. This was primarily due to a decline in our core sales production as non-funeral home sales production was relatively flat over the prior year quarter. Now shifting to cemetery. Comparable cemetery revenue increased by an impressive $21 million or about 5% compared to the prior year first quarter. Recognized preneed revenue accounted for the preponderance of the increase growing by $20 million or 7%. Growth in preneed cemetery sales production of $24 million or almost 8% over the prior year quarter delivered $8 million of the $20 million of recognized revenue increase as the preponderance of our sales production increase was deferred and will be recognized in subsequent quarters.

Preneed merchandise and service revenue delivered $12 million of the recognized revenue increase as robust increases in contract averages favorably impacted by increased merchandise and service trust income combined with a slightly higher delivered units delivered 14% growth as compared to the prior year quarter. $17 million of the $24 million increase in preneed cemetery sales production was generated from a 6% growth in core cemetery sales over the prior year quarter. Bard sales accounted for the other $7 million of the increase, which was a 19% increase over the prior year total. Cemetery gross profits in the quarter increased by $3 million from increased revenues and the gross profit percentage declined by 100 basis points still generating margins over 32%.

This decline in gross profit percentage was primarily due to an increase in annual incentive compensation costs as compared to the prior year quarter. Now let’s shift to discussion about our outlook for 2024. As you saw in our earnings release, we’re confirming our normalized earnings per share guidance range of $3.50 to $3.80 for 2024 or a midpoint of $3.65. Remember the first quarter was the most challenging year-over-year comparison because we had expected the most difficult comps to occur in the quarter in both revenue recognized from cemetery completed construction projects and non-funeral home preneed sales revenue. We also knew our most challenging comparison of variable interest rates on our floating debt would occur in the first quarter.

As we think about comparing the rest of 2024 earnings per share expectations against our last nine months of 2023 normalized earnings per share, we would expect year-over-year growth in earnings per share in each of the subsequent quarters driven by increased profitability in both the funeral and cemetery segments. We would expect low single-digit increases in funeral revenues and we would anticipate increased sales production and increased revenue recognized from completed construction projects combined to drive mid single-digit increases in cemetery revenue over the coming nine months. In conclusion, I’d like to thank the entire SDI team for all that you continue to do every day for our customers, our communities and each other. You can are what makes our company great.

With that, operator, I’ll now turn the call over to Eric.

Eric Tanzberger: Good morning. And again, a warm welcome to everybody joining today’s earnings call and similar to the way Tom just ended his remarks. Before I get into my prepared remarks, I want to take a moment as I customarily do. But again, never without genuine gratitude to extend my sincere appreciation to our dedicated team of over 25,000 associates at SCI. Your constant commitment to serving each and every one of our client families with empathy, and unwavering excellence is truly remarkable. We take immense pride in the fact that our associates embody our fundamental values of respect, integrity, service excellence and fostering enduring relationships. So thank you. So, now let’s go ahead and shift to my remarks for the quarter.

I’m going to first discuss our cash flow results before moving to capital investments during the quarter. I’ll end with providing some forward-looking commentary on our outlook, and also finish with talking about our current financial position. So in the first quarter, we generated an impressive adjusted cash flow from operations of $220 million. This is flat compared to the prior year and was in line with our expectations. Lower operating income and higher cash interest payments were more than offset by slightly lower cash taxes and favorable working capital. So let me give you a little bit more color on those items. Operating income declined by about $13 million quarter-over-quarter due to an expected decline in earnings that Tom just walked us through.

Additionally, we saw $14 million of higher cash interest payments during the period as anticipated and as a result of higher weighted average interest rates and balances on our floating rate debt during the quarter. Cash taxes in the quarter were slightly lower than the prior year by about $4 million. Now, while federal cash tax payments are generally not made in the first quarter, I want to reiterate from my previous comments that we expect our 2024 cash taxes to range between $25 million to $35 million. 2024 is being impacted from a temporary benefit of about $150 million of reduced cash tax payments as a result of the tax accounting method change that I’ve now discussed over the last several quarters. And as we look to 2025, and beyond, we expect cash taxes to revert toward a more normalized trend that, again, would not include this $150 million benefit beginning in 2025.

And finally, working capital provided a net $23 million source of cash during the period, and this was primarily driven by favorable impacts associated with lower 2023 incentive comp cash payments that were actually paid this quarter in 2024, and I think I did mention that in the last quarter’s call as well. So, I’ll now touch upon our capital investments in the first quarter. We invested a total of $103 million into improvements of our existing funeral homes and cemeteries, new growth opportunities and real estate future expansion. So let’s break this down a little further. We invested $70 million of maintenance capital back into our current businesses with $39 million of cemetery development, $25 million into improvements to our various funeral and cemetery locations and $7 million into our digital strategy and other corporate investments.

The cemetery development spend increased on a year-over-year basis as we continue to execute on opportunities to invest in high returning cemetery construction projects. And remember, these projects generate high-quality cemetery property for our customers, that helped to drive the strong pre-need cemetery results we’ve seen this quarter in recent quarters. We also invested $16 million of growth capital in the quarter towards the purchase of real estate construction of new funeral homes and the expansion of existing funeral homes and cemeteries. Finally, we made several accretive acquisitions in the quarter, closing on $16 million in total. We remain optimistic about the activity we’re seeing in the second quarter and the pipeline through the remainder of the year.

And with that, we now believe we’ll be at the high end of our $75 million to $125 million acquisition investment target for 2024. In addition to the investments into our business and the acquisitions, we returned $93 million of capital to shareholders in the quarter through $44 million of dividends and just under $50 million to sharing purchases. We purchased about 700,000 shares at an average price of about $70 during the quarter, and this ended the quarter with just over 146 million shares outstanding. Now, subsequent to the quarter, we continue to be active on the repurchase of shares, acquiring about another $700,000 shares for just under a $50 million investment. So in the press release, while we’ve confirmed our 2024 adjusted operating cash flow guidance, which remember is a range of $900 million to $960 million with a midpoint of $930 million, and we deem this again as appropriate.

When we deduct $325 million of expected maintenance capital, this results in an impressive adjusted free cash flow of just over $600 million or over $4 adjusted free cash flow per share for 2024. In addition to the strong cash flow foundation, we also have a very favorable debt maturity profile and liquidity of just over $900 million at the end of the quarter, which consists of a cash balance just over $200 million as well as approximately $700 million available on our long-term bank credit facility. Our leverage at the end of the quarter remained close to the year-end number at 3.59x net debt to EBITDA. And again, we maintain our near-term bias towards the lower end of our targeted leverage range of 3.5x to 4x until we have a little bit more clarity as to where interest rates will go from here for the rest of the year.

So in closing, I’d like to reiterate that our solid balance sheet, our ample liquidity, and our predictable cash flows will continue to fortify our capital investment strategy of investing to the highest and best use in order to maximize shareholder value. So before we open the call out to questions, I have one more topic I’d just like to mention very briefly. And I’d like to compliment and recognize Debbie Young, who most of you on the call know Debbie very well. Some of you on the call, as I look at these questions with AJ and perhaps Ransom, have been around for the last many, many years where Debbie has led, of her 37 years at our company, has led Investor Relations for over 25 years, or as I like to say, over 100 quarters. She’s led our Investor Relations program here and has done a remarkable job.

Debbie has decided to retire at the end of this quarter and ultimately will spend more time with her husband Scott and her son Matthew. And please join us. We want to wish Debbie the best of luck. And from a personal perspective, what makes a job great is when you’re able to work with great people that become your friends over the last several years. Debbie, you’ve made a lot of tough times here early on 25 years ago a lot easier. And you’ve made the good times a lot better. So for that, I thank you. And we all thank you. Hear, hear. So with that, Cindy, Operator, we’ll go ahead and pass it back to you and open up the call for questions.

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Q&A Session

Operator: [Operator Instructions] Our first question comes from A.J. Rice of UBS. Go ahead please.

A.J. Rice: Thanks. Hi, everybody. Best wishes to you Debbie. I’m glad Eric didn’t try to guesstimate how long John Ransom and I have been doing this. A couple of questions if I could. First of all, on the — I guess there was an announcement out of the Attorney General out of California reaching a settlement regarding some cremation practice. I wonder, if you could just give us your perspective on that, does it change anything going forward? And yes just your perspective on it would be helpful.

Tom Ryan: Sure A.J. Thanks for the question. So after about eight years of back and forth, we reached the settlement with the California Attorney General that includes the cost reimbursement and civil penalties of $23 million, which you probably saw in the press release, A.J. and provide certain pre-need contract customers with the right to receive refunds. There’s no admission of any wrongdoing or fault by the company or the officers of the Board. We believe that our fourth quarter 2022 accrual that we made in relation to this is adequate to cover the $23 million civil penalty and reimbursement as well as any estimated cancellations from the customer contract. In a little history here the lawsuit was brought by the state. It was primarily based on the interpretation of the Short Act, which is under California law very specific to California.

And while we don’t agree with California’s interpretation, we’ve agreed to certain operational changes that allowed us to remedy the dispute. A.J. you mentioned any changes. And I think in my comments I mentioned that in California, we had stopped delivering merchandise and that’s one of the reasons that the non-funeral home revenues have been down. And as we’ve been finalizing these negotiations A.J. we started looking at the model. And while this is very specific to California and again we believe in compliance with every law, we saw an opportunity to streamline the SCI Direct model. And so as I mentioned over time here, we’re going to transition SCI Direct to go from delivery merchandise in advance and delivering TRPP and shift that product to an insurance product.

And the reason we could do that, one, is to streamline the model; two, it provides protection for our customers that pay over time. So by having an insurance product if I pay over time and die then I’m fully paid for. So we can add that benefit. It also allows us to leverage the value of our insurance sales production stream because we have such a powerful business and this will just add the power of that. And it will generate general agency revenues, which will offset the effects of not delivering the merchandise. And so now we’re going to generate these revenues upfront and the average contract revenue coming out of the backlog of SCI Direct is going to be significantly higher. So I think it’s a win-win for everybody. We’ve settled a dispute with the AG and we’re happy about that.

So hopefully that covers the questions you guys may have around that topic.

A.J. Rice: Yeah. No, that’s great. And I know you commented on acquisitions in the prepared remarks a little bit. But I wondered, obviously, you’ve got the expiration of the standstill arrangement related to Stewart that’s done and that would open up some new market opportunities that haven’t been available to you for a while. And I would also assume and I just want to confirm that to the extent that you can do any transactions in some of those markets that haven’t been available to you for the last 10 years. Would those not be some of the more accretive deals that you can do because you already have some facilities in those locations?

Tom Ryan: Yeah. I think again because you dated yourself by saying you met Debbie when she was a teenager. You’re exactly right. I do think the market will open up are ones we really like that we’ve got presence in. And I think to take your question in different pieces. Eric mentioned, we feel really good about the rest of the year. And that means, we’ve got a number of deals that are under a letter of intent, other offers that are in kind of final stages of negotiation. I think the way to think about these markets there A.J. to your point, is as we’ve always said, businesses come for sale when the cell is ready to sell. So, while it seems like a flood gate opens, it isn’t really true. What we found over the last 10 years is there’s been time for business come up, that we would have loved to participate in, and it precluded us from participating, because in our negotiations we have to say “Hey, by the way, we have to wait on the Federal Trade Commission to approve this, but we’re not a very attractive buyer at that point.

So, what this is going to allow us to do for transactions under, I think it’s $120 million, is you just don’t have that necessity of going to the FTC by a prior notice that’s out there. So again, I think it’s a plus. I think it’s going to be good. But I’d say, today, absent that we still feel very good about the pipeline of acquisitions.

A.J. Rice: All right. Thanks a lot.

Operator: Our next question comes from Parker Snure of Raymond James. Go ahead, please.

Q – Parker Snure: Hi. Good morning. You have Parker on for John Ransom. Maybe just talk about the cemetery preneed production. It was up almost 8%. Anything, notable to call out there? Was there any bounce back in the Qingming sales that maybe you lost last year? Anything notable in terms of geography, and then maybe the high end versus the low end? Thanks.

Tom Ryan: Sure. The Qingming again, as you know kind of cross this quarter, we have an impact that typically happens in the in the last couple of weeks of March and probably, will have a few weeks in April. But I think we would tell you that we’re very pleased with Qingming this year. It’s been — and I think again it shows in the first quarter results too. So yes, we feel great. I mean the nicest thing I think Parker about the first quarter is, not only do we have great large sales that grew 19%, but our core products grew by 6%. So, we’re really hitting on all cylinders in a lot of different markets and really feel good about the direction and momentum that our sales team has — but again, we want to caution, the one thing that we talked about this year is, a big lead source for preneed cemetery sales is funeral volume and therefore, burial volume.