Service Corporation International (SCI) Earnings Call Transcript & Summary

Good morning, everyone. Thank you for joining us today. My name is Scott Schneeberger. I'm the senior business services analyst at Oppenheimer. It's my pleasure to have Eric Tanzberger, the CFO of Service Corp. with us today to discuss the company's investment story. We're drawn to the story for the company's leading position in funeral services and cemetery offerings, its opportunity to capitalize on a favorable demographic shift of the aging baby boomer population and the company's strategy of selling preneed contracts. We view this as helping them gain advanced market share and garner a backlog to build the company's trust fund portfolio. We're using the fireside chat format today. I'm going to start off by asking a series of questions to Eric. At any time, please feel free to use the chat function to put a question to me [indiscernible] as well. After I've asked a few, then I'll go to the questions on the line and pose those to Eric. We have about a half hour. So without any further ado, I think I'm going to get started.

Eric, thanks again for being here. And...

Thanks for having us, Scott.

Thanks. Looking at your atneed funeral business, growth has been elevated during the COVID-19 pandemic. Could you please discuss the funeral volume in the near term?

Well, in the near term, if you're talking about this quarter, obviously, it's going to continue to be strong, just like you saw in the fourth quarter. Ultimately, as most people know, we were very positively affected from a throughput perspective, from a volume perspective in our funeral segment, and that goes for our cemetery segment as well. Our atneed cemetery was also up 20%. It's interesting how we sometimes forget to talk about that because it's a pretty material number as well. But as you crossed over year-end, Scott, the pandemic has continued until very recent weeks. As everybody has seen, the statistics that are out there for multiple sources where the number of deaths have continued to decrease over the last couple of weeks, which, let's face it, let's say, that's a good thing, right, for our country and for our communities. But ultimately, what I think we'll see in the near term, and again, I think you just got to say we're going to follow the statistics and take our particular market share from those statistics, so I'd say very high volumes in January and February. We said that publicly, as you know, on the call. That was mid-February. But subsequent to that, we're going to have very tough comps as we move forward. And I think that will be for the next, call it, Q2 through Q4 of this year, where we have some really tough comps moving forward from that as things start to normalize in the volume environment.

Thanks, Eric. Yes. And that segues well into my next question. Fortunately, the pandemic is tapering off here, and let's hope [indiscernible]. But it's certainly -- there's a perception that it's pulled forward business activity for your company. And as you mentioned, there's going to be probably a slowdown period. And you mentioned for 2Q through 4Q of 2020, most likely, if current trend persists. How do you think about that over the balance of this year? And then also with regard to 2022, 2023?

Yes. I see that we're going to be probably down if the statistics are right. I mean, we've done a model just like everybody else has done a model, but our model is based on the IHME statistics that are out there. So anybody can do kind of what we were trying to feel. It kind of feels like we're still going to be at an elevated level in 2021 versus what I would call normal levels. So for example, even though I said, ultimately, we believe we'll be down funeral volumes somewhere in the mid-single-digit type percentage area versus 2020 for 2021. When you go back to normalized levels and, let's say, pre-COVID and just use 2019 as a proxy, I still think 2021 will be much more elevated, maybe high -- maybe mid-single-digit percentage growth over that 2019 type levels. So that's kind of the -- really what's happening. I think you're right. I think we've said openly that we believe that a lot of the deaths that we saw in 2020 related to the pandemic were elevated to a large degree. We ultimately think, Scott -- and you got to know the foundation. So the foundation is, we probably perform 315,000 to 320,000 funeral services per year. And last year, we probably performed an extra 40,000. And of that 40,000, from our models and what we've been able to deduce, we ultimately think maybe 35,000 of that 40,000 was pulled forward from future years. In other words, 5,000 probably would have died later in 2020 or at some form from another situation in 2020. And when you think of that 35,000, that's hard to model, but we have modeled that. We've used statistics from the CDC that are relatively available. In terms of 94%, 95% of those deaths that occurred during COVID, had some type of preexisting condition. And then there's different levels of high, moderate, low type preexisting conditions that were all out there in commentary from the CDC and statistics that are available according to those. And that wraps itself up to where did those 35,000 really come from. And I think, ultimately, as a very large general statement, we kind of characterize it as 1/3 coming from '21, 1/3 coming from '22 and 1/3 coming from '23. I think that's somewhat conservative, frankly, because I think when you really do model it, there's a nice tail that goes out for a good ways where I think some of these deaths were pulled forward with some younger people from years well beyond the next couple. But that's generally how we're monitoring it. Ultimately, what we're excited about is that doesn't mean that preneed cemetery is going to slow down. I think we've learned a tremendous amount in terms of efficiencies to run a much more efficient company. As we go through this next couple of years in terms of this environment, I think ASP is going to pop back as well. And ultimately, I think we gained some market share just because of our sheer scale and such. So there's a lot of things that if you just focus on the volume environment, may give you an overall not so favorable flavor as we move forward in the next couple of years. But there's a lot of favorable things as well that I think are ultimately going to offset that and put us in a result that we believe is fairly favorable in terms of our normal 8% to 12% types growth metrics. And even though we have some volatility going up and some volatility going down in '20 and '21, I do think that the overall parameters of our growth trajectory based on 2019 normalized levels are pretty favorable for us.

I'm actually going to ask a question, kind of bigger picture and pulling back from COVID for a second. Prior to the pandemic, what was your normal volume for atneed funeral? And what was your anticipation over coming years for how that would change? Kind of a generational question. But just would want to explore that in the context of what you just said.

Sure. I think you got to look back a few years to get the context. So as you know, let's call it, 10 years ago, we were primarily servicing the silent generation. And a silent generation, as you probably know, was a generation associated around World War II, which, ultimately, there is a good amount of deaths and that ultimately decreased when you fast forward to people being 70, 80, 84 years old, fast forward to a little bit of softness in that. So it's not unusual 10 years ago for our same-store business to be down, call it, mid-single-digit percentage declines in the number of funeral services being performed year-over-year on a same-store basis. So that kind of went to 5% to 6%, down to 3% to 4%, to 2% to 3%, to flat to down 1%. And I think we kind of entered 2019 kind of in the flat type range as the silent generation has started to come back up, not necessarily get to the boom of the baby boomers yet from that perspective, but that's out there. And I think we entered saying, yes, I think we'll be flat to maybe up slightly, call that flat to up 1%. This obviously throws a wrench into a situation when you had volumes that were up low-teen percentage during 2020. As I mentioned, relative to 2020, 2021 will come down, but it's still above those elevated levels, call it, 5% to 6% above those 2019 levels. So when that all settles, the question is, where are you? And I think you're going to continue to see a couple of things that are going to influence that base flat level that I described to you going into pre-COVID. And that's when you start talking about maybe some market share gains. That's when you start talking about, at some point, the baby boomer generation in the next 3 to 4 to 5 years finally kind of impacting this industry. And what does that look like? Well, we'll have to wait and see kind of what it looks like. But to me, it takes flat to up 1%, maybe to 1% to 2% or 2% to 3% type situations. And no situation do we ever think that the baby boomer generation, being such a large generation, is going to be a hockey stick situation for our volume. But we do think incrementally, it's positive by 100, 200 basis points in that area. And when you take that with initiatives with ASPs being up 100 to 200 basis points as well, now you're starting to get into a more sustainable, positive top line type growth in our funeral segment that we'd be very, very excited about in the coming years.

Great. I'm going to take us back into pandemic type discussion. Social distancing stemming from the pandemic had an impact on your average funeral revenue per service. Obviously, we're limited in the scale and the scope of the funerals you could do just on distancing. If you could discuss what you saw kind of during the depths of the pandemic, what you've seen trending since then, what you see going forward with regard to what you can do with funeral service and how revenue per funeral may be influenced.

Sure. As we all know, in the March-April time frame, it was pretty scary, Scott. I mean, everybody shut down and everything shut down. And we were seeing ASPs, they were down kind of the teen type percentages decreases. That didn't last very long. Ultimately, after the initial shock and shutdown of the environment, I think people realized that they wanted to memorialize their loved ones, wanted to celebrate the life of their loved ones. I think in a lot of jurisdictions that are out there, whether you're calling it state, county, local or whatever you want, how you want to define that, I think those officials recognize those desires of those families. And so we were never really in a lot of jurisdictions, just 100% shut down for very long at all. So what ended up being a level set situation for most of the year of 2020 was, call it, down 3% to 4% in ASPs. Now where did that come from? Well, it came from California being pretty strict in terms of gathering. It came from Canada being very strict in gatherings, offset by more -- a little bit normalized activities in other states. Now even with those normalized laws and such, allowing people to gather, there was still, especially early on in the pandemic, a lot of nervousness around gathering and such. And that precludes things such large events, large celebrations, large catering, large flowerings, flowers and such that go ancillary to that type of event planning and such. And people precluded from doing events. We found our best way around that as best we could. We've talked about at length the California situation, moving outdoors to outdoor tents and such and really trying to give the communities and the client families exactly what they wanted, which was to celebrate the life of their loved one in a dignified manner and in a timely manner. So all of that being said, that's the qualitative factors that were at play that were different across the geography of North America. But ultimately, that lent itself to a level set of some weakness in the ASP down, call it, 3% to 4%. We think that comes back in a nice way in 2021 as vaccinations continue, the lack of variants could -- are helping that situation. Obviously, things could change, as I described to you, as we go into other situations and other waves or there are not other waves and gatherings come back. But the common denominator to all of that, which is a great thing for our industry and a great thing for our company, is people wanted to spend. They wanted to celebrate, they wanted to memorialize and they really wanted to spend those dollars to the extent that it's possible moving forward. I think that's probably a good thing as we move forward, as Canadians and Americans want to continue to memorialize.

Excellent. Yes, sounds good. The -- I guess, now let's just pivot a bit, kind of high-level again. Just hoping you could discuss the company's strategy and how you're positioned competitively within your industry.

Well, I think, first of all, to look at it competitively, you got to look at the size of our company in terms of the scale. As we said many times, we have 15% to 16% of what we estimate to be our revenue market share. I think all the consolidators combined have probably 20% in that area of a revenue market share. That leaves a very fragmented business of 80% of local independents. Some of them are somewhat sizable. Obviously, we've talked about that in terms of being an M&A target of ours at some point in time with the M&A pipeline. But ultimately, you're dealing with some pretty small players, some pretty independents, those types of situations. So scale is the first major differentiator that I think we have. And you saw scale to our advantage in a plethora of ways in this situation that we just went through. First of all, you're getting into those independents. For a lot of times, got full, got to their capacities very quickly and had to shut down or had to just simply close their doors to incremental client families, where we had the ability -- and we'll just take L.A. because that's the latest situation where the pandemic has hit the hardest in California. And we'll just talk about our L.A. operations, which we have been. But ultimately, we were able to get 60 to 65 in our refrigerator type trailers to our L.A. service providers. We were able to lease the 12,000-, 13,000-square-foot leased refrigerated facility as well in the Los Angeles area. All of this, coupled with the scale of the rest of our network being able to transport 250-plus people, skilled people from the rest of our network into L.A. and rotate them on a weekly basis, allowed us to essentially say, we're open for our communities. We're open for our client families. And that led to a very nice environment to keep our ASP. Coming back full circle to your question, continue to move forward and continue to go. But ultimately, the other -- that's a big differentiator for us as well. And a lot of things are -- we just learned a lot, which I think we have the wherewithal versus the other opportunities to continue to differentiate ourselves utilizing technology versus the independent. And I think -- so not only do we have some market share gains related to our preneed environment, frankly, radiating off of our admin environment, we had market share gains because we stayed open, and we're getting to incremental consumers. And once those client families come in, as a general statement, they're used to using. They have a good experience with our funeral home. They'll continue to come back. But certainly, in our larger combination facilities, Scott, where someone has buried a loved one, they're definitely going to come back in those situations. And so I think we believe some of those market share gains are probably sustainable and will help us both from a volume perspective and an ASP perspective moving forward.

Following up on that. Recognize cemetery preneed sales. That's historically been a growth driver for Service Corp. Could you please discuss drivers of accelerated growth that you've seen here during the pandemic in cemetery preneed sales and your perspective on how you see that trending forward over the near or intermediate longer term?

Yes. Well, 2020 was obviously gangbusters, right? I mean, you had so many leads out there in the atneed environment that you're able to radiate off of and essentially create an environment where we had certain months and certain quarters growing 30%, 40% in some instances. Obviously, the year ended up in the mid-teens and that percentage. That was a wonderful production. But again, we learned a lot as well to become more efficient as we move forward. Certainly, those levels are going to probably come down versus what we expected. I think we'll be down mid-single-digit percentage in preneed cemetery during '21 versus '20, off of that mid-teen percentage type base. But interestingly enough, I think we're somewhere back around 2019 levels as well, and we will grow from there. I think a lot of the things we learned had to do with our scale, had to do with the ability to use technology to change the leads associated with that. As most people know, we had seminars, in-person seminars for a lunch at a restaurant, for example, was a huge lead source for us. And that dried up immediately during the pandemic. So we then shifting gears towards more technological lead sources such as digital leads. Coupled with more precise learnings in a direct mail environment gave us more leads, better leads and cheaper leads. And that led to a lot of learnings in utilizing the CRM system because we had no choice but to utilize the CRM system better than what we've ever utilized, made us more productive with less sales counselors, and all that really bodes well. Sure, there's going to be some volatility with the type of aperture that was opened from that consumer. That won't sustain forever once we get through this pandemic. But the good news is, as I keep saying as a theme in this conversation, is that, yes, we had a nice bump in our earnings, in our activities, both in cemetery and funeral. And yes, that will come back down into normalized levels. But what's important to note that I keep stressing is that we learned a lot. And I think we're going to become a better, more efficient company as we move forward over the next 2 years. And that's going to really help us kind of buttress everything coming out of the pandemic to more than normalized 8% to 12% type CAGR levels off of that 2019 normalized levels that, again, I just think bodes very well for our company and for our shareholders over the next few years.

Thanks, Eric. And just to clarify, the -- and real quick before I get into the clarification question. For those in the audience, feel free, again, use the chat function for questions. We only have about 5 minutes left, and I'll squeeze one in that we have in a moment. But if you want to get something in, please do so now. Where I was going to follow up there is just, Eric, if you can clarify what the earnings guidance is and what the cemetery preneed sales kind of evergreen guidance is over the longer term for the company. What type of CAGR do we look at for each of those 2 components?

Yes. I think the earnings guidance, we've had a consistent CAGR out there of 8% to 12%. I think we're well above that right now. Obviously, in 2020, when you go from $1.90 to $2.90, I think you're still way above that in 2021 with $270 million. I think, ultimately, that comes back down into that CAGR zip-code in 2022. And I think we're going to be probably at the lower end of that, maybe in the 8% zip-code as it relates to 2022, as we again absorb the comps, because there will be really good comps, again, really strong activity in early parts of 2021, as I've just mentioned, that 2022 has got to comp. But ultimately, I think you start layering on some of the things I've been talking about this entire conversation, and that's when we start seeing growing from that level, from 2022 up to maybe the higher parts of the zip-code of the 8% to 12% CAGR. I think ultimately, that's generated by the efficiencies that we've gained for some of the things that I've already mentioned to you in the funeral segment, where I do think we've gained a little bit of market share. I think the baby boomers are going to start affecting the volume environment at some point in time, in the more near-term years is the way I described it. ASP will bounce back. And I still think we have some real pleasant growth in our preneed cemetery, maybe mid-single-digit type percentage growth from preneed cemetery sales. All of that combines with some M&A activity to have a nice single-digit -- high single-digit to low double-digit percentage type CAGR, which I think we view as very favorable. I think there's somewhat of a disconnect there in the marketplace right now, as you know, with our shares versus what we believe and we plugged this all into the intrinsic value, and that's okay. And we'll take that time to really buttress the technology learnings that we have to invest in technology, to invest back in the businesses and really then continue to be able to differentiate ourselves with customer-facing technology here in the future. And in the meantime, as we've described all along, we'll be very opportunistic in the share repurchase program, which is what we did, as you know, by deploying about $0.5 billion into that program during 2020. I think you'll continue as we see a disconnect with that type of activity to the extent that we can with our cash flows and with our leverage profile.

All right. I had a couple more questions, but I want to make sure everyone gets in on this, and we're running low on time, only about 3 minutes left. So one of the key questions is M&A. How does that environment look right now? And any sizable ripe targets?

Yes. I think it's too early to tell if the pandemic is going to have, all of a sudden, a huge pipeline that's going to occur based on that. Because I still think people are digging out of this pandemic in our industry. And look, you go to the West Coast, we're still providing services, and the industry is providing services for just an incredible amount of throughput that's going on in that particular area. I do think that there's M&A situations that are coming to us that are raising their hand, saying, okay, I'm ready to start talking, and they want to probably use 2020 type levels for that conversation. And that's a little bit unrealistic. But from a sustainability perspective, I do think the larger, more sophisticated independents could possibly come forward and raise their hand and say, this has been tougher, and it's time for a liquidity event. And that's what we're hoping to see. What our models that I've been describing here today, though, don't really deviate from a positive perspective into a larger M&A pipeline, Scott. It's probably spending the $50 million to $100 million that we have per year allocated to the M&A program. Certainly, we hope that's a lot more than that. And another $50 million or $60 million or so to kind of the new field, greenfield, new funeral home type build situation, which has wonderful IRRs as well, just like the M&A program. So it's a little too early to tell to see if we're going to have a little bit of a boom or an acceleration. People are still trying to get their feet underneath them from the pandemic. But we're here, and we love to allocate more capital to that M&A program.

Great. We unfortunately have 1 minute left, and thanks for the time. I'm going to ask one last question, but being mindful that we only have a minute. The FTC funeral rule, if you could just provide a concise update on where that stays.

Yes. It doesn't stand anywhere new. It's your concise update. I mean, they're going through their ability, and they're changing out commissioners and such. So there's no new update. What I'd tell you is leave you with this. The FTC, in our opinion, strategically isn't going to dictate how we interact with the consumer. We want to study, and we are in the middle of studying exactly what our consumer needs and wants from a digital perspective on our websites. It's very different based on the tiering, a lot of the spend and the tiering of our locations. Right now, to update your statistics, we have just about half of our funeral homes has some form of pricing. So let's call that 750 to 1,500 fuel homes has pricing out there in some form or fashion. I'd characterize maybe 400, 500 of those are more starting at pricing, which is more in the mid- to lower tiers of our network. As you get to our larger combination facilities, you're then starting to talk about premium type pricing environments that walks you through good, better, best of everything we do and event planning and catering and flowers, other than the basics of the caskets and the services and such, leading to celebration of life. We've now rolled out probably 10% of those tests. So call it, 70 or 75 locations have general price lists out there in that environment that they can click on. And we're doing some very strategic testing in terms of click-through rates and what customers are doing. Look, at the end of the day, Scott, our goal is to give the consumers exactly what they're asking for. What they are asking for, though, is very different based on the tiering of the particular industry. But we're all the way -- we're already well down the path of understanding that, and we will continue to move forward to understand that, where we ultimately are giving the consumer what they want. And we think that's the best course forward strategically for us. And we, again, think we'll be well ahead of everybody else and probably well ahead of the FTC, frankly, when it finally shakes out at the end of the day.

Excellent. Thanks. That was actually a very good update. And just speaking for the whole conversation, thank you. Very insightful.

Thank you.

We appreciate you. We're going to have to wrap up here. So thanks, everyone, for joining us today, and thank you, Eric. Very interesting discussion.

Thanks, Scott. You take care.