Service Corporation International (SCI) Earnings Call Transcript & Summary

So I'm Adam Ron, I'm filling in for Joanna Gajuk, who couldn't be here today. But yes, we're hosting Service Corp., and I'll give him a second to introduce himself and the company.

Okay. Thank you. First of all, thanks for having us, and our best goes out to Joanna, who is under the weather right now, probably listening to us. My name is Eric Tanzberger, I'm the Chief Financial Officer of SCI. We are the largest owner of funeral homes and cemeteries. And we have about 1,500 funeral homes in North America and the U.S. and Canada, and we have about 500 cemeteries as well. I'll give you feel for market share from a revenue perspective. We have probably 11% to 12% of the funeral segment in terms of revenues across North America. Our cemetery segment in terms of revenues are much bigger than that. We're probably close to, call it, 28% to 30%. So put the 2 segments together, we're probably 15% to 16% of the revenue market share in our particular industry. It's about a $20 billion industry, so not an overly large industry from a revenue perspective, but we're, by far, the largest consolidator in the space. I would characterize us as I just said 15%, 16%. I think the next larger is in the very low single-digit percentages of market share. I've been with the company for just over 25 years. I've been Chief Financial Officer since 2006. You don't know the history of the company. It grew up as a EPS-oriented accretive roll-up model. And in the late '90s, that model came a little bit unwound, and we've been senior management since 2002, so about 20 years. And our philosophy is a free cash flow-oriented return on invested capital-type model. And Furthermore, in the industry, I guess the biggest thing that you hear about is demographics in terms of the baby boomers that are affecting some of the other companies you see at this conference, such as what you're covering these days, Adam will eventually affect our industry in a positive way in terms of services being performed. But that baby boomer generation is already affecting the cemetery segment in the form of cemetery property sales on a preneed basis prior to any type of need that there is. And we first touched that consumer in there, kind of low to mid-60s is the way I'd describe it. And that's been the big growth engine for us as we think about probably the last 5 years or so. Ultimately, we've been growing the company since 2005, probably in the 8% to 12% bottom line EPS growth range. We just had an Investor Day last week. We'd steer you towards those slides when you have a chance. I think it's a very thorough Investor Day with a lot of our officer team presenting diving a little bit deeper into the details of all the things that I just covered at a very high level. So that's kind of what I'd say is the introduction.

Yes. No, that was great. So you touched on the Investor Day, it was pretty recent, but you reaffirmed the long-term outlook of a 12% growth, but obviously, the last few years have seen kind of a onetime kind of pull forward of demand. And so just curious how -- what gives you confidence that 8% to 12% is still sustainable, given the -- I guess, more onetime nature of recent? .

Well, let me -- I'll probably give you a long answer to your short question because I think I had to give you a bit of a broader picture to really give you the whole picture. Ultimately, we've grown 8% to 12%, as I said, let's just call it, 10%. And since 2005, pre-pandemic 2019 financial statements were $1.90 per share. That's the annual number for 2019. Fast forward at that 10% factor and you get to this year, 2022, that would -- the math would put us right at about $2.50. Our current guidance is $3.50. About 1/3 of that incremental dollar from what you would think we would have been at is still some COVID activity. So as a general statement, we had very significant growth in '20 and '21. We normally serve about 310,000 to 320,000 funerals -- families, I should have said, in our funeral segment per year. And over a 2-year period of '20 and '21 during the pandemic, we served an incremental 110,000 families. That produced a lot of incremental revenues with a lot of incremental growth and incremental margin expansion because of our high fixed cost structure. Our business is about a 70% fixed cost structure. And that model pretty much worked. We saw quarters of 500 basis points, 1,000 basis points had margin expansion because of the increased throughput. But my point is, is that not only going back to what I said about that extra dollar about where you thought we would have been in 2022 on 2019 numbers on the 10% CAGR growth. The extra dollars I just described is about 1/3 related to COVID, but there's 2/3 of coming out of the pandemic, as we described, learnings and things we now know we can do that just made us a stronger, better company coming out of the pandemic. I'd characterize that 2/3, let's call it, $0.65 a share as about 75% of that is in our sales and marketing area, about 15% of that are what we characterize as accelerated share repurchase program. So we're big repurchasers of our shares since we started in 2005, we've repurchased over 50% of our shares cumulatively over this period of time. And the last 10% I characterize as cost efficiencies. So if you dive a little bit deep into those 3 components, the 10% cost efficiencies are learnings such as reducing noncustomer-facing costs, learning how to manage using technology as opposed to going out and seeing the individual markets and traveling around and those types of things. The share repurchases I've already mentioned to you, we probably bought $1 billion -- deployed $1 billion worth of capital towards share repurchases in the past 2 years. And the real piece largest piece of that is that 75% related to sales and marketing learnings, that really a lot of it has to do with technology. A lot of it has to do with technology related to the sales force where when the pandemic hit and everybody shut down, we were not able to radiate out into communities nor were families on a pretty basis able to come into our cemeteries and really interact face-to-face as we know. So forced utilization of technology, forced utilization of our sales force CRM system, which made us a lot better. It forced us to use 100% or most of the time, some of our front-end electronic customer-facing technology sales tools, which we call Beacon, which is a way to present uniformly across our entire network and also utilize technology in the leads that were coming into that sales force, more of the marketing things, whether that's the digital leads associated with websites or utilizing technology a lot differently and better as it relates to other leads such as direct mail and those types of leads that we've had over a long period of time. It allowed us to become a more effective sales force. At one point, we probably had maybe 4,500 or so in that ballpark of sales counselors. We shrunk through attrition very quickly during the early innings of the pandemic, down to about 3,800 and then what we figured out is that incremental piece that we lopped off was where a lot of the churn was, a lot of the inefficiency and ineffectiveness of the sales force much less the time of sales managers have an interview to replace that churn that had occurred in previous years. So for all of that, we became more efficient there. And then lastly, I'd point you to the slides at Investor Day that Michael Johnson did related to the inventory and the cemeteries themselves where we deploy $100 million, $120 million a year and building up that new inventory and have really over the last 15 years or so, created a totally different environment in our cemeteries, where instead of having homogenous property offerings have really tiered our offerings into very high-end property, mid-tier property and then more of the modulus offerings. All of that is related to how we incrementally got better during the pandemic and have created those learnings and created a bigger base for us to kind of grow off on. And again, I'm being somewhat redundant as Adam and I were kidding before, this is really the Investor Day materials from last week. So I'll point everybody to that slide deck as we move forward.

Yes. So those are kind of like the positives during COVID. But I guess the incremental funerals that you saw, how do you think about the impact in 2022 and 2023 in terms of like demand that will no longer be there.

So that's the 110,000 funerals incrementally that I described to you. You have to kind of think of it as 2 different pieces during the COVID era. The first one early on where individuals that are much more elderly, as we all remember, the nursing home events in the New York area and such like that, those were customers that we would have served in the next few years. Then you get towards the middle and the tail end of the pandemic so far. And what you're seeing are a much, much younger consumer that unfortunately needed our services in their 40s and 50 year olds for the most part. So when you put all that together, the early pandemic results that we had of incremental funerals, we're much more acute in terms of near-term pull forward where the back end was not. So put all that together and what we think is -- it's somewhere around 18,000 funerals of that are really 2022. That's the headwind of the 110,000, then it drops to 15,000, 14,000 and it drops to 10,000 to 12,000. So when you think of a base -- of a normal base doing 320,000 funerals, it's more material to 2022 and a little bit of 2023. But after that, it really tails off. And we don't think when you're performing 320,000 funerals a year, that when you're getting into the below 10,000 range as we would be in 2024, that it's very much of a pull forward that we can't manage through. And that's the long answer to short question again, but that's how we've done the math.

I appreciate it. But I think you said after that, you grow revenues 1% to 3%. And so how much of that is volumes and pricing? And how much is like a mix shift towards cremation?

Yes. So the 1% to 3% is in the funeral segment. So the funeral segment is about 1% to 3% top line with 19% to 20% margin, cemeteries is higher, 4% to 6% top line growth and mid 30% margins. But in terms of the 1% to 3%, it's probably -- 1/3 of that is probably volume and 2/3 of that is probably average. That has the headwind of cremation in it. Cremation for us, we perform about 52 -- low-50 percentage area of cremations a year. I would say that -- it's a headwind. It moves about 100 basis points per year towards cremation, away from traditional. That's a lesser spend, which is really what Joanna is getting at with Adam and his questions. And ultimately, that's a headwind of somewhere around $10 million to $12 million of EBITDA is what it really works out to. Is it a headwind? Yes, it's a very material not on a company that's producing $1.2 billion, $1.3 billion of EBITDA, that's not overly material. But that is baked into the positive 2%-or-so average growth that we would have on the funeral segment.

All right. Yes. And going back to something you said earlier that you touched on like the baby boomers, it's interesting because I cover managed care and like we're already in the later innings of seeing that play out as a tailwind. But I guess in this business, it would be -- take a little longer to play out. So how would you characterize like where you are today, I guess, in terms of innings and how you see it progressing the aging demography?

Well, again, you have to look at it by the 2 segments because when we're in our cemetery segment, the first time we touch a customer, they're in their early to mid-60s. So from that perspective, we've been touching the baby boomer for the last, call it, 5 to 7 years probably. And that still got a way to go. I mean it's a 15- to 20-year generation, depending on which state you can use. So there's a good amount left to go even in the cemetery segment. So maybe call that middle of the game, so to speak. Funeral segment, very, very early in the game. We just really haven't seen the effect of the baby boomers yet. The good news is, is that from our perspective, once we do see that, the incremental margin from that throughput should be very healthy for us in terms of growing and have margin expansion associated with that. And the model itself on will that happen or will that not happen really has been pressure tested in the last 2 years where we've had significant margin expansion, have not added -- had to have a lot of capital investment towards facilities or incremental employment support or anything along those lines during the COVID pandemic. So early innings in the funeral segment, but a very bright future proven out by the COVID pandemic.

Maybe going back to a place where pull-forward demand might be potentially more relevant as the preneed cemetery production. I think it's continued to outperform in Q1. And so with people being more aware of the need for funeral services. What is the pull-forward impact to this specific part of the business? And do you expect preneed cemetery production to continue to outperform and how much was there room to grow from here?

Well, I think there still continue the room to grow because you're going off a bigger base every year. So are we going to see the type of 20%-plus CAGRs that you saw during COVID? No, we're not. Is going to go back down into the mid-single digits as we've described to you, but it's compounded. Every year, you do that and produce that amount of production, you're growing 5% to 7% again over a bigger base. And so there's plenty of room to grow where we wouldn't be able to give that statistic as well. You have a question out there, if you're...

Yes. Yes, sure.

And we hear that on the webcast or not. But the question was volume obviously can be can be seasonal is the way I describe it is the ASP or the average sales price, any type of cyclical factors associated with that, that we saw during recessions or anything like that. The answer is generally no. Some of the things we'll point to is going into the last Great Recession in '08 and '09, I think there was a fear that there was going to be a significant trend towards cremation incrementally way above the 100 basis points per year, which is pretty consistent. We didn't see that. There was also a fear that people were going to trade down during the recession. We also, as a general statement, didn't see that as well. You have to remember that people don't touch our business very often. And so if they have -- if a death has occurred within their family structure and let's just for argument purposes, just use the example of somebody's mother died. Well, the way people react and psychological is, I have 1 mother and she had her wishes, and I'm not necessarily really concerned about inflation recession for this event that's once-in-a-lifetime event. I'm going to try to fulfill my mother's wishes in that example. And that's really what we saw. We didn't see a tremendous mix change in cremation. We didn't see trade downs of ASP. So it's really not been that affected in past history. So the question was what's our typical customer and such, and it's all across the board for our network. We're very much tiered in a way and we have some premier funeral homes in a particular market. We have kind of the middle of the road and such. And then we have a very, very low end price component, which we call SCI Direct, which is a noncelebratory direct simple cremation consumer, which is a very low almost commoditized price point. But yes, we're across the spectrum because of our size.

Yes. So you talked about market share at kind of a broader level. So clicking in maybe to like a more specific segment, the premium property market. What percentage of, I guess, targeted customers are already penetrated into buying these kinds of properties? And what is your market share and who do you compete with? And what gives you confidence you can keep growing these sort of high ticket?

Yes. It's very hard to determine the market share. For the entire cemetery segment, what I'd characterize it as I've already mentioned to you we have market share into the high 20s or low 30% range, okay, in terms of the revenues. When you think of within that revenue stream, how much is a very high-end sale, which I think is what you're asking about. It could be anywhere from 10% to 15% of the total sales production in any given year. So I think there's a graph, there's a page in the presentation of Investor Day that Steve Tidwell did and really showed you that we've averaged from 100 -- $120 million pre-COVID in terms of production of high-end property, which we define as greater than 40% -- excuse me, greater than $40,000. And then it rose all the way up to about $200 million during the high-end COVID, high input years. I think that probably lands somewhere around -- somewhere in between there of $150 million of production a year of high-end components. But some of the things that I already talked to you about gives us the confidence. I talked about the learnings and the technology that we're using, the sales force, CRM, the lack of slowing down the churn of unproductive portions of the sales force, the types of leads that we are producing that are better using metrics such as lead-to-sale type ratios that we track every day and manage the business towards. All of that is really what gives us the confidence to say we can continue growing cemetery the way you've seen us do it before, even on an elevated base that I've already described to you early in this segment.

Okay. And then going back to inflationary comments. You said you expect wages to grow about 3% versus 2% in the past. And obviously, costs in general are growing faster than expected. So -- how much -- are you basically able to pass all these costs on to consumers? Or how are you thinking about managing through that?

Well, we're going to manage through it in a very, very localized way. It's the way I'd describe it, first of all. So we have 1,500 individual funeral homes and 110 individual markets and allows us to make very localized decisions. As a foundational backdrop, we are employing licensed funeral directors. And so it's not something that lends itself to a churn so to speak, it's like where else are you going to go outside of the industry, although you probably could, at the end of the day. Wage pressure, wages are the biggest component to our cost structure for us, Adam. It's probably $650 million and $450 million of that is on the funeral side and the difference being on the cemetery side. We believe in both segments that we have some pricing power to push through. But again, it's going to be a very localized decision. We're going to go in and look at things very locally. We're going to determine we need to do something or we do not need to do something. If we do need to do something, we're going to -- we're going to work with management to say, okay, generally, how we're going to pay for that. And a lot of times, that ends up being kind of a pricing play and a lot of those examples. So Ultimately, do we have some pressure, we do. Do we think we're going to see margin degradation over a long period of time. We're not expecting that because I think the industry is set up in a way that we are going to be able to have some inflationary-type price increase as being pushed through. But again, this is not a broad swipe where some companies and some industries have been doing to increase wages over a period -- over this quick period of time, we're going to be able to make very, very localized decisions and we'll react very locally.

Got it. Okay. it seems like the average price per service, I guess this kind of goes towards the pricing power, but the revenue per service is kind of above 2019 levels at this point in Q1 '22. And so what drove that improvement? Is that like -- is that partially mix shift or the pricing component?

Well, part of it year-over-year when you think on a percentage is the way we disclose is because you're comparing against still some '21 -- first quarter '21 stuff that were still closed down. So just to give you the COVID history of it, our average actually decreased while our volume greatly increased because of the restrictions in the local communities where it will preclude things such as celebrations of life and catering parties and those types of things. So part of the tailwind that you're still seeing is that kind of come back to normal. And for the most part, it pretty much has now. We're at pre-COVID-type levels in terms of the average. But we still think it's going to be generally low percentage-type sustainable growth in the average sales price. And as we continue, we do have incremental products and services as we continue to build out further things such as catering services such as implement venue pricing, which is we have spent capital in all of our funeral homes or most of our funeral homes at this point to turn into our venues into good, better, best-type venue offerings where people can celebrate the life of their loved ones and that type of thing and we will continue as we move forward.

One topic that's getting more and more topical is recessionary impact. And so I'm just curious how you think about that. And in general, you'd expect the business to be pretty recession-resistant, but maybe some areas like preneed might be more impacted. And so just curious how you think about that?

Well, that's very fair. I mean I think you stated it well. I think there's a lot of the business that's very resistant. And you saw that in 2008 and 2009, and we already talked about that, where the ASP held up. And in the at-need environment, meaning the death has occurred, it's very resilient. They need our products and they need our services, client families. Where it is going to get hit is in the preneed. And especially when you think of preneed cemetery, that's what's able -- when you sell a property, that's what you're able to deliver right now and recognize revenue and get the cash flows, right. If you're selling preneed funeral, for the most part, that's going to be deferred that may be in placed into trust funds or insurance policies, and you're going to recognize those revenues years from now when a death has occurred and you're providing products and services at that point in time. The best example is 2008 and 2009, right? What happened? And what you found is that the sale of preneed cemetery property was a discretionary sale or a discretionary purchase, if ever you want to look at it. And ultimately, it was one of the latter or the last discretionary purchases to kind of fall off the cliff, if you will. But interestingly enough, it was also one of the first to come back as well. So we had a period of time and call it, 12 months or so, call it, March of '09 to March of 2010. And it held in there in March of '09, after that, the preneed cemetery sales significantly were impacted. But it came back very, very strongly in March of 2010. We had easily double-digit 10%, 20% growth in those early months coming back. So what it did tell us is that we didn't miss 12 months of sale. They are more pent up where people weren't spending the money because it's discretionary. But when it got all back and running again, we had a lot of backlog in pent-up demand for those discretionary-type purchases. So if we go into a recession again, we have no reason to believe that the reaction or the economics would be any different in this particular cycle than a previous cycle.

And the company is called Service Corp International, but I guess you're not really as focused on the international opportunity as of late. And so just curious what -- how you're thinking about that and maybe that would makes sense for some M&A opportunity?

Well, 10% to 12% of our business is in Canada. So we are still international, but at one point in time, as you know, back in the '90s, we were all over. We were in 21, 22 countries or something along those lines. Right now, I think there's an incredible amount of runway and opportunity left that's in North America, and it would have to be a very special deal for us to go back to Europe or something like that, that really makes sense. I mean, we have the ability to here is scale. And we have localized scale for a tuck-in acquisition, and we can bring to the table national scale in terms of purchasing power and back office and those types of things. And when you run the IRRs of -- does it make sense to do more here in North America versus make sense to do something somewhere else, that's geographically significantly diverse and doesn't really give you the scale. The former is going to be the latter from an IRR analysis, and that's a better return on our invested capital. So I think you're going to see us continue to be very disciplined from that perspective.

Yes. Talking about, I guess, M&A that you brought up partially, you recently raised your deal spending target. So do you expect to be active already this year? Is that more of a reflection of the fact that multiples have gone up. I'm just curious of your thoughts.

No, it is really not a function of multiples. Multiples have kind of hung in there in that 7 to 9x EBITDA range. I mean, sometimes you get a little bit higher than that for some of the bigger deals, but there's more synergies with the bigger deals because of our scale. So ultimately, you ended up a turn or 2 beneath that when the post-synergy multiple is actually calculated. But I just think there's a lot of good opportunities that are out there. And I think people see the value in our track record over the past 5 to 7 years in some of the bigger acquisitions that we've done. And I think some of those former owners are very pleased and happy with the integration and the value that we've been able to brought to the table and really the cohesive teamwork that has resulted from that. And that's part of the reason why -- but it's also -- these independents and the rest of the industry has had some really tough times the last 2 years, same as your health care companies as well. There's been a lot of throughput. And I think people are fatigue -- there's a lot of fatigue out there. And I think from that perspective, I think, ultimately, that's going to continue to have what we consider a robust pipeline well into the future.

All right. Great. I think that's all we have time for. Thanks for joining us.

Okay. Thank you, Adam.