Service Corporation International (SCI) Earnings Call Transcript & Summary

For our next presentation, joining us from Service Corporation International, Aaron Foley, Vice President and Treasurer; and [indiscernible], Director of Investor Relations. Thanks to both of you for joining us as always. We appreciate the participation.

And I figured we'll just kick it off, maybe an overview of the 2 primary lines of business and just recent results and maybe we can just go for there.

Sure, Larry.

If that's okay, Aaron.

Yes, for sure. Thanks for having us, and it's good to see all of you. Yes, so the last couple of years, with COVID, we've seen a bunch of volatility in the numbers, a lot more volatility than we would like. We saw the increases from 2020 to 2022. We've seen them kind of coming down since then. I think 2024 is going to kind of be the rebasing year, if you will, on the funeral side. Volumes, we're expecting to end 2024 at about low single-digit decline about 2% down, I'd say. Average is continuing to be strong, but it's more inflationary type growth that we're seeing there, but up in the low single digits. Kind of staying with funeral looking forward to next year, we're expecting volume to really stabilize out, be flat. Looking into next year. I'd like to say as soon as I click save on my model, I know that it's wrong, but it's as good as a perspective as we have. And we've been following really the same approach for the last 18, 24 months, and it's held in reasonably well during that time. One thing, specifically on the funeral side that benefited us this quarter, and as we look forward to next year is going to benefit us through the year is a new marketing agreement that was put in place for our preneed insurance sales on the funeral side. We were able to generate $8 million more of general agency commissions during the third quarter on a year-over-year basis, and we expect that going forward, that similar type benefit with really no incremental cost associated with that. That's really hitting the bottom line. On the cemetery side, production really is hanging in there. I would say, we've seen a little bit of a headwind this year associated with our large sales, and we classified those as above $80,000 spend. Those make up about 10% to 15% of our cemetery preneed sales. The balance, which is what we call our core sales, makes up [ 85% to 90% ]. Our core cemetery business has really hung in there all year. It's been on a quarterly basis, either flat to up all year long, where we've seen some headwinds is really on that large sale side of things. Tom mentioned this on the call, but we exited 2023, seeing the last 3 quarters of large sale activity at about $48 million or more each quarter. So I think we got ahead of our skis a bit coming into 2024, thinking that, that was a new trend. And while we didn't necessarily expect to be growing from there, we didn't expect to be declining as we have. And so I think we've learned a lot from that. I think we've understood what some of the headwinds are. And as we kind of look at where we're expecting to exit 2024, we're excited about 2025 and beyond.

I know I guess it was Tom that referenced on the maybe this is all occurring to that message. But Tom had referenced on the call, your range of 8% to 12% growth. But you kind of alluded to the fact the higher end in '25. So I guess my core question is, certainly given some of the challenges coming out of COVID and so forth, what are you seeing now that's kind of leading you to, I guess, gain some amount of confidence as you go into 2025, given some of those...

Headwinds that we've seen in the last couple of years? One, particularly germane to this conference is interest cost. In the last 2 years, those have increased by about $100 million on our floating rate debt. As we look at where we stand today, after our issuance in September, we only have about 15% floating rate debt. And on top of that, I'd say there's likely an expectation rates are not going to increase, if anything, likely decline, maybe not as much as we'd expected going into October, but we're expecting those to decline. So not having that headwind in front of us will be nice. On the volume side, when you're looking at either a 2% down or flat, that's pretty impactful, on the top line. Again, both our funeral and our cemetery segments are very high fixed cost businesses. So any incremental or decremental dollar going through is going to have a pretty sizable impact on the bottom line. So being able to expect flat volumes with low single-digit increase in average will be very beneficial. I think this marketing agreement that I was talking about, this new general agency contract that we put in place. If you look at the third quarter 10-Q, you can see that in the third quarter of last year, we garnered a 28% general agency commission on the insurance production. Fast forward to the third quarter of 2024 that increased to about 34%. And again, that's incremental revenue that's coming through with no increased cost as well. So that's something that's going to really be strong and impactful, particularly looking forward to next year and really what's driving us to that upper end of that 8% to 12% versus kind of in the middle part. And then when you think about cemetery, the cemetery production really during COVID, what you find the correlation between atneed core funeral volume and the velocity of contracts going through that core consumer, the $80,000 and below on the cemetery side is extremely high. And if we're expecting flat volume, that cemetery velocity, then we're expecting that to be also flat, so no longer a headwind. But on top of that, on the cemetery side, in addition to inflationary type price increases, we've also got the high barriers to entry around the cemetery business create a lot more pricing power on our side. So we've got the scarcity of that asset that we're able to have some pricing power there. But on top of that, we've also been incurring $160 million, $165 million of cemetery development spend to tier our inventory offering. So if a family were to come in and say, "Hey, we're interested in getting a cemetery lot, " expecting just a homogenous lot. We have the ability to say, "Hey, have you checked out these private family estates, have you checked out these hedge estates? And they're like, "I didn't know you even had those." So having that ability gives us pricing power as well. So all of those components really kind of give us some confidence as we look forward to '25 and being at that high end.

I know -- I think Tom also referenced that more sales efficiencies or marketing leads, does that play into it as well? Is that more just -- more of the same?

I would say that it played into it during COVID. And we've, I think, gotten the benefits that were there during COVID. Pre-COVID, we had 4,200, 4,100 sales counselors. When you look at us today, we've got 3,700 sales counselors, and that's on a $40 million incremental production coming through on the cemetery preneed side. So we think that we've really increased the efficiency of that structure. And by having fewer counselors, I think you've got more hungry individuals out there who are really more driven to sell, if they are able to sell higher dollar amounts. We've improved on the utilization of Salesforce, the CRM system that we use. Previously before COVID, it had really been used as a database to collect customer information, and not anything really was tracked for the most part. During COVID, in order to get a commission, 90% of our counselors had to use Salesforce and get the information in there and track each one of the activities as part of it. So now we're able to track how each counselor does with regards to setting up a lead to actually holding the conference and ultimately, how effective they are at closing, and we're able to target training in those types of situations.

You are saying that was not taking place pre-COVID?

Not really. No, because we didn't have visibility because it wasn't being used that way. Now that Salesforce has that data all in there, we can really churn through that.

Is that 3,700 has that been fairly static, that number?

During COVID?

During COVID.

I mean we saw a drop in 2020, particularly when COVID came about initially, no one could meet in person. We had all these counselors on the dole, if you will. And we shifted some from a salary plus commission structure to a complete commission structure. And when we did that, we lost a lot of counselors as a result, and it's really kind of been stable.

Since then. So, you had more -- going into COVID, you had greater than 3,700?

That's right.

Okay. It seems around the optimism, there's a little more inertia for doing more, I don't want to call it more M&A, more development, more growth-related orientation. Is that safe to say? I mean, M&A in particular, I mean, what is -- what's the market environment look like right now? Are there -- what's the competitive landscape look like on that side, I guess? Is it -- do you really have anybody to compete given your scale, truly against...

So as of today, we really only have 1 public competitor, Carriage, that's out there. They're working through some leverage issues. So they haven't really been on the horizon. You've also got Park Lawn, who just went private back in August. They've been going through that process, I'd say, over the last 6 to 9 months. So they've been distracted and not really been part of that competitive environment. You've got NorthStar. It's another private equity firm, pretty sizable, I'd say, almost comparable to a Carriage or Park Lawn in size. They haven't really been as acquisitive, but you see them on the periphery. I think you might see some more activity from Park Lawn particularly. I would say that the industry has been pretty disciplined. The multiples paid are around 8 to 9x, you're kind of sitting on the sidelines waiting for a family who's interested to sell. Back in the '90s, early 2000s, it was a different industry. It's was a different management structure, EPS accretive roll-up strategy. They may be willing to pay 15, 20 times just to get them to sell. The industry has been pretty disciplined, maintaining that 8 to 9x. And the way that we look at capital deployment is really evaluating each dollar from a return perspective. So our free cash flow, the first and highest use of capital is going to go to M&A. And during the third quarter, we had a great quarter, $123 million of spend that's right at the top end of our annual guidance. So as of year-to-date, we're at about $165 million of spend. I'd say that's somewhat of an anomaly. We're probably truly in that $75 million to $125 million, always out there cultivating relationships so that when they are ready to sell, we're going to be there, and we'll be offering a fair price, but we're not going to be pushing through money. The next would be newfield, greenfield type growth opportunities. We do about 5 to 10 new funeral homes every year across our footprint, looking at tuck-in type opportunities or add-in type opportunities, if you will. You've seen us kind of dabble a little bit more on the cemetery side from a greenfield perspective, particularly in areas that we understand the demographics well that are in our backyard in Houston, we bought some land several years ago. And in 2022, developed about 15 acres of it, about 10 to 15 miles further west than our furthest most cemetery because we've seen the population growing up that way. We opened it up in 2022. And by 2023, we'd already hit that year 6 or 7 of our pro forma. So the interest is definitely there. So we're tiptoeing in other areas, working with market leadership to say Phoenix, Las Vegas, how are the demographics shifting? Where is the population growing, where there might be opportunities to do that. So the acquisitions are driving mid-teen IRRs, those are driving more low to mid-teen type IRRs because to get the throughput coming through. We do pay a dividend in there that's 30% to 40% of our recurring net income. And then as long as our capital structure is in order, and we're comfortable with the liquidity, leverage profile and near-term debt maturities, excess cash that's available, which under our current algorithm, there pretty much always is will go to share buybacks.

In terms of those acquisitions, are certain types of facilities, more funeral cemeteries, combinations, do you see much variability around that?

From which we would rather or the opportunity? So we -- the combo is the best acquisition opportunity. It's the most efficient. You got both the funeral and the cemetery right in that one space. I would say our next best opportunity would be on the cemetery side and our ability to deploy capital, develop out those cemeteries, and...

[indiscernible].

Exactly. And then finally, the funeral homes and just making sure that those are in footprints that we desire and are looking for. I would say that the opportunity set out there isn't much different than what it has been in the past. You're going to like, for example, this third quarter, these were some chunky deals that came through, a combination of both funerals and cemeteries that were to be had. I think you're probably seeing a little bit more funeral home opportunity...

In existing markets, mostly?

Mostly, mostly. I mean it makes it hard when there's an opportunity in an area that we don't already have scale because when you think about our ability to leverage scale is really kind of a competitive advantage. We're able to buy caskets. We utilize hearses, share resources within a concentrated area, it makes it a lot easier to manage those efficiencies. And I've made the comment, we're 16% by revenue market share. When you look at the entirety of the U.S. and Canadian market, I'd say our sweet spot would probably be in the 25% to 30% type market share -- area. So I think there's still opportunity to grow and acquire and build out that base.

But presumably, and I know in the past, I've always asked this Eric. But going outside of your core competence, core business model of the U.S., Canada market, international markets, I assume, are off. No [indiscernible] you wouldn't have anything outside of your core competency really?

As of right now, no. There are just so many opportunities in the U.S. and Canada that we see. When you look outside of the U.S., there really are a lot fewer synergy opportunities. We're not able to buy caskets and markers as well as we are here. You have to maintain more of a local management presence and team. I think we found and learned from our history that operating in other cultures, even if they're Western cultures that there is a difference in how they operate and just coming across with our U.S. perspective, it's not the best. And so we watch the landscape. We see dignity. We see all the go-private [indiscernible] down in Australia as well. But right now, I just think that we're comfortable with our opportunities set and growing that 8% to 12% earnings growth framework, the ability to do so.

Yes. So there's really not necessarily an asset out there that could -- for this audience, translate into getting out of your leverage range, like in the past, Alderwoods?

Yes. Nothing right now. I think that it remains to be seen how the regulatory environment will unfold. We're going to watch the FTC, see how they manage the structures. Obviously, during the Bush administration when we bought Alderwoods, I'd say that the amount of divestitures were lower than we expected. During Stewart, back in 2013, the amount of divestitures were higher than expected under Obama. And so I think it remains to be seen what would happen. But let's say, an acquisition that we may look at under the current administration, we'd have to divest maybe 50% to 60%. That wouldn't just go to 0. It dropped to maybe 40%, let's say. And so we just have to look at the valuation multiples, the amount of divestitures and see, does that all come together to a mid -- low to mid-teen type IRR or not? And if it doesn't, it just doesn't make sense.

Okay. But it sounds as if you're kind of -- I'll call that target range -- target range of $100 million, $120 million. It sounds like you're going...

That's more realistic. I don't see an opportunity as of right now that our ability to do a transformative acquisition like that.

Okay. And as it relates to -- well, I guess, first, I should ask are there any questions in the audience? I don't feel like I'm hogging the stage up here. If not, large dollar sales exceed about $80,000. Rose Hills, I know they're -- some of the development is taking place there and so forth, that's caused some, call a little bit of headwind, whatever. Where do you see that in 2025? Do you think that recovering to '23 levels or even greater potentially?

I think it could, specifically for Rose Hills and for those of you who may not know, Rose Hills is our largest facility, actually before being acquired by [indiscernible] in the late '90s, it was its own private company, privately listed company. But there's a development that we have going on out there of about 50 acres, and it's on a multiyear, a 4-, 5-year type basis. During 2023, we made a development kind of in the middle of that. We completed it. But tangentially, we had a bunch of other developments also under various stages of construction. So during 2024, while it was developed, we weren't able to get boots on the ground, get families up there to touch it, look at it and get comfortable with buying it. And so as a result, we had some headwinds on our ability to get sales completed. Those tangential developments are getting completed really in this quarter, early next year. So as we look forward to '25, those headwinds should be gone. We're going to get boots on the ground not only at that first completed, but those other completed facility areas as well. And so that's another aspect that gives us comfort going into 2025 that we should be able to hit our low to mid-single-digit preneed production expectations. The large sales, while at this point, we're not necessarily expecting growth. We're not expecting it to decline at all.

Is the investment in Rose Hills is that, in a way, target that large sales or no? Or is that...

I would say that for the most part, it is. They do have kind of more conventional inventory out there available, like double depth lawn crypts and other lots that are available, the homogeneous inventory because, again, we want to make sure that there are different levels of inventory available to whoever comes in. But most of this development is toward this higher end.

Towards this higher end. That's kind of the ground zero, if you will, for that Rose Hills.

That's exactly right.

I think Eric has talked -- I believe he talked about technology, the adoption of technology. I mean, how does that kind of -- with your scale? And how does that play into your scale and the opportunity that presents in terms of whether it be preneed sales or customer relationships or product offerings? How is that playing into that?

Sure, so from the preneed sales perspective, we've already talked about sales force and utilization of that technology to figure out how to target training. I would say we've got this tool called Beacon, which is really just an iPad that has the entire purchasing approach for both funeral and cemetery on this iPad that allows the counselor to walk through all the products and services with the consumer, either in person or remotely and then be able to generate contracts and through digital signatures, get that contract completely done instead of having paper contracts. It took something that may have taken 3, 3.5 hours of a contracting process down to 1 hour, 1.5 hours. So that's increasing efficiency and our ability to get in front of more consumers. I would say utilizing marketing to expand our digital presence and enhance our websites to not only bring potential customers in, but also generate preneed leads. I would say kind of on the non-customer-facing side in our back office, the training that I was talking about, all automated. We've got very uniform training that's expected of everyone across our organization depending on role that they have. It's rolled out. I think we've got hundreds of thousands of hours of training that's on an on-demand type basis and gets assigned and tracked. So that's good from a compliance perspective. But then two, from a back-office perspective, we want our counselors and our funeral directors interacting with the consumer and families who are going through some of their worst times of their lives. We don't want them to have to deal with a ton of paperwork. So we're trying to evaluate all the processes and try to create as much automation as we possibly can to take as much paper work out as we possibly can, but also maintain that compliance, and structure and code of conduct and everything to ensure, which is a very highly emotional type transaction that, that has also kept paramount.

And I presume from a competitive balance in most markets, you're competing with a local player, right, that doesn't necessarily has adopted much in the way of technology?

That's right.

Is that fair to say?

That's exactly right. Yes, you're exactly right. I mean you may see some of the larger consolidators, the Carriage, the Park Lawn and others really pursuing or attempting to pursue at different levels of pursuit. I always like to -- and you've heard us, I'm sure say this as well that SCI is kind of the R&D of the industry. We're out there always trying new things and whatever sticks you find a couple of years later, other people will kind of tag on that.

Okay. Audience questions? No? If not, I would love to get your thoughts on it. It's always been this kind of discussion point, if you will, in the industry, with the cremation trends. I mean how is that different today than it has been? Maybe I am asking is your approach to it as a value proposition relative to where it's been in the past, it was always viewed as kind of 100 basis point headwind on volumes kind of?

I would say that the cremation mix where we stand today, we're 60% cremation, 40% burial. So we're already the largest cremation provider in the U.S. And we're fine with that. To your point, there's been the shift that's been happening over the last 30 years, about 100 to 150 basis points. This year, we've seen it moderate some to 50 to 70 basis points. And I would say that as we look out on the horizon, looking at other Western cultures where that mix has kind of stabilized, that's around that 75%, 80% type range. And so I think there's a faction within SCI, who kind of believes that the mix shift is going to start moderating. So the slope that we're seeing of only 50 to 70 basis points instead of the more normal 100 to 150 is kind of a new trend. And I think there is another fraction within SCI maybe saw the large sales trend over the last 3 quarters of '23 and say, let's hold on. Let's wait and make sure that there's no comp abnormality that may have occurred in '24 that may correct itself in '25. And so we're still internally expecting the 100 to 150 basis point [indiscernible] looking forward. I wouldn't say overtly in our models yet. And so we need another some more data coming through. But that being said, we've been seeing the shift. Every 1% shift is about a $13 million EBITDA headwind on about a $1.3 billion EBITDA business. So it's a headwind. That's holding all out. When you look at the cemetery side even with the cremation offerings, about 20% of our cemetery sales go to cremation consumers, whether that be through a scatter garden, a columbarium or selling a cremation niche, which is inside of a mausoleum, these windowed units that they can place -- the customers can place the earn, pictures, keepsakes, and replace them over time if they would so please. So we're finding opportunities to help offset some of that headwind through other products and services that are available.

How long you made a reference you're seeing is that 50 to 70. Has that been recently like 12 months or recently?

I would say the last 9 months, for sure, it's been in that 50 to 70 basis point arena. During COVID at the beginning when people just couldn't get out to cemeteries because they were either closed or overwhelmed, cremation went up to 200, 250. Again, when you saw that next year comp come into place, it was a lot lower because it was kind of normalized out. And then I'd say, in 2022, 2023, it was back in that 100 basis point, 150 basis point type range. So we've seen this lower number for '24. I think we just want to make sure and be cautious looking out to '25 before getting ahead of ourselves.

Yes. Just last question for me because we're out of time. Thank you for that. But does -- I don't call them [indiscernible] but the pull forward from COVID, if you will, do you think that's largely pretty much behind you now?

I would say it's not behind us because when you think about there were several people who passed in their 50s and 60s because of comorbidity issues that they may have had diabetes, they may have had pulmonary issues that because they also had got COVID, that unfortunately, they passed away. Those people would have passed away maybe 20, 30 years later. So our model has it going out 30, 40 years. What I would say, though, is the impact is moderating, and it's stabilized and moderating. So each year, it declines, which means it's kind of a tailwind, if you will, to volume on a comp basis. What I'd also say though is there's still an amount of excess deaths that we are projecting, but that also is moderating, and that kind of is neutralizing some of that moderation in the pull forward. And so again, as we pull our blender of assumptions together, that's where we've got our flat expectations for next year.

Okay. Great. With that, we'll go ahead and wrap up. Thank you, Aaron.

Thank you very much.

Thanks for joining us as always.

Take care.