Service Corporation International

Good morning and welcome to the SCI third quarter 2023 earnings conference call. All participants will be in listen-only mode. Should you need assistance, please signal a conference specialist by pressing the star key followed by zero. After today's presentation, there will be an opportunity to ask questions. To ask a question, you may press star then one on your telephone keypad. To withdraw your question, please press star, then two. Please note that this event is being recorded. I would now like to turn the conference over to SCI management. Please go ahead.

Thank you, and good morning. This is Debbie Young, and we welcome you today to our third quarter earnings call. We'll have prepared remarks 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 beliefs, plans, expectations, or projections for the future are forward-looking statements. These forward-looking statements are subject to risks and uncertainty 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 will also discuss certain non-GAAP financial measures, and a reconciliation of these measures can be found in the tables at the end of our earnings release, as well as on our website. I'd now like to turn the call over to Tom Ryan, Chairman and CEO.

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 the rest of 2023 and some preliminary thoughts on 2024. For the third quarter, we generated adjusted earnings per share of 78 cents, which compared to 68 cents in the prior year. This impressive 15% growth in earnings per share over the prior year is primarily related to improved cemetery profitability driven by higher cemetery revenue from completed construction projects along with lower fixed costs in both the cemetery and funeral segments, resulting in higher gross profits and margin expansion. Below the line, the 425 basis point rise in interest rates on our variable rate debt increased our interest expense reducing earnings per share by 9 cents. This increased interest rate expense was predominantly offset by lower general and administrative expenses and the favorable impact of a lower share count. We have accelerated the pace of our share buyback given our recent stock price, repurchasing $65 million of stock during September and $99 million during the month of October. Now let's take a deeper look into the funeral results for the quarter. Total comparable funeral revenues declined $7 million, or about 1% over the prior year quarter, primarily due to an expected decrease in core funeral volume. Although core funeral volume declined 6% compared to the prior year quarter, we believe due to the COVID pull-forward effects, volumes were in line with what we had anticipated. Notably, funeral volumes are about 11% higher than third quarter 2019 levels. Our core average revenue per service grew over the prior year by an impressive 4%, even after absorbing the negative effects of a 120 basis point increase in the cremation mix. From a profit perspective, funeral gross profit increased by $6 million, while the gross profit percentage through 130 basis points to about 20%. Lower fixed costs and reduced incentive compensation costs over the prior year quarter more than offset the slight revenue decline. Pre-need funeral sales production grew an impressive $15 million or about 5% over the third quarter of 2022. Both the core and the SDI direct channels experienced impressive sales production growth during the quarter. Now shift into cemetery. Comparable cemetery revenue increased $22 million, or just over 5%, compared to the prior year third quarter. Core revenue accounted for the preponderance of the increase, as recognized pre-need revenue increased by $21 million, or 7%. This growth is primarily due to the expected completion of construction projects during the third quarter, which drove an increase in the revenue recognition rate by capturing sales from both the current and previous quarter's sales production. Additionally, we saw increased merchandise and service trust fund income generated from higher returns over an average five-year period as compared to the prior year quarter. 3.8 cemetery sales production declined by $20 million, or 6% in the third quarter. While we continue to see impressive growth in our large sales activities, core production, or sales contracts below $80,000, declined by $29 million. We believe some of this decline is attributable directly and indirectly to the COVID pull-forward effect. We also continue to see our discretionary consumer being impacted by diminished savings rates and lower real incomes acutely impacted by inflation. History tells us that as similar economic trends have stabilized in the past, our products and services have experienced a relatively early recovery in the discretionary purchase cycle. We have the advantage of selling a product that appreciates versus depreciation value, and we believe our cemetery sales production is deferred, not lost. This affords us an ability to recover quickly as the consumer economic cycle turns. Notably, pre-need cemetery sales production is 58% higher than the third quarter of 2019. While large sales are an impressive two and a half times higher than 2019. The preponderance of the sales production growth is from core, or sales less than $80,000, which grew 48% over 2019, or at a 10% compounded annual growth rate over the four-year period. Cemetery gross profits in the quarter increased by $15 million, and the gross profit percentage grew by 190 basis points to over 32%, as the increase in cemetery revenue was further enhanced by lower incentive compensation costs in the third quarter as compared to the prior quarter. Now let's shift to discussion about our outlook for the remainder of 2023, where we are maintaining our annual guidance. In the funeral segment, we would expect to see low to mid single digit declines in funeral volume as the impact of the COVID pull forward slightly outpaces increasing volume trends. On the positive side, we would expect healthy low to mid single digit growth in our funeral average, both at the at-need customer level, as well as the funerals maturing from the pre-need backlog. On the cemetery side, We would expect pre-need cemetery sales production to range from flat to low single digit percentage growth in the fourth quarter. While we anticipate a healthy favorable impact from newly completed construction projects during the fourth quarter, the comparison against the prior year quarter will be unfavorable as the 2022 fourth quarter new construction impact was the highest in many years. Favorable impacts from a lower share count and lower general and administrative costs should, for the most part, offset higher interest expense. Therefore, we would expect earnings per share to be at or slightly above last year's fourth quarter results. Now as we look at 2024. On the funeral side, we would expect fewer COVID and excess deaths. as well as a moderating impact from the pull-forward effect, resulting in slightly lower comparable funeral volumes as compared to 2023 levels, still an improvement from mid-single-digit declines in 2023. We would anticipate achieving inflationary increases in funeral average pricing, slightly offset by the effect of the cremation mix change. In the cemetery segment, Absent a material change in discretionary consumer behavior, we would expect a normalized pre-COVID growth trajectory, slightly impacted by the lead source decline from lower funeral volumes. This anticipated low single-digit percentage sales growth, when combined with a favorable comparative impact from newly completed construction projects, should result in cemetery revenue growth in the low to mid single-digit percentages. Below the line, we anticipate higher interest expense due to higher credit facility balances and a slightly higher comparable interest rate, at least during the first half of the year. This higher interest expense should, for the most part, be offset by a lower share count when impacting 2024 earnings per share. Typically, we would provide a preliminary earnings per share range of about 30 cents when we set any guidance for the coming year. Today, we maintain variable rate debt of approximately $1.5 billion, having recently experienced significant Fed rate hikes during 2023. Keep in mind that a 100 basis point move has an annual effect of 9 cents on 2024 earnings per share. Due to the lack of visibility on interest rates and the uncertainty surrounding the economic condition of the consumer, we are widening the range of our guidance to 50 cents. Therefore, our preliminary guidance range for 2024 earnings per share is $3.40 to $3.90. We will provide formal guidance in our February earnings release investor call. So I want to point you back quickly to Investor Day May 22, because we gave you guys a presentation and talked about a new base that we were growing off of, and we gave you some preliminary thoughts around 2023, 24, and 25. If you go back to Phase 35, we referenced this 65-cent higher base that we believe we were operating off of, and 75% of that was coming from sales productivity, 15% from accelerated buybacks, and 10% from cost-effective So if you go to that page 34, we were using a 10% earnings per share growth to grow off the new base. We had projected 2023 to be $3.50 and 2024 to be $3.85. So we'd ask ourselves, and I'm sure you ask yourselves, how are we doing versus that? So let's reconcile to that 2024 number. If you start with the idea that our range is 340 to 390, The midpoint, we tell you, I guess, with math, 365. So 365 compares to 385. How are we doing? Well, remember, at the time that we were in May 22, our variable rate on our debt was 2%. And when we were modeling out 2024, we assumed the Fed would raise rates, and we had an average rate of 3.5% for our variable rate debt in 2024. Today we sit projecting that to be 7.5 percent. So there's about a 400 basis point increase versus our assumption that was in that model back on page 34. So if you put that 400 basis point increase against $1.6 billion in variable rate debt, which is where we'll finish the year most likely, that's about $64 million of additional interest expense that's flowing into 2024 when you compare back to our investor day. It's about 30 cents per share. So if you add 30 cents per share to the 365 midpoint, that would tell you our midpoint is 395 compared to the model in investor day that was 385. So the truth of the matter is, and looking back, we're performing at a level at or actually above what we told you we'd do in investor day. And the one variable that you know, we didn't take into consideration was the Fed raising rates as aggressively as they did. And so we sit here today, I think, with an operating model that's working very well. We've got a higher interest rate environment we're navigating through. But we're very pleased with where we are as a company and excited about, you know, now seeing a lot of positive trends as we think about year-over-year comparisons. So finally, I'd like to thank the entire SCI team for all that you continue to do every day for our customers, our communities, and each other. And you guys are what makes our company great.