Business Context and Reporting Period
Company: Service Corporation International (SCI)
Filing Type: Form 10-K (Annual Report)
Period Ended: December 31, 2009
Business Overview: SCI is North America's largest provider of deathcare products and services, operating 1,254 funeral service locations and 372 cemeteries across 43 U.S. states, eight Canadian provinces, and Germany. The company operates under the "Dignity Memorial" brand and relies heavily on preneed contracts, which generated a backlog of $6.4 billion at year-end.
Key Financial Metrics
| Metric | 2009 | 2008 | Change |
|---|---|---|---|
| Revenue | $2,053.5 million | $2,155.6 million | (4.7%) |
| Net Income (Attributable to Common Stockholders) | $123.1 million | $97.1 million | +26.8% |
| Diluted EPS | $0.49 | $0.37 | +32.4% |
| Gross Profit | $421.2 million | $418.8 million | +0.6% |
| Operating Cash Flow | $372.1 million | $350.3 million | +6.2% |
| Total Assets | $8,891.0 million | $8,110.9 million | +9.6% |
| Long-Term Debt | $1,840.5 million | $1,821.4 million | +1.1% |
| Preneed Backlog | $6.4 billion | $6.2 billion | +3.2% |
Margins: Consolidated funeral segment gross margin increased to 22.0% (from 21.2% in 2008). Consolidated cemetery segment gross margin increased to 17.5% (from 15.6% in 2008).
Material Changes vs. Prior Period
- Revenue Decline: Revenue decreased $102.1 million primarily due to a 7.2% decline in funeral services performed (6.7% on a comparable basis) and lower recognition rates on cemetery property revenues. This was partially offset by a 1.1% increase in average revenue per funeral service.
- Profitability Improvement: Despite lower revenue, net income increased significantly due to cost control initiatives, lower variable selling compensation, reduced personnel costs, and a reduction in self-insurance casualty reserves.
- Trust Fund Performance: Trust fund income decreased $11.1 million compared to 2008 due to market volatility. However, the value of combined trust fund assets increased 24.6% in 2009. The company recorded a $76.8 million impairment charge for other-than-temporary declines in fair value on certain equity securities.
- Divestitures and Acquisitions: The company recognized a $4.3 million net pre-tax gain on asset divestitures and impairments in 2009, largely due to an $18.8 million release of indemnifications related to former French operations.
Guidance, Outlook, and Risks
Outlook and Strategy:
- Acquisition: SCI entered into an agreement to acquire Keystone North America, Inc. for approximately $265 million, expected to close in Q1 2010. $150 million in debt proceeds are held in escrow for this transaction.
- Capital Allocation: The company plans to invest $85 to $95 million in capital improvements and cemetery development in 2010. It maintains a share repurchase program with $123.4 million remaining authorized, though no shares were repurchased in 2009.
- Dividends: The company intends to pay regular quarterly cash dividends, subject to debt covenants and Board approval.
Key Risks and Contingencies:
- Trust Fund Volatility: Significant unrealized losses ($83.0 million in preneed trusts and $42.7 million in perpetual care trusts) remain. Further market declines could require the company to replenish trust funds, impacting cash flow.
- Regulatory Changes: Potential legislation could restrict surety bonding, increase trust requirements, or prohibit common ownership of funeral homes and cemeteries in the same market.
- Demographics and Cremation: A decline in the number of deaths or a continued upward trend in cremations (41.0% of services in 2009) could reduce revenues and gross profit if not offset by higher-value memorialization products.
- Legal Proceedings: The company faces various litigation matters, including antitrust claims regarding casket sales and wage/hour lawsuits, though management believes outcomes will not be materially adverse.
Investor Verification Checklist
- Trust Fund Adequacy: Verify the sufficiency of trust fund assets to cover the $6.4 billion preneed backlog, considering the $125.7 million in cumulative net unrealized losses.
- Keystone Acquisition: Monitor the closing of the Keystone acquisition and the integration of its 199 funeral homes and 15 cemeteries.
- Debt Covenants: Confirm continued compliance with leverage (3.53 actual vs. 4.25 max) and interest coverage (3.92 actual vs. 2.75 min) ratios, especially given the new $150 million senior notes issued for the Keystone deal.
- Volume Trends: Track the number of funeral services performed and the cremation rate to assess the impact of demographic shifts on core revenue.
- Legal Reserves: Review updates on pending litigation, specifically the antitrust case and wage/hour class actions, for potential changes in liability estimates.