Business context and reporting period
Carriage Services, Inc. operates funeral homes and cemeteries in the United States. This unaudited Form 10-Q covers the quarter and six months ended June 30, 2017; comparisons are with the corresponding 2016 periods. At quarter-end, the company operated 171 funeral homes in 28 states and 32 cemeteries in 11 states.
Financial performance and liquidity
| Metric | Q2 2017 | Q2 2016 | Six months 2017 | Six months 2016 |
|---|---|---|---|---|
| Revenue | $63.9 million | $61.9 million | $132.0 million | $125.2 million |
| Gross profit | $18.7 million | $18.8 million | $41.8 million | $40.1 million |
| Operating income | $11.7 million | $12.6 million | $27.6 million | $24.2 million |
| Net income | $4.4 million | $5.2 million | $11.5 million | $9.8 million |
| Diluted EPS | $0.24 | $0.30 | $0.63 | $0.57 |
| Cash from operations | Not separately stated for the quarter | $20.2 million | $25.0 million |
- Q2 revenue rose 3.2%, primarily from funeral operations and acquired businesses; cemetery revenue declined. Six-month revenue rose 5.4%.
- Gross margin was approximately 29.2% in Q2 versus 30.4% a year earlier; six-month gross margin was approximately 31.6% versus 32.0%. Q2 operating income and net income declined despite revenue growth.
- Six-month operating cash flow fell $4.8 million year over year. Capital expenditures were $8.8 million, leaving approximately $11.5 million of operating cash flow after capital expenditures, versus approximately $17.2 million in 2016.
- Cash was $0.4 million at June 30, 2017, down from $3.3 million at year-end 2016. Current assets were $25.5 million and current liabilities $36.8 million.
- At June 30, the company reported $62.1 million drawn on its revolving facility, $133.1 million on its term loan, and $14.4 million in acquisition debt and capital lease obligations. Convertible notes had $143.75 million principal and a $122.0 million carrying value. These measures use different accounting bases.
- The $300 million secured credit facility included a $150 million revolver and $150 million term loan; approximately $2.0 million of letters of credit was outstanding. The company was covenant-compliant, with leverage of 2.75x against a 3.5x maximum and fixed-charge coverage of 2.01x against a 1.20x minimum. Credit-facility weighted average interest was 3.0% for the first half.
- Quarterly dividend was $0.05 per share; first-half dividends paid totaled $1.7 million. No shares were repurchased in the quarter.
Material changes versus the prior comparable period
- Q2 funeral revenue increased 4.9%, while cemetery revenue decreased 1.9%. For the six months, funeral revenue increased 7.5% and cemetery revenue decreased 1.3%.
- Management attributed much of funeral growth to six businesses acquired in 2016. Same-store funeral revenue was nearly flat in Q2 but rose 1.7% for the first half.
- Same-store cemetery operating revenue decreased 4.5% in Q2 and 3.6% for the first half. Management cited reduced preneed interment-right sales, including attrition of key sales personnel; same-store cemetery operating profit fell 18.4% in Q2 and 16.4% for the first half.
- Q2 gross profit declined slightly, while first-half gross profit rose 4.1%. First-half net income increased, but Q2 net income and diluted EPS declined. Q2 general and administrative expense increased year over year; first-half expense decreased, principally reflecting lower severance and retirement costs.
- First-half operating cash flow declined amid weaker Q2 performance and unfavorable working-capital timing, including tax, severance, and incentive-plan payments. Net investing cash outflow was lower than in 2016, when acquisitions and property purchases were higher.
Outlook, commentary, risks, contingencies and unusual items
- No specific revenue, earnings, or cash-flow guidance is provided in the filing. Management said it did not anticipate significant liquidity constraints and believed cash, operating cash flows, and credit-facility availability would meet foreseeable needs, including capital expenditures, scheduled debt payments, dividends, and acquisitions. Future acquisition impacts are excluded from its forecasts.
- Management emphasized its decentralized operating model and acquisition strategy, and said it expects acquired businesses’ salary and benefit costs to align with same-store operations as they transition to its model. This is an expectation, not quantified guidance.
- Key disclosed risks include staffing and retention, competition, death rates and consumer preferences, preneed sales, trust investment performance, interest rates, financing availability and cost, insurance-company performance, regulation, and acquisition execution. The business is seasonal, with deaths generally higher in winter.
- A 100-basis-point change in floating borrowing rates would change pretax income by an estimated $2.0 million, assuming balances remain unchanged. Trust portfolios also face market and interest-rate risk; a 0.25% rate change was estimated to move fixed-income security values by approximately 1.52%.
- The company corrected an immaterial prior-period deferred-tax error by revising the December 31, 2016 balance sheet: deferred tax liabilities increased and retained earnings decreased by $2.255 million. The correction did not affect operations or cash flows for periods presented. A $59,000 discrete stock-compensation tax deficiency was recorded in 2017.
- No trust investment impairments were recorded in the first half of 2017; the filing says identified unrealized losses were temporary and no preneed or perpetual-care trust portfolios were underfunded at quarter-end. Trust assets are restricted by their purpose and should not be treated as freely available corporate cash.
- Ordinary-course legal proceedings were not expected to have a material adverse effect, although the company noted uncertainty around self-insurance reserves and insurance coverage. Management reported disclosure controls were effective and no material change in internal control over financial reporting.
Important facts for investors to verify
- Whether funeral revenue growth from 2016 acquisitions is translating into sustainable margins and cash generation.
- Whether cemetery preneed sales and same-store profitability recover following lower sales volumes and key-personnel attrition.
- Working-capital trends, low unrestricted cash, capital spending needs, and availability under the revolving facility.
- Debt service, covenant headroom, exposure to floating interest rates, and potential dilution or repayment implications of the 2021 convertible notes.
- Whether trust portfolio returns, preneed cancellations and collections, and any state trust-funding obligations change materially.
- The effect of adopting revenue-recognition guidance in 2018, particularly capitalization and amortization of preneed selling costs; management did not expect a material effect on other revenue streams.