CARRIAGE SERVICES INC quarterly report, Q1 FY2020

Carriage Services, Inc. — Q1 2020 Form 10-Q

Reporting period: Three months ended March 31, 2020; compared with the three months ended March 31, 2019 unless otherwise noted. The company operates funeral homes and cemeteries in the U.S. At quarter-end it operated 186 funeral homes in 29 states and 32 cemeteries in 11 states. Filing was delayed under SEC COVID-19 relief.

Financial performance and liquidity

Metric	Q1 2020	Q1 2019
Revenue	$77.5 million	$69.1 million
Gross profit	$23.2 million	$21.6 million
Operating income	$2.2 million	$15.6 million
Net income (loss)	$(4.2) million	$6.5 million
Diluted earnings (loss) per share	$(0.23)	$0.36
Net cash from operating activities	$13.5 million	$11.0 million
Capital expenditures	$2.7 million	$3.5 million

• Revenue rose 12.2%, primarily reflecting acquisitions. Gross profit increased 7.3%; gross margin declined to approximately 29.9% from 31.3%.
• Operating income included $14.7 million of goodwill and tradename impairment charges related to COVID-19 economic conditions: $13.6 million for goodwill and $1.1 million for tradenames. Adjusted net income, a non-GAAP measure, was $6.1 million versus $6.9 million.
• Interest expense increased to $8.4 million from $6.3 million, reflecting higher Credit Facility borrowings and additional Senior Notes issued in December 2019. Operating profit, a company-defined non-GAAP measure, was $30.1 million versus $28.3 million; operating profit margin was 38.8% versus 41.0%.
• Cash and cash equivalents were $11.9 million at March 31, versus $0.7 million at December 31, 2019. Current assets were $54.4 million and current liabilities $39.5 million.
• Credit Facility borrowings increased to $114.0 million from $83.8 million at year-end. Senior Notes had $400.0 million principal, and Convertible Notes had $6.3 million principal, due March 2021. Total Credit Facility, acquisition debt, and lease obligations were reported at $149.6 million; this total excludes the Senior and Convertible Notes.
• Operating cash flow increased by $2.6 million, primarily due to working-capital changes. Investing cash outflow was $30.7 million, including $28.0 million paid for an acquisition; financing cash inflow was $28.3 million.

Material changes and management commentary

• Acquisitions drove higher reported funeral and cemetery revenue and volumes. Total funeral contracts increased 16.3%; average revenue per funeral contract fell 7.1% to $5,233. Preneed interment rights sold rose 27.8%, while average price declined 0.8% to $3,779.
• Same-store funeral revenue was broadly flat: higher contract volume was offset by lower average revenue, including a lower burial rate. Same-store cemetery operating profit declined, with lower average preneed interment prices and higher operating costs.
• COVID-19 restrictions affected service attendance and timing, customer choices, preneed sales and average revenue per contract. Some families delayed memorial services; the company offered livestreaming and smaller or rotating-attendance services. Management stated the pandemic’s ultimate effects could not be estimated reliably.
• The company acquired a funeral home and cemetery combination in Lafayette, California, for $33.0 million in January 2020. Acquisition accounting remained incomplete at quarter-end.
• The company reported $45.1 million of net unrealized losses in its trusts at March 31, representing 18% of original cost. Management said losses largely reflected market conditions, and it did not intend or expect to be required to sell securities before recovery. Trust investment changes do not affect earnings until realized and allocated under applicable trust rules.

Outlook, debt covenant, risks and other items

• Management said existing and anticipated cash resources should cover working capital, capital expenditures, scheduled debt payments, commitments and dividends for the next 12 months, while noting that changed pandemic impacts or financing conditions could affect liquidity. Discretionary spending, including growth capital expenditures, would be tightly managed.
• The company was not in compliance with its maximum Total Leverage Ratio covenant at March 31, 2020. On May 18, lenders granted a limited waiver and amended the Credit Facility, increasing applicable interest-rate margins by up to 0.625 percentage points. $74.0 million remained available to borrow after the amendment. The company stated it expected to comply with covenants over the next 12 months.
• COVID-19 risks include weaker demand or preneed sales, higher installment defaults, reduced access to credit, staffing disruptions and further covenant pressure. The filing also identifies interest-rate and trust-market risks, competition, litigation, acquisition integration and other industry risks.
• Management reported a $2.9 million reserve for uncertain tax positions related to anticipated CARES Act tax benefits and the timing of IRS approval for accounting method changes. It anticipated possible cash benefits from tax refunds, credits and deferred payroll taxes, subject to applicable rules and approvals.
• After quarter-end, executive and director compensation reductions took effect April 19, 2020. On May 19, the Board approved an annual dividend increase of $0.05 beginning with the next declaration in the third quarter. These are subsequent events, not Q1 results.
• The company reported that disclosure controls were effective and that no material change in internal control over financial reporting occurred during the quarter. It disclosed ordinary-course legal proceedings and did not expect them to have a material adverse effect; a previously disclosed California wage-and-hour class settlement had been paid in 2019.

Important facts for investors to verify

• Whether the lender waiver and amended pricing provide adequate covenant headroom if COVID-19 affects earnings, and how much of the stated $74.0 million availability remains.
• Subsequent quarterly revenue, average contract values, service volumes and preneed sales as gathering restrictions and customer preferences evolve.
• Whether impairment assumptions, trust-asset valuations and unrealized losses change, and any resulting effects on earnings, obligations or liquidity.
• Cash conversion and debt service capacity, including the March 2021 Convertible Notes maturity and the costs of increased Credit Facility borrowing.
• Realization and timing of CARES Act tax benefits, including the uncertain-tax-position reserve, and the sustainability of the announced dividend increase.