Service Corporation International — Q2 2015 Form 10-Q
Reporting period: Three and six months ended June 30, 2015; comparisons are to the corresponding 2014 periods. SCI operates funeral homes, cemeteries and related deathcare businesses in the U.S. and Canada. At quarter-end, it operated 1,550 funeral locations and 467 cemeteries. Financial amounts below are U.S. dollars.
Financial performance and position
| Metric | Q2 2015 | Q2 2014 | First half 2015 | First half 2014 |
|---|---|---|---|---|
| Revenue | $754.4 million | $746.8 million | $1,502.5 million | $1,492.3 million |
| Gross profit | $166.7 million | $156.0 million | $344.7 million | $322.1 million |
| Operating income | $127.6 million | $144.7 million | $268.7 million | $252.1 million |
| Net income attributable to common stockholders | $52.6 million | $25.9 million | $114.0 million | $67.0 million |
| Diluted EPS | $0.25 | $0.12 | $0.55 | $0.31 |
| Operating cash flow | Not separately presented for quarter | Not separately presented for quarter | $282.5 million | $170.8 million |
- Gross margin was approximately 22.1% in Q2 2015 versus 20.9% in Q2 2014; first-half gross margin was approximately 22.9% versus 21.6%.
- First-half capital expenditures were $64.7 million; cash used in investing activities was $84.1 million, compared with $77.4 million provided in the prior-year period. Financing activities used $175.3 million.
- At June 30, cash was $199.1 million and total debt was $3.06 billion, including $290.0 million of current maturities. The weighted-average debt interest rate was 5.21%; approximately 75% of debt was fixed-rate.
- The $500 million revolving credit facility had $265.0 million drawn, $31.6 million in letters of credit and $203.4 million of available borrowing capacity. SCI reported covenant compliance; actual leverage was 3.55 against a 4.50 maximum, and interest coverage was 5.00 against a 3.00 minimum.
Changes versus the prior comparable period
- First-half revenue increased about 0.7%, while gross profit rose about 7.0%. Common-stockholder net income increased substantially, but comparisons reflect significant prior-year items, including a $29.2 million pretax debt-extinguishment loss and gains from required Stewart acquisition divestitures.
- In Q2, operating income declined despite higher gross profit, principally because 2014 included a $35.0 million gain on divestitures and impairment charges, while 2015 recorded a $5.6 million net loss on those items. First-half results similarly included a $32.2 million prior-year net gain versus a $7.4 million 2015 net loss.
- Comparable cemetery performance strengthened: Q2 comparable cemetery revenue rose 10.3% and gross profit rose 32.7%; first-half comparable revenue rose 9.2% and gross profit rose 27.4%. Management cited higher preneed property sales and trust fund income.
- Comparable funeral revenue and gross profit improved for the first half, but Q2 comparable funeral gross profit increased only 1.8%. Funeral service volumes were relatively flat on a comparable basis in Q2, while the comparable cremation rate rose to 51.3% from 50.7%.
- First-half operating cash flow increased $111.7 million. Management attributed much of the change to lower acquisition/transition costs, lower debt-extinguishment premiums and lower legal-defense payments; excluding specified items, it cited a $37.6 million increase, including higher customer receipts and trust withdrawals.
Outlook, commentary, risks and unusual items
- No numeric earnings or revenue guidance is provided. Management said it intended to refinance the 6.75% Senior Notes due April 2016 and described priorities of acquisitions/new builds, dividends, share repurchases and opportunistic debt repurchases.
- SCI reported a $9.5 billion preneed backlog of future revenues. Backlog includes insurance-funded contracts not recorded as balance-sheet assets or liabilities; realization depends on contract maturation, cancellations, investment results and other factors.
- During the first half, SCI repurchased 5.86 million shares for $151.8 million and paid $40.4 million in dividends. The quarterly dividend was $0.10 per share. It also disclosed $42.3 million of additional repurchases after June 30.
- Trust investment returns are exposed to equity, fixed-income and alternative-investment market risk. Trust assets are held for preneed obligations or perpetual-care purposes and should not be treated as freely available corporate liquidity. Management recorded $5.1 million of trust investment impairment charges in the first half.
- Key risks include increased cremation rates and related pressure on average revenue, competition, changes in death rates and customer preferences, trust-fund shortfalls, loss of surety-bond capacity, third-party insurer strength, debt and covenant constraints, regulation, currency exposure and litigation.
- SCI disclosed a material weakness in income-tax accounting that remained unresolved at June 30, 2015; management concluded disclosure controls and procedures were not effective. Remediation included annual preparation and review of tax-basis balance sheets.
- Tax matters included $192.6 million of unrecognized tax benefits and $49.5 million of accrued interest. The company said audit outcomes and timing were uncertain. It also described wage-and-hour claims and litigation involving cemetery leases; potential outcomes could not be quantified.
Important facts for investors to verify
- Whether the 2016 notes were refinanced, and how subsequent debt maturities, borrowing costs and covenant headroom evolved.
- Whether comparable cemetery growth and margins persisted, and whether higher preneed production and trust income are sustainable.
- How funeral volumes, cremation mix and average revenue per service affected comparable results after Q2.
- Whether operating cash flow remained strong after the effects of timing, trust withdrawals and nonrecurring prior-year costs.
- Progress in remediating the income-tax accounting material weakness and any subsequent changes in tax exposures or litigation contingencies.
- How the $9.5 billion preneed backlog converts to recognized revenue and cash, including cancellation experience, trust performance and insurance-funded contract risks.