# Service Corp International: Form 10-Q for the period ended Mar 31, 2013

- Company: [Service Corp International](/companies/sci.md) (CIK 89089)
- Form: 10-Q
- Filed: 2013-04-25
- Accepted by EDGAR: Apr 25, 2013, 11:37 ET
- Period: 2013-03-31
- Accession: 0000089089-13-000009
- Inline XBRL: yes
- Main document: https://www.sec.gov/Archives/edgar/data/89089/000008908913000009/sci-2013331x10q.htm
- All documents and exhibits: https://www.sec.gov/Archives/edgar/data/89089/000008908913000009/

## Figures reported in this filing

Standardized XBRL line items for the period ended 2013-03-31.

| Line item | Period | Value | XBRL concept |
| --- | --- | ---: | --- |
| Revenue | 3 months, 2013-01-01 to 2013-03-31 | $652.4m | us-gaap:Revenues |
| Cost of revenue | 3 months, 2013-01-01 to 2013-03-31 | $492.8m | us-gaap:CostOfRevenue |
| Gross profit | 3 months, 2013-01-01 to 2013-03-31 | $159.6m | us-gaap:GrossProfit |
| Operating income | 3 months, 2013-01-01 to 2013-03-31 | $127.8m | us-gaap:OperatingIncomeLoss |
| Interest expense | 3 months, 2013-01-01 to 2013-03-31 | $32.8m | us-gaap:InterestExpense |
| Income tax | 3 months, 2013-01-01 to 2013-03-31 | $35.3m | us-gaap:IncomeTaxExpenseBenefit |
| Net income | 3 months, 2013-01-01 to 2013-03-31 | $57.6m | us-gaap:NetIncomeLoss |
| Diluted EPS | 3 months, 2013-01-01 to 2013-03-31 | $0.27 | us-gaap:EarningsPerShareDiluted |
| Basic EPS | 3 months, 2013-01-01 to 2013-03-31 | $0.27 | us-gaap:EarningsPerShareBasic |
| Diluted shares (weighted) | 3 months, 2013-01-01 to 2013-03-31 | 215,208,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Operating cash flow | 3 months, 2013-01-01 to 2013-03-31 | $151.1m | us-gaap:NetCashProvidedByUsedInOperatingActivities |
| Capital expenditure | 3 months, 2013-01-01 to 2013-03-31 | $22.6m | us-gaap:PaymentsToAcquireProductiveAssets |
| Dividends paid | 3 months, 2013-01-01 to 2013-03-31 | $12.7m | us-gaap:PaymentsOfDividendsCommonStock |
| Share repurchases | 3 months, 2013-01-01 to 2013-03-31 | $1.7m | us-gaap:PaymentsForRepurchaseOfCommonStock |
| Cash and equivalents | at 2013-03-31 | $188.5m | us-gaap:CashAndCashEquivalentsAtCarryingValue |
| Current assets | at 2013-03-31 | $374.7m | us-gaap:AssetsCurrent |
| Total assets | at 2013-03-31 | $9.88bn | us-gaap:Assets |
| Current liabilities | at 2013-03-31 | $425.5m | us-gaap:LiabilitiesCurrent |
| Long-term debt | at 2013-03-31 | $1.91bn | us-gaap:LongTermDebtNoncurrent |
| Current portion of debt | at 2013-03-31 | $37.3m | us-gaap:LongTermDebtCurrent |
| Shareholders' equity | at 2013-03-31 | $1.39bn | us-gaap:StockholdersEquity |

## Management's discussion and analysis

As filed, 46,044 characters.

### The Company

We are North America’s largest provider of deathcare products and services, with a network of funeral homes and cemeteries unequalled in geographic scale and reach. At March 31, 2013, we operated 1,437 funeral service locations and 374 cemeteries (including 213 combination locations) in North America, which are geographically diversified across 43 states, 8 Canadian provinces, and the District of Columbia. Our funeral segment also includes the operations of 12 funeral homes in Germany that we intend to exit when economic values and conditions are conducive to a sale. Our funeral service and cemetery operations consist of funeral service locations, cemeteries, funeral service/cemetery combination locations, crematoria, and related businesses. We sell cemetery property and funeral and cemetery products and services at the time of need and on a preneed basis.

Our financial position is enhanced by our $7.5 billion backlog of future revenues from both trust and insurance-funded sales at March 31, 2013, which is the result of preneed funeral and cemetery sales. Preneed selling provides us with a current opportunity to lock-in future market share while deterring the customer from going to a competitor in the future. We believe it adds to the stability and predictability of our revenue and cash flows. While revenue on the majority of preneed funeral sales is deferred until the time of need, sales of preneed cemetery property provides opportunities for full current revenue recognition (to the extent we collect 10% from the customer and the property is developed).

We believe we have the financial strength and flexibility to reward shareholders through dividends while maintaining a prudent capital structure and pursuing new opportunities for profitable growth. We currently have approximately $190.1 million authorized to repurchase our common stock.

Factors affecting our operating results include: demographic trends in terms of population growth and average age, which impact death rates and number of deaths; establishing and maintaining leading market share positions supported by strong local heritage and relationships; effectively responding to increasing cremation trends by selling complementary services and merchandise; controlling salary and merchandise costs; and exercising pricing leverage related to our at-need revenues. The average revenue per funeral contract is influenced by the mix of traditional and cremation services because our average cremation service revenue is approximately half of the average revenue earned from a traditional burial service. To further enhance revenue opportunities we are developing memorialization products and services that specifically appeal to cremation customers. We believe that these additional products and services will help drive increases in the average revenue for a cremation in future periods.

For further discussion of our key operating metrics, see our *Results of Operations* and *Cash Flow* sections below.

### Financial Condition, Liquidity and Capital Resources

### Capital Allocation Considerations

We rely on cash flow from operations as a significant source of liquidity. Our cash flow from operating activities provided $151.1 million in the three months ended March 31, 2013. In addition, we have $381.7 million in excess borrowing capacity under our bank credit facility which expires in March 2016. We currently have no significant maturities of long-term debt until April 2015.

Our bank credit facility requires us to maintain certain leverage and interest coverage ratios. As of March 31, 2013, we were in compliance with all of our debt covenants. Our financial covenant requirements and actual ratios as of March 31, 2013 are as follows:

|  | Per Credit Agreement | Actual |
| --- | --- | ---: |
| Leverage ratio | 4.00 (Max) | 2.82 |
| Interest coverage ratio | 3.00 (Min) | 4.88 |

We believe the sources of liquidity can be supplemented by our ability to access the capital markets for additional debt or equity securities. We believe that our $188.5 million of cash on hand, future operating cash flows, and the available capacity under our credit facility will give us adequate liquidity to meet our short-term needs as well as our long-term financial obligations.

It is our intention to evaluate the best uses of our cash flow that will yield the highest value and return on capital. Our capital deployment strategy is prioritized as follows:

**Reinvest in the core business.** We expect to continue to focus on funding growth initiatives that generate increased profitability, revenue, and cash flows. Our primary internal growth initiative is to increase our funeral and cemetery preneed backlog to grow the Company over the long-term. We will also invest in the construction of funeral home facilities and in the construction of cemetery property to promote future cemetery sales growth. Lastly, from time to time we may have other smaller capital projects, primarily related to the improvement of processes and systems.

**Invest in acquisitions.** We intend to make acquisitions of funeral homes and cemeteries when pricing and terms are favorable. We expect an acquisition investment to earn an after-tax cash return that is in excess of our weighted average cost of capital with room for execution risk. We target businesses with favorable consumer segments and/or where we can achieve additional economies of scale.

**Repurchase shares.** Absent a strategic acquisition opportunity, we believe share repurchases are attractive at the appropriate price. Currently, we have approximately $190.1 million authorized under our share repurchase program. We intend to make purchases from time to time in the open market or through privately negotiated transactions, subject to market conditions, debt covenants, and normal trading restrictions. Our credit agreement contains covenants that limit our ability to repurchase our common stock. There can be no assurance that we will buy our common stock under our share repurchase program in the future.

**Pay a dividend.** Beginning in November 2007, we began to pay quarterly dividends of $0.04 per common share. On February 9, 2011, our Board of Directors approved the payment of a quarterly dividend of $0.05 per common share and on February 13, 2013, approved a quarterly dividend of $0.06 per common share. We intend to continue to grow our cash dividend commensurate with the growth of our free cash flow. While we intend to pay regular quarterly cash dividends for the foreseeable future, all future dividends are subject to limitations in our debt covenants and final determination by our Board of Directors each quarter upon review of our financial performance.

**Repurchase debt.** While the Company has no significant debt maturities until April 2015, we will seek to make open market debt repurchases when it is opportunistic to do so relative to other capital deployment opportunities in order to manage our near-term debt maturity profile.

Our bank credit facility expires in March 2016 and we believe we will be able to successfully renew this facility at the appropriate time. Our long-term liquidity profile assumes that we will have access to the capital markets to refinance our long term debt if, and when, we choose to do so. The Company has a relatively consistent annual cash flow stream which is generally resistant to down economic cycles. This cash flow stream is available to substantially reduce our long-term debt maturities should we choose to do so. Furthermore, the Company's capital expenditures are generally discretionary in nature and can be managed based on the availability of operating cash flow.

### Cash Flow

We believe our ability to generate strong operating cash flow is one of our fundamental financial strengths and provides us with substantial flexibility in meeting operating and investing needs.

#### Operating Activities

Net cash provided by operating activities increased $55.3 million to $151.1 million in the first quarter of 2013 from $95.8 million in the same period of 2012. This increase was driven by:

- a $64.7 million increase in cash receipts from customers as a result of higher atneed and preneed sales;
- a $9.6 million increase in net trust fund withdrawals; partially offset by,
- a $7.5 million increase in vendor payments;
- a $4.6 million increase in payroll;
- a $3.9 million increase in cash tax payments; and
- a $1.3 million decrease in General Agency (GA) receipts.

#### Investing Activities

Cash flows from investing activities used $20.4 million in the first quarter of 2013 compared to using $22.7 million in the same period of 2012. This decrease was primarily attributable to an increase of $1.6 million in cash receipts from divestitures and asset sales, a $0.8 million decrease in capital expenditures, and a $0.8 million decrease in cash spent on acquisitions; partially offset by a $0.9 million decrease in net withdrawals of restricted funds.

#### Financing Activities

Financing activities used $34.3 million in the first quarter of 2013 compared to using $89.1 million in the same period of 2012. This decrease was primarily driven by a $73.4 million decrease in the repurchases of company stock, partially offset by an $8.3 million increase in purchases of Neptune Society noncontrolling interest, a $4.5 million increase in debt payments, a $4.4 million increase in bank overdrafts and other, and a $1.6 million increase in payments of dividends.

### Financial Assurances

In support of our operations, we have entered into arrangements with certain surety companies whereby such companies agree to issue surety bonds on our behalf as financial assurance and/or as required by existing state and local regulations. The surety bonds are used for various business purposes; however, the majority of the surety bonds issued and outstanding have been used to support our preneed funeral and cemetery sales activities. The obligations underlying these surety bonds are recorded on the unaudited condensed consolidated balance sheet as *Deferred preneed funeral revenues* and *Deferred preneed cemetery revenues.* The breakdown of surety bonds between funeral and cemetery preneed arrangements, as well as surety bonds for other activities, is described below.

*(Dollars in millions)*

|  | March 31, 2013 | December 31, 2012 |
| --- | ---: | ---: |
| Preneed funeral | $104.5 | $110.1 |
| Preneed cemetery: |  |  |
| Merchandise and services | 110.6 | 114.6 |
| Pre-construction | 4.2 | 7.2 |
| Bonds supporting preneed funeral and cemetery obligations | 219.3 | 231.9 |
| Bonds supporting preneed business permits | 3.0 | 2.9 |
| Other bonds | 18.1 | 17.2 |
| Total surety bonds outstanding | $240.4 | $252.0 |

When selling preneed funeral and cemetery contracts, we may post surety bonds where allowed by state law. We post the surety bonds in lieu of trusting a certain amount of funds received from the customer. The amount of the bond posted is generally determined by the total amount of the preneed contract that would otherwise be required to be trusted, in accordance with applicable state law. For the three months ended March 31, 2013 and 2012, we had $4.4 million and $4.8 million, respectively, of cash receipts attributable to bonded sales. These amounts do not consider reductions associated with taxes, obtaining costs, or other costs.

Surety bond premiums are paid annually and are automatically renewable until maturity of the underlying preneed contracts, unless we are given prior notice of cancellation. Except for cemetery pre-construction bonds (which are irrevocable), the surety companies generally have the right to cancel the surety bonds at any time with appropriate notice. In the event a surety company were to cancel the surety bond, we are required to obtain replacement surety assurance from another surety company or fund a trust for an amount generally less than the posted bond amount. Management does not expect that we will be required to fund material future amounts related to these surety bonds because of lack of surety capacity or surety company non-performance.

### Preneed Funeral and Cemetery Activities and Backlog of Contracts

In addition to selling our products and services to client families at the time of need, we sell price-guaranteed preneed funeral and cemetery contracts, which provide for future funeral or cemetery services and merchandise. Since preneed funeral and cemetery services or merchandise will not be provided until sometime in the future, most states and provinces require that all or a portion of the funds collected from customers on preneed funeral and cemetery contracts be paid into merchandise and service trusts until the merchandise is delivered or the service is performed. These trust funds own investments in equity and debt securities and mutual funds, which are sensitive to current market prices. In certain situations, as described above, where permitted by state or provincial laws, we post a surety bond as financial assurance for a certain amount of the preneed funeral or cemetery contract in lieu of placing funds into trust accounts. *Trust-Funded Preneed Funeral and Cemetery Contracts:* The funds are deposited into trust and invested by independent trustees in accordance with state and provincial laws. We retain any funds above the amounts required to be deposited into trust accounts and use them for working capital purposes, generally to offset the selling and administrative costs of our preneed programs.

The table below details our results of preneed funeral and cemetery production and maturities, excluding insurance contracts, for the three months ended March 31, 2013 and 2012.

*(Dollars in millions)*

| Funeral: Preneed trust-funded (including bonded): | North America Three Months Ended March 31, 2013 | 2012 |
| --- | ---: | ---: |
| Sales production | $46.3 | $37.7 |
| Sales production (number of contracts) | 17,253 | 14,077 |
| Maturities | $50.9 | $56.1 |
| Maturities (number of contracts) | 14,636 | 14,235 |
| **Cemetery:** |  |  |
| Sales production: |  |  |
| Preneed | $133.2 | $124.5 |
| Atneed | 63.3 | 59.4 |
| Total sales production | $196.5 | $183.9 |
| Sales production deferred to backlog: |  |  |
| Preneed | $49.2 | $55.2 |
| Atneed | 47.7 | 45.4 |
| Total sales production deferred to backlog | $96.9 | $100.6 |
| Revenue recognized from backlog: |  |  |
| Preneed | $35.9 | $32.3 |
| Atneed | 45.5 | 44.0 |
| Total revenue recognized from backlog | $81.4 | $76.3 |

*Insurance-Funded Preneed Funeral Contracts:* Where permitted by state or provincial law, customers may arrange their preneed funeral contract by purchasing a life insurance or annuity policy from third-party insurance companies, for which we earn a commission as general sales agent for the insurance company. The policy amount of the insurance contract between the customer and the third-party insurance company generally equals the amount of the preneed funeral contract. As the insurance contract is between the insurance company and the customer, we do not reflect the unfulfilled insurance-funded preneed funeral contract amounts in our unaudited condensed consolidated balance sheet.

The table below details the results of insurance-funded preneed funeral production and maturities for the three months ended March 31, 2013 and 2012, and the number of contracts associated with those transactions.

*(Dollars in millions)*

| Preneed funeral insurance-funded: | North America Three Months Ended March 31, 2013 | 2012 |
| --- | ---: | ---: |
| Sales production (1) | $137.9 | $134.4 |
| Sales production (number of contracts) (1) | 24,134 | 22,776 |
| General Agency revenue | $25.2 | $23.3 |
| Maturities | $92.7 | $83.1 |
| Maturities (number of contracts) | 16,305 | 14,672 |

(1) Amounts are not included in our unaudited condensed consolidated balance sheet.

*North America Backlog of Preneed Funeral and Cemetery Contracts:* The following table reflects our North America backlog of trust-funded deferred preneed funeral and cemetery contract revenues, including amounts related to *Deferred preneed funeral and cemetery receipts held in trust* at March 31, 2013 and December 31, 2012. Additionally, the table reflects our backlog of unfulfilled insurance-funded contracts (which are not included in our unaudited condensed consolidated balance sheet) at March 31, 2013 and December 31, 2012. The backlog amounts presented are reduced by an amount that we believe will cancel before maturity based on historical experience.

The table also reflects our preneed funeral and cemetery receivables and trust investments (fair value and cost basis) associated with the backlog of deferred preneed funeral and cemetery contract revenues, net of the estimated cancellation allowance. We believe that the table below is meaningful because it sets forth the aggregate amount of future revenues we expect to recognize as a result of preneed sales, as well as the amount of assets associated with those revenues. Because the future revenues exceed the asset amounts, future revenues will exceed the cash distributions actually received from the associated trusts.

*(Dollars in billions)*

|  | March 31, 2013 Fair Value | Cost | December 31, 2012 Fair Value | Cost |
| --- | ---: | ---: | ---: | ---: |
| Deferred preneed funeral revenues | $0.52 | $0.52 | $0.53 | $0.53 |
| Deferred preneed funeral receipts held in trust | 1.36 | 1.30 | 1.34 | 1.32 |
|  | $1.88 | $1.82 | $1.87 | $1.85 |
| Allowance for cancellation on trust investments | (0.16) | (0.15) | (0.15) | (0.15) |
| Backlog of trust-funded preneed funeral revenues | $1.72 | $1.67 | $1.72 | $1.70 |
| Backlog of insurance-funded preneed funeral revenues (1) | 3.71 | 3.71 | 3.68 | 3.68 |
| Total backlog of preneed funeral revenues | $5.43 | $5.38 | $5.40 | $5.38 |
| Preneed funeral receivables, net and trust investments | $1.56 | $1.56 | $1.54 | $1.52 |
| Allowance for cancellation on trust investments | (0.15) | (0.15) | (0.14) | (0.14) |
| Assets associated with backlog of trust-funded deferred preneed funeral revenues, net of estimated allowance for cancellation | $1.41 | $1.41 | $1.40 | $1.38 |
| Insurance policies associated with insurance-funded deferred preneed funeral revenues, net of estimated allowance for cancellation (1) | 3.71 | 3.71 | 3.68 | 3.68 |
| Total assets associated with backlog of preneed funeral revenues, net of estimated allowance for cancellation | $5.12 | $5.12 | $5.08 | $5.06 |
| Deferred preneed cemetery revenues | $0.88 | $0.88 | $0.86 | $0.86 |
| Deferred preneed cemetery receipts held in trust | 1.35 | 1.23 | 1.29 | 1.23 |
|  | $2.23 | $2.11 | $2.15 | $2.09 |
| Allowance for cancellation on trust investments | (0.15) | (0.15) | (0.15) | (0.15) |
| Total backlog of deferred cemetery revenues | $2.08 | $1.96 | $2.00 | $1.94 |
| Preneed cemetery receivables, net and trust investments | $1.89 | $1.77 | $1.82 | $1.76 |
| Allowance for cancellation on trust investments | (0.16) | (0.16) | (0.16) | (0.16) |
| Total assets associated with backlog of deferred cemetery revenues, net of estimated allowance for cancellation | $1.73 | $1.61 | $1.66 | $1.60 |

36

(1) Amounts are not included in our unaudited condensed consolidated balance sheet.

The fair value of our funeral and cemetery trust investments was based on a combination of quoted market prices, observable inputs such as interest rates or yield curves, and appraisals. The difference between the backlog and asset amounts represents the contracts for which we have posted surety bonds as financial assurance in lieu of trusting, the amounts collected from customers that were not required to be deposited into trust, and allowable cash distributions from trust assets. The table also reflects the amounts expected to be received from insurance companies through the assignment of policy proceeds related to insurance-funded funeral contracts.

### Trust Investments

In addition to selling our products and services to client families at the time of need, we sell price-guaranteed preneed funeral and cemetery contracts, which provide for future funeral or cemetery services and merchandise. Since preneed funeral and cemetery services or merchandise will not be provided until sometime in the future, most states and provinces require that all or a portion of the funds collected from customers on preneed funeral and cemetery contracts be paid into trusts and/or preneed escrow accounts until the merchandise is delivered or the service is performed. Investment earnings associated with the trust investments are expected to mitigate the inflationary costs of providing the preneed funeral and cemetery services and merchandise in the future for the prices that were guaranteed at the time of sale.

Also, we are required by state and provincial law to pay a portion of the proceeds from the sale of cemetery property interment rights into perpetual care trusts. For these investments, the original corpus remains in the trust in perpetuity and the net ordinary earnings are intended to offset the expense to maintain the cemetery property. The majority of states require that net gains or losses are retained and added to the corpus, but certain states allow the net realized gains and losses to be included in the income that is distributed.

Independent trustees manage and invest all of the funds deposited into the funeral and cemetery merchandise and service trusts as well as the cemetery perpetual care trusts. The trustees are selected based on their respective geographic footprint and qualifications per state and provincial regulations. All of the trustees engage the same independent investment advisor indirectly through SCI's wholly-owned registered investment advisor. The trustees, with input from the investment advisor, establish an investment policy that serves as an operating document to guide the investment activities of the trusts including asset allocation and manager selection. The investments are also governed by state and provincial guidelines. Asset allocation is based on the liability structure of each funeral, cemetery, and perpetual care trust. The investment advisor recommends investment managers to the trustees that are selected on the basis of various criteria set forth in the investment policy. The primary investment objectives for the funeral and cemetery merchandise and service trusts include (1) achieving growth of principal over time sufficient to preserve and increase the purchasing power of the assets, and (2) preserving capital within acceptable levels of volatility. Preneed funeral and cemetery contracts generally take years to mature. Therefore, the funds associated with these contracts are often invested for several market cycles. While cemetery perpetual care trusts share the same investment objectives as listed above, these trusts emphasize providing a steady stream of investment income with some capital appreciation. The trusts seek to control risk and volatility through a combination of asset styles, asset classes, and institutional investment managers.

As of March 31, 2013, 84% of our trusts were under the control and custody of two large financial institutions engaged as preferred trustees. The U.S. trustees primarily use common trust fund structures as the investment vehicle for their trusts. Through the common trust fund structure, each respective trustee manages the allocation of assets through individual managed accounts or institutional mutual funds. In the event a particular state prohibits the use of a common trust fund as a qualified investment, the trustee utilizes institutional mutual funds. The U.S. trusts include a modest allocation to alternative investments, which are comprised primarily of private equity and real estate investments. These investments are structured as limited liability companies (LLCs) and are managed by certain trustees. The trusts that are eligible to allocate a portion of their investments to alternative investments purchase units of the respective LLCs.

#### Fixed Income Securities

Fixed income investments are intended to preserve principal, provide a source of current income, and reduce overall portfolio volatility. The SCI trusts have direct investments primarily in government fixed income securities. Insurance backed fixed income investments preserve the principal, guarantee annual appreciation, and reduce overall portfolio volatility.

Canadian government fixed income securities are investments in Canadian federal and provincial government instruments. In many cases, regulatory restrictions mandate that the funds from the sales of preneed funeral and cemetery products sold in certain Canadian jurisdictions must be invested in these instruments.

#### Equity Securities

Equity investments have historically provided long-term capital appreciation in excess of inflation. The SCI trusts have direct investments primarily in domestic equity portfolios that include large, mid, and small capitalization companies of different investment objectives (i.e., growth and value). The majority of the equity portfolio is managed by multiple institutional investment managers that specialize in an objective-specific area of expertise. Our equity securities are exposed to market risk; however, these securities are well-diversified. As of March 31, 2013, the largest single equity position represented less than 1% of the total equity securities portfolio.

#### Mutual Funds

The SCI trust funds employ institutional mutual funds where operationally or economically efficient. Institutional mutual funds are utilized to invest in various asset classes including US equities, non-US equities, convertible bonds, corporate bonds, government bonds, Treasury inflation protected securities (TIPS), high yield bonds, real estate investment trusts (REITs), and commodities. The mutual funds are governed by guidelines outlined in their individual prospectuses.

#### Private Equity

The objective of these investments is to provide high rates of return with controlled volatility. These investments are typically long-term in duration. These investments are diversified by strategy, sector, manager, and vintage year. Private equity exposure is accessed through limited liability companies (LLCs) established by certain preferred trustees. These LLCs invest in numerous limited partnerships, including private equity, fund of funds, distressed debt, and mezzanine financing. The trustees that have oversight of their respective LLCs work closely with the investment advisor in making all current investments.

#### Trust Performance

The trust fund income recognized from these investment assets continues to be volatile. During the twelve months ended March 31, 2013, the Standard and Poor’s 500 Index increased approximately 14.0% and the Barclay’s Aggregate Index increased approximately 3.8%, while the combined SCI trusts increased approximately 11.2%.

SCI, its trustees, and its investment advisor continue to monitor the capital markets and the trusts on an ongoing basis. The trustees, with input from the investment advisor, will take prudent action as needed to achieve the investment goals and objectives of the trusts.

### Results of Operations — Three Months Ended March 31, 2013 and 2012

### Management Summary

Key highlights in the first quarter of 2013 were as follows:

- Funeral gross profit increased $20.1 million, or 20.1%, primarily due to higher funeral services performed and average revenue per funeral service, along with an increase in preneed revenues for items that are delivered at the the time of sale; and
- Cemetery gross profit increased $11.9 million, or 43.1%, primarily due to an increase in cemetery preneed sales and an increase in trust fund income.

### Results of Operations

In the first quarter of 2013, we reported net income attributable to common stockholders of $57.6 million ($0.27 per diluted share) compared to net income attributable to common stockholders in the first quarter of 2012 of $48.0 million ($0.22 per diluted share). These results were impacted by the following items:

*(Dollars in thousands)*

|  | 2013 | 2012 |
| --- | ---: | ---: |
| Net after-tax losses from the sale of assets | $(573) | $(354) |
| After-tax expenses related to system and process transition costs | $(695) | $(35) |
| After-tax expenses related to legal defense fees | $(804) | $— |
| Change in certain tax reserves and other | $(890) | $3,326 |

### Consolidated Versus Comparable Results

The table below reconciles our consolidated GAAP results to our comparable, or “same store,” results for the three months ended March 31, 2013 and 2012. We define comparable operations (or same store operations) as those funeral and cemetery locations that were owned for the entire period beginning January 1, 2012 and ending March 31, 2013. The following tables present operating results for funeral and cemetery locations that were owned by us during this period.

*(Dollars in millions)*

| Three Months Ended March 31, 2013 North America Revenue | Consolidated | Less: Results Associated with Acquisition/New Construction | Less: Results Associated with Divestitures | Comparable |
| --- | ---: | ---: | ---: | ---: |
| Funeral revenue | $460.2 | $8.5 | $0.2 | $451.5 |
| Cemetery revenue | 190.3 | — | (0.1) | 190.4 |
|  | 650.5 | 8.5 | 0.1 | 641.9 |
| Germany revenue | 1.9 | — | — | 1.9 |
| Total revenue | $652.4 | $8.5 | $0.1 | $643.8 |
| North America Gross Profits |  |  |  |  |
| Funeral gross profits (losses) | $119.8 | $1.5 | $(0.3) | $118.6 |
| Cemetery gross profits (losses) | 39.5 | — | (0.4) | 39.9 |
|  | 159.3 | 1.5 | (0.7) | 158.5 |
| Germany gross profits | 0.3 | — | — | 0.3 |
| Total gross profits (losses) | $159.6 | $1.5 | $(0.7) | $158.8 |

*(Dollars in millions)*

| Three Months Ended March 31, 2012 North America Revenue | Consolidated | Less: Results Associated with Acquisition/New Construction | Less: Results Associated with Divestitures | Comparable |
| --- | ---: | ---: | ---: | ---: |
| Funeral revenue | $422.5 | $0.1 | $1.2 | $421.2 |
| Cemetery revenue | 178.2 | — | 0.3 | 177.9 |
|  | 600.7 | 0.1 | 1.5 | 599.1 |
| Germany revenue | 1.8 | — | — | 1.8 |
| Total revenue | $602.5 | $0.1 | $1.5 | $600.9 |
| North America Gross Profits |  |  |  |  |
| Funeral gross profits (losses) | $100.2 | $(0.1) | $(0.8) | $101.1 |
| Cemetery gross profits | 27.6 | — | 0.2 | 27.4 |
|  | 127.8 | (0.1) | (0.6) | 128.5 |
| Germany gross losses | (0.2) | — | — | (0.2) |
| Total gross profits (losses) | $127.6 | $(0.1) | $(0.6) | $128.3 |

The following table provides the data necessary to calculate our consolidated average revenue per funeral service for the three months ended March 31, 2013 and 2012. We calculate average revenue per funeral service by dividing consolidated funeral revenue, excluding General Agency (GA) revenues, recognized preneed revenues and certain other revenues, to avoid distorting our averages of normal funeral services revenue, by the number of consolidated funeral services performed during the period.

*(Dollars in millions, except average revenue per funeral service)*

|  | Three Months Ended March 31, 2013 | 2012 |
| --- | ---: | ---: |
| Consolidated funeral revenue | $462.1 | $424.3 |
| Less: Funeral consolidated recognized preneed revenue(1) | 18.9 | 13.7 |
| Less: Consolidated GA revenue | 25.2 | 23.3 |
| Less: Other revenue | 4.6 | 2.8 |
| Adjusted consolidated funeral revenue | $413.4 | $384.5 |
| Consolidated funeral services performed | 79,788 | 74,706 |
| Consolidated average revenue per funeral service | $5,181 | $5,147 |

(1) Recognized preneed revenue represents preneed sales of items that are delivered at the time of sale, including memorial merchandise and travel protection insurance.

The following table provides the data necessary to calculate our comparable average revenue per funeral service for the three months ended March 31, 2013 and 2012. We calculate average revenue per funeral service by dividing comparable funeral revenue, excluding comparable GA revenues, recognized preneed revenues and certain other revenues, to avoid distorting our averages of normal funeral services revenue, by the number of comparable funeral services performed during the period.

*(Dollars in millions, except average revenue per funeral service)*

|  | Three Months Ended March 31, 2013 | 2012 |
| --- | ---: | ---: |
| Comparable funeral revenue | $453.4 | $423.0 |
| Less: Funeral comparable recognized preneed revenue(1) | 17.9 | 13.6 |
| Less: Comparable GA revenue | 25.0 | 23.3 |
| Less: Other revenue | 4.5 | 3.0 |
| Adjusted comparable funeral revenue | $406.0 | $383.1 |
| Comparable funeral services performed | 77,716 | 74,518 |
| Comparable average revenue per funeral service | $5,224 | $5,141 |

(1) Recognized preneed revenue represents preneed sales of items that are delivered at the time of sale, including memorial merchandise and travel protection insurance.

### Funeral Results

#### Funeral Revenue

Consolidated revenues from funeral operations were $462.1 million in the first quarter of 2013 compared to $424.3 million for the same period in 2012. This increase is primarily attributable to a $30.4 million increase in comparable revenues described below and $8.4 million of additional revenues as the result of acquisitions in 2012. These increases were partially offset by a decline of $1.0 million in revenues contributed by non-strategic assets that were divested throughout 2013 and 2012. Comparable revenues from funeral operations were $453.4 million in the first quarter of 2013 compared to $423.0 million for the same period in 2012. This increase was primarily due to the 4.3% increase in the number of comparable funeral services described below and the increase in average funeral revenue per funeral service described below, as well as increased recognized preneed revenues for items that are delivered at the time of sale, and higher General Agency revenues.

#### Funeral Services Performed

Our consolidated funeral services performed increased 6.8% during the first quarter of 2013 compared to the same period in 2012, primarily as the result of acquisitions in 2012 and a 4.3% increase in comparable funeral services performed. We believe this increase is consistent with trends experienced by other funeral service providers and industry vendors. Our comparable cremation rate of 48.9% in the first quarter of 2013 increased from 48.3% in 2012. This growth in comparable cremations was generated equally by cremations with service and direct cremations. While the average revenue for cremations of either type is lower than that for traditional burials, we continue to expand our cremation memorialization product and service offerings, which have resulted in higher average sales for cremation services.

#### Average Revenue Per Funeral Service

Our consolidated average revenue per funeral service increased $34, or 0.7%, in the first quarter of 2013 compared to 2012, primarily due to an increase in comparable average revenue per funeral service described below and partially offset by an increase in the number of cremations. Our comparable average revenue per funeral service increased $83, or 1.6%, in the first quarter of 2013 compared to the same period in 2012. This increase in comparable average revenue per funeral service is primarily from initiatives centered around better consumer choice and flexibility, such as enhanced Dignity packaging, increased receptions and events offerings, and expansion of floral offerings through e-commerce solutions. Excluding an unfavorable Canadian currency impact and higher funeral trust fund income, the average revenue per funeral service grew approximately 1.1% despite an increase in cremation rates. The addition of Neptune Society fulfilled contracts to our comparable results (which include only the cremation service component in our comparable analysis) has accelerated our cremation mix change and put slight downward pressure on our total average revenue per service.

#### Funeral Gross Profits

Consolidated funeral gross profits increased $20.1 million, or 20.1%, in the first quarter of 2013 compared to the same period in 2012. This increase is primarily attributable to an $18.0 million increase in comparable gross profits described below, $1.6 million of additional gross profits related to acquisitions that occurred in 2012, and $0.5 million decrease in losses by non-strategic assets that were divested throughout 2013 and 2012.

Comparable funeral gross profits increased $18.0 million, or 17.8%, and the comparable gross margin percentage increased from 23.9% to 26.2% in the first quarter of 2013 when compared to the same period in 2012 primarily as a result of the increase in comparable revenue described above, partially offset by the following:

- a $4.8 million increase in direct costs of services performed as a result of the increase in funeral revenue described above;
- a $4.1 million increase in selling costs as a result of higher production;
- a $1.8 million increase in general and administrative expense; and
- a $1.2 million increase in facility expense driven by the increase in funeral services performed described above.

### Cemetery Results

#### Cemetery Revenue

Consolidated revenues from our cemetery operations increased $12.1 million, or 6.8%, in the first quarter of 2013 compared to the same period in 2012, primarily as a result of the increase in comparable revenues described below. This increase was partially offset by a decline of $0.4 million in revenues contributed by non-strategic assets that were divested throughout 2013 and 2012. Comparable cemetery revenues increased $12.5 million, or 7.0%, primarily as a result of higher cemetery preneed property sales and increased trust fund income.

#### Cemetery Gross Profits

Consolidated cemetery gross profits increased $11.9 million, or 43.1%, in the first quarter of 2013 compared to the same period in 2012. This increase is primarily the result of the increase in comparable gross profits described below, partially offset by a decline of $0.6 million in profits contributed by non-strategic assets that were divested throughout 2013 and 2012.

Comparable cemetery gross profits increased $12.5 million, or 45.6%, and gross margin percentage increased from 15.4% to 21.0% in the first quarter of 2013 compared to the same period in 2012. This increase is primarily the result of higher cemetery revenues described above and a benefit of $1.9 million for insurance claim settlements, partially offset by a $2.0 million increase in selling costs related to increased sales production.

### Other Financial Statement Items

#### General and Administrative Expenses

General and administrative expenses increased $4.9 million to $30.9 million during the first quarter of 2013 compared to $26.0 million for the same period in 2012. This increase is primarily due to $2.5 million of incremental long-term incentive compensation costs related to total shareholder return as well as a $2.5 million increase in legal fees.

#### Losses on Divestitures and Impairment Charges, net

We recognized a $1.0 million net pre-tax loss on divestitures and impairment charges in the first quarter of 2013 primarily due to losses on the final settlement of an indemnification liability related to our former operations in Spain. In the first quarter of 2012, we recognized a $0.5 million net pre-tax loss on divestitures and impairment charges due to the sale of non-strategic locations in North America.

#### Other (Expense) Income, Net

Other (expense) income, net decreased $4.9 million to an expense of $1.0 million during first quarter of 2013, primarily due to a favorable foreign currency impact from liability settlements between the U.S. and Canadian subsidiaries in the first quarter of 2012.

#### Provision for Income Taxes

Income tax expense during interim periods is based on our estimated annual effective income tax rate plus any discrete items which are recorded in the period in which they occur. Discrete items include, among others, such events as changes in estimates due to the finalization of tax returns, tax audit settlements, expiration of statute of limitations, and increases or decreases in valuation allowances. Our effective tax rate was 37.5% and 32.4% for the three months ended March 31, 2013 and 2012, respectively. The lower effective tax rate for the three months ended March 31, 2012 is primarily due to the benefits associated with the settlement of a tax audit. The effective tax rate for the first quarter of 2013 is above the 35% federal statutory tax rate due to state tax expense which is partially offset by foreign earnings taxed at lower rates.

#### Weighted Average Shares

The diluted weighted average number of shares outstanding was 215.2 million during the first three months ended March 31, 2013, compared to 223.2 million in the same period of 2012. The decrease in the number of shares reflects the impact of shares repurchased under our share repurchase program.

### Critical Accounting Policies

The preparation of financial statements in accordance with accounting principles generally accepted in the United States requires management to make estimates and assumptions that affect the amounts reported in the unaudited condensed consolidated financial statements and accompanying notes. Actual results could differ from those estimates. Our critical accounting policies are disclosed in our Annual Report on Form 10-K for the year ended December 31, 2012.

No other significant changes to our accounting policies have occurred subsequent to December 31, 2012, except as described below within *Recent Accounting Pronouncements and Accounting Changes.*

### Recent Accounting Pronouncements and Accounting Changes

For discussion of recent accounting pronouncements and accounting changes, see Part I, Item 1. Financial Statements, Note 3.

### Cautionary Statement on Forward-Looking Statements

The statements in this Form 10-Q that are not historical facts are forward-looking statements made in reliance on the “safe harbor” protections provided under the Private Securities Litigation Reform Act of 1995. These statements may be accompanied by words such as “believe,” “estimate,” “project,” “expect,” “anticipate,” or “predict,” that convey the uncertainty of future events or outcomes. These statements are based on assumptions that we believe are reasonable; however, many important factors could cause our actual results in the future to differ materially from the forward-looking statements made herein and in any other documents or oral presentations made by us, or on our behalf. Important factors, which could cause actual results to differ materially from those in forward-looking statements include, among others, the following:

- Our affiliated funeral and cemetery trust funds own investments in equity securities, fixed income securities, and mutual funds, which are affected by market conditions that are beyond our control.
- We may be required to replenish our affiliated funeral and cemetery trust funds in order to meet minimum funding requirements, which would have a negative effect on our earnings and cash flow.
- Our ability to execute our strategic plan depends on many factors, some of which are beyond our control.
- Our credit agreements contain covenants that may prevent us from engaging in certain transactions.
- If we lost the ability to use surety bonding to support our preneed funeral and preneed cemetery activities, we may be required to make material cash payments to fund certain trust funds.
- The funeral home and cemetery industry continues to be increasingly competitive.
- Increasing death benefits related to preneed funeral contracts funded through life insurance or annuity contracts may not cover future increases in the cost of providing a price-guaranteed funeral service.
- The financial condition of third-party insurance companies that fund our preneed funeral contracts may impact our future revenues.
- Unfavorable results of litigation, including currently pending class action cases concerning cemetery or burial practices, could have a material adverse impact on our financial statements.
- Unfavorable publicity could affect our reputation and business.
- If the number of deaths in our markets declines, our cash flows and revenues may decrease.
- If we are not able to respond effectively to changing consumer preferences, our market share, revenues and profitability could decrease.
- The continuing upward trend in the number of cremations performed in North America could result in lower revenues and gross profit.
- Our funeral home and cemetery businesses are high fixed-cost businesses.
- Regulation and compliance could have a material adverse impact on our financial results.
- Increased costs, including potential increased health care costs, may have a negative impact on earnings and cash flows.
- Cemetery burial practice claims could have a material adverse impact on our financial results.
- A number of years may elapse before particular tax matters, for which we have established accruals, are audited and finally resolved.
- Declines in overall economic conditions beyond our control could reduce future potential earnings and cash flows and could result in future goodwill impairments and /or other intangible assets.

For further information on these and other risks and uncertainties, see our Securities and Exchange Commission filings, including our 2012 Annual Report on Form 10-K, which was filed February 13, 2013. Copies of this document as well as other SEC filings can be obtained from our website at www.sci-corp.com. We assume no obligation to publicly update or revise any forward-looking statements made herein or any other forward-looking statements made by us, whether as a result of new information, future events or otherwise.

## Market risk

As filed, 649 characters.

### Marketable Equity and Debt Securities — Price Risk

In connection with our preneed funeral operations and preneed cemetery merchandise and service sales, the related funeral and cemetery trust funds own investments in equity and debt securities and mutual funds, which are sensitive to current market prices.

Cost and market values as of March 31, 2013 are presented in Part I, Item 1. Financial Statements and Notes 4, 5, and 6 of this Form 10-Q. Also, see Item 2, Management’s Discussion and Analysis of Financial Condition and Results of Operations, *Financial Conditions, Liquidity and Capital Resources*, for discussion of trust investments.

## Controls and procedures

As filed, 1,565 characters.

### Disclosure Controls and Procedures

As of March 31, 2013, we carried out an evaluation, under the supervision and with the participation of our Chief Executive Officer (CEO) and Chief Financial Officer (CFO), of the effectiveness of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) under the Securities Exchange Act of 1934, as amended (the Exchange Act)). Our disclosure controls and procedures are designed to ensure that information required to be disclosed in the Securities and Exchange Commission (SEC) reports we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time period specified by the SEC’s rules and forms and that such information is accumulated and communicated to management, including our CEO and CFO, as appropriate, to allow timely decisions regarding required disclosure. The officers have concluded that our disclosure controls and procedures were effective as of March 31, 2013 and that the unaudited condensed consolidated financial statements included in this Quarterly Report on Form 10-Q fairly present, in all material respects, our financial condition, results of operations and cash flows for the periods presented in conformity with US GAAP.

### Changes in Internal Control over Financial Reporting

There have been no changes in our internal control over financial reporting during the most recently completed fiscal quarter that have materially affected, or are reasonably likely to materially affect, our internal control over financial reporting.

## Risk factors

As filed, 158 characters.

There have been no material changes in our Risk Factors as set forth in Item 1A of our Annual Report on Form 10-K for the fiscal year ended December 31, 2012.

Filed Apr 25, 2013.
Source: SEC EDGAR, the filing index for accession 0000089089-13-000009. Last ingested by Listed: Nov 6, 2026, 13:24 ET. No prices; not investment advice.