# Carriage Services Inc: Form 10-Q for the period ended Sep 30, 2019

- Company: [Carriage Services Inc](/companies/csv.md) (CIK 1016281)
- Form: 10-Q
- Filed: 2019-10-30
- Accepted by EDGAR: Oct 30, 2019, 17:09 ET
- Period: 2019-09-30
- Accession: 0001016281-19-000110
- Inline XBRL: yes
- Main document: https://www.sec.gov/Archives/edgar/data/1016281/000101628119000110/csv-20190930x10q.htm
- All documents and exhibits: https://www.sec.gov/Archives/edgar/data/1016281/000101628119000110/

## Figures reported in this filing

Standardized XBRL line items for the period ended 2019-09-30.

| Line item | Period | Value | XBRL concept |
| --- | --- | ---: | --- |
| Revenue | 3 months, 2019-07-01 to 2019-09-30 | $66.1m | us-gaap:RevenueFromContractWithCustomerExcludingAssessedTax |
| Revenue | 9 months, 2019-01-01 to 2019-09-30 | $203.0m | us-gaap:RevenueFromContractWithCustomerExcludingAssessedTax |
| Cost of revenue | 3 months, 2019-07-01 to 2019-09-30 | $48.1m | us-gaap:CostOfRevenue |
| Cost of revenue | 9 months, 2019-01-01 to 2019-09-30 | $144.1m | us-gaap:CostOfRevenue |
| Gross profit | 3 months, 2019-07-01 to 2019-09-30 | $18.1m | us-gaap:GrossProfit |
| Gross profit | 9 months, 2019-01-01 to 2019-09-30 | $58.9m | us-gaap:GrossProfit |
| Operating income | 3 months, 2019-07-01 to 2019-09-30 | $11.9m | us-gaap:OperatingIncomeLoss |
| Operating income | 9 months, 2019-01-01 to 2019-09-30 | $40.7m | us-gaap:OperatingIncomeLoss |
| Interest expense | 3 months, 2019-07-01 to 2019-09-30 | $6.3m | us-gaap:InterestExpense |
| Interest expense | 9 months, 2019-01-01 to 2019-09-30 | $18.9m | us-gaap:InterestExpense |
| Income tax | 3 months, 2019-07-01 to 2019-09-30 | $930.0k | us-gaap:IncomeTaxExpenseBenefit |
| Income tax | 9 months, 2019-01-01 to 2019-09-30 | $5.6m | us-gaap:IncomeTaxExpenseBenefit |
| Net income | 3 months, 2019-07-01 to 2019-09-30 | $577.0k | us-gaap:ProfitLoss |
| Diluted shares (weighted) | 3 months, 2019-07-01 to 2019-09-30 | 17,768,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Diluted shares (weighted) | 9 months, 2019-01-01 to 2019-09-30 | 17,951,000 shares | us-gaap:WeightedAverageNumberOfDilutedSharesOutstanding |
| Operating cash flow | 9 months, 2019-01-01 to 2019-09-30 | $36.1m | us-gaap:NetCashProvidedByUsedInOperatingActivities |
| Capital expenditure | 9 months, 2019-01-01 to 2019-09-30 | $11.5m | us-gaap:PaymentsToAcquirePropertyPlantAndEquipment |
| Dividends paid | 9 months, 2019-01-01 to 2019-09-30 | $4.1m | us-gaap:PaymentsOfDividendsCommonStock |
| Share repurchases | 9 months, 2019-01-01 to 2019-09-30 | $7.8m | us-gaap:PaymentsForRepurchaseOfCommonStock |
| Cash and equivalents | at 2019-09-30 | $5.8m | us-gaap:CashAndCashEquivalentsAtCarryingValue |
| Current assets | at 2019-09-30 | $32.0m | us-gaap:AssetsCurrent |
| Total assets | at 2019-09-30 | $952.1m | us-gaap:Assets |
| Current liabilities | at 2019-09-30 | $38.9m | us-gaap:LiabilitiesCurrent |
| Total liabilities | at 2019-09-30 | $727.6m | us-gaap:Liabilities |
| Long-term debt | at 2019-09-30 | $23.2m | us-gaap:LongTermDebtNoncurrent |
| Current portion of debt | at 2019-09-30 | $1.7m | us-gaap:LongTermDebtCurrent |
| Shareholders' equity | at 2019-09-30 | $224.5m | us-gaap:StockholdersEquity |

## Management's discussion and analysis

As filed, 63,167 characters.

### OVERVIEW

### General

Carriage Services, Inc. (“Carriage,” the “Company,” “we,” “us,” or “our”) was founded in 1991 to consolidate and operate funeral homes and cemeteries in the fragmented death care industry. We are a leading U.S. provider of funeral and cemetery services and merchandise. We provide funeral and cemetery services and products on both an “atneed” (time of death) and “preneed” (planned prior to death) basis. We operate in two business segments: funeral home operations, which currently account for approximately 80% of our revenue, and cemetery operations, which currently account for approximately 20% of our revenue.

At September 30, 2019, we operated 179 funeral homes in 29 states and 29 cemeteries in 11 states. We compete with other publicly held funeral and cemetery companies and smaller, privately-owned independent operators. We believe we are a market leader in most of our markets.

#### Funeral Home Operations

Our funeral homes offer a complete range of high value personal services to meet a family’s funeral needs, including consultation, the removal and preparation of remains, the sale of caskets and related funeral merchandise, the use of funeral home facilities for visitation and remembrance services and transportation services. Factors affecting our funeral operating results include, but are not limited to: demographic trends relating to 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 to increase average revenue per contract.

#### Cemetery Operations

Our cemeteries provide interment rights (grave sites and mausoleum spaces) and related merchandise, such as markers and outer burial containers both on an atneed and preneed basis. Factors affecting our cemetery operating results include, but are not limited to: the size and success of our sales organization; local perceptions and heritage of our cemeteries; our ability to adapt to changes in the economy and consumer confidence; and our response to fluctuations in capital markets and interest rates, which affect investment earnings on trust funds, finance charges on installment contracts and our securities portfolio within the trust funds.

#### Business Strategy

Our business strategy is based on strong, local leadership with entrepreneurial principles that is focused on sustainable long-term market share, revenue, and profitability growth in each local business. We believe Carriage has the most innovative operating model in the funeral and cemetery industry, which we are able to achieve through a decentralized, high-performance culture, operating framework linked with incentive compensation programs that attract top-quality industry talent to our organization.

Our **Mission Statement** states that “we are committed to being the most professional, ethical and highest quality funeral and cemetery service organization in our industry” and our **Guiding Principles** state our core values, which are comprised of:

- Honesty, Integrity and Quality in All That We Do
- Hard work, Pride of Accomplishment, and Shared Success Through Employee Ownership
- Belief in the Power of People Through Individual Initiative and Teamwork
- Outstanding Service and Profitability Go Hand-in-Hand
- Growth of the Company Is Driven by Decentralization and Partnership

Our five **Guiding Principles** collectively embody our **Being The Best** high-performance culture, operating framework. Our operations and business strategy are built upon the execution of the following three models:

- Standards Operating Model
- 4E Leadership Model
- Strategic Acquisition Model
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### Standards Operating Model

Our Standards Operating Model is focused on growing local market share, service and guest experience and key operating and financial metrics that drive long-term, sustainable revenue growth and improved earning power of our portfolio of businesses by employing leadership and entrepreneurial principles that fit the nature of our high-value personal service business. Standards Achievement is the measure by which we judge the success of each business and incentivize our local managers and their teams. Our Standards Operating Model is not designed to produce maximum short-term earnings because we believe such performance is unsustainable and will ultimately stress the business, which very often leads to declining market share, revenue and earnings.

### 4E Leadership Model

Our 4E Leadership Model requires strong local leadership in each business to grow an entrepreneurial, decentralized, high-value, personal service and sales business at sustainable profit margins. Our 4E Leadership Model is based upon principles established by Jack Welch during his tenure at General Electric, and is based upon 4E qualities essential to succeed in a high-performance culture: *Energy* to get the job done; the ability to *Energize* others; the *Edge* necessary to make difficult decisions; and the ability to *Execute* and produce results. To achieve a high level within our Standards in a business year after year, we require local Managing Partners that have the 4E Leadership skills to entrepreneurially grow the business by hiring, training and developing highly motivated and productive local teams.

### Strategic Acquisition Model

Our Standards Operating Model led to the development of our Strategic Acquisition Model, which guides our acquisition strategy. We believe that both models, when executed effectively, will drive long-term, sustainable increases in market share, revenue, earnings and cash flow. We believe a primary driver of higher revenue and profits in the future will be the execution of our Strategic Acquisition Model using strategic ranking criteria to assess acquisition candidates. As we execute this strategy over time, we expect to acquire larger, higher margin strategic businesses.

Our belief in our **Mission Statement** and **Guiding Principles** that define us and proper execution of the three models that define our strategy have given us the competitive advantage in any market in which we compete. We believe that we can execute our three models without proportionate incremental investment in our consolidation platform infrastructure and without additional fixed regional and corporate overhead. This gives us a competitive advantage that is evidenced by the sustained earning power of our portfolio as defined by our EBITDA margin.

### LIQUIDITY AND CAPITAL RESOURCES

Our primary sources of liquidity and capital resources are internally generated cash flows from operating activities and availability under our senior secured revolving credit facility (the “Credit Facility”).

We generate cash in our operations primarily from atneed sales and delivery of preneed sales. We also generate cash from earnings on our cemetery perpetual care trusts. Based on our recent operating results, current cash position and anticipated future cash flows, we do not anticipate any significant liquidity constraints in the foreseeable future. However, if our capital expenditures or acquisition plans change, we may need to access the capital markets to obtain additional funding. Further, to the extent operating cash flow or access to and cost of financing sources are materially different than expected, future liquidity may be adversely affected. Please read Part I, Item 1A “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2018.

We intend to use cash on hand and future borrowings under our Credit Facility to acquire funeral home and cemetery businesses and for internal growth projects, such as cemetery inventory development and funeral home expansion projects, and for payment of dividends and our debt obligations. From time to time we may also use our cash resources (including borrowings under our Credit Facility) to repurchase shares of our common stock and our remaining 2.75% convertible notes due 2021 in open market or privately negotiated transactions. We have the ability to draw on our Credit Facility, subject to its customary terms and conditions. We believe that our existing and anticipated cash resources will be sufficient to meet our anticipated working capital requirements, capital expenditures, scheduled debt payments, commitments, dividends and acquisitions for the foreseeable future.

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#### Cash Flows

We began 2019 with $0.6 million in cash and ended the third quarter with $5.8 million. As of September 30, 2019, we had borrowings of $18.0 million outstanding on our Credit Facility compared to $27.1 million outstanding as of December 31, 2018.

The following table sets forth the elements of cash flow for the nine months ended September 30, 2018 and 2019 (in thousands):

|  | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Cash at beginning of year | $952 | $644 |
| Cash flow from operating activities | 38,717 | 36,061 |
| Acquisitions and land for new construction | (37,970) | — |
| Proceeds from insurance reimbursements | — | 1,247 |
| Proceeds from the sale of business and other assets | — | 967 |
| Growth capital expenditures | (2,841) | (5,298) |
| Maintenance capital expenditures | (6,196) | (6,181) |
| Cash flow from investing activities | (47,007) | (9,265) |
| Net payments on long-term debt obligations | (220,531) | (10,470) |
| Payment of debt issuance costs related to long-term debt | (1,551) | (113) |
| Redemption of the Convertibles Notes | (75,229) | (27) |
| Payment of transaction costs related to the redemption of the Convertibles Notes | (845) | — |
| Proceeds from the issuance of the Senior Notes | 320,125 | — |
| Payment of debt issuance costs related to the Senior Notes | (1,367) | — |
| Net proceeds from employee equity plans | 286 | 799 |
| Dividends paid on common stock | (4,076) | (4,061) |
| Purchase of treasury stock | — | (7,756) |
| Cash flow from financing activities | 16,812 | (21,628) |
| Cash at end of the period | $9,474 | $5,812 |

#### Operating Activities

For the nine months ended September 30, 2019, cash flow provided by operating activities was $36.1 million compared to cash flow provided by operating activities of $38.7 million for the nine months ended September 30, 2018. The decrease of $2.7 million was due primarily to non-favorable working capital changes during the period.

#### Investing Activities

Our investing activities, resulted in a net cash outflow of $9.3 million for the nine months ended September 30, 2019 compared to $47.0 million for the nine months ended September 30, 2018, a decrease of $37.7 million.

During the nine months ended September 30, 2019, we received proceeds of $1.2 million from our property insurance policy for the reimbursement of renovation costs for our funeral home and cemetery businesses that were damaged by Hurricane Michael.

During the nine months ended September 30, 2019, we sold a funeral home business for $0.9 million and we sold real property for $0.1 million related to the funeral home we merged with another business in an existing market.

During the nine months ended September 30, 2018, we purchased four funeral home businesses for approximately $38.0 million.

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For the nine months ended September 30, 2019, capital expenditures totaled $11.5 million compared to $9.0 million for the nine months ended September 30, 2018, an increase of $2.5 million. The following tables present our growth and maintenance capital expenditures (in thousands):

| Growth | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Cemetery development | $1,622 | $3,109 |
| Renovations at certain businesses(1) | 1,219 | 2,189 |
| Total | $2,841 | 5,298 |

(1) During the nine months ended September 30, 2019, we spent $1.4 million for renovations on four businesses that were affected by Hurricane Michael, of which $1.2 million was reimbursed by our property insurance policy.

| Maintenance | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Facility repairs and improvements | $1,551 | $1,565 |
| Vehicles | 2,013 | 1,641 |
| General equipment and furniture | 1,666 | 2,245 |
| Paving roads and parking lots | 477 | 651 |
| Information technology infrastructure improvements | 489 | 79 |
| Total | $6,196 | $6,181 |

#### Financing Activities

Our financing activities resulted in a net cash outflow of $21.6 million for the nine months ended September 30, 2019 compared to a net cash inflow of $16.8 million for the nine months ended September 30, 2018, a decrease of $38.4 million. During the nine months ended September 30, 2019, we had net payments on our long-term debt obligations of $10.5 million, paid $4.1 million in dividends and repurchased treasury stock for $7.8 million.

During the nine months ended September 30, 2018, we had net borrowings on our Senior Notes of $318.8 million, offset by net payments on our long-term debt obligations of $222.1 million and a payment of $76.1 million to exchange or repurchase our Convertible Notes. We also paid $4.1 million in dividends.

#### Dividends

During the nine months ended September 30, 2018 and 2019, our Board declared the following dividends payable on the dates below (in thousands, except per share amounts):

| 2018 | Per Share | Dollar Value |
| --- | ---: | ---: |
| March 1st | $0.075 | $1,207 |
| June 1st | $0.075 | $1,433 |
| September 1st | $0.075 | $1,436 |
| **2019** | **Per Share** | **Dollar Value** |
| March 1st | $0.075 | $1,360 |
| June 3rd | $0.075 | $1,365 |
| September 1st | $0.075 | $1,336 |

#### Share Repurchase

During the nine months ended September 30, 2019, we repurchased 400,000 shares of common stock for a total cost of $7.8 million at an average cost of $19.39 per share pursuant to our share repurchase program. At September 30, 2019, we had approximately $0.6 million available for repurchases under our share repurchase program.

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#### Long-term Debt and Lease Obligations

The outstanding principal of our long-term debt and lease obligations at September 30, 2019 is as follows (in thousands):

|  | September 30, 2019 |
| --- | ---: |
| Credit Facility | $18,000 |
| Finance leases | 6,211 |
| Operating leases | 23,282 |
| Acquisition debt | 7,813 |
| Total long-term debt and lease obligations | $55,306 |

### Credit Facility

On May 31, 2018, we completed the issuance of $325.0 million in aggregate principal amount of our 6.625% Senior Notes due 2026 (the “Senior Notes”) and related guarantees in a private offering under Rule 144A and Regulation S of the Securities Act.

On May 31, 2018, we used $291.4 million of the net proceeds from the sale of the Senior Notes to repay all amounts outstanding under our former secured credit facility, dated as of August 20, 2012 (as amended, the “Former Credit Agreement”). In connection with the repayment in full of all amounts due thereunder, the Former Credit Agreement was retired.

On May 31, 2018, we entered into a $150.0 million Credit Facility with the financial institutions party thereto, as lenders, and Bank of America, N.A., as administrative agent. Our obligations under the Credit Facility are unconditionally guaranteed on a joint and several basis by the same subsidiaries which guarantee the Senior Notes and certain of our subsequently acquired or organized domestic subsidiaries (collectively, the “Credit Facility Guarantors”). The Credit Facility also contains an accordion provision feature allowing for future increases in the facility size by an additional amount of up to $75.0 million. The Credit Facility matures on May 31, 2023.

We have one letter of credit issued on November 30, 2018 and outstanding under the Credit Facility for $2.0 million, which bears interest at 2.125% and will expire on November 25, 2019. The letter of credit automatically renews annually and secures our obligations under our various self-insured policies. Outstanding borrowings under our Credit Facility bear interest at either a prime rate or a LIBOR rate, plus an applicable margin based upon our leverage ratio. As of September 30, 2019, the prime rate margin was equivalent to 1.00% and the LIBOR margin was 2.00%. The weighted average interest rate on our Credit Facility was 3.9% and 4.0% for the three and nine months ended September 30, 2019, respectively. The weighted average interest rate on our Former Credit Agreement was 4.0% for the six months ended June 30, 2018.

We have no material assets or operations independent of our subsidiaries. All assets and operations are held and conducted by subsidiaries, each of which have fully and unconditionally guaranteed our obligations under the Credit Facility. Additionally, we do not currently have any significant restrictions on our ability to receive dividends or loans from any Credit Facility Guarantors.

We were in compliance with the covenants contained in the Credit Facility as of September 30, 2019, with a leverage ratio of 4.89 to 1.00 and a fixed charge coverage ratio of 2.20 to 1.00.

Amortization of debt issuance costs related to our Credit Facility was $59,000 and $167,000 for the three and nine months ended September 30, 2019, respectively and amortization of debt issuance costs related to our Former Credit Agreement was $41,000 and $172,000 for the three and six months ended June 30, 2018, respectively.

### Lease Obligations

On January 1, 2019, we adopted Topic 842 using the modified retrospective method for all lease arrangements at the beginning of the period of adoption. As a result, we recorded operating lease right-of-use (“ROU”) assets of $16.5 million and operating lease liabilities of $17.3 million related to real estate and equipment leases, based on the present value of the future lease payments on the date of adoption. Lease expense related to our operating leases and short-term leases was $0.9 million and $0.1 million, respectively, for the three months ended September 30, 2019 and $2.8 million and $0.2 million, respectively, for the nine months ended September 30, 2019. Depreciation expense related to our finance leases was $0.1 million and $0.4 million for the three and nine months ended September 30, 2019, respectively. Interest expense related to our finance leases was $0.1 million and $0.4 million for the three and nine months ended September 30, 2019, respectively.

During the nine months ended September 30, 2019, we modified an existing operating lease to extend the term through 2030. As a result of this modification, we increased our lease liabilities and right-of-use assets by $8.2 million.

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### Acquisition Debt

Acquisition debt consisted of deferred purchase price and promissory notes payable to sellers. Imputed interest expense related to our acquisition debt was $191,000 and $152,000 for the three months ended September 30, 2018 and 2019, respectively and $616,000 and $481,000 for the nine months ended September 30, 2018 and 2019, respectively.

#### Convertible Subordinated Notes due 2021

On March 19, 2014, we issued $143.75 million aggregate principal amount of our 2.75% convertible notes due March 15, 2021 (the “Convertible Notes”). The Convertible Notes bear interest at 2.75% per year. Interest on the Convertible Notes began to accrue on March 19, 2014 and is payable semi-annually in arrears on March 15 and September 15 of each year.

On May 7, 2018, we completed privately-negotiated exchanges (the “Exchange”) of $115.0 million in aggregate principal amount of Convertible Notes, which represented 80% of the aggregate principal amount of our Convertible Notes then outstanding, with a limited number of convertible noteholders, for $74.8 million in cash (plus accrued interest of $0.4 million totaling $75.2 million) and 2,822,859 newly issued shares of our common stock, par value $.01 per share, pursuant to a private placement in reliance on Section 4(a)(2) of the Securities Act of 1933, as amended (the “Securities Act”). The cash portion of the exchange consideration was funded from our Former Credit Agreement. Following the settlement of the Exchange, the aggregate principal amount of our Convertible Notes outstanding was reduced to $28.8 million.

On December 24, 2018, we completed privately-negotiated repurchases of an additional $22.4 million in aggregate principal amount of Convertible Notes, which represented 78% of the aggregate principal amount of our Convertible Notes then outstanding for $22.9 million in cash (plus accrued interest of approximately $0.2 million totaling $23.0 million). The consideration for the repurchases was funded from our Credit Facility. Following these repurchases, the aggregate principal amount of our Convertible Notes outstanding was reduced to $6.3 million.

On April 4, 2019, we completed a privately-negotiated repurchase of an additional $25,000 in aggregate principal amount of Convertible Notes then outstanding for $27,163.

At September 30, 2019, the carrying amount of the equity component was $0.8 million, the principal amount of the liability component was $6.3 million and the net carrying amount was $5.9 million. The remaining unamortized debt discount and the remaining unamortized debt issuance costs are being amortized using the effective interest method over the remaining term of the Convertible Notes. The effective interest rate on the unamortized debt discount for both the three and nine months ended September 30, 2018 and 2019 was 11.4%. The effective interest rate on the unamortized debt issuance costs for both the three and nine months ended September 30, 2018 and 2019 was 3.2%.

Interest expense on the Convertible Notes included contractual coupon interest expense of $198,000 and $43,000 for the three months ended September 30, 2018 and 2019, respectively and $1,700,000 and $131,000 for the nine months ended September 30, 2018 and 2019, respectively. Accretion of the discount on the Convertible Notes was $246,000 and $61,000 for the three months ended September 30, 2018 and 2019, respectively and $1,961,000 and $178,000 for the nine months ended September 30, 2018 and 2019, respectively. Amortization of debt issuance costs related to our Convertible Notes was $27,000 and $6,000 for the three months ended September 30, 2018 and 2019, respectively and $221,000 and $19,000 for the nine months ended September 30, 2018 and 2019, respectively.

The Convertible Notes are general unsecured obligations and are subordinated in the right of payment to all of our existing and future senior indebtedness and equal in right of payment with our other existing and future subordinate indebtedness. The initial conversion rate of the Convertible Notes, as of March 19, 2014, was 44.3169 shares of our common stock per $1,000 principal amount of Convertible Notes, equivalent to an initial conversion price of $22.56 per share of common stock. The adjusted conversion rate of the Convertible Notes, in effect at September 30, 2019, is 45.3695 shares of our common stock per $1,000 principal amount of Convertible Notes, equivalent to an adjusted conversion price of $22.04 per share of common stock.

### Senior Notes due 2026

On May 31, 2018, we completed the issuance of $325.0 million in aggregate principal amount of our Senior Notes and related guarantees in a private offering under Rule 144A and Regulation S of the Securities Act.

We received proceeds of $320.1 million, net of a 1.5% debt discount of $4.9 million, of which we used $291.4 million to repay our existing indebtedness under our Former Credit Agreement. We incurred $1.4 million in transaction costs related to the Senior Notes.

The Senior Notes bear interest at 6.625% per year. Interest on the Senior Notes began to accrue on May 31, 2018 and is payable semi-annually in arrears on September 1 and December 1 of each year, beginning on December 1, 2018 to holders of record on each May 15 and November 15 preceding an interest payment date. The Senior Notes mature on September 1, 2026, unless earlier redeemed or purchased, as such redemption or purchase may be allowed pursuant to the indenture governing the

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Senior Notes. The Senior Notes are unsecured, senior obligations and are fully and unconditionally guaranteed on a senior unsecured basis, jointly and severally, by certain of our existing subsidiaries.

The debt discount of $4.9 million and the debt issuance costs of $1.4 million are being amortized using the effective interest method over the remaining term of 80 months of the Senior Notes. The effective interest rate on the unamortized debt discount for both the three and nine months ended September 30, 2018 and 2019 was 6.87%. The effective interest rate on the unamortized debt issuance costs for both the three and nine months ended September 30, 2018 and 2019 was 6.69%.

Interest expense on the Senior Notes included contractual coupon interest expense of $5.4 million for both the three months ended September 30, 2018 and 2019 and $7.2 million and $16.1 million for the nine months ended September 30, 2018 and 2019, respectively. Amortization of the debt discount on the Senior Notes was $116,000 and $124,000 for the three months ended September 30, 2018 and 2019, respectively and $154,000 and $366,000 for the nine months ended September 30, 2018 and 2019, respectively. Amortization of debt issuance costs on the Senior Notes was $33,000 and $35,000 for the three months ended September 30, 2018 and 2019, respectively and $44,000 and $103,000 for the nine months ended September 30, 2018 and 2019, respectively.

### Financial Highlights

Below are our financial highlights for the three months ended September 30, 2018 and 2019 (in thousands except for volumes and averages):

|  | Three Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Revenue | $64,241 | $66,125 |
| Funeral contracts | 8,672 | 9,238 |
| Average revenue per contract, including preneed funeral trust earnings | $5,691 | $5,516 |
| Preneed interment rights (property) sold | 1,697 | 1,901 |
| Average price per interment right sold | $3,521 | $3,622 |
| Gross profit | $17,114 | $18,056 |
| Net income | $2,200 | $577 |

Revenue for the three months ended September 30, 2019 and 2018 was $66.1 million and $64.2 million, respectively, an increase of $1.9 million, or 2.9%. Funeral revenue increased $1.7 million to $51.5 million and cemetery revenue increased $0.2 million to $14.6 million in the three months ended September 30, 2019 compared to the same period in 2018. However, cemetery revenue increased $1.7 million, excluding revenue from the three cemetery businesses divested in the second half of 2018, in the three months ended September 30, 2018. For the quarter comparatives, we experienced a 6.5% increase in total funeral contracts, while the average revenue per funeral contract decreased 3.1%. Excluding the divested cemetery businesses, we experienced an increase of 12.0% in the number of preneed interment rights (property) sold and an increase of 2.9% in the average price per interment right sold. Further discussion of Revenue for our funeral home and cemetery segments is presented herein under “Results of Operations.”

Gross profit for the three months ended September 30, 2019 increased $0.9 million, or 5.5%, to $18.1 million, from $17.1 million for the three months ended September 30, 2018, primarily due to the increase in same store funeral revenue and better management of expenses. This is a result of changes implemented in the fourth quarter in 2018, which included the revision of our funeral and cemetery operating standards with a larger focus to grow revenue and market share, assessing leadership and support teams at each business to ensure an optimal personnel mix, improving social media presence, investment in new product inventory for sale at our cemeteries and reviewing pricing on merchandise and services to maximize operational efficiencies.

Further discussion of the components of Gross profit for our funeral home and cemetery segments is presented herein under “Results of Operations.”

Net income for the three months ended September 30, 2019 decreased $1.6 million to $0.6 million, equal to $0.03 per diluted share, compared to net income of $2.2 million, equal to $0.11 per diluted share, for the three months ended September 30, 2018. Further discussion of General, administrative and other expenses, Home office depreciation and amortization expense, Interest expense, Income taxes and other components of income and expenses are presented herein under “Other Financial Statement Items.”

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Below are our financial highlights for the nine months ended September 30, 2018 and 2019 (in thousands except for volumes and averages):

|  | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Revenue | $201,475 | $202,958 |
| Funeral contracts | 27,437 | 28,485 |
| Average revenue per contract, including preneed funeral trust earnings | $5,671 | $5,571 |
| Preneed interment rights (property) sold | 4,907 | 5,419 |
| Average price per interment right sold | $3,578 | $3,687 |
| Gross profit | $58,127 | $58,907 |
| Net income | $14,303 | $11,964 |

Revenue for the nine months ended September 30, 2019 and 2018 was $203.0 million and $201.5 million, respectively, an increase of $1.5 million, or 0.7%. Funeral revenue increased $3.2 million to $160.2 million and cemetery revenue decreased $1.7 million to $42.8 million in the nine months ended September 30, 2019 compared to the same period in 2018. However, cemetery revenue increased $3.1 million, excluding revenue from the three cemetery businesses divested in the second half of 2018, in the nine months ended September 30, 2018. For the period comparatives, we experienced a 3.8% increase in total funeral contracts, while we experienced a 1.8% decrease in the average revenue per funeral contract. Excluding the divested cemetery businesses, we experienced an increase of 10.4% in the number of preneed interment rights (property) sold and an increase of 3.0% in the average price per interment right sold. Further discussion of Revenue for our funeral home and cemetery segments is presented herein under “Results of Operations.”

Gross profit for the nine months ended September 30, 2019 decreased $0.8 million, or 1.3%, to $58.9 million, from $58.1 million for the nine months ended September 30, 2018, primarily due to the three cemetery businesses that were divested in the second half of 2018. Further discussion of the components of Gross profit for our funeral home and cemetery segments is presented herein under “Results of Operations.”

Net income for the nine months ended September 30, 2019 decreased $2.3 million to $12.0 million, equal to $0.66 per diluted share, compared to net income of $14.3 million, equal to $0.78 per diluted share, for the nine months ended September 30, 2018. Further discussion of General, administrative and other expenses, Home office depreciation and amortization expense, Interest expense, Income taxes and other components of income and expenses are presented herein under “Other Financial Statement Items.”

### REPORTING AND NON-GAAP FINANCIAL MEASURES

We also present our financial performance in our “Operating and Financial Trend Report” (“Trend Report”) as reported in our earnings release for the quarter ended September 30, 2019 dated October 28, 2019 and discussed in the corresponding earnings conference call. This Trend Report is used as a supplemental financial measurement statement by management and investors to compare our current financial performance with our previous results and with the performance of other companies. We do not intend for this information to be considered in isolation or as a substitute for other measures of performance prepared in accordance with United States generally accepted accounting principles (“GAAP”). The Trend Report is a non-GAAP statement that also provides insight into underlying trends in our business. The Trend Report is not a part of or incorporated by reference into this Quarterly Report on Form 10-Q.

- 48 -

Below is a reconciliation of Net income (a GAAP measure) to Adjusted net income (a non-GAAP measure) for the three and nine months ended September 30, 2018 and 2019 (in thousands):

|  | Three Months Ended September 30, 2018 | 2019 | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: | ---: | ---: |
| Net income | $2,200 | $577 | $14,303 | $11,964 |
| Special items (1), net of tax except for items noted by \*\* |  |  |  |  |
| Severance and retirement costs | — | 235 | — | 889 |
| Accretion of discount on convertible subordinated notes\*\* | 246 | 61 | 1,961 | 178 |
| Net loss on early extinguishment of debt | — | — | 740 | — |
| Loss on sale of businesses and other costs | 277 | 3,143 | 277 | 3,143 |
| Goodwill and other impairments | — | 577 | — | 577 |
| Litigation reserve | — | 74 | — | 454 |
| Tax expense related to divested business\*\* | — | 860 | — | 860 |
| Gain on insurance reimbursements | — | (504) | — | (504) |
| Adjusted net income(2) | $2,723 | $5,023 | $17,281 | $17,561 |

(1) Special items are defined as charges or credits included in our GAAP financial statements that can vary from period to period and are not reflective of costs incurred in the ordinary course of our operations. Special items are typically taxed at the federal statutory rate, except for the Accretion of the discount on convertible subordinated notes, as this is a non-tax deductible item and Tax expense related to divested business.

(2) Adjusted net income is defined as Net income plus adjustments for Special items and other expenses or gains that we believe do not directly reflect our core operations and may not be indicative of our normal business operations.

Below is a reconciliation of Gross profit (a GAAP measure) to Operating profit (a non-GAAP measure) for the three and nine months ended September 30, 2018 and 2019 (in thousands):

|  | Three Months Ended September 30, 2018 | 2019 | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: | ---: | ---: |
| Gross profit | $17,114 | $18,056 | $58,127 | $58,907 |
| Cemetery property amortization | 964 | 972 | 2,763 | 2,990 |
| Field depreciation expense | 3,047 | 3,106 | 8,925 | 9,250 |
| Regional and unallocated funeral and cemetery costs | 2,114 | 3,597 | 8,662 | 10,008 |
| Operating profit | $23,239 | $25,731 | $78,477 | $81,155 |

Our operations are reported in two business segments: Funeral Home and Cemetery. Below is a breakdown of Operating profit (a non-GAAP measure) by segment for the three and nine months ended September 30, 2018 and 2019 (in thousands):

|  | Three Months Ended September 30, 2018 | 2019 | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: | ---: | ---: |
| Funeral Home | $18,109 | $19,647 | $61,154 | $63,234 |
| Cemetery | 5,130 | 6,084 | 17,323 | 17,921 |
| Operating profit | $23,239 | $25,731 | $78,477 | $81,155 |
| Operating profit margin(1) | 36.2% | 38.9% | 39.0% | 40.0% |

(1) Operating profit margin is defined as Operating profit as a percentage of Revenue.

Further discussion of Operating profit for our funeral home and cemetery segments is presented herein under “Results of Operations.”

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### RESULTS OF OPERATIONS

The following is a discussion of our results of operations for the three and nine months ended September 30, 2019 compared to the same period of 2018. The term “same store” refers to funeral homes and cemeteries acquired prior to January 1, 2015 and operated for the entirety of each period being presented. Funeral homes and cemeteries purchased after December 31, 2014 are referred to as “acquired.” This classification of acquisitions has been important to management and investors in monitoring the results of these businesses and to gauge the leveraging performance contribution that a selective acquisition program can have on total company performance.

The term “divested” when discussed in the Funeral Home Segment, refers to businesses sold or businesses we ceased to operate in the periods presented. The term “divested” when discussed in the Cemetery Segment, refers to three cemetery businesses that we ceased to operate on September 30, 2018, as a result of an expired management agreement. Cemetery property amortization, Field depreciation expense and Regional and unallocated funeral and cemetery costs, are not included in Operating profit, a non-GAAP financial measure. Adding back these items will result in Gross profit, a GAAP financial measure.

### Funeral Home Segment

The following tables set forth certain information related to our Revenue and Operating profit from our funeral home operations for the three months ended September 30, 2019 compared to the three months ended September 30, 2018 (in thousands):

| Revenue: | Three Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Same store operating revenue | $40,189 | $41,470 |
| Acquired operating revenue | 7,400 | 7,750 |
| Divested revenue | 177 | 109 |
| Preneed funeral insurance commissions | 360 | 436 |
| Preneed funeral trust earnings | 1,717 | 1,752 |
| Total | $49,843 | $51,517 |
| Operating profit: |  |  |
| Same store operating profit | $13,788 | $14,994 |
| Acquired operating profit | 2,522 | 2,737 |
| Divested operating profit (loss) | 23 | (6) |
| Preneed funeral insurance commissions | 93 | 213 |
| Preneed funeral trust earnings | 1,683 | 1,709 |
| Total | $18,109 | $19,647 |

The following measures reflect the significant metrics over this comparative period:

| Same store: | Three Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Contract volume | 7,420 | 7,910 |
| Average revenue per contract, excluding preneed funeral trust earnings | $5,416 | $5,243 |
| Average revenue per contract, including preneed funeral trust earnings | $5,619 | $5,436 |
| Burial rate | 39.8% | 37.7% |
| Cremation rate | 52.1% | 54.8% |
| Acquired: |  |  |
| Contract volume | 1,224 | 1,309 |
| Average revenue per contract, excluding preneed funeral trust earnings | $6,046 | $5,921 |
| Average revenue per contract, including preneed funeral trust earnings | $6,113 | $5,997 |
| Burial rate | 42.4% | 41.6% |
| Cremation rate | 49.8% | 50.6% |

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Funeral home same store operating revenue for the three months ended September 30, 2019 increased $1.3 million. In the fourth quarter of 2018, we revised our funeral home standards operating model by eliminating the average revenue per contract standard to emphasize our focus on growing operating revenue and serving more families. As a result, we experienced a 6.6% increase in same store contract volumes, while we experienced a decrease of 3.2% in the average revenue per contract compared to the three months ended September 30, 2018.

Same store operating profit for the three months ended September 30, 2019 increased $1.2 million when compared to the three months ended September 30, 2018 and the comparable operating profit margin increased 190 basis points to 36.2%. The increase is primarily due to the increase in same store revenue and better management of expenses as operating expenses remained flat for the comparable period. We experienced significant savings in salaries and benefits which decreased 1.6% as a percentage of revenue, as a result of changes implemented in the fourth quarter in 2018, which included assessing leadership and support teams at each business to ensure an optimal personnel mix, improving social media presence and reviewing pricing on merchandise and services to maximize operational efficiencies.

Funeral home acquired operating revenue for the three months ended September 30, 2019 increased $0.4 million, as our funeral home acquired portfolio for the three months ended September 30, 2019 included four businesses acquired in the third quarter of 2018 not present for the full three months ended September 30, 2018.

Acquired operating profit for the three months ended September 30, 2019 increased $0.2 million when compared to the three months ended September 30, 2018. Operating profit margin increased 120 basis points to 35.3% for the three months ended September 30, 2019 compared to the same period in 2018. The increase is primarily due to the increase in acquired revenue and better management of expenses as operating expenses increased $0.2 million for the comparable period. We experienced significant savings in salaries and benefits which decreased 2.4% as a percentage of revenue, as a result of changes implemented in the fourth quarter in 2018 described above.

Preneed funeral insurance commissions and preneed funeral trust earnings, which are recorded in *Other revenue*, on a combined basis, increased $0.1 million or 5.3% for the three months ended September 30, 2019 compared to the same period in 2018. The increase is primarily due to a 21.1% increase in preneed funeral insurance commissions and a 2.0% increase in preneed trust earnings. Preneed funeral commission revenue is deferred for one year after the preneed funeral contracts are sold. The number of preneed insurance contracts sold increased 22.9% and face value of the products that earn commissions increased 52.7% for the three months ending September 2018 compared to the same period in 2017.

Operating profit for the two categories of *Other revenue*, on a combined basis, increased 8.2% for the three months ending September 30, 2019 compared to the same period in 2018 primarily due to the increase in preneed funeral commission revenue coupled with a decrease in preneed expenses.

The following tables set forth certain information related to our Revenue and Operating profit from our funeral home operations for the nine months ended September 30, 2019 compared to the nine months ended September 30, 2018 (in thousands):

| Revenue: | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Same store operating revenue | $129,574 | $128,757 |
| Acquired operating revenue | 20,228 | 24,372 |
| Divested revenue | 569 | 471 |
| Preneed funeral insurance commissions | 974 | 1,124 |
| Preneed funeral trust earnings | 5,624 | 5,463 |
| Total | $156,969 | $160,187 |
| Operating profit: |  |  |
| Same store operating profit | $48,261 | $48,233 |
| Acquired operating profit | 6,968 | 9,073 |
| Divested operating profit | 128 | 113 |
| Preneed funeral insurance commissions | 285 | 478 |
| Preneed funeral trust earnings | 5,512 | 5,337 |
| Total | $61,154 | $63,234 |

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The following measures reflect the significant metrics over this comparative period:

| Same store: | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Contract volume | 24,067 | 24,327 |
| Average revenue per contract, excluding preneed funeral trust earnings | $5,384 | $5,293 |
| Average revenue per contract, including preneed funeral trust earnings | $5,591 | $5,485 |
| Burial rate | 39.8% | 38.5% |
| Cremation rate | 52.6% | 53.9% |
| Acquired: |  |  |
| Contract volume | 3,284 | 4,073 |
| Average revenue per contract, excluding preneed funeral trust earnings | $6,160 | $5,984 |
| Average revenue per contract, including preneed funeral trust earnings | $6,234 | $6,082 |
| Burial rate | 42.8% | 42.4% |
| Cremation rate | 49.6% | 49.8% |

Funeral home same store operating revenue for the nine months ended September 30, 2019 decreased $0.8 million. In spite of the high contract volume we had in the first quarter of 2018 due to a severe flu season, we experienced a 1.1% increase in contract volume in the nine months ended September 30, 2019 compared to the same period in 2018, primarily due to the revision of our funeral home standards operating model by eliminating the average revenue per contract standard to emphasize our focus on growing operating revenue and serving more families.

Same store operating profit for the nine months ended September 30, 2019 was relatively flat when compared to the nine months ended September 30, 2018 and the comparable operating profit margin increased 30 basis points to 37.5%. Operating expenses decreased $0.8 million primarily due to a decrease in salaries and benefits of $1.0 million or 0.6% as a percentage of revenue. This is a result of changes implemented in the fourth quarter in 2018, which included assessing leadership and support teams at each business to ensure an optimal personnel mix, improving social media presence and reviewing pricing on merchandise and services to maximize operational efficiencies.

Funeral home acquired operating revenue for the nine months ended September 30, 2019 increased $4.1 million, as our funeral home acquired portfolio for the nine months ended September 30, 2019 included four businesses acquired in the third quarter of 2018 not fully present in the nine months ended September 30, 2018. Although we experienced an increase in acquired contract volumes, we experienced decreases in acquired average revenue per burial and cremation contracts due to increased discounts.

Acquired operating profit for the nine months ended September 30, 2019 increased $2.1 million when compared to the nine months ended September 30, 2018 and the comparable operating profit margin increased 280 basis points to 37.2%. The increase is primarily due to the increase in acquired revenue and better management of expenses as operating expenses increased $2.0 million for the comparable period. We experienced significant savings in salaries and benefits which decreased 3.8% as a percentage of revenue, as a result of changes implemented in the fourth quarter in 2018 described above.

Preneed funeral insurance commissions and preneed funeral trust earnings, which are recorded in *Other revenue*, on a combined basis, remained flat for the nine months ended September 30, 2019 compared to the same period in 2018. While we experienced a 15.4% increase in preneed funeral insurance commissions, we also experienced a decrease in preneed trust earnings of 2.9%. Preneed funeral commission revenue is deferred for one year after the preneed funeral contracts are sold. The number of preneed insurance contracts sold increased 14.3% and face value of the products that earn commissions increased 17.6% for the nine months ending September 2018 compared to the same period in 2017. Preneed funeral trust earnings decreased due to a reduction in preneed maturities at a certain business.

Operating profit for the two categories of *Other revenue*, on a combined basis, also remained flat for the same comparative period primarily due to the increase in preneed funeral commission revenue, offset by the decrease in preneed trust earnings.

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### Cemetery Segment

The following tables set forth certain information related to our Revenue and Operating profit from our cemetery operations for the three months ended September 30, 2019 compared to the three months ended September 30, 2018 (in thousands):

| Revenue: | Three Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Same store operating revenue | $11,091 | $12,817 |
| Divested revenue | 1,479 | — |
| Cemetery trust earnings | 1,392 | 1,446 |
| Preneed cemetery finance charges | 436 | 345 |
| Total | $14,398 | $14,608 |
| Operating profit: |  |  |
| Same store operating profit | $3,007 | $4,439 |
| Divested operating profit | 407 | — |
| Cemetery trust earnings | 1,280 | 1,300 |
| Preneed cemetery finance charges | 436 | 345 |
| Total | $5,130 | $6,084 |

The following measures reflect the significant metrics over this comparative period (dollars in thousands):

| Same store: | Three Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Preneed revenue as a percentage of operating revenue | 60% | 62% |
| Preneed revenue | $6,623 | $7,889 |
| Number of preneed interment rights sold | 1,697 | 1,901 |
| Atneed revenue | $4,468 | $4,928 |

Cemetery same store operating revenue for the three months ended September 30, 2019 increased $1.7 million, or 15.6%, as we experienced a 12.0% increase in the number of preneed interment rights sold, as well as a 2.9% increase in the average price of interments sold for the three months ended September 30, 2019 compared to the same period in 2018. Same store atneed revenue, which represents approximately 38% of our same store operating revenue increased $0.5 million, as we experienced a 9.4% increase in the average sale per contract.

Cemetery same store operating profit for the three months ended September 30, 2019 increased $1.4 million from the same period in 2018. The comparable operating profit margin increased 750 basis points to 34.6% for the three months ended September 30, 2019 from 27.1% in the same period in 2018. The higher operating profit margin is a result of the changes implemented in the fourth quarter of 2018, which included the revision of our cemetery operating standards with a larger focus to grow revenue and market share, the hiring of talented sales managers for our larger cemetery businesses along with investment in new product inventory for sale.

Total cemetery expenses only increased 4.0% compared to the 15.6% increase in operating revenue for the three months ended September 30, 2019 compared to the same period in 2018, as we experienced operational efficiencies and better management of cemetery expenses, particularly, in salaries and benefits for maintenance personnel, facilities and grounds expenses and promotional expenses, which include marketing costs and commissions paid to sales teams as these expenses did not grow proportionally to the increase in revenue.

Preneed cemetery trust earnings and preneed cemetery finance charges, which are recorded in *Other revenue,* remained flat for the three months ended September 30, 2019 compared to the same period in 2018. Operating profit for the two categories of *Other revenue*, on a combined basis, also remained flat for the same comparative period.

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The following tables set forth certain information related to our Revenue and Operating profit from our cemetery operations for the nine months ended September 30, 2019 compared to the nine months ended September 30, 2018 (in thousands):

| Revenue: | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Same store operating revenue | $34,228 | $37,333 |
| Divested revenue | 4,712 | — |
| Cemetery trust earnings | 4,327 | 4,320 |
| Preneed cemetery finance charges | 1,239 | 1,118 |
| Total | $44,506 | $42,771 |
| Operating profit: |  |  |
| Same store operating profit | $10,753 | $12,909 |
| Divested operating profit | 1,376 | — |
| Cemetery trust earnings | 3,955 | 3,894 |
| Preneed cemetery finance charges | 1,239 | 1,118 |
| Total | $17,323 | $17,921 |

The following measures reflect the significant metrics over this comparative period (dollars in thousands):

| Same store: | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: |
| Preneed revenue as a percentage of operating revenue | 59% | 62% |
| Preneed revenue | $20,067 | $23,003 |
| Number of preneed interment rights sold | 4,907 | 5,419 |
| Atneed revenue | $14,161 | $14,330 |

Cemetery same store operating revenue for the nine months ended September 30, 2019 increased $3.1 million, or 9.1%, as we experienced a 10.4% increase in the number of preneed interment rights sold, as well as a 3.0% increase in the average price of interments sold for the nine months ended September 30, 2019 compared to the same period in 2018. Same store atneed revenue, which represents approximately 38% of our same store operating revenue increased $0.2 million, as we experienced a 2.7% increase in the average sale per contract, partially offset by a 1.5% decrease in the number of atneed contracts sold.

Cemetery same store operating profit for the nine months ended September 30, 2019 increased $2.2 million from the same period in 2018. The comparable operating profit margin increased 320 basis points to 34.6% for the nine months ended September 30, 2019 from 31.4% in the same period in 2018. The higher operating profit margin is a result of the changes implemented in the fourth quarter of 2018, which included the revision of our cemetery operating standards with a larger focus to grow revenue and market share, the hiring of talented sales managers for our larger cemetery businesses along with investment in new product inventory for sale.

Total cemetery expenses only increased 4.0% compared to the 9.1% increase in operating revenue for the nine months ended September 30, 2019 compared to the same period in 2018, as we experienced operational efficiencies and better management of cemetery expenses, particularly, in salaries and benefits for maintenance personnel, facilities and grounds expenses and bad debt expense as these expenses did not grow proportionally to the increase in revenue.

Preneed cemetery trust earnings and preneed cemetery finance charges, which are recorded in *Other revenue,* on a combined basis, decreased $0.1 million for the nine months ended September 30, 2019 compared to the same period in 2018. The decrease is due to our enhanced preneed cemetery property sales strategy of reducing interest rates on preneed contracts which has led to the increase in our cemetery same store operating revenue in 2019. Operating profit for the two categories of *Other revenue*, on a combined basis, decreased $0.2 million for the same comparative period. The decrease is due to the decrease in preneed cemetery finance charges in addition to higher third-party fees related to preneed trust investment management.

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*Cemetery property amortization*. Cemetery property amortization remained flat at $1.0 million for the three months ended September 30, 2019 compared to the three months ended September 30, 2018, although property revenue increased $0.6 million during this period. This was primarily due to an increase of $0.5 million in second interment rights sold during the period for which there was no additional cost associated with these rights. Cemetery property amortization totaled $3.0 million for the nine months ended September 30, 2019, an increase of $0.2 million compared to the nine months ended September 30, 2018. The increase in the nine months ended September 30, 2019, was primarily attributable to the increases in interment rights sold in 2019 compared to 2018.

*Field depreciation.* Depreciation expense for our field businesses remained flat at $3.1 million for the three months ended September 30, 2019 compared to the three months ended September 30, 2018. However, depreciation expense for our field businesses increased $0.3 million to $9.3 million for the nine months ended September 30, 2019 compared to the nine months ended September 30, 2018. The increase in the nine months ended September 30, 2019, with no increase in the three month period was primarily attributable to assets becoming fully depreciated in the first quarter of 2019.

*Regional and unallocated funeral and cemetery costs.* Regional and unallocated funeral and cemetery costs consist of salaries and benefits for regional management, field incentive compensation and other related costs for field infrastructure. Regional and unallocated funeral and cemetery costs totaled $3.6 million for the three months ended September 30, 2019, an increase of $1.5 million primarily due to a $1.0 million increase in incentive compensation expenses, a $0.3 million increase in severance expense from the separation of certain operational leadership, and a $0.2 million increase in other general administrative costs.

Regional and unallocated funeral and cemetery costs totaled $10.0 million for the nine months ended September 30, 2019, an increase of $1.3 million primarily due to a $1.0 million increase in severance expense from the separation of certain operational leadership and a $0.5 million increase in incentive compensation expenses, offset by a $0.2 million decrease in other general administrative costs.

### Other Financial Statement Items

*General, administrative and other.* General, administrative and other expenses totaled $5.8 million for the three months ended September 30, 2019, a decrease of $0.6 million compared to the three months ended September 30, 2018. The decrease was primarily attributable to a $0.2 million decrease in incentive and stock-based compensation expenses, a $0.3 million decrease in salaries and benefits, a $0.1 million decrease in other general administrative costs.

General, administrative and other expenses totaled $17.1 million for the nine months ended September 30, 2019, a decrease of $2.3 million compared to the nine months ended September 30, 2018. The decrease was primarily attributable to a $1.3 million decrease in stock-based compensation expenses and a $1.0 million decrease in salaries and benefits. These decreases are primarily related to both the separation of executive operating leadership and the cancellation of our performance awards in late 2018.

*Home office depreciation and amortization.* Home office depreciation and amortization expense totaled $0.4 million for the three months ended September 30, 2019, a decrease of $0.1 million compared to the three months ended September 30, 2018 and $1.1 million for the nine months ended September 30, 2019, a decrease of $0.3 million compared to the nine months ended September 30, 2018. The decreases were primarily attributable to corporate machinery and equipment becoming fully depreciated in the first quarter of 2019.

*Interest expense*. Interest expense remained flat at $6.3 million for the three months ended September 30, 2019 compared to the three months ended September 30, 2018.

Interest expense was $18.9 million for the nine months ended September 30, 2019 compared to $14.8 million for the nine months ended September 30, 2018, an increase of $4.1 million, which was attributable to the following: (i) an increase of $9.2 million related to our Senior Notes that were issued in May 2018; offset by (ii) a decrease of $3.1 million related to our Former Credit Agreement; (ii) a decrease of $1.8 million related to the exchange of our Convertible Notes; and (iii) a decrease of $0.2 million related to other miscellaneous interest expense.

*Accretion of discount on convertible notes*. Accretion of the discount on our Convertible Notes totaled $0.1 million for the three months ended September 30, 2019, a decrease of $0.1 million compared to the three months ended September 30, 2018 and $0.2 million for the nine months ended September 30, 2019, a decrease of $1.8 million compared to the nine months ended September 30, 2018. The decreases were attributable to the exchange of our Convertible Notes.

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*Other, net.* The components of Other, net for the three and nine months ended September 30, 2018 and 2019 are as follows (in thousands):

|  | Three Months Ended September 30, 2018 | 2019 | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: | ---: | ---: |
| Loss on sale of business | (349) | (3,863) | (349) | (3,874) |
| Goodwill impairment | — | (509) | — | (509) |
| Tradename impairment | — | (221) | — | (221) |
| Gain on insurance reimbursements | — | 638 | — | 638 |
| Other (loss) gain | 2 | (121) | 4 | 52 |
| Total | $(347) | $(4,076) | $(345) | $(3,914) |

*Income taxes.* Income tax expense was $0.9 million for the three months ended September 30, 2019, a decrease of $0.3 million compared to the three months ended September 30, 2018. Income tax expense was $5.8 million for the nine months ended September 30, 2019, an increase of $0.7 million compared to the nine months ended September 30, 2018.

Below is a breakdown of our income tax expense and effective rate for the three and nine months ended September 30, 2018 and 2019 (in thousands except percentages):

|  | Three Months Ended September 30, 2018 | 2019 | Nine Months Ended September 30, 2018 | 2019 |
| --- | ---: | ---: | ---: | ---: |
| Income tax expense on operations at estimated rate | $1,028 | $70 | $5,423 | $4,691 |
| Impact of discrete items | 159 | 17 | (358) | 219 |
| Impact of divested business | — | 860 | — | 860 |
| Total tax provision | $1,187 | $947 | $5,065 | $5,770 |
| Tax rate on operations (including discrete items) | 35.0% | 5.7% | 26.2% | 27.7% |
| Impact of divested business | —% | 56.4% | —% | 4.8% |
| Total effective tax rate | 35.0% | 62.1% | 26.2% | 32.5% |

We recorded income taxes before discrete items at an estimated rate of 30.3% and 4.6% for the three months ended September 30, 2018 and 2019, respectively and 28.0% and 26.5% for the nine months ended September 30, 2018 and 2019, respectively. The increase in our total effective tax rate is primarily due to the additional tax expense we recorded related to a divested business previously acquired as a stock acquisition during three and nine months ended September 30, 2019.

We have $33.0 million of state net operating loss carry forwards that will expire between 2020 and 2040, if not utilized. Based on management’s assessment of the various state net operating losses, it has been determined that it is more likely than not that we will not be able to realize the tax benefits of certain portions of the state losses. Accordingly, a valuation allowance has been established and is reviewed quarterly. At September 30, 2019, the valuation allowance totaled $0.2 million.

### OVERVIEW OF CRITICAL ACCOUNTING POLICIES AND ESTIMATES

The preparation of the Consolidated Financial Statements requires us to make estimates and judgments that affect the amounts reported in the unaudited consolidated financial statements and accompanying notes. We base our estimates on historical experience, third-party data and assumptions that we believe to be reasonable under the circumstances. The results of these considerations form the basis for making judgments about the amount and timing of revenue and expenses, the carrying value of assets and the recorded amounts of liabilities. Actual results may differ from these estimates and such estimates may change if the underlying conditions or assumptions change. Historical performance should not be viewed as indicative of future performance because there can be no assurance that our margins, operating income and net income, as a percentage of revenue, will be consistent from year to year.

Management’s discussion and analysis of financial condition and results of operations (“MD&A”) is based upon our Consolidated Financial Statements presented herewith, which have been prepared in accordance with GAAP. Our critical accounting policies are discussed in MD&A in our Annual Report on Form 10-K for the year ended December 31, 2018.

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### SEASONALITY

Our business can be affected by seasonal fluctuations in the death rate. Generally, the death rate is higher during the winter months because the incidences of death from influenza and pneumonia are higher during this period than other periods of the year.

## Market risk

As filed, 4,878 characters.

In the ordinary course of business, we are typically exposed to a variety of market risks. Currently, these are primarily related to interest rate risk and changes in the values of securities associated with the preneed and perpetual care trusts. Management is actively involved in monitoring exposure to market risk and developing and utilizing appropriate risk management techniques when appropriate and when available for a reasonable price. We are not exposed to any other significant market risks.

The following quantitative and qualitative information is provided about financial instruments to which we are a party at September 30, 2019 and from which we may incur future gains or losses from changes in market conditions. We do not enter into derivative or other financial instruments for speculative or trading purposes.

Hypothetical changes in interest rates and the values of securities associated with the preneed and perpetual care trusts chosen for the following estimated sensitivity analysis are considered to be reasonable near-term changes generally based on consideration of past fluctuations for each risk category. However, since it is not possible to accurately predict future changes in interest rates, these hypothetical changes may not necessarily be an indicator of probable future fluctuations.

The following information about our market-sensitive financial instruments constitutes a “forward-looking statement.”

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 of such investments as of September 30, 2019 are presented in Item 1, “Condensed Notes to Consolidated Financial Statements,” Notes 6, 7 and 9 to our Consolidated Financial Statements in this Quarterly Report on Form 10-Q. The sensitivity of the fixed income securities is such that a 0.25% change in interest rates could change the value of the fixed income securities by 1.67%.

We monitor current and forecasted interest rate risk in the ordinary course of business and seek to maintain optimal financial flexibility, quality and solvency. As of September 30, 2019, we had outstanding borrowings under the Credit Facility of $18.0 million. Any future borrowings or voluntary prepayments against the Credit Facility or any change in the floating rate would cause a change in interest expense. We have the option to pay interest under the Credit Facility at either prime rate or LIBOR rate plus a margin. At September 30, 2019, the prime rate margin was equivalent to 1.00% and the LIBOR margin was 2.00%. Assuming the outstanding balance remains unchanged, a change of 100 basis points in our borrowing rate would result in a change in income before taxes of $0.2 million. We have not entered into interest rate hedging arrangements in the past. Management continually evaluates the cost and potential benefits of interest rate hedging arrangements.

Our Convertible Notes bear interest at a fixed rate of 2.75% per year. The Convertible Notes do not contain a call feature. At September 30, 2019, the cost of the Convertible Notes on our Consolidated Balance Sheet was $5.9 million and the fair value of these notes was $7.1 million based on the last traded or broker quoted price, as reported by the Financial Industry Regulatory Authority, Inc. (“FINRA”). Increases in market interest rates may cause the value of the Convertible Notes to decrease, but such changes will not affect our interest costs.

Our Senior Notes bear interest at a fixed rate of 6.625% per year. We may redeem all or part of the Senior Notes at any time prior to June 1, 2021 at a redemption price equal to 100% of the principal amount of Senior Notes redeemed, plus a “make whole” premium, and accrued and unpaid interest, if any, to the date of redemption. We have the right to redeem the Senior Notes at any time on or after June 1, 2021 at the redemption prices described in the Indenture, plus accrued and unpaid interest, if any, to the date of redemption. At September 30, 2019, the cost of the Senior Notes on our Consolidated Balance Sheet was $319.6 million and the fair value of these notes was $334.0 million based on the last traded or broker quoted price, as reported by FINRA. Increases in market interest rates may cause the value of the Senior Notes to decrease, but such changes will not affect our interest costs.

The remainder of our long-term debt and leases consists of non-interest bearing notes and fixed rate instruments that do not trade in a market and do not have a quoted market value. Any increase in market interest rates could cause the fair value of those liabilities to decrease, but such changes will not affect our interest costs.

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## Controls and procedures

As filed, 1,832 characters.

### Management’s Evaluation of Disclosure Controls and Procedures

Our management, including our principal executive and principal financial officers, have evaluated the effectiveness of the design and operation of our disclosure controls and procedures (as defined in Rules 13a-15(e) and 15d-15(e) of the Securities Exchange Act of 1934, as amended (the “Exchange Act”) as of the end of the period covered by this Quarterly Report on Form 10-Q. Our disclosure controls and procedures are designed to ensure that the information required to be disclosed by us in reports that we file or submit under the Exchange Act is recorded, processed, summarized and reported within the time periods specified in the Securities and Exchange Commission rules and forms, and to ensure that such information is accumulated and communicated to management, including our principal executive and principal financial officers, as appropriate, to allow timely decisions regarding required disclosure. Based on such evaluation, our principal executive and principal financial officers concluded that our disclosure controls and procedures are effective as of September 30, 2019 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 was no change in our system of internal control over financial reporting (defined in Rules 13a-15(f) or 15d-15(f) under the Exchange Act) during the fiscal quarter covered by this Quarterly Report on Form 10-Q that has materially affected, or is reasonably likely to materially affect, our internal control over financial reporting.

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## Risk factors

As filed, 747 characters.

There have been no material changes in our risk factors as previously disclosed in Part I, Item 1A “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2018. Readers should carefully consider the factors discussed in Part I, Item 1A “Risk Factors” in our Annual Report on Form 10-K for the year ended December 31, 2018, which could materially affect our business, financial condition or future results. The risks described in our Annual Report on Form 10-K for the year ended December 31, 2018 are not the only risks we face. Additional risks and uncertainties not currently known to us or that we currently deem to be immaterial also may materially adversely affect our business, financial condition or future results.

Filed Oct 30, 2019.
Source: SEC EDGAR, the filing index for accession 0001016281-19-000110. Last ingested by Listed: Nov 5, 2026, 19:16 ET. No prices; not investment advice.