Stewart Enterprises Management Discusses Q3 2012 Results - Earnings Call Transcript

Sep. 6.12 | About: Stewart Enterprises, (STEI)

Stewart Enterprises (NASDAQ:STEI)

Q3 2012 Earnings Call

September 06, 2012 11:00 am ET

Executives

Martin R. de Laurèal - Senior Vice President of Corporate Development & Investor Relations

Thomas M. Kitchen - Chief Executive Officer, President, Director and Member of Investment Committee

Lewis J. Derbes - Chief Financial Officer, Senior Vice President and Treasurer

Analysts

Albert J. Rice - UBS Investment Bank, Research Division

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

James Clement - Sidoti & Company, LLC

Dick Innes - JC Clark Ltd.

Clint D. Fendley - Davenport & Company, LLC, Research Division

Nicholas Jansen - Raymond James & Associates, Inc., Research Division

Operator

Good day, everyone, and welcome to the Stewart Enterprises Third Quarter 2012 Earnings Conference Call. As a reminder, today's call is being recorded. [Operator Instructions] On the call today is Tom Kitchen, President and Chief Executive Officer; Lew Derbes, Chief Financial Officer; and Martin de Laurèal, Senior Vice President, Corporate Development and Investor Relations. I would now like to turn the conference over to Martin de Laurèal. Please go ahead.

Martin R. de Laurèal

Thank you, operator. Good morning. On behalf of Stewart Enterprises, I would like to welcome everyone. By now, you should have already received a copy of our press release. If not, please visit Stewart's website at www.stei.com. On today's call, management will provide an overview of the third quarter for 2012 and then we'll open up the call for your questions.

The information contained in the call is current only at the time of this call. Statements made by the company that are not historical facts are forward-looking statements. The company assumes no obligation to update any statements, including forward-looking statements made during this call. Examples of forward-looking statements include: projections of revenue or earnings, growth rates, free cash flow, debt levels, tax benefits or other financial items; statements regarding plans and objectives of the company or its management; statements regarding industry trends, competitive trends and their effect on future performance; and assumptions underlying forward-looking statements regarding the company and its business.

The company's actual results could differ materially from any forward-looking statements due to several important factors, which are described in the company's Form 10-K for the year ended October 31, 2011.

The company uses adjusted earnings, adjusted EPS, adjusted EBITDA, net debt and free cash flow as financial measures. These financial measures are not in accordance with accounting principles generally accepted in the United States of America, or GAAP, and are intended to supplement rather than replace or supersede any information presented in accordance with GAAP. Reconciliation to the most directly comparable GAAP financial measures can be found on the company's website at www.stei.com under Investor Information. The reconciliation of non-GAAP financial measures can also be found in the company's press release dated September 5, 2012.

With that said, I'd like to introduce the management of Stewart Enterprises. On the line, we have Tom Kitchen, our President and Chief Executive Officer; and Lew Derbes, our Chief Financial Officer. At this time, I'd like to turn the call over to Tom. Please go ahead.

Thomas M. Kitchen

Thank you, Martin. Good morning, and thank all of you for joining us on the call today. As usual, I'll offer a few opening comments and then I'll turn the call over to Lew, who'll review the third quarter financial performance in more detail before we open up for some Q&A.

Overall, we believe the results of the third quarter of 2012 are impressive, which include a 4% increase in revenue, 24% increase in gross profit and a 340 basis point expansion in gross profit margin. In addition, for continuing operations during the third quarter 2012, we reported a 38% increase in adjusted earnings per share to $0.11 compared to $0.08 for the same period of last year. These results just don't happen by accident, but rather through the focused efforts of the company's dedicated employees and management team that provides the right leadership and direction in accomplishing the company's goals and objectives.

Many factors contributed to the success in our third quarter, which helped to grow our top line, while effectively managing operating expenses, thereby producing significant improvement in profit margins. Our Cemetery segment produced a very strong performance with increased cemetery revenue of 9%, a 51% improvement in cemetery gross profit and a 520-basis-point improvement in cemetery gross margin. Our same-store funeral services improved from 2011. And demonstrating the power of leverage in our funeral business and the importance of effectively managing our costs, we produced a 10% improvement in funeral gross profit dollars and a 200-basis-point increase in gross profit margins compared to the same quarter of last year.

Throughout the fiscal year, our sales team has produced strong results by expanding sales and profitability and delivering an improved customer experience. Their hard work and dedication can be seen in our 13% improvement in preneed funeral sales and our 5% improvement in cemetery property sales for the first 9 months of 2012. Actually, these results are the best start to a fiscal year in preneed sales in 4 years.

During the fiscal year, we made changes to reorganize the company, improve sales and profitability and enhance customer satisfaction. We're building a stronger, better company and have laid the foundation to ensure our long-term success. We believe the financial results of the third quarter and fiscal year-to-date are tangible evidence there we're on the right path.

With that summary, I'm going to turn the call over to Lew.

Lewis J. Derbes

Thanks, Tom. I'd like to start the call by providing some further insight in a few key areas for the quarter. First, I'll discuss the company's operating performance in a little more detail. Next, I'll update you on some tax planning strategies that we've been working on. Then I'll provide some additional information on the performance of our trust portfolio and finally, discuss our cash flow.

As for our operating performance during the third quarter, we improved adjusted net earnings by 35% and adjusted earnings per share by 38% compared to the third quarter of last year. We generated $129 million in consolidated revenue, including $69 million in funeral and $60 million in cemetery. As Tom previously mentioned, we are particularly pleased with the performance of our Cemetery segment during the quarter. We generated a 9% increase in cemetery revenue, a 51% improvement in cemetery gross profit and a 520-basis-point improvement in cemetery gross profit margin. These results were obtained by recognizing nearly $3 million more in revenue due to significant progress on cemetery construction projects, as well as a $1.5 million improvement in cemetery property revenue as a result of the subsequent collections on increased property sales.

Overall, funeral revenue remained relatively flat compared to the same period of last year. However, we believe the 0.5% increase in same-store funeral calls is a significant positive and compares favorably with the overall market, as well as our peers, and is a tangible indication of increased market share. While we experienced a slight decline of 0.2% in average revenue per funeral service, we remain focused on a balance between calls and averages to leverage the high fixed cost nature of our business. Though our funeral revenue showed a slight increase for the quarter as a result of our continuing focus on effectively controlling our cost, we realized a 10% increase in gross profit to $15.8 million, as well as a 200 basis point improvement in gross profit margin to 22.9%.

We are also pleased with the nearly 7% improvement in preneed funeral sales compared to last year. We believe that this demonstrates that customers continue to value the services we provide and the facilities we offer. Preneed sales are important to the company's long-term potential and provide a strong indication of our market share.

Our adjusted EBITDA increased 19% to $26.5 million for the third quarter of 2012 compared to $22.3 million last year. In addition, our adjusted EBITDA margin was 20.5%, an increase of some 260 basis points over the same period of last year.

Finally, in April, we announced organizational changes that we believe would assist our operating performance going forward. I am happy to report that the third quarter results reflected margin expansion consistent with our expectations.

The strong quarterly results have continued the positive trends from the first half of the year. As a result, for the first 9 months of 2012, we improved adjusted net earnings by 11% and adjusted EPS by 13% compared to the same period in 2011. We generated $387 million in consolidated revenue and $81.5 million in consolidated gross profit, which reflects the highest 9-month revenue and gross profit in 4 years.

Now moving on to taxes. Last week, we received approval from the IRS for a change in tax accounting method, resulting in the deferral of approximately $52 million in revenue. This change will result in approximately $21 million of reduced future tax payments. Based on the currently approved changes, we expect to pay only nominal federal cash taxes in fiscal years 2012, 2013 and 2014. Several years ago, when we began our tax planning strategies, we believed it was possible to produce significant tax benefits. As a result of this effort, including this most recent change, the total tax benefit, including a combination of refunds and reduction of federal income tax payments, will be in excess of $100 million by the end of 2014.

In regards to our trust portfolio, we are pleased with the 9% and 11% total return in our preneed and perpetual care trusts, respectively. For the last 9 months, the 11% and 12% total average annual returns in our preneed and perpetual care trusts, respectively, over the last 3 years. The fair market value of our trust portfolio improved by $41 million during the 9 months ended July 31, 2012. This bodes well for future revenue recognition associated with the undelivered preneed contracts in our backlog. The positive performance of the portfolio is the result of the steps we have taken to continue to diversify. Currently, 25% of our portfolio is invested in asset classes which were not represented in our trust just 3 years ago, including REITs, high yields and MLP, among others.

We continuously evaluate our investment strategies to maintain an asset allocation that provides consistent returns with sufficient diversification.

And finally, as it relates to our cash flow, during the first 9 months of 2012, we generated $58.7 million in operating cash flow, further demonstrating our ability to consistently generate positive cash flow. Throughout the remainder of the fiscal year, we will continue to use our cash wisely where we can get the highest and best long-term results for our shareholders.

During the most recent quarter, we continued to repurchase our common stock in the open market. For the fiscal year, including purchases subsequent to the end of the quarter, we have purchased 3.4 million shares for $22 million, or at an average price of $6.52 per share, resulting in a 5% decrease in the number of total shares outstanding over the last 12 months. In total, over the last 7 years of our share repurchase program, we have now bought back more than 28 million shares of our common stock for about $198 million, resulting in a 26% decrease in the number of total shares outstanding. In addition, over the past 4 years, we have reduced the face value of our outstanding debt by some 26% or $119 million. We also plan to grow our base business through both internal initiatives, as well as targeted strategic acquisitions. Our cremation initiative is also an important component of our strategic plan.

During the first 9 months of 2012, we improved cemetery sales to our cremation customers by 20%. We have completed a total of 24 cremation projects and have more than 30 additional projects either under construction, expected to begin construction in the near future or under feasibility review.

During the first 9 months of 2012, we invested approximately $7 million in this new cremation inventory, and as a result of the success of these projects, we are planning to invest an additional $3 million to $5 million in the fourth quarter of this year. Even after considering the repurchase of stock, the payment of dividends, investment in our cremation initiative and acquisitions, we finished the third quarter with $79 million of cash and marketable securities on hand with no amounts borrowed on our $150 million credit facility.

And finally, our leverage coverage ratio, as measured on a net of cash basis, remains solid as of July 31, 2012, at 2.3x, the lowest level in over 10 years and a further testament to the strong financial condition of the company.

Now I'd like to turn the call back over to Tom for some final summary comments.

Thomas M. Kitchen

Thank you, Lew. As we approach the end of the fiscal year, we're very excited with the progress that we've achieved. Revenue gross profit, adjusted earnings and earnings per share have all improved. The balance sheet continues to be very strong, and we're well positioned for the future. We remain committed to our continued plan. We continue to emphasize the need to provide exceptional customer service, which begins with hiring and training our employees to provide the best-in-class service our customers deserve. Not only do we need to invest in our people, but we should invest in and maintain our facilities and emphasize the use of technology to help grow our base business while seeking additional growth opportunities. We will utilize our strong cash flow to the advantage of our shareholders to periodically assess proper capital deployment, including dividends, acquisitions, share repurchases and debt retirement.

Finally, as you know, on August 29, Hurricane Isaac made landfall in southern Louisiana. During the storm, the company executed its disaster recovery plan and it worked as designed. We appreciate the dedication of the employees who worked throughout the storm to ensure the business ran as smoothly as possible, namely in our corporate headquarters building, in our New Orleans funeral homes and cemeteries could restore operations shortly thereafter. We had several employees who were significantly impacted by the storm. We will continue to keep them and others similarly affected in our thoughts and prayers, and wish them a speedy recovery.

Now we're ready for your questions.

Question-and-Answer Session

Operator

[Operator Instructions] Our first question comes from A.J. Rice of UBS.

Albert J. Rice - UBS Investment Bank, Research Division

Just a couple questions, if I could ask. First of all, maybe trying to flush out a little more the margin improvement, particularly in the cemetery side, the 520 basis points year-to-year. Obviously, that's a big number. Is -- I mean, I assume you would say that some -- a lot of that is the leverage you get when you see the kind of pickup on the top line revenue growth that you get and but also, I would guess some of that is maybe the high-end market, which may be what you're talking about when you say the property revenue recognition and so forth. Can you just give us a little bit more flavor of some of the things that drove that kind of margin improvement year-to-year?

Lewis J. Derbes

A.J., this is Lew. Yes, a significant portion of the margin expansion is what we've been talking about for some time and that's the fixed cost nature of our business and the advantage of the leverage. A significant portion of our property sales have significant margins in them. When I made the reference to the benefits, if you go back to what we talked about on the last 2 quarters calls, we had a lot of property sales that had come through, but they hadn't met the revenue recognition criteria for us, either because they weren't constructed or hadn't met a certain level of down payment. We saw -- we said those were quality sales and they were going to be recognized as revenue in the future. We're seeing that in this quarter. We had some large construction projects complete, which do have some of those higher margins. And then we had the collections on these sales just have now met the threshold and kind of transitioned in. So that's a component. The second component was my comments before and this really relates to the Cemetery and Funeral segments. But in April, we had made the announcement about the reorganization and the reduction in force. The reduction in force is, obviously, something that impacted us. While it was a difficult decision for us to make, it impacted our results immediately. The -- and that we had cited was a $5 million change associated with the reduction in force. So you're seeing kind of one quarter benefit associated with that. And the second component, as it related to the reorganization in sales, that was kind of combined to be what we believed increased revenues from a better organized sales and operation team, providing better customer service and working more closely together and then some of the elimination of some layers of sales management. We said that was going to take 60 to 120 days to benefit us. As we go through that process, that's something that, while we maybe see a little bit of that benefit now, it's going to be something that'll be -- will complete over the balance of the fourth quarter and be more ready to talk about that in the beginning of next year. But again, that component really was -- it's designed to bring sales and ops together to have a more effective sales team to drive top line growth to improve $5 million in our margin.

Thomas M. Kitchen

And A.J., I would add to that. The properties that we own and operate are very quality. They're flagship properties in many cases, and we have a high percentage of combination operations between the funeral homes and cemetery. About half of our cemeteries have a funeral home, which really gives us a very significant competitive advantage, and we believe that, that positions us well for the future. And then the final comment I would make on that, too, is just I believe the -- both the growth in the cemetery property, as well as the preneed funeral sales, I think it validates our belief that the customers and consumers are -- appreciate and value the products and services that we offer. And when you look at the baby boomers, they're all turning 65. And I saw a number the other day, I think it was 20,000 baby boomers are turning 65 every day for the next 20 years. Now that's a very significant increase in the market for the products and services that we sell. And we think that going forward, we're very optimistic that, with the right sales execution, that we can really tap into the market and do very well.

Albert J. Rice - UBS Investment Bank, Research Division

Yes, that's good. On the IRS ruling, I just want to make sure, for clarification, I'm pretty sure of this but what -- the change strictly affects cash taxes. It doesn't affect any of your accruals going forward. Or does it affect your accruals?

Lewis J. Derbes

No, your assumption is correct. It'll affect -- our provision would continue at the normalized rate. It would just be a reduction in cash taxes. We had said before that we expected it to kind of extend through the balance of this year. With this most recent approval, we'll have nominal taxes kind of through the end of 2014.

Albert J. Rice - UBS Investment Bank, Research Division

Right. Okay. And then maybe one last question. On your trend in revenues per call, that's slightly down. Is there any color behind that if you look at what was happening with traditional funerals versus cremations versus trust fund impact and so forth? Any thought about fleshing out the underlying trend in the different segments?

Thomas M. Kitchen

Well, I think the most important point to emphasize with regard to that question, A.J., is the fact that we put a heavy emphasis on a good balance between capturing the right number of calls and pricing. And so we don't want to price ourselves out of the market in those calls because we don't think that that's the right long-term strategy for the company. So our emphasis has all along been very much to capture the calls, whether it's cremation or traditional, in order for us to serve the families. That gives us something to work with, and I think it also really takes advantage of the leverage that we have in this business, which is for the funeral business, a high fixed cost business. So there is a significant margin. Notwithstanding the fact that the average price is slightly less, there's a significant amount of margin and cash flow for the company by the result of capturing that call.

Operator

Our next question comes from Chris Rigg of Susquehanna.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Just to follow up on one of A.J.'s. In terms of the Cemetery division breakout, the $2.6 million versus the $1.5 million, can you help me understand the nuance there between the 2? I think I understand the accounting in terms of revenue recognition but just want to understand exactly what the difference is between those 2 components?

Lewis J. Derbes

Right. There's 2 components of that, and I'll kind of put some of this, unfortunately, in accounting terms, but let me just try and clarify it. For us to be able to recognize the revenue for a cemetery property sale, it has to meet 2 requirements. The first is it has to be constructed and available for us to provide that right of interment to the family, okay? So if we're selling something preconstruction or we're selling a private family mausoleum, et cetera, I can't recognize the revenue until that construction has occurred, okay? So that's kind of the first component that goes back to that $3 million component that I was referring to in my prepared comments. The second is, and we kind of use as a bright line 10%, this kind of will tie into real estate accounting. But we want to make sure that we have a sufficient down payment to ensure that it's a quality sale. So we don't recognize the revenue. First, they have to be constructed is kind of the first hurdle we have to get over. The second hurdle is we have to have at least 10% of a down payment or a combination of down payment and subsequent payments on that contract. And so what happened earlier in the year, and I had emphasized this in my call, we would never sell cemetery property without some down payment. In fact, our minimum is usually 5%. But we don't recognize the revenue until it hits 10%. So when we had a significant increase in cemetery property sales earlier in the year, there was a lot of new sales coming in with the down payment of 5%. Now as the subsequent payments have come in over the last 2 quarters, that's beginning to trip over that 10% threshold and be recognized as revenue. So in easy terms, it has to be constructed, but it also has to have at least 10% paid into the contract for it to be recognized as revenue.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Okay. And then -- so 2 follow-ups on that. I guess with the first component, do you have any visibility in terms of is there anymore sort of chunky revenue that's going to come online in the cemetery business near term that's worth highlighting? And then on the latter component, can you give us a sense for of your preneed cemetery sales, property sales, what percentage comes in sort of at that 5% threshold versus that comes in sort of at the level where you can recognize revenue immediately?

Lewis J. Derbes

All right. Let me take those questions in part. First, as you know, we don't provide guidance. What I will just answer is that our backlog is continuing to grow for the cemetery property sales. Since we're increasing property sales, we have more to recognize in the future. It does tend to be lumpy sometimes, whether it's a large community mausoleum, especially if it's sold pre-construction, or if you have a private mausoleum that's a high-net-worth sale or a family tomb for a family. It's got to – you've got to go through the design phase, et cetera. So there is some lumpiness in there, but our backlog still remains high associated with property sales, associated with construction. As it relates to down payments, 5% is the minimum, okay? We'll often run promotions where it might be a lower interest rate if they get a higher down payment in, but 5% is the minimum. We often get down payments that are significantly higher than that. We get 100%. We don't finance anything on an at-need basis and so some of those property sales are also -- includes at-need. So I guess I want to emphasize that 5% is the minimum. It usually takes 3 or 4 months of monthly payments for that to kind of trip over the threshold, but I would say a significant portion, probably 70% to 80% of our contracts, have over 10% down payments at the time of sale.

Christian Rigg - Susquehanna Financial Group, LLLP, Research Division

Okay. And then last question. Just I know you don't give guidance, but the tax rate that we should be using for modeling purposes prospectively is 38%?

Lewis J. Derbes

That's correct. The one part that has caused some noise in our rate is associated with the valuation allowance in our capital loss carryforward. That's very hard to predict. Absent any changes in that valuation allowance, which we've had a benefit from the last couple quarters, I'd expect it to be at that normalized rate of 38%.

Operator

The next question comes from Jamie Clement of Sidoti & Company.

James Clement - Sidoti & Company, LLC

Wonder if I could get some additional color on your thoughts about what's going on kind at the local level. You now have a second quarter in the books where your call volume on a same-store basis looks a lot better than the government data and some of the industry data that's out there. So what's going right, right now? And then the follow-up question I have, and maybe you can address that also, is I was wondering if there were any geographic areas that you would highlight as going particularly well for you right now.

Thomas M. Kitchen

Jamie, it's Tom. I think, first and foremost, you have to give credit to the success we've had with regard to funeral calls to our great team of employees and the managers that are in the field. They really are -- that's where the rubber meets the road with regard to the success that we've experienced with regard to funeral calls. I mentioned earlier we have great properties with long-term heritage, and we have, in all of our facilities, we have a very strong reputation for the quality of service. So I think that, first, the combination of the right team and the right property makes for a very strong competitor in the marketplace. And also too, some of the more specific or tactical steps that we take to ensure ourselves that we can maintain and grow the number of funeral calls is to encourage active community involvement, particularly with community influences such as ministers and hospice. We have a very active program, too, and team of people that, in each of our regions, will present seminars on -- to individuals that are interested in buying preneed funerals and preneed cemetery property. So this outward focus at the local level, we believe, is a very, very important part of that. We're also very sensitive to people who call our facilities and are making inquiries and -- or maybe perhaps shopping to compare us with somebody else. And we're very sensitive that we need to staff that phone call and with the right person who is [indiscernible] that provides the right type of response to the phone call. I also mentioned earlier, the emphasis on balance, we just believe that a stronger long-term strategy for the company is to have some balance between pricing and maintaining and expanding our funeral calls. And we believe that, that's important. But it's also important, not only in the funeral business that we operate, but in operations and sales, cemetery and funeral events, at-need versus preneed. This is the type of business where details matter, and you really do have to make – pay careful attention to a variety of details in order for the overall company to realize the success. So those are the, I would say, the principal factors that we believe have accounted for the success that we've realized recently with regard to our funeral business.

Lewis J. Derbes

And Jamie, the only thing I'll add to that, you were asking that if there were any specific markets that were driving it. I'm happy to report that the growth is really across the board. We've had one market, the California market has had a little pressure for us. And so it's not 1 or 2 regions that are driving this performance. We're seeing the growth in calls really across the board and across all our regions with one market that's had a little bit of pressure that, obviously, we're devoting a little bit more attention to. But as Tom said, there's a lot of community involvement, meeting with influencers, the normal incentive plans that we have with our managers to improve customer service, to make sure that the word gets out there of the quality facilities we have and the services that we provide, and they're focused on growing their profitability. And this message of the high fixed cost nature of the business and the balance on calls and averages is resonating with them as they look at driving their own screw tops.

Thomas M. Kitchen

And Jamie, one other point, I think, to add to that topic, is that we looked and thought maybe a 0.5% increase was partially the result of maybe a soft or an easy comp. And when we look back, the same period in 2011, the third quarter had a 0.5% increase in same-store calls as well. So this 0.5% increase was on top of what we would consider to be a fairly strong quarter. In fact, if you look over the last 7 quarters, we have had 4 up quarters, 1 flat and 2 down quarters. And so we, on balance, think that that's a good story for us. Of course, we'd like to have 7 strong quarters, but nevertheless, we believe that, on balance, that we're pushing the right buttons and pulling the right levers for us to realize the positive results in the funeral business.

James Clement - Sidoti & Company, LLC

Yes. And Tom, the reason for the question, obviously, I was highlighting the last 2 quarters only because this calendar year has been so anomalous from a mortality perspective. I was not, by any means, just missing the last 2 years. It was just things have been so haywire this year. One follow-up question, if I could. You report and, obviously, I understand why you do this, when you talk about average revenue per call on the funeral side, for a company that has such a high percentage of combination operations, is that as relevant a number for Stewart Enterprise, the way you all manage the company, considering you're also deriving revenue from the cemetery side, as it might be for some of the businesses that are out there?

Thomas M. Kitchen

Well, that's a good point because we don't want to focus exclusively on the funeral side, especially in those cases where we have the cemetery attached to the funeral home. That's really part of the strategy in rolling out the cremation initiative. The fact of the matter is, is that the cremation funeral, it's a lower-priced funeral than a traditional funeral. We do the best job we can in presenting all the options to the family, the cremation families when they're making the arrangements in the funeral home to encourage them to have visitations and some other steps that are close to a traditional service. But at the end of the day, we have that cemetery that offers the opportunity for a permanent memorialization for the family. And when they see some of these cremation gardens that we have been building and gives the family the answer to the question of where do I want that urn in 3 to 5 years? Or where or what that urn for – in perpetuity? These cremation gardens give us that ability. And people are willing to pay for the cremation niche and a very attractive cremation garden. So and our view is when you combine the revenue that we realize from the cemetery part of that and the cremation side, as well as the cremation revenue that we realize from the funeral, that the combination of the 2 provides a very significant amount of revenue for the company. It's really intended for us to become, let's say, revenue indifferent with regard to traditional and cremation.

Operator

[Operator Instructions] Our next question comes from Richard Innes of JC Clark.

Dick Innes - JC Clark Ltd.

Two questions. The first one, on the reorg. I think the estimate was $10 million of annual savings. What percent of that would have been realized in Q3?

Thomas M. Kitchen

Well, Richard, that $10 million number was really 2 components. One was related to a reduction in force that we announced that was approximately $5 million on an annual run rate. We're seeing the benefit of that in the current quarter. And that estimated was about $1,250,000 in the current quarter, and we anticipate that, that'll be a consistent benefit that we would realize going forward in each of the next few quarters as well. The $5 million, the other $5 million part, to come up with the total of $12 million, was as a result of the reorganization of the company. And what we did was we reorganized the, in particular, our sales management group. In some cases, we had 4 levels of management, and we condensed or compressed that down to 2 levels. And we went through a more disciplined approach in terms of how many managers are going to be supervising how many employees and so forth. So the benefit from that is about $5 million. So we also indicated that, that impact from the sales and operational reorganization was going to take about 3 or 4 months more for it to play out. I think that we realized some of the benefit there in the third quarter. I think that it'll still probably be some of the fourth quarter for us to go through our shakedown cruise. And then my anticipation is that, beginning with the first quarter of 2013, that we would see the full effect from the reorganization benefit. Now keep in mind, too, while we talk a lot about the $10 million cost savings, the sales and operational reorganization was about improving and enhancing the customer experience and also about uplifting the preneed sales. And so it's not just about reducing cost. As much as it is, we're focusing on the customer. We're aligning ourselves better with serving the customer in a much more improved fashion, and one that we believe will have a much stronger positive long-term impact for the company.

Dick Innes - JC Clark Ltd.

So in total, for the quarter, something in excess of 50% would have been realized?

Thomas M. Kitchen

50% of what number are you talking about?

Dick Innes - JC Clark Ltd.

Of the $10 million run rate.

Thomas M. Kitchen

No, no, I didn't say that. I said the reduction in force now that's about $1,250,000 because the $5 million relates to an annual estimate.

Dick Innes - JC Clark Ltd.

Yes, I realize that. But what I'm saying is that the -- on the force, the $5 million annual rate was realized in Q3, which would be 50% of...

Thomas M. Kitchen

No, that's correct, I'm sorry, yes.

Dick Innes - JC Clark Ltd.

Okay. My last question was with respect to acquisitions because I didn't see any mention of that in the release. Could you comment on the acquisition environment?

Thomas M. Kitchen

Sure. We have executed a letter of intent with a funeral home that we expect will close in the fourth quarter. And so that -- we'll announce that when we do go through that closing. We have been active in looking at others, probably have some prices that we've submitted. And we expect to hear something back from the owners. We also have submitted a couple of proposals during the quarter where, for one reason or another, we were not selected. We do see that there is still a strong market out there for buyers and the prices are very aggressive and we remain disciplined in terms of the pricing discipline or the pricing that we're going to put on the table.

Operator

The next question comes from Clint Fendley of Davenport.

Clint D. Fendley - Davenport & Company, LLC, Research Division

I'd like to get an understanding of the drivers behind the 7% improvement in preneed. And I just wondered, based on the prior question there from JC Clark, I mean, when you did the sales realignment, did you guys change the compensation structure at all for your salespeople that are out selling the preneed?

Thomas M. Kitchen

No, the sales counselors' compensation has remained unchanged. We did change the management's compensation.

Clint D. Fendley - Davenport & Company, LLC, Research Division

Okay. And then maybe if you could help me get a sense of maybe how much of the 7% improvement there is sort of due to the improved sales focus that you guys have concentrated on versus perhaps just maybe a better demographic selling environment and even an idea of just perhaps are we in sort of a new kind of a market now for the selling of the preneed, particularly on the cemetery side to where the demographics should be improving going forward here?

Thomas M. Kitchen

Well, I think the last point that you mentioned, the demographics is certainly an important part of what we see in the marketplace. We mentioned earlier, with the number of baby boomers reaching age 65, while they may not be passing on in large numbers, nevertheless, they have reached that point in their life where they're thinking about those types of end-of-life decisions that they need to make. And that baby boomer generation has always been one that wants to control what they do and their funerals and cemeteries are no different. So we see that as a very good macro factor with regard to the marketplace for us. But we also, with regard to our change, we have brought our managers closer to our sales counselors and have emphasized the need of a, hiring the right sales counselor and b, providing the right coaching and mentoring for each one of them. And we believe that while it's only been in effect for approximately one quarter, we believe that we're seeing some positive results in the preneed funeral. It's hard, Clint, to do what I call a cause-and-effect with regard to changes made and the results, especially when it's only been in place for approximately 3 months. But we have very high expectations that we're going to realize all of the savings, as well as all the benefits going forward from the change.

Clint D. Fendley - Davenport & Company, LLC, Research Division

I wondered, are you guys tracking separately just your experience on selling the preneed for your cremation project investments that you've been making?

Lewis J. Derbes

Yes, we have -- what we do on every one of these cremation projects is we have a detailed IRR schedule and it's got to meet certain thresholds for us to approve it. And then we measure sale by sale, crook space by crook space the performance on that garden to make sure that it's meeting the expectations and the hurdle rates that we establish for the projects. I think the number of projects that you have seen come online is an indication of what success we've been having with that initiative so far.

Operator

The next question comes from Nicholas Jansen of Raymond James.

Nicholas Jansen - Raymond James & Associates, Inc., Research Division

Just a quick question on the leverage profile. I think the 2.2, 2.3 that you discussed is, like you said, the lowest it's been in over a decade, and I guess, if you continue to have success on the cash tax planning front, you should be able to generate a significant amount of free cash flow going forward. So the question would be, if M&A isn't as pronounced as perhaps maybe some would expect, considering it is a hot market out there, what's your priorities of dividend, share repurchase, your just kind of priorities for that cash flow?

Thomas M. Kitchen

Sure. Our priority is always to grow the company and benefit to shareholders. We believe that, that use of the free cash flow is important. We'll continue to do that. But as I mentioned, we are disciplined and not going to be paying numbers that we feel are just uneconomic for us. But we -- aside from acquisitions, we'll continue to -- the repurchase of our shares. We've got slightly more than $20 million remaining in the current share repurchase authorization. We have increased our dividends some 60% over the last 3 years, and we have purchased probably nearly $200 million worth or 26% of our common stock over the last few years as well. We've demonstrated, a, an ability to generate significant amounts of free cash flow. And we've also, by our actions, demonstrated a willingness to deploy that cash flow in ways that are very friendly or very favorable to our shareholders.

Nicholas Jansen - Raymond James & Associates, Inc., Research Division

That's helpful. And then secondly, just on the pricing front, can you maybe just talk about -- obviously, with more cremation focus with the cremation gardens and an increasing cremation mix, do you have the breakdown of kind of what your same-store performance would have been if you just looked at your calls and your cremations separately?

Lewis J. Derbes

That's not something that we typically provide, Nick. We evaluate the traditional funeral and cremation calls and we do measure it. The gardens are more on the cemetery side of our business. Obviously, it may have an impact on overall in terms of the -- with the combo. Maybe we're getting some -- more cremation calls there, but I think one way that you could back into that is we do disclose what the cremation rate is, and I think the cremation rate this period only went up by about 20 basis points.

Thomas M. Kitchen

And one other point, I think, that should be emphasized, too, is the fact that these cremation gardens have really generated a lot of interest by the families that we serve. They may come out to look at a cemetery property. They see the cremation garden. And they not only are interested and maybe intrigued by the cremation garden and by cremation, let's say, property, they'll actually buy the preneed funeral with this as well. So again, trying to be revenue indifferent, especially those places where we've got some very attractive cremation offerings for the families. When you combine that with the preneed cremation funeral, it becomes a nice piece of business for us. So the benefit, there are a lot of spillover benefits from these cremation gardens because it really gives our people something to point to in a very tangible way as to what are we offering different in the cemeteries, but that also leads to getting them out. And once you get the people out to the gardens, they're impressed by it. Somebody once said that when they visited the gardens, that the pictures don't really do them justice because you really have to go there and see it firsthand to really appreciate the beauty of them.

Operator

I will now turn the call over to Tom Kitchen for closing remarks.

Thomas M. Kitchen

Well, thank you, everybody, for joining us in this third quarter in 2012. And it's a very strong quarter for the company, very optimistic that we'll finish strong for the year. We look forward to talking to you again in approximately 3 months. Thank you.

Operator

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating in the Stewart Enterprises Third Quarter 2012 Earnings Conference Call. You may now disconnect.

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