Welcome to the Q3 2017 Service Corporation International Earnings Conference Call. My name is John and I'll be your operator for today's call. At this time all participants are in listen-only mode, later we will conduct a question-and-answer session. [Operator Instructions] Please note the conference is being recorded. And now I'll turn the call over to SCI management.

Thank you. Hi, everyone. This is Debbie Young, Director of Investor Relations at SCI. Before we start today with our prepared remarks, let me quickly go over the customary Safe Harbor language. The comments made by our management team today will include statements that are not historical and are forward looking. These statements are subject to risks and uncertainties that could cause actual results to differ materially from our expectations and projections. These risks and uncertainties include, but are not limited to, those factors identified in our press release and in our filings with the SEC that are available on our website. In today's comments, we may also refer to certain non-GAAP measurements such as adjusted EPS, adjusted operating cash flow and free cash flow. A reconciliation of these measurements to the appropriate measures calculated in accordance with GAAP is provided on our website and in our press release and 8-K that were filed yesterday. So with that behind us, I'll now turn the call over to Tom Ryan, SCI's Chairman and CEO.

Thank you, Debbie, and hello everyone and thank you for joining us on the call today. I'm going to begin my remarks this morning with some comments regarding the recent disasters that have impacted members of our SCI team and their communities. Next, I'll provide an overview of the quarter. I will then get into a more detailed analysis of our funeral and cemetery operations and finally, I'll comment on our outlook for the fourth quarter and for the full year 2017. Over the past nine weeks, many people throughout our company and the communities in which they live, were severely impacted by three major hurricanes; Harvey, Irma and then Maria. We also endured the tragedy suffered in Las Vegas and the wildfires in Northern California. While hundreds of employees have experienced personal loss of homes, cars and personal effects, we never lost our focus on serving our client families. I've heard countless stories of personal sacrifice that will bring a tear to your eye. Our hearts and prayers go out to all the people affected by these tragedies and know that we stand beside you as you deal with the challenge of your personal recovery. Throughout each of these tragedies, our employees have been nothing short of amazing. The examples of teamwork, sacrifice and hard work have been incredible. Vendors, members of our board and employees all across Canada and the United States have shown unwavering support through monetary donations, as well as personal items to help our SCI family members, who were impacted, get back on their feet. With a company match, we have raised nearly $900,000 for SCI Disaster Relief Fund, which is going directly to the hundreds of employees who have experienced a loss. In addition, we've donated over $300,000 to local United Way chapters in…

Thanks, Tom. Good morning, everybody. And my remarks for you today are very similar to other quarters. I'm going to address some details of our cash flow performance and our capital deployment specifically for the third quarter. And then I'm going to touch on our outlook and our financial position for the remainder of 2017. So let's start with our cash flow performance for the third quarter. So during this quarter, we reported $165 million of adjusted operating cash flow. That was an increase of about $22 million or 15% versus the prior year quarter adjusted amount of $143 million. However, most of this increase is timing due to the deferral of cash tax payment. So let's talk about that. During the quarter, the IRS granted the deferral of pay in federal cash taxes for the remainder of the year for businesses affected by Hurricane Harvey. As a result, we have deferred about $25 million of cash tax payments that would've been paid during the third quarter, and we deferred it into the fourth quarter of 2017. Additionally, we also benefited by around $10 million from reduced cash taxes, primarily as a result of the hard work of our tax team on ongoing tax planning initiatives as well as a favorable true-up of cash taxes paid associated with the finalization of our 2016 federal tax return. Neutralizing for this total of $35 million reduction in total cash tax payments that I just described, our businesses produced $130 million of cash flow for the quarter. This is about $13 million reduction from the $143 million in the prior year that I'd now like to walk you through that math. Our operating profits contributed $0.05 of earnings growth, as Tom just mentioned, which we equate to about $15 million of positive cash…

Thank you. [Operator Instructions] And our first question is from Chris Rigg from Deutsche Bank.

Hey how are you doing? This is Adam Chaim stepping in for Chris Rigg. Thanks for taking my question. Regarding the same-store funeral results, can you provide some color on the drivers of the divergence in atneed and matured preneed revenue and volume growth in the quarter?

Sure. So, atneed and matured preneed you said, as far as volume goes? Yes. So the drivers…

Volume and revenue, right?

Yes. So the drivers of those, one of the things, remember that we focused on terminally imminent contracts approaching that in a different way, as it relates to interacting with our sales force. So what we're seeing right now is the potential for year-over-year, you're seeing more volume through that category that has to do with terminally imminent. The other thing that I would say is over time, because we've grown preneed over the years, that we're forcing we would expect that over time, those matured preneed will become a larger and larger portion of the contracts that we're going to service. So atneed is getting impacted, if you will, temporarily, by the process through which we're handling terminally imminent. And longer term, again, because we're - we believe we're locking up more people every year as we write preneed contracts, that number as a percentage of the people we serve is going to continue to go up. As you think about the year and step back, and our volume is up this year overall, below 1%, but it is comparably up and we're very pleased with that. I think our field leadership has really taken a focus this year on trying to capture more market share in the markets which we operate, and I think they've done a great job. With that, I think, we've seen, from our pricing perspective, at least in certain markets we're being a little more competitive as it relates to pricing where that is a primary issue with the consumer. That is probably that's clearly less than most of the business that we interact. But on the margin of that business, we're competing more effectively.

Great, thank you.

And our next question is from Joanna Gajuk from Bank of America.

Good morning, thank you. So just first on the guidance, which you raised at the midpoint by $0.04, right? So there's $0.02 in there from the higher expectation from the benefit from the accounting changes for stock compensation, right? So call it $0.02, but then what you're saying is that does include about $0.04 headwind from the hurricanes, right? So when you think about it, excluding the taxes and storm impacts, that essentially means that you're raising your core guidance by more like $0.05 to $0.06, right? So can you confirm that, the way I think about it, if whether it's correct? And then if it is, then what's driving that core business kind of outlook improving?

Yes. Generally, your math is right, Joanna. And I would say that what is happening in the core business is really the preneed cemetery growth that we expect during the year, during the fourth quarter, I should say. And we also expect some momentum in the fourth quarter related to our pre-arranged funeral sales that will generate General Agency revenue, which will be both cash and earnings. And then lastly in the Neptune part of our business, which was interrupted as we've described to you earlier related to the hurricane, we also think those sales are temporary in nature in terms of the pause that they had. And so I think the benefit is, we expect some momentum in the fourth quarter from the sales organization, which will generate preneed cemetery revenues, General Agency revenues and recognize preneed funeral revenues from SCI Direct.

So you're saying that you're seeing already the rebounding in those sales in some of these markets that were impacted?

Yes. We are seeing it and I think let's put Puerto Rico to side. I think that was devastated, and we're not seeing that rebound yet. But, yes, I think it's safe to say in October, we feel good about our momentum, going into it going in for the first month. The first month doesn't make the quarter. But yes, we feel good about our momentum in those areas.

And just talking about the fourth quarter, what are your expectations for flu activity against this year because it seems like in Australia, the flu was quite strong actually, resulting in a lot of deaths related to influenza in that hemisphere. And some people believe that what happened in Australia implies what's going to happen in the Northern Hemisphere during the flu season. So how do you think about that and what are your expectations? What do you assume in your guidance there for flu and unrelated, I guess, business activities for you there?

We've seen that correlation work in the past and we've seen that correlation not work in the past. So to answer your question, we've not built anything in the fourth quarter in our funeral segment for incremental influenza outbreak that would increase the number of services that we are performing. I think it's possible but we don't try to guess at that correlation with a crystal ball, so we don't have that built in. Our funeral volumes are similar to what you've seen the rest of the year, in terms of our outlook.

Okay. And then, if I may, on the cemetery segment, right, the margins continue to be very impressive because of this dynamic that you've been playing around, looking at the revenues of the properties that you sold. So how should we think about these margins, going forward? Because I guess at some point, I guess, you're going to anniversary sort of the recognition or rather, you could have, as you say, in Q4, it's going to reverse where you have the recognition rate versus the production rate might reverse. But I guess, you still keep on investing and developing new cemetery properties. So how should we think about it in next year in terms of the margins for cemetery business?

Yes, Joanna. So I think the way to think about it is, if you look year-to-date, we have upside surprise as it relates to the first nine months, in the sense that our long-term guidance would say we could grow cemetery margins in the, call it, 80 to 120 basis points a year. I think that is still very achievable and what we expect. We've outperformed that year-to-date pretty significantly, and the reason for that is what I was touching on before. In previous years, we'd see a lot of selling activity. Think about the first three quarters of the year, we'd sell more than we'd recognize for three quarters. And then you get to the fourth quarter and get all the construction, and then the big reversal happens and you have a huge influx of recognition that's going to well exceed the production. What's happened this year, because we've spent money in developing particularly a lot of high-end product, we're now selling stuff and recognizing it quicker relative to the prior year. So what you've seen is an acceleration of margins that again, we're going to have great margins in the fourth quarter, but I think compared to last year's fourth quarter, you should see a diminishment of the margins. And then it will get you back to more normalized year-over-year growth for, we think, the entire year. So as I think of '18 and again, we haven't perfected this yet, but I think my belief would be that we'll continue to see kind of that early recognition in the first nine months of the year, that will be pretty comparable to what you've seen in '17 and then the same thing happens in the fourth quarter of '18. That we've got a new dynamic where there is more inventory readily available for sale and therefore will accelerate our ability to recognize those revenues.

Great, thank you. I'll go back to the queue, thanks so much.

Thanks Joanna.

[Operator Instructions] And your next question is from Scott Schneeberger from Oppenheimer.

Good morning. This is Daniel stepping in for Scott. Let's start with funeral. Can you discuss the selling cost efficiencies you know there, and how we should think about the margin outlook for funeral?

I think, again, our long-term guidance, as it relates to funeral margins, is that we believe until there's a demographic impact on the funeral business that they're generally going to be constant year-over-year. And you may have slight dip in one year, a slight acceleration. What we've seen this year so far is in the third quarter, we're talking about a slight diminishment of the margin. But if you step back and look at the nine months, they're actually up a little bit. And, again, we believe that is driven by better volume performance than we anticipated, coupled with, again, I think, very good expense management, as it relates to the operations of the business. When you think about the selling changes, the selling changes really gets back to what we're incenting people to sell and what we're willing to pay for it. So as an example, we're paying people to sell terminally imminent contracts on the funeral side at a certain commission gate. We're paying a little bit more, if you will, I think, on the cemetery side and again raising the targets of the sales force in accordance with that. And a lot of this has to do with the technology we have invested. We've got salesforce.com. We've got technology that we're going to put - again, we're in the early stages of rolling out technology into the field, what we call our beacon project, where we're going to be able to interface with consumers and utilize contemporary technology for our presentations that also will generate a contract and allow us to initiate collection procedures right there in the family's home. So a lot of what we're doing is with this new technology is raising our ability to generate more sales. And so really, the changes in the program were designed with that in place, and so we're seeing those efficiencies today in the way that we do it. The other thing that has been interesting is we're generating a lot more leads through the Internet. And so that form of lead procurement is a lot cheaper than some historical methodologies that we've utilized in selling cost. So we expect to continue to be able to generate leads more effectively and efficiently, particularly as it relates to our website project that's going to roll out in 2018. So we're continuing to find ways to be more efficient on the selling front and we're beginning to see that show up in our margins in 2017.

Got it. I appreciate the color. There's been discussions with respect to the FTC funeral rule and the potential for an increase to online pricing transparency for the industry. How do you think about the probability of that happening and if it went in effect, what do you think about the impact for the industry?

I think, right now, it's our belief that these changes are not likely to occur. It would be a really long and expensive process to make a significant rule change, because, again, hearings would have to be held in a variety of markets across the U.S. We just don't believe that that's a priority of the administration at this time. Having said that, faced with that, we deal with it and we're not afraid of it. I think the complicating factor about online is just the uniqueness of what we do. Prices can vary greatly depending on cremation or burial, the quality of the facilities, additional benefits that can be provided like catering or personalized services or tribute videos. So we're selling a unique experience that can be altered dramatically, and I think it's really hard to convey that with Internet pricing. It's easy to price caskets against each other. It's terribly hard to compare as an example, Ritz-Carlton and a Holiday Inn, right? They're going to have two different pricing mechanisms. And so if you're in a Holiday Inn and are shouting you've got a lower price, well, of course you do. But there's still people that want to stay at the Ritz-Carlton. So that's the way we think about it. It's complicated. If that were required, we surely would be compliant and I think we'd be really good at it.

Got it. Appreciate the color there. Final one from me, how should we think about the outlook for General Agency revenue and preneed insurance production?

I think, we think as we roll into '18, we feel very good about it, as it relates to our ability to grow that and particularly on the insurance product side. So yes, I think we've worked through some challenges in '17 and we've got a stable year-over-year selling compensation plan. And so I think with those two things in place, we would expect more of a normalized growth pattern, as it relates 2018 versus '17, which we typically guide to low to mid-single-digit kind of growth.

Got it, thank you and congratulations on a good quarter.

Thank you very much. I appreciate it Daniel.

And we have our next questions from Duncan Brown from Wells Fargo.

Hey, good morning. Thanks for taking my question. I've been thinking you guys about you guys obviously with all the disasters, with Harvey in particular, I wonder if you could give us an update on the home office or in headquarters, is it up and running fully or where does that stand?

We're getting really close, Duncan. It's getting really close. We have two buildings of the corporate headquarters. One is going to come, the larger building is going to come first. We think that's early November that we'll start moving back in there. And the second one will probably be towards the end of November. A lot of it has to do with just finishing the construction, getting the electrical grid that was flooded back up and running, which were primarily there. And then the rest of it is just a little bit of infrastructure of the building itself with connectivity, but thanks for asking. We've been displaced, but the truth of it is, we've been able to rent space and we've been operating just like a normal company has been, despite that. I think where we're most concerned in reality is not the corporate office, but the people that were really impacted out at the funeral homes and their families, and their personal effects as well. We had a little bit of that with corporate employees, but a lot of that was out in the field that were facing the customer. And that's who we've been really truly trying to support to get them back to work in front of the customer as soon as we possibly could.

Then, I guess, got $4.5 million or so of insurance dollars in the quarter. Should we expect some more in Q4?

Yes, I would hope so. You know the deductibles is complex. But ultimately, we've had a payment in the quarter, as we set it out, the net number that $1.3 million of hurricane expenses that are in there. It was about $5.8 million of expenses offset by about $4.5 million insurance proceeds. We could end up spending somewhere in the $15 million, $20 million range in total related to everything. That includes all the field operations. And it's a range right now because of the Puerto Rican situation that we're still grasping, getting our hands around, but ultimately we believe, insurance will cover the vast majority of that. And I think ultimately what you're going to see is that hurricane expense is not covered by insurance, growing from about $1.3 million to maybe $4 to $6-ish million and that's what we were referring to when we say maybe $0.01 or $0.02 of headwind in the fourth quarter will affect us. But, again, the good news is the vast majority of this stuff is going to be covered by insurance.

Great. And you mentioned Puerto Rico, can you disclose or would you disclose some metrics for us to help size it, like maybe percentage of revenue for the company or total revenue in Puerto Rico?

It's not very significant in the big picture of things.

That's fair. And then, just last one. Tom, you've mentioned, I think, new website project rolling out in '18 and I wonder if you can give us more color on that?

Yes. So the color is really our websites were designed originally, and this is a problem a lot of companies have, were designed with a desktop in mind. So as you think about the way people were searching for us and our ability to compete in a search world, we weren't geared to deal with mobile the right way. So I'd say in a nutshell, there's a lot of changes that I think that are going to be very dynamic. But in a nutshell, we had to get to a mobile solution that allows us to compete more effectively as it relates to search. And so that's what this is designed to do is to upgrade the websites, have more customer interactivity. Again, be in a position to compete more effectively as it relates to the search world.

Great, thank you.

And at this time, we have no further questions. I'll turn the call back over to SCI management.

We want to thank everybody, again, for being on the call. Thank you for a lot of you for your support through this challenging time of our employees. We look forward to get back in our building and so our next call, we will be back in our home office and we'll talk to you again in February. Thanks so much.

Thank you, ladies and gentlemen. This concludes today's conference. Thank you for participating and you may now disconnect.