First in a Series
Institutional Investor asked participants in the All-America Research Team survey to identify the industry sectors and macroeconomic disciplines in which they would like to see more sell-side research. We received more than 950 suggestions on topics ranging from additive manufacturing — better knows as 3-D printing — to yieldcos, fairly new mechanisms that hold the cash-generating infrastructure assets of renewable energy outfits. This installment looks at death care services providers.
No doubt about it, some people can be “creeped out” by the thought of investing in companies that provide death care services — owners and operators of cemeteries, crematoria and funeral homes; manufacturers of caskets and grave markers; and similar entities — according to Alexander Paris Jr., president of Barrington Research Associates. But those who are able to work through their discomfort can find opportunities for making money in a sector that’s often overlooked (or avoided).
The most prominent names in the space are Carriage Services and Service Corp. International, both of which are headquartered in Houston; Levittown, Pennsylvania–based StoneMor Partners and Matthews International Corp. of Pittsburgh.
SCI, with a market cap of roughly $4.5 billion, is the largest of the group; even so, it’s covered by only a handful of analysts. One of those who has been following the stock for some time is Robert Willoughby of Bank of America Merrill Lynch.
“We first launched coverage on Service Corp. International in 2005. A client that understood and valued my return-on-invested-capital framework knew the company would screen well and suggested I look at it,” recalls Willoughby, who has been voted onto the All-America Research Team 13 times since 2001 in Health Care Technology & Distribution. “It was a company coming back from the brink of bankruptcy, undertaking a dramatic business mix and balance sheet restructuring that unlocked a lot of value.”
He was so impressed by the investment potential of these service providers that he added coverage of two others — Alderwoods Group of Cincinnati and Jefferson, Louisiana–based Stewart Enterprises — both of which were subsequently acquired by SCI.
Willoughby is bullish on the stock, which shot up 18 percent and bested the broad market by 11.3 percentage points year to date through September. “We like it because it is the largest play in the sector, with close to 20 percent market share,” the New York–based researcher explains. “It is in the process of synergistically consolidating the Stewart acquisition, which was completed in the fourth quarter of 2013, with revenues and profitability both trending better than our initial forecasts.”
The company also resumed its share-buyback program sooner than expected, he adds, and has raised dividends twice this year.
Paris is similarly upbeat on Carriage Services, which he began following in December 2012. “I picked it up because it looked attractive from a valuation perspective,” reports the Chicago-based analyst, whose universe also includes H&R Block and Liberty Tax. (“I like to think I cover the only certainties in life — death and taxes,” he quips.)
He insisted the stock would outperform, and he was right. Carriage Services shares bolted more than 58 percent and trumped the S&P 500 by some 18 percentage points since the analyst’s recommendation, through September 2014. He continues to urge clients to buy it.
“I believe Carriage Services will outperform the market over the next 12 months for a number of reasons: attractive valuation, easy year-over-year comparisons — death can be seasonal — recent accretive acquisitions and a significantly improved balance sheet with lower interest expenses,” Paris explains. He prefers the stock over SCI because it is significantly cheaper (12.2 times 2015 estimated earnings versus 16.6 times for the latter outfit), its earnings-per-share growth is faster (20 percent a year compared with low teens for SCI), and its return on equity is higher (11.3 percent versus 8.4 percent), among other considerations, he notes.
One fundamental difference between providers of death care services and other types of investments is a lack of key drivers of growth, at least in the traditional sense. “It’s a more value-oriented investor base, with most viewing the group from a free-cash-flow-yield standpoint,” Willoughby observes.
But over the long term, the sector’s prospects look quite good, he adds. Baby boomers — those Americans born between 1946 and 1964 — make up roughly one fourth of the population, and the oldest members of the group have only recently begun moving into retirement. “Currently, the death rate in the U.S. is quite low, and a more lucrative opportunity associated with the demographic wave is several years out,” he says. “However, preneed sales efforts are enabling the companies to grow faster near term, and there are meaningful economies of scale on higher revenues.”
Investors can collect a dividend, Willoughby adds, while awaiting the “inevitable volume opportunity.”
