Death and taxes are two certainties in life. It turns out that the death care industry is very essential when each person’s life comes to an end. It’s also a rather lucrative business that comes with at least some barriers to entry.
Service Corporation (NYSE: SCI) is the hands-down leader of the death care sector in North America. Joanna Gajuk at BofA sees big upside ahead, during and after the COVID-19 pandemic. She reinstated Service Corp. with a Buy rating and issued a $55 price objective.
The driving force of the call is not actually just because of an increase in COVID-19 related deaths. The issues of a pandemic preventing large gatherings in some ways has actually come with much lower margins than has been seen in the past as funerals and the gatherings and events around them are either much smaller or are not happening.
Wednesday’s call is primarily tied to Service Corp.’s resiliency combined with strong free cash flow and that the death care sector is relatively more resistant to pandemic disruptions and recession. One issue that has started to play into favor is that cemetery pre-need sales have started coming back and pricing for funerals has been stable.
Service Corp.’s own 2021 guidance now implies that its average growth will be above its long-term targets. The new guidance would imply 9% to 26% annualized revenue growth in the next couple of years rather than its 8% to 12% targets.
One issue to consider is that this call may still come with some lumpy results. BofA noted that high volumes in 2020 have likely created a headwind in 2021 as two-thirds of the volumes were likely pulled forward. On an earnings basis, the twenty-five cent hit to earnings per share (EPS) should be offset by several issues. Those would be improving average revenue per service (+$0.27), pre-need cemetery growth (+$0.04), debt refinancing (+$0.05), a more efficient cost structure, and finally by capital deployment.
Gajuk’s report said:
When states reopened and allowed gatherings, pre-need cemetery sales came back as evidenced in the strong Q3 print (+47% y/y). The pandemic is likely accelerating some pre-need transactions – 73% people believe it is important to pre-plan funeral and cemetery, up from 57% pre-pandemic. In addition, average funeral pricing held up well (-3.7% y/y, improved from Q2), underscoring the resiliency of the business and demand.
One additional areas that has helped is that Service Corp. did not suspend its dividend and the death care leader also kept up with ongoing stock buybacks. The move pointed that it has plenty of liquidity and leverage (3.4x) that will allow the company to continue to consolidate and conduct accretive acquisitions.
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Service Corp. closed at $48.95 ahead of the call, and that $55 price objective implies upside of 10.1% if Gajuk’s projections come to unfold. The dividend yield of 1.5% takes that to above 11.5% in implied upside for total return investors. The investment is considered to be a long-term call, but it is also viewed as being roughly a 30% discount to the S&P 500 earnings expectations. BofA’s investment rationale said:
Service Corporation International is a long-term investment in the U.S. aging demographics. While we wait for the aging wave to aid results in a more meaningful way, the company drives shareholder returns via continued share repurchases and increasing dividends while building a pipeline of revenue growth through pre-need sales. We believe the death care industry is relatively more resistant to the pandemic-related disruptions and a recession.
With an average daily volume of nearly 1 million shares, the most recent short interest report of 6.24 million shares represented more than 6.5 days to cover.
Shares of Service Corp. were last seen trading about 1.1% higher at $49.52. Refinitiv had a $52.00 consensus analyst target price and its 52-week range is $33.93 to $52.89.
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