FORM 10-Q
SECURITIES AND EXCHANGE COMMISSION
WASHINGTON, D. C. 20549
(X) QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE QUARTERLY PERIOD ENDED JUNE 30, 2003
or
( ) TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(D) OF THE SECURITIES
EXCHANGE ACT OF 1934
FOR THE TRANSITION PERIOD FROM TO
-------- --------
COMMISSION FILE NUMBER 1-6402-1
----------
SERVICE CORPORATION INTERNATIONAL
(Exact name of registrant as specified in charter)
TEXAS 74-1488375
(State or other jurisdiction of (I. R. S. employer
incorporation or organization) identification number)
1929 ALLEN PARKWAY, HOUSTON, TEXAS 77019
(Address of principal executive offices) (Zip code)
713-522-5141
(Registrant's telephone number, including area code)
----------
Indicate by check mark whether the registrant (1) has filed all reports required
to be filed by Section 13 or 15 (d) of the Securities Exchange Act of 1934
during the preceding 12 months and (2) has been subject to the filing
requirements for the past 90 days.
YES X NO
----- -----
Indicate by check mark whether the registrant is an accelerated filer (as
defined in the Securities Exchange Act of 1934 Rule 12b-2).
YES X NO
----- -----
The number of shares outstanding of the registrant's common stock as of August
4, 2003 was 300,460,098 (net of treasury shares).
SERVICE CORPORATION INTERNATIONAL
INDEX
<Table>
<Caption>
Page
Part I. Financial Information 3
Item 1. Financial Statements 3
Consolidated Statement of Operations -
Three and Six Months Ended June 30, 2003 and 2002 3
Consolidated Balance Sheet -
June 30, 2003 and December 31, 2002 4
Consolidated Statement of Cash Flows -
Six Months Ended June 30, 2003 and 2002 5
Consolidated Statement of Stockholders' Equity -
Six Months Ended June 30, 2003 6
Notes to Consolidated Financial Statements 7
Item 2. Management's Discussion and Analysis of Financial Condition and
Results of Operations 21
Introduction 21
Goals and Challenges 21
Critical Accounting Policies, Accounting Changes and New Accounting
Pronouncements 24
Results of Operations 25
Financial Condition, Liquidity and Capital Resources 30
Prearranged Funeral and Preneed Cemetery Activities 32
Cautionary Statement on Forward-Looking Statements 34
Item 3. Quantitative and Qualitative Disclosures about Market Risk 35
Item 4. Controls and Procedures 35
Part II. Other Information 35
Item 1. Legal Proceedings 35
Item 2. Changes in Securities and Use of Proceeds 36
Item 4. Submission of Matters to a Vote of Security Holders 36
Item 6. Exhibits and Reports on Form 8-K 36
Signature
</Table>
2
PART I. FINANCIAL INFORMATION
ITEM 1. FINANCIAL STATEMENTS
SERVICE CORPORATION INTERNATIONAL
CONSOLIDATED STATEMENT OF OPERATIONS
<Table>
<Caption>
Three months ended Six months ended
June 30, June 30,
------------------------------ ------------------------------
(In thousands, except per share amounts) 2003 2002 2003 2002
- ------------------------------------------------------------ ------------ ------------ ------------ ------------
Revenues ................................................... $ 586,242 $ 583,423 $ 1,166,335 $ 1,184,689
Costs and expenses ......................................... 491,824 492,150 959,362 974,252
------------ ------------ ------------ ------------
Gross profits .............................................. 94,418 91,273 206,973 210,437
General and administrative expenses ........................ (36,268) (19,592) (57,679) (35,323)
Gains and impairment (losses) on dispositions, net ......... (1,519) (187,709) 7,815 (190,621)
Other operating expenses ................................... (1,724) (40,807) (1,724) (40,807)
------------ ------------ ------------ ------------
Operating income (loss) .................................... 54,907 (156,835) 155,385 (56,314)
Interest expense ........................................... (36,121) (41,406) (73,517) (84,792)
Other income (expense), net ................................ 2,398 (1,984) 6,410 6,200
------------ ------------ ------------ ------------
Income (loss) before income taxes and cumulative effect
of accounting change .................................. 21,184 (200,225) 88,278 (134,906)
(Provision) benefit for income taxes ....................... (6,805) 57,210 (31,630) 38,740
------------ ------------ ------------ ------------
Income (loss) before cumulative effect of accounting
change ................................................ 14,379 (143,015) 56,648 (96,166)
Cumulative effect of accounting change (net of income
tax benefit of $11,234) ............................... -- -- -- (135,560)
------------ ------------ ------------ ------------
Net income (loss) ................................ $ 14,379 $ (143,015) $ 56,648 $ (231,726)
============ ============ ============ ============
Basic earnings (loss) per share:
Income (loss) before cumulative effect of
accounting change ....................... $ .05 $ (0.49) $ 0.19 $ (0.33)
Cumulative effect of accounting change ............ -- -- -- (0.46)
------------ ------------ ------------ ------------
Net income (loss) ....................... $ .05 $ (0.49) $ 0.19 $ (0.79)
============ ============ ============ ============
Diluted earnings (loss) per share:
Income (loss) before cumulative effect of
accounting change ....................... $ .05 $ (0.49) $ 0.18 $ (0.33)
Cumulative effect of accounting change ............ -- -- -- (0.46)
------------ ------------ ------------ ------------
Net income (loss) ....................... $ .05 $ (0.49) $ 0.18 $ (0.79)
============ ============ ============ ============
Basic weighted average number of shares .................... 299,351 293,872 298,563 293,263
============ ============ ============ ============
Diluted weighted average number of shares .................. 299,844 293,872 344,139 293,263
============ ============ ============ ============
</Table>
(See notes to consolidated financial statements)
3
SERVICE CORPORATION INTERNATIONAL
CONSOLIDATED BALANCE SHEET
<Table>
<Caption>
June 30, December 31,
(In thousands, except share and per share amounts) 2003 2002
------------ ------------
ASSETS
Current assets:
Cash and cash equivalents .................................................... $ 157,988 $ 200,625
Receivables, net of allowances ............................................... 261,829 291,765
Inventories .................................................................. 130,976 135,529
Other ........................................................................ 44,909 126,980
------------ ------------
Total current assets ....................................................... 595,702 754,899
------------ ------------
Prearranged funeral contracts ..................................................... 4,528,000 4,273,790
Long-term receivables, net of allowances .......................................... 1,124,239 1,156,458
Cemetery property, at cost ........................................................ 1,551,912 1,567,584
Property, plant and equipment, at cost (net) ...................................... 1,207,931 1,188,340
Deferred charges and other assets ................................................. 608,071 598,536
Goodwill .......................................................................... 1,198,195 1,184,178
------------ ------------
$ 10,814,050 $ 10,723,785
============ ============
LIABILITIES & STOCKHOLDERS' EQUITY
Current liabilities:
Accounts payable and accrued liabilities ..................................... $ 335,990 $ 361,910
Current maturities of long-term debt ......................................... 130,897 100,330
Income taxes ................................................................. 11,140 2,043
------------ ------------
Total current liabilities .................................................. 478,027 464,283
------------ ------------
Long-term debt .................................................................... 1,604,920 1,884,508
Deferred prearranged funeral contract revenues .................................... 4,907,234 4,659,994
Deferred preneed cemetery contract revenues ....................................... 1,646,513 1,672,661
Deferred income taxes ............................................................. 540,478 522,453
Other liabilities ................................................................. 220,900 216,115
Commitments and contingencies (note 6)
Stockholders' equity:
Common stock, $1 per share par value, 500,000,000 shares authorized,
299,987,535 and 297,010,237, issued and outstanding
(net of 2,469,445 and 2,516,396 treasury shares, at par) .............. 299,988 297,010
Capital in excess of par value ............................................... 2,266,955 2,259,936
Accumulated deficit .......................................................... (989,381) (1,046,029)
Accumulated other comprehensive loss ......................................... (161,584) (207,146)
------------ ------------
Total stockholders' equity ................................................ 1,415,978 1,303,771
------------ ------------
$ 10,814,050 $ 10,723,785
============ ============
</Table>
(See notes to consolidated financial statements)
4
SERVICE CORPORATION INTERNATIONAL
CONSOLIDATED STATEMENT OF CASH FLOWS
<Table>
<Caption>
Six months ended
June 30,
(In thousands) 2003 2002
---------- ----------
CASH FLOWS FROM OPERATING ACTIVITIES:
Net income (loss) ............................................................. $ 56,648 $ (231,726)
Adjustments to reconcile net income (loss) to net cash provided by operating
activities:
Cumulative effect of accounting change, net of tax ....................... -- 135,560
Depreciation and amortization ............................................ 84,357 87,453
Provision (benefit) for deferred income taxes ............................ 19,675 (50,902)
(Gains) and impairment losses on dispositions, net ....................... (7,815) 190,621
Other operating expenses ................................................. 1,724 40,807
Payments on restructuring charges ........................................ (6,332) (5,807)
(Gains) and losses on early extinguishments of debt, net ................. (1,903) 3,423
Changes in assets and liabilities, net of effects from dispositions:
Decrease in receivables ................................................ 56,167 13,445
Decrease in other assets ............................................... 43,149 16,137
Increase (decrease) in payables and other liabilities .................. 2,644 (50,120)
Other .................................................................. 8,149 (3,545)
Net effect of prearranged funeral production and maturities .............. (12,813) 13,029
---------- ----------
Net cash provided by operating activities ..................................... 243,650 158,375
CASH FLOWS FROM INVESTING ACTIVITIES:
Capital expenditures ..................................................... (47,678) (39,999)
Proceeds from divestitures and sales of property and equipment ........... 34,232 34,724
Proceeds and distributions from joint ventures and equity investments,
net of cash retained .................................................. 30,802 266,704
Net deposits of restricted funds ......................................... (37,336) (34,188)
Other .................................................................... -- 848
---------- ----------
Net cash (used in) provided by investing activities ........................... (19,980) 228,089
CASH FLOWS FROM FINANCING ACTIVITIES:
Net decrease in borrowings under credit agreements ....................... -- (29,061)
Payments of debt ......................................................... (83,469) (67,549)
Early extinguishments of debt ............................................ (175,515) (156,308)
Bank overdrafts and other ................................................ (11,201) 204
---------- ----------
Net cash used in financing activities ......................................... (270,185) (252,714)
Effect of foreign currency .................................................... 3,878 (613)
---------- ----------
Net (decrease) increase in cash and cash equivalents .......................... (42,637) 133,137
Cash and cash equivalents at beginning of period .............................. 200,625 29,292
---------- ----------
Cash and cash equivalents at end of period .................................... $ 157,988 $ 162,429
========== ==========
</Table>
(See notes to consolidated financial statements)
5
SERVICE CORPORATION INTERNATIONAL
CONSOLIDATED STATEMENT OF STOCKHOLDERS' EQUITY
<Table>
<Caption>
Accumulated
Capital in other
Common excess of Accumulated comprehensive
(In thousands) Stock par value deficit income (loss) Total
- ------------------------------------------ -------------- -------------- -------------- -------------- --------------
Balance at December 31, 2002 ............. $ 297,010 $ 2,259,936 $ (1,046,029) $ (207,146) $ 1,303,771
Comprehensive income:
Net income ........................... 56,648 56,648
Foreign currency translation ......... 45,562 45,562
--------------
Comprehensive income ................. 102,210
Common stock issued:
Contribution to employee 401(k) plan ... 2,772 6,605 9,377
Other .................................. 206 414 620
-------------- -------------- -------------- -------------- --------------
Balance at June 30, 2003 ................. $ 299,988 $ 2,266,955 $ (989,381) $ (161,584) $ 1,415,978
============== ============== ============== ============== ==============
</Table>
(See notes to consolidated financial statements)
6
SERVICE CORPORATION INTERNATIONAL
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS
(DOLLARS IN THOUSANDS, EXCEPT PER SHARE AMOUNTS)
1. NATURE OF OPERATIONS
Service Corporation International (SCI or the Company) is the largest provider
of funeral and cemetery services in the world through its funeral service and
cemetery operations. At June 30, 2003, the Company operated 2,259 funeral
service locations, 431 cemeteries and 188 crematoria located in eight countries.
The Company also has minority interest equity investments in funeral and
cemetery operations in countries outside of North America.
The funeral service and cemetery operations consist of the Company's funeral
service locations, cemeteries, crematoria and related businesses. Company
personnel at the funeral service locations provide all professional services
relating to funerals, including the use of funeral facilities and motor
vehicles. Funeral related merchandise is sold at funeral service locations and
certain funeral service locations contain crematoria. The Company sells
prearranged funeral services whereby a customer contractually agrees to the
terms of a funeral to be performed in the future. The Company's cemeteries
provide cemetery property interment rights (including mausoleum spaces, lots and
lawn crypts) and sell cemetery related merchandise. Cemetery items are sold on
an atneed or preneed basis. Company personnel at cemeteries perform interment
services and provide management and maintenance of cemetery grounds. Certain
cemeteries also operate crematoria. There are 186 combination locations that
contain a funeral service location within a Company owned cemetery.
2. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES
Principles of Consolidation: The consolidated financial statements for the three
and six months ended June 30, 2003 and 2002 include the accounts of the Company
and all majority-owned subsidiaries and are unaudited but include all
adjustments, consisting of normal recurring accruals and any other adjustments
which management considers necessary for a fair presentation of the results for
these periods. These consolidated financial statements have been prepared in a
manner consistent with the accounting policies described in the annual report on
Form 10-K filed with the U. S. Securities and Exchange Commission for the year
ended December 31, 2002, unless otherwise disclosed herein, and should be read
in conjunction therewith. The accompanying year-end consolidated balance sheet
was derived from the audited consolidated financial statements but does not
include all disclosures required by accounting principles generally accepted in
the United States of America. Operating results for interim periods are not
necessarily indicative of the results that may be expected for the full year
period.
The Company has reclassified certain prior year amounts to conform to the
current period financial presentation with no effect on previously reported
results of operations, financial condition or cash flows.
Use of Estimates in the Preparation of Financial Statements: The preparation of
the consolidated financial statements in conformity with accounting principles
generally accepted in the United States of America requires management to make
estimates and assumptions that may affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the consolidated financial statements and the reported amounts of revenues and
expenses during the reporting periods. As a result, actual results could differ
from these estimates.
During the second quarter of 2002, the Company decided to implement new
information technology systems, including a new North America point of sale
system and an upgraded general ledger system. As a result of this decision, the
Company accelerated amortization of its existing capitalized systems costs
beginning in the second quarter of 2002 in order to reflect the estimated
remaining useful lives of these systems. The Company recognized approximately
$4,700 of additional amortization related to this change in estimate during the
six months ended June 30, 2003 compared to the same period of 2002.
7
3. ACCOUNTING CHANGES AND NEW ACCOUNTING PRONOUNCEMENTS
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." SFAS No. 143 addresses obligations associated with the retirement
of tangible long-lived assets and associated asset retirement costs. Under the
provisions of SFAS No. 143, the fair value of a liability for an asset
retirement obligation should be recognized in the period in which it is
incurred, if a reasonable estimate can be made. The associated costs are
capitalized as part of the carrying amount of the long-lived asset and are
allocated to expense over the useful life of the asset. The Company adopted SFAS
No. 143 during the first quarter of 2003 with no effect on its results of
operations, financial condition or cash flows.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." The Company adopted SFAS No. 145 during the first quarter of 2003
as it relates to the classification of extinguishments of debt for all periods
presented. SFAS No. 145 eliminates the requirement that gains and losses from
the extinguishment of debt be aggregated and classified as extraordinary items
as well as certain other items. Gains and losses from early extinguishments of
debt are included in Other income in the consolidated statement of operations
for all periods presented. The Company recorded $1,903 as gains from the early
extinguishment of debt in Other income for the six months ended June 30, 2003
and has reclassified $3,423 related to the prior year period to Other income,
which was previously reported as an extraordinary loss. The other provisions of
SFAS No. 145 were generally effective for transactions occurring after May 15,
2002.
In November 2002, the FASB issued FASB Interpretation No. 45 (FIN No. 45),
"Guarantor's Accounting Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others, an Interpretation of FASB
Statements No. 5, 57 and 107 and Rescission of FASB Interpretation No. 34." FIN
No. 45 clarifies the disclosures required by a guarantor about its obligations
and it requires guarantors to recognize a liability at fair value at the time of
issuance. The provisions for initial recognition and measurement are applicable
on a prospective basis to guarantees issued or modified after December 31, 2002.
The disclosure requirements were effective for financial statements for periods
that end after December 15, 2002. There have been no material changes in the
guarantees related to FIN No. 45 since December 31, 2002.
In January 2003, the FASB issued FASB Interpretation No. 46 (FIN No. 46),
"Consolidation of Variable Interest Entities, an Interpretation of Accounting
Research Bulletin (ARB) No. 51." FIN No. 46 clarifies the application of ARB No.
51, Consolidated Financial Statements, to certain entities in which equity
investors do not have the characteristics of a controlling financial interest or
do not have sufficient equity at risk for the entity to finance its activities
without additional subordinated financial support from other parties. FIN No. 46
defines the terms related to variable interest entities and clarifies if such
entities should be consolidated. The provisions of FIN No. 46 are effective
immediately for all enterprises with variable interests in variable interest
entities created after January 31, 2003. A public entity with a variable
interest in a variable interest entity created before February 1, 2003 shall
apply the provisions of FIN No. 46 in the first fiscal year or interim period
beginning after June 15, 2003. As a result of the adoption of FIN No. 46, the
Company believes it will be required to consolidate, as of July 1, 2003, its
prearranged funeral, cemetery merchandise and services and endowment care trust
funds, as well as certain cemeteries managed, but not owned, by the Company. The
Company is currently assessing the impact, if any, on its results of operations,
financial condition or cash flows as a result of potentially consolidating such
trust funds. However, the Company believes it will recognize an asset and equal
liability in its Consolidated Balance Sheet of approximately $630 million as a
result of consolidating the endowment care trust funds. The Company also
believes, however, it will recognize a pretax charge of approximately $20 to $30
million representing the cumulative effect of an accounting change in the third
quarter of 2003, primarily as a result of consolidating certain cemeteries not
owned by the Company.
8
4. DEBT
<Table>
<Caption>
June 30, 2003 December 31, 2002
------------------ ------------------
6.3% notes due 2003 ............................................................ $ -- $ 84,801
7.375% notes due April 2004 .................................................... 111,190 111,190
8.375% notes due December 2004 ................................................. 50,797 50,797
6.0% notes due 2005 ............................................................ 281,717 387,241
7.2% notes due 2006 ............................................................ 150,000 150,000
6.875% notes due 2007 .......................................................... 146,300 150,000
6.5% notes due 2008 ............................................................ 195,000 200,000
6.75% convertible subordinated notes due 2008, conversion price of
$6.92 per share ............................................................. 312,694 328,005
7.7% notes due 2009 ............................................................ 358,356 371,183
6.95% amortizing notes due 2010 ................................................ 16,260 42,106
7.875% debentures due 2013 ..................................................... 55,627 55,627
Convertible debentures, maturities through 2013, fixed interest rates
from 4.75% to 5.5%, conversion prices from $12.55 to $50.00 per share ....... 39,171 39,531
Mortgage notes and other debt, maturities through 2050 ......................... 72,982 76,758
Deferred loan costs and net hedging losses ..................................... (54,277) (62,401)
------------------ ------------------
Total debt ................................................................ 1,735,817 1,984,838
Less current maturities ................................................... (130,897) (100,330)
------------------ ------------------
Total long-term debt ............................................... $ 1,604,920 $ 1,884,508
================== ==================
</Table>
Bank Credit Agreements
The Company's bank credit agreement matures in July 2005 and provides a total
commitment of $185,000, including a sublimit of $125,000 to support letters of
credit. The credit facility is secured by the stock, inventory and receivables
of certain of the Company's domestic subsidiaries and these domestic
subsidiaries have guaranteed the Company's debt obligation associated with this
facility. The bank credit agreement contains certain financial covenants,
including a minimum interest coverage ratio, a maximum leverage ratio and limits
on capital expenditures. Additionally, the Company is restricted from paying
dividends and making other distributions. The Company had no borrowings under
the bank credit agreement at either June 30, 2003 or December 31, 2002; however,
the Company used the credit agreement sublimit to support letters of credit, in
the amounts of $81,215 and $85,845, at June 30, 2003 and December 31, 2002,
respectively. Interest rates for outstanding borrowings are based on various
indices as determined by the Company. The Company also pays a quarterly fee on
the unused commitment, ranging from 0.50% to 0.75%, which is based on the
percentage of the facility used and was 0.625% at June 30, 2003 and at December
31, 2002.
Settlements and Extinguishments of Debt
During the six months ending June 30, 2003, the Company purchased the following
notes in the open market: $8,528 of the 6.3% notes due 2003; $105,524 of the
6.0% notes due 2005; $3,700 of the 6.875% notes due 2007; $5,000 of the 6.5%
notes due 2008; $15,311 of the 6.75% notes due 2008; $12,827 of the 7.7% notes
due 2009; $25,031 of the 6.95% amortizing notes due 2010; and the remaining $25
of the 7.0% notes due 2015. As a result of these transactions, the Company
recognized a net gain for the first half of 2003 of $1,903 recorded in Other
income in the consolidated statement of operations.
In March 2003, as required by the terms of the agreement, the Company
repaid the remaining $76,273 due on the 6.30% notes due in 2003.
9
Additional Debt Disclosures
The Company's consolidated debt had a weighted average interest rate of 6.95% at
June 30, 2003 compared to 6.87% at December 31, 2002. Approximately 99% of the
Company's total outstanding debt had a fixed interest rate at June 30, 2003 and
December 31, 2002.
At June 30, 2003 and December 31, 2002, the Company had deposited $60,928
and $23,592, respectively, in restricted interest-bearing accounts, held as
collateral for various credit instruments, which is included in Deferred charges
and other assets in the consolidated balance sheet.
5. SEGMENT REPORTING
The Company's operations are both product and geographically based, and the
reportable operating segments presented below include funeral and cemetery
operations. The Company's geographic segments include North America, Europe and
Other Foreign. The Company conducts funeral and cemetery operations in its North
America and Other Foreign segments and conducts funeral operations in its
European segment. In the first quarter of 2002, the Company completed a joint
venture with respect to its United Kingdom operations which conducted both
funeral and cemetery operations in its European segment.
The Company has reclassified certain prior year amounts to conform to the
current period presentation with no effect on previously reported results of
operations, financial condition or cash flows.
The Company's reportable segment information is as follows:
<Table>
<Caption>
Reportable
Funeral Cemetery Segments
- ---------------------------------------------------- ------------ ------------ ------------
Revenues from external customers:
Three months ended June 30,
2003 .......................................... $ 427,567 $ 158,675 $ 586,242
2002 .......................................... $ 406,806 $ 176,617 $ 583,423
Six months ended June 30,
2003 .......................................... $ 866,854 $ 299,481 $ 1,166,335
2002 .......................................... $ 855,147 $ 329,542 $ 1,184,689
- ---------------------------------------------------- ------------ ------------ ------------
Gross profits:
Three months ended June 30,
2003 .......................................... $ 67,576 $ 26,842 $ 94,418
2002 .......................................... $ 65,762 $ 25,511 $ 91,273
Six months ended June 30,
2003 .......................................... $ 154,825 $ 52,148 $ 206,973
2002 .......................................... $ 166,547 $ 43,890 $ 210,437
- ---------------------------------------------------- ------------ ------------ ------------
</Table>
10
The following table reconciles gross profits from reportable segments to
the Company's consolidated income (loss) before income taxes and cumulative
effect of accounting change:
<Table>
<Caption>
Three months ended Six months ended
June 30, June 30,
--------------------------- ---------------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
Gross profits from reportable segments .......................... $ 94,418 $ 91,273 $ 206,973 $ 210,437
General and administrative expenses ....................... (36,268) (19,592) (57,679) (35,323)
Gains and impairment (losses) on dispositions, net ........ (1,519) (187,709) 7,815 (190,621)
Other operating expenses .................................. (1,724) (40,807) (1,724) (40,807)
---------- ---------- ---------- ----------
Operating income (loss) ......................................... 54,907 (156,835) 155,385 (56,314)
Interest expense .......................................... (36,121) (41,406) (73,517) (84,792)
Other income (expense), net ............................... 2,398 (1,984) 6,410 6,200
---------- ---------- ---------- ----------
Income (loss) before income taxes and cumulative effect of
accounting change .......................................... $ 21,184 $ (200,225) $ 88,278 $ (134,906)
========== ========== ========== ==========
</Table>
11
The Company's geographic segment information is as follows:
<Table>
<Caption>
North Other
America Europe Foreign Total
- ---------------------------------------------------------- ------------ ------------ ------------ ------------
Revenues from external customers:
Three months ended June 30,
2003 .............................................. $ 433,217 $ 142,036 $ 10,989 $ 586,242
2002 .............................................. $ 460,116 $ 113,925 $ 9,382 $ 583,423
Six months ended June 30,
2003 .............................................. $ 867,597 $ 279,293 $ 19,445 $ 1,166,335
2002 .............................................. $ 922,588 $ 243,175 $ 18,926 $ 1,184,689
- ---------------------------------------------------------- ------------ ------------ ------------ ------------
Operating income (loss):
Three months ended June 30,
2003 .............................................. $ 35,426 $ 16,247 $ 3,234 $ 54,907
2002 .............................................. $ (154,967) $ 11,574 $ (13,442) $ (156,835)
Six months ended June 30,
2003 .............................................. $ 116,419 $ 33,946 $ 5,020 $ 155,385
2002 .............................................. $ (74,901) $ 30,071 $ (11,484) $ (56,314)
- ---------------------------------------------------------- ------------ ------------ ------------ ------------
Gains and impairment (losses) on dispositions, net:
Three months ended June 30,
2003 .............................................. $ (470) $ (1,049) $ -- $ (1,519)
2002 .............................................. $ (171,686) $ 214 $ (16,237) $ (187,709)
Six months ended June 30,
2003 .............................................. $ 10,191 $ (2,376) $ -- $ 7,815
2002 .............................................. $ (174,635) $ 251 $ (16,237) $ (190,621)
- ---------------------------------------------------------- ------------ ------------ ------------ ------------
Other operating expenses:
Three months ended June 30,
2003 .............................................. $ (1,724) $ -- $ -- $ (1,724)
2002 .............................................. $ (40,807) $ -- $ -- $ (40,807)
Six months ended June 30,
2003 .............................................. $ (1,724) $ -- $ -- $ (1,724)
2002 .............................................. $ (40,807) $ -- $ -- $ (40,807)
- ---------------------------------------------------------- ------------ ------------ ------------ ------------
Depreciation and amortization:
Three months ended June 30,
2003 .............................................. $ 43,287 $ -- $ 128 $ 43,415
2002 .............................................. $ 47,723 $ -- $ -- $ 47,723
Six months ended June 30,
2003 .............................................. $ 84,111 $ -- $ 246 $ 84,357
2002 .............................................. $ 87,453 $ -- $ -- $ 87,453
- ---------------------------------------------------------- ------------ ------------ ------------ ------------
Operating locations at June 30,:
2003 .............................................. 1,833 1,022 23 2,878
2002 .............................................. 1,897 1,156 26 3,079
- ---------------------------------------------------------- ------------ ------------ ------------ ------------
</Table>
12
Included in the North America figures above are the following United States
amounts:
<Table>
<Caption>
Three months ended Six months ended
June 30, June 30,
------------------------- -------------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
Revenues from external customers ....... $ 413,563 $ 441,746 $ 829,417 $ 885,077
Operating income (loss) ................ $ 29,412 $ (157,570) $ 106,551 $ (82,273)
Depreciation and amortization .......... $ 41,833 $ 46,515 $ 81,421 $ 85,005
Operating locations at June 30, ........ 1,678 1,750
</Table>
Included in the European figures above are the following French amounts:
<Table>
<Caption>
Three months ended Six months ended
June 30, June 30,
------------------------- -------------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
Revenues from external customers ....... $ 140,215 $ 112,132 $ 275,648 $ 223,652
Operating income ....................... $ 14,757 $ 11,647 $ 33,503 $ 27,647
Operating locations at June 30, ........ 1,006 1,138
</Table>
During the six months ended June 30, 2003 and throughout 2002, the Company
divested certain North America and international funeral service locations and
cemeteries not considered part of its core operations. These divested operations
do not qualify as discontinued operations under SFAS No. 144, "Accounting for
the Impairment or disposal of Long Lived Assets," because either the divested
operations were held for sale in accordance with previous accounting
pronouncements related to dispositions or they do not meet the criteria as
defined in SFAS No. 144. Revenue and gross profit information of the Company's
divested operations for the three and six months ended June 30, 2003 and 2002
are as follows:
<Table>
<Caption>
North America Europe
------------------------------------------------------- ------------------------------------------------------
Three months ended Six months ended Three months ended Six months ended
June 30, June 30, June 30, June 30,
--------------------------- -------------------------- -------------------------- --------------------------
2003 2002 2003 2002 2003 2002 2003 2002
------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------
Revenues:
Funeral ...... $ 792 $ 8,232 $ 3,523 $ 20,465 $ -- $ -- $ -- $ 14,284
Cemetery ..... -- 5,129 658 9,872 -- -- -- 2,190
------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------
$ 792 $ 13,361 $ 4,181 $ 30,337 $ -- $ -- $ -- $ 16,474
============ ============ ============ ============ ============ ============ ============ ============
Gross Profits:
Funeral ...... $ (923) $ (1,153) $ (1,952) $ (1,046) $ -- $ -- $ -- $ 3,359
Cemetery ..... (827) 1,675 (1,294) 2,057 -- -- 740
------------ ------------ ------------ ------------ ------------ ------------ ------------ ------------
$ (1,750) $ 522 $ (3,246) $ 1,011 $ -- $ -- $ -- $ 4,099
============ ============ ============ ============ ============ ============ ============ ============
</Table>
13
<Table>
<Caption>
Other Foreign Total
-------------------------------------------- -----------------------------------------------
Three months ended Six months ended Three months ended Six months ended
June 30, June 30, June 30, June 30,
-------------------- -------------------- --------------------- ---------------------
2003 2002 2003 2002 2003 2002 2003 2002
-------- -------- -------- -------- -------- -------- -------- --------
Revenues:
Funeral .... $ -- $ -- $ -- $ -- $ 792 $ 8,232 $ 3,523 $ 34,749
Cemetery ... -- -- -- -- -- 5,129 658 12,062
-------- -------- -------- -------- -------- -------- -------- --------
$ -- $ -- $ -- $ -- $ 792 $ 13,361 $ 4,181 $ 46,811
======== ======== ======== ======== ======== ======== ======== ========
Gross Profits:
Funeral .... $ -- $ -- $ -- $ -- $ (923) $ (1,153) $ (1,952) $ 2,313
Cemetery ... -- -- -- -- (827) 1,675 (1,294) 2,797
-------- -------- -------- -------- -------- -------- -------- --------
$ -- $ -- $ -- $ -- $ (1,750) $ 522 $ (3,246) $ 5,110
======== ======== ======== ======== ======== ======== ======== ========
</Table>
6. COMMITMENTS AND CONTINGENCIES
The Company is a party to various litigation matters, investigations and
proceedings. The Company reserves for estimated losses relating to these
contingencies if amounts can be reasonably estimated and are probable to occur.
The following discussion describes certain litigation and proceedings as of
August 6, 2003.
In Re Service Corporation International; Cause No. H-99-0280; In the United
States District Court for the Southern District of Texas, Houston Division (the
Consolidated Lawsuit). The Consolidated Lawsuit was filed in January 1999 and
includes numerous separate lawsuits that were filed in various United States
District Courts in Texas. The Consolidated Lawsuit has been certified as a class
action and names as defendants the Company and three of the Company's current or
former executive officers or directors (the Individual Defendants).
The Consolidated Lawsuit has been brought on behalf of all persons and
entities who (i) acquired shares of Company common stock in the merger of a
wholly-owned subsidiary of the Company into Equity Corporation International
(ECI); (ii) purchased shares of Company common stock in the open market during
the period from July 17, 1998 through January 26, 1999 (the Class Period); (iii)
purchased Company call options in the open market during the Class Period; (iv)
sold Company put options in the open market during the Class Period; (v) held
employee stock options in ECI that became options to purchase Company common
stock pursuant to the merger; and (vi) held Company employee stock options to
purchase Company common stock under a stock plan during the Class Period.
Excluded from the class definition categories are the Individual Defendants, the
members of their immediate families and all other persons who were directors or
executive officers of the Company or its affiliated entities at any time during
the Class Period (with one amendment by the Court to include James P. Hunter,
III as a class member). Mr. Hunter was the Chairman, President and Chief
Executive Officer of ECI at the time of its merger with a wholly-owned
subsidiary of the Company.
The plaintiffs in the Consolidated Lawsuit allege that defendants violated
federal securities laws by making materially false and misleading statements and
failing to disclose material information concerning the Company's prearranged
funeral business. The Consolidated Lawsuit seeks to recover an unspecified
amount of monetary damages. Since the litigation is in its preliminary stages
and no discovery has occurred, the Company cannot quantify its ultimate
liability, if any, for the payment of damages or predict the outcome of the
litigation. However, the Company believes that the allegations in the
Consolidated Lawsuit do not provide a basis for the recovery of damages because
the Company made all required disclosures on a timely basis. The Company intends
to aggressively defend this lawsuit. At the Court's direction, meetings were
held in 2001 between the parties and their insurers to discuss possible
resolution of the case, but no progress was made. A Motion to Dismiss the
Consolidated Lawsuit filed by the Company and the Individual Defendants is
pending before the Court.
14
On November 5, 2002, James P. Hunter, III and the James P. Hunter, III
Family Trust filed a demand for arbitration styled Case No. 70 Y 168 00717 02;
James P. Hunter, III and the James P. Hunter, III Family Trust v. Service
Corporation International, Robert L. Waltrip, L. William Heiligbrodt, and George
R. Champagne; before the American Arbitration Association in Houston, Texas. The
Hunter plaintiffs asserted claims against the Company and the Individual
Defendants with respect to the Company's merger with ECI in 1999. Hunter also
individually asserted claims that he was instructed to resign as an officer of
the Company several months after the merger and suffered lost income as a
result. The arbitration was held in June 2003. On August 6, 2003, the Company
received the decision of the arbitration panel in the Hunter arbitration. The
amount of the award made under Texas securities laws was approximately $27.8
million comprising amounts relating to ECI stock and ECI stock options held by
claimants, and attorney fees. The arbitration panel made no finding that the
Company knew or should have known of facts that should have been disclosed to
claimants. As a result of this decision, the Company recognized $15.0 million in
general and administrative expenses in the second quarter of 2003. The
recognition of this amount was necessary principally because one of the
Company's insurance carriers that would have covered a portion of this decision
is insolvent. The Company is reviewing the impact, if any, the Hunter award may
have on other pending litigation.
Several other lawsuits have been filed against the Company, the Individual
Defendants and other defendants, including, in the first and second lawsuits
listed below, the Company's independent accountants, PricewaterhouseCoopers,
LLP, in Texas state courts by former ECI shareholders, officers and directors.
These lawsuits include the following matters:
No. 2000-63917; Jack T. Hammer v. Service Corporation International,
et al.; In the 165th Judicial District Court of Harris County, Texas
("Hammer" matter);
No. 33701-01-01; Jack D. Rottman v. Service Corporation International,
et al.; In the District Court of Angelina County, Texas ("Rottman" matter);
and
No. 31820-99-2; Charles Fredrick, Individually, and as a Representative
of the Class v. Service Corp. International; In the District Court of
Angelina County, Texas.
These lawsuits allege, among other things, violations of Texas securities
law and statutory and common law fraud, and seek unspecified compensatory and
exemplary damages. Since these lawsuits are in their preliminary stages and no
discovery has occurred, the Company cannot quantify its ultimate liability, if
any, for the payment of damages or predict the outcome of these lawsuits.
However, the Company believes the allegations in these lawsuits, like those in
the Consolidated Lawsuit, do not provide a basis for the recovery of damages
because all required disclosures were made on a timely basis. The Company
intends to aggressively defend this litigation. The Company is seeking
arbitration in the Hammer and Rottman matters.
In the Hammer matter, the Texas state district court ordered the case to
arbitration. To date, no further action has occurred. No arbitration demand has
been filed.
Copies of certain pleadings in these cases are filed as exhibits to this
report.
Certain insurance policies held by the Company to cover potential director
and officer liability may reduce cash outflows with respect to an adverse
outcome of the above lawsuits. If an adverse decision in these matters exceeds
the insurance coverage or if the insurance coverage is deemed not to apply to
these matters, an adverse decision could have a material adverse effect on the
Company, its financial condition, results of operations or cash flows.
Thomas G. Conway et al v. Service Corporation International, et al; Cause
No. CV-02-2818; In the United States District Court for the Eastern District of
New York, filed May 10, 2002 and Demand for Arbitration, No. 13 168 02061 02,
before the American Arbitration Association ("AAA")("Conway" action). The Conway
action was filed against the Company and two former officers of the Company who
were also former officers of ECI, James P. Hunter III ("Hunter") and Jack D.
Rottman ("Rottman"). On August 28, 2002, the Conway plaintiffs filed a Demand
for Arbitration and Statement of Claim against the Company, ECI and SCI Delaware
Funeral Services, Inc., a subsidiary of the Company ("SCI Delaware"), in New
York City. The American Arbitration Association ruled that the arbitration would
be conducted in Houston, Texas. The Conway plaintiffs have indicated that they
will refuse to recognize the transfer on the grounds that it is improper to
conduct the arbitration in Houston, Texas. The Company, ECI and SCI Delaware
have initiated an action in the United States District Court for the Southern
District of Texas to compel the Conway plaintiffs to arbitrate their claims in
Houston, Texas.
The plaintiffs in the Conway action owned funeral homes in Queens County and
Suffolk County, New York, which were sold and merged into a subsidiary of ECI in
July 1998. The plaintiffs are also included in the definition of class members
in the Consolidated Lawsuit described above. In the Conway action, plaintiffs
assert that ECI failed to disclose that ECI was negotiating the merger with
15
the Company in breach of covenants in the agreements between ECI and the
plaintiffs. ECI purchased the plaintiffs' funeral homes with ECI stock and cash,
and the Plaintiffs' ECI stock was exchanged for stock in the Company in the
merger of January 1999. Plaintiffs allege damages from the loss in value of the
Company's stock from 1999 to the present. The plaintiffs seek to recover
compensatory damages alleged at a minimum of $8 million and punitive damages
alleged at a minimum of $14 million. The plaintiffs allege that SCI and SCI
Delaware are liable as the alleged "successor" entities to ECI.
Since the arbitration is in its preliminary stages and no discovery has
occurred, the Company cannot quantify the ultimate liability of the Company or
its subsidiaries, if any, for the payment of damages or predict the outcome of
the litigation. However, the Company and its subsidiaries believe that the
allegations in the Conway action do not provide a basis for recovery of damages
on several legal grounds. The Company and its subsidiaries intend to
aggressively defend this lawsuit.
Shareholder Derivative Demand; The Company received a letter dated January
14, 2002, addressed to the Board of Directors, from a law firm stating that it
represented a shareholder of the Company. The letter asserts a shareholder
derivative demand that the Company takes legal action against its directors and
officers based upon alleged conduct that is the subject of:
(1) a putative class action lawsuit filed on December 19, 2001, in
Broward County, Florida against the Company and one of its subsidiaries;
(2) a lawsuit filed against the Company by former employees of the
Company in Atlanta, Georgia; and
(3) certain events described in newspaper articles referred to in the
plaintiffs' consolidated complaint in the Consolidated Lawsuit (described
above).
The Board of Directors responded to the letter by forming a committee of
certain independent directors to conduct an inquiry into the allegations in the
letter. The committee retained independent counsel to assist it in its inquiry.
The letter does not seek a specified amount of legal damages. Based on its
investigation, the Committee determined that a lawsuit or derivative proceeding
against the directors or officers of SCI is not in the best interest of SCI. The
Committee reported its decision to the Executive Committee of the Board of
Directors on September 11, 2002.
Maurice Levie, Derivatively on behalf of Nominal Defendant, Service
Corporation International v. R. L. Waltrip, et al and Service Corporation
International; No. 2002-42417; In the 164th Judicial District Court of Harris
County, Texas, filed August 20, 2002 ("Levie" action). The Levie action was
filed against the Company and the members of its Board of Directors individually
as a result of the Shareholder Derivative Demand of January 14, 2002, described
above. In response to the filing of the lawsuit before the conclusion of the
Committee's investigation, the Company and the individual directors filed an
answer denying the allegations in the lawsuit and a motion to dismiss.
Since the litigation is in its preliminary stages, the Company cannot
quantify its ultimate liability or that of its individual directors, if any, for
the payment of damages or predict the outcome of the litigation. However, the
Company and the individual directors believe that the allegations in the Levie
action do not provide a basis for recovery of damages on several legal grounds.
The Company and the individual directors intend to aggressively defend this
lawsuit. The Company filed the motion to dismiss the entire lawsuit against it
and individual directors based on the results of the investigation and
determination of the Committee in response to the shareholder demand letter.
This motion is currently pending before the trial court.
Joan Light, Shirley Eisenbert and Carol Prisco v. SCI Funeral Services of
Florida, Inc. d/b/a Menorah Gardens & Funeral Chapels, and Service Corporation
International; Case No. 01-21376 CA 08; In the Circuit Court of the 17th
Judicial Circuit in and for Broward County, Florida, General Jurisdiction
Division (the Consumer Lawsuit). The Consumer Lawsuit was filed December 19,
2001 and names the Company and a subsidiary as defendants. It is a putative
class action which has not been certified. A hearing on the Motion for Class
Certification has taken place but a ruling has not been made by the trial judge.
The Consumer Lawsuit has been brought on behalf of all persons with burial
plots or family members buried at Menorah Gardens & Funeral Chapels in Florida.
Excluded from the class definition are persons whose claims have been reduced to
judgment or have been settled as of the date of class certification.
16
The plaintiffs allege that defendants have failed to exercise reasonable
care in handling remains by secretly: (i) dumping remains in a wooded area; (ii)
burying remains in locations other than the ones purchased; (iii) crushing
vaults to make room for other vaults; (iv) burying remains on top of the other
or head to foot rather than side-by-side; (v) moving remains; and (vi)
co-mingling remains.
The plaintiffs in the Consumer Lawsuit allege that the above conduct
constitutes negligence, tortious interference with the handling of dead bodies,
infliction of emotional distress, and violation of industry specific state
statutes, as well as the state's Deceptive and Unfair Trade Practices Act. The
plaintiffs seek an unspecified amount of compensatory and punitive damages. The
Court has granted plaintiffs' motion for leave to amend their complaint to
include punitive damages. Plaintiffs also seek equitable/injunctive relief in
the form of a permanent injunction requiring defendants to fund a court
supervised program that provides for monitoring and studying of the cemetery and
any disturbed remains to insure their proper disposition.
Nine individual claimants that were originally part of the putative class in
the Consumer Lawsuit, and three additional persons, have filed ten separate
lawsuits setting forth individual claims. These individual claimants are
represented by counsel for plaintiffs in the Consumer Lawsuit.
On April 21, 2002, additional plaintiffs filed a lawsuit styled Sol
Guralnick, Linda Weiner, Joan Nix, Gilda Schwartz, Paul Schwartz, Ann Ferrante,
Steve Schwartz, Nancy Backlund, Jamie Osit, Corey King, Marc King, Barbara
Feinberg Clark v. SCI Funeral Services of Florida, Inc. d/b/a Menorah Gardens
and Funeral Chapels and Service Corporation International; In the Circuit Court
in the 15th Judicial Circuit, Palm Beach County, Florida; Case number CA024815AE
(the Guralnick Lawsuit), making essentially the same allegations as the Consumer
Lawsuit with the exception that it does not contain class allegations.
Since the Consumer and Guralnick Lawsuits, and related discovery, are in
preliminary stages, the Company cannot quantify its ultimate liability, if any,
for the payment of damages or predict the outcome of the litigation. The Company
intends to continue its investigation and to aggressively defend itself in the
litigation as well as continue to cooperate with state officials in resolving
the issues presented. The Company has insurance policies which are intended to
limit the Company's outflows in the event of a decision adverse to the Company
in the Consumer Lawsuit, the Guralnick Lawsuit and related lawsuits. If an
adverse decision in these matters exceeds the Company's insurance coverage or if
the insurance coverage is deemed not to apply to these matters, an adverse
decision could have a material adverse effect on the Company, its financial
condition, results of operations or cash flows.
In addition to the litigation described above, the Florida Attorney General
and State Comptroller filed an action against the Company on March 1, 2002
styled Office of the Attorney General, Department of Legal Affairs, State of
Florida and Office of the Comptroller, Department of Banking and Finance, State
of Florida v. Service Corporation International, a Texas Corporation and SCI
Funeral Services of Florida, Inc., a Florida Corporation doing business as
Menorah Gardens & Funeral Chapels; Case No. CA 02-02666AG; In the Circuit Court
of the 15th Judicial Circuit in and for Palm Beach County, Florida (the AG
Lawsuit).
The AG Lawsuit alleged similar claims as the Consumer Lawsuit including that
defendants conducted their business through the willful use of false and
deceptive representations regarding: (i) the certainty of plot location and
size; (ii) the permanence of interment; and (iii) the nature and quality of the
care that defendants intended to provide.
The AG Lawsuit was settled on May 2, 2003. This settlement was made without
any admissions or finding of fault and included the Company agreeing to certain
remedial measures as well as agreeing to make payments totaling $6 million.
In addition, on May 21, 2003, the Special Assistant State Attorney for Palm
Beach County, Florida, filed criminal charges against the Company, a Florida
subsidiary and certain individuals. The criminal charges involve allegations of
misconduct by the Company and its Florida subsidiary, including allegations
similar to those in the Consumer Lawsuit. The Company intends to vigorously
defend its interests in this matter.
17
7. EARNINGS PER SHARE
A reconciliation of the numerators and denominators of the basic and diluted
earnings per share computations is presented below:
<Table>
<Caption>
Three months ended Six months ended
June 30, June 30,
---------- ---------- ---------- ----------
2003 2002 2003 2002
---------- ---------- ---------- ----------
Income (loss) before cumulative effect of accounting
change (numerator):
Income (loss) before cumulative effect of accounting
change - basic ......................................... $ 14,379 $ (143,015) $ 56,648 $ (96,166)
After tax interest on convertible debt ............... -- -- 6,649 --
---------- ---------- ---------- ----------
Income (loss) before cumulative effect of accounting
change - diluted ...................................... $ 14,379 $ (143,015) $ 63,297 $ (96,166)
---------- ---------- ---------- ----------
Net income (loss) (numerator):
Net income (loss) - basic .................................. $ 14,379 $ (143,015) $ 56,648 $ (231,726)
After tax interest on convertible debt ..................... -- -- 6,649 --
---------- ---------- ---------- ----------
Net income (loss) - diluted ................................ $ 14,379 $ (143,015) $ 63,297 $ (231,726)
---------- ---------- ---------- ----------
Shares (denominator):
Shares - basic ............................................. 299,351 293,872 298,563 293,263
Stock options ......................................... 493 -- 381 --
Convertible debt ...................................... -- -- 45,195 --
---------- ---------- ---------- ----------
Shares - diluted ........................................... 299,844 293,872 344,139 293,263
---------- ---------- ---------- ----------
Income (loss) per share before cumulative effect of
accounting change:
Basic ...................................................... $ .05 $ (0.49) $ .19 $ (0.33)
Diluted .................................................... $ .05 $ (0.49) $ .18 $ (0.33)
---------- ---------- ---------- ----------
Net income (loss) per share:
Basic ...................................................... $ .05 $ (0.49) $ .19 $ (0.79)
Diluted .................................................... $ .05 $ (0.49) $ .18 $ (0.79)
---------- ---------- ---------- ----------
</Table>
In the six months ended June 30, 2003, the Company's 6.75% convertible
subordinated notes are dilutive to earnings and are included in the calculation
of diluted earnings per share. The computation of diluted earnings per share
excludes outstanding stock options and convertible debt in certain periods in
which the inclusion of such options and debt would be antidilutive in the
periods presented. Total options and convertible debt that could impact dilutive
earnings per share are as follows:
<Table>
<Caption>
Three months ended Six months ended
June 30, June 30,
-------------------- --------------------
2003 2002 2003 2002
-------- -------- -------- --------
Antidilutive options .................................. 25,921 31,957 26,025 32,333
Antidilutive convertible debt ......................... 46,739 51,763 1,544 51,763
-------- -------- -------- --------
Total common stock equivalents excluded from
computation ................................. 72,660 83,720 27,569 84,096
======== ======== ======== ========
</Table>
18
8. STOCKHOLDERS' EQUITY
Stock Options
The Company accounts for employee stock-based compensation expense under the
intrinsic value method. Under this method no compensation expense is recognized
on stock options if the grant price equals the market value on the date of
grant.
If the Company had elected to recognize compensation expense for its options
plans based on the fair value method, net income (loss) and per share amounts
would have changed to the pro forma amounts indicated below.
<Table>
<Caption>
Three months ended Six months ended
June 30, June 30,
--------------------------- ---------------------------
2003 2002 2003 2002
----------- ----------- ----------- -----------
Net income (loss) ............................................... $ 14,379 $ (143,015) $ 56,648 $ (231,726)
Deduct: Total additional stock-based employee
compensation expense determined under fair value based
method for all awards, net of related tax expense .......... (2,179) (3,384) (4,361) (6,768)
----------- ----------- ----------- -----------
Pro forma net income ............................................ $ 12,200 $ (146,399) $ 52,287 $ (238,494)
=========== =========== =========== ===========
Basic earnings (loss) per share:
Net income (loss) ............................................... $ .05 $ (0.49) $ .19 $ (0.79)
Deduct: Total additional stock-based employee
compensation expense determined under fair value based
method for all awards, net of related tax expense .......... (.01) (.01) (.01) (.02)
----------- ----------- ----------- -----------
Pro forma basic earnings (loss) per share ....................... $ .04 $ (0.50) $ .18 $ (0.81)
=========== =========== =========== ===========
Diluted earnings (loss) per share:
Net income (loss) ............................................... $ .05 $ (0.49) $ .18 $ (0.79)
Deduct: Total additional stock-based employee
compensation expense determined under fair value based
method for all awards, net of related tax expense .......... (.01) (.01) (.01) (.02)
----------- ----------- ----------- -----------
Pro forma diluted earnings (loss) per share ..................... $ .04 $ (0.50) $ 0.17 $ (.81)
=========== =========== =========== ===========
</Table>
The fair value of the Company's stock options used to compute the pro forma
net income and per share disclosures is determined by calculating the estimated
fair value at grant date using the Black-Scholes option-pricing model.
19
Accumulated Other Comprehensive Loss
The components of Accumulated other comprehensive loss are as follows:
<Table>
<Caption>
Foreign Minimum Accumulated
Currency Pension Other
Translation Liability Comprehensive
Adjustment Adjustment Loss
------------ ------------ -------------
Balance at December 31, 2002 ............................... $ (170,591) $ (36,555) $ (207,146)
Activity in 2003 ...................................... 45,562 -- 45,562
------------ ------------ -------------
Balance at June 30, 2003 ................................... $ (125,029) $ (36,555) $ (161,584)
============ ============ =============
Balance at December 31, 2001 ............................... $ (261,846) $ (29,353) $ (291,199)
Activity in 2002 ...................................... 13,154 -- 13,154
Reclassification adjustment for sold businesses ....... 47,479 -- 47,479
------------ ------------ -------------
Balance at June 30, 2002 ................................... $ (201,213) $ (29,353) $ (230,566)
============ ============ =============
</Table>
The components of Comprehensive income (loss) are as follows.
<Table>
<Caption>
Three months ended Six months ended
June 30, June 30,
------------------------ ------------------------
2003 2002 2003 2002
---------- ---------- ---------- ----------
Comprehensive income (loss):
Net income (loss) ...................... $ 14,379 $ (143,015) $ 56,648 $ (231,726)
Total other comprehensive income ....... 25,409 11,637 45,562 60,633
---------- ---------- ---------- ----------
Comprehensive income (loss) ......... $ 39,788 $ (131,378) $ 102,210 $ (171,093)
========== ========== ========== ==========
</Table>
9. GAINS AND IMPAIRMENT LOSSES ON DISPOSITIONS AND OTHER OPERATING EXPENSES
Six Months Ended June 30, 2003 and 2002
As dispositions occur in the normal course of business, gains or losses on the
sale of such businesses are recognized in the income statement line item Gains
and impairment (losses) on dispositions, net. Additionally, as dispositions
occur related to the Company's ongoing asset sale programs, adjustments are made
through this income statement line item to reflect the difference between actual
proceeds received from the sale compared to the original estimates.
Gains on dispositions for the six months ended June 30, 2003 and 2002 were
$12,852 and $5,140, respectively. Impairment losses related to assets held for
sale for the six months ended June 30, 2003 and 2002 were $14,449 and $159,693,
respectively. Changes to previously estimated impairment losses were a net
reduction to such losses of $9,412 in the first half of 2003 and an additional
net loss of $36,068 in the first half of 2002. As described above, the sum of
these three components are recognized in the income statement line item Gains
and impairment (losses) on dispositions, net, and amounted to a net gain of
$7,815 and a net loss of $190,621 in the first half of 2003 and 2002,
respectively.
In the first six months of 2002, Other operating expenses of $40,807
related to the termination of certain consulting and non-compete contractual
agreements.
20
Previous Years' Charges
Included in the Company's charge amounts in 2002, 2001, 2000 and 1999 are
severance costs related to cost rationalization programs and terminated
contractual relationships of former employees and executive officers, planned
divestitures of certain North America and international funeral service and
cemetery businesses, reductions in carrying values of equity investments,
adjustments to market values of certain options associated with the Company's
senior notes and relieving certain individuals from their consulting and/or
covenant-not-to-compete contractual obligations.
The majority of the remaining balance at June 30, 2003 of these original
charge amounts related to severance costs and terminated consulting and/or
covenant-not-to-compete contractual obligations will be paid by 2012. Of the
$56,622 remaining liability at June 30, 2003, $19,178 is included in Accounts
payable and accrued liabilities and $37,444 is included in Other liabilities in
the consolidated balance sheet based on the expected timing of payments. The
Company continues to adjust the estimates of certain items included in the
original charge amounts as better estimates become available or actual
divestitures occur.
The activity related to these original charge amounts for the six months
ended June 30, 2003 is detailed below. The adjustments made during the first
half of 2003 to the original charge amounts were recognized in the income
statement line item Gains and impairment (losses) on dispositions, net, as
described above.
<Table>
<Caption>
Utilization for six months
ended June 30, 2003
----------------------------
Original Balance at Balance at
charge December 31, Adjustments June 30,
amount 2002 during 2003 Cash Non-cash 2003
------------ ------------ ------------ ------------ ------------ ------------
First Quarter 1999 Charge .... $ 89,884 $ 564 $ 122 $ 280 $ -- $ 406
Fourth Quarter 1999 Charge ... 272,544 48,254 (5,399) 3,608 14,267 24,980
Fourth Quarter 2000 Charge ... 434,415 -- (4,858) -- (4,858) --
2001 Charges ................. 663,548 3,385 -- 204 (214) 3,395
2002 Charges ................. 292,979 27,990 723 3,334 (2,462) 27,841
------------ ------------ ------------ ------------ ------------ ------------
Total ................... $ 1,753,370 $ 80,193 $ (9,412) $ 7,426 $ 6,733 $ 56,622
============ ============ ============ ============ ============ ============
</Table>
ITEM 2. MANAGEMENT'S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS
OF OPERATIONS
INTRODUCTION
The Company is the largest provider of funeral and cemetery services in the
world. As of June 30, 2003, the Company operated 2,259 funeral service
locations, 431 cemeteries and 188 crematoria located in 8 countries. The Company
also has minority interest equity investments in funeral and cemetery operations
in certain countries outside of North America. As of June 30, 2003, the
Company's North America operations represented approximately 74% of the
Company's consolidated revenues, 81% of consolidated gross profits and 64% of
the Company's total operating locations.
The Company's funeral and cemetery operations are organized into a North
America division covering the United States and Canada, a European division
primarily responsible for the Company's French operations and an Other Foreign
division relating to operations in the Pacific Rim and South America. The
Company's operations in its North America division are separated into Eastern
and Western operations. The Eastern and Western operations in North America are
managed by separate operational, sales and financial management teams. Within
these Eastern and Western operations in North America, the majority of the
Company's funeral service locations and cemeteries are managed in groups called
clusters. These clusters are geographical groups of funeral service locations
and cemeteries that can share common resources such as operating personnel,
preparation services, clerical and accounting staff, limousines, hearses and
preneed sales personnel.
GOALS AND CHALLENGES
The Company's operational goals are to grow its existing base of funeral and
cemetery revenues while diligently managing its cash expenses. In addition to
reducing debt, the Company will also examine investment opportunities to grow
its North America funeral and cemetery operations where appropriate investment
returns can be reasonably expected using its cash flows from operations and
21
significant cash on hand. These potential growth opportunities could include
acquisitions of funeral service locations and cemeteries in large or strategic
North America markets, additional construction of funeral service locations on
Company-owned cemeteries and the development of high-end cemetery property
inventory.
The Company's financial objectives in 2003 focus on generating strong cash
flows, completing asset divestitures and reducing debt to further improve the
capital structure. The Company is targeting a "BB" credit rating from Standard &
Poor's and a "Ba2" credit rating from Moody's, with general access to the
capital markets. The Company's current ratings with these agencies are "BB-" and
"B1", respectively.
The Company and the death care industry face certain challenges in growing
funeral and cemetery revenues. The primary challenges include a lack of
near-term growth in the number of deaths and an increasing trend toward
cremation. Although the United States Census Bureau projects that the numbers of
deaths will grow up to 1% annually through 2010, modern advances in medicine and
healthier lifestyles could reduce the numbers of deaths during this time. In
recent months, the industry has experienced a meaningful reduction in the
numbers of deaths. In the first six months of 2003, the Company's North American
comparable funeral volume declined 3.5%. The Company believes this trend is
consistent with trends experienced by other companies in the funeral service and
casket manufacturing industries and also with mortality data reported by the
Centers for Disease Control and Prevention.
An increasing trend toward cremation continues to put downward pressure on
the Company's funeral and cemetery revenues and gross profits. Today, cremation
services account for approximately 39% of the total funerals performed by the
Company in North America. A cremation service typically has a lower average
revenue and gross profit dollars than a traditional funeral service and also the
cremation consumer may choose not to purchase cemetery property or merchandise.
The Company has initiatives to address these challenges as part of its overall
growth strategy as described below.
STRATEGIC INITIATIVES
The Company's growth strategy begins with developing the appropriate
organizational structure and cultural environment that promotes teamwork,
accountability and execution. In this regard, the Company is working to redesign
all compensation programs with clear, specific and definable goals that are
aligned with shareholder objectives. In the near-term there are a number of
tactical actions that the Company believes will improve the infrastructure of
the organization while at the same time drive improvements in earnings and cash
flow. To generate sustainable growth over the longer term, the Company is
focused on leveraging the power of its branded network of businesses and its
strong cash flows.
Near Term Focus
The Company believes the following tactical initiatives will solidify the
foundation on which to build and grow its funeral service and cemetery
operations in the future while also improving results in the near-term.
o Improving the cost structure through redesigning the sales organization
and improving business and financial processes.
o Increasing the impact of the Company's Dignity Memorial(R) branded
funeral and cremation packages.
o Driving accountability and improved results through local market action
plans.
The Company has recently implemented significant changes to the structure
and processes of its sales organization designed to reduce costs and improve
cash flows in 2003 while improving the quality of its sales efforts. Examples of
these changes include eliminating ineffective lead procurement programs,
incentive travel programs and other inefficient sales activities and shifting to
a sales model based on personal referrals, redesigning sales management
compensation programs to profit-based measures from revenue-based measures and
reducing sales management positions. The Company is also shifting to a
compensation model for its sales counselors that is variable and directly
related to the production of new business, but not solely based on commissions.
The Company is currently in the process of improving business and financial
processes and systems that support its North America funeral and cemetery
operations with a focus on improving efficiency and eliminating unnecessary
costs and expenses. Examples of these improvements include replacing three
separate contract entry systems with one system for funeral home, cemetery and
trust administration, outsourcing certain accounting functions including
accounts payable, payroll and trust administration to third-party
22
providers, and streamlining and standardizing management financial reports to
focus on key performance measures that are aligned with shareholder objectives.
These initiatives are expected to meaningfully reduce overhead costs beginning
in 2004.
The Company's national brand name for its operations in North America,
Dignity Memorial(R), also represents a unique set of packaged funeral and
cremation plans offered exclusively through the Company's network on an atneed
and preneed basis. The Dignity Memorial(R) funeral and cremation packages are
designed to simplify customer decision-making and include products and services
which have traditionally not been available through funeral service locations.
These products appeal to both cremation and burial consumers and include a
24-Hour Compassion Helpline, legal services membership, bereavement travel
discounts, internet memorial archive capabilities and the Aftercare(R) Planner -
an exclusive, comprehensive organizing system that helps families manage the
many business details that arise after a death occurs. The Company's goal in
2003 is to continue to increase the sales of Dignity Memorial(R) packaged
funeral plans, which on average result in incremental revenue per service to the
Company of more than $2,000 compared to non-Dignity Memorial(R) packaged sales.
Other near term initiatives include the development and implementation of
local market action plans designed to grow funeral and cemetery revenues and
profits. In every funeral and cemetery operation, each local manager has
identified the strengths, weaknesses, opportunities and threats of their local
market and developed action plans around it that include measurable objectives,
necessary resources, and a timetable for completion. These local market action
plans provide an important measurement tool and further drive accountability
within the organization.
Framework for Long-term Growth
In addition to the Company's tactical initiatives described above to improve its
North America funeral and cemetery operations in the near-term, the Company is
currently developing a framework for its long-term strategic plan with an
emphasis on three key concepts that will drive future growth in shareholder
value:
o Growing core revenues and profits from existing businesses.
o Expanding in large or strategic markets in North America through
capital investment.
o Investing in the Company's human capital.
The Company believes it must attract new customers to its existing
businesses in order to grow core funeral and cemetery profits over the
long-term. Actions by the Company to attract new customers over the long-term
include developing a more contemporary marketing model that leverages the power
of the Company's Dignity Memorial(R) national brand in North America and its
size as a national company. The Company's marketing programs will utilize
information from the more than nine million consumers in its collective
databases to determine geographic, demographic and lifestyle factors of its
consumers. The Company is currently testing new television, radio and print
advertising that, if successful, will be launched on a nationwide basis. In
addition, the Company will continue to capitalize on its nationwide network of
providers and develop affinity relationships with organizations containing large
groups of individuals to whom the Company could exclusively market its products
and services.
To grow its existing businesses, the Company is also focused on enhancing
its sales opportunities through improved merchandising techniques. In the
Company's funeral service locations, testing is being done to consider potential
modifications to its casket selection rooms to further promote the sales of
Dignity Memorial(R) packaged plans. Within the Company's cemetery segment,
initiatives are underway to employ a tiered-product marketing strategy that
emphasizes a wide range of product offerings with particular emphasis on
building strategic high-end property development projects.
To grow its core revenues and profits, the Company is also refining its
strategies to address the growing trend toward cremation. To enhance its
cremation revenues and profits, the Company is focused on utilizing better
marketing and merchandising methods to increase sales of products and services
aimed specifically at cremation consumers. In the near term, sales of Dignity
Memorial(R) cremation plans can have a meaningful impact as these sales on
average result in more than $1,200 of incremental revenue per service to the
Company compared to non-Dignity cremation sales. The Company is also currently
developing new displays to be used in the arrangement process that clearly
explain the products and services available to cremation consumers. Within its
cemetery segment, the Company is promoting its cremation gardens, which are
separate sections located within certain of the Company's cemeteries where
23
cremated ashes can be permanently placed. Comprehensive training programs are
being developed to support and drive these key initiatives, as well as focus on
creating a personal and meaningful experience for the cremation consumer.
The Company's long-term growth strategy also addresses plans to expand its
funeral and cemetery network in North America where investment returns in excess
of capital costs can be reasonably expected. The Company will focus future
growth capital deployment through acquisition or construction in the top 150
markets in the United States. The Company is targeting these large markets
because they offer several advantages: more than 70% of the U.S. population
resides in these markets, the markets have a tendency to be less dependent on
local heritage, they are more conducive to clustering and contemporary marketing
strategies and it is easier to attract quality management. In smaller markets,
the Company will consider recruiting independent funeral providers to join the
Dignity Memorial(R) network in a franchise relationship where the Company
receives an annual fee and earns cash for Dignity Memorial(R) services and
products sold and affinity services performed, but does not have its capital at
risk. At the end of June 2003, the Company had approximately 170 franchised
providers. When combined with the Company's network capabilities, the Dignity
Memorial(R) network has the ability to provide services to approximately 74% of
the U.S. population.
The Company also believes it must invest in its human capital and resources.
Attracting, hiring, developing and retaining high quality management and
employees is critical to the success of the long-term strategic plan. In the
near term, the Company is focusing its efforts on leadership and management
development. Over the longer term, the Company will be developing a
comprehensive training program called "Dignity University" that incorporates
required specific curriculum for each job type within the Company using a
combination of traditional classroom, web-based courses, virtual classroom and
on-the-job training for the more than 20,000 individuals that the Company
employs.
CRITICAL ACCOUNTING POLICIES, ACCOUNTING CHANGES AND NEW ACCOUNTING
PRONOUNCEMENTS
The Company's consolidated financial statements are impacted by the accounting
policies used and the estimates and assumptions made by management during their
preparation. These critical accounting policies should be read in conjunction
with the annual report filed with the U.S. Securities and Exchange Commission on
Form 10-K, for the year ended December 31, 2002.
USE OF ESTIMATES
In the second quarter of 2002, the Company decided to implement new information
technology systems including a new North America point of sale system and an
upgraded general ledger system. As a result of this decision, the Company
accelerated amortization of its existing capitalized systems costs beginning in
the second quarter of 2002 to reflect the remaining estimated useful lives of
these systems. The Company recognized approximately $4.7 million of additional
amortization related to this change in estimate during the six months ended June
30, 2003 compared to the same period of 2002.
ACCOUNTING CHANGES AND NEW ACCOUNTING PRONOUNCEMENTS
New Accounting Pronouncements
In June 2001, the FASB issued SFAS No. 143, "Accounting for Asset Retirement
Obligations." SFAS No. 143 addresses obligations associated with the retirement
of tangible long-lived assets and associated asset retirement costs. Under the
provisions of SFAS No. 143, the fair value of a liability for an asset
retirement obligation should be recognized in the period in which it is
incurred, if a reasonable estimate can be made. The associated costs are
capitalized as part of the carrying amount of the long-lived asset and are
allocated to expense over the useful life of the asset. The Company adopted SFAS
No. 143 during the first quarter of 2003 with no effect on its results of
operations, financial condition or cash flows.
In April 2002, the FASB issued SFAS No. 145, "Rescission of FASB Statements
No. 4, 44 and 64, Amendment of FASB Statement No. 13, and Technical
Corrections." The Company adopted SFAS No. 145 during the first quarter of 2003
as it relates to the classification of extinguishments of debt for all periods
presented. SFAS No. 145 eliminates the requirement that gains and losses from
the extinguishment of debt be aggregated and classified as extraordinary items
as well as certain other items. Gains and losses from early extinguishments of
debt are included in Other income in the consolidated statement of operations
for all periods presented. The Company has recorded $1,903 as gains from the
early extinguishment of debt in Other income for the six months ended June 30,
2003 and reclassified $3,423 related to the prior year period to Other income,
which was previously reported as an extraordinary loss.
24
The other provisions of SFAS No. 145 were generally effective for transactions
occurring after May 15, 2002.
In November 2002, the FASB issued FASB Interpretation No. 45 (FIN No. 45),
"Guarantor's Accounting Disclosure Requirements for Guarantees, Including
Indirect Guarantees of Indebtedness of Others, an Interpretation of FASB
Statements No. 5, 57 and 107 and Rescission of FASB Interpretation No. 34." FIN
No. 45 clarifies the disclosures required by a guarantor about its obligations
and it requires guarantors to recognize a liability at fair value at the time of
issuance. The provisions for initial recognition and measurement are applicable
on a prospective basis to guarantees issued or modified after December 31, 2002.
The disclosure requirements were effective for financial statements of periods
that end after December 15, 2002. There have been no material changes in the
guarantees related to FIN No. 45 as disclosed by the Company in its 2002 annual
report on Form 10-K.
In January 2003, the FASB issued FASB Interpretation No. 46 (FIN No. 46),
"Consolidation of Variable Interest Entities, an Interpretation of Accounting
Research Bulletin (ARB) No. 51." FIN No. 46 clarifies the application of ARB No.
51, Consolidated Financial Statements, to certain entities in which equity
investors do not have the characteristics of a controlling financial interest or
do not have sufficient equity at risk for the entity to finance its activities
without additional subordinated financial support from other parties. FIN No. 46
defines the terms related to variable interest entities and clarifies if such
entities should be consolidated. The provisions of FIN No. 46 are effective
immediately for all enterprises with variable interests in variable interest
entities created after January 31, 2003. A public entity with a variable
interest in a variable interest entity created before February 1, 2003 shall
apply the provisions of FIN No. 46 in the first fiscal year or interim period
beginning after June 15, 2003. As a result of the adoption of FIN No. 46, the
Company believes it will be required to consolidate, as of July 1, 2003, its
prearranged funeral, cemetery merchandise and services and endowment care trust
funds, as well as certain cemeteries managed, but not owned, by the Company. The
Company is currently assessing the impact, if any, on its results of operations,
financial condition or cash flows as a result of potentially consolidating such
trust funds. However, the Company believes it will recognize an asset and equal
liability in its Consolidated Balance Sheet of approximately $630 million as a
result of consolidating the endowment care trust funds. The Company also
believes, however, it will recognize a pretax charge of approximately $20 to $30
million representing the cumulative effect of an accounting change in the third
quarter of 2003, primarily as a result of consolidating certain cemeteries not
owned by the Company.
RESULTS OF OPERATIONS
The following table highlights the consolidated results of operations for the
three months ended June 30, 2003 and 2002.
<Table>
<Caption>
Three months ended
(In millions, except per share amounts) June 30,
------------------------
2003 2002
---------- ----------
Total revenues ......................... $ 586.2 $ 583.4
Total gross profits .................... 94.4 91.3
Net income / (loss) .................... 14.4 (143.0)
Diluted earnings / (loss) per share .... $ .05 $ (.49)
</Table>
Revenues increased in the second quarter of 2003 compared to the second
quarter of 2002. Favorable currency effects in the Company's French funeral
operations helped to offset the negative impact from asset dispositions and
decreases in the Company's North American cemetery revenues.
Gross profits for the second quarter of 2003 increased $3.1 million or
3.4%, led by significant profit improvements in the Company's North America
cemetery and French funeral businesses.
The Company reported net income of $14.4 million and diluted earnings per
share of $.05 during the second quarter of 2003 compared to a net loss of $143.0
million and diluted loss per share of $.49 in the second quarter of 2002. The
net loss reported in 2002 was impacted by an impairment loss of $187.7 for
certain funeral and cemetery operations being held for sale and other operating
expenses of $40.8 million associated with the termination of certain consulting
and non-compete contractual obligations.
25
Detailed Comparable Operating Results - Three Months Ended June 30, 2003 and
2002
The following table and segment analysis summarizes the Company's comparable
results for the three months ended June 30, 2003 and 2002. Comparable financial
information excludes operations that have been acquired or constructed after
January 1, 2002 and operations that have been divested or joint ventured by the
Company prior to June 30, 2003. Comparable financial results are meant to be
reflective of the Company's "same store" results of operations.
<Table>
<Caption>
(In millions) Three months ended June 30, 2003
--------------------------------------------------------------------------------------
Comparable
--------------------------------------------------------------------------------------
North % of % of Other % of % of
America revenue Europe revenue Foreign revenue Total revenue
------- ------- ------ ------- ------- ------- ------ -------
Revenues:
Funeral ............................ $ 282.1 65.2% $142.1 100.0% $ 2.3 21.1% $426.5 72.9%
Cemetery ........................... 150.3 34.8% -- --% 8.6 78.9% 158.9 27.1%
------- ----- ------ ----- ------ ----- ------ -----
$ 432.4 100.0% $142.1 100.0% $ 10.9 100.0% $585.4 100.0%
======= ===== ====== ===== ====== ===== ====== =====
Gross profit and margin percentage:
Funeral ............................ $ 51.7 18.3% $ 16.0 11.3% $ 0.9 39.1% $ 68.6 16.1%
Cemetery ........................... 25.3 16.8% -- --% 2.3 26.7% 27.6 17.4%
------- ---- ------ ---- ------ ---- ------ ----
$ 77.0 17.8% $ 16.0 11.3% $ 3.2 29.4% $ 96.2 16.4%
======= ==== ====== ==== ====== ==== ====== ====
</Table>
<Table>
<Caption>
Three months ended June 30, 2002
--------------------------------------------------------------------------------------
Comparable
--------------------------------------------------------------------------------------
North % of % of Other % of % of
America revenue Europe revenue Foreign revenue Total revenue
------- ------- ------ ------- ------- ------- ------ -------
Revenues:
Funeral ............................ $ 282.9 63.3% $113.9 100.0% $ 1.7 18.1% $398.5 69.9%
Cemetery ........................... 163.8 36.7% -- --% 7.7 81.9% 171.5 30.1%
------- ----- ------ ----- ------ ----- ------ -----
$ 446.7 100.0% $113.9 100.0% $ 9.4 100.0% $570.0 100.0%
======= ===== ====== ===== ====== ===== ====== =====
Gross profit and margin percentage:
Funeral ............................ $ 54.6 19.3% $ 11.5 10.1% $ 0.7 41.2% $ 66.8 16.8%
Cemetery ........................... 21.8 13.3% -- --% 2.1 27.3% 23.9 13.9%
------- ---- ------ ---- ------ ---- ------ ----
$ 76.4 17.1% $ 11.5 10.1% $ 2.8 29.8% $ 90.7 15.9%
======= ==== ====== ==== ====== ==== ====== ====
</Table>
Comparable Funeral Segment Analysis
<Table>
<Caption>
Comparable funeral services performed
-------------------------------------------
North Other
America Europe Foreign Total
------- ------ ------- -----
Three months ended June 30,
2003 65,352 33,353 1,300 100,005
2002 66,402 33,512 841 100,755
</Table>
Although the number of funeral services performed in North America declined
1.6%, funeral revenues remained flat quarter over quarter. A 2.2% increase in
the average revenue per funeral service helped to offset the decline in funeral
services performed and lower levels of general agency revenues associated with
insurance funded prearranged funeral sales. This increase in average revenue per
funeral service was achieved despite an increase in cremation services during
the quarter, which typically carry a lower average
26
revenue and is attributable to the success of the Company's Dignity Memorial(R)
packaged funeral plan sales initiative. The Company believes the decline in the
number of funeral services performed during the quarter is primarily
attributable to declines in the number of deaths in North America as evidenced
by similar trends experienced by other companies in the funeral service and
casket industries, as well as mortality data reported by the Centers for Disease
Control and Prevention.
The North America funeral gross margin was 18.3% versus 19.3% in the
prior year quarter. The gross margin decline was primarily a result of fewer
than expected funeral services performed on a predominantly fixed cost
structure, particularly as it relates to personnel costs.
North America funeral locations had an average cremation rate of 39.3%
compared to 37.9% in the prior year quarter. The average revenue per cremation
service increased 2.7% over the prior year quarter due to increased sales of
Dignity Memorial(R) packaged cremation plans, which offer consumers a broad
array of unique cremation products and services.
In North America, 31.6% of funeral services performed were previously
prearranged compared to 31.3% in the prior year quarter. Revenues from the
performance of prearranged funeral contracts had an average revenue per funeral
service of $4,021 in the second quarter of 2003 compared to $3,948 in the second
quarter of 2002.
Revenues and gross profits from funeral operations in France were
$140.2 million and $15.8 million in the second quarter of 2003 compared to
$112.1 million and $11.6 million in 2002. Included in 2003 results are positive
effects of foreign currency translation of $26.8 million in revenues and $3.1
million in gross profits compared to 2002. Excluding the favorable currency
effect, France's funeral revenues grew by $1.3 million and gross margin improved
to 11.3% versus 10.4% in the prior year quarter.
Comparable Cemetery Segment Analysis
North America cemetery revenues decreased by $13.5 million or 8.2% compared to
the prior year quarter. The decline in revenues is primarily attributable to
fewer cemetery property development projects completed in the second quarter of
2003 compared to the second quarter of 2002 and lower levels of cemetery
merchandise delivered during the quarter.
Although cemetery revenues declined, the North America cemetery gross
margin improved to 16.8% compared to 13.3% in the prior year quarter. The gross
margin increase was primarily due to a reduction in selling costs as a result of
significant changes to the Company's preneed sales structure and processes.
Revenues and gross profits from cemetery operations in South America
were $8.7 million and $2.3 million in the second quarter of 2003 compared to
$7.7 million and $2.1 million in 2002. Included in 2003 results are negative
effects of foreign currency translation of $0.3 million in revenues and $0.1
million in gross profits compared to 2002. Excluding the unfavorable currency
effect, South America's cemetery revenues and gross profits increased 16.4% and
18.2%, respectively, compared to the prior year quarter.
Other Income and Expenses
The Company recognized a net loss of $1.5 million during the second quarter of
2003 in the income statement line item Gains and impairment (losses) on
dispositions, net. As dispositions occur in the normal course of business, gains
or losses on the sales of such businesses are recognized in this line item.
Additionally, as dispositions occur related to the Company's ongoing North
America asset sale programs, adjustments are made through this income statement
line item to reflect the difference between actual proceeds received from the
sale compared to the original estimates.
During the second quarter of 2003, the Company sold its equity
investment in Spain for net cash proceeds of $26.0 million and recognized a gain
of $8.1 million included in Gains and impairment (losses) on dispositions, net.
This gain was offset by impairment losses for several dispositions in North
America during the quarter.
The Company has three components of overhead costs in North America:
general and administrative expenses, home office overhead and field overhead.
Home office and field overhead costs are allocated to funeral and cemetery
operations in North America while general and administrative expenses are
disclosed in a separate line item on the income statement. Home office and field
overhead costs totaled $38.5 million in the second quarter of 2003 compared to
$39.7 million in the same period of 2002. Reductions in costs as a result of
changes to the compensation structure and processes of the Company's preneed
sales efforts helped to offset initial start up costs associated with the
outsourcing of its accounts payable, payroll and trust administration functions.
These outsourcing programs are expected to meaningfully reduce overhead costs
beginning in 2004. In the second quarter of 2003, general
27
and administrative expenses were $36.3 million compared to $19.6 million in
2002. The increase in general and administrative expenses primarily resulted
from $15.0 million recognized in June 2003 related to a decision in an
arbitration matter. The recognition of this amount was necessary because one of
the Company's insurance carriers that would have covered a portion of this
decision is insolvent. General and administrative expenses were also impacted by
increased professional fees and other costs associated with cash flow and profit
improvement initiatives.
The Company recognized $2.4 million of Other income during the second
quarter of 2003 compared to an expense of $2.0 million in the prior year
quarter. Other income consists of interest income earned from various
investments, cash overrides received from the Company's former North American
insurance company and gains on early extinguishments of debt. The increase in
2003 is a result of losses on early extinguishments of debt of $4.4 million
recognized in the second quarter of 2002.
Interest expense decreased $5.3 million or 12.8% in the second quarter
of 2003 compared to the prior year quarter as a result of the significant debt
reductions by the Company in the last twelve months.
The Company's consolidated effective tax rate was 32.1% during the
quarter compared to 28.6% in the prior year quarter. The increase in the
effective tax rate is due to the utilization in previous years of the Company's
net operating loss carry-forwards related to its French operations.
Detailed Comparable Operating Results - Six Months Ended June 30, 2003 and 2002
The following table and segment analysis summarizes the Company's comparable
results for the first six months of 2003 and 2002. Comparable financial
information excludes operations that have been acquired or constructed after
January 1, 2002 and operations that have been divested or joint ventured by the
Company prior to June 30, 2003. Comparable financial results are meant to be
reflective of the Company's "same store" results of operations.
<Table>
<Caption>
(In millions) Six months ended June 30, 2003
--------------------------------------------------------------------------------------
Comparable
--------------------------------------------------------------------------------------
North % of % of Other % of % of
America revenue Europe revenue Foreign revenue Total revenue
------- ------- ------- ------- ------- ------- -------- -------
Revenues:
Funeral ............................ $ 580.3 67.2% $ 279.3 100.0% $ 3.7 19.1% $ 863.3 74.3%
Cemetery ........................... 283.1 32.8% -- --% 15.7 80.9% 298.8 25.7%
------- ----- ------- ----- ------ ----- -------- -----
$ 863.4 100.0% $ 279.3 100.0% $ 19.4 100.0% $1,162.1 100.0%
Gross profit and margin percentage:
Funeral ............................ $ 120.4 20.7% $ 35.0 12.5% $ 1.4 37.8% $ 156.8 18.2%
Cemetery ........................... 49.8 17.6% -- --% 3.6 22.9% 53.4 17.9%
------- ----- ------- ----- ------ ----- -------- -----
$ 170.2 19.7% $ 35.0 12.5% $ 5.0 25.8% $ 210.2 18.1%
======= ===== ======= ===== ====== ===== ======== =====
</Table>
<Table>
<Caption>
Six months ended June 30, 2002
--------------------------------------------------------------------------------------
Comparable
--------------------------------------------------------------------------------------
North % of % of Other % of % of
America revenue Europe revenue Foreign revenue Total revenue
------- ------- ------- ------- ------- ------- -------- -------
Revenues:
Funeral ............................ $ 590.1 66.1% $ 226.7 100.0% $ 3.6 18.9% $ 820.4 72.1%
Cemetery ........................... 302.1 33.9% -- --% 15.4 81.1% 317.5 27.9%
------- ----- ------- ----- ------ ----- -------- -----
$ 892.2 100.0% $ 226.7 100.0% $ 19.0 100.0% $1,137.9 100.0%
Gross profit and margin percentage:
Funeral ............................ $ 135.2 22.9% $ 27.6 12.2% $ 1.4 38.9% $ 164.2 20.0%
Cemetery ........................... 37.7 12.5% -- --% 3.4 22.1% 41.1 12.9%
------- ----- ------- ----- ------ ----- -------- -----
$ 172.9 19.4% $ 27.6 12.2% $ 4.8 25.3% $ 205.3 18.0%
======= ===== ======= ===== ====== ===== ======== =====
</Table>
28
Comparable Funeral Segment Analysis
<Table>
<Caption>
Comparable funeral services performed
-------------------------------------------------------
North Other
America Europe Foreign Total
------- ------ ------- -----
Six months ended June 30,
2003..................... 135,114 69,872 2,148 207,134
2002..................... 139,958 71,472 1,788 213,218
</Table>
Comparable North America funeral revenues decreased $9.8 million or
1.7% in the first six months of 2003 compared to 2002 primarily as a result of a
decrease in the number of funeral services performed. Funeral services performed
decreased 3.5% in the first half of 2003 compared to 2002. The Company believes
the decline in funeral services performed is primarily attributable to declines
in the number of deaths in North America as evidenced by similar trends
experienced by other companies in the funeral service and casket industries, as
well as mortality data reported by the Centers for Disease Control and
Prevention. This decline was partially offset by an increase in the average
revenue per funeral service of 2.4% during the period. The increase was
primarily a result of selling more Dignity Memorial(R) packaged funeral plans,
which offer consumers a broad array of unique products and services.
The North America gross margin was 20.7% versus 22.9% in the prior
year. The gross margin decline is primarily a result of fewer than expected
funeral services performed on a predominantly fixed cost structure, particularly
as it relates to personnel costs. The impact of fewer funeral services performed
was partially offset by reductions in costs resulting from strategic changes in
the Company's prearranged funeral sales activity.
North American funeral locations had an average cremation rate of 39.2%
compared to 37.5% in the prior period. The average revenue per cremation service
increased 3.3% over the prior period, led by increased sales of Dignity
Memorial(R) packaged cremation plans.
In North America, 31.7% of funeral services performed were previously
prearranged compared to 31.5% in the prior period. The average revenue
associated with the performance of these funerals was $3,989 in the first half
of 2003 compared to $3,921 in 2002.
Revenues and gross profits from funeral operations in France were
$275.6 million and $34.5 million in the second quarter of 2003 compared to
$223.7 million and $27.6 million in 2002. Included in 2003 results are positive
effects of foreign currency translation of $51.5 million in revenues and $6.5
million in gross profits compared to 2002. Excluding the favorable currency
effect, France's funeral revenues slightly increased. An increase in the average
revenue per funeral service helped to offset a decline in funeral services
performed. France's gross margins excluding the favorable currency effect were
12.5% in the first six months of 2003 compared to 12.4% in 2002. As the
Company's French operations were held for sale for the first half of 2003 and
2002, the French business had no depreciation and amortization for these
periods.
Comparable Cemetery Segment Analysis
North American cemetery revenues decreased by $19.0 million or 6.3% compared to
the prior period primarily due to lower levels of cemetery property sales and
cemetery merchandise delivered during the period. Although cemetery revenues
declined, the North America cemetery gross margin improved to 17.6% compared to
12.5% in the prior period. The gross margin increase was primarily due to a
reduction in selling costs as a result of significant changes to the Company's
preneed sales structure and process.
Revenues and gross profits from cemetery operations in South America
were $15.7 million and $3.6 million in the second quarter of 2003 compared to
$15.4 million and $3.4 million in 2002. Included in 2003 results are negative
effects of foreign currency translation of $1.8 million in revenues and $0.3
million in gross profits compared to 2002. Excluding the unfavorable currency
effect, South America's cemetery revenues and gross profits increased 14.1% and
15.4%, respectively, compared to the prior year quarter.
Other Income and Expenses
The Company recognized a net gain of $7.8 million during the first six months of
2003 in the income statement line item Gains and impairment (losses) on
dispositions, net, compared to a net loss of $190.6 million in 2002. As
dispositions occur in the normal course of business, gains or losses on the
sales of such businesses are recognized in this income statement line item.
Additionally, as dispositions occur related to the Company's ongoing North
America asset sale programs, adjustments are made through this line item
29
to reflect the difference between actual proceeds received from the sale
compared to the original estimates. The $190.6 million loss reported in 2002
primarily related to an impairment charge for certain funeral and cemetery
operations held for sale. In addition, in the first six months of 2002, the
Company reported Other operating expenses of $40.1 million related to the
termination of certain consulting and non-compete contractual obligations.
The Company has three components of overhead costs in North America:
general and administrative expenses, home office overhead and field overhead.
Home office and field overhead costs are allocated to funeral and cemetery
operations in North America while general and administrative expenses are
disclosed in a separate line item on the income statement. Home office and field
overhead costs totaled $76.9 million in the first six months of 2003 compared to
$79.4 million in the same period of 2002. Reductions in costs as a result of
changes to the compensation structure and processes of the Company's preneed
sales efforts helped to offset initial start up costs associated with the
outsourcing of its accounts payable, payroll and trust administration functions.
These outsourcing programs are expected to meaningfully reduce overhead costs
beginning in 2004.
In the first half of 2003, general and administrative expenses were
$57.7 million compared to $35.3 million in 2002. The increase in general and
administrative expenses primarily resulted from $15.0 million recognized in
June 2003 related to a decision in an arbitration matter. The recognition of
this amount was necessary because one of the Company's insurance carriers that
would have covered a portion of this decision is insolvent. General and
administrative expenses were also impacted by the Company's decision in 2002 to
implement new information systems. As a result of this decision, the Company
accelerated the amortization of existing capitalized system costs and recorded
$4.7 million of additional costs in the first six months of 2003 compared to
2002. General and administrative expenses in 2003 were also impacted by
increased professional fees and other costs associated with cash flow and profit
initiatives and costs to expense the Company's new long term incentive program.
In 2002, the Company granted stock options which were not expensed.
The Company recognized $6.4 million in Other income during the first
six months of 2003 compared to $6.2 million in 2002. Other income consists of
interest income earned from various investments, cash overrides received from
the Company's former North American insurance company and gains on early
extinguishments of debt.
Interest expense decreased $11.3 million or 13.3% in the first six
months of 2003 compared to the prior year as a result of the significant debt
reductions by the Company.
The Company's consolidated effective tax rate was 35.8% during the
first half of 2003 compared to 28.7% in the first half of 2002. The increase in
the effective tax rate is due to the utilization in the previous year of the
Company's net operating loss carry-forwards related to its French operations.
The Company is under audit by the Internal Revenue Service for the tax years
2001 and 2000. At the present time, the IRS has not proposed any significant tax
adjustments.
FINANCIAL CONDITION, LIQUIDITY AND CAPITAL RESOURCES
The Company's financial objectives in 2003 focus on the continued improvement of
the Company's capital structure by further reducing debt, generating strong cash
flows and completing asset divestitures. A goal of the Company is to obtain a
"BB" credit rating from Standard and Poor's and a "Ba2" credit rating from
Moody's, with general access to the capital markets. The Company's current
ratings with these agencies are "BB-" and "B1", respectively.
<Table>
<Caption>
June 30, 2003 December 31, 2002
------------- -----------------
Cash and cash equivalents $ 158.0 $ 200.6
Total debt $ 1,735.8 $ 1,984.8
</Table>
The Company believes it currently has strong liquidity. As of June 30,
2003, the Company had a cash balance of approximately $158 million. The
Company's total debt less cash and cash equivalents decreased by $206.4 million
or 11.6% during the first six months of 2003 reflecting strong cash flows
provided by operating activities and the receipt of an unusual tax refund in the
first quarter of 2003 of $94.5 million. In addition, at June 30, 2003, the
Company had approximately $104 million of availability under its $185 million
bank credit facility. The Company had no cash borrowings under this credit
facility, but had issued approximately $81 million of letters of credit under
the facility.
At June 30, 2003, the Company had current maturities of long-term debt
of $130.9 million primarily related to its senior notes due in April 2004 of
$111.2 million. The maturity schedule for certain of its outstanding senior
public notes due in the near and intermediate term was as follows:
30
<Table>
<Caption>
Outstanding at
(In millions) June 30, 2003
--------------
7.375% senior notes due April 2004................... $ 111.2
8.375% senior notes due December 2004................ $ 50.8
6.0% senior notes due December 2005.................. $ 281.7
</Table>
Based on the Company's current cash balance, its expectation of future
annual cash flows, its anticipation of future asset divestiture and joint
venture proceeds of approximately $300-$400 million, and its current borrowing
capacity under its credit facility, the Company believes it has adequate means
to meet its near and intermediate term debt obligations as well as its operating
needs.
Sources and Uses of Cash
Net cash provided by operating activities was $243.7 million for the six months
ended June 30, 2003 compared to $158.4 million for the same period of 2002. The
increase is primarily the result of cemetery operating improvements, an increase
in unusual tax refunds and lower cash interest payments. Unusual cash tax
refunds were $94.5 million in 2003 compared to $22.0 million in 2002. Cash
interest payments were $71.4 million in the six months ended June 30, 2003
compared to $85.5 million in the same period of 2002.
Net cash used by investing activities was $20.0 million for the six
months ended June 30, 2003 compared to $228.1 million of net cash provided by
investing activities in the same period of 2002. The decrease principally
related to a reduction in proceeds from joint ventures and sales of equity
investments and increases in capital expenditures. During the first quarter of
2002, the Company completed the joint venture of its United Kingdom operations,
which resulted in $266.7 million in pretax cash proceeds. During the second
quarter of 2003, the Company sold its remaining equity investment in its
operations in Spain for pretax cash proceeds of $26.0 million. The Company's
capital expenditures increased $7.7 million in the six months ended June 30,
2003 compared to the same period of 2002 due to a greater emphasis on
maintenance capital spending in the Company's existing operations.
Net cash used in financing activities was $270.2 million for the six
months ended June 30, 2003 compared to $252.7 million for the same period of
2002. The net cash used in financing activities in both periods is related to
the Company's continued debt reduction initiatives.
Financial Assurances
In support of operations, the Company has entered into arrangements with certain
high quality surety companies whereby such companies agree to issue surety bonds
on behalf of the Company as financial assurance and/or as required by existing
state and local regulations. The surety bonds are used for various business
purposes; however, the majority of the surety bonds issued and outstanding have
been used to support the Company's prearranged funeral and preneed cemetery
sales activities. The underlying obligations these surety bonds assure are
recorded on the Company's consolidated balance sheet as Deferred prearranged
funeral contract revenues and Deferred preneed cemetery contract revenues. The
breakdown of surety bonds between funeral and cemetery prearrangements, as well
as surety bonds for other activities, is as follows:
<Table>
<Caption>
June 30, December 31,
2003 2002
-------- ------------
Prearranged funeral ................................................... $ 116.7 $ 108.3
Preneed cemetery:
Merchandise and services ......................................... 176.6 172.8
Preconstruction .................................................. 21.1 22.6
-------- ------------
Bonds supporting prearranged funeral and cemetery obligations .... 314.4 303.7
-------- ------------
Bonds supporting prearranged business permits ......................... 4.9 4.9
Other bonds ........................................................... 5.6 6.1
-------- ------------
Total surety bonds outstanding ................................... $ 324.9 $ 314.7
======== ============
</Table>
31
As the Company sells prearranged funeral contracts and preneed cemetery
contracts, the Company posts surety bonds in certain instances where allowed by
applicable law. In these instances, the Company posts these surety bonds in lieu
of trusting a certain amount of funds received from the customer. Generally, the
amount of the bond posted is determined by the total amount of the prearranged
contract that would otherwise be required to be trusted, in accordance with
applicable state law. For the six months ended June 30, 2003 and 2002, the
Company had $50.0 million and $48.3 million, respectively, of cash receipts
attributable to bonded sales. These amounts do not consider reductions
associated with taxes, obtaining costs, or other costs.
Surety bond premiums are paid annually and are automatically renewable,
unless prior notice of cancellation, until maturity of the underlying
prearranged contracts. Except for cemetery preconstruction bonds (which are
irrevocable), the surety companies generally have the right to cancel the surety
bonds at any time with appropriate notice. In the event a surety company were to
cancel a surety bond, the Company would be required to obtain replacement surety
assurance or fund a trust for an amount generally less than the posted bond
amount, unless the customer's prearranged contract has been paid in full. The
Company does not currently believe it will be required to fund material future
amounts related to these surety bonds.
The Company is reviewing its strategy of using surety bonds to provide
financial assurance to consumers related to the Company's prearranged funeral
and preneed cemetery sales activities. The economics of this activity has
recently changed as surety bonding programs have increased in cost. As the
Company's financial condition and liquidity have improved, it is also more
difficult for the Company to purchase its outstanding debt securities at a
discount. Furthermore, the applicable Florida law which allows posting of surety
bonds for prearranged contracts will expire December 31, 2004. Prearranged
contracts entered into prior to December 31, 2004 where the Company posts surety
bonds will be allowed to continue to be bonded for the remaining life of those
contracts. Of the total bonding proceeds received by the Company for the six
months ended June 30, 2003 and 2002, approximately $37.7 million and $35.2
million, respectively, were attributable to the state of Florida. If and when
the Company decides to use trusting instead of surety bonding in its Florida
operations, the Company estimates a negative impact to its cash flow from
operations of approximately $15 to $20 million in the first annual period. In
subsequent periods, the impact to cash flows from operations is not material.
PREARRANGED FUNERAL AND PRENEED CEMETERY ACTIVITIES
The Company believes an active funeral and cemetery prearrangement program can
increase future market share in the markets in which the Company operates, and
is an important component of the Company's revenue growth initiatives in North
America.
For purposes of discussion in this section, the use of the term
"prearranged" or "prearrangement" refers to funeral programs specifically or
funeral and cemetery programs generally. The use of the term "preneed" refers to
cemetery programs specifically. Prearrangement is a means through which a
customer contractually agrees to the terms of a funeral and/or cemetery burial
to be performed or provided in the future.
Revenues associated with prearranged contracts are deferred until such
time that the funeral or cemetery services are performed or merchandise is
delivered. Preneed sales of cemetery interment rights (cemetery burial property)
are not recognized until a minimum of 10% of the sales price has been collected
and the property has been constructed.
Compensation costs which vary with and are directly related to the
production of new trust funded prearranged funeral contracts are deferred as
selling costs and amortized over 12 years, a period representing the estimated
life of the prearranged funeral contracts. Cemetery deferred selling costs,
which also vary with and are directly related to the production of new cemetery
contracts, are amortized into expense when the corresponding revenues are
recognized. Other costs associated with the sales and marketing of prearranged
contracts - lead procurement costs, brochures and marketing materials,
advertising and administrative costs - are expensed as incurred.
When prearranged funeral services and merchandise are funded through
insurance policies purchased by customers from third party life insurance
companies, the Company earns a commission on the sale of such policies for
acting as an agent in selling such insurance contracts. Such general agency (GA)
revenues are based on a percentage per contract sold and are recognized when the
insurance purchase transaction between the customer and the third party
insurance provider has been completed. In the first quarter of 2003, the Company
began recognizing as revenues such GA revenues, previously recorded as
reductions to direct expenses. The Company has reclassified the prior year
amounts to conform to the current period presentation with no effect on
previously reported results of operations, financial condition or cash flows. GA
revenues recognized in the six months ended June 30, 2003 and 2002 were
32
$16.0 million and $25.1 million, respectively. Compensation costs which vary
with and are directly related to the production of new insurance funded
prearranged funeral contracts are expensed as incurred and amounted to $9.5
million and $15.9 million for the six months ended June 30, 2003 and 2002,
respectively. Additionally, the Company may receive cash overrides related to
life insurance policies sold as a result of marketing agreements entered into in
connection with the sale of an insurance subsidiary in 2000. These cash
overrides are recorded in Other income in the consolidated statement of
operations.
The table below details North America funeral and cemetery prearranged
production for the six months ended June 30, 2003 and 2002, and the related
deferred selling costs incurred to procure the prearrangements. Additionally,
the table reflects North America revenues recognized and North America
previously deferred selling costs recognized in the consolidated statement of
operations associated with previously prearranged production for the six months
ended June 30, 2003 and 2002.
<Table>
<Caption>
North America
----------------------------------------
(In millions) Funeral Cemetery
------------------ ------------------
2003 2002 2003 2002
------- ------- ------- -------
Origination:
Prearranged production ...................... $ 174.2 $ 228.3 $ 115.9 $ 166.4
======= ======= ======= =======
Deferred selling costs, net ................. $ 6.8 $ 9.5 $ 22.9 $ 24.6
======= ======= ======= =======
Maturities:
Previously prearranged production
included in current period revenues .... $ 172.1 $ 177.7 $ 111.7 $ 130.8
======= ======= ======= =======
Amortization of deferred selling costs
in current period ...................... $ 7.5 $ 7.4 $ 17.8 $ 20.6
======= ======= ======= =======
</Table>
Generally, all or a certain portion of the funds collected for
prearranged funeral or preneed cemetery contracts funded through trusts are
required to be placed into trust accounts, pursuant to applicable law. Funds not
required to be placed into trust accounts are retained by the Company and used
for working capital purposes, generally to help alleviate the current cost of
those prearrangement programs. Realized investment earnings on funds placed into
trust accounts are generally accumulated and deferred until the maturity of each
prearranged contract. However, in certain states the Company is allowed to
distribute a portion of the realized investment earnings before the prearranged
contract matures. When a prearranged trust contract matures, the Company
receives the principal and previously undistributed trust fund income and any
remaining receivable due from the customer. In certain situations, the Company
can post a surety bond as financial assurance pursuant to applicable law in an
amount that would otherwise be required to be trusted. Funds collected on
prearranged contracts where the Company has posted a surety bond may be retained
by the Company creating a source of working capital cash flow generated from
operating activities before the prearranged contract matures. When the
prearranged contract matures, the Company receives any remaining receivable due
from the customer. Finally, funds collected from prearranged funeral contracts
can be used to pay premiums on life insurance or annuity contracts. Increasing
death benefits associated with life insurance contracts are accumulated and
deferred until the maturity of each prearranged contract. When a prearranged
insurance contract matures, the Company receives the proceeds from the third
party insurance companies consisting of the original contract amount and any
increasing death benefits.
As previously stated, deferred prearranged funeral or cemetery contract
revenue is recognized in the consolidated statement of operations at the time
the contract matures. For trust or bonded contracts, the revenue recognized is
generally greater than the cash received by the Company at the time a
prearranged contract matures, and creates a negative effect on working capital
cash flow generated from operating activities at the time of contract maturity.
The cash flow activity from originating funeral production until the
maturity of a prearranged funeral contract is captured in the line item Net
effect of prearranged funeral production and maturities in the consolidated
statement of cash flows. Cash flow is
33
provided by the amount retained from funds collected from the customer and
distributed trust fund earnings. This is reduced by the payment of deferred
selling costs and the use of funds to service matured contracts.
The cash flow activity from originating the preneed cemetery contract
until recognition of the deferred revenue is reflected through Changes in
receivables and Changes in other assets in the consolidated statement of cash
flows. Changes in receivables is affected by cash flows provided by the amount
retained from funds collected from the customer and distributed trust earnings,
reduced by use of funds to service preneed cemetery contracts. Changes in other
assets is affected by the cash use associated with the payment of deferred
selling costs when the preneed cemetery contracts are originated, offset by the
reduction in deferred selling costs associated with recognition of the preneed
cemetery revenue.
The following table reflects the total North American backlog of
deferred prearranged contract revenues and the prearranged receivables
associated with the contracts. The difference between the amounts of Deferred
prearranged contract revenues and the prearranged receivables associated with
such contracts represents future revenues to be recognized in which the
associated cash has already been collected by the Company.
<Table>
<Caption>
North America
----------------------------------------------------------------------
(In millions) Funeral Cemetery Total
---------------------- ---------------------- ----------------------
June 30, December 31, June 30, December 31, June 30, December 31,
2003 2002 2003 2002 2003 2002
-------- ------------ -------- ------------ -------- ------------
Deferred prearranged
contract revenues, net ....... $3,641.8 $3,638.3 $1,644.8 $1,671.6 $5,286.6 $5,309.9
Deferred selling cost ............. $ 89.6 $ 90.1 $ 205.0 $ 203.3 $ 294.6 $ 293.4
Prearranged
receivables, net:
Trust related
receivables .................. $1,004.8 $ 980.9 $ 858.4 $ 859.3 $1,863.2 $1,840.2
Third party insurance
related receivables .......... $2,174.7 $2,175.5 $ -- $ -- $2,174.7 $2,175.5
</Table>
The deferred prearranged contract revenue associated with prearranged
funeral contracts and preneed cemetery contracts (net of an estimated allowance
for cancellation) are reflected separately in the consolidated balance sheet.
Both funeral and cemetery deferred selling costs (net of an estimated allowance
for cancellation) are included as a component of Deferred charges and other
assets. Prearranged assets associated with prearranged funeral contracts, which
consist of amounts due from trusts, customer receivables or third party
insurance receivables (net of an estimated allowance for cancellations), are
reflected as Prearranged funeral contracts separately in the consolidated
balance sheet. Prearranged assets associated with preneed cemetery contracts,
which consist of amounts due from trusts and customer receivables (net of an
estimated allowance for cancellation), are reflected in Current and Long term
receivables in the consolidated balance sheet.
CAUTIONARY STATEMENT ON FORWARD-LOOKING STATEMENTS
The statements in this Form 10-Q that are not historical facts are
forward-looking statements made in reliance on the "safe harbor" protections
provided under the Private Securities Litigation Reform Act of 1995. These
statements may be accompanied by words such as "believe," "estimate," "project,"
"expect," "anticipate" or "predict," that convey the uncertainty of future
events or outcomes. These statements are based on assumptions that the Company
believes are reasonable; however, many important factors could cause the
Company's actual results in the future to differ materially from the
forward-looking statements made herein and in any other documents or oral
presentations made by, or on behalf of, the Company. Important factors which
could cause actual results of the Company to differ materially from those in
forward-looking statements include, among others, the following:
34
1) Changes in general economic conditions, both domestically and
internationally, impacting financial markets (e.g., marketable security
values, as well as currency and interest rate fluctuations) that could
negatively affect the Company, particularly, but not limited to, levels
of trust fund income, interest expense and negative currency
translation effects.
2) The outcomes of pending lawsuits and proceedings against the Company
involving alleged violations of securities laws.
3) The outcomes of pending lawsuits in Florida involving certain cemetery
locations, including criminal charges or other civil claims being filed
against the Company, its subsidiaries or its employees.
4) The Company's ability to successfully implement its strategic plan
related to producing operating improvements, strong cash flows and
further deleveraging as discussed herein and in the Company's Form 10-K
for the year ended December 31, 2002.
5) The Company's ability to successfully implement its plan to reduce
costs and increase cash flows associated with significant changes being
made to the Company's organization structure, process and quality of
its sales efforts.
6) Changes in consumer demand and/or pricing for the Company's products
and services due to several factors, such as changes in local number of
deaths, cremation rates, competitive pressures and local economic
conditions.
7) Changes in domestic and international political and/or regulatory
environments in which the Company operates, including potential changes
in tax, accounting and trusting policies.
8) Changes in credit relationships impacting the availability of credit
and the general availability of credit in the marketplace.
9) The Company's ability to successfully complete its ongoing process
improvement and system implementation projects, including the Company's
replacement of its North America point-of-sale information technology
systems.
10) The Company's ability to successfully access surety and insurance
markets at a reasonable cost.
11) The Company's ability to successfully exploit its substantial
purchasing power with certain of the Company's vendors.
For further information on these and other risks and uncertainties, see the
Company's 2002 Annual Report on Form 10-K. The Company assumes no obligation to
publicly update or revise any forward-looking statements made herein or any
other forward-looking statements made by the Company, whether as a result of new
information, future events or otherwise.
ITEM 3. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK
For information regarding the Company's exposure to certain market risks, see
Item 7A. Quantitative and Qualitative Disclosures about Market Risk in the
Company's Form 10-K for the year ended December 31, 2002. There have been no
material changes to the disclosure on this matter made in such Form 10-K.
ITEM 4. CONTROLS AND PROCEDURES
As required by Rules 13a-15 and 15d-15 under the Securities Act of 1934, as
amended (the "Exchange Act"), Robert L. Waltrip, the Company's Chief Executive
Officer, and Jeffrey E. Curtiss, the Company's Chief Financial Officer, have
evaluated the effectiveness of the Company's disclosure controls and procedures
(as such term is defined in Rules 13a-15(e) and 15d-15(e) under the Exchange Act
as of the end of the Company's second fiscal quarter of 2003 (the "Evaluation
Date"). Based on such evaluation, such officers have concluded that, as of the
Evaluation Date, the Company's disclosure controls and procedures are effective
in alerting them on a timely basis to material information relating to the
Company (including its consolidated subsidiaries) required to be included in the
Company's periodic filings under the Exchange Act.
PART II. OTHER INFORMATION
ITEM 1. LEGAL PROCEEDINGS
Information regarding legal proceedings is set forth in note six to the
consolidated financial statements in Item 1 of Part I of this Form 10-Q, which
information is hereby incorporated by reference herein.
35
ITEM 2. CHANGES IN SECURITIES AND USE OF PROCEEDS
On May 7, 2003, the Company issued 46,951 shares of common stock to Mr. Sumner
James Waring III, Vice President Western Operations of the Company. In exchange
therefor, Mr. Waring cancelled the obligations of the Company to make payments
to him under a noncompetition agreement between Mr. Waring and the Company. To
determine the number of shares issued, the present value of the cancelled
obligations ($161,981) was divided by the closing per share price of the common
stock on May 7, 2003 ($3.45). This issuance was unregistered because it was a
private transaction within the meaning of Section 4(2) of the Securities Act of
1933, as amended.
On May 8, 2003, the Company issued 19,445 shares of common stock (or
deferred common stock equivalents) to each of ten non-employee directors
pursuant to the Director Fee Plan. The Company did not receive any monetary
consideration for the issuances. These issuances were unregistered because they
did not constitute a "sale" within the meaning of Section 2(3) of the Securities
Act of 1933, as amended.
ITEM 4. SUBMISSION OF MATTERS TO A VOTE OF SECURITY HOLDERS
On May 8, 2003, the Company held its annual meeting of shareholders and elected
five directors. The shares voting on the director nominees were cast as follows:
<Table>
<Caption>
Abstentions or
Nominee Votes for votes withheld
------- --------- --------------
Alan R. Buckwalter, III 250,344,363 17,538,521
Anthony L. Coelho 246,155,050 21,727,834
A.J. Foyt, Jr. 245,425,821 22,457,063
R.L. Waltrip 229,525,417 38,357,467
Edward E. Williams 247,963,939 19,918,945
</Table>
In addition, the shareholders approved the selection of
PricewaterhouseCoopers LLP as the Company's independent accountants for 2003.
The shares voting were cast as follows:
<Table>
<Caption>
Abstentions or Broker
Votes for Votes against votes withheld non-votes
----------- ------------- -------------- ---------
261,043,417 6,634,180 205,287 0
</Table>
ITEM 6. EXHIBITS AND REPORTS ON FORM 8-K
(a) Exhibits
10.1 First Amendment to 2001 Stock Plan for Non-Employee
Directors dated May 8, 2003.
10.2 Second Amendment to Director Fee Plan dated May 8,
2003.
12.1 Ratio of earnings to fixed charges for the six months
ended June 30, 2003 and 2002.
31.1 Certification of Robert L. Waltrip as Chief Executive
Officer in satisfaction of Section 302 of the
Sarbanes-Oxley Act of 2002.
31.2 Certification of Jeffrey E. Curtiss as Principal
Financial Officer in satisfaction of Section 302 of
the Sarbanes-Oxley Act of 2002.
32.1 Certification of Periodic Financial Reports by Robert
L. Waltrip as Chief Executive Officer in satisfaction
of Section 906 of the Sarbanes-Oxley Act of 2002.
32.2 Certification of Periodic Financial Reports by
Jeffrey E. Curtiss as Principal Financial Officer in
satisfaction of Section 906 of the Sarbanes-Oxley Act
of 2002.
36
99.1 Consolidated Class Action Complaint filed September
3, 1999 in Civil Action No. H-99-280, In re Service
Corporation International. (Incorporated by reference
to Exhibit 99.1 to Form 10-Q for the fiscal quarter
ended September 30, 1999).
99.2 Defendants' Answer to the Consolidated Class Action
Complaint filed September 17, 1999 in Civil Action
No. H-99-280, In re Service Corporation
International. (Incorporated by reference to Exhibit
99.2 to Form 10-Q for the fiscal quarter ended
September 30, 1999).
99.3 Defendants' motion to Dismiss the Consolidated Class
Action Complaint filed October 8, 1999 in Civil
Action No. H-99-280, In re Service Corporation
International. (Incorporated by reference to Exhibit
99.3 to Form 10-Q for the fiscal quarter ended
September 30, 1999).
99.4 Plaintiffs' Opposition to Defendants' Motion to
Dismiss the Consolidated Class Action Complaint filed
November 5, 1999 in Civil Action No. H-99-280, In re
Service Corporation International. (Incorporated by
reference to Exhibit 99.4 to Form 10-Q for the fiscal
quarter ended September 30, 1999).
99.5 Defendant's Reply to Plaintiffs' Opposition to
Defendants' Motion to Dismiss the Consolidated Class
Action Complaint filed November 24, 1999 in Civil
Action No. H-99-280, In re Service Corporation
International. (Incorporated by reference to Exhibit
99.12 to Form 10-K for the fiscal year ended December
31, 1999).
99.6 Plaintiffs' Original Petition filed November 10, 1999
in Cause No. 32548-99-11, James P. Hunter, III and
James P. Hunter, III Family Trust v. Service
Corporation International, Robert L. Waltrip, L.
William Heiligbrodt, George R. Champagne, W. Blair
Waltrip, James M. Shelger, Wesley T. McRae and
PricewaterhouseCoopers LLP; in the Judicial District
Court of Angelina County, Texas. (Incorporated by
reference to Exhibit 99.5 to Form 10-Q for the fiscal
quarter ended September 30, 1999).
99.7 Defendants' Original Answer in response to the
Original Petition referred to in Exhibit 99.6.
(Incorporated by reference to Exhibit 99.14 to Form
10-K for the fiscal year ended December 31, 1999).
99.8 Plaintiff's Original Petition filed December 28, 2000
in Cause No. 33701-01-01, Jack D. Rottman vs. Service
Corporation International, Robert L. Waltrip, L.
William Heiligbrodt, George R. Champagne, W. Blair
Waltrip, James M. Shelger, Wesley T. McRae and
PricewaterhouseCoopers LLP; in the __________
Judicial District Court of Angelina County, Texas.
(Incorporated by reference to Exhibit 99.16 to Form
10-K for the fiscal year ended December 31, 2000).
99.9 Defendants' Motion to Transfer Venue and Original
Answer in response to the Original Petition referred
to in Exhibit 99.8. (Incorporated by reference to
Exhibit 99.17 to Form 10-K for the fiscal year ended
December 31, 2000).
99.10 Plaintiff's Original Petition filed December 15,
2000, in Cause No. 2000-63917, Jack T. Hammer v.
Service Corporation International, Robert L. Waltrip,
L. William Heiligbrodt, George R. Champagne, W. Blair
Waltrip, James M. Shelger, Wesley T. McRae and
PricewaterhouseCoopers LLP; in the 165th Judicial
District Court of Harris County, Texas. (Incorporated
by reference to Exhibit 99.18 to Form 10-K for the
fiscal year ended December 31, 2000).
99.11 Defendants' Original Answer to the Original Petition
referred to in Exhibit 99.10. (Incorporated by
reference to Exhibit 99.19 to Form 10-K for the
fiscal year ended December 31, 2000).
99.12 Plaintiffs' First Amended Demand for Arbitration and
Complaint for Damages filed January 24, 2003 in Cash
No. 70 Y 168 00717 02, James P. Hunter, III and the
James P. Hunter, III Family Trust v. Service
Corporation International, Robert L. Waltrip, L.
William Heiligbrodt, and George R. Champagne, before
the American Arbitration Association in Houston,
Texas. (Incorporated by reference to Exhibit 99.12 to
Form 10-K for the fiscal year ended December 31,
2002).
37
(b) Reports on Form 8-K
During the quarter ended June 30, 2003, the Company furnished
a report on Form 8-K dated May 8, 2003 reporting (i) under
"Item 7. Financial Statements and Exhibits" that attached as
an exhibit was a press release dated May 8, 2003, and (ii)
under "Item 9. Regulation FD Disclosure" that the Company
issued the press release which disclosed financial results for
the first quarter of 2003. In addition, the Company filed a
report on Form 8-K dated May 8, 2003 reporting (i) under "Item
5. Other Events" that the Company issued a press release
announcing the election of Alan R. Buckwalter, III to the
Board of Directors and the retirement of E. H. Thornton, Jr.,
and (ii) under "Item 7. Financial Statements and Exhibits"
that a copy of the referenced press release was attached as an
exhibit.
SIGNATURE
Pursuant to the requirements of the Securities Exchange Act of 1934, the
registrant has duly caused this report to be signed on its behalf by the
undersigned thereunto duly authorized.
August 7, 2003 SERVICE CORPORATION INTERNATIONAL
By: /s/ Jeffrey E. Curtiss
--------------------------------
Jeffrey E. Curtiss
Senior Vice President
Chief Financial Officer and
Treasurer
(Principal Financial Officer)
38
INDEX TO EXHIBITS
<Table>
<Caption>
EXHIBIT
NUMBER DESCRIPTION
- ------- -----------
10.1 First Amendment to 2001 Stock Plan for Non-Employee Directors
dated May 8, 2003.
10.2 Second Amendment to Director Fee Plan dated May 8, 2003.
12.1 Ratio of earnings to fixed charges for the six months ended June
30, 2003 and 2002.
31.1 Certification of Robert L. Waltrip as Chief Executive Officer in
satisfaction of Section 302 of the Sarbanes-Oxley Act of 2002.
31.2 Certification of Jeffrey E. Curtiss as Principal Financial
Officer in satisfaction of Section 302 of the Sarbanes-Oxley Act
of 2002.
32.1 Certification of Periodic Financial Reports by Robert L. Waltrip
as Chief Executive Officer in satisfaction of Section 906 of the
Sarbanes-Oxley Act of 2002.
32.2 Certification of Periodic Financial Reports by Jeffrey E. Curtiss
as Principal Financial Officer in satisfaction of Section 906 of
the Sarbanes-Oxley Act of 2002.
99.1 Consolidated Class Action Complaint filed September 3, 1999 in
Civil Action No. H-99-280, In re Service Corporation
International. (Incorporated by reference to Exhibit 99.1 to Form
10-Q for the fiscal quarter ended September 30, 1999).
99.2 Defendants' Answer to the Consolidated Class Action Complaint
filed September 17, 1999 in Civil Action No. H-99-280, In re
Service Corporation International. (Incorporated by reference to
Exhibit 99.2 to Form 10-Q for the fiscal quarter ended September
30, 1999).
99.3 Defendants' motion to Dismiss the Consolidated Class Action
Complaint filed October 8, 1999 in Civil Action No. H-99-280, In
re Service Corporation International. (Incorporated by reference
to Exhibit 99.3 to Form 10-Q for the fiscal quarter ended
September 30, 1999).
99.4 Plaintiffs' Opposition to Defendants' Motion to Dismiss the
Consolidated Class Action Complaint filed November 5, 1999 in
Civil Action No. H-99-280, In re Service Corporation
International. (Incorporated by reference to Exhibit 99.4 to Form
10-Q for the fiscal quarter ended September 30, 1999).
99.5 Defendant's Reply to Plaintiffs' Opposition to Defendants' Motion
to Dismiss the Consolidated Class Action Complaint filed November
24, 1999 in Civil Action No. H-99-280, In re Service Corporation
International. (Incorporated by reference to Exhibit 99.12 to
Form 10-K for the fiscal year ended December 31, 1999).
99.6 Plaintiffs' Original Petition filed November 10, 1999 in Cause
No. 32548-99-11, James P. Hunter, III and James P. Hunter, III
Family Trust v. Service Corporation International, Robert L.
Waltrip, L. William Heiligbrodt, George R. Champagne, W. Blair
Waltrip, James M. Shelger, Wesley T. McRae and
PricewaterhouseCoopers LLP; in the Judicial District Court of
Angelina County, Texas. (Incorporated by reference to Exhibit
99.5 to Form 10-Q for the fiscal quarter ended September 30,
1999).
99.7 Defendants' Original Answer in response to the Original Petition
referred to in Exhibit 99.6. (Incorporated by reference to
Exhibit 99.14 to Form 10-K for the fiscal year ended December 31,
1999).
99.8 Plaintiff's Original Petition filed December 28, 2000 in Cause
No. 33701-01-01, Jack D. Rottman vs. Service Corporation
International, Robert L. Waltrip, L. William Heiligbrodt, George
R. Champagne, W. Blair Waltrip, James M. Shelger, Wesley T. McRae
and PricewaterhouseCoopers LLP; in the __________ Judicial
District Court of Angelina County, Texas. (Incorporated by
reference to Exhibit 99.16 to Form 10-K for the fiscal year ended
December 31, 2000).
99.9 Defendants' Motion to Transfer Venue and Original Answer in
response to the Original Petition referred to in Exhibit 99.8.
(Incorporated by reference to Exhibit 99.17 to Form 10-K for the
fiscal year ended December 31, 2000).
99.10 Plaintiff's Original Petition filed December 15, 2000, in Cause
No. 2000-63917, Jack T. Hammer v. Service Corporation
International, Robert L. Waltrip, L. William Heiligbrodt, George
R. Champagne, W. Blair Waltrip, James M. Shelger, Wesley T. McRae
and PricewaterhouseCoopers LLP; in the 165th Judicial District
Court of Harris County, Texas. (Incorporated by reference to
Exhibit 99.18 to Form 10-K for the fiscal year ended December 31,
2000).
99.11 Defendants' Original Answer to the Original Petition referred to
in Exhibit 99.10. (Incorporated by reference to Exhibit 99.19 to
Form 10-K for the fiscal year ended December 31, 2000).
99.12 Plaintiffs' First Amended Demand for Arbitration and Complaint
for Damages filed January 24, 2003 in Cash No. 70 Y 168 00717 02,
James P. Hunter, III and the James P. Hunter, III Family Trust v.
Service Corporation International, Robert L. Waltrip, L. William
Heiligbrodt, and George R. Champagne, before the American
Arbitration Association in Houston, Texas. (Incorporated by
reference to Exhibit 99.12 to Form 10-K for the fiscal year ended
December 31, 2002).
</Table>