One Industry Sure to Succeed In the Obamacare Era
With persistent prescription drug shortages already beginning, and medical device manufacturers laying off thousands to reduce operating costs to pay their 2.5% gross profit tax hike, the Affordable Care Act is creating an increasingly poor prognosis for the health care sector. Not to fear -- one industry will inevitably succeed in the face of deteriorating health care, and may in fact prosper.
Carriage Services, Inc. (CSV), Service Corporation International (SCI), and Stewart Enterprises (STEI) are the three major players in a relatively unknown sector: deathcare.
Each of these companies have remained profitable during the boisterous past five years, when consumers have been cutting back on opulent funeral expenditures. Three long-term trends will benefit this industry within the next 5-10 years.
One, a rebound in the general economy is likely to increase spending on funeral services. Although funeral expenses are elastic, they are also cyclical. People buy economical cars during hard times, and later tend to buy top-of-the-line models in booming years. Think of Cadillac caskets.
Did somebody say booming? Yes, the baby-boom generation is not getting any younger. They turned America into a socioeconomic trash heap, so why not benefit from their demise? Economists like Steven Levitt have suggested that some of the greatest economic trends follow intergenerational variability. Not every generation was made the same; they vary in size, preferences, and spending habits.
With their track record of self-aggrandizement, you can bet no generation will go out with a bigger bang than the boomers. And no 20th century generation will go out in greater numbers. Analysts and pundits have long talked about the effect of boomers on entitlements, but who has taken the next step? Even if boomers fail to outspend previous generations, their greater numbers will ensure a revenue stream to rival the River Styx.
Third, the publicly traded funeral companies are expanding, and their margins benefit from economies of scale. Private funeral homes have had difficulty surviving over the past several years, and public firms have stepped in to either buy them outright or convert them into franchises. Carriage Services expanded its acquisitions by 8.2% during 2011 from 147 to 159 funeral homes and cemeteries. Its business is regionally limited the South, but of the three companies its gross margins are the best, and its operating and net margins would be superlative but for a non-recurring unusual expense in 2011.
Service Corporation International boasts the largest market capitalization, and has a nationwide presence of 1,419 funeral homes distributed among 43 states. Its free cash flow is impressive in contrast to its competitors, and it has successfully embarked upon a five-year deleveraging campaign. Currently, it is initiating share buyback program in addition to its current 1.75% dividend yield (more on that in a minute).
Stewart Enterprises is currently being gobbled up by shorts, with a 13% short float, but its YTD performance has been a respectable increase of 24.13% (compared to 95% for CSV and 28% for SCI). Stewart management seems best oriented to the possibility of changing trends. If you think cremations are going to continue to rise, and that deathcare companies can boost profits from cremation services, Stewart may be right for you.
Public deathcare firms have their shortcomings, however. All three of these companies have significant debt, and only tried-and-true rule-breakers will want to get involved with them. Additionally, with the recent run-up in prices, they are arguably at fair value or slightly overvalued. Prudence might suggest waiting for an additional 5-10% dip, although if the dip does not materialize a growth opportunity might be missed. These three companies have had an average 5-year EPS growth of 15.57%.
Management of all three companies have been resistant to deleveraging. All three companies pay dividends (STEI is highest at 2.24% yield), and CSV and SCI have significant share repurchase programs in place. Public deathcare companies have ambitious capital expansion programs, and ideally management would pay off debt before further expanding. It seems these companies sense the looming opportunity, and managers are moving to position themselves for maximum windfall. At least, that is the only way I can reconcile this leveraged high-growth situation.
Think health care is going downhill? You're probably right. Invest in death care instead; it's the way of the future, hope and change we can all invest in.
The author has been long CSV since 2010, and has no plans to make or alter positions in any of the above companies within the next 72 hours.