Earnings Call Transcript - CSV Q3 2020

Operator, Operator

Good morning, ladies and gentlemen, and welcome to Carriage Services' Third Quarter Earnings Call. I would now like to turn the conference over to your host, the Carriage Services leadership team.

Viki Blinderman, Chief Accounting Officer

Thank you, and good morning, everyone. This is Viki Blinderman, the Chief Accounting Officer. Today, we'll be discussing the company's third quarter results for 2020. Our related earnings release was made public yesterday after the market closed. Carriage Services has posted the press release, including supplemental financial tables and information on the Investor page of our website. This audio conference is being recorded and an archive will be made available on our website later today through November 2. Replay information for the call can be found in the press release distributed yesterday. On the call today from management are: Mel Payne, Chairman and Chief Executive Officer; Ben Brink, Chief Financial Officer; Peggy Schappaugh, Vice President of Operations & Acquisitions Analysis; and Steve Metzger, General Counsel. Today's call will begin with formal remarks from management followed by a question-and-answer period. Before we begin, I would like to remind everyone that during this call, we will make forward-looking statements. Certain statements on this call, including financial estimates, assumptions or statements about our plans, future results, expectations or beliefs may constitute forward-looking statements under applicable securities laws. We make these statements on the basis of our reviews and assumptions regarding future events, business performance and other factors at the time we make them and do not undertake any obligation to provide updates or revise any of these forward-looking statements after the date of this call, whether to reflect their current events, circumstances or changes in expectations, except as required by law. These forward-looking statements are subject to a number of risks and uncertainties and actual results may differ materially from the results expressed or implied in light of a variety of factors, including factors contained in our annual report on Form 10-K, quarterly reports on Form 10-Q and in our other filings with the SEC. Please note that a reconciliation of non-GAAP measures, that may be referred to on this call to equivalent GAAP measures, can be found in our earnings press release that was issued yesterday and on the company's website. And with that, I'd like to turn it over to Mel.

Melvin Payne, Chairman and CEO

Thank you, Viki. Today, I won't say a whole lot. There's a lot of information in our earnings release for this quarter. And the earnings release is anything but another quarter release. It's all about our company. And I wanted to simply state that we do a lot of communications beneath the covers of what is reported to the public. I would like to share a little of that with everybody on this call. So this went out to every managing partner, every sales manager, every field support leader, directors of support, and every employee and leader in our Houston Support Center. This went out about 5:24 p.m. yesterday with our quarterly 9-month release. 'I have never in my life been more honored and inspired by anyone or any group of people than I have been by the amazing leadership and performance of our managing partners and sales managers and our funeral and cemetery portfolio of businesses over the last 9 months and especially the last 6 months after the coronavirus pandemic shocked our country with both a continuing health and economic crisis. The same is true for all the support leadership and teams, who enabled all of our frontline coronavirus battle warriors and their courageous teams of employees to remain in the battle of serving their client families and communities when it counts most. On behalf of Carriage's executive team and Board of Directors, thank you for your heroic service and for making Carriage a very special place for very special people to unite in a common cause on noble work for so many client families and communities. Attached as our third quarter and 9 months earnings press release, it was truly humbling to write about what you have achieved this year, a year of record performance by a company full of high-performance heroes. Let's finish the year strong, and all the best, Mel.' Now when this goes out, it generates a lot of attention. We do a lot of communication and recognition in the company. So we'll have so many people from Carriage across the country on this call. So I know I'm speaking to them as they hear this. And now they're hearing it, not just reading it. And I often get many responses to these kinds of communications. But I'll just read you one. It's from Loren Forastiere this morning at 5:23 a.m. 'Mel, thank you for your words of encouragement and enthusiasm. We have been working hard and keep pushing for revenue enhancement while serving the families with higher flexibility and awareness to each need related to the pandemic. It has been wonderful to have the support of all members within Carriage Services. We truly are united. I am looking forward to the call.' Loren is the daughter of Frank Forastiere. I'm sure they're on the call. The Forastiere family business is the business in Springfield, Massachusetts. They joined Carriage and came our partners in October of '98. Frank was one of the original standards council members and he had to rotate off a couple of years ago when he passed the leadership managing partner role to his daughter, Loren. Every Thursday, Loren, we hear about what you and your team are doing, not always on a Thursday. But the main subject over the last weeks getting ready for this call is where are we gaining market share? How much of this is COVID only? And how much of it is market share? And I will tell you, Loren and Frank, we know you're growing the business, how you're growing the business. And even when the outbreak slowed, you didn't. We know where the business is coming from. And I'm not going to mention their name; it's a big business, but it's getting smaller by the month. So thank you and your team for what you do. Because this is the exact example of what's going on broadly across Carriage. With that, I'd like to turn it over to Ben to put a little meat on the bone of what transformative really looks like.

Ben Brink, Chief Financial Officer

Thank you, Mel, and thank you to everyone who has joined us on the call today. Our extraordinary third quarter performance is a reflection of a company that is completely aligned at all levels to our 2020 theme of transformative high performance. And the continued momentum we see in all areas of the company is the Carriage high-performance flywheel in full effect. These results also demonstrate the strength of our decentralized entrepreneurial standards operating model, the quality of our managing partners and their teams and our ability to rapidly innovate and adapt in the face of unprecedented challenges brought on by the coronavirus crisis. We are excited to share these results with you today. For the third quarter and year-to-date results, all of our reported operating and financial performance metrics were records. As I review our results, it is important to recognize the full impact of the operating and financial and value creation leverage dynamics that allowed Carriage to leverage organic revenue growth into higher growth rates in total field EBITDA, adjusted consolidated EBITDA and adjusted diluted earnings per share. For the third quarter, we earned $84.4 million of total revenue, an increase of 27.6%; $37.3 million of total Field EBITDA, an increase of 45% with total Field EBITDA margins improving 530 basis points to 44.2%. Adjusted consolidated EBITDA improved $10.4 million or 60.1% to $27.7 million. And our industry-leading adjusted consolidated EBITDA margin improved 670 basis points to 32.8%. Adjusted diluted earnings per share increased an impressive 82.1% to $0.51 in the quarter. Year-to-date, total revenue has increased 17.9% to $239.4 million. Total Field EBITDA has increased 24% to $100.6 million. Total Field EBITDA margin increased 200 basis points to 42%. Adjusted consolidated EBITDA increased 32.3% to $75.9 million. Adjusted consolidated EBITDA margin increased 340 basis points to 31.7%. And our adjusted diluted EPS increased 34% to $1.30 for the first 9 months of the year. At this point, I will turn the call over to Peggy Schappaugh, Vice President of Operations & Acquisition Analysis, for a review of our operational performance. Peggy?

Peggy Schappaugh, Vice President of Operations & Acquisition Analysis

Thank you, Ben, and good morning, everyone. It is truly an honor and a privilege to have the opportunity to share the insight on the hard work, creativity and pure grit of our managing partners, sales managers and their teams. When COVID started to hit our country, we wanted to, first and foremost, ensure the safety of our people and give them peace of mind so that they were still able to provide outstanding service to our families. Shawn Phillips, regional partner, led the charge and centrally gathered an abundance of PPE here in Houston to disperse to our funeral homes and cemeteries across the country. This gave our managing partners and their teams one less thing to be concerned about and more time to focus on serving every family while still maintaining CDC guidelines. Because our managing partners are true owners of their businesses, they remain focused on high performance as it pertains to not only revenue growth but also EBITDA margin. In 2019, some adjustments were made to our Being The Best incentives as it relates to margins, further motivating our managing partners to produce higher margins. So when the uncertainty of COVID hit, there was immediately an acceleration of expense management from our intuitive managing partners. Funeral Home same-store net revenue was up 3.3% September year-to-date while same-store Field EBITDA was up 9.6%, propelling the September year-to-date Funeral Home same-store margin from 38.4% to 40.7%, an increase of 230 basis points. Our managing partners and sales managers also made great strides in quarter three on Cemetery sales. After finishing quarter two behind $1.9 million in Cemetery same-store operating net revenue, largely due to the cancellation of our annual Ching Ming event, we were able to close the gap in quarter three to within $250,000 operating net revenue and bring our same-store margins from being behind $1.6 million in quarter two to being flat on a year-to-date basis. In quarter three, we continue to see an increase in sales at our 3 new Cemetery acquisitions, increasing operating net revenue 28.7% from quarter two, improving margin from 35.4% in quarter two to 44.7% in quarter three, bringing the year-to-date margin to 38.1%. We continue to see accelerated integration of our 4 large acquisitions that were made at the end of 2019 and in January of 2020, even amidst the pandemic, which has proved to make our partnership with these businesses even stronger. The improving results, since the first quarter, reflects the great work that is being done by the managing partners and their teams at each of these businesses with the continued support from our operational leadership team. This is just the beginning of higher performance at these 4 large strategic acquisitions, which will continue to grow and translate into even higher margins into next year and many years to come. And the most important thing to note is the power of our decentralized model, which gives our managing partners the ability and freedom to make decisions locally as it relates to each of their markets. So as guidelines and restrictions were put in place, they were able to quickly adapt and make the necessary adjustments to serve our families in safe and creative ways. At the beginning of 2019, we rebooted our standards and added 2 key components: an intense focus on compounded net revenue growth and we introduced a new standard, the service guest experience. The service guest experience standard was something new to everyone. But the goal was to truly differentiate ourselves and create even more value and personalization for each of our families. The creative juices began in 2019. But the level of creativity that has been stimulated during this pandemic with the CDC guidelines and restrictions in place has been simply remarkable and amazing to witness. Our people have found more unique ways to give families what they need, a service to honor the lives of their loved ones, and the important time to grieve with their family and friends, even if that meant doing visitations in small groups or having people RSVP for a service or conducting drive-through visitation or holding services outdoors. In addition, we increased our number of funeral homes that offer live streaming from only 30 to now 125 in an effort to overcome restrictions and give our families, who don't feel safe attending a service in person, an opportunity to participate in the service virtually. We believe that these creative ideas won't go away but have become the new way we show value to our families. We knew that our managing partners were true entrepreneurs. But that spirit has really shined through during this pandemic. They continue to grow market share above the lift we have seen from COVID cases. A vast majority of our same-store funeral homes had market share growth on a year-to-date basis and approximately 75% of those businesses had market share growth beyond COVID. Due to early local restrictions on gatherings, we did see a dip in our Funeral Home averages starting at the end of March, the lowest point being in April. But with the inspiring and innovative ideas at our businesses, both our burial and cremation averages have been picking up ever since. On a same-store basis, we saw an increase in our burial average of 3% in the third quarter versus the second quarter and an increase in cremation average of 6.4%. We believe this upward trend in average will continue the rest of this year and into next year. And when talking about cremation average specifically, we saw an increase in our cremation calls with the reboot of standards in 2019, which put more emphasis on net revenue growth. At the end of '19, we put more focus on converting those cremations into a cremation with some type of service. We remain dedicated to taking time with each of our families to educate them on what is possible when choosing cremation as a disposition. And cremation is just that, it's a type of disposition. It does not mean there is no service or celebration of life. We have heard so many great stories of how our funeral directors take the time to connect with each family and simply listen as the family share stories and interests about their loved ones. This allows us to provide unique and creative ways to honor them and share that with everyone that attends the service, transforming a sad occasion into a lasting memory. I would like to share just a few examples of how our people incorporate unique touches to every service. One of our businesses organized a parade for someone down Main Street because they always wanted to have a parade in their honor. We had another business create replica tickets of their favorite sports teams to hand out at the service. And another business made laminated miniature vinyl cards for a former music producer for all who knew him to have a reminder of the life he was so proud of. And another business had the unique idea to give a grieving husband the opportunity to apply the insignia of their family brand on a wooden casket that would be the final resting place for the love of his life. These things may seem small to someone looking in, but they are a touching moment for the family that has just lost someone very close to them. This is how our people make such an impact and touch not only the family that is grieving but anyone attending the service, leaving a lasting memory so that when they are in the unfortunate position of losing someone close to them, they know who they can rely on to create that customized memorable service. And with that, I'll turn it back over to Ben.

Ben Brink, Chief Financial Officer

Thank you, Peggy. Great job. The third quarter marked the first period of time where the full effect of the successful execution of our trust fund portfolio repositioning strategy was reflected in our reported financial revenue and EBITDA. As detailed in our press release, the work we did at the depths of the coronavirus market crisis positioned our trust fund portfolio for further upside capital appreciation and a significant increase in the amount of recurring annual income generated from the portfolio. The recurring annual income generated from our trust fund portfolio is currently $15.7 million, up from approximately $9.4 million prior to the execution of our strategy. Initially, this 67% increase in recurring annual income will primarily benefit our recognized revenue through our cemetery perpetual care trust while increasing the value of pre-need funeral and cemetery trust contracts to be recognized over the long term. For the third quarter, financial revenue increased 44.5% to $5.6 million, driven by a 111% increase in cemetery trust earnings. Financial EBITDA increased 51.6% to $5.2 million, and financial EBITDA margin increased 440 basis points to 93.8% compared to the third quarter of last year. Next year, we expect financial revenue to be between $22 million and $23 million and financial EBITDA of approximately $21.5 million, an almost 50% increase from our financial EBITDA prior to the execution of our repositioning strategy. Going forward, this higher level of recurring financial revenue and EBITDA will be significantly accretive to our adjusted consolidated EBITDA and adjusted consolidated free cash flow margins that are reflected in our updated 3-year milestone scenario. Overhead increased $1.1 million while overhead as a percentage of revenue, the measure of our ability to leverage our overhead and support platform, fell to 11.8% in the third quarter. All of the increase in our overhead for the quarter was due to an increase in the incentive compensation accruals, primarily for our Funeral Home and Cemetery Being The Best annual incentive awards. We are now fully accrued for a higher field incentive compensation at the end of the quarter. As Peggy mentioned, an important turning point for Carriage was the update to our standards operating model in late 2018 to focus on 3-year annual compound local revenue growth, driven by market share gains, as we deliver a high-value personal service and sales experience to every family we have the opportunity to serve. Our managing partners and their teams are able to share in the local profits of their business with no overhead allocations when they achieve at least 50% of their annual standards for our Being The Best incentive program. I'm looking forward to continued growth in our field incentive compensation accruals in the future. Our strong operating performance led to extraordinary free cash flow generation and debt reduction in the third quarter. For the quarter, our adjusted free cash flow increased 120.3% to $27.6 million and our adjusted free cash flow margin expanded 1,370 basis points to 32.7%. The continued expansion of our adjusted free cash flow margin represents a greater percentage of revenue generated as cash capital that is available to responsibly grow the intrinsic value of Carriage. We were able to pay down $37.5 million in debt during this third quarter, equal to 7.4% of our debt outstanding at the beginning of the quarter. This included the repurchase of $3.6 million of our 2.75% subordinated convertible notes in privately negotiated transactions. For the year, we have paid down $63 million of debt, which is equal to 11.8% of our total debt outstanding post the close of Oakmont Memorial Park and Mortuary on January 3. We are currently well ahead of our previous expectations for debt reduction. And we now expect our total debt outstanding to be approximately $460 million by the end of the year. Our net debt to pro forma adjusted consolidated EBITDA fell to 4.8x at the end of the quarter due to the accelerating growth in our adjusted consolidated EBITDA combined with a large amount of debt reduction throughout the quarter. We were able to reduce our leverage on an absolute basis by over 1 full turn during the third quarter. The rapid and substantial decrease of our leverage ratio demonstrates not only our ability but our commitment to operate Carriage at a lower leverage profile now and into the future. We expect our leverage ratio to be approximately 4.5x by year-end and below 4x by year-end 2021. During the third quarter, we divested 6 businesses for total proceeds of $7.3 million. We currently expect to sell approximately 20 businesses or excess real estate for total proceeds of around $17 million and be substantially complete by the time we look to execute a refinancing transaction in the second quarter of next year. These transactions will be accretive to our leverage profile and will incrementally improve the organic growth rates and field margin profile of our same-store Funeral Home segment. Our debt repayment in the quarter was also helped by the receipt of a $7 million federal tax refund related to tax law changes made in the recently passed CARES Act. We expect to receive an additional $1 million refund prior to the end of the year and we will be a full cash taxpayer again in 2021. As we have previously stated, our primary focus for capital allocation over the next 3 quarters will be the continuation of the significant progress we have made to reduce total debt outstanding and reduce our debt-to-EBITDA leverage ratio. Our rapidly improving credit profile positions Carriage to execute a refinancing transaction of our existing 6.625% unsecured high-yield notes when they become callable on June 1 of next year. We expect this transaction to reduce our interest cost by a minimum of 200 basis points, reduce our cash interest cost by a minimum of $8 million, and add a minimum of $0.29 of earnings per share on an annual basis. This transaction will also lead to a material improvement in our cost of capital. These assumptions are conservatively included in our updated 3-year milestone scenario and in our updated rolling fourth quarter outlook. After the completion of this refinancing transaction, Carriage will have a maximum financial flexibility to pursue a range of value creation and capital allocation opportunities, including partnering and acquiring the best remaining funeral home and cemetery businesses in the country, who will look to Carriage as the succession planning solution of choice within our industry; invest in strategic growth projects throughout our portfolio; opportunistically repurchase our shares, all while remaining at a more modest leverage profile as the vast majority of these will be funded by our growing and recurring free cash flow. The final piece of our capital allocation strategy will be to steadily increase our dividend over time. We are pleased and excited to announce the decision by our Board of Directors to increase our annual dividend by $0.05 to $0.40 per share. This increase marks the second $0.05 increase in our dividend since the onset of the coronavirus crisis and should be viewed as an additional sign of confidence in our future performance. At $0.40 per share, our annual dividend payments will be $7.2 million per year and represent approximately 10% of our projected 2022 adjusted free cash flow. Beyond 2022, we will target a dividend policy of approximately 10% of our adjusted free cash flow and a 1% dividend yield on the market price of Carriage shares. We're also pleased to announce an updated rolling 4-quarter outlook and updated 3-year milestone Roughly Right Scenario that both show a significant increase in our performance expectations through 2022 and beyond. We expect to achieve important company performance milestones of over $100 million in adjusted consolidated EBITDA and industry-leading 32% adjusted consolidated EBITDA margin and earn over $60 million of adjusted free cash flow this year whereas we previously expected those milestones to be met in 2021 and 2022. We also now expect to earn between $1.80 and $1.85 in adjusted diluted earnings per share this year, growing to between $2.15 and $2.25 in 2021 and growing further to $2.48 to $2.60 in 2022, when we have the full year effect of a lower cost capital structure. We have increased our performance expectations in all major categories as we see continued growth in local market share in both our Funeral Home and Cemetery segments at higher and sustainable margins, improved pre-need cemetery property sales, continued performance improvement from our 4 recent strategic acquisitions, and the full impact of the increase in financial revenue and EBITDA from our pre-need trust fund portfolio repositioning strategy. We view these performance expectations as readily attainable through 2022 and believe we have multiple opportunities to exceed these expectations through continued improvement of our existing portfolio and through savvy and disciplined capital allocation post a refinancing transaction. And finally, I'd like to take this opportunity to echo the sentiments of our entire leadership team that while the coronavirus crisis impacted our results in a variety of ways, our third quarter and year-to-date results are the byproduct of the tremendous work by dedicated leaders and teams across our entire company over the past two years. We cannot thank them or recognize them enough for their efforts. We look forward to a strong finish to this year and achieving the goals we've set out before us in the future. For those investors who are new to Carriage or are reading one of our earnings call transcripts for the first time and have further curiosity about us, I would encourage you to visit our website and study our investor materials, beginning with Mel's 2015 shareholder letter and subsequent years, press releases, and our 5-annual and 5-quarter transparent trend reports. These materials will detail Carriage's almost 30-year evolutionary journey and the key concepts that drive our high-performance culture. Then give us a call, or better yet, come for a visit in Houston for a deeper dive into the fastest-growing, highest-margin, and second-longest tenured funeral home and cemetery consolidator based in the U.S. We're happy to host, socially distanced, of course.

Steve Metzger, General Counsel

Thank you, Ben, and good morning, everyone. When Mel first asked me to take part in today’s earnings call, I was somewhat taken aback. It's not typical for the General Counsel to be involved in these discussions. However, I realized that with Mel, there is often a broader vision behind an idea that may initially seem unconventional. The more I considered the request, the more I recognized the importance of sharing with our investors about the various teams working collaboratively behind the scenes, alongside our managing partners, to contribute to the strong performance reported by Mel, Ben, and Peggy this morning. Therefore, I am grateful for the chance to discuss our support center teams and specifically our legal team. In preparing my remarks, I asked Mel if there was anything specific he wanted me to address. Those who regularly follow Carriage won't be surprised by Mel's straightforward response. He told me, "Steve, just talk about anything related to the company." He added, "Say what you mean and mean what you say." This response, while brief, captures a mindset central to our success. There are no standardized scripts to follow; instead, we trust our people to generate great ideas and execute them. The results of this approach are often reflected in financial metrics like EBITDA and EPS. However, underlying those numbers is a talented team. The managing partners and their teams, whom we frequently mention, truly drive that performance. Observing their actions in a normal environment is impressive, but as Peggy noted, watching how they have adapted their leadership to discover innovative and responsible ways to support each family amid a constantly changing environment is truly inspiring. Behind the scenes, another remarkable group also faced numerous challenges this year. Whether it was our IT team swiftly implementing live streaming and remote document execution to ensure safety, or our field operations support team providing 24/7 administrative help when needed, or our HR, risk management, and legal professionals collaborating to manage a hotline for immediate answers to frontline questions during the pandemic, the teamwork and problem-solving displayed by these groups have made their contributions essential to Carriage. Most public companies feature some form of a support center, often labeled as headquarters or corporate. However, what distinguishes Carriage's support team is that the same entrepreneurial spirit and autonomy driving our decentralized model also apply to our support center teams. The principle is straightforward: hire the best talent and empower them to excel. This means giving leaders at all levels the authority to act swiftly without lengthy meetings or approvals that can hinder progress. Regarding our legal team, I am fortunate to collaborate with professionals who bring much more than diverse legal expertise. I often tell Mel that our in-house attorneys take pride in advising on business matters, not just legal concerns. We deliberately share financials, weekly business performance updates, cash debt balance activity, and other crucial financial metrics with our attorneys. This transparency allows them to gain a deeper understanding of our businesses and the factors driving our quarterly results, applying that knowledge to their guidance and decision-making. This intentional financial focus leads our attorneys to act as business partners with a legal background rather than just legal advisors. We often engage in discussions about strategic objectives and capital allocation. Their insights not only inform final decisions but also enhance the support they provide daily. Our legal team and many of their support center colleagues dedicate substantial time to continually learning about the business and its financial drivers, creating a strong sense of ownership in the company’s financial health and growth. For instance, when discussing the financial impact of a proactive matter one of our attorneys has been addressing, he informed me recently, "Steve, that recovery is estimated to impact around $0.01 per share." His referencing of our EPS metric is common; it's a language we frequently use. It exemplifies their understanding of our financials and their approach to spending and decision-making company-wide. I mention all of this to illustrate how the entrepreneurial philosophy and ownership mindset extend to our support teams, especially during the pandemic. When uncertainties and challenges emerged back in March, our field and support teams were well-prepared, equipped, and empowered to act swiftly and judiciously. The ownership mindset fostered in our support center encourages individuals to not only fulfill their roles but to ask questions, think strategically, and act decisively when timely action is needed. This pandemic has called upon the full range of talent within our team, and they have exceeded the high expectations they set for themselves. As a company, we often discuss the entrepreneurial spirit that drives our operations, and I've been fortunate to witness it in action daily, not only in our frontline professionals but also in our support center team. I appreciate Mel for allowing the General Counsel to participate in these calls and provide our investors with insights about less frequently mentioned, yet equally vital, contributors to our performance. I speak for our legal team and support center colleagues when I say it’s a true privilege to work alongside our managing partners and the frontline leaders who serve our families during these challenging times. Thank you to all the behind-the-scenes professionals at the Houston Support Center for your hard work. I'll now hand things over to Mel.

Melvin Payne, Chairman and CEO

Thank you, Steve. So if anybody out there takes Ben up on his invitation to come and visit, we'll introduce you to some of Steve's dragon slayers. And you'll see exactly what we mean by that. So two days ago, Shawn Phillips and I got an email. We got that email from Dewayne Cain. Dewayne is the founder of Rest Haven in Dallas. And it reads as follows, 'Wednesday, October 28, marks our 1-year anniversary.' So he's referencing one year ago today, when we closed the day before the acquisition of Rest Haven, which was founded 50 years ago by Dewayne. The email said as follows, 'My decision to form a partnership with Carriage was the third-best decision I ever made. The two that preceded it were: one, asking Jesus into my life; and two, asking Ann to marry me. Last October, no one could have predicted what 2020 would bring. But I can truthfully say that in these last 12 months, my belief in Carriage as well as my admiration and respect for you and Shawn has grown. May God continue to bless our great country, our wonderful families, our successful company and our continued friendship.' So I emailed Dewayne back yesterday. Now for those of you who've been around a while and might have been on that call a year ago, Dewayne was my guinea pig. I wanted him to do a testimonial, the first one that would have ever been done by a former owner, one 12-hour period after he wasn't the owner. But we made it clear to Dewayne that he never will not be the owner. And he still uses the same parking spot and he doesn't pay me any rent. It's okay, Dewayne, I forgive you. This is what I've sent Dewayne back, 'Dewayne and Ann, amen, partner, to your prayer. May God continue to bless our great country, our wonderful families, our successful company and our continued friendship. Happy 1-year anniversary. I have attached our third quarter earnings release that just went out this afternoon, which is not about just a quarter, but it's all about a company full of wonderful businesses with wonderful people, doing amazingly noble work in the midst of a coronavirus pandemic crisis. My only regret is that you won't be here tomorrow morning on our conference call to express your thoughts and feelings on 'the third-best decision you ever made.' So my dear friend and partner, if you don't mind, I might take the liberty of reading your email instead. Stay safe and healthy.' And Dewayne emailed me back last night, 7:21 p.m., 'You definitely have my permission because it's so very true.' Now what we couldn't have known one year ago, when we invited Dewayne to do his testimonial, is that Mike Doherty, the third-generation member of Fairfax Memorial Park and Funeral Home in Fairfax, Virginia, was on that call and listening carefully to what Dewayne had to say about Carriage being a family succession solution, which Fairfax was looking for at the time. He later called Dewayne personally to ask him about Carriage. That led to Carriage being the winner for Fairfax, which I've known about a long time. And it put this big business in Carriage. It was founded 62 years ago by Mike's grandfather. And we have promised Mike, and when we went and presented to Mike and the other members of the Board, Dave Dodrill was a big owner, had come in to help the family. And Dave and Mike, if you're listening, thank you for your trust in us. So you never know in this business who's listening and they're paying attention to what is said by not just those of us in the company but by those of you who joined the company, especially owners of great businesses. You are known by the company you keep and the reputation they have will also build your own reputation. This is who we are. The best years of our company are in front of us. We will get through this coronavirus as a country, I hope soon. But I have never been more proud of our people than I am now. And our future has never looked so bright. So we look forward to reporting that future performance to you as it occurs.

Operator, Operator

We have our first question coming from Alex Paris from Barrington Research.

Alexander Paris, Analyst

I just wanted to start off by saying congratulations on just an outstanding quarter, another beat and raise. And in fact, the raise suggests that this momentum is going to continue into the fourth quarter. I also appreciate the 3-year milestone outlook. I know Mel has never looked at this company on a quarter-by-quarter basis. It's really the long-term story. And I think, from everything that I see this year, you're really setting up for a good next several years. I've been covering the company for 8 years now. I just looked at it, 32 quarters, and I've never seen such a strong and broadly-based outperformance for Carriage Services. So again, congratulations. I just thought, at this point, a lot of information was covered. I might just dive a little deeper into a couple of the things mentioned on the call. I think Peggy touched on a few of these. Starting off with funeral services, obviously, contracts were up sharply. And you attribute that to taking market share. My question is where is that market share coming from? How are you picking up this market share? And are these market share gains sustainable beyond COVID?

Peggy Schappaugh, Vice President of Operations & Acquisition Analysis

So Alex, regarding market share, we rebooted our standards at the end of 2018, with a strong emphasis on net revenue growth. Our managing partners have shifted from an average standard to ensuring that every call is taken. We've been focusing on converting cremation calls into various services. I mentioned some unique initiatives we've implemented. During COVID, while other funeral homes may have turned families away due to fear, our team stepped up to serve those families. We've seen broad growth beyond COVID cases, not just in places like New York, which was heavily impacted in the second quarter. We've been consistently taking market share from our competitors across all areas. Our outdoor services have drawn attention; one managing partner noted that people traveled from 40 miles away because of these offerings. It's the distinctive touches our team adds to the services that resonate with attendees, letting them know where to go for a personalized service of their own.

Melvin Payne, Chairman and CEO

So Alex, it's Mel. Each Thursday, as mentioned in the press release, we have an operational update call via Zoom with the support directors, who are all located in the regions. Each of them manages a portfolio of about 15 businesses. We have Peggy's team of SOPs, who are the most knowledgeable people I want to be around. They are well-informed. During these update meetings, everyone gets a chance to discuss what's happening in their areas and portfolios. We frequently hear about market share gains for various reasons. The stories shared are specific to each business and often inspirational, showcasing entrepreneurial creativity. For instance, we have a great business in the Inland Empire with Justin Luyben. We also have conference calls with our standards council for market updates. I asked Justin how he is achieving his success, recognizing that his previous competition is now significantly smaller. He expressed amazement at the situation, explaining that when California imposes restrictions, it motivates people who have lost loved ones to seek our services. He wished he had thought of this strategy five years ago. I told him I'm glad not to be his competitor because his ideas are innovative. This is how we're experiencing broad growth; we empower our teams to explore what’s possible. Sometimes they come up with unique concepts, like celebrating Christmas in July, and they're already planning for Christmas nationwide. Information spreads within our group as they share their ideas, which has been very motivational for us. Even with the smartest minds, we wouldn't conceive these ideas locally. They’re executing them effectively. As I mentioned in the press release, families, when faced with limitations, are finding more value in what is possible, even if we don’t fully understand it yet. They are discovering new possibilities and gaining market share, with specific stories emerging every week from across the country.

Alexander Paris, Analyst

That's great. I appreciate that. And I appreciate that additional color. Early on in the crisis, in the pandemic crisis, there was the thought that people may do kind of the bare bones minimum, whether it's a direct cremation or some other burial or other disposal. And then there was a thought that maybe this wasn't lost revenue; it might be deferred. That there was the opportunity to have these people back at some future date to perform the memorial service and that sort of thing. I remember talking about that back in April. I'm just wondering, have we seen that at all in Q2 and Q3?

Melvin Payne, Chairman and CEO

No, that's not what we're observing. We're witnessing real-time capabilities that are currently possible. I understand that was a perspective at the time. I even participated in an interview with Forbes because they were in search of a thriving business and contacted us in April. Their editors wanted to feature a successful company, and I mentioned that while we were doing well in the Northeast in a few areas, overall, the situation was quite slow across most of the country. However, the editor returned and his team didn't accept that perspective. I inquired about the location of his editors, and when he stated they were in New York City, I suggested they should get out and see more of the country, as there is much potential outside those urban areas. Later, he came back for another interview, and I sensed he was searching for something catchy to attract attention to their platform. Ultimately, he published an article stating, "Coronavirus is Killing the Funeral Business." If he were to reach out for another interview, I would decline because this reflects the poor reporting that contrasts with the real situation on the ground and a deeper understanding of our company, as Steve, Peggy, and Ben have articulated. Our company is unique because it is small, dynamic, and entrepreneurial, employing talented individuals, placing them in positions where they can excel, and enabling them to thrive with support. This approach is straightforward. However, the narrative often becomes convoluted, leading to misconceptions about how the funeral business is supposed to operate, which is not accurate. When we refer to ourselves as a high-performance culture organization in the funeral and cemetery industry, we mean it, and the numbers now validate that concept.

Alexander Paris, Analyst

Great. And then just maybe on the cemetery preneed sales were hit early on. I think I believe you've been seeing sequential sales improved since. Any update there? And then I wanted to talk a little bit about Carlos Quezada, what he's doing differently, what he hopes to accomplish. And obviously, there's a lag impact from when somebody like this starts. When will we start to see the fruits of his initiatives hit the P&L?

Melvin Payne, Chairman and CEO

You're very insightful. Did Ben suggest you ask that question? The next guest on our call on February 21, when we announce our year-end results and an update on our outlook, will be Carlos. By then, he will have developed his strategies to create a high-performance organization within Carriage, which we haven't had before. This will include the right talent, systems, incentive plans, and a cemetery sales model that will be integrated into our operating model. It will be a perfect fit. I don’t want to preempt what Carlos will share about our future expectations and performance. Historically, we've been recognized in this industry primarily as a funeral operations company rather than a cemetery sales and operations company. That has been the case, but it is going to change. Carlos and Ben are closely collaborating on this initiative, along with our operations team, which includes the three RPs, Paul Elliott, Shawn Phillips, Chris Manceaux, and Peggy and her team. I can say that we're all excited about what this will entail and the additional performance we expect as a result. We'll reveal all of this on February 21.

Alexander Paris, Analyst

Well, that's great. I'll look forward to that, Mel. I appreciate it. And then last thing, more stock market-related. By the way, you're one of the very few green stocks on my screen today. The stock market is down a...

Melvin Payne, Chairman and CEO

Why do we have to pick today to have a performance like this? Luck of the draw.

Alexander Paris, Analyst

Yes, exactly. So I've been saying for a while now that Carriage Services is the fastest-growing and most profitable company within the funeral services industry. And it's been the cheapest versus its peers. And it's become just a little bit cheaper today, given the increase in guidance. And while the stock has recovered nicely from your mid-April low, what pushback do you get from investors, if any, in terms of investing in Carriage Services? Because again, the valuation gap is too large. It needs to close over time. What's the typical pushback you get from potential investors?

Ben Brink, Chief Financial Officer

Yes. Alex, I think from where I sit, the two things that we've heard the most here over these past couple of quarters is about the consistency in our results and about leverage. And I think we are addressing those loud and clear certainly here in the third quarter. I mean we paid down a lot of debt in the quarter and our leverage ratio is screaming lower. And we intend to be around that 4.5x levered by year-end, well positioned to do an incredibly important refinancing transaction in the second quarter of last year. And I believe strongly what you're seeing in the third quarter is indicative of results to come and where we will have consistent high performance from all areas across Carriage for many years to come.

Melvin Payne, Chairman and CEO

Yes, Alex, Carriage is my sole focus. I will be 78 in January, and perhaps some people have concerns about my age, but I don't share those feelings. If anyone wants to challenge me at the gym, I would welcome that because I am in excellent shape and fortunate to be in good health. Listening to this team today, and knowing there will be others joining this call throughout the year, including a few board members, I want everyone in the company to feel empowered to share their views about it. We discussed the company's valuation at our board meeting yesterday and it's incredibly low. I have extensive experience in investing and valuation methodologies, and I can confidently say the potential for growth is significant. We recently highlighted our dividend equity yield, and when analyzing our free cash flow and its sustainability at our current price, the equity yield is around 14% to 15%, which is extraordinary and sustainable. Once we complete the refinancing next year, the situation will change.

Alexander Paris, Analyst

That's great. I think it sounds like you're addressing those outstanding issues. And it's obviously the quickest way to close that valuation gap. So congrats...

Unidentified Company Representative, Company Representative

Yes. I mean as far as we're concerned, Alex, there are no outstanding issues. It's other people not buying the stock because they think they're outstanding issues. We're okay with that. Just keep it where it is. Then over time, we'll own more of it.

Komal Patel, Analyst

I want to echo the congratulations and thank you for all the insight into the business and so far on the call as well. Maybe just a follow-up for me on some of the leverage comments on capital allocation. Ben, I think you've kind of touched on this a little bit. But if you were to achieve the 3.8 to 4.2x, how do you think about potential M&A? What does the pipeline look like right now? Are you seeing maybe an uptick of candidates possibly, just been everything going on? Or should we think of maybe you're staying away from M&A a little bit until the planned refi? Just how do you think about M&A potential-type targets and timing?

Ben Brink, Chief Financial Officer

Yes, Komal, thank you for your question. Our primary focus over the next three quarters is to enhance our credit profile, which is improving quickly. We believe this positions us well for the refinancing transaction, which will be the most effective use of our capital allocation in the coming year. After the refinancing, we expect to have maximum financial flexibility to explore various capital allocation opportunities, including acquisitions. While I cannot comment on the pipeline today, we understand that as we are ready to invest in acquisitions, there will be excellent business owners of funeral homes and cemeteries considering Carriage for their succession planning solutions.

Melvin Payne, Chairman and CEO

So this is Mel. I have to differ from Ben a bit. We have a significant acquisition in sight. It will require $20 million in cash. We plan to acquire $400 million in high-yield bonds at a very low rate, hopefully in June of '21. This will be the best acquisition we could ever make. By prepaying a penalty of $20 million, we can save $9 million or $10 million in interest costs each year, which is truly a fantastic acquisition. Therefore, we are entirely focused on securing that opportunity.

Ben Brink, Chief Financial Officer

And I think what's important to recognize going forward from a leverage and a capital allocation standpoint is that the majority of our capital allocation and acquisitions will be funded through growing and recurring internally generated free cash flow. So leverage as a whole will continue to remain modest in that 4x range going forward. The days of us levering up and going above 5.5x are frankly over. We are just at a different point as a company.

Melvin Payne, Chairman and CEO

Yes. The interesting aspect is that following the refinancing, you might wonder how a company of our size managed to pay down so much debt in a single quarter and reduce our leverage significantly. We decreased our debt ratio by 20%. This was possible because our EBITDA and free cash flow increased, while our debt decreased. We appreciate this dynamic. We always envisioned achieving this, where we could leverage our fixed costs and benefit from operating leverage across various sectors. As revenues rise, margins expand, free cash flow improves, and we leverage the additional revenue over our fixed costs. This is currently happening across all sectors, and our new acquisitions have provided the necessary scale. I acknowledge that I may have declared victory prematurely because I anticipated the leveraging dynamics working simultaneously to create a robust cash flow and value creation platform. This is the current state of Carriage. We won't revert to a different version of Carriage. With the free cash flow and a refined balance sheet, we will achieve a substantially lower cost of capital. This allows us to invest that capital effectively and benefit from the spread between high returns on our investments and our low capital costs. This will generate significant intrinsic value over the next 5 to 10 years. If the market disagrees, we can assist in improving sentiment by purchasing shares, but we aim to avoid taking on excessive leverage again. Therefore, we will maintain leverage at or around 4x. This is considered low because we generate a substantial amount of cash for every dollar of revenue compared to companies without that advantage. Consequently, we do not see our size as a disadvantage in terms of our credit profile; rather, it is quite the opposite.

Komal Patel, Analyst

Perfect. That's incredibly helpful. And then maybe just one other question for me. Anything worth calling out, you think, on the cost savings side that also helped drive EBITDA margin? For example, anything on the labor side that you want to highlight or other fixed spending that you think is more permanent for the business in terms of cost structure going forward?

Peggy Schappaugh, Vice President of Operations & Acquisition Analysis

Sure. This is Peggy. So Mel mentioned the weekly calls we have with the directors of support; they are just constantly helping the managing partners. Again, the managing partners are very good about knowing what revenue they have, how to affect their margins and cut on certain costs. We saw a lot of savings on our part-time employees, which we know was in the beginning because of having less services. But we've also seen them manage those expenses over the last 2 quarters as well as promotional expenses, just expenses in general, again with the incentive changing a little bit at the end of '19, putting more focus on making sure when we grow that revenue and we bring it to the bottom. And then there's a reward at the end of that for our managing partners and their teams.

Christopher McGinnis, Analyst

I have a quick question, and I appreciate that the call is running a bit long. Regarding the acquisitions you made at the end of 2019 and the expectation for increased growth and profitability moving forward, there seems to be a lot of confidence in the statements made in the release last night and during today's call. Can you elaborate on the factors contributing to that confidence and the opportunities for profit growth in those businesses?

Peggy Schappaugh, Vice President of Operations & Acquisition Analysis

It usually takes about 6 to 12 months, or perhaps 9 to 12 months, for an acquisition to be fully integrated and for the partnership to develop. Due to COVID and related challenges, we've had feedback from some of our acquisitions expressing that they would not have succeeded without the support from Carriage prior to the pandemic. This reflects the ongoing assistance from our regional leadership, support directors, regional partners, my team, and everyone across the company, all of whom help these partners truly understand what Carriage represents. Additionally, we emphasize the exchange of ideas through our partnership portal, which provides independent partners access to insights they might lack otherwise. We have observed significant engagement in this area, especially over the past six months. Ultimately, it involves acclimating to the Carriage culture and discovering how to share ideas among partners here at Carriage.

Melvin Payne, Chairman and CEO

Chris and Carlos are examining around 13 to 15 significant cemeteries and reconsidering a master plan for product development over the next 10, 20, 25, and 30 years. These master plans, particularly when approached with the capabilities of a high-performance sales organization, excite us. We see potential in pursuing more estate sales and similar opportunities, especially in markets that are receptive to these products. The three acquisitions we've made should significantly enhance our cemetery operations, particularly over the next five years. Additionally, we’ll focus on about 13 of our existing cemeteries, which have seen variable performance in the past. We anticipate achieving high performance and sustainable sales of pre-need properties with strong profit margins. Therefore, we are developing master plans, building a sales organization, and strategically allocating the necessary capital, which we believe will yield high returns.

Operator, Operator

Your next question comes from the line of Justine Ho from Mesirow Financial.

Justine Ho, Analyst

I wanted to follow up on an earlier question regarding how your Cemetery pre-need sales were affected during the peak of COVID and to get an update on how that has trended since then.

Carl Brink, Chief Financial Officer

Yes, Justine, absolutely. Early in the coronavirus crisis, especially at the end of March and early April, we faced challenges in making sales as people were hesitant to come into the park for face-to-face tours. However, I want to commend our entire cemetery sales team; since April, we've seen consistent improvement in our cemetery pre-need property sales. We have returned to and even surpassed our expected normal trends. I’m also really excited about Carlos Quezada joining our team and the contributions he and the rest of us will make to create a top-notch cemetery sales organization moving forward.

Justine Ho, Analyst

Okay. You mentioned earlier that initially, people thought they would postpone memorial or funeral services or settle for minimal cremation. However, that turned out not to be the case, as people actually proceeded with the services as planned. I just wanted to confirm, aside from March or April when there were stricter restrictions, have those limitations on group gatherings been removed?

Carl Brink, Chief Financial Officer

Yes. So Justine, in terms of restrictions, that's kind of a moving target, I think, as many people unfortunately are getting accustomed to. So the short answer is no, they have not all been lifted. And oftentimes, we will see them lifted temporarily and then put back in place. And so it continues to be a moving target. But there's a lot of communication and collaboration between our field leaders and then again the support center leaders here to make sure that we've got creative solutions to address those in real time.

Peggy Schappaugh, Vice President of Operations & Acquisition Analysis

And just to add to that, April was that month that I look at is where everybody was figuring it out. So even if more restrictions get in place at any time in this year, we have figured out these creative ways to work around that. We talked about smaller gatherings, having people RSVP, doing outdoor services have been really popular. So April was really that month to figure it out. And we do not foresee going back to that level of average again.

Melvin Payne, Chairman and CEO

It's Mel. California was the first to implement very strict restrictions. We have some incredible businesses there and some highly innovative managing partners and sales managers in our largest parks. Their ability to navigate these ongoing restrictions is truly impressive. The collaboration among our managing partners and sales managers has been outstanding, showcasing high performance. The coronavirus has pushed them to be even more innovative than before. It's been remarkable to observe their performance in a place where these restrictions were first enforced and have not been notably relaxed. It’s hard to believe the results they are achieving, and while I can't explain how they are doing it, I can assure you it is within legal bounds. Thank you all for listening to our call. I hope you enjoyed it and the performance that we expressed in our press release as much as we did writing about it and talking about it today. It's a lot of fun here to be at Carriage right now. And we look forward to your continued following our progress. Thank you very much.

Operator, Operator

Thank you, everyone. Ladies and gentlemen, this concludes today's conference call. Thank you all for joining. You may now disconnect.