| CARRIAGE SERVICES INC ITEM 1A RISK FACTORS RISKS RELATED TO OUR BUSINESS Marketing and sales activities by existing and new competitors could cause us to lose market share and lead to lower revenues and margins |
| We face competition in all of our markets |
| Most of our competitors are independently owned, and some are relatively recent market entrants |
| Certain of the recent entrants are individuals who were formerly employed by us or by our competitors and have relationships and name recognition within our markets |
| As a group, independent competitors tend to be aggressive in distinguishing themselves by their independent ownership, and they promote their independence through advertising, direct mailings and personal contact |
| Increasing pressures from new market entrants and continued advertising and marketing by competitors in local markets could cause us to lose market share and revenues |
| In addition, competitors may change the types or mix of products or services offered |
| These changes may attract customers, causing us to lose market share and revenue as well as to incur costs in response to competition to vary the types or mix of products or services offered by us |
| Our ability to generate preneed sales depends on a number of factors, including sales incentives and local and general economic conditions |
| Declines in preneed sales would reduce our backlog and revenue and could reduce our future market share |
| On the other hand, a significant increase in preneed sales can have a negative impact on cash flow as a result of commissions and other costs incurred without corresponding revenues |
| As we have localized our preneed sales strategies, we are continuing to refine the mix of service and product offerings in both our funeral and cemetery segments, including changes in our sales commission and incentive structure |
| In addition, economic conditions at the local or national level could cause declines in preneed sales either as a result of less discretionary income or lower consumer confidence |
| Declines in preneed cemetery property sales would reduce current revenue, and declines in other preneed sales would reduce our backlog and future revenue and could reduce future market share |
| Preneed sales of cemetery property and funeral and cemetery merchandise and services are generally cash flow negative initially, primarily due to the commissions paid on the sale, the portion of the sales proceeds required to be placed into trust or escrow and the terms of the particular contract such as the size of the down payment required and the length of the contract |
| As a result, preneed sales reduce cash flow available for other activities, and, to the extent preneed activities are increased, cash flow will be further reduced |
| Price competition could also reduce our market share or cause us to reduce prices to retain or recapture market share, either of which could reduce revenues and margins |
| We have historically experienced price competition primarily from independent funeral home and cemetery operators, and from monument dealers, casket retailers, low-cost funeral providers and other non-traditional providers of services or products |
| New market entrants tend to attempt to build market share by offering lower cost alternatives |
| In the past, this price competition has resulted in our losing market share in some markets |
| Increased price competition in the future could further reduce revenues, profit margins and our backlog |
| Our ability to execute our growth strategy is highly dependent upon our ability to successfully identify suitable acquisition candidates and negotiate transactions on favorable terms |
| There has been little acquisition activity by us or the other public companies in the death care industry over the preceding five years, and there is no assurance that we will be able to identify candidates that meet our criteria or that we will be able to reach terms with identified candidates for transactions that are acceptable to us |
| We intend to apply standards established under our Being the 9 _________________________________________________________________ [44]Table of Contents Best operating model in qualifying acquisition candidates, and there is no assurance that we will be successful in doing so or that we will find attractive candidates that satisfy these standards |
| Increased or unanticipated costs, such as insurance, taxes, new computer systems implementations and the cost of complying with Sarbanes-Oxley, may have a negative impact on our earnings and cash flows |
| We have experienced material increases in certain costs during the previous two years, such as documenting and testing our internal controls to comply with Sarbanes-Oxley and implementing computer systems |
| These types of cost increases may impair our ability to achieve revenue growth that exceeds our cost increases |
| Our 2006 plan assumes that we will be successful in increasing revenues at a rate that is greater than the growth in the cost of sales |
| We can give no assurance that we will be successful in achieving such increases |
| Improved performance in our funeral segment is highly dependent upon successful execution of our standards-based Being the Best operating model |
| At the beginning of 2004, we implemented our new standards-based Being the Best operating model to improve and better measure performance in our funeral operations |
| We developed standards according to nine criteria, each with a different weighting, designed around market share, people, and operational and financial metrics |
| We also incentivise our location managing partners by giving them the opportunity to earn a fixed percentage of the field-level earnings before interest taxes, depreciation and amortization based upon the number and weighting of the standards achieved |
| Our expectation is that, over time, the Being the Best operating model will result in our maintaining or improving field-level margins, market share, customer satisfaction and overall financial performance, but there is no assurance that these goals will be met |
| Earnings from and principal of trust funds and insurance contracts could be reduced by changes in financial markets and the mix of securities owned |
| Earnings and investment gains and losses on trust funds and insurance contracts are affected by financial market conditions and the mix of fixed-income and equity securities that we choose to maintain in the funds |
| During 2004 and 2005, we revised the mix of investments within the cemetery trusts according to our new asset allocation model in an effort to increase earnings and lower volatility |
| We expect to make similar changes in the funeral trusts in 2006 |
| We may not choose the optimal mix for any particular market condition |
| Declines in earnings from perpetual care trust funds would cause a decline in current revenues, while declines in earnings from other trust funds could cause a decline in future cash flows and revenues |
| Covenant restrictions under our debt instruments may limit our flexibility in operating our business |
| The terms of our credit facility and the indenture governing the Senior Notes may limit our ability and the ability of our subsidiaries to, among other things: — incur additional debt; — pay dividends or make distributions or redeem or repurchase stock; — make investments; — grant liens; — make capital expenditures; — enter into transactions with affiliates; — enter into sale-leaseback transactions; — sell assets; and — acquire the assets of, or merge or consolidate with, other companies |
| Our credit facility also requires us to maintain certain financial ratios |
| Complying with these restrictive covenants and financial ratios, as well as those that may be contained in any future debt agreements, may impair our ability to finance our future operations or capital needs or to take advantage of other favorable business opportunities |
| Our ability to comply with these restrictive covenants and financial ratios will depend on our future performance, which may be affected by events beyond our control |
| Our failure to 10 _________________________________________________________________ [45]Table of Contents comply with any of these covenants or restrictions when they apply will result in a default under the particular debt instrument, which could permit acceleration of the debt under that instrument and, in some cases, the acceleration of debt under other instruments that contain cross-default or cross-acceleration provisions |
| In the event of an event of default, or in the event of a cross-default or cross-acceleration, we may not have sufficient funds available to make the required payments under our debt instruments |
| If we are unable to repay amounts owed under the terms of our amended senior secured credit facility, the lenders thereunder may be entitled to sell certain of our funeral assets to satisfy our obligations under the agreement |
| Changes in the number of deaths are not predictable from market to market or over the short term |
| Declines in the number of deaths could cause at-need sales of funeral and cemetery services, property and merchandise to decline, which could decrease revenues |
| Although the United States Bureau of the Census estimates that the number of deaths in the United States will increase through 2010, longer life spans could reduce the rate of deaths |
| In addition, changes in the number of deaths can vary among local markets and from quarter to quarter, and variations in the number of deaths in our markets or from quarter to quarter are not predictable |
| These variations may cause our revenues to fluctuate and our results of operations to lack predictability |
| The increasing number of cremations in the United States could cause revenues to decline because we could lose market share to firms specializing in cremations |
| In addition, direct cremations produce no revenues for cemetery operations and lower funeral revenues |
| Our traditional cemetery and funeral service operations face competition from the increasing number of cremations in the United States |
| Industry studies indicate that the percentage of cremations has steadily increased and that cremations will represent approximately 35prca of the US burial market by the year 2010, compared to approximately 28prca in 2003 |
| The trend toward cremation could cause cemeteries and traditional funeral homes to lose market share and revenues to firms specializing in cremations |
| In addition, direct cremations (with no funeral service, casket, urn, mausoleum niche, columbarium niche or burial) produce no revenues for cemetery operations and lower revenues than traditional funerals and, when delivered at a traditional funeral home, produce lower profit margins as well |
| If we are not able to respond effectively to changing consumer preferences, our market share, revenues and profitability could decrease |
| Future market share, revenues and profits will depend in part on our ability to anticipate, identify and respond to changing consumer preferences |
| During the last five years, we have implemented new product and service strategies based on results of customer surveys that we conduct on a continuous basis |
| However, we may not correctly anticipate or identify trends in consumer preferences, or we may identify them later than our competitors do |
| In addition, any strategies we may implement to address these trends may prove incorrect or ineffective |
| Because the funeral and cemetery businesses are high fixed-cost businesses, changes in revenue can have a disproportionately large effect on cash flow and profits |
| Companies in the funeral home and cemetery business must incur many of the costs of operating and maintaining facilities, land and equipment regardless of the level of sales in any given period |
| For example, we must pay salaries, utilities, property taxes and maintenance costs on funeral homes and maintain the grounds of cemeteries regardless of the number of funeral services or interments performed |
| Because we cannot decrease these costs significantly or rapidly when we experience declines in sales, declines in sales can cause margins, profits and cash flow to decline at a greater rate than the decline in revenues |
| Changes or increases in, or failure to comply with, regulations applicable to our business could increase costs or decrease cash flows |
| The death care industry is subject to extensive regulation and licensing requirements under federal, state and local laws |
| For example, the funeral home industry is regulated by the Federal Trade Commission, which requires funeral homes to take actions designed to protect consumers |
| State laws impose licensing requirements and regulate preneed sales |
| Embalming and cremation facilities are subject to stringent environmental and health regulations |
| Compliance with these regulations is burdensome, and we are always at risk of not complying with the regulations or facing costly and burdensome investigations from regulatory authorities |
| In addition, from time to time, governments and agencies propose to amend or add regulations, which could increase costs or decrease cash flows |
| For example, federal, state, local and other regulatory agencies have considered and may enact additional 11 _________________________________________________________________ [46]Table of Contents legislation or regulations that could affect the death care industry |
| Several states and regulatory agencies have considered or are considering regulations that could require more liberal refund and cancellation policies for preneed sales of products and services, limit or eliminate our ability to use surety bonding, increase trust requirements and prohibit the common ownership of funeral homes and cemeteries in the same market |
| If adopted by the regulatory authorities of the jurisdictions in which we operate, these and other possible proposals could have a material adverse effect on us, our financial condition, our results of operations and our future prospects |
| For additional information regarding the regulation of the death care industry, see “Business — Regulation” |