Scouting Out the Market's Most Defensive Industry

The most defensive industry in the world is death care, which might make companies like Service Corporation International (NYSE: SCI  ) , Carriage Services (NYSE: CSV  ) , and StoneMor Partners (NYSE: STON  ) great long-term investments.

According to the National Funeral Directors Association, the number of deaths per 1,000 of population is expected to rise from the rate of eight per year in 2011, the most recent available data, to 8.4 by 2020, 8.9 by 2030, and nearly 10 by 2045. This is a compound annual growth rate of about 2.9%. What's more, it is likely that the number of deaths will continue to increase as the median age of the US population continues to rise .

The industry is fragmented
However, the death-care industry is highly fragmented, and approximately 86% of the funeral homes within the United States are privately owned. That said, despite the rising number of deaths during the past decade, the number of US funeral homes has actually declined by around 9.5% over the same period, according to data from 2012. Despite this decline in death-care facilities, funeral-home revenue actually expanded 8% during the period 2002-2007, indicating that the facilities are becoming more and more popular.

Having said that, the number of cremations taking place instead of burials is rising, which is not good for death-care facilities. The average cost of a funeral plus burial was $6,560 back in 2009; factoring in inflation, we can assume the average cost now stands at around $7,400. Obviously, the cost of a cremation would be significantly less than a burial, as 50% of the funeral and burial costs are for a casket, use of a hearse, and embalming of the body.

Cremations now account for 42% of all funerals, up from 26% back in 2000 and only 3.6% in 1960. The rising number of cremations could be the reason for the declining number of funeral homes, as both margins and profits are compressed.

Bigger is better
So, in a relatively fragmented industry where we can assume that margins are falling, bigger is better and the sector leader is Service Corporation International. Service has 1,437 funeral locations within the United States, as well as operations within Germany and Canada. Service's facilities account for around 12% of the United States' increasingly fragmented death-care market.

Service is not Google, Apple, or Tesla. In other words, the company is boring, but it is growing steadily. During the past 10 years, earnings per share have grown at a compound annual growth rate of 8.7%, and revenue per share has expanded at a CAGR of 4.1%. Over the same period, the company's stock price has gained around 12.8% annually; as I said, boring but predictable and steady.

More than a century of experience
The sector's second-largest operator is Stewart Enterprises (NASDAQ: STEI  ) . Around since 1910, Stewart certainly knows how to deal with death after a century of operations.

Stewart has a reputation for efficiency and high volume, and the company's relatively small size in comparison to Service (market capitalization of $1.1 billion compared to Service's $3.8 billion) has made it a perfect acquisition for Service.

Unfortunately, the combination of the two biggest death-care providers in the United States has attracted some unwanted attention in the form of the Federal Trade Commission, or FTC. Although when combined the two companies will only have about 16% of the US death-care market, according to the FTC, within certain communities their market share would be more dominant.

As a result, the FTC has decided that Service should sell 53 funeral homes and 38 cemeteries to commission-approved buyers within 180 days if it wants the deal to go ahead.

Large payouts, slow growth
In comparison, we have StoneMor Partners. As a partnership, StoneMor distributes all of its income to shareholders. However, I believe that this is actually holding back growth. In particular, the company's revenue per share (unit) has expanded at an agonizingly slow 1.6% annually on a compounded basis during the past 10 years. Factor in inflation, and this rate is negative.

Furthermore, StoneMor's EPS have been negative for the past four years, but considering the company is a partnership this is not so important. The company's operating income, a more accurate measure, has only grown 0.9% over the past 10 years -- hardly impressive considering the growth rates of peers. That said, during the 10-year period, StoneMor has distributed $19.47 per share in dividends, although the stock price has only moved 2.5% during the same period.

Over the past 10-year period, StoneMor's total return has been 121%; unfortunately, Service has returned 263%.

Berkshire Hathaway of death care?
Lastly, I want to mention Carriage Services, a small death-care company ($300 market cap) with big ambitions. Carriage's performance has been similar to that of its peers during the past few years, with one exception: the company's trust funds, which were taken over by Ben Brink as assistant treasurer back in January 2009.

Brink transformed the asset-management side of Carriage, buying distressed fixed-income securities back in the midst of the financial crisis. Since the beginning of his stewardship, investment income has tripled and capital gains over the past four years have been around 120%. Management has stated that income from this portfolio accounted for $12 million, or around 50% of pre-tax income during the last 12 months, with an additional $100 million in gains. This gives the company a stable and predictable income base and a springboard for Carriage to grow. I should note that these figures are based on numbers from the third quarter of this year; with recent market gains, Carriage is likely to be sitting on a much bigger pile of cash.

Foolish summary
All in all, death care is an extremely defensive industry that likely to see nothing but growth over the next few decades. It would appear the best way to play this trend is with Service Corporation International, as the company's steady historic growth and 10-year total return of 263% looks to be the best in the sector.

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Related Tickers

8/20/2014 4:02 PM
CSV $18.41 Down -0.04 -0.22%
CARRIAGE SERVICES,… CAPS Rating: *****
SCI $21.98 Up +0.02 +0.09%
Service Corporatio… CAPS Rating: ****
STEI $0.00 Down +0.00 +0.00%
Stewart Enterprise… CAPS Rating: ****
STON $24.77 Down -0.03 -0.12%
StoneMor Partners CAPS Rating: ***

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