StoneMor Partners, L.P. has passed a few milestones since my previous update in late September. These accomplishments have advanced its turnaround, but more is needed including a significant rebound in its profitability before the effort can be declared a success.
In October, the partnership completed its rights offering. It had offered holders of its partnership units, including shares controlled by its general partner, the right to purchase newly issued partnership units for $1.20 per share. Proceeds were used to buy back Series A preferred units at their conversion price, which was also equal to $1.20 per share. In total, the partnership issued 3.04 million units in the offering raising $3.65 million. Participation by existing unitholders was therefore about 7.7%, which is low but not surprising given the decline in the partnership’s profitability and in its share price over the past few years.
In early December, StoneMor announced that it had agreed to sell the assets of Oakmont Memorial Park and Mortuary located in Lafayette, CA to Carriage Services (CSV) for $33 million in cash, subject to customary working capital adjustments. The sale was expected to close in early January 2020. Proceeds were to be used to retire part of StoneMor’s 9.875%/11.00% Senior Secured PIK Toggle Notes due June 2024 as required under the Indenture for those Notes.
Management categorized the asset sale as consistent with its strategy to “divest assets at attractive multiples, reduce debt levels and improve the cash flow and liquidity profile of the business.” This presumably means that the amount of interest saved by retiring the Senior Secured PIK Toggle Notes exceeds the earnings and cash flow lost from the sale of the Oakmont assets. StoneMor expects to finalize additional transactions supporting its divestiture strategy by the end of the 2020 first quarter.
At year-end 2019, StoneMor Partners L.P. completed its conversion from a partnership to a corporation, now named StoneMor, Inc. Existing partnership units were exchanged for shares of the new corporation and listed under the same symbol, “STON”, on the New York Stock Exchange. As part of this transaction, StoneMor’s outstanding Series A Preferred Shares were converted into common shares at a conversion price of $1.20 per preferred share.
With the conversion of the Series A preferred, StoneMor’s ownership profile has changed. Prior to the transaction, following the completion of the rights offering, the partnership had 42.6 million units outstanding. I estimate that it issued 0.4 million units after the rights offering but before the conversion to a corporation. Those 43.0 million units then converted to new common shares on a 1-for-1 basis. Stonemor has also added 2.3 million shares from the conversion of the general partner’s interest and 49.0 million shares from the conversion of the Series A preferred to new common shares. In total, following the C-Corp conversion, StoneMor now has 94.4 million shares outstanding.
As a result of the conversion, StoneMor’s ownership profile has changed. Axar Capital Management now owns 52.3% of StoneMor’s outstanding common shares, mostly from converting its holdings of the Series A Preferred. Andrew M. Axelrod, Axar’s Managing Partner, is now Chairman of the Board of Directors of StoneMor, Inc. Besides Axar, Mangrove Partners, the other large holder of the Preferred, now owns 10.9% of StoneMor’s common shares. I estimate that members of management and the Board own 8.1% of the new common shares.
In total, the two major investors and company insiders now own 71.4% of the new common. That leaves 28.6% or about 27 million shares for StoneMor’s float. At the current price of $1.19, the market value of StoneMor’s float is $32.1 million.
As already noted, StoneMor remains a work in progress. Clearly, it has accomplished a lot over the past 7-8 months, having caught up on its SEC filings and completed the recapitalization, the rights offering and the conversion to a corporation. Its strategy, which centers around shrinking the business to a profitable (geographic) core through asset sales, stepping up its effort to boost sales and focusing on cutting operating and overhead expenses wherever possible, seems right on target.
There have been few negative surprises over the year or so. Although StoneMor’s common equity base got a bit of a boost from the conversion of the Series A Preferred, it remains underwater. Against a negative equity book value of $75.6 million on a pro forma basis as of Sept. 30, 2019, its book value per share is ‑$0.80.
Despite the benefits of extended maturities and improved liquidity from the recapitalization, StoneMor remains highly leveraged with $362.6 million of high cost debt. In order to reduce that leverage and the drain that the associated interest costs represent against the company’s profitability, StoneMor must realize meaningful proceeds from asset sales and begin to generate positive free cash flow that it can earmark toward reducing debt.
At the current price of $1.19, StoneMor has an implied equity market value of $112.8 million. With the $362.6 million in debt, its enterprise value is currently $475.4 million. But rolling 12-month EBITDA as of Sept. 30, 2019, remained negative at just under minus $10 million, according to my estimates.
The path to profitability that is necessary to justify the current valuation is steep. For the latest rolling 12-month period, cemetery operations generated $33.4 million of EBITDA and funeral homes $8.3 million; but this positive EBITDA from segments was more than offset by a $51.6 million EBITDA burn at corporate. (I define EBITDA as operating income (loss) plus depreciation and amortization plus the (non-cash) cost of lots sold.)
That path to profitability requires StoneMor to pare back corporate costs sharply and boost profitability at its cemetery and funeral home operations. This year, the partnership began disclosing non-recurring adjustments in the MD&A section of its financial statements. These are primarily one-time costs that are attributable to StoneMor’s turnaround efforts. Management expects that these non-recurring costs will disappear at the beginning of 2020.
StoneMor has identified three categories of adjustments: severance costs, C-Corporation conversion fees and other adjustments, including professional fees. Year-to-date through Sept. 30, the partnership had expensed just under $8 million of these costs, up slightly from 2018. At that run-rate, non-recurring costs for all of 2019 would be about $10.7 million. That’s a big chunk of the current $51.6 million in total corporate costs.
Besides non-recurring costs, StoneMor has been laser-focused on cost reductions across corporate, sales and field operations. The emphasis has been on consolidating operations and delayering its management structure. In September, the partnership eliminated the position of Chief Operating Officer. Division Presidents now report directly to CEO Joseph Redling. StoneMor also eliminated the separate position of Chief Accounting Officer when Jeffrey DiGiovanni, its existing CAO, also assumed the position of CFO.
As of early November, StoneMor had identified cost reductions of $30 million, approximately $18 million of which has been achieved to date in cemetery operations and corporate overhead, including a 20% reduction in the corporate headcount. A second phase of this initiative is expected to deliver additional savings. To obtain planned cost reductions beyond what has already been achieved, the company may have to make additional investments, for example in IT infrastructure. StoneMor is implementing a new procurement system on Coupa, a cloud-based platform, which it anticipates will generate $3 million to $5 million of annualized savings when fully completed by the end of the 2020 second quarter
Improvement in sales is another focus area of management. In 2019, StoneMor began targeting sales growth at its top tier properties, as well as at fifty properties that had recently experienced significant sales declines. These efforts include rightsizing staff and improving sales productivity through new training and onboarding programs with a goal of reducing sales staff turnover. Management reports that nearly 30% of StoneMor’s sales force has been employed for 6 months or less and that this cohort achieved a 50% improvement in its sales productivity in 2019.
Besides seeking greater productivity and operating efficiency across the business, StoneMor is looking at right sizing its geographic footprint to focus on those regions that are most profitable and that have the greatest growth potential. It has hired Johnson Consulting Group to assist in the divestiture of individual properties or perhaps even entire regions. If StoneMor were ever able to monetize some of its long-lived real estate assets (i.e. cemetery land located in or near residential communities), whose cost basis may very well be below market value, it would be able to pay down debt more rapidly and its stock would soar.
Although the company has accomplished a great deal under Mr. Redling, those accomplishments are not yet reflected in StoneMor’s financial performance. According to my calculations (and definition), StoneMor has generated negative EBITDA of just under $10 million in the 12 months ended Sept. 30, 2019. To support its current equity valuation, I estimate that it has to get to a sustainable level of around $50 million in EBITDA. (Presumably, then, to generate a positive return on the stock, the company will need to demonstrate growth potential beyond $50 million in EBITDA.) That’s a steep improvement, but management has set a course to get there with estimated $10.7 million in non-recurring costs, $30 million of targeted cost savings, efforts to boost sales and anticipated asset sales.
This is obviously an important year for StoneMor. Based upon recent performance trends and performance parameters required by its Senior Secured PIK Toggle Notes, I expect that StoneMor will show further improvement in its 2019 fourth quarter results when reported sometime in February. Hopefully, then, management will also provide more specifics about its path to sustained profitability in 2020.
Stephen P. Percoco
Lark Research
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