American Home Shield 2004 Annual Report Download - page 30

28 ServiceMaster 2004 annual report
Terminix Segment
The Terminix segment reported a two percent increase in revenue
to $945 million from $924 million in 2002 and operating income
growth of three percent to $131 million compared to $127 million
in 2002. The growth in revenue reflects higher revenue in both
termite renewals and pest control. Cooler temperatures earlier
in 2003 that impacted many regions of the country significantly
impeded the development of the termite swarm. This resulted in
fewer sales of new termite contracts and also had a dampening
effect on renewals. Operating performance improved in the second
half of 2003 as termite revenue stabilized, customer retention
rates improved and strong cost controls were implemented.
Renewal revenue increased, resulting from favorable mix and
pricing. Pest control volume increased, driven by improved
customer retention and stronger commercial sales.
Operating income margins improved slightly compared to 2002,
reflecting lower than expected damage claims in the acquired
Sears termite customer base, partially offset by incremental
costs associated with the unit’s new branch operating system. In
the fourth quarter of 2003, Terminix corrected its method of
recognizing renewal revenue from certain customers who have
prepaid. A cumulative adjustment was recorded reducing fourth
quarter 2003 revenue by $9 million and operating income by $7
million. The Company also continued to experience positive
trending in damage claim costs associated with its acquired
Sears termite customer base, resulting in a $7 million reduction
in expense in the fourth quarter of 2003 and a total reduction of
$13 million for the full year 2003.
Capital employed in the Terminix segment was comparable to
the level in 2002.
American Home Shield Segment
The American Home Shield segment reported a six percent
increase in revenue to $450 million from $424 million in 2002,
and operating income growth of 21 percent to $58 million
compared to $48 million in 2002. New contract sales increased
eight percent, driven by strong growth in renewal activity,
reflecting both a larger base of renewable customers and
improved customer loyalty, as well as the impact of price
increases. Retention rates improved 10 basis points despite
increased cancellations from mortgage refinancings. Sales from
the direct-to-consumer channel increased modestly, with the
timing of sales coming later in 2003 as third-party direct mail
solicitations were delayed. Real estate sales increased slightly
for 2003 as a whole, but were adversely impacted later in
the year by a decline in home listings, particularly in California
and Texas, which are two of the Company’s largest warranty
usage states.
In the fourth quarter of 2003, American Home Shield corrected
its method of recognizing revenue from customers who have
prepaid. A $5 million cumulative adjustment was recorded,
reducing fourth quarter 2003 revenue and operating income
by that amount. Operating margins improved 40 basis points
due to a reduction in the current year claims incidence rate
and favorable trending of prior year claims. American Home
Shield has been successful in implementing programs to reduce
low cost claims, control the prices paid to its contractor network,
and utilize technology to improve both productivity and cus-
tomer convenience.
Capital employed increased 34 percent reflecting a higher level
of investments due to the growth in the business and improved
market performance of the investments. The calculation of capital
employed for the American Home Shield segment includes
approximately $221 million and $172 million of cash, short-term
and long-term securities at December 31, 2003 and 2002,
respectively. The interest and realized gains/losses on these
investments are reported as non-operating income/expense.
ARS/AMS Segment
The ARS/AMS segment reported revenue of $674 million, a
decrease of six percent compared to $719 million in 2002. The
segment reported an operating loss of ($282) million compared
with operating income of $17 million in 2002. During the third
quarter of 2003, the Company recorded a non-cash impairment
charge of $292 million pre-tax relating to goodwill and intangible
assets of its ARS/AMS segment. For a further discussion on the
impairment charge see the “Goodwill and Intangible Assets”
section in the Notes to Consolidated Financial Statements.
Within ARS Service Express, revenue in 2003 declined five
percent, primarily reflecting an industry-wide reduction in
plumbing service calls and the effects of discontinued branches.
HVAC replacement sales from ongoing operations were up
slightly, despite less favorable temperatures and the weak economy.
The Company is encouraged by its progress with specific initia-
tives to increase replacement sales through third-party retail
channels, and to increase residential sewer line repairs. In addition,
ARS achieved a 98 percent success rate on its two-hour arrival
guarantee in its HVAC service line, which was rolled out in
October 2003 in certain markets. As part of its efforts to offset
the revenue shortfalls it has been experiencing and to improve
profitability, ARS has strengthened its management team and
industry experience at all levels, emphasized higher margin
sales, tightened control over indirect costs and overheads, and
sold or closed 12 under-performing branches or service lines.
management discussion and analysis of financial condition and results of operations