Is This 10%-Yielding Partnership Flashing Warning Signals?

Bob is a member of The Motley Fool Blog Network -- entries represent the personal opinion of the blogger and are not formally edited.

Income investors take their quarterly dividends seriously, and for good reason. Investment income can help pay for many of life’s necessities, and with interest rates still near record lows, high-yielding Limited Partnerships are highly favored by retail investors.

Unfortunately, a dropping share price usually brings a wave of panic over a partnership’s distribution. That’s exactly what happened when StoneMor Partners (NYSE: STON) fell 10% on August 12, without any news suggesting the reason.

Is StoneMor in more trouble than meets the eye? Or does the recent drop represent nothing more than a buying opportunity?

Not your average MLP

Many investors are likely more accustomed to Master Limited Partnerships, which for the most part are concentrated in the energy space. Many MLP’s store and transport oil and gas, and while StoneMor is not an MLP of this nature, the tax benefits are similar.

StoneMor, organized as a partnership, enjoys a favorable tax treatment in exchange for paying out the vast majority of its distributable cash flow through to investors. True to form, StoneMor carries a huge dividend yield, of more than 10% annualized.

StoneMor’s business is relatively straightforward, which likely serves as an additional reason for retail investors to like the company, in addition to its massive yield.

StoneMor owns and operates funeral homes in the United States and Puerto Rico. The company also provides cemetery products and services, including burial lots and caskets.

In all, StoneMor holds a portfolio of 277 cemeteries and 92 funeral homes.

This certainly isn’t the only publicly-traded entity in this business. Hillenbrand (NYSE: HI) is a $1.5 billion stock by market value, and engages in a variety of industrial products and services, including its Batesville segment which manufactures and sells burial caskets, cremation caskets, and cremation urns.

Recently, Hillenbrand has expanded its operations, and has seen great success. The company acquired Coperion in December 2012, and now engages in a variety of industrial activities.

Hillenbrand’s acquisition spree resulted in record quarterly revenue of $409 million when the company recently reported third-quarter results. Its Batesville segment grew revenue by 2%, signaling the solid fundamentals of the cemetery and funeral services business. However, Hillenbrand yields just 3% at recent prices, a strong payout in its own right, but one that pales in comparison to what StoneMor has to offer.

Another competitor in the space is $4 billion death-care company Service Corp. International (NYSE: SCI), which is split into two operating segments:  Funeral and Cemetery.

Service Corp. is a larger industry player and has enjoyed its own fair share of success recently.  The company racked up 4.7% revenue growth and 5.5% adjusted diluted EPS, while simultaneously upping its full-year earnings guidance. Service Corp. now expects at least $0.87 per share in diluted EPS.

Further growth will be fueled by Service Corp.'s recently concluded acquisition of Stewart Enterprises for $1.13 billion.  This deal combined the two largest funeral home operators in the United States.

It's clear that the opportunities presented by the aging Baby Boomer population in the United States served as a catalyst for this purchase, and Service Corp. should continue growing for the foreseeable future. Service Corp. also pays a dividend like its two competitors, which yields 1.5% annualized.  However, its yield is less than the 2% yield on the broader market and significantly below StoneMor's yield.

And, despite its strong results, Service Corp. trades for 22 times its expected 2013 diluted EPS, a healthy premium to the market multiple.

Thank the irrational Mr. Market

At the end of the day, I frankly see nothing that suggests StoneMor or its distribution are in any serious jeopardy. I find no logical reason for the massive sell-off on August 12.

The economic fundamentals of StoneMor’s business remain very favorable, and the company is in sound financial condition, provided you focus on the proper metrics.

Traditional GAAP measures like earnings per share should not be relied upon for any partnership, StoneMor or otherwise. Non-GAAP metrics like distributable cash flow are much more telling of a partnership’s financial standing, and the company itself continually reminds investors of that when it releases its quarterly results.

On that basis, StoneMor investors have nothing to worry about. The company recently released strong quarterly results.

Production-based revenue, a non-GAAP measure, rose 5.3% year-over-year. Furthermore, the company’s adjusted operating profits, another non-GAAP metric, rose 8.2% versus the same quarter one year ago.

And, the company generated more than enough distributable cash flow to not only pay its massive distribution, but actually raise it for the third time in the past four distributions.

StoneMor is a growing business, and the future remains bright. Since the beginning of 2012, StoneMor has acquired 23 funeral homes. And unless people stop dying, there’s no reason to believe the industry in which StoneMor operates is in any danger of deteriorating.

I previously wrote about StoneMor in July, and was positive on the partnership even then, when it traded at $26 per unit.

At under $24 per unit, I still remain entirely positive about StoneMor and consider the recent drop nothing more than an opportunity to earn an even greater income stream from a strong, growing business. I have no intention of falling prey to market panic on this company, and will look to purchase more units when I am able to.

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Robert Ciura owns shares of StoneMor Partners. The Motley Fool recommends StoneMor Partners. The Motley Fool owns shares of Hillenbrand and StoneMor Partners. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy. Is this post wrong? Click here. Think you can do better? Join us and write your own!

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