facilitate the execution of corporate strategies, coordinate communication between the field and corporate offices and serve as liaisons for implementation of policies and procedures.

     The death care industry in North America is characterized by a large number of locally owned, independent operations. In order to be successful, we believe our funeral service locations and cemeteries must maintain good reputations and high professional standards in the industry, as well as offer attractive products and services at competitive prices. We believe we have an unparalleled network of funeral service locations and cemeteries that offer high quality products and services at prices that are competitive with local competing funeral homes, cemeteries and retail locations.

     We have multiple funeral service locations and cemeteries in a number of metropolitan areas. Within individual metropolitan areas, the funeral service locations and cemeteries operate under various names asbecause most operations were acquired as existing businesses. Some of our international funeral service locations operate under certain brand names specific for a general area or country. We have branded our funeral operations in North America under the name Dignity Memorial^®. A national brand name is unique to the death care industry in North America and we believe this gives us a strategic advantage in the industry. While this branding process is intended to emphasize our seamless national network of funeral service locations and cemeteries, the original names associated with acquired operations, and their inherent goodwill and heritage, will generally remain the same. For example, Geo. H. Lewis & Sons Funeral Directors is now Geo. H. Lewis & Sons Funeral Directors, a Dignity Memorial^® provider.

     In the death care industry, there has been a growing trend in the number of cremations performed in North America as an alternative to traditional funeral service dispositions. The west coast of the United States, Florida and Arizona have the highest concentration of cremation consumers in North America. Cremation servicesCremations usually result in lower revenue and gross profit dollars than traditional funeral services. In North America during 2004, 40.0%2003, 39.0% of all funeral services we performed were cremation cases, compared to 39.0%37.9% performed in 2003.2002. We have expanded our cremation memorialization products and services in several North America markets, which has resulted in higher average sales for cremation cases compared to historical levels. We also continueDuring 2003, we continued to own and operateexpand our nationally branded cremation service locations called National Cremation^® Service (NCS), our nationally branded cremation company with multiple locations. At            December 31, 2003, NCS operated in 16eighteen states and Ontario, Canada at December 31, 2004.Canada. NCS plans to expand its presence in existing states by adding locations where there is a business need.

     Prior to 1999,Historically, we focused on the acquisition and consolidation of independent funeral homes and cemeteries in the fragmented death care industry in North America. During the 1990’s, we also expanded our operations through acquisitions in Europe, Australia, South America and the Pacific Rim. At one time, our network consisted of more than 4,500 businesses in 20 countries on 5 continents. During the mid to late 1990’s, the acquisition market became extremely competitive resulting in increased prices for acquisitions and substantially reduced returns on invested capital. In 1999, we significantly reduced the level of acquisition activity and focused on identifying and addressing non-strategic or underperforming businesses. This focus resulted in the divestiture of several North America and international operations. During 2002 and 2001, we completed joint ventures of operations in Australia, United Kingdom, Spain and Portugal.Portugal; and divested of operations in the Netherlands, Norway, Italy and Belgium. In 2003, we sold our equity investment in our operations in Australia, Spain and Portugal. During the first quarter of 2004, we completed a joint venture of our funeral operations in France. We soldexpect to sell our minority interest equity investment in the United Kingdom in the second quarter of 2004. During the first quarter of 2005, we divested of all of our operations in Argentina and Uruguay.2004, pending a successful public offering transaction. We maywill pursue discussions with various third parties concerning the sale or joint venture of our remaining international operations (primarily in South America) as we intend to focus our efforts on operating a core business of high quality funeral service locations and cemeteries in North America.

Funeral Service Locations

     Our 1,2162,225 funeral service locations provide all professional services relating to funerals, including the use of funeral facilities, motor vehicles, and preparation and embalming services. Funeral service locations sell caskets, coffins, burial vaults, cremation receptacles, flowers, burial garments, and other ancillary products and services. Primary costs associated with our funeral service locations include labor, facility costs, vehicle costs and cost of merchandise. Our funeral service locations generally experience a greater demand for services in the winter months primarily related to higher incidents of deaths from pneumonia and influenza.

     In addition to selling products and services to client families at the time of need, we also sell preneed funeral services in most of our service markets. A funeral preneed funeral arrangement is a means through which a customer contractually agrees to the terms of a funeral to be performed in the future. All or a portion of the funds collected from preneed funeral contracts are placed into trust accounts, pursuant to applicable law. Alternatively, where allowed, customers may choose to purchase a life insurance or annuity policy from third party insurance companies to fund their preneed funerals.funeral. In certain situations and pursuant to applicable laws, we will post a surety bond as financial assurance for a certain amount of the preneed funeral contract in lieu of placing certain funds in

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this Form 10-K for further details on our practice of posting such surety bonds. For additional information regarding preneed funeral activities, see thePreneed Funeral and Cemetery Activitiessection in Financial Condition, Liquidity and Capital Resources in Item 7 and notes three, four and five to the consolidated financial statements in Item 8 of this Form 10-K.

Cemeteries

     Our 400 cemeteries sell interment rights associated with cemetery propertiesproperty such as mausoleum spaces, lots and lawn crypts, and sell cemetery merchandise such as stone and bronze memorials, burial vaults, caskets and cremation memorialization products. Our cemeteries perform interment services and provide management and maintenance of cemetery grounds. Certain cemeteries operate crematoria and certain cemeteries contain gardens specifically for the purpose of cremation memorialization. Primary costs associated with our cemetery operations include labor costs, selling costs, cost of merchandise (including cemetery property), and maintenance costs.

     Cemetery sales are often made on a preneed basis pursuant to installment contracts providing for monthly payments. A portion of the proceeds from cemetery contracts is generally required by law to be paid into perpetual care trust funds. Earnings from perpetual care trust funds are used to defray the maintenance costs of cemeteries. Additionally, all or a portion of the proceeds from the sale of preneed cemetery merchandise and services may be required by various state laws to be paid into merchandise and services trusts until the merchandise is delivered or the service is provided. In certain situations and pursuant to applicable laws, we will post a surety bond as financial assurance for a certain amount of the preneed cemetery contract in lieu of placing certain funds into trust accounts. See theFinancial Assurancessection included in Financial Condition, Liquidity and Capital Resources in Item 7 of this Form 10-K for further details on the practice of posting such surety bonds. For additional information regarding cemetery preneed activities, see thePreneedPrearranged Funeral and Cemetery Activitiessection in Financial Condition, Liquidity and Capital Resources in Item 7 of this Form 10-K and notes three, four and six to the consolidated financial statements in Item 8 of this Form 10-K.

Combined Funeral Service Locations and Cemeteries

     We own 189At December 31, 2003, we owned 185 funeral service/cemetery combination locations in which a funeral service location is physically located within or adjoining an SCI owned cemetery. Combination locations allow certain facility, personnel and equipment costs to be shared between the funeral service location and cemetery and typically have a higher gross margin than if the funeral and cemetery operations were operated separately. Combination locations also create synergies between funeral and cemetery sales force personnel and give consumers added convenience to purchase both funeral and cemetery products and services at a single location.

Employees

     At December 31, 2004,2003, we employed 13,939 (12,53520,471 (13,461 in North America) individuals on a full time basis and 6,659 (6,6377,342 (6,788 in North America) individuals on a part time basis. Of the full time employees, 13,41019,949 were employed in the funeral and cemetery operations and 529522 were employed in corporate or other overhead activities and services. All eligible employees in the United States who so elect are covered by SCI’s group health and life insurance plans. Eligible employees in the United States are participants in retirement plans of SCI or various subsidiaries, while international employees are covered by other SCI (or SCI subsidiary) defined or government mandated benefit plans. Approximately 5%3% of our employees in North America are represented by unions. Although labor disputes are experienced from time to time, relations with employees are generally considered favorable.

Regulation

     Our operations are subject to regulations, supervision and licensing under numerous foreign, federal, state and local laws, ordinances and regulations, including extensive regulations concerning trust funds, preneed sales of funeral and cemetery products and services and various other aspects of our business. We comply in all material respects with the provisions of such laws, ordinances and regulations. Since 1984, we have operated in the United States under the Federal Trade Commission (FTC) comprehensive trade regulation rule for the funeral industry. The rule contains requirements for funeral industry practices, including extensive price and other affirmative disclosures and imposes mandatory itemization of funeral goods and services. From time to time in connection with our former strategy of growth through acquisitions, we entered into consent orders with the FTC that required us to dispose of certain operations in order to proceed with such acquisitions, or limited our ability to make acquisitions in specified areas. The trade regulation rule and the various consent orders have not had a material adverse effect on our operations.

5     As previously mentioned, we sold our funeral operations in France in March 2004. The French funeral services industry has undergone significant regulatory change in recent years. Historically, the French funeral services industry had been controlled, as provided by national legislation, either (i) directly by municipalities through municipality-operated funeral establishments (Municipal

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     The following table provides the number of SCI funeral homes and cemeteries by state and country as of December 31, 2004:

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ITEM 3.Legal Proceedings.

     Information regarding legal proceedings is set forth in note fourteentwelve to the consolidated financial statements in Item 8 of this Form 10-K.

ITEM 4.Submission of Matters to a Vote of Security Holders.

     None.

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processes. Mr. Webb was named Executive Vice President in July 2002. In February 2005, he was promoted to Chief Operating Officer. He is a graduate of the University of Georgia, where he earned a Bachelor of Business Administration degree.

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     Ms. Nash joined SCI in 2002 as Managing Director of Strategic Planning and Process Improvement. Her primary responsibilities include improving operating systems; reducing overhead costs; and identifying and assisting in the implementation of initiatives to improve operating profit margins and cash flow. In 2004, Ms. Nash was promoted to Vice President of Continuous Process Improvement. Prior to joining SCI, Ms. Nash worked for the Pennzoil Corporation and held various senior management accounting and financial positions. She is a graduate of Texas A&M University where she received a Bachelor of Business Administration degree in Accounting.

     Mr. Robinson joined SCI in 1996 as Director of Procurement from Marathon Oil Company, where he spent 16 years in a variety of procurement, logistics and information technology positions. Most recently, he has been Managing Director of Business Support Services, a position in which he has overseen fleet management and office services; voice services, travel and shipping services; and supply chain and purchasing activities. In February 2005, he was promoted to Vice President of Supply Chain Management. Mr. Robinson holds a Bachelors of Science degree in Business Administration with a minor in Computer Service from Taylor University in Upland, Indiana.

     Mr. Tanzberger joined the Company in August 1996 as Manager of Budgets & Financial Analysis. Since then, Mr. Tanzberger has served as Vice President of Operations/Western Division, Director of Investor Relations and Assistant Corporate Controller. Mr. Tanzberger was promoted to Vice President Investor Relations and Assistant Corporate Controller in January 2000, and to Corporate Controller in August 2002. Prior to joining the Company, Mr. Tanzberger was Assistant Corporate Controller at Kirby Marine Transportation Corporation, an inland waterway barge and tanker company, from January through August 1996. Prior thereto, he was a Certified Public Accountantcertified public accountant with Coopers & Lybrand L.L.P. for more than five years. Mr. Tanzberger is a Certified Public Accountant and a graduate of the University of Notre Dame, where he earned a Bachelor of Business Administration degree.

     Mr. Uthoff joined the Company as Vice President Chief Information Officer in January 2000. From June 1994 through July 1999, Mr. Uthoff served as Vice President – Planning & Analysis of Browning-Ferris Industries, a waste services company. Mr. Uthoff attended Oklahoma State University, where he earned a Bachelor of Science degree in Engineering and a Master of Science degree in Accounting.

     Mr. Waring, a licensed funeral director, joined the Company as an Area Vice President in 1996 when the Company merged with his family’s funeral business. Mr. Waring was appointed Regional President of the Northeast Region in 1999 and was promoted to Regional President of the Pacific Region in September 2001. Mr. Waring was promoted to Vice President Western Operations in August 2002 and assumed the office of Vice President Major Market Operations in November 2003. Mr. Waring holds a Bachelor’s degree in Business Administration from Stetson University in Deland, Florida, a degree in Mortuary Science from Mt. Ida College and a Masters of Business Administration degree from the University of Massachusetts Dartmouth.

     Each officer of the Company is elected by the Board of Directors and holds theirhis office until ahis successor is elected and qualified or until his earlier death, resignation or removal in the manner prescribed in the Bylaws of the Company. Each officer of a subsidiary of the Company is elected by the subsidiary’s board of directors and holds theirhis office until ahis successor is elected and qualified or until his earlier death, resignation or removal in the manner prescribed in the Bylawsbylaws of the Subsidiary.subsidiary.

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     On August 27, 2004, we changed our     SRV is the New York Stock Exchange ticker symbol for ourthe common stock from SRV to SCI.of the Company. Options in ourthe Company’s common stock are traded on the Philadelphia Stock Exchange under the symbol SCI.SRV.

     For equity compensation plan information, see Part III of this report.

     On August 16, 2004, we announced a share repurchase program authorizing the investment of up to $100 million to repurchase our common stock. On November 10, 2004, we announced an increase in the share repurchase program authorizing the investment of up to an additional $100 million to repurchase our common stock. Pursuant to the program, we have repurchased shares of our common stock as set forth in the table below. As of December 31, 2004, these purchases totaled $110.3 million.

     Subsequent to December 31, 2004, we announced an increase in the share repurchase program authorizing the investment of up to an additional $100 million to repurchase our common stock for an aggregate of $300 million. From January 1, 2005 to March 31, 2005, we repurchased 14.7 million shares for a total cost of $103.5 million. As of March 31, 2005, the remaining dollar value of shares that may yet be purchased under our share repurchase programs was approximately $86 million.report on page 99.

ITEM 6.Selected Financial Data.

     The table below containsfollowing selected consolidated financial data for the years ended December 31, 20001999 through December 31, 2004. In 2003 we restatedis derived from our previously issued financial statements for the fiscal years ended December 31, 2002, 2001, and 2000. All applicable amounts related to this restatement are reflected in the selected consolidated financial data below. See Item 7 Management’s Discussion and Analysis of Financial Condition and Results of Operations and notes two and twenty-two to theaudited consolidated financial statements in Item 8 of this Form 10-K for details of the restatement.as restated. The operating data includes reclassifications to conform to current period presentations with no impact on net income or financial position.income. In the second quarter of 2004, we committed to a plan to divest our existing funeral and cemetery operations in Argentina and Uruguay. Subsequent to December 31, 2004, we sold our businesses in Argentina and Uruguay. Therefore, these operations are classified as discontinued for all periods presented. In the first quarter of 2004, we changed our method of accounting for insurance funded preneed contracts as we have concluded that our insurance funded preneed funeral contracts are not assets and liabilities as defined by Statement of the Company.Financial Accounting Concepts No. 6, “Elements in Financial Statements”. Therefore, we have removed from our consolidated balance sheet amounts relating to insurance funded preneed funeral contracts for all periods presented. The data set forth should be read in conjunction with our consolidated financial statements and accompanying notes to the consolidated financial statements included in this Form 10-K. ThisThe historical information is not necessarily indicative of the results to be expected in the future.

     In 2002, we adopted Statement of Financial Accounting Standards (SFAS) No. 142,“Goodwill and Other Intangible Assets” (SFAS 142). SFAS 142 addresses accounting for goodwill and other intangible assets and redefines useful lives, amortization periods and impairment of goodwill. Under the pronouncement, goodwill is no longer amortized, but is tested for impairment annually by assessing the fair value of reporting units, generally one level below reportable segments. As a result of the adoption of SFAS 142,we recognized a non-cash charge in 2002 reflected as a cumulative effect of accounting change of $135.6 million, net of applicable taxes, related to the impairment of goodwill in our North America cemetery reporting unit. For more information regarding goodwill, see note nine to the consolidatedThe financial statements for the fiscal years ended December 31, 2002, 2001 and 2000, the interim quarters of 2002, 2001, 2000 and the first three quarters of 2003 have been restated. All applicable amounts relating to these restatements have been reflected in Item 8 of this Form 10-K.the following selected financial data.

     In 2000, we implemented Staff Accounting Bulletin No. 101,“Revenue Recognition in Financial Statements” (SAB 101). As a result of this implementation, we changed certain of our accounting policies regarding preneed sales activities. We recorded a non-cash charge reflected as a cumulative effect of accounting change of $866.1 million (as restated), net of applicable taxes, as of January 1, 2000.

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merchandise and services would be recorded as deferred revenue at the contract sale price and revenue from such merchandise and services would be recognized when delivered or performed.

     In the latter part of 2001, we identified preneed cemetery merchandise and services that had been previously delivered, but the delivery had not been input into our accounting system in a timely manner. When identified, these items were recognized as revenues and disclosed as changes in estimates in the period identified. Deliveries made in a period other than when they were ultimately recognized as a change in estimate are referred to as “out-of-period deliveries”.

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2004 Activity

     In 2004, we initiated     We also reviewed our accounting policy for amortizing preneed funeral deferred selling costs and have changed the methodology for amortizing these costs from a projectstraight line basis to physically verify approximately 3.6 million individual cemetery contract itemsa method more in proportion to determine whether merchandise and services previously sold had been delivered. Approximately 46% ofwhen the deferred revenue has been reviewed to date. We expect to complete the review of the remaining individual cemetery contract items by May 2005. As a result of this review, we have adjusted our cemetery deferred revenues for the individual cemetery contract items reviewed to date. Additionally, we recorded an adjustment for the remaining items to be reviewed during the completion of the verification project. We have determined these adjustments to be material to our consolidated financial statements for the first three interim periods of 2004. As a result, the Company has restated its financial statements for the first three interim periods of 2004. The Company evaluated the materiality of these adjustments on its financial statements issued prior to January 1, 2004 and concluded that the impact of these adjustments is not material to any quarterly or annual period prior to January 1, 2004. As a result, the Company has recorded the cumulative effect of these adjustments in its restated March 31, 2004 quarterly financial data as a correction of an error. The effect of the adjustments to our cemetery deferredassociated revenues are detailedrecognized. We included this change in the sectionEffect of Restatements below.amortization in our restated results.

Trust and Cemetery Deferred Revenue Verification Project

     During 2003, the Company began the implementation of FIN 46R, the implementation of Section 404 of the Sarbanes Oxley Act, and the implementation of our new point-of-sale system.

     The trust verification project included three primary components: preneed cemetery merchandise and service trusts; preneed funeral merchandise and service trusts; and cemetery perpetual care trusts. As the project progressed, we assessed the status and adjusted the general ledger accounts accordingly. In December 31, 2003 and June 30, 2004, we made certain adjustments to our consolidated financial statements based on our best estimate at the time. The adjustments were influenced by the percentage of verifications completed and the expected error rate of uncompleted verifications.

     As of December 31, 2004, the Company has completed its verification procedures for its funeral and cemetery trust assets and funeral trust deferred revenue. The completion of the trust verification project resulted in an adjustment to our consolidated statement of operations. As a result of this adjustment, the Company has reevaluated previous adjustments related to these verifications (as mentioned above) and the impact to prior periods. We believe that these adjustments have a material impact on the Company’s consolidated financial statements for the first three interim periods of 2004. As a result, the Company has restated its financial statements for the first three interim periods of 2004. The Company evaluated the materiality of these adjustments on its financial statements issued prior to January 1, 2004 and concluded that the impact of these adjustments is not material to any quarterly or annual period prior to January 1, 2004. As a result, the Company has recorded the cumulative effect of these adjustments in its restated March 31, 2004 quarterly financial data as a correction of an error.

     These verification matters did not have an impact on our reported cash balance or cash flows in any period mentioned above as amounts that were deposited or withdrawn from trust by the Company were appropriately reported in the statement of cash flows in the appropriate period.

Operating Leases and Other Adjustments

     The Company initiated a review of our accounting practices and determined that the Company would adjust its method of accounting for certain types of operating leases related primarily to the Company’s funeral home properties.

     Historically, the Company has recorded operating lease expense, related primarily to funeral home properties, over the initial lease term without regard to reasonably assured renewal options or fixed escalation provisions. The Company will now calculate its straight line operating lease expense with consideration of such reasonably assured renewal options and fixed escalation provisions, to the extent necessary, in accordance with SFAS 13, “Accounting for Leases”.

     The Company evaluated the materiality of these adjustments related to operating leases on its financial statements and concluded that the incremental impact of these adjustments is not material to any quarterly or annual period. As a result, the Company has recorded the cumulative effect of these adjustments in its restated March 31, 2004 quarterly financial statements as a correction of an error.

     During 2004, we also performed various other reconciliations. These reconciliations primarily resulted from the conversion of our point-of-sale system. The effect of these adjustments, when combined with the other adjustments described above, are material to the

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Company’s consolidated financial statements for the first three interim periods of 2004. As a result, the Company has restated its financial statements for the first three interim periods of 2004. As a result, the Company has restated its financial statements for the first three interim periods of 2004. The cumulative effect of the 2004 activity items noted above that are related to periods prior to January 1, 2004 is recorded on a net basis of $0.4 million of net income before taxes in the Company’s restated March 31, 2004 quarterly financial data as a correction of an error.

Effect of Restatements

     The adjustments to income before income taxes related to the trust verification project, the cemetery verification project, operating leases and other verifications as described above are summarized below for the first three interim periods of 2004 and the cumulative adjustment for the years prior to January 1, 2004. The effect of these adjustments on the years ended December 31, 2003, 2002 and prior years were immaterial to the Company’s consolidated financial statements. The Company will record the adjustment related to the periods prior to January 1, 2004 in its restated March 31, 2004 financial statements as a correction of an error as they are immaterial to the financial statements as detailed in the table below.

     Included in the adjustment to first quarter of 2004 consolidated statement of operations are amounts related to adjustments prior to 2000. Of the $15.3 million adjustment related to trust reconciliations, $6.2 million related to adjustments prior to 2000. Of the $20.8 million adjustment related to cemetery deferred revenues, $13.0 million related to adjustments prior to 2000. Of the $3.8 million adjustment related to operating lease adjustments, $2.7 million related to adjustments prior to 2000. Of the $1.3 million adjustment related to other reconciliations, $6.0 million related to adjustments prior to 2000.

Restatement of First Three Interim Periods of 2004

     The effect of the restatement of our previously reported unaudited consolidated statement of operations for the periods described above is included in the following table. The effect on the consolidated balance sheet is immaterial to all periods presented in this 2004 Form 10-K.

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     See note twenty-twotwenty-one to the consolidated financial statements in Item 8 of this Form 10-K for the effect of the 2003 restatement upon quarterly unaudited financial data.

      We have changed our method of accounting for insurance funded preneed contracts as we have concluded that our insurance funded preneed funeral contracts are not assets and liabilities as defined by Statement of Financial Accounting Concepts No. 6,“Elements “Elements in Financial Statements.”Therefore, we have removed from our consolidated balance sheet amounts relating to insurance funded preneed funeral contracts previously recorded inPreneed funeral receivables and trust investmentsandDeferred preneed funeral revenues,, which at December 31, 2003 and 2002, were $3,505,094 and $2,948,100, respectively. The removal of these amounts did not have an impact on our consolidated stockholders’ equity, results of operations or cash flows. See note five to

Overview

     Service Corporation International (SCI), headquartered in Houston, Texas, is the consolidated financial statements in Item 8 of this Form 10-K for additional information on insurance related preneedworld’s largest funeral balances.

Our Company

and cemetery company. At December 31, 2004, Service Corporation International (SCI or the Company)2003, we operated 1,2162,225 funeral service locations, 417 cemeteries, and 400 cemeteries. We also had a 25% minority interest equity investment183 crematoria in eight countries. North America operations represented 56% of funeral operations in France. In addition to ourservice locations, 97% of cemeteries and 77% of crematoria owned at December 31, 2003, and approximately 73% of consolidated revenues and 79% of consolidated gross profits.

North America Operations

     To meet the needs of different markets, the funeral and cemetery operations, we own Kenyon International Emergency Services (Kenyon), a company that engages in mass fatality and emergency response services.

     Our funeral and cemetery operations are organized into a North American division covering the United States and Canada, a European division primarily consisting of operations in France and Germany, and an Other Foreign division including operations in South America and Singapore. At December 31, 2004, we also owned businesses in Argentina and Uruguay that were classified as discontinued operations. In February 2005, we sold our businesses in Argentina and Uruguay. See note twenty-one to the financial statements in Item 8 of this Form 10-K.

     For the year ended December 31, 2004, our North American funeral and cemetery operations represented 90.8% of our consolidated revenues and 93.7% of our consolidated gross profits. At December 31, 2004, we owned and operated 1,190 funeral service locations and 390 cemeteries in North America.

     Our operations in North America are organized into 32 major markets and 4244 middle markets. Major markets are characterized by areas with large populations such as Houston, New York, and Chicago. Middle markets have relatively smaller populations and include areas such as Southern Louisiana; Memphis, Tennessee; and Lynchburg, Virginia. Each major and middle market is led by a market director with responsibility for both funeral and cemetery operations as well as preneed sales.sales in their particular market. Within each market, the funeral homes and cemeteriesbusinesses realize efficiencies by sharing common resources such as personnel, preparation services, and vehicles.

     There To assist market directors with financial and administrative needs as well as human resource issues, there are three market support centers in North America to assist major and middle market directors with financial, administrative and human resource needs.America. These support centers, commonly referred to as “hubs” are located in Houston, New York and Los Angeles. The market support centers help to facilitate the execution of corporate strategies, coordinate communicationsthe communication between corporate office and the field, and corporate offices and serveact as liaisons for implementation of policies and procedures.

Our Competitive Strengths13

growing trend and have experienced initial success through the use of contemporary marketing strategies and unique product and service offerings that specifically appeal to cremation consumers. See a further discussioninformation regarding initiatives to address cremation as part of our long-termoverall revenue growth opportunitiesstrategy described below.

Increasing competition from low cost retailers.In recent years there has been an influx of retail outlets and internet websites specializing in the sale of funeral and cemetery products, particularly caskets, vaults and markers. While these types of businesses have grown in numbers and have caused pricing pressure in certain markets, we do not believe they are having a material impact on our consolidated financial results at this time. As we continue to develop strategies that are centered on creating a meaningful experience for the consumer with a greater focus on innovative service offerings and less emphasis on traditional product offerings, we expect the influence of these types of businesses will be even less.

Regulatory and litigation exposure.Our industry is heavily regulated at the federal and state levels. Although we believe we are in compliance in all material respects with these regulations, there is a continuous movement toward a stricter regulatory environment. Our compliance department strives to keep our businesses up-to-date on changes in regulation and to develop programs to monitor our compliance with various regulations. From time-to-time, we are also exposed to matters that result in litigation. We work diligently to investigate and resolve such litigation as quickly and thoroughly as possible and have placed a great deal of focus throughout the Company on litigation avoidance practices and programs. Lastly, as a public company, compliance with regulations such as the Sarbanes-Oxley Act has become increasingly costly and time-consuming for our company.

The Path to Growth

     We haveWith the significant progress made substantial progress in reducing debt and improvingincreasing cash flow since 1999. Our1999, we believe our current capital structure and liquidity affordaffords us significantimproved financial flexibility. Our primary focus is now onhas shifted to initiatives that will grow revenues and earnings. In the near term, we believe that cost reduction efforts will be the main means to improve earnings. We believe strategies centered on our national brand, Dignity Memorial^®, and other revenue growth initiatives along with a focus on cost management, canwill provide the framework forthat will drive sustainable growth over the longer term.

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Internally, we are focused on ensuring that we have consistency in service standards and processes across our network of businesses. We want every customer interaction to be the standard “Dignity” interaction, which is based upon values of integrity, respect, enduring relationships and service excellence. All of our employees who interact with consumers must complete a Dignity certification process. Additionally, we are developing a comprehensive training program under the name “Dignity University” that incorporates required specific curriculum for each job type within SCI using a combination of traditional classroom, web-based courses, virtual classroom and on-the-job training for the more than 20,000 individuals that we employ in North America.

     Externally, we continue to enhance signage and local advertising efforts using the Dignity^® name and logo. Through our national brand we are also the sponsor of several nationally recognized community programs including Dignity Memorial Escape School^®(www.escapeschool.com), which provides parents and their children with critical abduction prevention and escape techniques;techniques, Dignity Memorial Smart and Safe Seniors^®(www.smartandsafe.com), which educates seniors about consumer fraud, cons and scams, home break-ins, travel safety and other topics;topics, and The Vietnam Wall Experience (www.vietnamwallexperience.com), which is a traveling, three-quarter sizedthree-quarter-scale replica of the Vietnam Veterans Memorial in Washington, D.C.

     In 2004, we rolled out We are also currently testing new television, radio and print advertising, which if successful, will be launched on a marketing campaign to promote awareness of our national brand name throughout North America. The campaign focusedbasis. This new media advertising focuses on the distinct benefitsunique products and values that setservices exclusive to Dignity Memorial^® apart from other providers.

     It is our belief that today’s funeral consumers’ preferences are changing. The marketing approach utilized response driven communications executed through television, print, radio, direct mail, point of purchase collateral materials, the internet and yellow pages. Those requesting additional information are directed to a local Dignity^® provider. In 2004, the campaign reached 113 designated market areas, or more than 80% of all households in the United States, according to Nielsen Media Research.

Growing Our Revenues

     We have made significant improvements to our cost structure in the last two years; however, we realize that to achieve sustainable long-term earnings growth, we must also increase our revenues. We believe we can be successfulfocus in this regard by developing the Dignity^® brandindustry historically has been on selling caskets, flowers and focusinginterment rights. Based on our customers’ concernsmarket studies, we believe customers are less interested in buying products and satisfaction.

     The world of funeral service is changing. As aging Baby Boomers begin15

On a burial funeral, Dignity packaged sales generate on average approximately $2,800 more than non-Dignity sales. On a cremation service, Dignity packaged sales generate approximately $1,700 more than non-Dignity sales. In early 2005, we began to develop Dignity Memorial® packaged cemetery plans. These plans are being tested in a limited number of locations. After completing a successful test, we intend to begin the roll-out of this packaged plan initiative to our cemeteries in mid-2005.

Contemporary funeral merchandising strategies.In 2004,2003, approximately 17%16% of the total funeral consumers we served selected a Dignity^® packaged plan. package. On a preneed basis, approximately 24%20% of funeral preneedprearrangement contracts sold were Dignity^® plans. We believe we can increaseA key initiative to help drive increases in the selection rate of the Dignity^® packaged plans is through improved merchandising strategiestechniques. In a limited number of test locations, modifications are being made to casket selection rooms that will place less emphasis on traditional funeral merchandise and more focus on the comprehensive product and service offerings unique to Dignity Memorial^® providers. In late 2004, we began to roll-out enhanced merchandiseThese new displays and other presentation models in our funeral homes thatalso offer a special emphasis on personalization options. In addition, funeral personnel at eachWe will continue to enhance and make modifications to these new displays in the test locations in early 2004. As we finalize a model of what works best, these locations have completed a comprehensive trainingnew modifications will be launched nationally in late 2004 and certification program to ensure their effectiveness and optimal customer satisfaction.2005.

Contemporary cemetery marketing strategies.We are also beginning to use more contemporary marketing techniquesstrategies within our cemetery segment. We have begunInitiatives are underway to employ a tiered-product modelstrategy that emphasizes a wide range of product and service offerings including a variety ofversus only grave spaces at various price levels, cremation gardens, mausoleums, lawn crypts and niches. We are particularly focusedspaces. Special emphasis is being placed on the development of high-end cemetery property projects such as private family estates.

     In late 2004, we also developed and began to implement a standardized pricing methodology for each As of our cemeteries. This approach incorporates marketplace demographic information and data about competitive cemeteries in the market, as well as historical retail and wholesale prices. This new pricing methodology complements ourDecember 31, 2003, this tiered-product strategy and ensureshad been implemented in less than 15% of the more than 400 cemeteries that we are capturing appropriate values for the different levels of our products.

Improved management structure.In late 2003,own and we eliminated the dual management structures of sales and operations and replaced them with a single-line business management structure. In addition to reducing costs, this new structure is intended to have our strongest business managers focused on producing favorable financial results in each of our markets. Under the old structure, multiple persons shared accountability and responsibility for financial results in multiple markets. Now accountability rests solely in the market director in charge of the geographical area that he or she manages. Under the new structure, many of the administrative and financial functions are now handled by market support centers. We believe this new structure allows for greater focus on developing people, growing market share, and improving profitability.

Preneed sales.At December 31, 2004, the backlog of revenues associated with unfulfilled preneed contracts sold for funeral and cemetery merchandise and services in North America totaled more than $5 billion. We believe that the sale of preneed goods and services isinitiative will be a primarykey driver of maintainingcemetery revenue growth in 2004 and growing market share. It also provides a level of predictability and stability to our revenues and cash flows. Over the last two years, we have redesigned our sales organization to tailor our approach to emerging customer preferences, to reduce costs, and to increase our effectiveness. We eliminated certain lead generation programs and incentive travel programs and moved to an approach that is based on personal referrals and standardized professional certification. We also shifted from a compensation model that was solely based on commissions to one where sales counselors can receive a portion of sales compensation through a draw with the opportunity to earn a bonus if certain sales targets are achieved. We are continuing to invest in our sales organization in 2005 through continued training and certification programs.2005.

     An important advantage of SCI preneed sales for consumers, besides protecting them from having to make important decisions at a difficult time and locking in prices at today’s level, is the ability to transfer preneed contracts to funeral homes and cemeteries throughout our geographically diverse network of properties.

Long-Term Revenue Growth Opportunities

Enhancing cremation opportunities.To grow core revenues and profits, we believe we must capitalize on the opportunities provided byaddress the growing cremation trend.trend toward cremation. We believe a successful cremation strategy is built on product differentiation, personalization and simplicity. Along with theThe sale of Dignity Memorial^® cremation plans wecan have a meaningful impact in the near term as these sales on average result in more than $1,700 of incremental revenue per service to us compared to non-Dignity cremation sales. We are also developing new displays to be used in the arrangement process that clearly explain the products and services available to cremation consumers. We also own and operate National Cremation^®, which specifically targets the cremation consumer. Within the cemetery segment, we are promoting cremation gardens, which are separate sections located within certain of our cemeteries where cremated remains can be permanently placed and that contain other unique memorialization products. We continue to develop and expand our national brand, National Cremation^®, which targets the direct cremation consumer. And finally, comprehensive training programs are being developed to

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term due to an increasingly mobile society in North America. We think consumers today are less likely to know a funeral director personally or live in the same area as past generations who may have used funeral home services before. A favorable experience with Dignity Memorial^® through one of our community outreach programs, attending a funeral service at a Dignity location, or through previous use of a Dignity provider may influence a consumer to choose one of our funeral homes. Our centralized marketing effort will utilize information from our broad customer databases to identifydetermine geographic, demographic and lifestyle information about our consumers in order to promote awareness of the Dignity Memorial^® brand name, our local names, and our provider network in the most efficient and effective manner.

In addition, we will continue to capitalize on our nationwide network of providers to develop affinity relationships with large groups of individuals to whom we cancould market our products and services. Such relationships includeservices including employers, social organizations and insurance companies. Our most strategic affinity partnership today is with the Veterans of Foreign Wars and Ladies Auxiliary whose membership exceeds two million. Over the longer term, we believe suchthese types of groups can be a key influenceinfluencers in the funeral home selection process.

     In addition to reducing costs, our new management structure is intended to have our strongest business leaders driving results in each of our markets. Under the new structure, many of the administrative and financial functions are now handled by support centers and the geographical scope of responsibility and accountability for business leaders has been narrowed. We believe this allows our market leaders to have a greater focus on developing people, growing market share and improving profitability in their respective markets. In addition, we continue to use market action plans as a measurement tool to drive accountability and improved results. Market leaders identify the strengths, weaknesses, opportunities and threats of their local area and develop marketing strategiessupporting action plans in response that target specific ethnic groups. As an example, we are developinginclude measurable objectives, necessary resources and a brand of businesses that specifically appeal to the Hispanic population. This brand is called Funeraria del ángel (Funeral Home of the Angel). According to the United States Census Bureau, the Hispanic population reached 39.9 million in 2003, accountingtimetable for about one-half of the 9.4 million residents added to the nation’s population since Census 2000. We currently operate Funeraria del ángel in 12 California locations, three Chicago locations and six affiliated locations in Miami.completion.

Expanding through acquisition, construction, or franchise.We are also targeting expansion through acquisition or construction in the top 150 markets in North America where probable investment returns will exceed our cost of capital. We will focus future growth capital deployment in the major metropolitan markets where there is aare large population base. In areas with large populations, thebases and where multiple businesses are more institutional and less dependent on an individual; it is more conducive to have multiple businessesclustering and realize economies of scale through clustering; we can benefit more from using contemporary marketing strategies;strategies and it is easier to attract quality management. In states where allowed, we intend to focus construction efforts on developing more combination operations by building funeral homes on our existing cemeteries. Combination operations create synergies between funeral and cemetery functions and provide consumers the convenience of making all arrangements at a single location.

Over the longer term, the potential for a franchisingfranchise opportunity exists for further expansion in the smaller markets. In a franchise relationship we could recruit independent funeral providers to join the Dignity Memorial^® network and earn fees for a comprehensive range of services that we could provide to the franchisee – all at very little or no capital cost to us.

DevelopingOutlook for Fiscal 2004

     Our outlook for 2004 demonstrates continued strength in cash flows and further improvements to the capital structure. We expect growth in operating margins in 2004 largely as a result of infrastructure improvements and cost reduction programs that began in 2003. As discussed earlier in this section, initiatives centered on our people.A key objectiveDignity Memorial^® brand are being further developed to increase revenues and profits while addressing the consumers’ increasing preference for value-added products and services that assist them through the entire experience when a death occurs. In 2004, we anticipate increases in the selection rate of Dignity Memorial packaged funeral and cremation plans. We are continuing to focus on the development of strategic high-end cemetery inventory and implementation of a tiered-product approach and standard pricing model in each of our cemeteries.

     The outlook below provides ranges for certain operating measures on the income statement that could be used to calculate a broad range of expected diluted earnings per share; however, we believe will have a favorable impact on our future growth and successit is building a “best in class” workforce. We have developed a comprehensive education strategy in an online campus format called Dignity University™. Dignity University™ features job-focused curriculum for each position inmore appropriate to use the company. Upon completionrange of coursework, participants are required to pass examinations to be certified in their individual jobs. Dignity University™ uses a blended approach to learning using a combination of traditional classroom, web-based courses, virtual classroom and on-the-job training for the approximately 20,000 individuals that we employ in North America.

     In conjunction with Dignity University™, we use an online performance management tool that employees use to document their annual key objectives. Objectives are balanced between financial, operations, customer/market, and leadership/employee development. These objectives are then weighted by management and linked to incentive compensation. During the year, managers monitor and provide regular feedback on progress towards these objectives. Training and development courses are assigned as needed.

Focusing on customer loyalty.We began to track customer satisfaction in our funeral segment in 2000 through the use of independent surveys mailed to every consumer three weeks following the funeral. On average, we receive more than 40%expected diluted earnings per share provided because of the surveys back. Through statistically weighted questions, we are able to track satisfaction scores atuncertainty of developments described below.

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     We review our remaining long-lived assets for impairment when changes in circumstances indicate that the carrying amount of the asset may not be recoverable, in accordance with SFAS No. 144,“Accounting for the Impairment or Disposal of Long-Lived Assets”(SFAS 144). SFAS 144 requires that long-lived assets to be held and used be reported at the lower of their carrying amount or fair value. Assets to be disposed of and assets not expected to provide any future service potential to us are recorded at the lower of their carrying amount or fair value less estimated cost to sell.

Use of Estimates

     The preparation of financial statements in conformity with GAAP requires management to make certain estimates and assumptions. These estimates and assumptions affect the carrying values of assets and liabilities and disclosures of contingent assets and liabilities at the balance sheet date. Actual results could differ from such estimates due to uncertainties associated with the methods and assumptions underlying our critical accounting measurements. Key estimates used by management, among others, include:

	Allowances — We provide various allowances and/or cancellation reserves for our funeral and cemetery preneed and at need receivables, our preneed funeral and preneed cemetery deferred revenues, as well as for our funeral and cemetery deferred selling costs. These allowances are based on an analysis of historical trends and include, where applicable, collection and cancellation activity. These estimates are impacted by a number of factors, including changes in economy, relocation, and demographic or competitive changes in our areas of operation.
	Valuation of trust investments — With the implementation of revised FASB Interpretation No. 46, “Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin No. 51” (FIN 46R), as of March 31, 2004, we replaced receivables due from trust assets at cost with the actual trust investments recorded at market value. The trust investments include marketable securities that are classified as available-for-sale in accordance with Statement of Financial Accounting Standards No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” Where quoted market prices are not available, we obtain estimates of fair value from the managers of the private equity funds, which are based on the market value of the underlying real estate and private equity investments. These market values are based on contract offers for the real estate or the managers’ appraisals of the venture capital funds.
	Depreciation of long-lived assets — We depreciate our long-lived assets over their estimated useful lives. These estimates of useful lives may be affected by such factors as changing market conditions or changes in regulatory requirements. In 2002, we changed the estimated useful life of our existing information technology systems as a result of the decision to implement a new North America point of sale system and an upgraded general ledger system. We recognized approximately $13.8 million of additional amortization expense related to this change in estimate in 2003 and did not recognize any additional amortization expense in 2004 as the system was fully amortized in 2003.
	Deferred Selling Costs — Our policy is to defer selling costs that vary with and are primarily related to the acquisition of preneed funeral (trust funded only) and preneed cemetery contracts, and to expense such costs in proportion to the revenue recognized. This deferral, which is calculated based on deferral rates discussed below, and amortization model follows the provisions of SFAS 60, “Accounting and Reporting by Insurance Enterprises” (“SFAS 60”). The selling costs subject to deferral are the pool of compensation expense and related fringe costs incurred by the Company’s sales counselors and sales managers. Other selling costs associated with the sales and marketing of preneed funeral and cemetery contracts (e.g., lead procurement costs, brochures and marketing materials, advertising and general administrative costs) are expensed as incurred.
	Allowances — We provide various allowances and/or cancellation reserves for our funeral and cemetery preneed and atneed receivables, our preneed funeral and preneed cemetery deferred revenues, as well as for our funeral and cemetery deferred selling costs. These allowances are based on an analysis of historical trends and include, where applicable, collection and cancellation activity. These estimates are impacted by a number of factors, including changes in economy, relocation, and demographic or competitive changes in our areas of operation. Depreciation of long-lived assets — We depreciate our long-lived assets over their estimated useful lives. These estimates of useful lives may be affected by such factors as changing market conditions or changes in regulatory requirements. In 2002, we changed the estimated useful life of our existing information technology systems as a result of the decision to implement a 21 new North America point of sale system and an upgraded general ledger system. We recognized approximately $13.8 and $13.5 million of additional amortization expense related to this change in estimate in 2003 and 2002, respectively. Deferred Selling Costs – Our policy is to defer selling costs that vary with and are primarily related to the acquisition of preneed funeral (trust funded only) and preneed cemetery contracts, and to expense such costs in proportion to the revenue recognized. This deferral, which is calculated based on deferral rates discussed below, and amortization model follows the provisions of SFAS 60, “Accounting and Reporting by Insurance Enterprises” (“SFAS 60”). The selling costs subject to deferral are the pool of compensation expense and related fringe costs incurred by the Company’s sales counselors and sales managers. Other selling costs associated with the sales and marketing of preneed funeral and cemetery contracts (e.g., lead procurement costs, brochures and marketing materials, advertising and general administrative costs) are expensed as incurred. Deferral rates are determined for the following:

	•	Preneed funeral contracts
	•	Preneed cemetery contract items:

	•	interment rights (burial property)
	•	merchandise
	•	services

These deferral rates are based on the ratio of the selling compensation and fringe costs to preneed funeral and cemetery production (in dollars) weighted accordingly in the manner for which the counselor is compensated (with interment rights, or burial property, being the highest and preneed cemetery services being the lowest compensation to the counselor). In developing the deferral rates, the Company reviews various rate scenarios to ensure the finalized rates, when applied to forecasted production dollars, are reasonable compared to forecasted selling compensation. Additionally, the developed deferral rates are reviewed annually for reasonableness compared to current and historical commission rates used by the Company.

These deferral rates are based on the ratio of the selling compensation and fringe costs to preneed funeral and cemetery production (in dollars) weighted accordingly in the manner for which the counselor is compensated (with interment rights, or burial property, being the highest and preneed cemetery services being the lowest compensation to the counselor). In developing the deferral rates, the Company reviews various rate scenarios to ensure the finalized rates, when applied to forecasted production dollars, are reasonable compared to forecasted selling compensation. Additionally, the developed deferral rates are reviewed annually for reasonableness compared to current and historical commission rates used by the Company.

Taxes – Our ability to realize the benefit of deferred tax assets requires us to achieve certain future earnings levels. We have established a valuation allowance against a portion of deferred tax assets and could be required to further adjust that valuation allowance if market conditions change materially and future earnings are, or are projected to be, significantly different from current estimates. We intend to permanently reinvest the unremitted earnings of certain of our foreign subsidiaries in those businesses outside the United States and, therefore, have not provided for deferred federal income taxes on such unremitted foreign earnings.

Pension cost – Our pension costs and liabilities are actuarially determined based on certain assumptions, including expected long-term rates of return on plan assets and the discount rate used to compute future benefit obligations. It is our policy to use a discount rate comparable to rates of return on high-quality fixed income investments available and expected to be available during the period to maturity of the Company’s pension benefits. In 2003 and in prior years, actuarial gains and losses resulting from changes in the assumptions, or experience differences from those assumptions, are amortized over the remaining service period of active employees expected to receive benefits under the plans.

Since 2002, we have used a 9.0% assumed rate of return on plan assets as a result of a high allocation of equity securities within the plan assets. At December 31, 2003, 74% of the plan assets were equity securities with the remaining 26% of plan assets being represented by fixed income securities. As of December 31, 2003, the equity securities were invested approximately 40% in U.S. “Large Cap” investments, 15% in international equities, 10% in U.S. “Small Cap” investments and 9% in the Company’s stock. Our actuaries estimate the expected performance over a ten year period of each class of security. The 9.0% rate of return on plan assets was determined by allocating these expected long-term returns to the different components of the assets.

Pursuant to the previously mentioned $20 million infusion of funds into the plan in early 2004, we expect to rebalance the plan assets to have a lower percentage invested in traditional equity securities and fixed income securities and instead

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     In December 2003, the Company accrued a $3.2 million reduction in revenues as an adjustment for the trust reconciliation project. This adjustment was based on management’s best estimate at that time. This estimate represented the aggregate amounts for the three components, based on the work completed as of December 31, 2003. As of December 31, 2003, the reconciliations were completed for the cemetery perpetual care trust assets and 68% of the cemetery trust assets; thus, the adjustments for these components were based on the specifically identified reconciling items. For the remaining cemetery and the funeral trust assets, and other accounts associated with the preneed funeral and cemetery contracts, the adjustment was based on a comparison of the detail in the subsidiary accounting records with the balances in the general ledger as the best estimate of the ultimate adjustment required.

     In June 2004, management again assessed the progress of its trust reconciliation project. As of June 30, 2004, the Company had completed the trust asset reconciliations for cemetery merchandise and service trusts, preneed funeral merchandise and service trusts and cemetery perpetual care trusts. However, as of June 30, 2004, the Company had not completed reconciliations of its deferred preneed funeral revenue accounts.

     To properly reflect preneed funeral deferred revenue at June 30, 2004, the Company determined, through acceptable statistical sampling methods, the amount of deferred revenue associated with contracts that had been fulfilled or cancelled in a previous period but had not been processed in our accounting system. Because a new at-need contract is recorded for a death maturity, the funeral revenues for merchandise delivered and services performed was recorded in the proper period, but the appropriate trust fund income may not have been recorded. For cancellations, the appropriate trust fund income and revenues for amounts that were not required to be refunded to the customer upon cancellation may not have been recorded. The Company utilized a consultant to develop the testing strategy in quantifying the amount of deferred revenue that should have been removed from the backlog detail.

     The Company statistically selected 20 contracts from each of 97 locations. The sample size was determined based on a 95% confidence level. The number of locations selected for sampling was determined as the number of sites necessary to support a valid statistical sample and sufficient to highlight errors that existed in the entire population. Of these, 1,940 contracts selected, 1,864 were located and returned for evaluation in the sample. The 76 contracts for which the location personnel could not find the contract files were eliminated from the sample, as the Company deemed it inappropriate to assume that an item was an error or not an error without evidence to support the conclusion. Thus, these contracts were assumed to have the same attributes as the remaining population. The review of the 1,864 preneed funeral contracts sampled within 97 locations, resulted in an 8.4% error rate in the backlog. Using a confidence level of 95%, the extrapolated dollar error was $66.0 million with a confidence interval of ±$16.1 million. From a statistical perspective, any point within the interval range is as statistically valid as another point within the range. Accordingly, the Company believed that the mid-point of the interval of $66.0 million was the most appropriate estimate to record at that time as it represented the center of the confidence interval. The Company determined based on review of the results of the statistical sample that approximately 33% of the $66 million adjustment to the deferred preneed funeral backlog had an impact to the income statement. Based on this mid-point and based on the review of each contract with an error, the estimated impact of $22 million on the Company’s consolidated income before income taxes was calculated and recorded at June 30, 2004. The adjustment as of June 30, 2004 included an estimate for contracts that should have previously been removed from the backlog because of a death or cancellation in a prior period and an estimate for the reconciling difference between adjusted detail of the preneed funeral contracts to the general ledger. This statistical sample related to preneed funeral deferred revenue had no impact on our adjustment of cemetery contracts.

     As of June 30, 2004, the Company recorded a $2.2 million charge to its consolidated statement of operations. This charge of $2.2 million included adjustments to the completed trust asset reconciliations and the estimated adjustments of $22 million discussed above related to funeral deferred revenue.

     As of December 31, 2004, the Company has completed its reconciliation procedures for its trust assets and funeral deferred revenue. As a result of this adjustment, the Company has reevaluated previous adjustments related to these reconciliations and the impact to prior periods.

     Based on the results of the completion of the reconciliation project, the Company determined that the $22 million adjustment recorded in the second quarter of 2004 should have been $6 million. The difference between the $22 million and $6 million adjustments was primarily attributed to locations in Florida. The total population of the contracts was not as homogeneous as expected in the sample, particularly with regards to the locations in Florida. While Florida contracts represented 48% of the actual population at December 31, 2004 and had an error rate of approximately 3%, they represented only 21% of the statistical sample and had an error rate of only 1%. The lower error rates in both the statistical sample and the actual population for Florida contracts are attributed to a different process that was in place for Florida locations. A centralized trust processing center was in place for these contracts for approximately 10 years. In addition to the sampling anomaly for Florida, the actual results at December 31, 2004 included an additional $3 million charge for the difference between the adjusted contract detail and the general ledger and other items that had not been encompassed in the June 30, 2004 estimate.

     These reconciliation matters did not have an impact on our reported cash balance or net cash provided by operating activities in any period mentioned above as amounts that were deposited or withdrawn from trust by the Company were appropriately reported in the statement of cash flows in the appropriate period.

Cemetery Contract Verification Project

     At December 31, 2003, the Company restated its previously issued financial statements for the fiscal years ended December 31, 2002, 2001, 2000 and the first three quarters of 2003, primarily related to adjustments to Deferred preneed cemetery contract revenues and other items as described below. As a result of this restatement and other events including the implementation of Section 404 of the Sarbanes Oxley Act and the implementation of the Company’s new point of sale system, the Company began a process to examine all cemetery contracts in the Company’s deferred preneed cemetery contract balance to ensure that revenue was recognized in the appropriate period (when merchandise and services were delivered or performed).

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     To properly reflect cemetery merchandise and service deferred revenue at December 31, 2003 and recognize cemetery revenue in the period the items were physically delivered or performed, the Company estimated through acceptable statistical sampling methods, the amount of deferred revenue associated with merchandise and services that had been physically “delivered” (merchandise installed or service rendered) but had not been processed in our accounting system.

     The Company utilized a consultant to develop the testing strategy in quantifying the amount of deferred revenue that should be recognized in prior periods. The consultant believed the best quantification would be derived from a random sample across all cemeteries, without regard to size, based on the assumption all of our cemeteries were homogenous as to accounting policies and procedures, management structure and use of consistent accounting systems and processes. Stratification of the sample between locations was not used because stratification can cause bias which may lead to false conclusions. Our sample selection was a two-step process, randomly selecting 100 cemeteries out of the population of 400 plus cemeteries and then randomly selecting twenty items from each of the 100 cemeteries, for a total random sample of 2,000 items.

     The sample size was determined based on a 95% confidence level. The number of locations selected for sampling was determined as the number of sites necessary to support a valid statistical sample and sufficient to highlight errors that existed in the entire population. The sample results identified 79 errors totaling an error rate of 2.6% and the sample results were extrapolated to the approximately $1.6 billion deferred revenue universe. The extrapolated sample quantified the dollar amount of merchandise and service items which were still deferred in our accounting system detail, but were found to be physically delivered in periods prior to December 31, 2003. The amounts were divided into annual “contra reserve accounts” based on the ratio of the errors from each respective years of delivery to the total amount of errors discovered. The dollar error of the projection totaled $41 million and was recorded at December 31, 2003.

     All years from 2000 through 2003 were restated for this effort based on the year of delivery calculated above, and the cumulative amounts related to prior to 2000 were reflected in retained earnings. This was appropriate because the Company adopted SAB 101 effective January 1, 2000 which changed our accounting policy for recognition of preneed cemetery merchandise and services from original time of sale to the time of delivery or performance. The distribution of the $41 million adjustments amongst the periods was restated as follows:

     As of December 31, 2004 the Company had completed cemetery contract verifications of 100% of the deferred preneed cemetery revenue of the largest market cemeteries consisting of approximately 46% of our total cemetery deferred revenue. It was determined at the end of 2004, that the remaining 54% of our deferred preneed cemetery revenue balance would not be verified until May 2005. This 54% represented operational geographic markets of smaller (but greater quantity) cemeteries. To determine the propriety of the locations not 100% verified at December 31, 2004 (approximately 285), another statistical sample was taken related only to these locations and an extrapolated error rate was quantified.

     This sample was performed similarly to the sample performed at December 31, 2003 (random sample of 100 locations and random sampling of 20 items at each of the 100 locations). This amount was compared to the remaining contra reserve account (as described above) to determine if any additional adjustments would be warranted.

     It was determined the original sample had an anomaly. As previously stated, the statistical sample approach taken assumed a homogenous universe. Our Miami group of cemeteries (five in total), which was verified 100% by December 31, 2004 was subsequently determined to be an anomaly for the reasons described below:

	•	The results of the 100% verification process for the Miami group of cemeteries was much different than the remaining locations which performed the 100% review, when comparing the amount of “out of period” deliveries processed (those items found during the review of the detail which had physically been delivered in years prior to January 1, 2004) as compared to the total deferred revenue per location. The Miami locations error rate was much higher (8.5%) than the average of the remaining locations verified (3.1%). The merchandise had been properly installed and services appropriately performed; however, the activity was not properly recorded in the accounting records.
	•	The management reporting structure was different in Miami locations than the remaining North America operating structure, and had not previously performed a detailed, systematic review of their preneed cemetery contracts like the rest of the North American Cemetery Operations had completed previously.

However, excluding the Miami results, the roll-forward of the contra reserve account compared reasonably, within the acceptable confidence interval range, with the new statistical sample extrapolated at December 31, 2004. However, the confidence interval, or precision, resulting from the 2004 sample was larger than anticipated (± $11 million).

     Due to the anomaly which occurred in the Miami operations, the Company considered whether there were any other anomalies in the remaining locations to be verified in 2005 that would cause the statistical sample results to be incorrect. To reduce the risk of discovering an additional anomaly, and to reduce the confidence interval to an acceptable range, the Company selected an additional sample of items from all of the remaining locations not previously verified and not selected in the initial sample performed in 2005 (185 additional locations), and increased the sample size per location from 20 items to 50 items. As a result, an additional 9,000 sample items were selected, and when combined with the results of the initial sample, approximately 11,000 items were tested. The sample results for December 31, 2004, considering the two samples together, identified an error rate of 3.8% and calculated a point estimate of $34.4 million with a 95% confidence interval of ± $4.3 million. The Company consultant reviewed the information and has agreed that the sample analysis of the current sample conforms to accepted statistical practice and the results are reasonable. Comparing this amount to the remaining amounts previously recorded, and excluding the effect of balance sheet only reclassification (of $4.6 million), the adjustment required to the Company’s consolidated statement of operations was a total of $21.8 million. Of the $21.8 million adjustment, all but approximately $1.0 million related to pre 2004 activity ($13.0 million, or approximately 60% of the total adjustment, related to pre 2000 activity). The Company has determined the sampling methodology and results are valid and are the most appropriate manner to record the adjustments in our 2004 consolidated financial statements.

     In addition to this verification project, the Company reviews, on a quarterly basis, cemetery deliveries to ensure revenue was recorded in the appropriate quarter. The Company has included such out of quarter adjustments in its proposed restatement of the first three interim periods of 2004.

     The Company plans to be completed with the cemetery verification project by May 2005. Such final results will be included in the Company’s Form 10-Q for the quarterly period ended March 31, 2005.

Other Adjustments

Cemetery System Upgrade
As a result of a system upgrade, a Cemetery MST matter developed in late 2003 and early 2004 that is related to the trust reconciliation projects. The fact that the trusts were not reconciled during this period contributed to the lack of detection of this second matter until May 2004. The system upgrade matter was corrected during the second quarter 2004.

Other Reconciliation Items
In the first half of 2004, the Company undertook several reconciliation activities in addition to the trust reconciliations. These reconciliation activities related primarily to the implementation of the Company’s point of sale system.

     These reconciliation matters did not have an impact on our reported cash balance, operating cash flow or free cash flow in any period mentioned above as amounts that were deposited or withdrawn from trust by the Company were appropriately reported in the statement of cash flows in the appropriate period.

New Accounting Pronouncements and Accounting Changes

Other Than Temporary Impairments

     In March 2004, the Financial Accounting Standards Board (“FASB”) reached consensus on the guidance provided by Emerging Issues Task Force Issue 03-1 (“EITF 03-1”), “The Meaning of Other-Than-Temporary Impairment and Its Application to Certain Investments.” The guidance is applicable to debt and equity securities that are within the scope of FASB Statement of Financial Accounting Standard (“SFAS”) No. 115, “Accounting for Certain Investments in Debt and Equity Securities.” EITF 03-1 specifies that an impairment would be considered other-than-temporary unless (a) the investor has the ability and intent to hold an investment for a reasonable period of time sufficient for the recovery of the fair value up to (or beyond) the cost of the investment and (b) evidence indicating the cost of the investment is recoverable within a reasonable period of time outweighs evidence to the contrary. EITF 03-1 was scheduled to be effective for reporting periods ending after June 15, 2004. The measurement and recognition provisions relating to debt and equity securities have been delayed until the FASB issues additional guidance. We adopted the disclosure provisions of EITF 03-1 during the period ended June 30, 2004. The adoption of the measurement and recognition provisions are not expected to have a material impact on our consolidated financial statements, results of operations, financial position, or cash flows.

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Inventory Costs

     In November 2004, the FASB issued SFAS No. 151,“Inventory Costs – an amendment of ARB 43, Chapter 4”(SFAS 151). SFAS 151 amends the guidance in ARB No. 43, Chapter 4,“Inventory Pricing,” to clarify the accounting for abnormal amounts of idle facility expense, freight, handling costs and wasted material. SFAS 151 requires that those items be recognized as current-period charges, rather than as a portion of the inventory cost. In addition, SFAS 151 requires that allocation of fixed production overhead to the costs of conversion be based on the normal capacity of the production facilities. SFAS 151 will be effective for inventory costs incurred during fiscal years beginning after June 15, 2005. We do not expect this statement to have a material impact on our consolidated financial statements, results of operations, or cash flows.

Tax

     In December 2004, the FASB issued Staff Position No. FAS 109-1 “Application of FASB Statement No. 109, Accounting for Income Taxes, to the Tax Deduction on Qualified Production Activities provided by the American Jobs Creation Act of 2004” (FAS 109-1). The American Jobs Creation Act of 2004, enacted on October 22, 2004, provides for a deduction for certain qualified production activities. FAS 109-1 provides guidance for the application of FASB Statement No. 109,Accounting for Income Taxes, to the deduction for certain qualified production activities, and was effective immediately upon issuance. We do not believe that the adoption of FAS 109-1 will have a significant effect, if any, on our consolidated financial statements, results of operations, or cash flows.

     In December 2004, the FASB issued Staff Position No. FAS 109-2 “Accounting and Disclosure Guidance for the Foreign Earnings Repatriation Provision within the American Jobs Creation Act of 2004” (FAS 109-2). The American Jobs Creation Act of 2004 (“Jobs Act”), enacted on October 22, 2004, provides for a temporary 85% dividends-received deduction on certain foreign earnings repatriated to a U.S. taxpayer, provided certain criteria are met. FAS 109-2 provides accounting and disclosure guidance for the repatriation provision, and was effective immediately upon issuance. We are in the process of evaluating whether we will repatriate earnings under the repatriation provisions of the Jobs Act, and if so, the amount that will be repatriated; therefore, as provided for in FAS 109-2, deferred tax liabilities have not been adjusted. We estimate the range of possible amounts of unremitted earnings under consideration is between $0 and $2.3 million. If the maximum amount of $2.3 million were to be repatriated, we would accrue tax expense of approximately $0.4 million.

Share-Based Payment

     In December 2004, the FASB issued SFAS No. 123R, “Share-Based Payment” (SFAS 123R). SFAS 123R is a revision of SFAS No. 123, “Accounting for Stock-Based Compensation”, and supersedes APB 25. Among other items, SFAS 123R eliminates the use of the intrinsic value method of accounting, and requires companies to recognize the cost of employee services received in exchange for awards of equity instruments, based on the grant date fair value of those awards, in the financial statements. The effective date of SFAS 123R is the first reporting period beginning after June 15, 2005, which is third quarter 2005 for our Company. SFAS 123R permits companies to adopt its requirements using either a “modified prospective” method, or a “modified retrospective” method.

     We currently utilize a standard option pricing model (i.e., Black-Scholes) to measure the fair value of stock options granted to employees. While SFAS 123R permits entities to continue to use such a model, the standard also permits the use of a “lattice” model. We performed a cost-benefit analysis comparing option pricing models. Based on this analysis, we will continue to utilize the Black-Scholes option pricing model to measure the fair value of our stock options.

     We expect to adopt SFAS 123R effective July 1, 2005. We are currently evaluating the impact that this adoption will have on our results of operations. See note fifteen to the consolidated financial statements in Item 8 of this Form 10-K for further information related to our stock-based compensation plans.

Variable Interest Entities

     In January 2003, the FASBFinancial Accounting Standards Board (FASB) issued FASB Interpretation No. 46,“Consolidation of Variable Interest Entities, an Interpretation of Accounting Research Bulletin (ARB) No. 51.”51”. This interpretation clarifies the application of ARB No. 51,“Consolidated Financial Statements,”Statements”, to certain entities in which equity investors do not have the characteristics of a controlling financial interest or do not have sufficient equity atand risk for the entity to finance its activities without additional subordinated financial support from other parties. In December 2003, the FASB revised FASB Interpretation No. 46 (FIN 46R). which allows companies with certain types of variable interest entities to defer implementation until March 31, 2004.

     UnderWe are currently in discussions with the provisionsStaff of the Securities and Exchange Commission related to our implementation of            FIN 46R. The discussion relates to (i) the consolidation under FIN 46R we are required to consolidate certain cemeteriesof our preneed funeral and trust assets. Merchandisepreneed cemetery merchandise and service trusts andtrusts; (ii) the potential consolidation of our cemetery perpetual care trusts are considered variable interest entities becausetrust funds; and (iii) the trusts meetpolicies of recognition of the conditionsassociated investment earnings of paragraphs 5(a)the trust funds.

     We believe, at this time, that we will consolidate the preneed funeral and 5(b)(1)preneed cemetery merchandise and service trust funds upon implementation of FIN 46R. That is, as a group,Upon consolidation, the equity investors (if any) do not have sufficient equity at risk and do not have the direct or indirect ability through voting or similar rights to make decisions about the trusts’ activities that have a significant effect on the successlarge majority of the trusts. FIN 46R requires us totrust assets will be recorded at fair value. We are unclear at this time whether we will consolidate merchandise and service trusts andthe cemetery perpetual care trusts for whichtrust funds upon implementation of FIN 46R. Currently, the perpetual care trust funds are not recognized on our consolidated balance sheet. If the cemetery perpetual care trust funds are consolidated, we are the primary beneficiary (i.e., those for whichbelieve we absorbwill recognize an asset and a majoritycorresponding liability in our consolidated balance sheet of the trusts’ expected losses). We are the primary beneficiary of a trust whenever aapproximately $650 million. The large majority of the assets of thecemetery perpetual care trust are attributable to deposits of our customers.funds will be recorded at fair value.

     Consolidation of Trusts:We implemented FIN 46R as of March 31, 2004, which resulted in the consolidation of ourCurrently, we defer investment earnings associated with preneed funeral and preneed cemetery merchandise and service trust assets and our cemetery perpetual care trusts. No cumulative effect of an accounting change was recognized as a result offunds until the corresponding merchandise is delivered or the service is performed. It is unclear at this time whether this revenue recognition policy will continue upon implementation of FIN 46R, or if we will have to recognize these trust fund earnings in a revised manner, such as it relates toat the consolidation of the trusts. The implementation of FIN 46R affects certain line items on our consolidated balance sheet and statement of operations as described below; however, there is no impact to net income in the statement of operations as a result of the implementation. Additionally, the implementation of FIN 46R did not result in any net changes to our consolidated statement of cash flows; however, it does require certain financing and investing activities to be disclosed. For additional information, see notes five through eight to the consolidated financial statements in Item 8 of this Form 10-K.

     Although FIN 46R requires consolidation of most of the merchandise and service and perpetual care trusts, it does not change the legal relationships amongtime the trusts SCI and our customers. In the case of merchandise and service trusts, the customers are the legal beneficiaries. In the case offunds themselves earn such investment earnings.

     Realized investment earnings from cemetery perpetual care trusts, we do not have a legal right to the perpetual care trust assets. For these reasons, upon consolidation of the trusts, we recognize non-controlling interests in our financial statements to reflect third party interests in these trusts in accordance with FASB Statement No. 150,“Accounting for Certain Financial Instruments with Characteristics of Both Liability and Equity”(SFAS 150). We classify deposits to merchandise and service trusts as non-controlling liability interests and classify deposits to cemetery perpetual care trusts as non-controlling equity interests.

     We record cash received from customers that is payable to the trust, but not yet required to be deposited in the trusts as restricted cash inDeferred charges and other assetsin our consolidated balance sheet. At December 31, 2004, these pending deposits totaled $11,218. We continue to account for amounts received from customers prior to delivery of merchandise or services that are not required to be deposited in merchandise and service trusts as deferred revenue.

     Beginning March 31, 2004, we recognize net realized investment earnings of the merchandise and service trusts and perpetual care trusts, as well as the related trustee investment expenses and taxes, withinOther income, net. We then recognize a corresponding expense withinOther income, netrepresenting the net realized earnings of those trusts that are attributable to the non-controlling interest holders. The corresponding credit for this expense is reflected in our consolidated balance sheet inNon-controlling interest in funeral and cemetery trustsfor merchandise and service trusts orNon-controlling interest in perpetual care trustsfor cemetery perpetual care trusts. The sum of these expenses recorded inOther income, netoffset the net realized earnings of such trusts also recognized withinOther income, net. Accordingly, our net income in the consolidated statement of operations is not affected by consolidation of the trusts in accordance with FIN 46R.

     To the extent the earnings of the trusts are distributed prior to the delivery of merchandise and/or services, a corresponding amount of non-controlling interest is reclassified to deferred revenue until the corresponding revenues are recognized. In the case of merchandise and service trusts, we recognize as revenues, amounts previously attributed to non-controlling interests and deferred revenues upon the performance of services and delivery of merchandise, including earnings accumulated in these trusts. In the case of the cemetery perpetual care trusts, distributable earningsfunds are recognized in current cemetery revenues as they are intended to the extent of qualifyingdefray cemetery maintenance costs. We expect to continue recognizing these investment earnings under this new accounting policy.

     Prior to the implementation of FIN 46R and the consolidation of the trusts, monies received from customers and deposited into merchandise and service trusts until maturity of the preneed contract were recorded as receivables due from trust assets. Upon implementation of FIN 46R, we replaced receivables due from trust assets with the trust assets, at market, to the extent we were required to consolidate the trusts.

     An allowance for contract cancellation is provided based on historical experience. An allowance is no longer provided on the monies associated with the preneed contract that are held in trust, currently recorded as trust assets, but previously recorded as receivables due from trust assets. As such, the amount has decreased since the implementation of FIN 46R.

     Both the merchandise and services trusts and the cemetery perpetual care trusts hold investments in marketable securities that are classified as available-for-sale under the requirements of Statement of Financial Accounting Standards No. 115,“Accounting for Certain Investments in Debt and Equity Securities”(“SFAS 115”). In accordance with SFAS 115, available-for-sale securities of the trusts are recorded at fair value, with unrealized gains and losses excluded from earnings and initially recorded as a component ofAccumulated other comprehensive lossin our consolidated balance sheet. Using the guidance in EITF Topic D-41, “Adjustments in Assets and Liabilities for Holding Gains and Losses as Related to the Implementation of FASB Statement No. 115” (“Topic D-41”), unrealized gains and losses on available-for-sale securities of the trusts attributable to the non-controlling interest holders are not recorded asAccumulated other comprehensive income (loss), but are recorded as an adjustment to eitherNon-controlling interest in funeral and cemetery trustsorNon-controlling interest in perpetual care trusts. Therefore, unrealized gains and losses attributable to the non-controlling interest holders are reclassified fromAccumulated other comprehensive income (loss)to eitherNon-controlling interest in funeral and cemetery trustsorNon-controlling interest in perpetual care trusts. The gross effect from applying Topic D-41 on ourAccumulated other comprehensive income (loss)is disclosed in note fifteen of the consolidated financial statements in item 8 of this Form 10-K. However, ourAccumulated other comprehensive income (loss) on the face of the balance sheet is ultimately not affected by consolidation of the trusts.

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