Trex Company, Inc. — Q1 2019 Form 10-Q Summary
Business Context and Reporting Period
Trex manufactures wood-alternative decking, railing and related outdoor-living products through Trex Residential, and custom-engineered railing and staging systems through Trex Commercial. The filing covers the three months ended March 31, 2019, compared with the three months ended March 31, 2018. Results are unaudited and interim results are not necessarily indicative of full-year performance.
Key Financial Metrics
| Metric | Q1 2019 | Q1 2018 | Change |
|---|---|---|---|
| Net sales | $179.6 million | $171.2 million | Up 4.9% |
| Gross profit | $69.4 million | $76.7 million | Down 9.6% |
| Gross margin | 38.6% | 44.8% | Down 620 bps |
| Income from operations | $39.2 million | $47.8 million | Down 17.9% |
| Net income | $31.6 million | $37.1 million | Down 15.0% |
| Diluted EPS | $0.54 | $0.63 | Down $0.09 |
| EBITDA | $42.6 million | $52.5 million | Down 18.9% |
| Net cash used in operating activities | $(110.0) million | $(98.1) million | Greater use of cash |
| Capital expenditures | $8.6 million | $5.4 million | Up $3.2 million |
Residential sales increased 6.6% to $165.5 million, while Commercial sales declined 12.0% to $14.1 million. The effective tax rate decreased to 19.6% from 21.9%, primarily due to higher excess tax benefits from share-based payments. Interest income, net, was $56 thousand in 2019 compared with $229 thousand of net interest expense in 2018.
At March 31, 2019, cash and cash equivalents were $7.9 million, compared with $105.7 million at December 31, 2018. Accounts receivable increased to $219.3 million from $91.2 million, primarily reflecting seasonal sales and collection timing. Total assets were $535.6 million and stockholders’ equity was $363.2 million.
The company had $35.0 million outstanding under its revolving credit facility, with $215.0 million of remaining borrowing capacity. The facility permits aggregate borrowings of up to $250 million from January 1 through June 30 and $200 million from July 1 through December 31, and matures January 12, 2021. The company was in compliance with all debt covenants.
Material Changes Versus the Prior Comparable Period
- Sales growth was driven primarily by volume growth in Residential, supported by remodeling demand, market-share initiatives, expanded stocking positions and demand for decking and railing.
- Gross profit and EBITDA declined despite higher sales. Management attributed approximately $10 million of unfavorable impact to new-product startup costs, slower-than-normal production ramp-up, lower manufacturing run rates and two equipment failures at the Fernley, Nevada facility.
- The Nevada equipment failures resulted in the loss of two production lines for approximately 30 days each. The lines returned to full production, but management expected some reduced throughput and related expenses in the second quarter.
- Commercial gross margin improved to 20.5% from 17.7%, reflecting operational changes and more flexible design and manufacturing processes for custom railing solutions.
- Operating cash flow remained significantly negative because of the seasonal increase in accounts receivable and cash paid to suppliers and employees.
- The company repurchased 124,989 shares under its publicly announced program during the quarter for $8.7 million; total repurchases under the program reached 584,310 shares as of the filing date.
Guidance, Outlook, Risks and Unusual Items
- Management estimated 2019 capital expenditures of approximately $40 million to $45 million, primarily for internal growth, manufacturing cost reductions, capacity and throughput improvements, and equipment upgrades.
- Management expected cash on hand, operating cash flow and available revolver capacity to fund planned capital expenditures, debt service, warranty payments and other requirements, although actual capital needs may vary with demand and market opportunities.
- Residential results are seasonal and may be affected by adverse weather, construction and remodeling activity, distributor inventory levels, promotional programs and the timing of the prime deck-building season. Commercial results may fluctuate based on individual project timing.
- The company continues to maintain reserves for surface-flaking claims on decking manufactured at its Nevada facility before 2007. The reserve was $23.3 million for surface-flaking claims and $30.3 million for total residential product warranties at March 31, 2019. Management considered the reserve sufficient, but a 10% change in expected claims or settlement cost could change the surface-flaking reserve by approximately $2.3 million.
- Adoption of the lease standard on January 1, 2019 added approximately $45.8 million of operating lease right-of-use assets and $47.2 million of lease liabilities at adoption. Total operating lease liabilities were $45.6 million at March 31, 2019.
- Remaining performance obligations on Commercial contracts with original durations greater than one year totaled $45.1 million at March 31, 2019, generally expected to be recognized within 24 months.
- Key disclosed risks include raw-material availability and pricing, transportation costs, product quality and warranty costs, competition, economic conditions, weather, new-product acceptance, cybersecurity and data-privacy requirements.
- Routine lawsuits and claims were pending, but management did not expect their resolution to materially affect financial condition, results, liquidity or competitive position.
Most Important Facts to Verify
- Whether new-product startup costs and Nevada production inefficiencies decline as expected during the remainder of 2019.
- Whether the sharp seasonal increase in accounts receivable converts to cash without materially increasing borrowing needs.
- Whether Residential volume growth offsets lower margins and whether Commercial project timing improves.
- Whether the $40 million to $45 million capital-expenditure estimate and available revolver capacity remain adequate.
- Whether surface-flaking warranty claims and settlement costs continue to decline as assumed.
- Whether distributor inventory levels remain aligned with end-user demand and do not create future sales volatility.