Trex Company, Inc. — 2020 First-Quarter Form 10-Q
Reporting period: Three months ended March 31, 2020; unaudited interim results. Trex manufactures wood-alternative decking, railing, and related outdoor-living products through Trex Residential and custom-engineered railing and staging systems through Trex Commercial.
Key Financial Metrics
| Metric | Q1 2020 | Q1 2019 | Change |
|---|---|---|---|
| Net sales | $200.4 million | $179.6 million | Up 11.6% |
| Gross profit | $89.7 million | $69.4 million | Up 29.3% |
| Gross margin | 44.8% | 38.6% | Up 620 basis points |
| Income from operations | $55.1 million | $39.2 million | Up 40.7% |
| Net income | $42.4 million | $31.6 million | Up 34.4% |
| Diluted EPS | $0.73 | $0.54 | Up 35.2% |
| EBITDA | $59.0 million | $42.6 million | Up 38.5% |
| Net cash used in operating activities | $(108.8) million | $(110.0) million | Improved by $1.2 million |
| Capital expenditures | $22.7 million | $8.6 million | Up $14.1 million |
Net sales growth was driven by a 12.9% increase in Trex Residential sales to $186.9 million, reflecting volume growth, strong outdoor-living demand, residential repair and remodeling activity, and conversion from wood. Trex Commercial sales declined 4.1% to $13.5 million because of fewer large projects.
Gross-margin expansion reflected the non-recurrence of Enhance product startup costs, improved manufacturing throughput, and higher-margin Commercial contracts. Selling, general and administrative expense increased 14.6% to $34.6 million, including higher personnel costs and $1.1 million of additional branding and advertising spending. The effective tax rate increased to 23.8% from 19.6%, primarily because of lower excess tax benefits from share-based payments and higher nondeductible executive compensation.
Liquidity, Debt, and Balance Sheet
- Cash and cash equivalents were $5.3 million at March 31, 2020, down from $148.8 million at December 31, 2019.
- Accounts receivable increased to $241.2 million from $78.5 million, contributing significantly to negative operating cash flow and seasonal working-capital usage.
- The Company had $28.5 million outstanding under its revolving credit facility and $221.5 million of remaining borrowing capacity at March 31, 2020.
- The revolving facility provides up to $250 million of capacity from January 1 through June 30 and $200 million from July 1 through December 31, with maturity on November 5, 2024.
- The Company was in compliance with all debt covenants at March 31, 2020.
- Stockholders’ equity was $451.7 million, compared with $449.2 million at December 31, 2019.
- Operating lease liabilities totaled $39.6 million at March 31, 2020.
Material Changes and Capital Allocation
- Cash used in financing activities was $14.1 million, including $42.9 million of common-stock repurchases, partially offset by net borrowings of $28.5 million.
- The Company repurchased 442,009 shares under its repurchase program during the quarter and suspended further program repurchases on March 12, 2020 because of COVID-19-related market volatility. The program remained authorized as of the filing date.
- The Company’s multiyear capacity-expansion program remains projected at approximately $200 million through 2021 and is expected to increase capacity by approximately 70% when completed. Nevada capacity was expected to come online by the end of the second quarter of 2020, with Virginia capacity beginning in the first quarter of 2021.
- 2020 capital-expenditure guidance was $140 million to $160 million.
- Stockholders approved an amendment increasing authorized common shares from 120 million to 180 million, effective April 29, 2020.
Outlook, Risks, and Unusual Items
Management reported that facilities were operating at output levels similar to pre-pandemic levels as of March 31, 2020, with no significant supply issues. However, COVID-19 created substantial uncertainty. Some jurisdictions classified construction as non-essential, certain distributors and retail partners closed or curtailed operations, and management warned that second-quarter and subsequent sales could be adversely affected until the pandemic subsides and macroeconomic conditions normalize.
Management stated that stress testing indicated available cash, operating cash flow, and revolving-credit availability should support planned capital expenditures, debt service, warranty payments, and other cash needs for the foreseeable future. This assessment is subject to the duration and severity of the pandemic, customer and channel-partner disruptions, supply-chain interruptions, and broader economic conditions.
- Residential results are seasonal and affected by weather, construction activity, distributor incentives, and channel inventory levels.
- Commercial results depend on the timing and mix of individual projects.
- The residential product warranty reserve was $25.1 million at March 31, 2020, including $18.5 million for legacy surface-flaking claims. Surface-flaking claims received increased year over year, and average settlement cost rose to $3,331 from $2,407.
- Management believed the warranty reserve was adequate, but estimated liabilities could change materially if claim frequency or settlement costs differ from assumptions.
- Transaction price allocated to remaining Commercial performance obligations on contracts with original durations exceeding one year was $60.1 million, expected to be recognized as contracts are completed within the next 24 months.
- Routine litigation was not expected to have a material effect on financial condition, results, liquidity, or competitive position.
- The Company adopted new guidance concerning cloud-computing implementation costs, goodwill impairment, and expected credit losses; adoption did not materially affect results or financial condition.
Most Important Facts for Investors to Verify
- Whether COVID-19 materially reduced second-quarter demand, distributor activity, production, or collection of receivables after March 31, 2020.
- Actual operating cash flow, accounts-receivable collections, and borrowing levels as the seasonal working-capital cycle progresses.
- Whether the $140 million to $160 million 2020 capital-expenditure plan and the Virginia and Nevada capacity projects remain on schedule and within budget.
- Whether gross-margin gains from improved Enhance throughput and Commercial project mix are sustainable.
- Changes in legacy surface-flaking claims, average settlement costs, and the adequacy of the $25.1 million warranty reserve.
- Compliance with revolving-credit covenants and availability under the credit facility if earnings or cash flow weaken.
- Any decision to resume stock repurchases despite the suspension announced March 12, 2020.