Trex Company, Inc. — 2019 Form 10-K Summary
Reporting period: Fiscal year ended December 31, 2019, with unaudited fourth-quarter data included. Trex manufactures composite decking and railing products through Trex Residential and custom-engineered railing and staging systems through Trex Commercial.
Financial Performance and Position
| Metric | 2019 | 2018 | Change |
|---|---|---|---|
| Net sales | $745.3 million | $684.3 million | +8.9% |
| Gross profit | $306.5 million | $294.9 million | +3.9% |
| Gross margin | 41.1% | 43.1% | Down 2.0 points |
| Income from operations | $188.2 million | $176.7 million | +6.5% |
| Net income | $144.7 million | $134.6 million | +7.6% |
| Diluted EPS | $2.47 | $2.28 | +8.3% |
| Operating cash flow | $156.4 million | $138.1 million | +13.2% |
| EBITDA, non-GAAP | $202.2 million | $193.1 million | +4.7% |
- Approximate 2019 margins were 41.1% gross, 25.2% operating, 19.4% net, and 27.1% EBITDA.
- Trex Residential sales increased 13.2% to $694.3 million; Trex Commercial sales declined 28.1% to $51.1 million.
- Fourth-quarter 2019 sales were $164.8 million versus $140.0 million in the prior-year quarter; net income was $35.5 million versus $25.2 million.
- Cash and equivalents were $148.8 million at year-end, compared with $105.7 million in 2018. Working capital was $224.5 million.
- The company had no outstanding debt at December 31, 2019 and reported $200 million of available borrowing capacity under its revolving facility, which matures November 5, 2024.
- Total assets were $592.2 million and stockholders’ equity was $449.2 million. Operating lease liabilities totaled $41.3 million following adoption of the lease accounting standard.
Material Changes Versus 2018
- Residential volume growth drove consolidated sales growth, although new Enhance product startup inefficiencies constrained sales early in 2019 and reduced manufacturing yields and throughput.
- Gross margin declined primarily because of Enhance-related startup costs, higher material usage, reduced line rates, and lower yields. Management reported that production rates largely returned to planned levels by late 2019.
- Commercial sales and EBITDA declined because 2018 benefited from completion of several large projects that did not recur in 2019. Commercial gross margin improved to 23.5% from 21.8% due to project management, estimating, and manufacturing initiatives.
- Capital expenditures increased to $67.3 million from $33.8 million, primarily for capacity expansion and plant cost-reduction initiatives.
- The company repurchased 500,059 shares during 2019 for $46.5 million. No cash dividends have been paid, and the company currently intends to retain earnings for expansion and repurchases.
Outlook, Liquidity, Risks, and Unusual Items
- Management announced a capital program of approximately $200 million for 2019–2021, expected to increase Trex Residential production capacity by at least 70%. The company estimates 2020 capital expenditures of approximately $140 million to $160 million.
- Additional Nevada production lines were installed in 2019, further Nevada lines were expected to ramp in the second quarter of 2020, and a new Virginia facility was expected to ramp by early 2021.
- Management believes cash on hand, operating cash flow, and available revolver capacity will fund planned capital expenditures, warranty obligations, and other requirements for at least the next 12 months.
- The principal unusual contingency is the legacy surface-flaking warranty program for Nevada products manufactured before 2007. The related reserve was $19.0 million at year-end, within a total residential warranty reserve of $25.5 million. A 10% change in remaining claim or settlement-cost assumptions could change the surface-flaking reserve by approximately $1.9 million.
- Surface-flaking claims received declined to 1,394 in 2019 from 1,481 in 2018, but average settlement cost increased to $3,447 from $2,631.
- Key risks include dependence on major distributors and retailers, seasonal and weather-sensitive demand, competition from wood and other composite products, raw-material availability and pricing, transportation costs, manufacturing execution, product quality and warranty claims, commercial-project timing, cybersecurity, and economic conditions affecting home improvement and construction.
- Three residential customers represented approximately 57% of 2019 sales, and the largest customers represented 30%, 24%, and 10% of year-end accounts receivable.
- The company adopted lease accounting in 2019 and expected adoption of new cloud-computing, goodwill-impairment, and credit-loss standards in 2020; management expected no material impact from these adoptions.
- Ernst & Young issued unqualified opinions on the financial statements and internal control over financial reporting. Surface-flaking warranty valuation was identified as the critical audit matter.
Investor Verification Checklist
- Verify whether Enhance production efficiencies and material usage reached management’s stated targets during 2020 and whether gross margins recovered.
- Track execution, spending, timing, and capacity benefits from the $200 million expansion program and the $140 million–$160 million 2020 capital-spending outlook.
- Assess the sustainability of residential demand and monitor inventory levels across the distributor and retail channel.
- Review Trex Commercial project awards, backlog conversion, and whether revenue and EBITDA recover from the 2019 decline.
- Reconcile future surface-flaking claims, average settlement costs, and the $25.5 million total warranty reserve against actual cash payments.
- Monitor customer concentration, raw-material and transportation costs, lease obligations, and availability under the revolving credit facility.