Trex Company, Inc. (NYSE:TREX) Q3 2023 Earnings Call Transcript

Trex Company, Inc. (NYSE:TREX) Q3 2023 Earnings Call Transcript October 30, 2023

Trex Company, Inc. beats earnings expectations. Reported EPS is $0.57, expectations were $0.49.

Operator: Good afternoon, and welcome to the Trex Company Third Quarter 2023 Earnings Conference Call. [Operator Instructions] Please note this event is being recorded. I would now like to turn the conference over to Viki Nakhla. Please go ahead.

Viktoriia Nakhla: Thank you, everyone, for joining us today. With us on the call are Bryan Fairbanks, President and Chief Executive Officer. He is joined by finance executives, Brad McDonald, Chief Accounting Officer; and Kara Strosnider, Director of Financial Planning and Analysis as well as Amy Fernandez, Vice President, General Counsel, together with other members of Trex management, including the recently named Senior Vice President and Chief Financial Officer Brenda Lovcik. The company issued a press release today after market close containing financial results for the third quarter of 2023. This release is available on the company’s website. This conference call is also being webcast and will be available on the Investor Relations page of the company’s website for 30 days. I would now like to turn the call over to Amy Fernandez. Amy?

Amy Fernandez: Thank you, Viktoriia. Before we begin, let me remind everyone that statements on this call regarding the company’s expected future performance and conditions constitute forward-looking statements within the meaning of federal securities laws. These statements are subject to certain risks and uncertainties that could cause actual results to differ materially from those expressed in the forward-looking statements. For a discussion of such risks and uncertainties, please see our most recent Form 10-K and Form 10-Qs as well as our 1933 and other 1934 Act filings with the SEC. Additionally, non-GAAP financial measures will be referenced in this call. A reconciliation of these measures to the comparable GAAP financial measure can be found in our earnings press release at trex.com.

The company expressly disclaims any obligation to update or revise publicly any forward-looking statements, whether as a result of new information, future events or otherwise. With that introduction, I will turn the call over to Bryan Fairbanks.

Bryan Fairbanks: Thank you, Amy. Good evening, and thank you for joining us to discuss our third quarter 2023 results. Building off our strong second quarter performance, Trex delivered another robust quarter with improvements across all key financial metrics. Consumer demand for Trex products remain resilient with channel sell-through growth in the mid-single digits. Sales growth in the quarter also benefited from the successful launch of new products, along with our brand and marketing investments. These products resonate with consumers who value the aesthetics and low maintenance advantages of Trex products over traditional wood. We continue to leverage our industry-leading manufacturing capabilities, driving further cost reductions through increased production efficiencies resulting in an adjusted gross margin of 41.8%.

This strong performance on less than full capacity is a clear indication of the leverage inherent in the Trex business model. Adjusted EBITDA margin reached 31.5%, inclusive of our continued marketing and branding investments. As we highlighted at our recent Analyst Day, we remain focused on continuing to grow our market share as we convert more of the traditional wood decking market to Trex. Innovative new products remain central to our growth strategy, and we continue to expand our portfolio to meet consumer needs and preferences across all price points. In the third quarter, we experienced continued positive market response to our Trex Signature and Trex Transcend Lineage products, two recently launched lines targeting the higher-end consumer.

Lineage with its proprietary heat mitigation technology and a more refined, clean look has been well received in the marketplace. And after successful testing in selected geographies, we plan a national rollout for Signature decking, which is competing well at the high end of the market. We spent many years developing these game-changing products and are pleased with the reception we’re seeing from both our channel partners and consumers. We also see significant growth potential in our broader Residential segment, driven by railing, fasteners, cladding and fencing, which together with decking brings our overall addressable market opportunity to approximately $14 billion. We believe in opportunities in railing alone offer substantial growth potential.

The growth will be driven by expanded attachment rates coupled with attractive solutions to match consumer preferences at each price point while still delivering on Trex quality. While we have manufactured and sold Trex railing products since our early years, we recently accelerated our efforts to further penetrate the market. Notably, we introduced our Trex Select T-Rail system in the second quarter. This composite rail system is priced competitively against low-cost vinyl railing yet outperforms vinyl both in terms of aesthetics and performance. T-Rail is off to a great start, expanding our share in railing and building greater awareness of the Trex brand in this important category. The T-Rail launch continues our strategy of providing railing product at every price point as we have successfully done in decking.

As we continue to drive innovation through new products and tap into a range of new growth opportunities, we are expanding our production capacity in a disciplined manner. We will continue to develop our new facility in Arkansas using a modular approach, enabling us to match new capacity with anticipated market demand while allowing us to incorporate emerging technologies that will further optimize production efficiency. As a part of our planned investment, we intend to incorporate AI to further improve product quality and create the lowest cost manufacturing facility in the industry. We continue to focus on long-term growth and delivering value to shareholders in a sustainable manner. ESG leadership is important to us as it’s been part of our company’s DNA since its inception and our sustainability goals align with profitability targets.

We remain committed to the reduction of waste, water and energy consumption, empowering and investing in our valuable employees and helping build strong and healthy communities where we operate through our recycling programs, employee volunteer efforts and charitable donations. Now I will turn the call over to Brad McDonald, Chief Accounting Officer, for a review of our financial performance.

Brad McDonald: Thank you, Bryan, and good evening. As in the previous quarter, given the divestiture of Trex commercial products at the end of 2022. And to provide a more meaningful comparison, my comments will compare our third quarter 2023 financial performance to the third quarter of 2022 Trex Residential results. Net sales of $304 million exceeded our expectations and were significantly above last year’s $178 million of Residential net sales, which were impacted by channel inventory destocking. Improved utilization rates from higher production volumes and the benefits from our investments in production efficiencies and cost-out programs drove a significant improvement in gross margin to 43.1%. During the quarter, we recognized a benefit of $3.8 million due to a reduction in the warranty reserve related to the legacy surface flaking issue that affected a portion of the products manufactured at the Nevada plant prior to 2007.

Excluding the warranty benefit, gross margin was 41.8%, compared to Residential gross margin of 25.4% in last year’s third quarter. Selling, general and administrative expenses were $45 million or 14.7% of net sales compared to $25 million or 13.9% of Trex Residential net sales in the 2022 quarter. As discussed in the previous quarter, we’re returning to more normalized SG&A spending levels with a focus on branding, marketing and R&D. Net income in the 2023 quarter was $65 million or $0.60 per diluted share compared to Trex Residential net income of $15 million or $0.14 per diluted share during the prior year quarter. EBITDA was $99 million, and EBITDA as a percentage of net sales or EBITDA margin was 32.7% compared to Trex Residential EBITDA of $32 million and EBITDA margin of 17.8% in the third quarter of 2022.

Excluding the warranty benefit, net income in the 2023 quarter was $62 million or $0.57 per diluted share, and adjusted EBITDA was $96 million, and EBITDA margin was 31.5%. Year-to-date 2023 net sales were $899 million compared to $879 million of Residential net sales in the year ago period. Net income was $183 million or $1.69 per diluted share compared to Trex Residential net income of $177 million or $1.57 per diluted share in 2022. Year-to-date 2023 EBITDA was $285 million, resulting in an EBITDA margin of 31.7% compared to Trex Residential EBITDA of $268 million and EBITDA margin of 30.5% in 2022. Excluding the warranty benefit, year-to-date 2023 net income was $181 million or $1.66 per diluted share, adjusted EBITDA was $281 million, and adjusted EBITDA margin was 31.3%.

Year-to-date operating cash flow was $288 million compared to $244 million in the comparable period of 2022 as we converted significant working capital into cash through inventory reduction. Capital expenditures amounted to $113 million year-to-date, primarily related to the build-out of the Arkansas facility. I will now turn to our updated guidance. We are projecting fourth quarter revenues in the range of $185 million to $195 million, reflecting both seasonally lower demand and the shift of our prebuy to the first quarter of 2024 as discussed in last quarter’s conference call. The resulting impact is that full year 2023 revenues are projected to be $1.09 billion, assuming the midpoint of the fourth quarter revenue guidance. This is an increase from the $1.04 billion to $1.06 billion range provided during our last update.

We are also increasing our full year adjusted EBITDA margin guidance to be between 29% and 29.5% compared to the previous range of 28% to 29%. This guidance includes our expectation that SG&A will be at the higher end of the range of 15% to 16% of net sales. Capital spending guidance is projected at the higher end of the estimated $145 million to $155 million previously provided. Depreciation and amortization will range from $47 million to $50 million, and our tax rate guidance remains at 25% to 26%. With that, I’ll now turn the call back to Bryan.

Bryan Fairbanks: Thank you, Brad. Before I finish my remarks, I wanted to introduce the most recent addition to the Trex executive team, Brenda Lovcik, our new Senior Vice President and Chief Financial Officer. With over 25 years of experience, Brenda brings deep financial experience gained at global manufacturing companies, a strong track record in business operations and proven leadership skills. Brenda?

Brenda Lovcik: Thank you, Bryan, and good evening, everyone. This is an exciting time for Trex. And I am delighted to join the team as we continue to execute our growth strategy and build long-term value for Trex stakeholders. I look forward to speaking and meeting with you in person over the coming months.

Bryan Fairbanks: Thank you, Brenda. Trex is continuing to successfully navigate this dynamic environment, leveraging our industry-leading competitive advantages that clearly distinguish Trex from our competitors. Our laser focus on share gains from an expanding addressable market, complemented by our continued investment in innovation, product launches and consumer education will ensure we drive long-term shareholder value. I want to thank our Trex team members for their hard work, and channel partners for the many years of productive growth, and look forward to many more years working together. Operator, please open the call to questions.

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Q&A Session

Operator: [Operator Instructions] And our first question comes from John Lovallo of UBS. Please go ahead.

John Lovallo: Good evening, guys. Thanks for taking my questions. The first one is the fourth quarter revenue expectations improved from what was implied at about $155 million to $185 million last quarter to the $185 million to $195 million today. And this would actually represent year-over-year growth versus the fourth quarter of 2022. That said, the implied EBITDA in the fourth quarter would still be down sort of 18% to 20% year-over-year. So can you just help us sort of bucket the year-over-year drivers that are weighing on the fourth quarter EBITDA other than maybe the higher SG&A?

Bryan Fairbanks: The biggest driver on that is going to be the SG&A related to branding spend. We do have new products that will be coming into the marketplace next year, so we will be creating samples, merchandising, creating all of the literature that goes around that. So we will have — when you do the modeling for SG&A, you’ll see that, that will come in quite a bit higher than what it has been historically as we prepare to launch those products.

John Lovallo: Understood. Okay. And then maybe just from a high level, how did demand sort of trend through the quarter? How would you characterize September exit rate? And how are things — did things look in October?

Bryan Fairbanks: We were pleased with the consumer reaction to our products throughout the third quarter. I saw a mid-single-digit type sales growth. And for the fourth quarter, inclusive in our guidance. And to your point, slightly better than what we provided before. We assumed a roughly flat now, I would expect a low single-digit type growth in the fourth quarter with consumer demand. So we’re still positive on the Trex consumer, the effectiveness of our marketing, also the weather conditions that we’re seeing across most of North America.

Operator: The next question comes from Susan Maklari of Goldman Sachs. Please go ahead.

Susan Maklari: Thank you. Good afternoon, and thanks for taking the question. Bryan, maybe to start with – hello, can you talk a bit about how you’re thinking of the setup for ’24? I mean appreciating that it’s still a bit early out there. But how do you think the industry as well as Trex will end the year in terms of channel inventories and maybe the potential to pull more volumes in next year, especially as you think about sell-in perhaps outpacing sell-out?

Bryan Fairbanks: I think the best way to look at it at this point, if I take myself back to this time last year, we were looking at 2023 being down mid-single digits. And with the guidance we’ve provided, it will end up being up mid-single digits on a full year basis, excluding any impacts from inventory changes at year-end. I am feeling more positive about the Trex consumer today than I was feeling a year ago. I see how these consumers are reacting to the value of installing a Trex deck. We hear more often than not, these are consumers that might be normally looking to move up in their home, but because of high interest rates and high values of those homes, they’re not making that move, so they’re improving their existing spaces. I expect that tailwind on the repair and remodel side to continue to be a benefit for Trex as we move forward, so I’m feeling marginally more positive today than I was at the end of last year.

Susan Maklari: Okay. That’s helpful color. And then maybe following up on John’s question a bit. You mentioned you expect SG&A to be a bit higher in the fourth quarter in support of the new products that you’ll be launching. Any thoughts on how we should think about margin cadence for ’24? Any key items you’d highlight for next year?