Trex(TREX) - 2022 Q4 - Annual Report

Part I Business Trex is the world's largest manufacturer of eco-friendly composite decking, focusing on its residential segment after divesting commercial operations, and expanding manufacturing capacity - Trex is the world's largest manufacturer of composite decking and railing products, marketed under the Trex® brand[12] - The company sold its Trex Commercial segment on December 30, 2022, to focus on its core residential business[13] - Trex Residential products are made from 95% reclaimed wood fibers and recycled polyethylene film, making the company a major recycler of waste polyethylene[14][16] - A new manufacturing facility in Little Rock, Arkansas, is under construction with an anticipated spend of approximately $400 million[30] - Key growth strategies include product innovation, brand expansion, and increasing distribution channels, alongside cost reduction and customer service[37][41] - Primary competition comes from traditional wood decking, with The Azek Company Inc. and Fiberon as key wood-alternative competitors[39][40] - As of December 31, 2022, Trex Residential employed 1,636 full-time employees, none under collective bargaining agreements[54] Risk Factors The company faces risks from intense competition, cyclical home improvement market dependency, customer concentration, raw material supply, warranty claims, and global disruptions - Growth relies on increasing market acceptance and effective competition against traditional wood products, which dominate decking sales[75] - Product demand is heavily influenced by the cyclical home improvement market, sensitive to economic conditions and consumer confidence[78] - Significant customer concentration means the loss of a major customer could adversely impact the business[78] - Risks exist in obtaining raw materials like wood fiber and scrap polyethylene, potentially leading to supply disruptions or price increases[90] - Financial exposure exists from warranty claims for surface flaking on pre-2007 decking products manufactured at the Nevada facility[86] - Global public health pandemics, geopolitical conflicts, climate change, and cyberattacks pose risks to business operations and data security[97][104] Unresolved Staff Comments There are no unresolved staff comments to report - None[106] Properties The company owns and leases properties for headquarters and manufacturing, with $176.2 million in 2022 capital expenditures, largely for a new Arkansas facility Owned and Leased Properties | Purpose | Square Footage/Acres | Status | Location(s) | | :--- | :--- | :--- | :--- | | Corporate Headquarters | 39,250 SF / 8 Acres | Leased / Owned | Virginia | | Trex Residential Facilities | 1,734,589 SF | Leased | VA / NV / AR | | Trex Residential Facilities | 1,202,660 SF / 455 Acres | Owned | VA / NV / AR | - Capital expenditures in 2022 totaled $176.2 million, including $85.7 million for the new Arkansas facility and $39.2 million for cost reduction initiatives[107] Legal Proceedings The company is involved in routine litigation, which management believes will not materially affect its financial condition or operations - Pending lawsuits and claims are ordinary and incidental, with management expecting no material financial impact[110] Mine Safety Disclosures This item is not applicable to the company's operations - Not applicable[111] Part II Market for Registrant's Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities Trex common stock is listed on NYSE, has never paid dividends, repurchased 1.15 million shares in Q4 2022, and outperformed key indices over five years - The company has never paid cash dividends and plans to retain earnings for expansion or share repurchases[115] Issuer Purchases of Equity Securities (Q4 2022) | Period | Total Shares Purchased | Average Price Paid ($) | Shares Purchased Under Program | | :--- | :--- | :--- | :--- | | Oct 2022 | 578,753 | 44.45 | 578,753 | | Nov 2022 | 581,103 | 42.33 | 573,600 | | Dec 2022 | 2,418 | 42.33 | — | | Q4 Total | 1,162,274 | | 1,152,353 | Five-Year Cumulative Total Stockholder Return (assuming $100 invested on 12/31/2017) | | 12/31/2017 | 12/31/2018 | 12/31/2019 | 12/31/2020 | 12/31/2021 | 12/31/2022 | | :--- | :--- | :--- | :--- | :--- | :--- | :--- | | Trex Company, Inc. | $100.00 | $109.52 | $165.83 | $308.93 | $498.27 | $156.20 | | Russell 2000 Index | $100.00 | $88.99 | $111.71 | $134.01 | $154.09 | $122.60 | | S&P 600 Building Products | $100.00 | $79.21 | $112.63 | $141.98 | $176.33 | $146.09 | Management's Discussion and Analysis of Financial Condition and Results of Operations In 2022, net sales decreased 7.6% to $1.11 billion and net income fell 11.6% to $184.6 million, driven by reduced demand and inventory drawdowns, while cash from operations remained strong Results of Operations In 2022, net sales decreased 7.6% to $1.11 billion due to volume reduction, gross margin fell to 36.5%, and net income decreased 11.6% to $184.6 million Financial Performance Summary (2022 vs. 2021) | Metric | 2022 (in millions) | 2021 (in millions) | $ Change (in millions) | % Change | | :--- | :--- | :--- | :--- | :--- | | Net Sales | $1,106.0 | $1,197.0 | $(90.9) | (7.6)% | | Gross Profit | $404.0 | $460.5 | $(56.5) | (12.3)% | | Gross Margin | 36.5% | 38.5% | | | | Net Income | $184.6 | $208.7 | $(24.1) | (11.6)% | | Diluted EPS | $1.65 | $1.80 | $(0.15) | (8.3)% | | EBITDA | $291.0 | $311.3 | $(20.3) | (6.5)% | - Trex Residential net sales decreased due to an 18.2% volume reduction from channel partner inventory drawdowns, partially offset by a 13.6% price increase[174] - A $15.4 million loss was recorded from the divestiture of the Trex Commercial segment on December 30, 2022[178] Liquidity and Capital Resources In 2022, cash from operations was $216.2 million, with $176.2 million in capital expenditures and $398.4 million in share repurchases, funded partly by $222 million in net borrowings Summary of Cash Flows | | 2022 (in thousands) | 2021 (in thousands) | 2020 (in thousands) | | :--- | :--- | :--- | :--- | | Net cash provided by operating activities | $216,220 | $258,064 | $187,294 | | Net cash used in investing activities | $(168,884) | $(158,039) | $(170,658) | | Net cash used in financing activities | $(176,064) | $(80,673) | $(43,768) | - In 2022, the company repurchased 6.5 million shares of common stock for $398.4 million[191][192] - The revolving loan capacity was increased to $400 million in May 2022, with $222 million outstanding and $328 million available borrowing capacity at year-end[200][201][211] - Capital expenditure guidance for 2023 is projected to be between $130 million and $140 million[219] Critical Accounting Policies and Estimates Critical accounting policies involve significant judgment for product warranty reserves, especially for pre-2007 surface flaking claims, and annual goodwill impairment testing - A significant warranty reserve is maintained for surface flaking claims on pre-2007 products, requiring complex judgments for future claims and settlement costs[149][150] Surface Flaking Claims Activity | | 2022 | 2021 | 2020 | | :--- | :--- | :--- | :--- | | Claims received | 592 | 894 | 1,441 | | Claims resolved | (622) | (934) | (1,366) | | Average cost per claim ($) | 4,987 | 3,519 | 3,390 | - Goodwill is annually evaluated for impairment using qualitative factors and, if needed, a quantitative test comparing fair value to carrying value[157][159][160] Quantitative and Qualitative Disclosures About Market Risk The company faces market risk from variable interest rates on its $222 million revolving credit line, but a 1% rate increase is not expected to be material - Primary market risk stems from interest rate changes on $222 million outstanding variable-rate revolving credit at December 31, 2022[222] - A hypothetical 1% increase in interest rates is not expected to materially impact the company's financial position, operations, or liquidity[222] Financial Statements and Supplementary Data This section includes audited consolidated financial statements and Ernst & Young LLP's unqualified opinion, noting the surface flaking warranty reserve as a critical audit matter - Ernst & Young LLP issued an unqualified opinion on the consolidated financial statements and internal control effectiveness as of December 31, 2022[262][263] - The Surface Flaking Warranty Reserve was identified as a Critical Audit Matter due to complex and subjective estimation judgments[266][268] Changes in and Disagreements With Accountants on Accounting and Financial Disclosure There were no changes in or disagreements with accountants regarding accounting and financial disclosure - None[225] Controls and Procedures Management concluded disclosure controls and internal control over financial reporting were effective as of December 31, 2022, a finding concurred by Ernst & Young LLP - Management concluded that disclosure controls and procedures were effective as of December 31, 2022[226] - Internal control over financial reporting, based on the COSO framework, was assessed as effective by management and confirmed by Ernst & Young LLP as of December 31, 2022[231][232] - No material changes to internal control over financial reporting occurred during the fourth fiscal quarter[233] Other Information Significant events include the $400 million new Arkansas manufacturing facility construction and the sale of the Trex Commercial segment for $7.3 million to focus on residential business - A third U.S.-based manufacturing facility is under construction in Little Rock, Arkansas, with an anticipated budget of approximately $400 million[245] - The Trex Commercial segment was sold on December 30, 2022, for net proceeds of $7.3 million, to focus on the core residential outdoor living business[246] Part III Items 10-14 Information for Items 10-14, covering governance, compensation, and ownership, is incorporated by reference from the 2023 proxy statement - Information for Items 10-14, including Directors, Executive Officers, Corporate Governance, Executive Compensation, Security Ownership, Certain Relationships, and Principal Accounting Fees, is incorporated by reference from the 2023 proxy statement[248][250][251][252][253] Part IV Exhibits and Financial Statement Schedules This section lists consolidated financial statements and exhibits, with financial statements incorporated by reference in Item 8, and a detailed index of all exhibits provided - Consolidated Financial Statements are listed here and incorporated by reference in Part II, Item 8[255] - A comprehensive index of all filed exhibits, including governance documents, material contracts, and certifications, is provided[256][428]