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What Makes Trex (TREX) a Solid Pick Despite Underperformance?

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Trex Company, Inc. (TREX - Free Report) is well positioned to reap benefits from strong residential business and manufacturing cost-saving initiatives. Solid U.S. housing industry backdrop and strong repair and remodel demand are encouraging.

Its shares have gained 15.6%, underperforming the Zacks Building Products - Wood industry’s 19.5% rally in the year-to-date period. Nonetheless, the company outperformed other industry peers like Weyerhaeuser Company (WY - Free Report) , Floor & Decor Holdings, Inc. (FND - Free Report) and JELD-WEN Holding, Inc. (JELD - Free Report) in the said period.

This outperformance can be primarily attributed to the company’s impressive year-over-year earnings and revenue performance. Let’s dig into the factors supporting its Zacks Rank #2 (Buy). You can see the complete list of today’s Zacks #1 Rank (Strong Buy) stocks here.

A Quick Glance at Q1 Results

Recently, the company posted strong first-quarter 2021 results, wherein both the top and bottom lines improved impressively on a year-over-year basis by 23% and 17%, respectively. EBITDA also increased 20% year over year. The robust performance is reflective of improving housing market activity, which in turn led to improved demand for Trex channel partners and the outdoor living products portfolio. However, the company witnessed a rise in start-up costs from the capacity expansion program, higher raw material inflation and transportation costs as well as the impact of the March fire on one of its Virginia manufacturing campus.

Strong Visibility in 2021

Owing to a solid start to 2021 and housing backdrop, Trex expects consolidated net sales within $295-$305 million, indicating year-on-year growth of 36% at the midpoint. For 2021, incremental EBITDA margin is projected between 35% and 40% as the positive impact of the August price increase and cost-saving projects will drive additional gross margin leverage in the second half of 2021 amid more normalized SG&A spending. In 2020, EBITDA margin was 29.3% (excluding the warranty reserve charge).

Strength in Housing Industry & Strong Residential Business

Housing markets are booming, owing to the lack of existing homes for sale and continuation of the low-rate environment. Demand for housing and wood products has been improving. Apart from remarkable recovery in single-family housing construction, repair/remodel activity has also been robust, supported by do-it-yourself and professional activity.

This year, various macroeconomic tailwinds like preference for larger single-family homes (given ongoing work-from-home flexibility & mortgage interest rates near record lows); strong homebuilder confidence; record low inventory for existing home sales; demographic trends that support growing millennial homeownership while older adults are deciding to age in place; as well as the possibility of a federal tax credit for first-time homebuyers under the Biden administration will continue aiding U.S. housing activity.

The company’s Residential business has been performing well of late. The segment has been experiencing strong demand, reflecting a favorable macro-economic environment and brand leadership. Trex Residential sales grew 25% year over year for the first quarter backed by strong demand, which was driven by continued strong secular trends across outdoor living products and increase in consumer preference for environmentally sustainable products with proven high performance, aesthetics, and quality.

Investment in Product & Technology

Trex Residential Products is capturing an increasing share of the wood market, aided by continued investments in product development activities, branding and marketing programs.

Also, it has introduced websites to meet the daily requirements of the decision making process. These websites engage with consumers at every step of the deck purchasing process, helping consumers dream and design their deck, estimate costs, ruin purchase samples, and then finally finding a contractor or partner where to buy its products. Notably, these sites are a powerful source of intelligence into consumer decision-making with respect to residential decking and railing, creating a unique and valuable resource for the company to inform design for future products and digital experiences.

Cost-Saving Initiatives

For first-quarter 2021, Trex’s selling, general and administrative expenses — as a percentage of total revenues — declined 450 basis points due to successful implementation of manufacturing cost-saving programs, and timing of spend on branding and reduced travel and entertainment expenses because of the COVID pandemic.

With operating leverage being key part of its business model, the company intends to invest in strong manufacturing cost-saving projects. Notably, these initiatives are expected to offset the increased costs and expenses, raw material inflation and other one-time charges.

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