Trex Company Inc (TREX) 2008 Q1 法說會逐字稿

Welcome to the Trex Company First Quarter 2008 Conference Call. At this time all participants are in a listen-only mode. Following managements prepared remarks we will hold a Q&A session. (OPERATOR INSTRUCTIONS). As a reminder this conference is being recorded May 6, 2008.

I would now like to turn the conference call over to Harriet Fried of LHA. Please go ahead, Ma'am.

Thank you, everyone, for joining us today. With us on the call are Ron Kaplan, President and Chief Executive Officer; and Jim Cline, Chief Financial Officer. Joining Ron and Jim are [Brad McDonald] (technical difficulty) Fuller, Brian [Berteaux], Director of (technical difficulty) Planning Analysis and [Bill Gupp], General Counsel.

The company issued a press release this morning (technical difficulties) results for the first quarter of 2008. This release is available on the Company's website as well as on various financial websites.

The call is also being webcast on the Investor Relations page of the Company's website where it will be available for 30 days.

I would now like to turn the call over to Bill Gupp, Trex's General Counsel. Bill.

Thank you Harriet. Before we begin let me remind everyone that statements on this call regarding the Company's expected sales performance and operating results is a projection of net sales, net income, earnings per share and costs, anticipated financial conditions and its business strategy constitute forward-looking statements within the meanings of Section 27A of the Securities Act of 1933 and Section 21E of the Securities and Exchange Act of 1934.

Such statements are subject to risks and uncertainties that could cause the Company's actual operating results to differ materially. Such risks and uncertainties include the extent of market acceptance of the Company's products, sensitivity of the Company's business to general economic conditions; the Company's ability to obtain raw materials at acceptable prices; the Company's ability to maintain product quality and product performance at an acceptable cost; level of expenses associated with product replacement inflation expenses; (inaudible) product quality in the highly competitive market in which the Company operates.

The Company's report on 10-K filed with the SEC in March 2008 discuss some of the important factors that could cause the Company's actual results to differ materially from those expressed or implied in these forward-looking statements. The Company expressly disclaims any obligations to update or revise publicly any forward-looking statements by the result of new information, (inaudible) events or otherwise.

With that introduction I'll turn the call over to Ron Kaplan.

Thank you, Bill. Good morning. A few hours ago, we released Trex Company's financial results for the 2008 first quarter. I think you will agree they represent a strong step forward and that we are making good progress in restoring the Company to financial health.

As those of you who listened to our last earnings call know, the steps we have taken to accomplish this include strengthening our management team; realigning our organizational structure; rightsizing our work force; and improving our cost controls.

In addition to improving Trex's day-to-day operational effectiveness, I want to emphasize that we are committed to growing shareholder value based on the guiding principles of providing a best-in-class product offering; expanding our distribution presence; and increasing our brand leadership while advancing our low-cost competitive advantage.

Built on green and eco-friendly principles, Trex continues to realize a competitive advantage with the environmentally responsible use of reclaimed waste plastic and waste wood.

In the first quarter, new products continued to represent a higher mix of the Company's sales. We are building the homeowner's desire for more choices and building products that allow them to build a deck or fence that is both distinctive and low maintenance. We recently added Expresso to our decking product color offering for Brazilia and the very popular Saddle for contours.

We also introduced the Groove Brazilian product line with the new Trex hideaway hidden fastening system, which eliminates the need for all deck surface fastening and provides a cleaner, more attractive look. We are expanding our railing offering with more choices from our Artisan line, that will allow the design of a custom railing system at a lower cost to the homeowner.

Trex Escapes, our ultra-low maintenance deck board have been well-received in the marketplace and demand has temporarily exceeded the supply for this product. In fact we're having trouble keeping up with demand. Therefore we will double our supply. The Trex Seclusion Privacy Fencing Line continues to gain traction in the marketplace as contractors and consumers fully recognize its superiority to wood in terms of durability and design. We are really pleased with the opportunities this line presents.

With our expanding big box distribution presence complementing our well-established two-step Pro Channel, Trex is now available in over 5,600 locations, spanning across the United States and Canada. The recently installed capital equipment designed to reduce operating costs and increase productivity while adhering to significantly higher quality standards has yielded desired results. We have reduced headcount relating to purifying the waste plastic stream. We have also integrated our production process, eliminating secondary operations that required additional labor and touch points to the manufacturing process.

These are the types of opportunities that reduce excess carrying costs and improve productivity. In a market in which virgin polyethylene plastic prices -- excuse me. The primary raw material supply for many of our competitors has increased more than 30% over the last year, we have been able to reduce our purchase price of the recycle poly we use by employing innovative and proprietary reprocessing techniques.

Over the past few months, I have continued to reach out to our customers, contractors, and our field sales force to assess for myself the mood of the marketplace regarding Trex and I am encouraged by the overall response as well as by our first quarter revenue performance. At the same time we are cautious regarding the second quarter outlook.

Since the spring decking season is just getting started, it is still difficult to assess the pull-through of the product that was delivered during the early buy sales program. In addition bad weather in many parts of the U.S. this winter delayed some outdoor projects. The economic outlook remains uncertain and building material dealers are choosing to operate with depressed inventory levels.

As a result, while we are very pleased with our operational progress a new product introductions, we are projecting first-half 2008 revenue to be approximately 85 to 90% of the level obtained in the first six months of 2007.

That said, we are excited and dedicated to continuing the Company's mission of turning the backyard into the next great room in an environmentally responsible manner. We are confident that Trex will continue to define the future of the decking market and that our new fencing and railing in products will help us gain market share in some exciting new markets.

I would like to turn this call over to Jim Cline, our Chief Financial Officer, to provide a detailed discussion of our first quarter numbers. Jim?

Thank you, Ron, and good morning, everyone. Before I review the financial results with you that were released earlier today, (inaudible) newcomer to Trex, I would like to give you my overall impressions of the Company's administrative and financial processes.

During my first 60 days with Trex I have found the financial administrative staff to be highly committed, competent, and open to change. We have identified a number of meaningful improvements and have begun to implement them. These improvements revolve around enhancing operational administrative controls, reducing the complexity of the financial processes, streamlining the financial close process and reducing administrative costs.

Because of the strength of the staff and the receptiveness of change I believe these improvements can be accomplished over the next several months without any disruption to the Company. Once the initial improvements that we have identified are implemented, we will focus on the continued improvement of our processes, internal controls and improving the predictability of the Company's financial results.

The Company recognized net sales of $119.5 million in the period, an increase of 3.1% over the first quarter of 2007. The improvement was due to favorable sales pricing mix and the impact of lower warranty costs related to the 2007 service (inaudible) issues. The Company recorded an improved revenue performance despite today's challenging macroeconomic conditions and the homebuilding environment.

The Company recorded net income of $8.9 million or $0.60 per share which is 140% improvement over the first quarter of 2007 net income of $3.7 million or $0.25 per share. Gross margin was 27.5% in the first quarter of 2008, a 620 basis point improvement over the first quarter of 2007. Gross margin was favorably impacted by improved yields and productivity initiative.

As Ron discussed, our recent capital investments are delivering the desired results of further improving productivity and reducing costs. We achieved significant improvement in gross margin, despite a reduction of capacity utilization as we focused on reducing inventories to generate free cash flow.

We also continue to focus on standardization and process controls across the manufacturing facilities.

SG&A for the first quarter of 2008 was $20.9 million or 17.5% of revenue, compared to 2007's first quarter of $17.2 million, 14.4% of revenue. The increase in SG&A was primarily the result of two factors.

First, additional personnel cost including severance cost recognized as a result of the Company's reduction in the workforce. Second, in the 2007 quarter we had a credit resulting from the reimbursement of attorney fees under a settlement agreement with Exxon Mobile. These were offset by surface defect costs from products made at our Nevada manufacturing facility.

Excluding the aforementioned surcharges and credit, SG&A was 14.4% of revenue in the first quarter of 2008 compared to 15.6% in the first quarter of 2007. Net interest was $3 million in the first quarter of 2008, a $1.3 million increase over the first quarter of 2007. The increase is primarily attributable to lower capitalized interests and a net increase in the non-cash unrealized losses on interest rate swap contracts, due to the Fed recent monetary easing.

In the first quarter of 2008, effective income tax was approximately 1% compared to 37% for the first quarter of 2007. As we noted in this morning's press release, the lower effective tax rate in 2008 resulted from recognizing a decrease in evaluational allowance against the deferred tax asset. We expect this lower effective tax rate to continue for the remainder of 2008.

The Company had a free cash flow of negative $22 million in the first quarter of 2008, a $12 million improvement over the 2007 first quarter. The improvement was primarily driven by improved EBITDA and lower capital expenditures.

At March 31, we had $21.7 million of borrowings on the revolving line of credit which has a seasonal maximum borrowing capacity of $70 million. The borrowings were utilized to fund an increase in receivables as a result of the extended terms offered during early buy sales promotion.

The majority of the extended receivables carried terms into April. As these receivables have been collected, our revolving line of credit has been reduced. We are currently out of our revolving line of credit and have a cash balance of approximately $2 million. This is the real accomplishment and illustrates the progress that we are making.

That concludes my financial overview. Operator, we're now ready to take questions.

(OPERATOR INSTRUCTIONS) Keith Hughes with SunTrust.

Thank you. On the sales number for the first and second quarter, the numbers you are discussing for the second quarter, is that market-related, inventory-related? What's going to be driving those down year-over-year?

Well, the first quarter buy was very successful and, secondly, there's been a lot of poor weather in the North Central states and in the Northeast between the moisture and the snow. So I guess it's some of both. Clearly some of it is market-related. Some of it is timing; and some of it is very difficult for us to assess because we are getting mixed signals from the marketplace.

For example we put our forecast together based on just the orders that we physically have in hand, but as recently as last night, when one of the big boxes reported their weekly sales it was the highest number we have ever had in terms of what the sales were at the point of purchase in the big box.

So we have got a series of cross currents. We decided to just put our forecast together, based on the orders that were actually in our hand and to ignore some of the anecdotal evidence.

How does the early buy you put in place in the first quarter, how does that compare to the same program in the prior year? Were the discounts similar or greater or less?

It was similar.

And within the sales in the quarter among the different price strata of products you have did you notice a meaningful change in trend on those?

Welt some of our new product that we've introduced obviously represented a higher portion of sales than they have in the past. We did sell more railing and we did sell more fencing. Those are higher margin products.

Final question, on fencing, can you give us some kind of idea of magnitude of how big that business is now?

I don't think I want to at this point. Respectfully I will just decline to answer that for competitive reasons.

Bill Gibson with Nollenberger Capital.

Jim, I'm trying to get a handle on SG&A expenses through the next three quarters. It looks like you gave us a number that was 17 something in the quarter without the extras and I assume that add spending kicks up this quarter, but is, say, $20 million a good number to use in the second quarter or is it higher than that?

Actually we have indicated that we aren't going to be doing forecast on the future earnings. What we can tell you that the add spending is going to be up a little bit but we believe that we will continue to be able to control spending and other categories at the levels that we have seen.

Yes I am just trying to get a handle on the expense line. Appreciate all the help we can get. Thank you.

I can tell you that our cost reduction exercises have been productive, and that we are moving that ball forward in terms of lowering the basic breakeven point of this Company in terms of SG&A spending and other factory spending as well.

Robert Kelly with Sidoti.

Just a question following up on the sales outlook. Most of the week it's coming from the pro distribution channel or are you feeling it as well from the big box?

I guess it would be fair to say we see most of that from the pro channel.

Now you are still ramping up both those in depot in the home improvement channel?

Yes. They continue to just expand their presence in the stores and the per store sales.

So that's somewhat of an offset to what you are seeing I guess in the pro channel?

It is.

And as far as SG&A the -- was the 1Q charges were in that? Was there anything from Olive Branch still in either gross margin or SG&A for this quarter? And did they begin to kind of reverse as we get through the rest of the year?

There's still expenses in there for Olive Branch.

It's a depreciation expense. There were no -- I'm looking at my colleagues here. There were no unusual expenses. It was just the runoff of the depreciation and what we spend for night watchmen and things of that nature.

And then just quickly on the tax rate that take us through the end of '08. Does it spill into '09 or does this start to reverse at that point? Or do you have to see at the end of '08?

We will have to do an evaluation at the end of '08 and at that point we will be in a better position to give you guidance on that.

And then finally just on even with the softer Q2 outlook, are you still in a position to be generating cash where you stand right now from a working capital standpoint?

We will be.

Ryan Thibodeaux with Maple Leaf.

I know you touched on it, on the input costs. Could you just kind of go over how you are looking at pricing on the consumer side of it on retail versus your (inaudible)?

We have a little problem with your connection. You are fading in and out and I only got about 80% of your question. Could you try that one more time?

I was just wondering if you could touch on any pricing actions you are taking over the last -- since you guys came in on the pricing at the consumer level and then relative to your rising input costs?

We don't have rising input costs right now. Our cost of reprocessed reprocessed poly is actually declining and so with respect to pricing we put a price in effect at the beginning of the year and I don't anticipate changing those prices until next year.

Can you say what the price increase was?

Yes it was about a gross of about 7% plus, and then net of yearly buy averaged out to something just over 5%.

Is that similar to what you guys did in '06 because there was not one in '07? Is that right?

I wasn't here in '06 and neither was my CFO. Does anybody else know?

It's similar.

So is the spread versus traditional pine deck, is that fairly similar to what it has been or is that (multiple speakers) ?

Well, price of wood continues to fall so my guess is that spread is probably increasing somewhat.

Do you guys had any control over the pricing at the big box stores? Because I know if you notice that some of the competitive products are discounted pretty heavily next to the Trex products.

No, we really don't have control over what the big boxes charge.

Keith Johnson with Morgan Keegan.

Just a few quick questions. You had mentioned that your polyethylene, recycled polyethylene prices had declined. Could you give us an idea on a year-over-year basis how much that decline was?

Do we have that number available?

On a year-over-year basis it's down slightly. What we have done is with poly pricing, the stretch film and the reprocessed palette pricing for those are similar going up compared to last year. But with our new reprocessing equipment, we have been able to utilize more of the lower-cost poly as opposed to the higher cost poly and that is how we are reducing our costs overall.

And during the quarter how much did you guys pay out on the warranty plan?

Do we have that number? $7.5 million.

Were there any adjustments on the accruals or anything during the quarter?

No.

I was wondering if you could -- I don't know if you could give us some more color, I think the question may have been answered earlier on the improvement in gross margin on a year-over-year basis. But is there any way you could give us a little bit more color on that 600+ basis point improvement? How much of it can be tied to lower recycled polyethylene versus cost reduction? Or something along those lines?

Let me just give you some broad comments first. We are challenging the basic decision process that management would go through to evaluate the effect of different kinds of poly on rates and yields, and so on. We've developed and are in the process of continuing to develop some rather sophisticated algorithms to help us correlate the relationship between the various kinds of raw material and the run rates and the yields, ultimately leading to a decision on what will provide the lower-cost per pound. That's part of what is going on.

Now, the rest of your question, I think you wanted a breakdown of what actually reconciled to the 610 basis points?

Well, or just, yes, a little bit more color. Really the question is --.

Add to that.

Going forward should we (inaudible) that continued improvement along these lines? On a year-over-year basis that's what I was trying to get a better handle on?

Yes from a detailed standpoint Ron and I have talked about the level of detail that we are going to be sharing. It is competitive information. We really prefer not to. We can tell you that our yields are continuing to improve and --.

So is the rates.

And the rates of throughput is continuing to improve. We are challenged because we are reducing the capacity utilization and even with that reduction, we still were able to see an improvement in the gross margin.

One of the things that we have done, by the way, is we have shut down one more line because our zeal to continue to lower inventory combined with our higher productivity has enabled us to manufacture what we need to manufacture with less lines running.

Okay. Speed rates are up on those lines with the new equipment.

Yes.

Correct.

Could you give us an idea of what utilization rate was in the quarter?

Yes. It's about -- well, right now it is running about 51%.

I guess just, I guess one last question, if you could just comment on the trend, sales trends as you kind of came across the border into April, did you see --?

Well, the trends right now within the month of April are relatively flat. In other words it hasn't gotten better and it hasn't gotten worse within the month of April.

[Greg Powell] with Bernstein.

For those of us who [aren't] tax accountants, could you just go over what triggered this decision to use a lower tax rate, please?

Yes. If you recall at the end of 2007, we took what was essentially a full valuation against our net deferred tax asset in the first quarter because we generated positive income. Those deferred tax -- net deferred tax assets reduced. So accordingly, we reduced the valuation on those deferred tax assets. So really both at the end of last year and currently at the end of the first quarter, we still have what is essentially a full valuation against the deferred tax assets; and the effect of that is their reduction of the deferred tax or devaluation allowance offset the tax we normally would have recorded in the quarter.

So last year we did not take the benefit because we took a valuation allowance against our net deferred tax asset. We didn't take the benefit, tax benefit into our P&L last year. So, this is sort of the reversed the other side of the coin. (multiple speakers)

But it applies for the whole year? That's what I'm confused about.

We do expect it to apply for the whole year, yes.

In other words Trex had been losing money for a number of years, building up a net operating loss carryforward. Now that we are making money, we get to recognize that net operating loss carryforward and we expect that the profits we earned for the remainder of the year, there will be enough of a net operating loss carryforward to cover those, that income for the remainder of this year.

I see.

Is that sufficiently clear?

Yes. That's fine. Thanks.

[Rick Shea] with Bardon.

Good morning, Ron. Just wondering if you could just spend a few minutes in detail three or four of the main initiatives and likely outcomes you would expect from those initiatives that you are focused on in 2008?

Well, the initiative continues to be a higher level of productivity from our factories; and I made reference to that already in some of the ways that we are dealing with that. There is a lot of cost control initiatives that are underway that I won't get into the details of which what they are.

They do not include salary and headcount reductions. I think we have achieved our goal in that regard. We continue to prosecute a couple of opportunities with new distribution opportunities, and a couple of opportunities with respect to the continued growth of new products.

So it's new products, it's expanded distribution and it's lower cost and more effective manufacturing processes combined with more effective poly purchasing and utilization. I think that about covers it.

(OPERATOR INSTRUCTIONS). John Baugh. Stifel Nicolaus.

This is actually Stanley in for John today. Quick question and you may have touched on this but my phone was cutting in and out. I heard you talk about the two charges in the SG&A line. If you were to back those out, what would be of a more, is a better run rate for us to look at for this coming, for the -- for 1Q?

If you were to exclude all the unusual charges on the SG&A side we would have been -- searching through my papers here -- you would then at 14.4% for the first quarter of 2008 of sale.

And add spend, was about 7% last year we still expect ballpark same ranges, for the coming year?

Essentially the same range, yes.

And last question on the 3Q call last year with the presentation was about $20 million incremental EBITDA for this coming year because of the things you guys have going on right now. Can you update us on the process or the progress with that? And is that still reasonable given the shortfall sales expectation in 2Q?

I can only answer in the way I'm capable of because neither Jim nor I were here last year. But I can tell you that the machinery that was purchased is yielding the intended results. Our productivity continues to increase in part because of that acquisition, that equipment and the new processes. And I can tell you that incumbent management that is still here, was here then, seems to be pleased with the way in which the equipment is working and the way in which it has had a possible influence on our output.

There are no further questions at this time. Please proceed with your presentation or any closing remarks.

The only closing remarks that I would have is that I appreciate the very, very intense interest that all of you have shown evidenced by the number of visits, telephone calls that we get. I can assure you that this management team will work hard to continue to deliver the credibility that we spoke of in our very first call. We want to deliver our credibility and continue to enhance shareholder value. We're committed to that. We have a long road ahead of us but all the oars are in the water; and the management team will remain focused on delivering those results.

Thank you very much for your kind attention. I'm sure there will be some post-conference call telephone calls. We will look forward to that and wish you all the very best.

Ladies and gentlemen, that concludes your conference call for today. We thank you for your participation and ask that you please disconnect your lines.