10-Q 1 d347630d10q.htm 10-Q 10-Q
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UNITED STATES
SECURITIES AND EXCHANGE COMMISSION
Washington, D.C. 20549
 
 
FORM
10-Q
 
 
 
QUARTERLY REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the quarterly period ended September 30, 2022
OR
 
TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
For the transition period from
                    
to
                    
Commission File Number:
001-14649
 
 
 

Trex Company, Inc.
(Exact name of registrant as specified in its charter)
 
 
 
Delaware
 
54-1910453
(State or other jurisdiction of
incorporation or organization)
 
(I.R.S. Employer
Identification No.)
160 Exeter Drive
Winchester, Virginia
 
22603-8605
(Address of principal executive offices)
 
(Zip Code)
Registrant’s telephone number, including area code:
(540542-6300
Not Applicable
(Former name, former address and former fiscal year, if changed since last report)
 
 
Securities registered pursuant to Section 12(b) of the Act:
 
Title of each class
 
Trading Symbol(s)
 
Name of each exchange on which registered
Common stock
 
TREX
 
New York Stock Exchange
Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.    Yes  ☒    No  ☐
Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation
S-T
during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).    Yes  ☒    No  ☐
Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a
non-accelerated
filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company,” and “emerging growth company” in Rule
12b-2
of the Exchange Act.:
 
Large accelerated filer      Accelerated filer  
Non-accelerated filer      Smaller reporting company  
     Emerging growth company  
If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act  ☐
Indicate by check mark whether the registrant is a shell company (as defined by Rule
12b-2
of the Exchange Act):    Yes  ☐    No  
The number of shares of the registrant’s common stock, par value $0.01 per share, outstanding at October 17, 2022 was 109,738,379 shares.
 
 
 

TREX COMPANY, INC.
INDEX
 
    
Page
 
  
 
2
 
Item 1.
       2  
       2  
       3  
       4  
       5  
       6  
Item 2.
       18  
Item 3.
       29  
Item 4.
       29  
  
 
30
 
Item 1.
       30  
Item 2.
       30  
Item 5.
       30  
Item 6.
       30  
 
1

PART I
FINANCIAL INFORMATION
 
Item 1.
Condensed Consolidated Financial Statements
TREX COMPANY, INC.
Condensed Consolidated Statements of Comprehensive Income
(Unaudited)
(In thousands, except share and per share data)
 
    
Three Months Ended

September 30,
   
Nine Months Ended

September 30,
 
    
2022
    
2021
   
2022
   
2021
 
Net sales
   $ 188,472      $ 335,872     $ 913,950     $ 892,991  
Cost of sales
     142,264        207,622       575,452       550,668  
    
 
 
    
 
 
   
 
 
   
 
 
 
Gross profit
     46,208        128,250       338,498       342,323  
Selling, general and administrative expenses
     26,857        33,931       106,387       102,880  
Gain on insurance proceeds
     —          (3,777     —         (5,497
    
 
 
    
 
 
   
 
 
   
 
 
 
Income from operations
     19,351        98,096       232,111       244,940  
Interest income, net
     —          (10     (103     —    
    
 
 
    
 
 
   
 
 
   
 
 
 
Income before income taxes
     19,351        98,106       232,214       244,940  
Provision for income taxes
     4,928        24,311       57,665       61,235  
    
 
 
    
 
 
   
 
 
   
 
 
 
Net income
   $ 14,423      $ 73,795     $ 174,549     $ 183,705  
    
 
 
    
 
 
   
 
 
   
 
 
 
Basic earnings per common share
   $ 0.13      $ 0.64     $ 1.55     $ 1.59  
    
 
 
    
 
 
   
 
 
   
 
 
 
Basic weighted average common shares outstanding
     110,140,496        115,344,015       112,609,684       115,455,543  
    
 
 
    
 
 
   
 
 
   
 
 
 
Diluted earnings per common share
   $ 0.13      $ 0.64     $ 1.55     $ 1.59  
    
 
 
    
 
 
   
 
 
   
 
 
 
Diluted weighted average common shares outstanding
     110,300,017        115,625,760       112,787,994       115,767,426  
    
 
 
    
 
 
   
 
 
   
 
 
 
Comprehensive income
   $ 14,423      $ 73,795     $ 174,549     $ 183,705  
    
 
 
    
 
 
   
 
 
   
 
 
 
See Notes to Condensed Consolidated Financial Statements (Unaudited).
 
2

TREX COMPANY, INC.
Condensed Consolidated Balance Sheets
(In thousands, except share data)
 
    
September 30,

2022
   
December 31,
2021
 
    
(Unaudited)
 
ASSETS
                
Current assets
                
Cash and cash equivalents
   $ 5,885     $ 141,053  
Accounts receivable, net
     88,753       151,096  
Inventories
     132,115       83,753  
Prepaid expenses and other assets
     18,647       25,152  
    
 
 
   
 
 
 
Total current assets
     245,400       401,054  
Property, plant and equipment, net
     536,359       460,365  
Operating lease assets
     34,933       34,571  
Goodwill and other intangible assets, net
     18,687       19,001  
Other assets
     6,519       5,330  
    
 
 
   
 
 
 
Total assets
  
$
841,898
 
 
$
920,321
 
    
 
 
   
 
 
 
LIABILITIES AND STOCKHOLDERS’ EQUITY
                
Current liabilities
                
Accounts payable
   $ 21,880     $ 24,861  
Accrued expenses and other liabilities
     76,495       58,041  
Accrued warranty
     6,300       5,800  
Line of credit
     76,000       —    
    
 
 
   
 
 
 
Total current liabilities
     180,675       88,702  
Deferred income taxes
     43,967       43,967  
Operating lease liabilities
     27,909       28,263  
Non-current
accrued warranty
     21,249       22,795  
Other long-term liabilities
     11,560       11,560  
    
 
 
   
 
 
 
Total liabilities
     285,360       195,287  
    
 
 
   
 
 
 
Commitments and contingencies
     —         —    
     
Stockholders’ equity
                
Preferred stock, $0.01 par value, 3,000,000 shares authorized; none issued and outstanding
                  
Common stock, $0.01 par value, 360,000,000 shares authorized; and 140,820,228 and 140,734,753 shares issued, respectively
     1,408       1,407  
Additional
paid-in
capital
     129,784       127,787  
Retained earnings
     1,120,598       946,048  
Treasury stock, at cost, 30,946,057 and 25,586,601 shares, respectively
     (695,252     (350,208
    
 
 
   
 
 
 
Total stockholders’ equity
     556,538       725,034  
    
 
 
   
 
 
 
Total liabilities and stockholders’ equity
  
$
841,898
 
 
$
920,321
 
    
 
 
   
 
 
 
See Notes to Condensed Consolidated Financial Statements (Unaudited).
 
3

TREX COMPANY, INC.
Condensed Consolidated Statements of Changes in Stockholders’ Equity
(Unaudited)
(In thousands, except share data)
 
    
Common Stock
    
Additional
Paid-In

Capital
   
Retained
Earnings
    
Treasury Stock
   
Total
 
    
Shares
   
Amount
    
Shares
    
Amount
 
Balance, December 31, 2021
  
 
115,148,152
 
 
$
1,407
 
  
$
127,787
 
 
$
946,048
 
  
 
25,586,601
 
  
$
(350,208
 
$
725,034
 
Net income
     —         —                71,211                     71,211  
Employee stock plans
     9,081       —          523       —           —          —         523  
Shares withheld for taxes on awards
     (35,856     —           (2,912     —          —          —         (2,912
Stock-based compensation
     79,926       1        2,225       —          —          —         2,226  
Repurchases of common stock
     (833,963     —          —         —          833,963        (75,017     (75,017
    
 
 
   
 
 
    
 
 
   
 
 
    
 
 
    
 
 
   
 
 
 
Balance, March 31, 2022
  
 
114,367,340
 
 
$
1,408
 
  
$
127,623
 
 
$
1,017,259
 
  
 
26,420,564
 
  
$
(425,225
 
$
721,065
 
Net income
     —         —             —         88,916        —          —         88,916  
Employee stock plans
     8,834       —           429       —          —          —         429  
Stock-based compensation
     2,024       —           1,057       —          —          —         1,057  
Repurchases of common stock
     (2,814,817     —           —         —          2,814,817        (169,992     (169,992
    
 
 
   
 
 
    
 
 
   
 
 
    
 
 
    
 
 
   
 
 
 
Balance, June 30, 2022
  
 
111,563,381
 
 
$
1,408
 
  
$
129,109
 
 
$
1,106,175
 
  
 
29,235,381
 
  
$
(595,217
 
$
641,475
 
Net income
     —         —           —         14,423        —          —         14,423  
Employee stock plans
     11,003       —           429       —          —          —         429  
Shares withheld for taxes on awards
     (57     —           (3     —          —          —         (3
Stock-based compensation
     10,520       —           249       —          —          —         249  
Repurchases of common stock
     (1,710,676     —           —         —          1,710,676        (100,035     (100,035
    
 
 
   
 
 
    
 
 
   
 
 
    
 
 
    
 
 
   
 
 
 
Balance, September 30, 2022
  
 
109,874,171
 
 
$
1,408
 
  
$
129,784
 
 
$
1,120,598
 
  
 
30,946,057
 
  
$
(695,252
 
$
556,538
 
    
 
 
   
 
 
    
 
 
   
 
 
    
 
 
    
 
 
   
 
 
 
 
    
Common Stock
    
Additional
Paid-In

Capital
   
Retained
Earnings
    
Treasury Stock
   
Total
 
    
Shares
   
Amount
    
Shares
    
Amount
 
Balance, December 31, 2020
  
 
115,799,503
 
 
$
1,406
 
  
$
126,087
 
 
$
737,311
 
  
 
24,777,502
 
  
$
(276,273
 
$
588,531
 
Net income
     —         —          —         48,545        —          —         48,545  
Employee stock plans
     28,286       —          460       —          —          —         460  
Shares withheld for taxes on awards
     (38,212     —          (4,045     —          —          —         (4,045
Stock-based compensation
     76,094       —          2,176       —          —          —         2,176  
Repurchases of common stock
     (504,275     —          —         —          504,275        (45,523     (45,523
    
 
 
   
 
 
    
 
 
   
 
 
    
 
 
    
 
 
   
 
 
 
Balance, March 31, 2021
  
 
115,361,396
 
 
$
1,406
 
  
$
124,678
 
 
$
785,855
 
  
 
25,281,777
 
  
$
(321,796
 
$
590,143
 
Net income
     —         —          —         61,366        —          —         61,366  
Employee stock plans
     20,341       —          400       —          —          —         400  
Shares withheld for taxes on awards
     (13,491     —          (1,446     —          —          —         (1,446
Stock-based compensation
     17,210       1        2,132       —          —          —         2,133  
Repurchases of common stock
     (40,751     —          —         —          40,751        (3,820     (3,820
    
 
 
   
 
 
    
 
 
   
 
 
    
 
 
    
 
 
   
 
 
 
Balance, June 30, 2021
  
 
115,344,705
 
 
$
1,407
 
  
$
125,764
 
 
$
847,221
 
  
 
25,322,528
 
  
$
(325,616
 
$
648,776
 
Net income
     —         —          —         73,795        —          —         73,795  
Employee stock plans
     36,590       —          464       —          —          —         464  
Shares withheld for taxes on awards
     (10,946     —          (1,159     —          —          —         (1,159
Stock-based compensation
     10,565                 1,887       —          —          —         1,887  
Repurchases of common stock
     (31,688     —          —         —          31,688        (2,954     (2,954
    
 
 
   
 
 
    
 
 
   
 
 
    
 
 
    
 
 
   
 
 
 
Balance, September 30, 2021
  
 
115,349,226
 
 
$
1,407
 
  
$
126,956
 
 
$
921,016
 
  
 
25,354,216
 
  
$
(328,570
 
$
720,809
 
    
 
 
   
 
 
    
 
 
   
 
 
    
 
 
    
 
 
   
 
 
 
See Notes to Condensed Consolidated Financial Statements (Unaudited).
 
4

TREX COMPANY, INC.
Condensed Consolidated Statements of Cash Flows
(Unaudited)
(In thousands)
 
    
Nine Months Ended
September 30,
 
    
2022
   
2021
 
OPERATING ACTIVITIES
                
Net income
   $ 174,549     $ 183,705  
Adjustments to reconcile net income to net cash provided by operating activities:
                
Depreciation and amortization
     33,269       25,604  
Stock-based compensation
     3,531       6,195  
Gain on disposal of property, plant and equipment
     (43     (1,057
Other
non-cash
adjustments
     (171     (40
Changes in operating assets and liabilities:
                
Accounts receivable
     62,343       (158,813
Inventories
     (48,362     (5,399
Prepaid expenses and other assets
     7,125       (4,311
Accounts payable
     (3,769     17,219  
Accrued expenses and other liabilities
     8,842       28,472  
Income taxes receivable/payable
     7,079       21,484  
    
 
 
   
 
 
 
Net cash provided by operating activities
     244,393       113,059  
    
 
 
   
 
 
 
INVESTING ACTIVITIES
                
Expenditures for property, plant and equipment
     (108,163     (124,451
Proceeds from sales of property, plant and equipment
     45       1,355  
    
 
 
   
 
 
 
Net cash used in investing activities
     (108,118     (123,096
    
 
 
   
 
 
 
FINANCING ACTIVITIES
                
Borrowings under line of credit
     156,000       416,000  
Principal payments under line of credit
     (80,000     (416,000
Repurchases of common stock
     (347,957     (58,945
Proceeds from employee stock purchase and option plans
     1,381       1,323  
Financing costs
     (867     —    
    
 
 
   
 
 
 
Net cash used in financing activities
     (271,443)       (57,622
    
 
 
   
 
 
 
Net decrease in cash and cash equivalents
     (135,168     (67,659
Cash and cash equivalents, beginning of period
     141,053       121,701  
    
 
 
   
 
 
 
Cash and cash equivalents, end of period
  
$
5,885
 
 
$
54,042
 
    
 
 
   
 
 
 
Supplemental Disclosure:
                
Cash paid for interest, net of capitalized interest
   $        $     
Cash paid for income taxes, net
   $ 50,585     $ 39,750  
See Notes to Condensed Consolidated Financial Statements (Unaudited).
 
5

TREX COMPANY, INC.
Notes to Condensed Consolidated Financial Statements
For the Nine Months Ended September 30, 2022 and September 30, 2021
(Unaudited)
 
1.
BUSINESS AND ORGANIZATION
Trex Company, Inc. (Trex), a Delaware corporation, was incorporated on September 4, 1998. Together, Trex and its wholly-owned subsidiary, Trex Commercial Products, Inc., are referred to as the Company. The Company operates in two reportable segments, Trex Residential Products (Trex Residential) and Trex Commercial Products (Trex Commercial). Trex Residential, the Company’s principal business based on net sales, is the world’s largest manufacturer of high-performance,
low-maintenance
wood-alternative decking and residential railing and outdoor living products and accessories, marketed under the brand name Trex
®
, with more than 30 years of product experience. A majority of its products are manufactured in a proprietary process that combines reclaimed wood fibers and scrap polyethylene. Also, the Company is a leading national provider of custom-engineered railing and staging systems for the commercial and multi-family market, including sports stadiums and performing arts venues. The principal executive offices are located at 160 Exeter Drive, Winchester, Virginia 22603, and the telephone number at that address is
(540) 542-6300.
 
2.
BASIS OF PRESENTATION
The accompanying unaudited condensed consolidated financial statements have been prepared in accordance with accounting principles generally accepted in the United States for interim financial information and the instructions to Form
10-Q
and Article 10 of Regulation
S-X
and, accordingly, the accompanying unaudited condensed consolidated financial statements do not include all of the information and notes required by accounting principles generally accepted in the United States for complete financial statements. In the opinion of management, all adjustments (consisting of normal and recurring adjustments, except as otherwise described herein) considered necessary for a fair presentation have been included in the accompanying unaudited condensed consolidated financial statements. Certain reclassifications have been made to prior period balances to conform to current year presentation. The unaudited condensed consolidated financial statements include the accounts of the Company for all periods presented. Intercompany accounts and transactions have been eliminated in consolidation.
The unaudited consolidated results of operations for the three and nine months ended September 30, 2022, are not necessarily indicative of the results that may be expected for the fiscal year ending December 31, 2022. The Company’s results of operations are affected by a number of factors, including, but not limited to, the cost to manufacture and distribute products, cost of raw materials, inflation, consumer spending and preferences, interest rates, the impact of any supply chain disruptions, economic conditions, and/or any adverse effects from the
COVID-19
pandemic and geopolitical conflicts. Towards the end of June 2022, we experienced a reduction in demand from our distribution partners, which we believe was primarily spurred by concerns over a potential easing in consumer demand due to rising interest rates, declining consumer sentiment and expectations of a general slowing in the economy. As a result, beginning in the third quarter our channel partners met demand partially through inventory drawdown rather than reordering products and maintaining current inventories. The drawdown negatively impacted third quarter sales and will likely impact fourth quarter sales.
These unaudited condensed consolidated financial statements should be read in conjunction with the audited consolidated financial statements as of December 31, 2021, and December 31, 2020, and for each of the three years in the period ended December 31, 2021, included in the Annual Report of Trex Company, Inc. on Form
10-K,
as filed with the U.S. Securities and Exchange Commission.
 
3.
RECENTLY ADOPTED ACCOUNTING STANDARDS
In November 2021, the FASB issued ASU
No. 2021-10,
Government Assistance (Topic 832):
Disclosures by Business Entities about Government Assistance
”. The guidance requires business entities to make annual disclosures about transactions with a government they account for by analogizing to a grant or contribution accounting model, such as IAS 20, ASC
958-605.
The annual disclosure requirements include: the nature of the transactions, the entities related accounting policy used, the line items on the balance sheet and income statement that are affected and the amounts applicable to each financial statement line item, and significant terms and conditions of the transactions. The disclosure requirements could be applied either prospectively to all transactions in the scope of the amendments that are reflected in the financial statements at the date of initial application and new transactions that are entered into after the date of initial application, or retrospectively.
 
6

The guidance was effective for fiscal years beginning after December 15, 2021, with early application permitted. Adoption of the guidance did not have a material effect on the Company’s consolidated financial statements.
 
4.
NEW ACCOUNTING STANDARDS NOT YET ADOPTED
In March 2020, the FASB issued ASU
No. 2020-04,
Reference Rate Reform (Topic 848): Facilitation of the Effects of Reference Rate Reform on Financial Reporting
”. The guidance provides temporary optional expedients and exceptions related to contract modifications and hedge accounting to ease entities’ financial reporting burdens as the market transitions from the London Interbank Offered Rate and other interbank offered rates to alternative reference rates. The new guidance allows entities to elect not to apply certain modification accounting requirements, if certain criteria are met, to contracts affected by what the guidance calls reference rate reform. An entity that makes this election would consider changes in reference rates and other contract modifications related to reference rate reform to be events that do not require contract remeasurement at the modification date or reassessment of a previous accounting determination. The ASU notes that changes in contract terms that are made to effect the reference rate reform transition are considered related to the replacement of a reference rate if they are not the result of a business decision that is separate from or in addition to changes to the terms of a contract to effect that transition. The guidance is effective upon issuance and generally could be applied as of March 12, 2020, through December 31, 2022. The Company does not expect adoption of the guidance to have a material effect on its consolidated financial statements.
 
5.
INVENTORIES
Inventories valued at LIFO
(last-in,
first-out),
consist of the following (in thousands):
 
    
September 30,
2022
    
December 31,
2021
 
Finished goods
   $ 89,551      $ 58,401  
Raw materials
     71,092        56,441  
    
 
 
    
 
 
 
Total FIFO
(first-in,
first-out)
inventories
     160,643        114,842  
Reserve to adjust inventories to LIFO value
     (36,467      (36,467
    
 
 
    
 
 
 
Total LIFO inventories
   $ 124,176      $ 78,375  
    
 
 
    
 
 
 
The Company utilizes the LIFO method of accounting related to its Trex Residential wood-alternative decking and residential railing products, which generally provides for the matching of current costs with current revenues. However, under the LIFO method, reductions in annual inventory balances cause a portion of the Company’s cost of sales to be based on historical costs rather than current year costs (LIFO liquidation). Reductions in interim inventory balances expected to be replenished by
year-end
do not result in a LIFO liquidation. Accordingly, interim LIFO calculations are based, in part, on management’s estimates of expected
year-end
inventory levels and costs, which may differ from actual results. Since inventory levels and costs are subject to factors beyond management’s control, interim results are subject to the final
year-end
LIFO inventory valuation. There were no LIFO inventory liquidations or related impact on cost of sales in the nine months ended September 30, 2022.
Inventories valued at lower of cost (FIFO method) and net realizable value were $7.9 million at, September 30, 2022, and $5.4 million at December 31, 2021, consisting primarily of raw materials. The Company utilizes the FIFO method of accounting related to its Trex Commercial products.
 
6.
PREPAID EXPENSES AND OTHER ASSETS
Prepaid expenses and other assets consist of the following (in thousands):
 
    
September 30,

2022
    
December 31,
2021
 
Prepaid expenses
   $ 12,412      $ 15,061  
Revenues in excess of billings
     4,306        9,109  
Income tax receivable
     1,176        406  
Other
     753        576  
    
 
 
    
 
 
 
Total prepaid expenses and other assets
   $ 18,647      $ 25,152  
    
 
 
    
 
 
 
 
7

7.
GOODWILL AND OTHER INTANGIBLE ASSETS, NET
The carrying amount of goodwill at September 30, 2022, and December 31, 2021, was $14.2 million for Trex Residential. The Company’s intangible assets consist of domain names for Trex Residential. At September 30, 2022, and December 31, 2021, intangible assets were $6.3 million and accumulated amortization was $1.8 million and $1.5 million, respectively. Intangible asset amounts were determined based on the estimated economics of the asset and are amortized over the estimated useful lives on a straight-line basis over 15 years, which approximates the pattern in which the economic benefits are expected to be received. The Company evaluates the recoverability of intangible assets periodically and considers events or circumstances that may warrant revised estimates of useful lives or that may indicate an impairment. Intangible asset amortization expense for the nine months ended September 30, 2022, and September 30, 2021, was $0.3 million and $0.3 million, respectively.
 
8.
ACCRUED EXPENSES AND OTHER LIABILITIES
Accrued expenses and other liabilities consist of the following (in thousands):
 
    
September 30,

2022
    
December 31,
2021
 
Sales and marketing
   $ 43,564      $ 16,439  
Compensation and benefits
     9,075        25,450  
Operating lease liabilities
     7,596        7,066  
Manufacturing costs
     3,503        4,110  
Income taxes
     7,850            
Billings in excess of revenues
     1,213        1,436  
Other
     3,694        3,540  
    
 
 
    
 
 
 
Total accrued expenses and other liabilities
   $ 76,495      $ 58,041  
    
 
 
    
 
 
 
 
9.
DEBT
Revolving Credit Facility
Indebtedness on and after May
 18, 2022
. On May 18, 2022, the Company, as borrower; Trex Commercial Products, Inc. (TCP), as guarantor; Bank of America, N.A. (BOA), as a Lender, Administrative Agent, Swing Line Lender and L/C Issuer; Wells Fargo Bank, National Association (Wells Fargo), as lender and Syndication Agent; Regions Bank, PNC Bank, National Association, and TD Bank, N.A. (each, a Lender and collectively, the Lenders), arranged by BofA Securities, Inc. as Sole Lead Arranger and Sole Bookrunner, entered into a Credit Agreement (Credit Agreement) to amend and restate the Fourth Amended and Restated Credit Agreement dated as of November 5, 2019.
Under the Credit Agreement, the Lenders agreed to provide the Company with one or more Revolving Loans in a collective maximum principal amount of $400,000,000 (Loan Limit) throughout the term, which ends May 18, 2027 (Term). Included within the Loan Limit are sublimits for a Letter of Credit facility in an amount not to exceed $60,000,000; and Swing Line Loans in an aggregate principal amount at any time outstanding not to exceed $20,000,000. The Revolving Loans, the Letter of Credit facility and the Swing Line Loans are for the purpose of raising working capital and supporting general business operations.
The Facility provides the Company, in the aggregate, the ability to borrow an amount up to the Loan Limit during the Term. The Company is not obligated to borrow any amount under the Loan Limit. Within the Loan Limit, the Company may borrow, repay and reborrow at any time or from time to time while the Notes are in effect. Base Rate Loans (as defined in the Credit Agreement) under the Revolving Loans and the Swing Line Loans accrue interest at the Base Rate plus the Applicable Rate (as defined in the Credit Agreement) and Term SOFR Loans for the Revolving Loans accrue interest at the rate per annum equal to the sum of Term SOFR for such interest period plus the Applicable Rate (as defined in the Credit Agreement). The Base Rate for any day is a fluctuating rate per annum equal to the highest of (a) the Federal Funds Rate plus 0.50%, (b) the rate of interest in effect for such day as publicly announced from time to time by BOA as its prime rate, and (c) the Term SOFR plus 1.0% subject to certain interest rate floors. Repayment of all then outstanding principal, interest, fees and costs is due at the end of the Term.
 
8

The Company and BofA Securities, Inc. as a sustainability coordinator, are entitled to establish specified key performance indicators (KPIs) with respect to certain environmental, social and governance targets of the Company and its subsidiaries. The sustainability coordinator and the Company may amend the Credit Agreement for the purpose of incorporating the KPIs and other related provisions, unless the Lenders object to such amendment on or prior to the date that is ten business days after the date on which such amendment is posted for review by the Lenders. Based on the performance of the Company and its subsidiaries against the KPIs, certain adjustments (increase, decrease or no adjustment) to otherwise applicable pricing will be made; provided that the amount of such adjustments shall not exceed certain aggregate caps as in the definitive loan documentation.
Under the terms of the Security and Pledge Agreement, the Company and TCP, subject to certain permitted encumbrances, as collateral security for the above-stated loans and all other present and future indebtedness of the Company owing to the Lenders grants to BOA, as Administrative Agent for the Lenders, a continuing security interest in certain collateral described and defined in the Security and Pledge Agreement but excluding the Excluded Property (as defined in the Security and Pledge Agreement).
Indebtedness prior to May
 18, 2022
. On November 5, 2019, the Company entered into a Fourth Amended and Restated Credit Agreement (Fourth Amended Credit Agreement) as borrower, Trex Commercial Products, Inc., as guarantor; Bank of America, N.A. as a Lender, Administrative Agent, Swing Line Lender and L/C Issuer; and certain other lenders including Wells Fargo Bank, N.A., who is also Syndication Agent, and Truist Bank, arranged by BOA Securities, Inc., as Sole Lead Arranger and Sole Bookrunner, to amend and restate the Third Amended and Restated Credit Agreement (Third Amended Credit Agreement), dated as of January 12, 2016, as amended. The Fourth Amended Credit Agreement provides the Company with one or more Revolving Loans in a collective maximum principal amount of $250 million from January 1 through June 30 of each year and a maximum principal amount of $200 million from July 1 through December 31 of each year throughout the term, which ends November 5, 2024.
On May 26, 2020, the Company entered into a First Amendment to the Original Credit Agreement (the First Amendment) to provide for an additional $100 million line of credit through May 26, 2022. As a matter of convenience, the parties incorporated the amendments to the Original Credit Agreement made by the First Amendment into a new Fourth Amended and Restated Credit Agreement (New Credit Agreement). In the New Credit Agreement, the revolving commitments under the Original Credit Agreement are referred to as Revolving A Commitments and the new $100 million line of credit is referred to as Revolving B Commitments. In the New Credit Agreement, all of the material terms and conditions related to the original line of credit (Revolving A Commitments) remained unchanged from the Original Credit Agreement.
The Company’s revolving credit facility executed November 5, 2019, was completely replaced by the Company’s revolving credit facility executed May 18, 2022. The Company had $76 million in borrowings outstanding under its revolving credit facility and available borrowing capacity of $324 million at September 30, 2022.
Compliance with Debt Covenants and Restrictions
Pursuant to the terms of the Credit Agreement, the Company is subject to certain loan compliance covenants. The Company was in compliance with all covenants as of September 30, 2022. Failure to comply with the financial covenants could be considered a default of repayment obligations and, among other remedies, could accelerate payment of any amounts outstanding.
 
10.
LEASES
The Company leases office space, storage warehouses and certain plant equipment under various operating leases. The Company’s operating leases have remaining lease terms of less than 1 year to 7 years. Lease terms may include options to extend or terminate the lease when it is reasonably certain that the Company will exercise that option.
For the nine months ended September 30, 2022, and September 30, 2021, total operating lease expense was $6.3 million and $6.1 million, respectively. The weighted average remaining lease term at September 30, 2022 and December 31, 2021 was 5.5 years and 5.8 years, respectively. The weighted average discount rate at September 30, 2022 and December 31, 2021 was 2.19% and 2.47%, respectively.
 
9

The following table includes supplemental cash flow information for the nine months ended September 30, 2022, and September 30, 2021, and supplemental balance sheet information at September 30, 2022 and December 31, 2021 related to operating leases (in thousands):
 
    
Nine Months Ended

September 30,
 
Supplemental cash flow information
  
2022
    
2021
 
Cash paid for amounts included in the measurement of operating lease liabilities
   $ 6,532      $ 6,196  
Operating ROU assets obtained in exchange for lease liabilities
   $   7,332      $ 7,047  
 
Supplemental balance sheet information
  
September 30,

2022
    
December 31,
2021
 
Operating lease ROU assets
   $ 34,933      $ 34,571  
Operating lease liabilities:
                 
Accrued expenses and other current liabilities
   $ 7,596      $ 7,066  
Operating lease liabilities
     27,909        28,263  
    
 
 
    
 
 
 
Total operating lease liabilities
   $   35,505      $ 35,329  
    
 
 
    
 
 
 
The following table summarizes maturities of operating lease liabilities at September 30, 2022 (in thousands):
 
Maturities of operating lease liabilities
      
2022
   $ 2,147  
2023
     7,775  
2024
     6,962  
2025
     5,627  
2026
     4,977  
Thereafter
     10,158  
    
 
 
 
Total lease payments
     37,646  
Less imputed interest
     (2,141
    
 
 
 
Total operating lease liabilities
   $ 35,505  
    
 
 
 
 
11.
FINANCIAL INSTRUMENTS
The Company considers the recorded value of its financial assets and liabilities, consisting primarily of cash and cash equivalents, accounts receivable, accounts payable, accrued expenses, other current liabilities, and debt to approximate the fair value of the respective assets and liabilities on the Condensed Consolidated Balance Sheets at September 30, 2022 and December 31, 2021.
 
12.
STOCKHOLDERS’ EQUITY
Earnings Per Share
The following table sets forth the computation of basic and diluted earnings per share (in thousands, except share and per share data):
 
    
Three Months Ended

September 30,
    
Nine Months Ended

September 30,
 
    
2022
    
2021
    
2022
    
2021
 
Numerator:
                                   
Net income available to common shareholders
   $ 14,423      $ 73,795      $ 174,549      $ 183,705  
    
 
 
    
 
 
    
 
 
    
 
 
 
Denominator:
                                   
Basic weighted average shares outstanding
     110,140,496        115,344,015        112,609,684        115,455,543  
Effect of dilutive securities:
                                   
Stock appreciation rights and options
     85,396        171,514        101,967        190,680  
Restricted stock
     74,125        110,231        76,343        121,203  
    
 
 
    
 
 
    
 
 
    
 
 
 
Diluted weighted average shares outstanding
     110,300,017        115,625,760        112,787,994        115,767,426  
    
 
 
    
 
 
    
 
 
    
 
 
 
Basic earnings per share
   $ 0.13      $ 0.64      $ 1.55      $ 1.59  
    
 
 
    
 
 
    
 
 
    
 
 
 
Diluted earnings per share
   $ 0.13      $ 0.64      $ 1.55      $ 1.59  
    
 
 
    
 
 
    
 
 
    
 
 
 
 
10

Diluted earnings per share is computed using the weighted average number of shares determined for the basic earnings per share computation plus the dilutive effect of common stock equivalents using the treasury stock method. The computation of diluted earnings per share excludes the following potentially dilutive securities because the effect would be anti-dilutive:​​​​​​​
 
    
Three Months Ended
September 30,
    
Nine Months Ended
September 30,
 
    
2022
    
2021
    
2022
    
2021
 
Stock appreciation rights
     47,303        14,409        41,627        12,206  
Restricted stock
     68,008        1,844        48,552        8,308  
Stock Repurchase Program
On February 16, 2018, the Trex Board of Directors adopted a stock repurchase program of up to 11.6 million shares of its outstanding common stock (Stock Repurchase Program). As of September 30, 2022, Trex has repurchased 9.0 million shares of its outstanding common stock under the Stock Repurchase Program.
 
13.
REVENUE FROM CONTRACTS WITH CUSTOMERS
Trex Residential Products
Trex Residential principally generates revenue from the manufacture and sale of its high-performance,
low-maintenance,
eco-friendly
wood-alternative composite decking and residential railing products and accessories. Substantially all of its revenues are from contracts with customers, which are purchase orders of short-term duration of less than one year. Its customers, in turn, sell primarily to the residential market, which includes replacement, remodeling and new construction related to outdoor living products. Trex Residential satisfies its performance obligations at a point in time. The shipment of each product is a separate performance obligation as the customer is able to derive benefit from each product shipped and no performance obligation remains after shipment. Upon shipment of the product, the customer obtains control over the distinct product and Trex Residential satisfies its performance obligation. Any performance obligation that remains unsatisfied at the end of a reporting period is part of a contract that has an original expected duration of one year or less. Any variable consideration related to the unsatisfied performance obligation is allocated wholly to the unsatisfied performance obligation, is recognized when the product ships and the performance obligation is satisfied and is included in “Accrued expenses and other liabilities, Sales and marketing” in Note 8 to the Condensed Consolidated Financial Statements.
Trex Commercial Products
Trex Commercial generates revenue from the manufacture and sale of its modular and architectural railing and staging systems. All of its revenues are from fixed-price contracts with customers. Trex Commercial contracts have a single performance obligation as the promise to transfer the individual goods or services is not separately identifiable from other promises in the contract and is, therefore, not distinct. The transaction price allocated to remaining performance obligations on contracts with an original duration greater than one year was $42.5 million as of September 30, 2022. The Company will recognize this revenue as contracts are completed, which is expected to occur within the next 24 months.
For the three months and nine months ended September 30, 2022, and September 30, 2021, net sales were disaggregated in the following tables by (1) market, (2) timing of revenue recognition, and (3) type of contract. The tables also include a reconciliation of the respective disaggregated net sales with the Company’s reportable segments (in thousands).​​​​​​​
 
11

Three Months Ended September 30, 2022
  
Reportable Segment
 
    
Trex

Residential
    
Trex

Commercial
    
Total
 
Timing of Revenue Recognition and Type of Contract
                          
Products transferred at a point in time and variable consideration contracts
   $ 177,776      $ —        $ 177,776  
Products transferred over time and fixed price contracts
     —          10,696        10,696  
    
 
 
    
 
 
    
 
 
 
     $ 177,776      $ 10,696      $ 188,472  
    
 
 
    
 
 
    
 
 
 
 
Three Months Ended September 30, 2021
  
Reportable Segment
 
    
Trex
Residential
    
Trex
Commercial
    
Total
 
Timing of Revenue Recognition and Type of Contract
                          
Products transferred at a point in time and variable consideration contracts
   $ 319,207      $ —        $ 319,207  
Products transferred over time and fixed price contracts
     —          16,665        16,665  
    
 
 
    
 
 
    
 
 
 
     $ 319,207      $ 16,665      $ 335,872  
    
 
 
    
 
 
    
 
 
 
 
Nine Months Ended September 30, 2022
  
Reportable Segment
 
    
Trex
Residential
    
Trex
Commercial
    
Total
 
Timing of Revenue Recognition and Type of Contract
                          
Products transferred at a point in time and variable consideration contracts
   $ 878,892      $ —        $ 878,892  
Products transferred over time and fixed price contracts
     —          35,058        35,058  
    
 
 
    
 
 
    
 
 
 
     $ 878,892      $ 35,058      $ 913,950  
    
 
 
    
 
 
    
 
 
 
 
Nine Months Ended September 30, 2021
  
Reportable Segment
 
    
Trex
Residential
    
Trex
Commercial
    
Total
 
Timing of Revenue Recognition and Type of Contract
                          
Products transferred at a point in time and variable consideration contracts
   $ 850,909      $ —        $ 850,909  
Products transferred over time and fixed price contracts
     —          42,082        42,082  
    
 
 
    
 
 
    
 
 
 
     $ 850,909      $ 42,082      $ 892,991  
    
 
 
    
 
 
    
 
 
 
 
14.
STOCK-BASED COMPENSATION
The Company has one stock-based compensation plan, the 2014 Stock Incentive Plan (Plan), approved by Trex stockholders in April 2014. The Plan is administered by the Compensation Committee of the Trex Board of Directors. Stock-based compensation is granted to officers, directors and certain key employees in accordance with the provisions of the Plan. The Plan provides for grants of stock options, restricted stock, restricted stock units, stock appreciation rights (SARs), and unrestricted stock. The total aggregate number of shares of Trex common stock that may be issued under the Plan is 25,680,000 and as of September 30, 2022, the total number of shares available for future issuance is 11,060,097.​​​​​​​
 
12

The following table summarizes the Company’s stock-based compensation grants for the nine months ended September 30, 2022:
 
    
Stock Awards Granted
    
Weighted-Average

Grant Price

Per Share
 
Time-based restricted stock units
     56,818      $ 56.18  
Performance-based restricted stock units (a)
     72,152      $ 76.14  
Stock appreciation rights
     32,971      $ 82.01  
 
(a)
Includes 47,072 of target performance-based restricted stock unit awards granted during the nine months ended September 30, 2022, and adjustments of 8,160, 11,684, and 5,236 to grants due to the actual performance level achieved for restricted stock and restricted stock units awarded in 2021, 2020, and 2019, respectively.
The fair value of each SAR is estimated on the date of grant using a Black-Scholes option-pricing formula. For SARs issued in the nine months ended September 30, 2022, and September 30, 2021, the data and assumptions shown in the following table were used:
 
    
Nine Months Ended

September 30, 2022
   
Nine Months Ended

September 30, 2021
 
Weighted-average fair value of grants
   $ 33.9     $ 51.84  
Dividend yield
     0     0
Average risk-free interest rate
     1.9     0.6
Expected term (years)
     5       5  
Expected volatility
     44.85     58.7
The Company recognizes stock-based compensation expense ratably over the period from the grant date to the earlier of: (1) the vesting date of the award, or (2) the date the grantee is eligible to retire without forfeiting the award. For performance-based restricted stock and performance-based restricted stock units, expense is recognized ratably over the performance and vesting period of each tranche based on management’s judgment of the ultimate award that is likely to be paid out based on the achievement of the predetermined performance measures. For the employee stock purchase plan, compensation expense is recognized related to the discount on purchases. Stock-based compensation expense is included in “Selling, general and administrative expenses” in the Condensed Consolidated Statements of Comprehensive Income. The following table summarizes the Company’s stock-based compensation expense (in thousands):​​​​​​​
 
    
Three Months Ended
September 30,
    
Nine Months Ended
September 30,
 
    
2022
    
2021
    
2022
    
2021
 
Stock appreciation rights
   $ 196      $ 94      $ 547      $ 352  
Time-based restricted stock and restricted stock units
     1,012        692        2,818        2,133  
Performance-based restricted stock and restricted stock units
     (1,012      1,047        (5      3,487  
Employee stock purchase plan
     52        54        171        223  
    
 
 
    
 
 
    
 
 
    
 
 
 
Total stock-based compensation
   $ 248      $ 1,887      $ 3,531      $ 6,195  
    
 
 
    
 
 
    
 
 
    
 
 
 
Total unrecognized compensation cost related to unvested awards as of September 30, 2022, was $6.3 million. The cost of these unvested awards is being recognized over the requisite vesting period of each award.
 
15.
INCOME TAXES
The Company’s effective tax rate for the nine months ended September 30, 2022, was 24.8% and was comparable to the effective tax rate for the nine months ended September 30, 2021, of 25%, which resulted in income tax expense of $57.7 million and $61.2 million, respectively.
During the nine months ended September 30, 2022 and September 30, 2021, the Company realized $0.1 million and $2.1 million, respectively, of excess tax benefits from stock-based awards and recorded a corresponding benefit to income tax expense.
 
13

The Company analyzes its deferred tax assets each reporting period, considering all available positive and negative evidence in determining the expected realization of those deferred tax assets. As of September 30, 2022, the Company maintains a valuation allowance of $2.2 million against deferred tax assets primarily related to state tax credits it estimates will expire before they are realized.
The Company operates in multiple tax jurisdictions and, in the normal course of business, its tax returns are subject to examination by various taxing authorities. Such examinations may result in future assessments by these taxing authorities, and the Company accrues a liability when it believes that it is more likely than not that benefits of tax positions will not be realized. The Company believes that adequate provisions have been made for all tax returns subject to examination. As of September 30, 2022, for certain tax jurisdictions tax years 2017 through 2021 remain subject to examination. The Company believes that adequate provisions have been made for all tax returns subject to examination. Sales made to foreign distributors are not taxable in any foreign jurisdiction as the Company does not have a taxable presence in any foreign jurisdiction.
 
16.
SEGMENT INFORMATION
The Company operates in two reportable segments:
 
   
Trex Residential manufactures wood-alternative decking and residential railing and related products marketed under the brand name Trex
®
. Trex Residential products are sold to distributors and home centers for final resale primarily to the residential market, which includes replacement, remodeling and new construction related to outdoor living products.
 
   
Trex Commercial designs, engineers, and markets modular and architectural railing and staging systems for the commercial and multi-family market, including sports stadiums and performing arts venues. Trex Commercial products are marketed to architects, specifiers, contractors, and others doing business within the commercial and multi-family market.
The Company’s reportable segments have been determined in accordance with its internal management structure, which is organized based on residential and commercial sales activities. The Company evaluates performance of each segment primarily based on net sales and earnings before interest, income taxes, depreciation and amortization (EBITDA). The Company uses net sales to assess performance and allocate resources as this measure represents the amount of business the segment engaged in during a given period of time, is an indicator of market growth and acceptance of segment products and represents the segment’s customers’ spending habits along with the amount of product the segment sells relative to its competitors. The Company uses EBITDA to assess performance and allocate resources because it believes that EBITDA facilitates performance comparison between the segments by eliminating interest, income taxes, and depreciation and amortization charges to income. The below segment data for the three months and nine months ended September 30, 2022 and September 30, 2021 includes data for Trex Residential and Trex Commercial (in thousands):​​​​​​​
Segment Data:
 
    
Three Months Ended

September 30, 2022
    
Three Months Ended

September 30, 2021
 
    
Trex

Residential
    
Trex

Commercial
   
Total
    
Trex

Residential
    
Trex

Commercial
    
Total
 
Net sales
   $ 177,776      $ 10,696     $ 188,472      $ 319,207      $ 16,665      $ 335,872  
Net income (loss)
   $ 15,287      $ (864   $ 14,423      $ 72,603      $ 1,192      $ 73,795  
EBITDA
   $ 31,692      $ (876   $ 30,816      $ 106,135      $ 1,862      $ 107,997  
Depreciation and amortization
   $ 11,194      $ 271     $ 11,465      $ 9,643      $ 258      $ 9,901  
Income tax expense (benefit)
   $ 5,211      $ (283   $ 4,928      $ 23,899      $ 412      $ 24,311  
Capital expenditures
   $ 41,403      $ 154     $ 41,557      $ 29,554      $ 66      $ 29,620  
Total assets
   $ 802,926      $ 38,972     $ 841,898      $ 858,330      $ 95,121      $ 953,451  
Reconciliation of Net Income to EBITDA:
 
    
Three Months Ended

September 30, 2022
    
Three Months Ended

September 30, 2021
 
    
Trex

Residential
    
Trex

Commercial
    
Total
    
Trex

Residential
    
Trex

Commercial
    
Total
 
Net income (loss)
   $ 15,287      $ (864)      $ 14,423      $ 72,603      $ 1,192      $ 73,795  
Interest income, net
               —                    (10)        —          (10)  
Income tax expense (benefit)
     5,211        (283)        4,928        23,899        412        24,311  
Depreciation and amortization
     11,194        271        11,465        9,643        258        9,901  
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
 
EBITDA
   $ 31,692      $ (876)      $ 30,816      $ 106,135      $ 1,862      $ 107,997  
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
 
 
14

Segment Data:
 
    
Nine Months Ended

September 30, 2022
    
Nine Months Ended

September 30, 2021
 
    
Trex

Residential
    
Trex

Commercial
    
Total
    
Trex

Residential
    
Trex

Commercial
    
Total
 
Net sales
   $ 878,892      $ 35,058      $ 913,950      $ 850,909      $ 42,082      $ 892,991  
Net income (loss)
   $ 176,939      $ (2,390)      $ 174,549      $ 182,437      $ 1,268      $ 183,705  
EBITDA
   $ 267,725      $ (2,344)      $ 265,381      $ 268,107      $ 2,437      $ 270,544  
Depreciation and amortization
   $ 32,435      $ 835      $ 33,270      $ 24,873      $ 731      $ 25,604  
Income tax expense (benefit)
   $ 58,454      $ (789)      $ 57,665      $ 60,797      $ 438      $ 61,235  
Capital expenditures
   $ 107,937      $ 226      $ 108,163      $ 122,631      $ 1,820      $ 124,451  
Total assets
   $ 802,926      $ 38,972      $ 841,898      $ 858,330      $ 95,121      $ 953,451  
Reconciliation of Net Income to EBITDA:
 
    
Nine Months Ended

September 30, 2022
    
Nine Months Ended

September 30, 2021
 
    
Trex

Residential
    
Trex

Commercial
    
Total
    
Trex

Residential
    
Trex

Commercial
    
Total
 
Net income (loss)
   $ 176,939      $ (2,390)      $ 174,549      $ 182,437      $ 1,268      $ 183,705  
Interest income, net
     (103)        —          (103)        —          —          —    
Income tax expense (benefit)
     58,454        (789)        57,665        60,797        438        61,235  
Depreciation and amortization
     32,435        835        33,270        24,873        731        25,604  
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
 
EBITDA
   $ 267,725      $ (2,344)      $ 265,381      $ 268,107      $ 2,437      $ 270,544  
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
    
 
 
 
 
17.
SEASONALITY
The operating results for Trex Residential have historically varied from quarter to quarter. Seasonal, erratic or prolonged adverse weather conditions in certain geographic regions reduce the level of home improvement and construction activity and can shift demand for its products to a later period. As part of its normal business practice and consistent with industry practice, Trex Residential has historically offered incentive programs to its distributors and dealers to build inventory levels before the start of the prime deck-building season in order to ensure adequate availability of its product to meet anticipated seasonal consumer demand. The seasonal effects are often offset by the positive effect of the incentive programs. The operating results for Trex Commercial have not historically varied from quarter to quarter as a result of seasonality. However, they are driven by the timing of individual projects, which may vary each quarterly period.
 
18.
COMMITMENTS AND CONTINGENCIES
Product Warranty
The Company warrants that its decking and residential railing products will be free from material defects in workmanship and materials for warranty periods ranging from 10 years to 25 years, depending on the product and its use. If there is a breach of such warranties, the Company has an obligation either to replace the defective product or refund the purchase price. Depending on the product and its use, the Company also warrants its Trex Commercial products will be free of manufacturing defects for one to three years.
The Company continues to receive and settle claims for products manufactured at its Nevada facility prior to 2007 that exhibit surface flaking and maintains a warranty reserve to provide for the settlement of these claims. Estimating the warranty reserve for surface flaking claims requires management to estimate (1) the number of claims to be settled with payment and (2) the average cost to settle each claim.
To estimate the number of claims to be settled with payment, the Company utilizes actuarial techniques to quantify both the expected number of claims to be received and the percentage of those claims that will ultimately require payment (collectively, elements). Estimates for these elements are quantified using a range of assumptions derived from claim count history and the identification of factors influencing the claim counts. The cost per claim varies due to a number of factors, including the size of affected decks, the availability and type of replacement material used, the cost of production of replacement material and the method of claim settlement.
 
15

The Company monitors surface flaking claims activity each quarter for indications that its estimates require revision. Typically, a majority of surface flaking claims received in a year are received during the summer outdoor season, which spans the second and third quarters. It has been the Company’s practice to utilize the actuarial techniques discussed above during the third quarter, after a significant portion of all claims has been received for the fiscal year and variances to annual claims expectations are more meaningful.
The number of incoming claims received in the nine months ended September 30, 2022, was significantly lower than the number of claims received in the nine months ended September 30, 2021 and lower than the Company’s expectations for 2022. Average cost per claim experienced in the nine months ended September 30, 2022 was significantly higher than that experienced in the nine months ended September 30, 2021 and higher than the Company’s expectations for the current year. The elevated average cost per claim experienced in the nine months ended September 30, 2022, was primarily the result of the closure of three large claims, which were considered in the Company’s estimation of its surface flaking warranty reserve. The Company believes its reserve at September 30, 2022 is sufficient to cover future surface flaking obligations.
The Company’s analysis is based on currently known facts and a number of assumptions, as discussed above, and current expectations. Projecting future events such as the number of claims to be received, the number of claims that will require payment and the average cost of claims could cause actual warranty liabilities to be higher or lower than those projected, which could materially affect the Company’s consolidated financial condition, results of operations or cash flows. The Company estimates that the annual number of claims received will decline over time and that the average cost per claim will increase. If the level of claims received or average cost per claim differs materially from expectations, it could result in additional increases or decreases to the warranty reserve and a decrease or an increase in earnings and cash flows in future periods. The Company estimates that a 10% change in the expected number of remaining claims to be settled with payment or the expected cost to settle claims may result in approximately a $1.6 million change in the surface flaking warranty reserve.
The following is a reconciliation of the Company’s residential product warranty reserve (in thousands):
 
    
Nine Months Ended September 30, 2022
 
    
Surface

Flaking
    
Other

Residential
    
Total
 
Beginning balance, January 1
   $ 18,542      $ 10,053      $ 28,595  
Provisions and changes in estimates
     —          3,098        3,098  
Settlements made during the period
     (2,243      (1,901      (4,144
    
 
 
    
 
 
    
 
 
 
Ending balance, September 30
   $ 16,299      $ 11,250      $ 27,549  
    
 
 
    
 
 
    
 
 
 
 
    
Nine Months Ended September 30, 2021
 
    
Surface

Flaking
    
Other

Residential
    
Total
 
Beginning balance, January 1
   $ 21,325      $ 8,148      $ 29,473  
Provisions and changes in estimates
     —          3,743        3,743  
Settlements made during the period
     (2,315      (1,539      (3,854
    
 
 
    
 
 
    
 
 
 
Ending balance, September 30
   $ 19,010      $ 10,352      $ 29,362  
    
 
 
    
 
 
    
 
 
 
Legal Matters
The Company has lawsuits, as well as other claims, pending against it which are ordinary routine litigation and claims incidental to the business. Management has evaluated the merits of these lawsuits and claims and believes that their ultimate resolution will not have a material effect on the Company’s consolidated financial condition, results of operations, liquidity or competitive position.
 
16

Arkansas Facility
In October 2021, the Company announced plans to add a third U.S.-based Trex Residential manufacturing facility in Little Rock, Arkansas, that will sit on approximately 300 acres of land. The development approach for the new campus will be modular and calibrated to demand trends for Trex Residential outdoor living products. Construction began on the new facility in the second quarter of 2022, and in July 2022, the Company entered into a design-build agreement. As previously announced, the Company anticipates spending approximately $400 million on the facility and the budget for the design-build agreement is contained within this amount. Construction for the new facility will be funded primarily through the Company’s ongoing cash generation or its line of credit.
 
17

Item 2.
Management’s Discussion and Analysis of Financial Condition and Results of Operations 
The following management discussion should be read in conjunction with the Trex Company, Inc. (Trex) Annual Report on Form
10-K
for the year ended December 31, 2021 filed with the U.S. Securities and Exchange Commission (SEC) and the condensed consolidated financial statements and notes thereto included in Part I, Item 1. “Financial Statements” of this quarterly report. Trex has one wholly-owned subsidiary, Trex Commercial Products, Inc. Together, Trex and Trex Commercial Products, Inc. are referred to as the Company, we or our.
NOTE ON FORWARD-LOOKING STATEMENTS
This management’s discussion and analysis contains forward-looking statements within the meaning of Section 27A of the Securities Act of 1933 and Section 21E of the Securities Exchange Act of 1934. All statements regarding our expected financial position and operating results, our business strategy, our financing plans, forecasted demographic and economic trends relating to our industry and similar matters are forward-looking statements. These statements can sometimes be identified by our use of forward-looking words such as “may,” “will,” “anticipate,” “estimate,” “expect,” “intend” or similar expressions. We cannot promise you that our expectations in such forward-looking statements will turn out to be correct. Our actual results could be materially different from our expectations because of various factors, including the factors discussed under “Item 1A. Risk Factors” in our Annual Report on Form
10-K
for the year ended December 31, 2021 filed with the SEC. These statements are also subject to risks and uncertainties that could cause the Company’s actual operating results to differ materially. Such risks and uncertainties include, but are not limited to: the extent of market acceptance of the Company’s current and newly developed products; the costs associated with the development and launch of new products and the market acceptance of such new products; the sensitivity of the Company’s business to general economic conditions; the impact of seasonal and weather-related demand fluctuations on inventory levels in the distribution channel and sales of the Company’s products; the availability and cost of third-party transportation services for the Company’s products and raw materials; the Company’s ability to obtain raw materials, including scrap polyethylene, wood fiber, and other materials used in making our products, at acceptable prices; increasing inflation in the macro-economic environment; the Company’s ability to maintain product quality and product performance at an acceptable cost; the Company’s ability to increase throughput and capacity to adequately match supply with demand; the level of expenses associated with product replacement and consumer relations expenses related to product quality; the highly competitive markets in which the Company operates; cyber-attacks, security breaches or other security vulnerabilities; the impact of upcoming data privacy laws and the EU General Data Protection Regulation and the related actual or potential costs and consequences; material adverse impacts from global public health pandemics, including the strain of coronavirus known as
COVID-19;
and material adverse impacts related to labor shortages or increases in labor costs.
OVERVIEW
The following MD&A is intended to help the reader understand the operations and current business environment of the Company. The MD&A is provided as a supplement to, and should be read in conjunction with, our Condensed Consolidated Financial Statements and the accompanying notes thereto contained in “
Item 1. Condensed Consolidated Financial Statements
” of this report. MD&A includes the following sections:
 
   
Operations and Products
— a general description of our business, a brief overview of our reportable segments’ products, and a discussion of our operational highlights.
 
   
Highlights and Financial Performance
Quarter-to-Date
and
Year-to-Date
a summary of financial performance and highlights for the three months and nine months ended September 30, 2022, a general discussion of factors that may affect our operations, and a description of relevant financial statement line items.
 
   
Results of Operations
— an analysis of our consolidated results of operations for the three months and nine months in the period ended September 30, 2022 compared to three months and nine months in the period ended September 30, 2021, respectively.
 
   
Liquidity and Capital Resources
— an analysis of cash flows; contractual obligations, and a discussion of our capital and other cash requirements.
OPERATIONS AND PRODUCTS
The Company currently operates in two reportable segments: Trex Residential Products (Trex Residential), the Company’s principal business based on net sales, and Trex Commercial Products (Trex Commercial). Refer to Note 16,
Segments
, in the Notes to the Condensed Consolidated Financial Statements in Part I. Item 1.