Trex has been treading water for the past six months, recording a small return of 0.6% while holding steady at $44.00. The stock also fell short of the S&P 500’s 8.7% gain during that period.
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Why Do We Think Trex Will Underperform?
We don’t have much confidence in Trex. Here are three reasons why there are better opportunities than TREX, plus one stock we’d rather own.
1. Long-Term Revenue Growth Disappoints
A company’s long-term performance is an indicator of its overall quality. Any business can put up a good quarter or two, but many enduring ones grow for years. Regrettably, Trex’s sales grew at a tepid 4.9% compounded annual growth rate over the last five years. This was below our standard for the industrials sector.
2. Free Cash Flow Margin Dropping
If you’ve followed StockStory for a while, you know we emphasize free cash flow. Why, you ask? We believe that in the end, cash is king, and you can’t use accounting profits to pay the bills.
As you can see below, Trex’s margin dropped by 8 percentage points over the last five years. It may have ticked higher more recently, but shareholders are likely hoping for its margin to at least revert to its historical level. If the longer-term trend returns, it could signal increasing investment needs and capital intensity. Trex’s free cash flow margin for the trailing 12 months was 19.2%.
3. New Investments Fail to Bear Fruit as ROIC Declines
We like to invest in businesses with high returns, but the trend in a company’s ROIC can also be an early indicator of future business quality.
Over the last few years, Trex’s ROIC has unfortunately decreased significantly. We like what management has done in the past, but its declining returns are perhaps a symptom of fewer profitable growth opportunities.
Final Judgment
We cheer for all companies making their customers lives easier, but in the case of Trex, we’ll be cheering from the sidelines. With its shares underperforming the market lately, the stock trades at 25.3× forward P/E (or $44.00 per share). At this valuation, there’s a lot of good news priced in - we think there are better stocks to buy right now. We’d suggest looking at a top digital advertising platform riding the creator economy.
Stocks We Would Buy Instead of Trex
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