Is Trex Company, Inc. (NYSE:TREX) Spending Too Much Money?
If you are currently a shareholder in Trex Company, Inc. (NYSE:TREX), or considering investing in the stock, you need to examine how the business generates cash, and how it is reinvested. This difference directly flows down to how much the stock is worth. Operating in the industry, TREX is currently valued at US$3.5b. I will take you through TREX’s cash flow health and the risk-return concept based on the stock’s cash flow yield, using the most recent financial data. This will help you think about the company from a cash perspective, which is a crucial factor to investing.
See our latest analysis for Trex Company
What is Trex Company’s cash yield?
Trex Company generates cash through its day-to-day business, which needs to be reinvested into the company in order for it to continue operating. What remains after this expenditure, is known as its free cash flow, or FCF, for short.
There are two methods I will use to evaluate the quality of Trex Company’s FCF: firstly, I will measure its FCF yield relative to the market index yield; secondly, I will examine whether its operating cash flow will continue to grow into the future, which will give us a sense of sustainability.
Free Cash Flow = Operating Cash Flows – Net Capital Expenditure
Free Cash Flow Yield = Free Cash Flow / Enterprise Value
where Enterprise Value = Market Capitalisation + Net Debt
Trex Company’s yield of 2.4% indicates its sub-standard capacity to generate cash, compared to the stock market index as a whole, accounting for the size differential. This means investors are taking on more concentrated risk on Trex Company but are not being adequately rewarded for doing so.
What’s the cash flow outlook for Trex Company?
Can TREX improve its operating cash production in the future? Let’s take a quick look at the cash flow trend the company is expected to deliver over time. Over the next few years, the company is expected to grow its cash from operations at a double-digit rate of 46%, ramping up from its current levels of US$124m to US$181m in two years’ time. Although this seems impressive, breaking down into year-on-year growth rates, TREX’s operating cash flow growth is expected to decline from a rate of 30% next year, to 12% in the following year. But the overall future outlook seems buoyant if TREX can maintain its levels of capital expenditure as well.
Next Steps:
Low free cash flow yield means you are not currently well-compensated for the risk you’re taking on by holding onto Trex Company relative to a well-diversified market index. However, the high growth in operating cash flow may change the tides in the future. Keep in mind that cash is only one aspect of investment analysis and there are other important fundamentals to assess. I recommend you continue to research Trex Company to get a more holistic view of the company by looking at:
Valuation: What is TREX worth today? Is the stock undervalued, even when its growth outlook is factored into its intrinsic value? The intrinsic value infographic in our free research report helps visualize whether TREX is currently mispriced by the market.
Management Team: An experienced management team on the helm increases our confidence in the business – take a look at who sits on Trex Company’s board and the CEO’s back ground.
Other High-Performing Stocks: If you believe you should cushion your portfolio with something less risky, scroll through our free list of these great stocks here.
To help readers see past the short term volatility of the financial market, we aim to bring you a long-term focused research analysis purely driven by fundamental data. Note that our analysis does not factor in the latest price-sensitive company announcements.
The author is an independent contributor and at the time of publication had no position in the stocks mentioned. For errors that warrant correction please contact the editor at editorial-team@simplywallst.com.
