AZEK (AZEK) Fiscal Q4'23 Earnings Update
Growth sharply rebounds in FQ4'23 (calendar Q3'23)
AZEK is a maker of composite decking, siding, trim and other outdoor living products that largely serves the residential market. AZEK is benefiting from consumers converting to engineered materials that can replace the need for wood. AZEK AZEK 0.00%↑ reported better-than-expected earnings and revenue on November 28 for fiscal Q4’23 (ended September 30). Channel inventories got overheated in 2022 and sales were down for much of 2023. However, the trajectory of growth reversed to the upside in a meaningful way with sales growing nearly 28% last quarter. Margins also continued to improve and hit a record level.
For the high-level numbers, revenue of $388.8M for FQ4’23 was up 27.6% from the prior year and compares to the estimate of $368.5M (5.5% surprise). Adjusted EPS of 36 cents was up from 20 cents in FQ4’22 and was better than the consensus estimate of 29 cents (24% surprise). Another highlight was continued margin improvement with AZEK generating a record high adjusted EBITDA margin of 27.4%. The reported (unadjusted) EBITDA margin was also a quarterly record at 25.4%.
On October 11, after the quarter ended, AZEK announced that it entered into an agreement to Vycom, which made up part of the commercial segment. The deal closed on November 1 for gross proceeds of $140M (10.8X LTM EBITDA), which is expected to generate a tax bill of $22M.
AZEK management gave company-wide guidance of $1,365M (midpoint) for fiscal 2024, projecting a 5.0% organic increase compared to 2023. Vycom generated $77M in sales in 2023 and had it been flat, company-wide 2024 revenue guidance would’ve been $1,442M. I make note of that to compare against the analyst consensus estimate that was $1.43B. It appears most estimates didn’t consider the divestiture and so it appears guidance was better-than-expected, even though it looks like a miss on the surface. Adjusted EBITDA guidance of $327.5M for 2024 would make for a 24.0% margin. That would compare to 22.2% in 2022 and 21.3% in 2023. AZEK has a long-term goal of 27.5% by 2027, which is a topic I discussed in the August deep dive on AZEK that can be found here. If AZEK can continue to add 100 basis points of margin per year, they’ll be right on track for that goal.
During the fiscal FQ4’23 earnings call, CEO Jesse Singh talked about guidance, and in particular noted that it comes with a tough macro economic background. Consumers are still favoring spending on services rather than goods, and decking products are also hurt by high-interest rates. Therefore, the remodel and repair business is expected to be down in 2024. Singh said in the call:
We continue to see positive residential sell-through growth and demand indicators such as our customer surveys and digital metrics remain constructive as we begin the fiscal year 2024. While we continue to see favorable demand indicators, we acknowledge the continued macroeconomic uncertainty, mixed consumer confidence and the potential for a slower repair and remodel market.
Our fiscal year 2024 planning assumptions assume a flat to down repair and remodel market and consistent with our historical track record we would expect to outperform the market, driven by AZEK's specific initiatives, including material conversion, channel expansion, new product innovations and customer journey initiatives. We believe that our business model, combined with our margin opportunities will provide us an opportunity to continue to grow sales and EBITDA for our residential business in fiscal 2024.
During Q&A, CFO Peter Clifford broke down the make-up of guidance a bit more by saying the 5% growth in the residential business is expected to outpace the remodel and repair market (“R&R”) by 7%. 2% will come from lapping inventory destocking in 2023 and 5% is from AZEK growth initiatives. This seems like guidance is light. Management has been talking about double-digit sell-through (rate of sales growth to end consumers) for the past six months and channel inventories are normalized now. Either sell-through growth slows from the current pace to mid-single digits or AZEK easily beats the guidance. Separately, I’d like to note that sell-through growth at TREX 0.00%↑ is currently in the mid-single digits, indicating AZEK is currently outpacing them.
As for margins, which continued to increase in FQ4’24 to a record level, Clifford said in his prepared remarks:
The adjusted EBITDA margin rate for the quarter increased 600 basis points year-over-year to 27.4%. The primary driver of the year-over-year change in adjusted EBITDA was the impact of material deflation, manufacturing productivity, execution against material cost productivity initiatives and a onetime utilities reimbursement of approximately $2 million, partially offset by continued investment in marketing and branding.
Clifford added during Q&A that there’s been an opportunity to enhance margins through their recycling initiatives that call for more materials to use a higher recycled content percentage. Relative to some other composite decking companies, AZEK generates more sales through PVC decking, which has a lower recycled content percentage than traditional engineered capped composite decking and so there’s room to improve the PVC-based product.
Bottom Line: Channel inventories are stabilized, evidenced by the strong reported sales growth, and margins continued higher indicating AZEK is right where it needs to be for its recovery. AZEK sales have grown at a CAGR rate of 11.6% in the past decade and it appears the negative growth seen in 2023 is over. The market’s reception of earnings was underwhelming with AZEK shares losing about 3.5% in after-hours trading by falling close to $30.00. In the August deep dive I put together financial forecasts for AZEK and DCF that calculated a fair value estimate of ~$43.00. The forecast will only change incrementally based on new information since and the slight move lower for shares now presents a good margin of safety of ~42% upside.
Disclosure: This is not advice to buy, sell or hold any stock referenced. Do your own due diligence. I have no position in any stock mentioned in this report. Like any financial analyst, doesn’t mean I’m not biased.