The AZEK Company Inc. (AZEK) Q2 2022 Earnings Call Transcript

The AZEK Company Inc. (AZEK -2.07%)
Q2 2022 Earnings Call
May 10, 2022, 11:00 a.m. ET

Contents:

• Prepared Remarks
• Questions and Answers
• Call Participants

Prepared Remarks:

Operator

Welcome to The AZEK Company's second quarter 2022 earnings call. [Operator instructions] Please be advised that today's conference is being recorded. I'd now like to hand the confere nce over to Chris Russell. Please go ahead, Chris.

Chris Russell -- Vice President, Head of Corporate Development and Investor Relations

Thank you, and good morning, everyone. We issued our earnings press release this morning to the Investor Relations portion of our website at investors.azekco.com as well as via 8-K on the SEC's website. I am joined today by Jesse Singh, our chief executive officer; and Pete Clifford, our chief financial officer. I would like to remind everyone that during this call, we may make certain statements that constitute forward-looking statements within the meaning of the Federal Securities laws, including remarks about future expectations, beliefs, estimates, forecasts, plans and prospects.

Such statements are subject to a variety of risks and uncertainties as described in our periodic reports filed with the Securities and Exchange Commission that could cause actual results to differ materially. We do not undertake any duty to update such forward-looking statements. Additionally, during today's call, we will discuss non-GAAP financial measures, which we believe can be useful in evaluating our performance. These non-GAAP measures should not be considered in isolation or as a substitute for results prepared in accordance with GAAP.

Reconciliations of such non-GAAP measures can be found in our earnings press release, which is posted to our website. At this point, I will turn the call over to AZEK CEO, Jesse Singh.

Jesse Singh -- Chief Executive Officer

Good morning, and thank you for joining today's call. The APAC team delivered record second quarter performance, highlighted by a 35% increase in net sales and a 27% increase in adjusted EBITDA over the comparable period last year. We have consistently posted strong results each quarter since our Initial Public Offering in June of 2020 and have growing momentum as a company. Since 2019, our last year as a private company, we have grown our last 12-month net sales and adjusted EBITDA by approximately 70% during an unprecedented time of labor, supply chain and raw material volatility and inflation.

While we are very proud of these results, we continue to remain focused on the future and as a team, we believe that the best is yet to come. Our performance is the result of a clear and focused strategy to revolutionize outdoor living and create a more sustainable future. I am very proud of our experienced management team and what they've been able to deliver over the last few years. We consider our management team to be the most diverse and most experienced team in the industry and a key point of differentiation.

Our announcements on the promotions of Jon Skelly to president of our residential business and Morgan Walbridge as our new chief legal officer highlight the strength and breadth of our team. Over the last 10 years, our team and our strategy have delivered an 18% net sales CAGR in our residential business and expanded adjusted EBITDA margins. As a reminder, the key elements of our strategy are: one, to deliver double-digit above-market sales growth by playing in fast-growing markets benefiting from a material conversion opportunity and by launching new products, expanding our channel, improving the customer journey and attacking adjacencies through organic development and selective M&A. Two, to expand our adjusted EBITDA margins through continuous use of price and mix to capture value.

Our third key element to our strategy to positively impact the world through our foundational commitment to ESG stewardship, a purpose-driven strategy and by our core values. Fourth, continuing to invest in our core strengths of brand, material science, U.S.-based integrated manufacturing and strong customer connections. These strengths allow us to deliver a unique value proposition to the marketplace and build a sustainable and profitable enterprise. The long-term secular trends around our business are strong and underpin our confidence to achieve our guided revenue growth long term of 8% to 12%.

Repair and remodel has been and we expect will continue to be driven by dramatic trends. These trends include the historic underbuilding of homes, rising average age of U.S. housing stock, a large millennial generation driving household formations, low inventory of homes to purchase and rising home equity levels providing strong support for repair and remodel into the future. We see the repair and remodel market contributing mid-single digits growth to our growth algorithm.

We continue to see an acceleration in material conversion from wood to our types of low-maintenance, high-performance alternative materials over time. As stated in our earlier calls, our research suggests that we are in the early innings of this shift with only approximately one quarter of the decking market converted to date. This wood conversion is an additive element to growth in all of our markets and will be an important aspect to sustain growth of the business through economic cycles. As an example, in decking, we believe that every one point of wood conversion adds an additional three to four points of growth to the overall market.

Outdoor living continues to experience increased attention and focus, and we believe the unique environment over the last couple of years has increased consumers and commercial desire for outdoor living environments. Given our breadth and capability to add new innovative solutions, we believe that we are well positioned to continue to win an increasing share of the dollars spent in this area. Our recent StruXure acquisition is a terrific example of adding additional capabilities to provide a more complete consumer solution for outdoor living spaces. We believe our company-specific strategies across the breadth of our product portfolio will drive additional above-market growth.

Collectively, we are confident the repair and remodel market, material conversion and outdoor living and AZEK-specific initiatives will drive 8% to 12% long-term growth. More specifically, this year, we continue to see incremental growth opportunity through new product development. Our Impression Rail Express product platform is a great example of this innovation. Leveraging Ultralox's differentiated time-saving technology, the platform continues to exceed expectations and deliver growth in excess of 100% year over year in Q2.

We announced the introduction of a number of new products in the second quarter, both to broaden and deepen our already strong rail product portfolio. These products include vertical cable rail Impression Rail Express and Matte Espresso in our Classic Composite Rail series. Both of these new product launches have seen strong initial orders, and we will begin shipping and selling them in the next few months. In addition to that, earlier this month, we also announced the launch of Captivate, our new line of AZEK exteriors prefinished siding and trim developed in collaboration with Russin, a premier distributor and pre-finisher of building materials in the Northeast.

The new Captivate prefinished trim and siding collection is designed to target and drive conversion away from wood and other interior materials in the northeastern market while also saving contractors time in the field and enabling increased productivity. On the recycling and ESG front, we recently announced an alliance with DTG Recycle, a recycler of construction and demolition or C&D materials based in Mill Creek, Washington. This alliance will expand AZEK's full circle PVC recycling program to include the collection of PVC-based C&D scrap, including PVC pipe and siding that traditionally would have otherwise reached landfills. The alliance is another step toward AZEK's long-term goal of diverting and utilizing 1 billion pounds of waste and scrap annually by the end of 2026.

During the quarter, we were also able to start using our capacity to increase our formulation work on lower-cost recycled materials, and we expect to see the benefits of these additional efforts in 2023. The AZEK Company has also been named the Newsweek's 2022 List of Americas Most Trusted Companies, ranking third in the construction industry. This recognition is a testament to the team's focus on our core values and unyielding dedication to and passion for our customers and our purpose-driven strategy. We also continue to make progress against our Boise factory build-out and achieved key milestones over the last few months, including shipping customer orders out of our new fulfillment center.

And in April, we started commissioning our first set of new decking manufacturing lines. We anticipate the completion of Boise factory build-out during the first half of fiscal 2023. At which time, we will have increased our capacity by approximately 100% over a 2019 baseline for our decking products. We are bringing this capacity online in an incremental manner quarter by quarter, which allows AZEK to responsibly stage capacity while we capture new growth opportunities.

As a reminder, this investment provides us with ample space to continue to cost effectively add capacity beyond this phase as needed in the future. As part of our ongoing optimization of capital allocation, we announced today that our Board of Directors has authorized a share repurchase program. While we continue to make substantial investments in growth, we believe that our model will generate additional excess cash flow that could be deployed to add additional shareholder value. The program will allow us to repurchase up to $400 million of shares.

And we expect to invest approximately $50 million in an accelerated share repurchase in the first two months of the program. Now turning to second quarter results. AZEK net sales and adjusted EBITDA increased 35% and 27%, respectively, over the same period in the prior year. Net sales in our Residential segment increased 34%, driven by strong performance across both our Deck, Rail & Accessories and Exteriors businesses.

We saw strength in Decking and Exteriors where innovative products such as our higher recycled content trim and sheet products grew significantly in Q2. These products are high in recycled content and were developed specifically to compete against non-PVC trim materials, including wood and wood composites. We benefited from our increased shelf position with the Pro channel as this channel continued to show healthy demand within the quarter, consistent with what we've seen over the last 18 months. We have benefited from incremental decking capacity coming online each quarter.

This new capacity and our already strong service in exteriors and trim has put us in a position to provide best-in-class service to our partners. The integration of our recently acquired StruXure pergola business continues to progress well with top line results growing over 90% year over year in Q2 and a healthy backlog heading into the next few quarters. While primarily a residential-focused business, StruXure's products are also sold in the commercial settings such as restaurant and hospitality, which were particularly strong in the quarter. We saw similar trends in sales to commercial and multifamily residential setting for our Ultralox railing business.

Net sales in our Commercial segment saw strong performance increasing by approximately 48% year over year, driven by a combination of strong demand and disciplined pricing actions to offset inflation. We saw continued strength in end markets, including outdoor living, marine and semiconductor. The backlog for this business remains at near-record levels. And the margin recovery continues, driven by our team's focus on productivity combined with pricing actions.

As previously guided, our adjusted EBITDA margin was impacted during the quarter by the price versus commodity lag, start-up costs and the impact of our recent acquisition of StruXure. As stated last quarter, we expect to bring the overall EBITDA margins of StruXure into the 20s in fiscal year 2023. As we turn to the outlook, let me provide some context on what we are seeing in the market in the period we are entering. Internally, we continue to monitor demand signals.

And these all continue to show positive trends with key leading indicators showing increases over an already elevated base in the prior year. While we did see a reduction in generic composite decking searches, sample orders grew high single digits year over year. And leads in Q2 were up double digits over the same period in 2021. Our dealer and contractor surveys point to continued growth expectations with extended backlogs similar to prior quarters.

These signals are consistent with what we are seeing externally across our markets. While we recognize that the macro environment has shifted over the last few months, there continue to be strong backlogs, favorable thematic trends, including strong housing values and ongoing material conversion. Third-party industry projections show sustained larger-ticket repair and remodel spend as homeowners stay in their homes longer and invest in new spaces to extend the livable space of their existing homes and make them more comfortable. In addition to addressing a lifestyle trend, outdoor living spaces are a cost-effective way to increase the livable area of a home.

Before Pete provides more detail on our outlook, I wanted to provide some context for our top line and margin guide as we enter the second half of the year. As a reminder, in the second half of fiscal year 2020, we were unable to fully meet demand and compressed our channel inventory. In the second half of 2021, as new capacity came online, we replenished our dealer and distribution inventory, leading to an improved channel inventory position as we exited 2021. As previous communicated, we will be lapping more than $60 million of this channel inventory replenishment in the second half of 2022.

And our guidance reflects that elevated year-over-year comparison. During the second quarter, we also saw an additional $40 million of annualized inflation, primarily driven by the effects of the recent conflicts in Europe, bringing the total material inflation to approximately $250 million. We have offset all of this inflation with pricing and productivity, subject to the approximate one quarter timing lag that we experienced in the channel. As the lag subsides, we expect net price to raw material to be a benefit to margins in fiscal 2023 as we see the full benefits of our actions.

With this context, I'll now turn it over to Pete, who will take you through the financials and guidance.

Pete Clifford -- Chief Financial Officer

Thanks, Jesse, and good morning, everyone. Before we get into the second-quarter results, I wanted to provide some color on the operating environment during the quarter. From a revenue perspective, as Jesse mentioned, the bulk of our demand indicators point to positive trends with construction activity in line with last year's record levels and contractor backlogs at elevated levels. In the fall, we established great shelf position at dealers heading into the building season.

We expect that our strong service levels will only strengthen as we continue to bring online incremental capacity during the second half of the year, positioning us for best-in-class service to our customers. From an operating perspective, we continue to execute in a challenging environment. We started the quarter and managed our way through 6 weeks of COVID variant disruption in the plants. As you recall, we exited last quarter with healthy commodity availability and stabilizing input cost environment.

During the second quarter, availability remained strong, but inflation picked up in the supply chain, primarily caused by the disruptions from the conflict in Europe. We will talk more about the industry-leading actions that we've taken in response to this changing environment in our outlook section later on. Finally, as we have previously communicated, we expect that our price commodity inflation relationship to be positive on a dollar basis but lagged on a rate base during the second quarter. We are excited to report that even given the supply chain challenges, we delivered the first half in line with our guided expectations.

For the second quarter of 2022, we delivered net sales growth of 35% year over year to $396.3 million with strong and broad-based growth in both our residential and commercial segments. These results are a testament to our team's ability to manage through any environment. 2Q '22 gross profit increased by $24.6 million or approximately 25% to $122.5 million. Q2 '22 gross profit margin rates decreased to 30.9% versus the prior year of 33.4%.

2Q '22 adjusted gross profit increased by $29.1 million or approximately 25% to $143.8 million, while 2Q '22 adjusted gross profit margin decreased to 36.3% compared to 39.1% in the prior year. Note in our GAAP results, we incurred $1.2 million of inventory step-up adjustment expense related to our recent acquisitions. Selling and general and administrative expenses increased by $10.7 million to $70.8 million or 17.7% of sales. Adjusted EBITDA for the quarter increased by $19.4 million or up 27.1% to $90.9 million.

Adjusted EBITDA margin for the quarter declined 150 basis points to 22.9% from 24.4% in the prior year. Note that 2Q dilution impact from acquisitions was 90 basis points and start-up costs were another 60 basis points. Net income increased by $13.2 million to $35.8 million for the quarter, compared to $22.6 million in the prior year. Earnings per share increased by $0.09 per share to $0.23 for the quarter, compared to $0.14 per share in the prior year.

Adjusted net income increased by $11.4 million to $50.8 million or $0.33 per share for the second quarter, compared to adjusted net income of $39.4 million or $0.25 per share a year ago. Now turning to our segment results. Residential segment net sales for the quarter increased by $88.2 million or approximately 34% to $350.4 million. The increase was driven by strong growth in both our exteriors and deck, rail and accessories businesses, along with $16 million in StruXure-related sales.

Residential segment adjusted EBITDA for the quarter increased by $16.7 million or approximately 20% to $98.4 million. Commercial segment net sales for the quarter increased by $15 million or approximately 48% to $45.9 million. We saw both commercial businesses grow in excess of the company's average with exceptionally strong growth in Vycom. Vycom continues to see strength in outdoor living, marine and semiconductor end markets.

Commercial segment adjusted EBITDA for the quarter increased by $5 million or approximately 134% to $8.7 million. From a balance sheet and cash flow perspective, we ended the quarter with cash and cash equivalents of $25.8 million and approximately $107.2 million available for future borrowings under our credit facility. Working capital defined as current assets minus current liabilities was $347.3 million. We ended the quarter with gross debt of $564.9 million, which included approximately $57 million of capital leases and $40 million drawn on the credit facility.

As a reminder, our fiscal 2Q is typically our seasonal high point from an AR perspective, driven by extended terms offered to customers during the winter months. We expect cash from operations to build in the following quarters. Net debt was $539.1 million. And our net leverage ratio stood at 1.8 times at the end of the second quarter.

Subsequent to quarter end, we completed the refinancing and upsizing of our Term Loan B in April 2022. Through the transaction, we refinanced our existing term loan B of $467.7 million of principal with a new $600 million term loan B. The excess proceeds plus associated fees and expenses went to our balance sheet to be utilized for general corporate purposes. Subsequent to the close of the quarter in May 2022, our board of directors authorized a share purchase program.

The program will allow us to repurchase up to 400 million in shares over an indefinite period. We expect to invest approximately $50 million in an accelerated share repurchase in the first two months of the program. And just to echo Jesse's points, our capital allocation priorities remain the same as we previously discussed. We will continue to invest in our business, both organically and inorganically.

And to the extent we have excess cash flow, we will look to repurchase shares opportunistically. Capital expenditures for the quarter were $48.7 million, largely driven by timing of cash flows related to our capacity expansion programs. Net cash used in operating activities was $36.9 million during the quarter versus net cash used in operating activities of $12.2 million during the prior year. As we turn to the outlook, let me provide some context and color on what we're seeing as we enter the quarter.

First, some comments on the top line. As we communicated on our fiscal year-end call in November and included in our original guidance, we delivered strong sales in our residential business during the second half of 2021 as we built inventory levels back up in both our dealer and distributor channels. Our second-half revenue growth rate was approximately 40% year over year in the residential segment and included strong organic growth combined with approximately $60 million of inventory replenishment during the period, which we begin lapping this third quarter. On the cost side, as I mentioned at the beginning of my remarks, commodities, which were starting to moderate in 1Q '22, began to rise in the second quarter.

As we have in the past, we led the market with pricing for inflation coverage. We took an incremental pricing action in the second quarter in the mid-single digit range that will start to benefit our results in late May to counter the cost headwinds. Similar to historical pricing actions, we will experience a 60- to 90-day lag of price realization as pricing actions work through the channel. Due to the lag, we will not offset all of the incremental inflation in the second half of 2022.

However, we believe we are well-positioned for fiscal 2023 as our pricing actions in 2022 should bring us favorable net recapture of $30 million to $40 million in 2023. Consistent with recent history, we will continue to navigate the environment going forward and will respond accordingly. Now turning to our guidance. Our updated outlook for the remainder of the fiscal year reflects the solid demand trends and indicators we monitor.

For the full year of fiscal '22, we expect consolidated net sales between $1.39 billion to $1.43 billion, reflecting a year-over-year increase of approximately 18% to 21%. This guidance implies approximately 12% growth in the second half of fiscal year 2022 at the midpoint of our guidance range while lapping $60 million of channel inventory replenishment in the second half of fiscal 2021. Turning to our adjusted EBITDA guidance. Due to the incremental inflation pressure we expect through the balance of the year, we now expect adjusted EBITDA between $316 million to $332 million, reflecting a year-over-year increase of approximately 15% to 21%.

We expect full-year adjusted EBITDA margin dilution impact from the StruXure acquisition of approximately 40 to 50 basis points and 60 to 70 basis points from our Boise start-up costs. For the third quarter of 2022, we expect consolidated net sales between $384 million to $390 million. We expect adjusted EBITDA between $78 million to $82 million. We expect Q3 adjusted EBITDA margin dilution impact from the StruXure acquisition of 50 to 60 basis points and approximately 50 basis points from our Boise start-up costs.

To assist in modeling, we continue to expect approximately $180 million to $200 million in capital expenditures for the fiscal year 2022. We now expect $26 million to $28 million of interest expense for the full year with the increase driven by term loan refinancing and associated expenses with the transaction in fiscal Q3. Our tax rate for 2022 is estimated to be approximately 25%. Our full year weighted average diluted shares count is expected to be approximately 155 million to 156 million shares.

Finally, before I turn back over to Jesse, we will host our inaugural Investor Day in New York at the New York Stock Exchange on Wednesday, June 15, 2022. We are excited to take the opportunity to talk through the AZEK strategy and highlight our long-term growth opportunity, competitive differentiation and products and brands across The AZEK Company. We will outline our strategy and growth drivers, our financial strengths, capital allocation strategy and other topics. We look forward to spending time with each of you.

I'll now turn it back to Jesse for some closing remarks.

Jesse Singh -- Chief Executive Officer

Thanks, Pete. I would like to take a moment to highlight the tremendous efforts of our dedicated team members, channel and supplier partners and contractors to support The AZEK Company. Thank you once again for your continued focus and dedication and your contribution to the results in the second quarter. As we close the call before the Q&A session, it is clear why we are excited about our company and the opportunity that we have in front of us.

We have a stated target of double-digit growth in our Residential business and an EBITDA margin expansion target of 500 basis points. We remain confident in our ability to achieve our goals. AZEK is benefiting from strong tailwinds that we believe are in the early innings of a long-term growth and value-creation opportunity. When combined with our clear strategy an AZEK specific initiation to drive incremental growth in the market, we believe that we are well positioned to win and deliver on our growth and margin improvement all while creating a more sustainable future.

With that, operator, please open the line for questions.

Questions & Answers:

Operator

[Operator instructions] Your first question comes from the line of Keith Hughes with Truist.

Keith Hughes -- Truist Securities

I guess digging into the raw material acceleration that you discussed in the prepared statements, is that heavily driven by PVC? Are there other products that you see in inflation? If you give any kind of proportionality that would be helpful.

Pete Clifford -- Chief Financial Officer

Yes. Keith, this is Peter. The way I would think about it, the bulk of it is centered around PVC, aluminum and, to some degree, polyethylene. From the conflict, we saw PVC pop about 15%.

It's now settled about 10% up from our last few guidance. And on the aluminum side, it was a pretty sharp reaction of about 30% after the conflict and it settled at about 20%.

Keith Hughes -- Truist Securities

OK. One other question within Residential. Can you break out how much of the gain of the nonacquisition gain with volume? How much was price?

Pete Clifford -- Chief Financial Officer

Yes. I think on that one, I appreciate the question, but I'm not sure that we're going to parse out necessarily every quarter our price versus volume versus mix. What I think I can say is, look, in our original kind of guide, we communicated roughly about half price and half volume. And since then, we've taken a very, very small price action in 1Q '22.

And then obviously, we announced price increase here, it's really only going to impact three or four months for the remainder of the year.

Operator

Your next question comes from the line of Tim Wojs with Baird.

Josh Chan -- Baird -- Analyst

It's Josh Chan calling in for Tim. I guess my first question is on sort of the implied margin cadence for the second half. So I guess it dips a little bit in Q3, but it seems like margins are coming back pretty strong in Q4. So is it all because of the price cost timing? And if so, I guess, could you talk to how that kind of sets you up for '23 as well?

Pete Clifford -- Chief Financial Officer

Yes. Josh, good question. So as stated, first half in line with expectations from a margin perspective. This is purely the nuance of us having basically three months of inflation without the price coverage as most of the pricing is not really coming in until June.

And so obviously, it puts us back in place to deliver expansion, both sequentially and year over year in the fourth quarter. And then obviously, I get the benefit of that price carryover into '23. We're going to be winding up basically with three months of price without any inflation in '23. So that's why we feel pretty bullish about the start to '23.

Jesse Singh -- Chief Executive Officer

Yes. I think we provided a lot of -- this is Jesse. We provided a lot of detail on the call. But I think in the numbers that Pete gave during his prepared remarks, he tried to size that a bit as $30 million to $40 million as we move into next year.

And I'd just add-on Keith's previous question is we priced at those highs, right? And obviously, anything that we see in terms of receding back, we price to cover the initial movements after the conflict.

Josh Chan -- Baird -- Analyst

That's fair. OK. And then for my follow-up, on the $60 million restock comp in the second half, could you talk to how that kind of splits between the two quarters? Is it kind of more heavily weighted to Q4? And is there some restock comp also as we look into Q1 of '23?

Pete Clifford -- Chief Financial Officer

Yes. I'll take that one, Josh. I would just say that the slant is the impact on the $60 million slants more toward the third quarter of '21 modestly than the fourth quarter. And as far as the first half of this year, look, I would characterize our first half as normal, right? The traditional cycle in the business is that 2Q is the quarter that you're preparing for the season and you're building inventory.

And I think what we would say is the inventory put in, in 2Q is in line with historical days on hand preparation for the season.

Operator

Your next question comes from the line of Michael Rehaut with J.P. Morgan.

Michael Rehaut -- J.P. Morgan -- Analyst

And congrats on the results. First question, just wanted to make sure I was thinking about the $60 million of inventory infill from the second half of '21 correctly. You're obviously guiding for roughly, I believe, 17% to 20% sales in the third quarter, which would imply at the midpoint only about 6% growth in the fourth quarter. So is the predominant amount of that $60 million from last year in the fourth quarter of '21, and if you could give a rough split of that, that would be helpful because it certainly appears that way based on the growth.

And also just bigger picture on growth, how are you thinking about some of these new products that you've detailed earlier in the call as being additive to sales, I guess, as it kicks into gear in the back half of this year and into next year?

Jesse Singh -- Chief Executive Officer

Yes. Let me start. This is Jesse, and thanks for the comments. Relative to your macro comment, first off, as we think of new products, those new products are really us planting seeds for the future.

And in certain cases, when those new products are launched in the core, like our new rail products, we would expect those products to continue to progress as we move through the season. And in other cases, for example, our move into prefinished products, that's really a progression that we'll see some benefit within this season, but it's really intended to be building platforms for the future. And then just a general comment on our guides as we look at the back half of the year. As those of you that have gotten to know us, we're being, let's call it, appropriately conservative.

As we look at revenue progress, we've clearly seen positive momentum. We continue to see strong momentum. And having said all that, we're still early in the season. And so I think as we think of our progression, we feel comfortable with our guide, and it's consistent with how we've guided in the past, taking into account all the different variables.

Michael Rehaut -- J.P. Morgan -- Analyst

OK. So before I just get my second question, again, the -- is it fair to say based on the math that most of the $60 million is kind of believed to be in the fourth quarter of last year?

Pete Clifford -- Chief Financial Officer

Yes. It was fairly balanced, the split between the quarters, again, a little bit more in the third quarter. And our prior year growth rate in 3Q for Residential was 51%, followed by 31% in the fourth quarter to give some color.

Michael Rehaut -- J.P. Morgan -- Analyst

OK. I guess just secondly, on the price/cost tailwind into '23, I believe you're talking about $30 million to $40 million. Against the revenue base that you're expecting for fiscal '22, that would represent about 250 bps of margin catch up, let's say. You're also looking at an implied margin in the fourth quarter in the high 25s and the 250 bps on the '23 midpoint would also put you in the mid-25.

So is that a good way to think about next year as we start kind of modeling in? Not asking for forward guidance on '23 yet, of course. But are there any other kind of, let's say, takes that we should be considering in terms of any types of offset against that 250 bps price cost catch up?

Pete Clifford -- Chief Financial Officer

Yes. I mean I think the way we're thinking about 2023 is put volume aside. I think the things that we can see that we can control, i.e., price carryover, the carryover impact of M&A. Regardless of what happens with volume, with recycling, we kind of control our own mark to expand margins.

So things in front of us that we can directly control, we feel really, really good about '23 as we sit here at the midpoint of the year. I don't know if you --

Jesse Singh -- Chief Executive Officer

Yes. Look, our specifically within our guide for '22, your interpretation is generally consistent. We're -- we feel pretty good about what's ahead of us. As we look to '23, as Pete mentioned, we certainly have some tailwinds as we move forward.

And we're not guiding specifically, but we feel really good about our ability to continue to execute as we work our way through the lag.

Operator

Your next question comes from the line of Matthew Bouley with Barclays.

Matthew Bouley -- Barclays -- Analyst

I wanted to ask on those leading indicators of demand that you mentioned at the top there, Jesse, that you said continued growth in some of the samples and leads and positive dealer surveys and all that. And I think I also heard you say that there was a decline in generic composite decking searches. I just wanted to understand if there's anything to read into that. How do you interpret that? And typically, how strong an indicator are those search trends in your view?

Jesse Singh -- Chief Executive Officer

Yes. So as I mentioned earlier, our focus is really on our metrics and our capability to execute what our contractors say, what our dealers say and what our own internal data says. The context is, over the last couple of years, we have had elevated activity and searches not just in our area but in a lot of parts of the housing sector. And whether or not that manifests itself to revenue, I think, remains to be seen.

So I would just -- I mean, the way we're considering it is there was heightened search interest. That doesn't always translate to volume. And in particular, we tend to play in the more premium segments. And we tend to play in the repair, the pro and repair and remodel segment.

And so based on that, we are looking at our own specific data. But it's publicly available that searches were down. So we wanted to make sure that we acknowledge that in the call. But that's how we're looking at it.

Matthew Bouley -- Barclays -- Analyst

Got it. OK. And then second, I wanted to ask on the Boise facility progress. I think you highlighted completing the buildout in the first half of '23 and that you're already commissioning new lines.

I'm just curious, number one, if anything has changed around the timing of that ramp, just given everything going on with supply chain and all that. And just secondly, kind of to what extent the second half revenue guide embeds any of the ramp of that new capacity?

Jesse Singh -- Chief Executive Officer

So let me give you a macro and I'll let Pete get a little specific. We brought Boise online, knowing that we were -- and we are bringing it online, knowing that there is a tremendous opportunity in this market in the quarters and years to come. And we have made a decision as we invested to make sure that we had ample capacity ahead of the curve to get after those growth opportunities. Our core production, in particular, in the last couple of months is really driving great performance.

And we're getting terrific output from that. So the Boise capacity is a nice additive element. And it's really at our discretion on the staging that we bring that capacity online. And so we are certainly on track.

But as our core operations continue to perform well and we're able to more than meet demand, we'll be thoughtful on how we stage the ramp-up and the start-up over the next few quarters. So I'll let Pete give specifics on the guide.

Pete Clifford -- Chief Financial Officer

Yes. No. I would just reinforce, look, we're in a good position where we can choose to either speed up the commissioning if we need it or slow it down depending upon what we see in front of us.

Operator

Your next question comes from the line of John Lovallo with UBS.

John Lovallo -- UBS -- Analyst

The first one on the Commercial recovery, much stronger than we had expected. Just hoping maybe you can give a little bit more color on the drivers by business. And then the margin improvement that we saw in the second quarter there, is that sustainable? Or is there anything sort of onetime that we should be considering there?

Jesse Singh -- Chief Executive Officer

Yes. Just at a high level, over the last, really, 18 months, we've talked about -- we experienced, as a reminder, we experienced margin compression in particular in '20 as the pandemic set in. And that had an impact on the corporate margins. And at that point, we talked about how we were taking very specific actions to make sure that, that business structurally would operate at higher margins.

And I think the team has done a terrific job of investing in specific actions, taking very aggressive steps in our operations to really optimize the margin structure of our products. And so we are excited to see that flow through, and it's really an outcome of a lot of the hard work. And you can see the leverage we get on the actions that we took as volume starts to normalize to pre-pandemic levels and continues to grow as we've also done a nice job on the commercial side, on the sales and marketing side of that business.

John Lovallo -- UBS -- Analyst

OK. That's helpful. And then second question is recognizing that your capital allocation priorities make a lot of sense over time, do you think the stock's performance creates an opportunity to maybe temporarily change and be more aggressive on the share repurchase front?

Jesse Singh -- Chief Executive Officer

Well, as we mentioned on the prepared remarks, we're really excited about our growth opportunities. We continue to invest in both capacity, acquisitions and organic development as you heard on the call. And certainly, having a buyback in place gives us an opportunity to drive shareholder value. And certainly, at this level of where our stock is trading, it presents a really nice opportunity for us to get a good return on buying back some of our own shares.

The specific pacing, I think we announced a $50 million accelerated share repurchase. Beyond that, we'll evaluate what makes sense.I'll just highlight that you didn't ask the question, but I think as you look at our working capital, we certainly see an opportunity to be more efficient there and generate more cash from working capital management as we move through the season. And of course, that will give us opportunities to deploy that cash as needed in all the areas of the capital allocation priorities that we have.

Operator

Your next question comes from the line of Ryan Merkel with William Blair.

Ryan Merkel -- William Blair -- Analyst

My first question is on price power. I'm just curious, how has pricing held up during past periods of slower demand? And then can you remind us what percent of COGS is tied to raws because I assume if raws fall at some point, you'd see a pretty nice margin lift.

Jesse Singh -- Chief Executive Officer

Yes. Look, in general, as we've looked at our Residential business, we have typically raised price and held price. Now there's always some nuances depending on the product, in particular, our Exteriors business. But in general, our philosophy has and will continue to be that we take price for the long term.

You've seen some of the lag of that. And we've done enough research that we believe we've got a tremendous value proposition in major parts of our portfolio. And that value proposition is still very much intact as we've raised price over the last 18 months. And then relative -- I know Pete can answer this in more detail.

But at a high level, I think during the IPO process, and in general, we've guided that raw material is typically 70% of our COGS in general with variable labor being about another 20%.

Ryan Merkel -- William Blair -- Analyst

Perfect. Helpful. And then my second question, I appreciate that demand indicators remain strong, and that's pretty consistent with what we're hearing from peers. My question is, do you think decking remains a priority investment for the consumer if things slow down a bit more from here? And maybe just unpack for us, I think you mentioned it's an inexpensive way to add livable space.

Just talk about why that may be important for the consumer just given the low housing supply.

Jesse Singh -- Chief Executive Officer

Yes. So let me answer the latter, and this is a little bit of back of the napkin, right? Depending on where you are in the country and, in particular, with our customer base which is affluent, you're dealing with new construction costs that might cross $1,000 a square foot. And all in, with all the bells and whistles, our types of projects might hit $100 a square foot. And once again, that's with a lot of infrastructure and a lot of build-out.

Typically, it's going to be much lower than that. And so as we look at the continued focus on outdoor living, the continued difficulty consumers have in expanding or moving into upgraded households, we think our -- the capability we have to present really unique outdoor living spaces. And with StruXure, by the way, we now have something overhead that provides protection from rain and sun. We think it's an absolute terrific value proposition.

And Ryan, you may have asked another question, and I forgot what it was.

Ryan Merkel -- William Blair -- Analyst

No. I think you answered it there. I was just wondering if you thought decking would be a priority investment. If consumers see a slowdown in their spending, where will they spend money? I think you sort of answered it with your --

Jesse Singh -- Chief Executive Officer

Yes. And the only other thing I'll add is data that we've shared in the past, there are a lot of decks beyond their useful life. NADRA has quoted that more than 50% are beyond their useful life. We've got extended housing stock and -- so as people have relocated there continues to be a need to not only upgrade and add outdoor living space, but also fix existing outdoor living spaces.

Operator

Your next question comes from the line of Susan Maklari with Goldman Sachs.

Susan Maklari -- Goldman Sachs -- Analyst

And congrats on a good quarter. My first question is, can you talk a little bit about how you're thinking of the conversion to recycled materials next year given the initiatives that you currently have underway? I think you ended last year at around 55%. How do you think about that as you look to 2023? And what will be the benefit to the margin as we move through next year?

Jesse Singh -- Chief Executive Officer

Yes. Just at a very high level, we have continued to invest in the acquisition and expansion of our recycling capability. We mentioned two calls ago that we have added that we acquired a regional recycler. That has given us the capability and raw material streams, in particular, in PVC to be able to expand our recycling across our portfolio.

The addition of capacity right now has put us in a great position to do the formulation work and the transition work where we were somewhat constrained over the last 18 months, actually the last couple of years because of capacity. And so we view that as a -- we're not guiding specifically. As we move into '23, it is absolutely a key initiative for us. It is one where management, R&D and operations are heavily focused.

And we would expect as we exit the year to continue that progress. And I think, in particular, within '23, we would continue to expect an ongoing ramp of the percentage of our raw material that comes from recycled through '23. And just as a reminder, a pound of recycle typically is going to be less than 50% of a pound of virgin material. So we view that as an additive element to '23.

And we're not going to -- at this stage, obviously, we're not guiding to '23. But we're certainly excited about the opportunity that presents.

Pete Clifford -- Chief Financial Officer

And I'd just add on, Susan, part of how we were actually able to offset the disruption in the cost pain of January and February with COVID was actually teams outperforming on the recycling execution in the second quarter.

Susan Maklari -- Goldman Sachs -- Analyst

OK. That's very helpful color. And then my follow is just, I know you've spoken a lot about the initiatives you have underway to expand your capacity. A lot of your peers are also undertaking similar sort of efforts.

Can you talk a little bit, though, to the flexibility that you have to adjust those plans should the macro change more than is expected? What could potentially you do there to sort of realign the business to a slower demand environment if needed?

Jesse Singh -- Chief Executive Officer

Yes. Well, first off, we continue to see really nice trends. And -- but to answer your question, if there were to be a slowdown, as mentioned earlier, give or take, 90% of our costs are variable in the fact -- I'm sorry, go ahead, Pete.

Pete Clifford -- Chief Financial Officer

Yes. I'm just going to say that 90% of our costs in COGS are very --

Jesse Singh -- Chief Executive Officer

I'm sorry, 90% of our cost in COGS are variable. And we certainly have modular manufacturing. So just as a reminder, the way our manufacturing is lined up and the way our capital works is we effectively have extrusion lines. And we have an ability to turn those on and off.

And with the exception of the overhead labor, the cost will go away with that. And then with respect to overhead and SG&A, we clearly have the capability to flex that as needed. I think if you look at our track record, including the quarter we went public, where in the second quarter, second calendar quarter of 2020, you saw some demand concerns and our margins actually sustained and went up during that quarter. And so we certainly have many tools at our disposal.

And then the last thing I'll say is typically in a slower demand environment, you will see raw material costs ebb also. But I just want to reiterate that we continue to be optimistic. But we also have the capability to respond, if needed, to any kind of a macro impact to our business.

Pete Clifford -- Chief Financial Officer

And, Susan, I'd just add, I mean, we also, as we've communicated before, on capex of the 5% to 7% of sales that half of that is maintenance. So obviously, in times when it's -- if it's challenged, we can actually scale back capex closer to our kind of maintenance needs.

Operator

Your next question comes from the line of Phil Ng with Jefferies.

Phil Ng -- Jefferies -- Analyst

With the new capacity you guys have brought on, are there any areas or markets you weren't able to tackle in the past and where you're seeing wins? I'm just trying to unpack some of those comments because your competitor, your largest competitor made some of her comments, so just trying to understand where some of this opportunity is for all of you guys effectively?

Jesse Singh -- Chief Executive Officer

As we mentioned on the last call, we talked about the early season negotiations that we go through with our dealers. And we feel really good about the shelf position that we exited those negotiations with. And certainly, capacity was helpful in that. And that sets us up for not only short-term revenue, but an ongoing expansion of relationships.

I would say for the leaders in the market as we bring capacity online, there's certainly opportunities in the market that were maybe filled with interior products or other areas that -- now that I can speak for us now that we have capacity online that we have an ability to service that kind of a market. As I've highlighted, we continue to see a lot of growth opportunity, not only in decking, but our adjacent products. And one thing we don't call out a lot is our decking is used, in particular, our PVC decking is used in a lot of different applications just because of its flame retardancy, and it's lightweight and its flexibility. And one small example of that, that really leverages our exterior sales force is our planning application set.

But there's certainly a lot of other opportunities that are out there. And then specific sales or customer opportunities, we're not going to chat about those specifically. And hopefully, there will be opportunity to chat about those in more detail in the future.

Phil Ng -- Jefferies -- Analyst

Got it. And then just digging on your margins, I guess longer term, the exit rate for 4Q, Pete, I believe it implies almost 26% EBITDA margins. Is that something we could build off when we look out to 2023 and due to a lot of the start-up costs? Is that largely behind you guys? And then longer term, the 500 basis points of structural margin improvement you guys have called out, how much of that have you realized? I appreciate some of that's probably masked by all the inflation you're seeing, but kind of help us unpack that margin expansion opportunity in the next few years.

Pete Clifford -- Chief Financial Officer

Yes. I still think our biggest lever as we look forward is our recycled opportunity. And that's why we're investing aggressively both organically and inorganically to not only use that as a margin expansion lever, but as we've talked about, it's our best inflation buffer as well. We still have a really active full funnel of sourcing savings and projects as we look out of the business.

And I think we're in the early days of continuous improvement on what that can bring to the bottom line. We're excited about our exit rates here this year. And as mentioned earlier on the call, I think just based upon the things that we can see in front of us that we can control the price carryover, the cost execution on recycle and other pieces of the business, we think we're really positioned well for 2023 even in any environment.

Jesse Singh -- Chief Executive Officer

Yes. Just, Phil, just on the 500 basis points, we When we went public, we implied that was give or take about a five-year horizon. And without getting specific, we've made progress against that. It has certainly been a choppy environment where some of that progress is masked.

But I would just say we feel comfortable that we have the capability to -- and confident we have the capability to execute against that within the timetable that we laid out during the IPO.

Operator

Your next question comes from the line of Mike Dahl with RBC Capital Markets.

Mike Dahl -- RBC Capital Markets -- Analyst

I had a question around what you're seeing in terms of channel inventories or senses that as capacity has come on for you and your peers, distribution has been able to restock a decent amount year to date. So a two-part question would be, what are you seeing? And then to what degree, if any, is that playing into -- I know you have a tough comp in the second half of the year. But does kind of a first half dealer restock play into your potential caution on growth rates as you go through the balance of this year?

Jesse Singh -- Chief Executive Officer

Michael, can you clarify the -- that latter question? I'm not sure it came through right.

Mike Dahl -- RBC Capital Markets -- Analyst

Sure. Sorry, Jesse. So to what extent is potentially a dealer restock in the first half, which is benefiting your first half sales, impacting your view on second half growth rates, i.e., are you -- our sense is that there's been some restock as everyone's brought capacity on among manufacturers. So it's kind of like are you seeing that benefit and as part of your more balanced view on growth over the course of the year reflecting that maybe you've already sold in ahead of sell-through.

Jesse Singh -- Chief Executive Officer

Yes. So there's always a little bit of geography, whether it's March or April or May. So there's some modest geographic movement. The way I would define the cadence of '22 so far is it's really manifested itself as a very normalized year, right? So that we went through a normal, in particular, the second quarter, a normal process of dealer stocking to position the -- our customer set for the season.

As we look at the back half of the year, I think the main element that we're looking at is just to make sure that we acknowledge that we are lapping. Third quarter last year in Residential, for example, we had 50% growth, right? So it's really important that we acknowledge that, in general, as you look at the back half, we're lapping some meaningfully high growth rates that, as we've highlighted, include inventory builds. So I would say at this stage, it's probably less about the first half of the year. It's much more about what we're lapping.

And in general, we're returning to a more normalized environment relative to channel partners and how they view their need to carry inventory. And so we're -- just the way I would phrase it as the second half is just normal with against the higher comps combined with our improved lead times and our ability to better service the market. In general, right now, inventory in the system is a very normal level.

Mike Dahl -- RBC Capital Markets -- Analyst

OK. Got it. That's helpful. And my second question is back on the price cost dynamics looking in into next year, just another clarification.

When we think about the $30 million to $40 million in tailwinds, how much of that is purely pricing at the highs versus where you see materials today and your assumption -- I guess the question is, is your assumption that material costs stay where they're at today? Is there an assumption that there is further -- that costs further recede as we get into fiscal '23? And also to the extent that you've talked about the recycling expansion initiatives, is the benefit from your shift in recycled material a part of that $30 million to $40 million net tailwind? Or would that be incremental to that?

Pete Clifford -- Chief Financial Officer

Yes. I mean I don't know that I'm going to get into a super detailed answer on '23 other than to say, look, it assumes sort of what we can see from an inflation perspective in front of us that's announced today.

Jesse Singh -- Chief Executive Officer

Yes. And then relative to recycle is, as pointed out earlier, we certainly have visibility on what we're doing and what we could do. As Pete pointed out, we're not getting specifics except to say the price raws combined with productivity, we feel really good about the opportunity ahead of us. And we generally sized it for you because it's important to understand that the lag will normalize.

Operator

Your last question today comes from the line of Alex Rygiel with B. Riley.

Alex Rygiel -- B.Riley Financial -- Analyst

Nice quarter, gentlemen. As it relates to Captivate, can you discuss where this product fits across the pricing spectrum relative to alternatives? And go into a bit more detail on your target market, R&R, new construction and so on and so forth.

Jesse Singh -- Chief Executive Officer

Yes. I appreciate the question, Alex. As we've talked about, we see wood conversion opportunity not just in decking and rail, but we see wood conversion opportunity in a lot of parts of the home. And as you consider the opportunity we have and what we're defining as exteriors, there have been gating items that have limited, at times, our ability to do wood conversion.

And I think one of those elements is really our ability to provide a prefinished color, both in trim and in some of our niche siding products that allow us to really continue to penetrate that market. And our announced alliance really sets us up to continue to drive wood conversion specifically in those areas where we think a prefinished product has been a limiting item. Relative to specific value proposition, it fits the same general price point as our trim products with the value-add that you would expect. So I'm not positioning -- or we're not going to get into the specific details relative to competition, except that it provides a terrific value proposition to get the benefits of an AZEK material, and that kind of extended use and the benefits against moisture, and it does it in a way that contractors have been asking for.

And in general our business tends to skew more repair and remodel. And we would certainly expect that that's where this would have a really nice position.

Alex Rygiel -- B.Riley Financial -- Analyst

And lastly, has the movement in rates caused you to change any plans related to capex, advertising, marketing or new product development or anything?

Jesse Singh -- Chief Executive Officer

Short answer is no. I think we're always evaluating macroeconomic variables. And the change in rates in the sectors that we play, which is predominantly repair and remodel, has not had any kind of a meaningful impact to demand. Once again, if we see the macro change, as mentioned earlier, we certainly have the capability to adjust.

But right now, we're not really seeing any impact from elevated interest rates at this point.

Operator

This concludes today's question-and-answer session. Mr. Jesse Singh, I turn the call back over to you.

Jesse Singh -- Chief Executive Officer

Great. Thanks again for the questions and your continued engagement. We look forward to seeing many of you at our Investor Day in the coming months. Thanks again, and have a great day.

Operator

[Operator signoff]

Duration: 74 minutes

Call participants:

Chris Russell -- Vice President, Head of Corporate Development and Investor Relations

Jesse Singh -- Chief Executive Officer

Pete Clifford -- Chief Financial Officer

Keith Hughes -- Truist Securities

Josh Chan -- Baird -- Analyst

Michael Rehaut -- J.P. Morgan -- Analyst

Matthew Bouley -- Barclays -- Analyst

John Lovallo -- UBS -- Analyst

Ryan Merkel -- William Blair -- Analyst

Susan Maklari -- Goldman Sachs -- Analyst

Phil Ng -- Jefferies -- Analyst

Mike Dahl -- RBC Capital Markets -- Analyst

Alex Rygiel -- B.Riley Financial -- Analyst

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