BLD · Read the filing

Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

The financial and business analysis below provides information which we believe is relevant to an assessment and understanding of our financial position, results of operations, and cash flows. This financial and business analysis should be read in conjunction with the financial statements and related notes.

In this section, we generally discuss the results of our operations for the year ended December 31, 2022 compared to the year ended December 31, 2021. For a discussion of the year ended December 31, 2021 to the year ended December 31, 2020, please refer to Part II, Item 7, “Management’s Discussion and Analysis of Financial Condition and Results of Operations” in our Annual Report on Form 10-K for the year ended December 31, 2021, filed with the SEC on February 22, 2022, which discussion is hereby incorporated herein by reference.

Executive Summary

We are a leading installer and specialty distributor of insulation and related building material products to the construction industry in the United States and Canada. Demand for our products and services is driven primarily by residential and commercial/industrial construction and by industrial manufacturing activity. A number of local and national factors influence activity in each of our lines of business, including demographic trends, interest rates, employment levels, business investment, supply and demand for housing, availability of credit, foreclosure rates, consumer confidence, and general economic conditions.

The core of our business is inherently environmentally friendly. The insulation we install and distribute drives thermal efficiency, lowers energy usage, and reduces carbon emissions. We are a leader in delivering these benefits for new and existing homes and commercial/industrial facilities across the United States and Canada.

Strategy

We are a leading installer and specialty distributor of insulation for the residential and commercial/industrial end markets in the United States and Canada. We also distribute a range of other related building material products including gutters, garage doors, windows, and glass. We are committed to creating long-term value for all stakeholders – employees, customers, suppliers, and investors. Our core values include:

● Safety – We put the safety of our people first.

● Integrity – We deliver results with integrity, respect, and accountability.

● Focus – We are customer-focused, grounded in strong relationships.

● Innovation – We are continuously improving and encourage idea sharing.

● Unity – We are united as one team, valuing diversity.

● Community – We make a difference in the communities we serve.

● Empowerment – We are empowered to be our best, individually and as a team.

Our strategy is focused on growth and productivity including:

● Attracting and retaining top talent

● Leveraging technology to streamline processes;

● Acquiring strategically aligned businesses;

● Driving operational efficiencies throughout the business.

Our operating results depend heavily on residential new construction activity and, to a lesser extent, on commercial/industrial construction and industrial manufacturing activity, all of which are cyclical. We are also dependent on third-party suppliers and manufacturers providing us with an adequate supply of high-quality products.

Table of Contents

Material Trends in Our Business

We recognize that there is uncertainty around the economy as the Federal Reserve seeks to slow inflation by raising interest rates. Higher interest rates and overall inflation have led to many consumers being priced out of the housing market as evidenced by our homebuilders reporting higher cancellation rates, declining order volumes, and decreasing housing starts in the second half of 2022. The backlog of houses under construction supported our sales through the back half of 2022 and we anticipate that trend to continue into the second quarter of 2023 for single family homes and into the fourth quarter of 2023 for multi-family homes. We remain optimistic about the long-term fundamentals of the U.S. housing market and believe that when mortgage rates eventually stabilize consumer demand will rebound.

The commercial/industrial end-markets are showing mixed signals, in part due to higher interest rates. However, our bidding and order activity remains strong and we remain optimistic about the long-term fundamentals for these markets as well.

Seasonality

Sales across our end markets are typically slower during the winter months due to lower construction activity.

Results of Operations

We report our financial results in conformity with GAAP.

The following table sets forth our net sales, gross profit, operating profit, and margins, as reported in our Consolidated Statements of Operations, in thousands:

Year Ended December 31,

Cost of sales ratio 70.3 % 72.1 %

Gross profit margin 29.7 % 27.9 %

Selling, general, and administrative expense 689,555 497,970

Selling, general, and administrative expense to sales ratio 13.8 % 14.3 %

Operating profit margin 15.9 % 13.7 %

Net margin 11.1 % 9.3 %

Comparison of the Years Ended December 31, 2022 and December 31, 2021

Sales and Operations

Net sales for 2022 increased 43.7 percent, or $1.5 billion, to $5.0 billion. The increase was driven by a 24.9 percent increase in sales from acquisitions, 13.4 percent impact from higher selling prices, and a 5.4 percent increase in sales volume.

Our gross profit margins were 29.7 percent and 27.9 percent for 2022 and 2021, respectively. Gross profit margin improved primarily due to higher selling prices, higher sales volume, and productivity initiatives partially offset by an increase in cost of material.

Table of Contents

Selling, general, and administrative expenses as a percentage of sales were 13.8 percent and 14.3 percent for 2022 and 2021, respectively. Decreased selling, general, and administrative expense as a percent of sales was primarily the result of higher sales, partially offset by higher amortization of intangible assets related to purchase accounting and acquisition integration costs.

Operating margins were 15.9 percent and 13.7 percent for 2022 and 2021, respectively. The increase in operating margins related to higher selling prices, higher sales volume, and productivity initiatives, partially offset by an increase in cost of material, and higher amortization of intangible assets related to purchase accounting and acquisition integration costs.

Other Expense, Net

Other expense, net, which primarily consists of interest expense, increased $12.1 million to $55.0 million in 2022 compared with 2021. The increase is primarily related to increased average debt outstanding in 2022 and higher interest rates on our Term Loan, partially offset by increased interest income.

Income Tax Expense

Our effective tax rate decreased from 25.2 percent in 2021 to 25.1 percent in 2022. The lower 2022 rate is primarily related to a decrease in non-deductible items offset by a decrease in the benefit related to share-based compensation.

2022 and 2021 Business Segment Results

The following table sets forth our net sales and operating profit information by business segment, in thousands:

Year Ended December 31,

Net sales by business segment:

Operating profit by business segment (a):

Intercompany eliminations (39,839) (29,653)

General corporate expense, net (b) (38,018) (47,018)

Operating profit margins:

Installation 18.5 % 16.1 %

Specialty Distribution 14.3 % 13.2 %

Operating profit margin before general corporate expense 16.7 % 15.0 %

Operating profit margin 15.9 % 13.7 %

2022 and 2021 Business Segment Results Discussion

Changes in operating profit margins in the following business segment results discussion exclude general corporate expense, net in 2022 and 2021, as applicable.

Table of Contents

Installation

Sales

Sales increased $591.6 million, or 24.9 percent, in 2022 compared to 2021. Sales increased 12.2 percent due to higher selling prices, 9.2 percent from higher sales volume and 3.4 percent from acquisitions.

Operating Results

Operating margins in the Installation segment were 18.5 percent and 16.1 percent for 2022 and 2021, respectively. The increase in operating margin was driven by higher selling prices, higher sales volume, and productivity initiatives, partially offset by an increase in cost of material.

Specialty Distribution

Sales

Sales increased $991.1 million, or 77.0 percent, in 2022 compared to 2021. Sales increased 61.8 percent from acquisitions, 15.8 percent due to higher selling prices partially offset by a slight decrease in volume of 0.6 percent.

Operating Results

Operating margins in the Specialty Distribution segment were 14.3 percent and 13.2 percent for 2022 and 2021, respectively. The increase in operating margin was driven primarily by higher selling prices and productivity initiatives, partially offset by higher amortization of intangible assets related to purchase accounting.

Commitments and Contingencies

We are subject to certain claims, charges, litigation, and other proceedings in the ordinary course of our business. We believe we have adequate defenses in these matters, and we do not believe that the ultimate outcome of these matters will have a material adverse effect on us. For additional information see Item 8. Financial Statements and Supplementary Data – Note 11. Other Commitments and Contingencies.

Liquidity and Capital Resources

We have access to liquidity through our cash from operations and available borrowing capacity under our Credit Agreement, which provides for borrowing and/or standby letter of credit issuances of up to $500 million under the revolving facility. For additional information regarding our outstanding debt and borrowing capacity see Item 8. Financial Statements and Supplementary Data – Note 6. Long-Term Debt.

The following table summarizes our total liquidity, in thousands:

As of

December 31, December 31,

Less: standby letters of credit (67,689) (69,936)

Availability under revolving facility 432,311 430,064

Table of Contents

We believe that our cash flows from operations, combined with our current cash levels and available borrowing capacity, will be adequate to support our ongoing operations and known contractual obligations including funding our debt service requirements, capital expenditures, lease obligations and working capital needs for at least the next twelve months. We also have adequate liquidity to maintain off-balance sheet arrangements for short-term leases, letters of credit, and performance and license bonds. See Item 8. Financial Statements and Supplementary Data of this Annual Report for related disclosures.

Cash Flows

The following table presents a summary of our cash flows provided by (used in) operating, investing and financing activities for the periods indicated, in thousands:

Year Ended December 31,

Changes in cash and cash equivalents:

Net cash provided by operating activities $ 495,801 $ 403,025

Net cash used in investing activities (93,907) (1,322,245)

Net cash (used in) provided by financing activities (300,073) 729,007

Impact of exchange rate changes on cash (1,531) (15)

Net increase (decrease) in cash and cash equivalents $ 100,290 $ (190,228)

Net cash flows provided by operating activities increased $92.8 million for the year ended December 31, 2022, as compared to December 31, 2021. Net income was up $231.9 million, or 71.6%, compared with the prior year period, driven by the impact of our acquisitions, higher sales prices and sale volumes. That increase was largely offset by the impact of higher levels of working capital, particularly receivables and inventory.

Net cash used in investing activities was $93.9 million for the year ended December 31, 2022, primarily comprised of $76.4 million for purchases of property and equipment (primarily vehicles, equipment and computer hardware and software), as well as $20.5 million for acquisitions. Net cash used in investing activities was $1,322.2 million for the year ended December 31, 2021, primarily comprised of $1,267.1 million for acquisitions and $55.5 million for purchases of property and equipment, primarily vehicles.

Net cash used in financing activities was $300.1 million for the year ended December 31, 2022. During the year ended December 31, 2022, we used $250.0 million for the repurchase of common stock, $38.7 million for debt repayments, and $9.7 million net activity related to exercise of share-based incentive awards and stock options. Additionally, we borrowed and repaid $70 million on our Revolving Facility, all within the second quarter of 2022. Net cash provided by financing activities was $729.0 million for the year ended December 31, 2021. Cash increased by $1,218.8 million from proceeds received on Amendment No. 1 to Credit Agreement as well as the 4.125% Senior Notes issuance used to fund the acquisition of DI. These increases were partially offset by repayments of $433.1 million including $400.0 million to redeem our 5.625% Senior Notes and payments on our term loan and equipment notes as well as $15.0 million used for debt issuance costs related to Amendment No. 1 to Credit Agreement as well as the 4.125% Senior Notes issuance. Additionally, we used $35.6 million for the repurchase of common stock as well as $5.5 million net activity related to exercise of share-based incentive awards and stock options.

Critical Accounting Policies and Estimates

We prepare our Consolidated Financial Statements in conformity with GAAP. The preparation of these financial statements requires us to make estimates and assumptions that affect the reported amounts and disclosure of assets and liabilities, and any related contingencies, at the date of the financial statements, as well as the reported amounts of sales and expenses during the reporting period. Actual results could differ from those estimates.

Table of Contents

Our significant accounting policies are more fully described in Item 8. Financial Statements and Supplementary Data – Note 1. Summary of Significant Accounting Policies. However, certain of our accounting policies considered critical are those we believe are both most important to the portrayal of our financial condition and operating results and require our most difficult, subjective, or complex judgments, often as a result of the need to make estimates about the effect of matters that are inherently uncertain. Judgments and uncertainties affecting the application of those policies may result in materially different amounts being reported under different conditions or using different assumptions. We consider the following policies to be most critical in understanding the judgments that are involved in preparing our Consolidated Financial Statements.

Revenue Recognition and Receivables

We recognize revenue for our Installation segment over time as the related performance obligation is satisfied with respect to each particular order within a given customer’s contract. Progress toward complete satisfaction of the performance obligation is measured using a cost-to-cost measure of progress method. The cost input is based on the amount of material installed at that customer’s location and the associated labor costs, as compared to the total expected cost for the particular order. The total expected cost is a significant estimate in the revenue recognition process, requires judgment, and is subject to variability throughout the duration of the contract as a result of contract modifications and other circumstances impacting job completion. Generally, this results in revenue being recognized as the customer is able to receive and utilize the benefits provided by our services. Each contract contains one or more individual orders, which are based on services delivered. When material and installation services are bundled in a contract, we combine these items into one performance obligation as the overall promise is to transfer the combined item.

Revenue from our Specialty Distribution segment is recognized when title to products and risk of loss transfers to our customers. This represents the point in time when the customer is able to direct the use of and obtain substantially all the benefits from the product. The determination of when control is deemed transferred depends on the shipping terms that are agreed upon in the contract.

At time of sale, we record estimated reductions to revenue for customer programs and incentive offerings, including special pricing and other volume-based incentives based on historical experience, which is continuously adjusted. The duration of our contracts with customers is relatively short, generally less than a 90-day period, and therefore there is not a significant financing component when considering the determination of the transaction price which gets allocated to the individual performance obligations, generally based on standalone selling prices. Additionally, we consider shipping costs charged to a customer as a fulfillment cost rather than a promised service and expense as incurred. Sales taxes, when incurred, are recorded as a liability and excluded from revenue on a net basis.

We record a contract asset when we have satisfied our performance obligation prior to billing and a contract liability when a customer payment is received prior to the satisfaction of our performance obligation. The difference between the beginning and ending balances of our contract assets and liabilities primarily results from the timing of our performance and the customer’s payment.

We maintain allowances for estimated losses resulting from the inability of customers to make required payments. In addition, we monitor our customer receivable balances and the credit worthiness of our customers on an on-going basis. During downturns in our markets, declines in the financial condition and creditworthiness of customers impact the credit risk of the receivables involved and we have incurred additional bad debt expense related to customer defaults.

Business Combinations

The purchase price for business combinations is allocated to the estimated fair values of acquired tangible and intangible assets, including goodwill, and assumed liabilities, where applicable. Additionally, we recognize customer relationships, trademarks and trade names, and non-compete agreements as identifiable intangible assets, which are recorded at fair value as of the transaction date. The fair value of the customer relationships intangible assets was determined by management using the multi-period excess earnings method under the income approach. Assumptions used in determining the fair value of the customer relationships intangible asset included forecasted revenue growth

Table of Contents

rate, customer attrition rate, and discount rate. The fair value of other intangible assets is determined primarily using current industry information. Goodwill is recorded when consideration transferred exceeds the fair value of identifiable assets and liabilities. Measurement-period adjustments to assets acquired and liabilities assumed with a corresponding offset to goodwill are recorded in the period they occur, which may include up to one year from the acquisition date. Contingent consideration is recorded at fair value at the acquisition date.

Goodwill and Other Intangible Assets

We have two reporting units, which are also our operating and reporting segments: Installation and Specialty Distribution, and both contain goodwill. Our operating segments engage in business activities for which discrete financial information including long range forecasts is available, and we complete the impairment testing of goodwill at this level, as defined by accounting guidance. Assets acquired and liabilities assumed are assigned to the applicable reporting unit based on whether the acquired assets and liabilities relate to the operations of such unit and determination of its fair value. Goodwill assigned to the reporting unit is the excess of the fair value of the acquired business over the fair value of the individual assets acquired and liabilities assumed for the reporting unit.

We perform our annual impairment testing of goodwill in the fourth quarter of each year, or as events occur or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. When assessing goodwill for impairment, we have the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, wedetermine it is more likely than not that the fair value of a reporting unit is less than its carrying amount, then we recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value.If we conclude otherwise, then no further action is taken.We also have the option to bypass the qualitative assessment and only perform a quantitative assessment. For the year ended December 31, 2022, we performed a quantitative assessment.

Fair value for ourreporting units is determined using a discounted cash flow method which includes significant unobservable inputs(Level 3 inputs). We believe this methodology is comparable to what would be used by other market participants. Using the discounted cash flow method requires us to make significant estimates and assumptions, including long term projections of cash flows, market conditions, and appropriate discount rates. Our judgments are based on historical experience, current market trends, consultations with external valuation specialists and other information. While we believe that the estimates and assumptions underlying the valuation methodology are reasonable, changes to estimates and assumptions could result in different outcomes. In estimating future cash flows, we rely on internally generated long-range forecasts for sales and operating profits, and generally a one to three percent long term assumed annual growth rate of cash flows for periods after the long-range forecast. We generally develop these forecasts based upon, among other things, recent sales data for existing products, and estimated U.S. housing starts.

When necessary, an impairment loss is recognized to the extent that a reporting unit’s recorded goodwill exceeds its fair value. In the fourth quarters of 2022 and 2021, we performed an assessment on our goodwill and determined that the estimated fairvalue of each reporting unit substantially exceeded its carrying value at December 31, 2021, and therefore the goodwillwas not impaired.

We did not recognize any impairment charges for goodwill for the years ended December 31, 2022, 2021, and 2020. As of December 31, 2022, net goodwill reflected $762.0 million of accumulated impairment losses, relating primarily to impairment charges taken in 2008-2010 following the substantial decrease in U.S. housing starts after the financial crisis of 2007-2008.

Intangible assets with finite useful lives are amortized using the straight-line method over their estimated useful lives. We evaluate the remaining useful lives of amortizable identifiable intangible assets at each reporting period to determine whether events and circumstances warrant a revision to the remaining periods of amortization.

Table of Contents

Income Taxes

If, based upon all available evidence, both positive and negative, it is more likely than not (more than 50 percent likely) deferred tax assets will not be realized, a valuation allowance is recorded. Significant weight is given to positive and negative evidence that is objectively verifiable. A company’s three year cumulative loss position is significant negative evidence in considering whether deferred tax assets are realizable and the accounting guidance restricts the amount of reliance we can place on projected taxable income to support the recovery of deferred tax assets.

While we believe we have adequately assessed for our uncertain tax positions, amounts asserted by taxing authorities could vary from our assessment of uncertain tax positions. Accordingly, provisions for tax-related matters, including interest and penalties, could be recorded in income tax expense in the period revised assessments are made.

Recently Issued Accounting Pronouncements

Recently issued accounting pronouncements and their expected or actual effect on our reported results of operations are addressed in Item 8. Financial Statements and Supplementary Data – Note 1. Summary of Significant Accounting Policies.

Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Interest Rate Risk

We have a Term Loan outstanding with a principal balance of $566.3 million and a revolving facility with an aggregate borrowing capacity of $500.0 million. We also have outstanding 3.625% Senior Notes with an aggregate principal balance of $400.0 million and 4.125% Senior Notes with an aggregate principal balance of $500.0 million. The 3.625% Senior Notes and 4.125% Senior Notes bear a fixed rate of interest and therefore are excluded from the calculation below as they are not subject to fluctuations in interest rates.

On December 9, 2022, the Company entered into Amendment No. 3 to Credit Agreement. Amendment No. 3 to Credit Agreement replaces LIBOR with SOFR as the reference interest rate benchmark.

Interest payable on both the aggregate Term Loan and revolving facility is based on a variable interest rate. As a result, we are exposed to market risks related to fluctuations in interest rates on this outstanding indebtedness. As of December 31, 2022, the applicable interest rate as of such date was 5.42%. Based on our outstanding borrowings as of December 31, 2022, a 100 basis point increase in the interest rate would result in a $5.6 million increase in our annualized interest expense. There was no outstanding balance under the revolving facility as of December 31, 2022.

Table of Contents

Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

Report of Independent Registered Public Accounting Firm

To the Board of Directors and Stockholders of TopBuild Corp.

Opinions on the Financial Statements and Internal Control over Financial Reporting

We have audited the accompanying consolidated balance sheets of TopBuild Corp. and its subsidiaries (the “Company”) as of December 31, 2022 and 2021, and the related consolidated statements of operations, of comprehensive income, of changes in equity and of cash flows for each of the three years in the period ended December 31, 2022, including the related notes (collectively referred to as the “consolidated financial statements”). We also have audited the Company's internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control - Integrated Framework (2013) issued by the Committee of Sponsoring Organizations of the Treadway Commission (COSO).

In our opinion, the consolidated financial statements referred to above present fairly, in all material respects, the financial position of the Company as of December 31, 2022 and 2021, and the results of its operations and its cash flows for each of the three years in the period ended December 31, 2022 in conformity with accounting principles generally accepted in the United States of America. Also in our opinion, the Company maintained, in all material respects, effective internal control over financial reporting as of December 31, 2022, based on criteria established in Internal Control - Integrated Framework (2013) issued by the COSO.

Basis for Opinions

The Company's management is responsible for these consolidated financial statements, for maintaining effective internal control over financial reporting, and for its assessment of the effectiveness of internal control over financial reporting, included in Management’s Report on Internal Control over Financial Reporting appearing under Item 9A. Our responsibility is to express opinions on the Company’s consolidated financial statements and on the Company's internal control over financial reporting based on our audits. We are a public accounting firm registered with the Public Company Accounting Oversight Board (United States) (PCAOB) and are required to be independent with respect to the Company in accordance with the U.S. federal securities laws and the applicable rules and regulations of the Securities and Exchange Commission and the PCAOB.

We conducted our audits in accordance with the standards of the PCAOB. Those standards require that we plan and perform the audits to obtain reasonable assurance about whether the consolidated financial statements are free of material misstatement, whether due to error or fraud, and whether effective internal control over financial reporting was maintained in all material respects.

Our audits of the consolidated financial statements included performing procedures to assess the risks of material misstatement of the consolidated financial statements, whether due to error or fraud, and performing procedures that respond to those risks. Such procedures included examining, on a test basis, evidence regarding the amounts and disclosures in the consolidated financial statements. Our audits also included evaluating the accounting principles used and significant estimates made by management, as well as evaluating the overall presentation of the consolidated financial statements. Our audit of internal control over financial reporting included obtaining an understanding of internal control over financial reporting, assessing the risk that a material weakness exists, and testing and evaluating the design and operating effectiveness of internal control based on the assessed risk. Our audits also included performing such other procedures as we considered necessary in the circumstances. We believe that our audits provide a reasonable basis for our opinions.

Definition and Limitations of Internal Control over Financial Reporting

A company’s internal control over financial reporting is a process designed to provide reasonable assurance regarding the reliability of financial reporting and the preparation of financial statements for external purposes in accordance with generally accepted accounting principles. A company’s internal control over financial reporting includes those policies and procedures that (i) pertain to the maintenance of records that, in reasonable detail, accurately and fairly reflect the transactions and dispositions of the assets of the company; (ii) provide reasonable assurance that

Table of Contents

transactions are recorded as necessary to permit preparation of financial statements in accordance with generally accepted accounting principles, and that receipts and expenditures of the company are being made only in accordance with authorizations of management and directors of the company; and (iii) provide reasonable assurance regarding prevention or timely detection of unauthorized acquisition, use, or disposition of the company’s assets that could have a material effect on the financial statements.

Because of its inherent limitations, internal control over financial reporting may not prevent or detect misstatements. Also, projections of any evaluation of effectiveness to future periods are subject to the risk that controls may become inadequate because of changes in conditions, or that the degree of compliance with the policies or procedures may deteriorate.

Critical Audit Matters

The critical audit matter communicated below is a matter arising from the current period audit of the consolidated financial statements that was communicated or required to be communicated to the audit committee and that (i) relates to accounts or disclosures that are material to the consolidated financial statements and (ii) involved our especially challenging, subjective, or complex judgments. The communication of critical audit matters does not alter in any way our opinion on the consolidated financial statements, taken as a whole, and we are not, by communicating the critical audit matter below, providing a separate opinion on the critical audit matter or on the accounts or disclosures to which it relates.

Revenue Recognition-Total Expected Costs for Performance Obligations Satisfied Over Time

As described in Notes 1 and 3 to the consolidated financial statements, $2,970 million of the Company’s total revenues for the year ended December 31, 2022 was generated from the Installation segment. Revenue is recognized for the Installation segment over time as the related performance obligation is satisfied with respect to each particular order within a given customer’s contract. Progress toward complete satisfaction of the performance obligation is measured using a cost-to-cost measure of progress method. The cost input is based on the amount of material installed at that customer’s location and the associated labor costs, as compared to the total expected cost for the particular order. The total expected cost is a significant estimate in the revenue recognition process, requires judgment, and is subject to variability throughout the duration of the contract as a result of contract modifications and other circumstances impacting job completion. Revenue is recognized over time as the customer is able to receive and utilize the benefits provided.

The principal considerations for our determination that performing procedures relating to revenue recognition – total expected costs for performance obligations satisfied over time is a critical audit matter are (i) the significant judgment by management when determining the total expected costs for a customer contract and (ii) a high degree of auditor judgment and effort in performing procedures and evaluating management’s significant assumptions related to the estimated amount of material installed and the associated labor costs.

Addressing the matter involved performing procedures and evaluating audit evidence in connection with forming our overall opinion on the consolidated financial statements. These procedures included testing the effectiveness of controls relating to the revenue recognition process, including controls over the estimation of total expected costs for performance obligations satisfied over time. The procedures also included, among others (i) testing management’s process for determining the total expected costs for a sample of customer contracts and (ii) evaluating the reasonableness of significant assumptions related to the estimated amount of material to be installed and the associated labor costs used by management and considering the factors that can affect the accuracy of those estimates. Evaluating the reasonableness of significant assumptions used involved assessing management’s ability to reasonably estimate total expected costs for customer contracts by (i) performing a comparison of the originally estimated and actual costs incurred on completed contracts and (ii) evaluating the timely identification of circumstances that may warrant a modification to total expected cost, including actual costs in excess of estimates.

/s/ PricewaterhouseCoopers LLP

Tampa, Florida

February 23, 2023

We have served as the Company’s auditor since 2015.

Table of Contents

TOPBUILD CORP.

CONSOLIDATED BALANCE SHEETS

(In thousands except share amounts)

As of

December 31, December 31,

ASSETS

Current assets:

Prepaid expenses and other current assets 34,257 26,692

LIABILITIES AND EQUITY

Current liabilities:

Current portion of long-term debt 40,068 38,640

Short-term operating lease liabilities 60,880 54,591

Short-term finance lease liabilities 2,207 2,387

Long-term portion of insurance reserves 59,783 51,875

Long-term operating lease liabilities 149,943 125,339

Long-term finance lease liabilities 6,673 7,770

Commitments and contingencies

Equity:

Accumulated other comprehensive loss (21,920) (6,634)

See notes to our consolidated financial statements.

Table of Contents

TOPBUILD CORP.

CONSOLIDATED STATEMENTS OF OPERATIONS

(In thousands except share and per common share amounts)

Year Ended December 31,

Other income (expense), net:

Loss on extinguishment of debt — (13,837) (233)

Net income per common share:

Weighted average shares outstanding:

See notes to our consolidated financial statements.

Table of Contents

TOPBUILD CORP.

CONSOLIDATED STATEMENTS OF COMPREHENSIVE INCOME

(In thousands)

Year Ended December 31,

Other comprehensive loss:

Foreign currency translation adjustment (15,286) (6,634) -

See notes to our consolidated financial statements.

Table of Contents

TOPBUILD CORP.

CONSOLIDATED STATEMENTS OF CASH FLOWS

(In thousands)

Year Ended December 31,

Cash Flows Provided by (Used in) Operating Activities:

Loss on extinguishment of debt - 13,837 233

Loss (gain) on sale of property and equipment 1,833 1,356 (88)

Amortization of debt issuance costs 2,867 2,036 1,491

Loss from inventory obsolescence 6,659 2,637 2,512

Change in certain assets and liabilities:

Prepaid expenses and other current assets (9,222) 558 (460)

Cash Flows Provided by (Used in) Investing Activities:

Proceeds from sale of property and equipment 2,975 415 2,463

Cash Flows Provided by (Used in) Financing Activities:

Proceeds from issuance of long-term debt - 1,218,750 300,000

Payment of debt issuance costs - (14,965) (2,280)

Proceeds from revolving credit facility 70,000 - -

Repayment of revolving credit facility (70,000) - -

Payment of contingent consideration (1,674) (650) (928)

Impact of exchange rate changes on cash (1,531) (15) -

Supplemental disclosure of cash paid for:

Supplemental disclosure of noncash activities:

Accruals for property and equipment 141 1,060 645

See notes to our consolidated financial statements.

Table of Contents

TOPBUILD CORP.

CONSOLIDATED STATEMENTS OF CHANGES IN EQUITY

(In thousands, except share amounts)

Accumulated

Common Treasury Additional Other

Stock Stock Paid-in Retained Comprehensive

($0.01 par value) at cost Capital Earnings Income Equity

Share-based compensation - - 14,752 - - 14,752

Share-based compensation - - 11,316 - - 11,316

Share-based compensation - 12,310 - - 12,310

See notes to our consolidated financial statements.

Table of Contents

TOPBUILD CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

1. SUMMARY OF SIGNIFICANT ACCOUNTING POLICIES

Basis of Presentation. TopBuild is a Delaware corporation and trades on the NYSE under the symbol “BLD.” We report our business in two segments: Installation and Specialty Distribution. Our Installation segment primarily installs insulation and other building products. Our Specialty Distribution segment primarily sells and distributes insulation and other building products. Our segments are based on our operating units, for which financial information is regularly evaluated by our Chief Operating Decision Maker.

Financial Statement Presentation. The consolidated financial statements have been developed in conformity with GAAP. All intercompany transactions between the TopBuild entities have been eliminated.

Use of Estimates and Assumptions in the Preparation of Financial Statements. The preparation of our consolidated financial statements in conformity with GAAP requires us to make certain estimates and assumptions that affect the reported amounts of assets and liabilities, and disclosure of any contingent assets and liabilities, at the date of the financial statements, and the reported amounts of sales and expenses during the reporting period. Actual results may differ from these estimates and assumptions.

Revenue Recognition. Revenue is disaggregated between our Installation and Specialty Distribution segments. A reconciliation of disaggregated revenue by segment is included in Note 8 – Segment Information.

At time of sale, we record estimated reductions to revenue for customer programs and incentive offerings, including special pricing and other volume-based incentives based on historical experience, which is continuously adjusted. The duration of our contracts with customers is relatively short, generally less than a 90-day period, therefore there is not a significant financing component when considering the determination of the transaction price which gets allocated to the individual performance obligations, generally based on standalone selling prices. Additionally, we consider shipping costs charged to a customer as a fulfillment cost rather than a promised service and expense as incurred. Sales taxes, when incurred, are recorded as a liability and excluded from revenue on a net basis.

Table of Contents

TOPBUILD CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Business Combinations. The purchase price for business combinations is allocated to the estimated fair values of acquired tangible and intangible assets, including goodwill, and assumed liabilities, where applicable. Additionally, we recognize customer relationships, trademarks and trade names, and non-compete agreements as identifiable intangible assets, which are recorded at fair value as of the transaction date. The fair value of the customer relationships intangible assets were determined by management using the multi-period excess earnings method under the income approach. Assumptions used in determining the fair value of the customer relationships intangible asset included forecasted revenue growth rate, customer attrition rate, and discount rate. The fair value of other intangible assets is determined primarily using current industry information. Goodwill is recorded when consideration transferred exceeds the fair value of identifiable assets and liabilities. Measurement-period adjustments to assets acquired and liabilities assumed with a corresponding offset to goodwill are recorded in the period they occur, which may include up to one year from the acquisition date. Contingent consideration is recorded at fair value at the acquisition date.

Cash and Cash Equivalents. We consider our highly liquid investments with a maturity of three months or less at the time of purchase to be cash and cash equivalents.

Receivables, net. We do business with a significant number of customers, principally homebuilders and contractors. We monitor our exposure for credit losses on our customer receivable balances and the credit worthiness of our customers on an on-going basis. Expected credit losses are measured by segment using historical loss rate information adjusted for current conditions, with changes in the allowance recorded as a provision for (or reversal of) credit loss expense. Expected losses are charged against the allowance when management believes a receivable is uncollectible. During downturns in our markets, declines in the financial condition and creditworthiness of customers impact the credit risk of the receivables involved and we have incurred additional expense related to customer defaults. Receivables, net are presented net of certain allowances, including allowance for credit losses.

Inventories, net. Inventories, net consist primarily of insulation and insulation accessories, rain gutters, garage doors, fireplaces, glass and windows, shelving, and other products. We value inventory at the lower of cost or net realizable value, where cost is determined by the first in-first out cost method. Net realizable value is the estimated selling price in the ordinary course of business, less reasonably predictable cost of completion, disposal, and transportation. Inventory value is evaluated at each balance sheet date to ensure that it is carried at the lower of cost or net realizable value.

Inventory provisions are recorded to reduce inventory to the lower of cost or net realizable value for obsolete or slow moving inventory based on assumptions about future demand and marketability of products, the impact of new product introductions, inventory levels and turns, product spoilage, and specific identification of items such as product discontinuance, engineering/material changes, or regulatory-related changes. Our inventory reserve balances were $17.3 million and $11.2 million as of December 31, 2022 and 2021, respectively. As of December 31, 2022, and 2021, primarily all inventory consisted of finished goods.

Property and Equipment, net. Property and equipment, net, including significant improvements to existing facilities, are recorded at cost. Upon retirement or disposal, the cost and accumulated depreciation are removed from the accounts and any gain or loss is included in the Consolidated Statements of Operations. Maintenance and repair costs are charged against earnings as incurred. Gains and losses on the disposal of equipment are included in selling, general, and administrative expense.

We review our property and equipment as an event occurs or circumstances change that would more likely than not reduce the fair value of the property and equipment below the carrying amount. If the carrying amount is not recoverable from its undiscounted cash flows, we would recognize an impairment loss for the difference between the carrying amount and the current fair value. Further, we evaluate the remaining useful lives of property and equipment at each reporting period to determine whether events and circumstances warrant a revision to the remaining depreciation periods.

Table of Contents

TOPBUILD CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Depreciation. Depreciation expense is computed principally using the straight-line method over the estimated useful lives of the assets. Estimated useful lives are generally as follows:

Asset Class Estimated Useful Life

Buildings and land improvements 20 – 40 years

Software 3 – 6 years

Company vehicles 3 – 8 years

Equipment 6 – 10 years

Leases. At the inception of a contract, we determine whether the contract is, or contains, a lease based on the unique facts and circumstances present. Our facilities operating leases and various vehicle and equipment finance leases have lease and non-lease fixed cost components, which we account for as one single lease component in calculating the present value of minimum lease payments. Variable lease and non-lease cost components are expensed as incurred and are primarily included in cost of sales on the accompanying consolidated statement of operations.

Lease payments are recognized as an expense in the consolidated statements of operations on a straight-line basis over the lease term, including future option periods the Company reasonably expects to exercise, whereby an equal amount of rent expense is attributed to each period during the term of the lease, regardless of when actual payments are made. This generally results in rent expense in excess of cash payments during the early years of a lease and rent expense less than cash payments in later years. The difference between rent expense recognized and actual rental payments is typically represented as the spread between the ROU asset and lease liability.

We recognize a ROU asset and a lease liability at the lease commencement date. Our leases may include options to extend or terminate the lease, which will be reflected in the calculation of the lease liability and corresponding ROU asset when it is reasonably certain that we will exercise that option. We do not recognize ROU assets and lease liabilities for short-term leases that have an initial lease term of 12 months or less. We recognize the lease payments associated with short-term leases as an expense on a straight-line basis over the lease term.

The lease liability is initially measured as the present value of the unpaid lease payments as of the lease commencement date. The lease liability is discounted based on our IBR at the time of modification for an existing lease or at the time of lease commencement for new leases. Our IBR includes significant assumptions regarding our secured borrowing rates obtained on equipment note issuances and adjustments for differences in the remaining lease term, underlying assets and market conditions for companies with similar credit qualities as well as interest rate index fluctuations. The ROU asset is initially measured at cost, which comprises the initial amount of the lease liability adjusted for lease payments made at or before the lease commencement date, plus any initial direct costs incurred less any lease incentives received. The ROU asset is subsequently measured throughout the lease term as the carrying amount of the lease liability, plus initial direct costs, plus (minus) any prepaid (accrued) lease payments, less the unamortized balance of lease incentives received. Certain vehicle lease agreements have residual value guarantees at the end of the lease which require us to return the asset with a specified percentage of the original or other calculated value.

Fair Value. The fair value measurement standard defines fair value as the price that would be received to sell an asset, or paid to transfer a liability, in an orderly transaction between market participants at the measurement date (referred to as an “exit price”). A fair value hierarchy is established that prioritizes the inputs to valuation techniques used to measure fair value. The hierarchy gives the highest priority to unadjusted quoted market prices in active markets for identical assets and liabilities (Level 1 measurements) and the lowest priority to unobservable inputs (Level 3 measurements). The three levels of the fair value hierarchy are:

Level 1: Quoted prices in active markets for identical assets or liabilities.

Level 2: Observable inputs other than Level 1 prices, such as quoted market prices for similar assets or liabilities or other inputs that are observable or can be corroborated by market data.

Table of Contents

TOPBUILD CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Level 3: Unobservable inputs in which there is little or no market data, which require the reporting entity to develop its own assumptions.

Goodwill and Other Intangible Assets. We perform our annual impairment testing of goodwill in the fourth quarter of each year, or as events occur or circumstances change that would more likely than not reduce the fair value of a reporting unit below its carrying amount. We have defined our reporting units and completed the impairment testing of goodwill at the operating segment level. Our operating segments are reporting units that engage in business activities for which discrete financial information, including long-range forecasts, are available. When assessing goodwill for impairment, we have the option to first assess qualitative factors to determine whether the existence of events or circumstances leads to a determination that it is more likely than not that the fair value of a reporting unit is less than its carrying amount. If, after assessing the totality of events or circumstances, we determine it is more likely than not that the fair value of a reporting unit is less than its carrying amount, then we recognize an impairment charge for the amount by which the carrying amount exceeds the reporting unit’s fair value. If we conclude otherwise, then no further action is taken. We also have the option to bypass the qualitative assessment and only perform a quantitative assessment.

Fair value for our reporting units is determined using a discounted cash flow method, which includes significant unobservable inputs (Level 3 inputs). Using the discounted cash flow method requires us to make significant estimates and assumptions, including long term projections of cash flows, market conditions, and appropriate discount rates. Our judgments are based upon historical experience, current market trends, consultations with external valuation specialists and other information. In estimating future cash flows, we rely on internally generated long-range forecasts for sales and operating profits, including capital expenditures.

Intangible assets with finite useful lives are amortized using the straight-line method over their estimated useful lives. We evaluate the remaining useful lives of amortizable intangible assets at each reporting period to determine whether events and circumstances warrant a revision to the remaining periods of amortization. For additional information, see Note 5 – Goodwill and Other Intangibles.

Insurance Reserves. We use a combination of high deductible and matching deductible insurance programs for a number of risks including, but not limited to, workers’ compensation, general liability, vehicle, and property liabilities. Our workers’ compensation insurance is primarily a high-deductible insurance program and our primary general liability insurance is a matching deductible program. We are insured for covered claims above the deductibles and retentions on an excess basis. The liabilities represent our best estimate of our costs, using generally accepted actuarial reserving methods, of the ultimate obligations for reported claims plus those incurred but not reported claims through December 31, 2022 and 2021. The accruals are adjusted as new information develops or circumstances change that would affect the estimated liability. We also record an insurance receivable for claims that exceeded the stop loss limit included in other assets on our Consolidated Balance Sheets which offsets an equal liability included within the reserve amount recorded in other liabilities on our Consolidated Balance Sheets. At December 31, 2022 and 2021, the amount of this receivable and liability was $16.5 million and $13.2 million, respectively.

Advertising. Advertising costs are expensed as incurred. Advertising expense, net of manufacturers support, was approximately $2.9 million, $2.3 million, and $1.4 million for the years ended December 31, 2022, 2021 and 2020, respectively, and is included in selling, general, and administrative expense.

Share-based Compensation. Our share-based compensation program currently consists of RSAs and stock options. Share-based compensation expense is reported in selling, general, and administrative expense. We do not capitalize any compensation cost related to share-based compensation awards. The income tax benefits and deficiencies associated with share-based awards are reported as a component of income tax expense. Excess tax benefits and deficiencies are included in net cash provided by (used in) operating activities while shares withheld for tax-withholding are reported in financing activities under the caption “Taxes withheld and paid on employees’ equity awards” in our Consolidated Statements of Cash Flows. Award forfeitures are accounted for in the period they occur.

Table of Contents

TOPBUILD CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Restricted Share Awards

†Stock options expire no later than 10 years after the grant date.

‡Expense is reversed if award is forfeited prior to vesting.

Debt Issuance Costs. Debt issuance costs are amortized as interest expense over the life of the respective debt, which approximates the effective interest rate method. Unamortized debt issuance costs are presented as a direct deduction from the related debt on our Consolidated Balance Sheets.

Income Taxes. We account for income taxes using the asset and liability method, which requires recognition of deferred tax assets and liabilities for expected future tax consequences of temporary differences that currently exist between tax basis and financial reporting basis of our assets and liabilities. Deferred tax assets and liabilities are measured using enacted tax rates in the respective jurisdictions in which we operate.

Valuation allowances are established against deferred tax assets when it is more likely than not that the realization of those deferred tax assets will not occur. In evaluating our ability to recover our deferred tax assets within the jurisdiction from which they arise, we consider all available positive and negative evidence. If, based upon all available evidence, both positive and negative, it is more likely than not (more than 50 percent likely) such deferred tax assets will not be realized, a valuation allowance is recorded. Significant weight is given to positive and negative evidence that is objectively verifiable.

Only those income tax positions that have a greater than 50 percent likelihood of being sustained upon examination by taxing authorities are recognized. There is an increased potential for volatility in our effective tax rate because of future changes in the income tax environment and the inherent complexities of income tax law in the various jurisdictions. Accordingly, provisions for tax-related matters, including interest and penalties, could be recorded in income tax expense in the period revised assessments are made.

Foreign Currency. Foreign currency assets and liabilities are translated into United States dollars using the exchange rates in effect at the end of each reporting period. Equity accounts are translated at historical rates, except for the change in retained earnings during the year, which is the result of the income statement translation process. Revenue and expense accounts are translated using the weighted average exchange rate during the period. The cumulative translation adjustments associated with the net assets of foreign subsidiaries are recorded in accumulated other comprehensive loss on our Consolidated Statement of Stockholders’ Equity. Net foreign currency transaction gains and losses arising during the normal course of business are included in Other, net on our Consolidated Statement of Operations.

Table of Contents

TOPBUILD CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

Recently Adopted Accounting Pronouncements

Credit Losses. In June 2016, the FASB issued ASU 2016-13, “Financial Instruments – Credit Losses (Topic 326), Measurement of Credit Losses on Financial Instruments,”, which replaces the current incurred loss methodology with an expected loss methodology, referred to as the current expected credit loss (CECL) methodology. We adopted Topic 326 on January 1, 2020, using the modified retrospective method, which resulted in a $3.2 million cumulative-effect adjustment recorded through retained earnings at the beginning of 2020.

Contract Assets and Liabilities. In October 2021, the FASB issued ASU 2021-08, “Accounting for Contract Assets and Contract Liabilities from Contracts with Customers”. This standard improves the accounting for acquired revenue contracts with customers in a business combination by addressing diversity in practice and inconsistency related to recognition of an acquired contract liability, as well as payment terms and their effect on subsequent revenue recognized by the acquirer. This standard became effective for us beginning January 1, 2023, and did not have a material impact to our financial statements upon adoption.

2. LEASES

We lease various assets to support our business including warehouses for our installation branch locations and specialty distribution centers, office space for our Branch Support Center in Daytona Beach, Florida and other administrative locations, as well as fleet vehicles and certain equipment. In addition, we lease certain operating facilities from related parties, primarily former owners (and in certain cases, current management personnel) of companies acquired. These related party leases are immaterial to our consolidated statements of operations.

The following table presents lease-related assets and liabilities and their classification on our Consolidated Balance Sheets, in thousands:

As of

December 31, December 31,

Assets Classification

Finance Property and equipment, net 6,647 9,743

Liabilities

Current

Operating Short-term operating lease liabilities $ 60,880 $ 54,591

Finance Short-term finance lease liabilities 2,207 2,387

Non-Current

Operating Long-term operating lease liabilities 149,943 125,339

Finance Long-term finance lease liabilities 6,673 7,770

Weighted-average remaining lease term:

Operating leases 4.2 years 4.1 years

Finance leases 3.8 years 4.4 years

Weighted-average discount rate:

Operating leases 3.2 % 3.1 %

Finance leases 2.9 % 2.9 %

Table of Contents

TOPBUILD CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

The components of lease expense were as follows and are primarily included in cost of sales and in selling, general and administrative expenses on the accompanying consolidated statement of operations for finance leases and operating leases, in thousands:

Year Ended December 31,

Financing lease cost:

Amortization of leased assets 2,815 673 -

Interest on finance lease obligations 268 24 -

Future minimum lease payments under non-cancellable operating leases as of December 31, 2022, were as follows, in thousands:

Payments due by Period

Total future minimum lease payments 243,435

Less: imputed interest (23,732)

The amounts below are included in the cash flows provided by operating activities section on the accompanying consolidated statement of cash flows, in thousands:

Year Ended December 31,

Operating cash flows from finance leases $ (268) $ (74) $ -

Financing cash flows from finance leases (2,361) (562) -

Table of Contents

TOPBUILD CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

3. REVENUE RECOGNITION

Revenue is disaggregated between our Installation and Specialty Distribution segments and further based on market and product, as we believe this best depicts how the nature, amount, timing, and uncertainty of revenue and cash flows are affected by economic factors. The following tables present our revenues disaggregated by market (in thousands):

Year Ended December 31, 2022

Installation Specialty Distribution Eliminations Total

Year Ended December 31, 2021

Installation Specialty Distribution Eliminations Total

Year Ended December 31, 2020

Installation Specialty Distribution Eliminations Total

The following tables present our revenues disaggregated by product (in thousands):

Year Ended December 31, 2022

Installation Specialty Distribution Eliminations Total

Year Ended December 31, 2021

Installation Specialty Distribution Eliminations Total

Table of Contents

TOPBUILD CORP.

NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

BLD US Equity

BLD · 10-K · period ended 2022-12-31

Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

BLD US Equity☆

BLD · 10-K · period ended 2022-12-31

Item 7. MANAGEMENT’S DISCUSSION AND ANALYSIS OF FINANCIAL CONDITION AND RESULTS OF OPERATIONS

Item 7A. QUANTITATIVE AND QUALITATIVE DISCLOSURES ABOUT MARKET RISK

Item 8. FINANCIAL STATEMENTS AND SUPPLEMENTARY DATA

BLD US Equity