Turtle Beach Corporation

Good day, ladies and gentlemen. Thank you for standing by. Welcome to the Turtle Beach Corporation Third Quarter 2024 Conference Call. At this time, all participants are in a listen-only mode. A question-and-answer session will follow the prepared remarks presentation. As a reminder, the conference is being recorded. I will now turn the call over to Chuck Corneille from the Investor Relations Team. Chuck, you may begin.

Thanks, Operator. On today's call, we'll be referring to the press release file this afternoon that details the company's third quarter 2024 results. This press release is available on the press releases page of the company's investor relations website at turtlebeach.com, where you'll also find the latest earnings presentation that supplements the information discussed on today's call. Finally, a recording of the call will be available on the events and presentation section of the company's investor relations website later today. Please be aware that some of the comments made during this call may include forward-looking statements within the meaning of the federal securities laws, statements about the company's beliefs and expectations containing words such as may, will, could, believe, expect, anticipate, and similar expressions constitute forward-looking statements. These statements involve risks and uncertainties regarding the company's operations and future results that could cause Turtle Beach Corporation's results to differ materially from management's current expectations. While the company believes that its expectations are based upon reasonable assumptions, numerous factors may affect actual results and may cause results to differ materially So the company encourages you to review the safe harbor statements and risk factors contained in today's press release and in its filings with the Securities and Exchange Commission, including without limitation its annual report on Form 10-K and other periodic reports which identify specific risk factors that also may cause actual results or events to differ materially from those described in our forward-looking statements. The company does not undertake or publicly update or revise any forward-looking statements after this conference call. The company also notes that on its call it will be discussing non-GAAP financial information. The company is providing that information as a supplement to information prepared in accordance with accounting principles generally accepted in the United States or GAAP. You can find a reconciliation of these metrics to the company's reported GAAP results and the reconciliation tables provided in today's earnings release and presentation. Hosting the call today are Chris Kern, Chief Executive Officer, and John Hanson, Chief Financial Officer. And with that, I'll turn the call over to Chris.

Thanks, Jacques. Good afternoon, everyone, and welcome to our third quarter 2024 earnings call. We're delighted to report another strong quarter highlighted the continued popularity of the Turtle Beach brand. sustained momentum in gaming accessories and the tremendous progress towards the integration of PDP which is running ahead of schedule. Our strategic acquisition of PDP has significantly broadened our reach and further elevated our presence across several categories especially in controllers which I'll speak about more shortly. Further, Turtle Beach's brand reach and strong reputation for quality gaming accessories continues to gain fans And just last month was named in Times World's Best Brands of 2024 feature as a top five consumer electronics brand in the gaming hardware and peripherals category. This quarter, we experienced robust revenue growth driven by increased demand for our leading gaming accessories and the benefits of our expanded portfolio. We're in the early stages of realizing the advantages of our increased scale and diversification which are strengthening our leadership across categories. Our unwavering commitment to innovation, top tier execution, and continuous growth continues to set Turtle Beach apart as a leader in the gaming accessories market. For the third quarter, Turtle Beach revenue was 94.4 million, up 60% compared to the same quarter last year. Excluding PDP contributions, Revenues were up 15% compared to last year. Our growth continues to be driven by the ongoing success of our portfolio and strong sales of our latest groundbreaking products, like the Stealth 700 Gen 3 wireless headset, a premium multi-platform headset using our unique cross-play technology. Games industry site Game Rant noted in their review that the Stealth 700, quote, is definitely one of the best gaming headsets on the market right now, and a multi-platform gamer's dream. Thanks to our recent launches, we achieved sales this quarter with lower promotional spend, significantly boosting our profitability. Additionally, our strong revenue results reflect earlier than anticipated retail load-ins ahead of the holidays, as we saw activity during the quarter which was designed to mitigate the potential impact from the port strike. Considering these accelerated load-ins, our full year revenue guidance remains unchanged. Our adjusted EBITDA for the quarter was $16.3 million, a substantial improvement compared to the $1 million in the same period last year. We are pleased to see that the year-to-date growth of 7% for U.S. gaming accessories continues to outpace the overall gaming market, which has been roughly flat. Our gaming headsets revenue share increased 108 basis points in Q3 compared to the previous quarter following the launch of our new wireless headsets. Additional share gains are anticipated during the upcoming holidays following the mid Q3 launch of our new Stealth 700-3 premium wireless headset. In the controllers and game pads category, Turtle Beach revenue growth continued to significantly outpace the market with a 37.9% retail sales increase year-to-date compared to the U.S. controller market's growth of nearly 3%. Notably, our Victrix Pro BFG controller and Turtle Beach Stealth Ultra were the second and third best-selling third-party gamepads year-to-date. Our Riffmaster wireless guitar controllers, perfect for Fortnite Festival, continue dominating the music controller category with 97% share in the U.S. On the expense side, we continue to enhance our operational efficiencies, resulting in substantial profitability gains. Our gross margin of 36.2% for the third quarter expanded by 630 basis points year-over-year as a result of our focused cost optimization initiatives and the ongoing successful integration of PDP. We've seen reduced promotional spending following our recent new product launches which we expect to increase somewhat to normal holiday levels in Q4. It's worth noting that gross margin for the quarter would have been 38.3%, excluding Rocket brand transition reserves and PDP purchase accounting charges, neither of which are expected to continue moving forward. Our integration of PDP is progressing very well ahead of schedule and continues to drive value. We now anticipate achieving total annual synergies exceeding 13 million, surpassing our original estimate of 10 to 12 million. The expanded market opportunities from our newly combined product portfolio are exciting, and we foresee a long-term runway for growth. Beyond the acquisition cost synergies, we anticipate that there are long-term revenue synergies due to our enhanced product lineups and strong customer relationships. Furthermore, we continue to drive margin expansion through our previously communicated initiatives, including SKU rationalization, portfolio optimization, and the launch of our platform next generation products. The result of all of this is that we're raising our full year adjusted EBITDA guidance to a range of 55 million to 58 million, up from our prior range of 53 million to 56 million. With our strong underlying fundamentals driving increased cash generation, coupled with our positive outlook and view that our share price represents great value, we continue to buy back our stock during the third quarter. In the quarter, we repurchased a value of approximately 10.1 million of our stock, bringing our year-to-date repurchases to about 25.3 million. This underscores both our continued confidence in Turtle Beach's trajectory and our commitment to enhancing shareholder value. We believe in our vision, and we are putting our resources behind it. Looking ahead, we are excited about the many opportunities in front of us. We'll continue to focus on innovation and operational excellence, which we are successfully leveraging to expand our market leadership. Our upcoming product launches and the ongoing integration of PDP will further strengthen our position in the broader gaming accessories market. we remain committed to delivering value to our shareholders and providing best-in-class products for gamers worldwide. John will now take us through the financials in more detail. John?

Hey, thanks, Chris, and good afternoon, everyone. As Chris noted, our third quarter 2024 revenue was $94.4 million. That's an increase of approximately 60% compared to the year-ago period and driven by increased sales of our products and from PDP. Excluding the positive impact from the PDP products, our net revenue increased approximately 15% compared to last year, highlighting the strength of our results across the board. Gross margin in the third quarter was 36.2% compared to 29.9% last year. which represents a 630 basis point improvement compared to the third quarter of 2023. The increase was driven by reduced promotional spend, lower product and freight costs, partially offset by higher royalty costs due to the mix of business. Excluding PDP purchase accounting charges and Rocket brand transition reserves, which are not expected to continue going forward gross margins would have been 38.3%. Operating expenses in the third quarter were 27.7 million compared to 20.2 million a year ago and include 3.5 million in costs related to the acquisition of PDP. Operating expenses excluding non-recurring items were 24.8% of revenue. which is an improvement from 32.2% in the prior year. This improvement is primarily driven by our strategic efforts to achieve a better balance between revenue enhancing initiatives and our expense management goals. Our third quarter adjusted EBITDA improved to $16.3 million compared to $1 million in the year-ago period. The $15.2 million year-over-year improvement is primarily the result of higher revenues combined with greater efficiencies on both costs and expenses. On an LTM basis, adjusted EBITDA is now 35 million, which is a significant improvement and driven by the higher revenue, improved margins, and operating expense leverage. Our third quarter net income was a positive 3.4 million or $0.16 per diluted share compared to a net loss of $3.6 million or negative $0.21 per diluted share a year ago. Turning to the balance sheet, at quarter end we had net debt of $94.1 million comprised of $107.9 million of outstanding debt and $13.8 million of cash. The debt balance is comprised of 58.6 million outstanding under our revolving credit line and 49.3 million outstanding on the term loan we used for the PDP acquisition. Inventories at quarter end were 102.3 million compared to 76 million at this point last year. PDP added 26.7 million to inventory and this addition was partially offset by our continued reduction initiatives in non-PDP product inventory. As Chris mentioned, during the quarter, we repurchased approximately 688,000 shares for an average price of $14.70, returning about 10.1 million to shareholders through our share repurchase program. Given the attractive levels of the share price and the strong fundamentals of the company and its growth trajectory, this initiative demonstrates our continued confidence in the company's long-term prospects and our commitment to delivering shareholder value. As of quarter end, we have $21.3 million in potential buybacks remaining under the buyback plan. We will continue to consider share buybacks and our quarterly capital allocation review. Now turning to guidance. We continue to expect full year revenue to be between $370 million and $380 million, which equates to 45% growth at the midpoint compared to 2023. With strong progress on the margin front and the PDP integration progressing smoothly, we are raising our full year adjusted EBITDA guidance for 2024. We expect full-year adjusted EBITDA to be between $55 million and $58 million, which increases the midpoint to $56.5 million, up $2 million from our prior guidance. As a reminder, our 2024 guidance includes contributions from PDP beginning on March 13, 2024, when we close the transaction. And now I'll turn the call back over to Chris for additional comments.

Chris? Thanks, John. As we reflect on our transformation over the past year, it's clear that our strategic initiatives are paying off. The acquisition of PDP has not only expanded our product offerings, but also enhanced our operational capabilities. We are now better positioned to capitalize on market opportunities and drive sustainable growth. The synergies from this acquisition are already evident in our improved operational efficiencies and expanded market reach. Our commitment to innovation, execution, and growth remains unwavering. We are continuously exploring new technologies and product features that will set us apart in the competitive gaming accessories market. Recent innovations like our cross-play technology and the groundbreaking Stealth Pivot Controller are just the latest testaments to this commitment, and we are confident that they will drive meaningful growth in the coming quarters. Looking ahead to the holiday season, we're optimistic about our prospects. The holiday season is a critical period for our industry, and we are well prepared with a strong, refreshed lineup of amazing products that cater to the diverse needs of gamers. We anticipate robust demand and are confident that our innovative products will resonate well with consumers. I want to thank and recognize our entire team at Turtle Beach for their excellent efforts and contributions, which have delivered another strong quarter. We're excited to close out 2024 on a high note and remain confident about our renewed growth strategy and execution for this year and beyond to drive value for our shareholders and gaming customers. And with that, let's turn to Q&A.

Thank you. Ladies and gentlemen, we will now begin the question and answer session. Should you have a question, please press star followed by the one on your telephone keyboard. You will hear a prompt that your hand has been raised, and should you wish to cancel your request, please press star followed by the two. If you are using a speakerphone, please lift the handset before pressing any keys. One moment, please, for your first question. Your first question comes from the line of Shaq McGowan from Roth Capital Partners. Please go ahead.

Thank you. Hi, guys. I have a bunch. I'll just ask a couple and then maybe circle back, to be fair. But just one clarification or a little more color, Chris. When you were talking about market share, can you give a little bit more color on the headset business, you know, year-over-year share increase or changes and how that kind of breaks out console versus PC?

Sure. Yeah. Hey, Sean. Great question. So when you look at this year, we've really upgraded across our wireless headsets line. We talked about last quarter that we introduced the new Stealth 500, 600, Atlas Air, and Q2. And we drained the channel prior to that, so we saw some expected share loss up to those launches. And here in the third quarter, we've done the same thing. We've drained the channel of the old generation of the Stealth 700s. And then we've reloaded the channel and made Q3 with the new Stealth 700. So when you look at our trends, we're up about 100 basis points from the prior quarter with those new launches in Q3, even though we were draining the channel for the Stealth 700s. And as we look ahead, we expect to continue to build on that as we go into the holiday. As we normally do, we normally pick up share during the holiday season. We expect that to be the case this time as well.

Okay, and when I said console versus PC, I realize that's not as relevant as it used to be, but what about some of the newer consoles, like Switch, or how's that looking?

Yeah, that's a great point, and you know, Circona actually switched up the way they categorize headsets. You've probably seen that across the industry. They've now combined as well the console and PC categories into one gaming headset category. We like that a lot because it really does reflect how gamers are using their accessories. Very much multi-platform these days. So if you do break it down between console and PC, we are seeing larger gains on the console side. But our PC headsets are up as well. Year over year in Q3, I believe our PC headsets were up 150 basis points. in the U.S. here. So we're seeing gains on both as we get these new products into the market.

Okay. And for you, John, a couple of housekeeping kinds of things. So when you say you don't expect the PDP inventory step-up and the Rocket brand, you know, to proceed going forward, you mean we won't see any in the fourth quarter? I just want to be specific on that quarter.

Right. So relative to PDP inventory step-up that is completed, We took charges in both Q2 and Q3 for that, but that is now completed. And then relative to Rocket, we do not expect any additional reserves as part of the brand transition work.

Okay. So if I dare, does that mean we could see gross margins in the fourth quarter in excess of 40%?

Well, I think what – Certainly, they'll be in the upper 30% range. There's typically some higher promotional activity in Q4 and then around Black Friday, Cyber Monday, et cetera, for the holidays. And so that will offset some of the other benefits. But our run rate margins going forward are certainly in the target range, which is the upper 30s, which we've previously disclosed.

OK. Great. And then my last question, I guess, for you, John, is G&A in the fourth quarter, you know, the relationship of G&A in the fourth quarter to the third quarter kind of bounces around historically. Should we expect, you know, given that you don't have those, well, maybe you do, do you have recurring business acquisition expenses in the fourth quarter? And if we exclude them, would there be a meaningful increase in G&A in the fourth quarter?

So integration work, although it's progressing smoothly and ahead of schedule, as Chris noted earlier, Sean, we do expect to continue to incur some integration-related expenses, obviously, in Q4, but they'll be certainly at a much lower level. Okay, and if you were to exclude that and add it back to the dog, would you expect... Our operating expenses would rise slightly in Q4 as we invest more in terms of marketing, which is what we've historically done here, which is what you're noting.

Okay, thank you. Yeah, thanks. I'll get back to you.

Sure.

Thanks, John. Thanks.

Thank you. And your next question comes from the line of Drew Crum from Stifel. Please go ahead.

Okay, thanks. Hey, guys. Good afternoon. Chris, you talked about pulling forward some shipments to avoid potential port strikes during the quarter. Given that and based on your retail performance, where does that leave you with respect to channel inventory as you enter 4Q? Sure.

Yeah, hey, Drew. It looks really good. Channel inventory at this point, we saw it, I would say, be higher than normal as we exited Q3. And now as we're into November, it's really at what I would call normal levels heading into holidays. So it was really a temporary, maybe a three-week or so pull-in on a few of those shipments as the retailers are looking to avoid any delays from any potential port strikes. But as we get into prepping for holiday now in November, it looks very normal compared to previous, let's call them normal holidays.

Got it. Okay. That's helpful. And then, John, I think you mentioned you would anticipate a sequential increase in promo spend during 4Q over 3Q. But just kind of looking at that year on year, should we anticipate higher promo spend this fourth quarter versus last fourth quarter?

Yes, certainly we're bigger, we've got more products, and we have the new wireless that are now coming out in the market. So yes, the answer is yes, we do expect the marketing to be higher here year over year.

Okay, makes sense. And then maybe just one last one for me. Can you address your plans around uses of cash through the balance of the year. Should we expect you to continue to buy back stock, or do you plan to pay off the outstanding balance on the revolver, or maybe both? Thanks.

Sure. So the answer is yes, obviously. It's going to be a function of collections. We do, with certain retailers, they do have different payment terms during the holiday, a little more extended. But our cash will be focused primarily on paying down the ABL as well as to the extent that there's an opportunity for us to buy additional shares back, then we would look to do that.

Got it. Thanks, guys. Thanks, Drew. Thanks, Drew.

Thank you. And your next question comes from the line of Jack Codera from Maxim Group. Please go ahead.

Hi, this is Jack Codera calling in for Jack Viterati. Thank you. Going into 4Q holiday season, are you expecting the PDP business to have any differences in terms of seasonality? I know they're both kind of consumer electronics, very similar fit, but do you expect to continue to contribute roughly that 28% feedback into that total revenue number?

Yeah, good question, Jack. I think that it will be pretty normal. You look at the businesses combined now between headsets, controllers, some of the specialty controllers like the Riftmaster, very similar seasonality to the historic headset business.

So I would say yes. Okay, that's helpful.

And then just one other, how are you viewing the consumer? I saw some highlighted data points in the presentation which were helpful, and you kind of mentioned the refreshed product portfolio. Are there any other individual indicators in the mix that are giving you confidence in, like, a strong holiday season? Any color there would be helpful. Thank you.

Sure. Yeah, when you look at, you know, the gaming industry in general, we're all enjoying the benefits of a very strong Call of Duty launch. You've probably seen the numbers on that. Um, you know, black ops six is doing extremely well, lots of engagement from gamers. That's good for everybody in the industry. So we're really happy to see that. We think that'll help drive some of the. The market here, you know, even through holiday, we've seen that historically. Um, we're also seeing continued benefits of replacement on the pandemic cycle purchases. So all those purchases when, you know, everyone spiked back in 2020, 2021, We started to see a lot of those really kick in in the last couple of weeks of 2023. A lot of late holiday purchases last year, and that's really sustained for the peripherals categories and gaming accessories. That's really sustained and why you're seeing that accessories are outperforming the broader market this year. So we think that's gonna carry through in the holiday. There's a lot of new products that we've got out in the market We know new releases drive share and drive additional purchases because we've got a ton of great new tech out there for gamers. So we're excited about how that's going to look, and that's why we're feeling good about the holiday.

Awesome. Thanks. Congrats on a strong quarter. That's all I had. Thank you. Great. Thanks, Jack. Thanks, Jack.

Thank you. Once again, should you have a question, please press star 4 by the 1 on your telephone keyboard. Your next question comes from the line of Sean McGowan from Road Capital Partners. Please go ahead.

Yeah, I'm back. John, on the promotional spending that you're talking about for the fourth quarter, will all of the impact of that increase both sequentially and year over year, will all of that be seen in the gross margin or is it going to be kind of split also between selling marketing and the gross margin level?

Yeah, so when we talk about promotional spend, the reference really is to the gross margin, Sean, from my perspective, right? So yes, it's margin impacting, but marketing outside the OPEX, marketing OPEX, we do expect to rise in the fourth quarter over Q3 for all the reasons, right? It's a big quarter, very important, and then there's you know, overall different market dynamics with Black Friday as well as Cyber Monday, et cetera.

Right. Okay. And then last one, truly, for me, for Chris. Can you talk a little bit about some of the new categories, you know, outside of controllers and headsets, some of the things you either have launched or, you know, or planning to imminently launch? Give us an update on what's going on with some new segments, please.

Sure. Sure, yeah, we've refreshed a bit of the mice and keyboards here in the quarter. You saw the new Cone 2 mice that launched. That was, you know, looking historically at Rocket, the flagship product. Got some great reviews out there on the Cone 2. You know, that'll help support us as we transition, you know, into the Turtle Beach brand for PC. We're seeing very good results, as we mentioned earlier, on the PC headset side, and we're seeing those gamers come along with us in the category. So happy with the progress there, and the team's done a great job on the brand transition. Obviously, that's always a large task when we're moving from one brand to the other, and the team's done a fantastic job there. Some of the other categories, music specialty controllers are really interesting for us this year. If you look at the market for the Riffmaster as an example, PDP Team did a great job launching that product, That market's around, I want to say, six and a half or seven million retail sales so far this year, of which we own 97% of that. So that's been a nice upside surprise for us. The traction that Fortnite and Fortnite Festival is gaining with some of the really fun things that Epic is doing in that space, it's great to see that those gamers are out there and we've got some new gear for them to play with outside of the normal sort of traditional controllers and headset categories. So that's really exciting. We've also got some really cool products coming up in the Fight Stick category as well. So just with the combined company portfolios between Turtle Beach and PDP, just some really fun stuff coming out here in the holiday and into next year.

Okay.

Thank you very much.

Thanks, Sean.

Thank you. And your next question comes from the line of Martin Yang from Opco. Please go ahead.

Hi.

Thank you for taking my question. I have a question regarding product design this year, especially the Dell 600, 700 Gen 3. Both looks have a due to have a very refreshed design. I think similar changes are also consistent with your desktop app. So can you maybe talk about, you know, is there anything new regarding the product design and, you know, how that implies on your future product, both in headsets and other categories?

Hi, Martin. Great question. This is something we love to talk about internally and externally. We've really made a lot of investments in our R&D over the last several years to bring these really cool products to market this year. It's not just on the external design that you're seeing on that 700 and some of the improvements that you noted there on the desktop app and some of the investments we've made there. The team has done a great job of also platforming all these new products on commonized chipsets, and that's what you're seeing in the financial performance with the product mix moving to these new products and really helping our business results as well as bringing some really exciting products out to gamers. So we are excited about the new look and feel of all the products, all the great functionality that's in these products. Um, it's, it's what you're going to see from us moving forward, um, on the innovation front, um, with the new PDP team that that's on board. Um, it just adds to the, the, you know, the brainpower that we've got, uh, behind all these products and, and, and expertise that we've got in the gaming industry. So, um, so I thank you for noticing number one, um, is something that we take a great deal of pride in here, um, you know, through the whole organization. And we love bringing these kind of products to market.

Great, thanks. My next question is about how you feel about the potential uplift from a new crop of games in holiday season. For example, Call of Duty Black Ops 6 seems to be have a lot of traction. Are you seeing a concurrent lift to your headset's demand because of some of the higher profile games launching into the holiday season?

Yes, it always has a good effect across the accessory space when you see a strong launch like we're seeing with Call of Duty. So we have seen that lift over the last few weeks. We did anticipate some lift, so that's included in our guidance for the year. But, you know, as you get That product, if it continues to sustain, if you get some new surprises, which we always seem to have every year, some nice surprise launches out there that drive engagement, that could be another catalyst for us for Q4 and as you go into 2025. This is why we're feeling good about the holiday for gaming. If you look at how accessories have been doing all year, We don't really see that falling off here in Q4. We think that with all the new products on the market, with great games out there like Call of Duty, as you noted, we're really in a good position here to see a strong holiday. So let's see how it plays out. We've got a lot of time ahead of us here, yet, as you know, the last two months of the year are always very heavy. and a huge part of our years, but we're feeling good about how we're positioned going in. Got it. Thank you, Chris. That's it for me.

Thanks, Martin. Thank you, Martin.

Thank you. There are no further questions at this time. I want to hand the call back to Mr. Chris Kern, CEO, for any closing remarks.

Thank you, operator, and thanks, everyone, for joining the call. Have a great day.

Thank you, and that concludes our conference for today. Thank you all for participating. You may now disconnect.