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UNITED STATES

SECURITIES AND EXCHANGE COMMISSION

Washington, D.C. 20549

FORM 10-K

(Mark one)

ANNUAL REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the fiscal year ended December 31, 2020

or

TRANSITION REPORT PURSUANT TO SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934

For the transition period from              to

Commission File Number: 001-35465

 

 

TURTLE BEACH CORPORATION

(Exact name of registrant as specified in its charter)

 

 

 

Nevada

27-2767540

(State or other jurisdiction of

incorporation or organization)

(I.R.S. Employer

Identification Number)

 

44 South Broadway, 4th Floor

White Plains, New York

 

10601

(Address of principal executive offices)

 

(Zip Code)

(888) 496-8001

(Registrant's telephone number, including area code)

 

11011 Via Frontera, Suite A/B, San Diego, CA, 92127

(Former name, former address and former fiscal year, if changed since last report)

Securities registered pursuant to Section 12(b) of the Act: 

Title of each class

Trading Symbols

Name of each exchange on which registered

Common Stock, par value $0.001

HEAR

Nasdaq

Securities registered pursuant to Section 12(g) of the Act: None

Indicate by check mark if the registrant is a well-known seasoned issuer, as defined in Rule 405 of the Securities Act. Yes   No

Indicate by check mark if the registrant is not required to file reports pursuant to Section 13 or Section 15(d) of the Act. Yes   No

Indicate by check mark whether the registrant (1) has filed all reports required to be filed by Section 13 or 15(d) of the Securities Exchange Act of 1934 during the preceding 12 months (or for such shorter period that the registrant was required to file such reports), and (2) has been subject to such filing requirements for the past 90 days.   Yes   No

Indicate by check mark whether the registrant has submitted electronically every Interactive Data File required to be submitted pursuant to Rule 405 of Regulation S-T (§232.405 of this chapter) during the preceding 12 months (or for such shorter period that the registrant was required to submit such files).          Yes   No

Indicate by check mark whether the registrant is a large accelerated filer, an accelerated filer, a non-accelerated filer, a smaller reporting company or an emerging growth company. See the definitions of “large accelerated filer,” “accelerated filer,” “smaller reporting company” and “emerging growth company” in Rule 12b-2 of the Exchange Act.

 

Large accelerated filer

 

Accelerated filer

 

 

 

 

 

Non-accelerated filer

 

Smaller reporting company

 

 

 

 

 

Emerging growth company

 

 

 

 

If an emerging growth company, indicate by check mark if the registrant has elected not to use the extended transition period for complying with any new or revised financial accounting standards provided pursuant to Section 13(a) of the Exchange Act.

Indicate by check mark whether the registrant has filed a report on and attestation to its management’s assessment of the effectiveness of its internal control over financial reporting under Section 404(b) of the Sarbanes-Oxley Act (15 U.S.C. 7262(b)) by the registered public accounting firm that prepared or issued its audit report.  

Indicate by check mark whether the registrant is a shell company (as defined in Rule 12b-2 of the Exchange Act).   Yes   No

The aggregate market value of the registrant’s voting stock held by non-affiliates of the registrant as of June 30, 2020 was $211,067,946.

The number of shares of Common Stock, $0.001 par value, outstanding on January 31, 2021 was 15,477,396.

 

DOCUMENTS INCORPORATED BY REFERENCE

The information required by Part III of this Report is incorporated herein by reference from the registrant’s definitive proxy statement or annual report on Form 10-K/A to be filed with the Securities and Exchange Commission within 120 days after the close of the registrant’s fiscal year.



 

INDEX

 

 

 

Page

PART I.

 

Item 1.

Business Overview

3

Item 1A.

Risk Factors

8

Item 1B.

Unresolved Staff Comments

17

Item 2.

Properties

17

Item 3.

Legal Proceedings

17

Item 4.

Mine Safety Disclosures

18

 

 

 

PART II.

 

Item 5.

Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

19

Item 6.

Selected Financial Data

20

Item 7.

Management’s Discussion and Analysis of Financial Condition and Results of Operations

21

Item 7A.

Quantitative and Qualitative Disclosures About Market Risk

30

Item 8.

Financial Statements and Supplementary Data

31

Item 9.

Changes in and Disagreements with Accountants on Accounting and Financial Disclosure

59

Item 9A.

Controls and Procedures

59

Item 9B.

Other Information

59

 

 

 

PART III.

 

Item 10.

Directors, Executive Officers and Corporate Governance

61

Item 11.

Executive Compensation

61

Item 12.

Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters

61

Item 13.

Certain Relationships and Related Transactions, and Director Independence

61

Item 14.

Principal Accounting Fees and Services

61

 

 

PART IV.

 

Item 15.

Exhibits and Financial Statement Schedules

62

Item 16.

Form 10-K Summary

62

 

 

EXHIBIT INDEX

63

SIGNATURES

65

 

 

 

1

 


 

 

PART I

Statement Regarding Forward-Looking Disclosures

This Annual Report on Form 10-K (this “Report”) includes, and incorporates by reference, certain forward-looking statements within the meaning of the federal securities laws. Statements that are not historical facts, including statements about our beliefs and expectations, are forward-looking statements. Forward-looking statements include statements preceded by, followed by, or that include the words “may,” “could,” “will,” “would,” “should,” “expect,” “plan,” “anticipate,” “believe,” “estimate,” “intend,” “predict,” “seek,” “contemplate,” “potential,” “continue,” and similar expressions. These forward-looking statements reflect the current expectations of Turtle Beach Corporation concerning future events, and actual results may differ materially from current expectations or historical results. Any such forward-looking statements are subject to various risks and uncertainties, including without limitation those discussed in the sections of this Report entitled “Business Overview,” “Risk Factors,” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations.”

Forward-looking statements are only predictions and are not guarantees of performance. These statements are based on our management’s beliefs and assumptions, which in turn are based on currently available information. Important assumptions relating to the forward-looking statements include, among others, assumptions regarding demand for our products, the expansion of product offerings geographically or through new marketing applications, the timing and cost of planned capital expenditures, competitive conditions, and general economic conditions. These assumptions could prove inaccurate. Forward-looking statements also involve known and unknown risks and uncertainties, which could cause actual results to differ materially from those contained in any forward-looking statement. In addition, even if our actual results are consistent with the forward-looking statements contained in this Report, those results may not be indicative of results or developments in subsequent periods. Many of these factors are beyond our ability to control or predict. Such factors include, but are not limited to, the following:

 

Our dependence on the success and availability of third-party platforms and software to drive sales;

 

Transitions in video gaming console platforms and the potential impact on our business;

 

Our ability to adapt to new technologies and introduce new products on a timely basis;

 

The impact of competitive products, technologies and pricing;

 

Continued relationships with our largest customers and the emergence of new customers;

 

The impact of seasonality on our business;

 

Global business, political, operational, financial and economic conditions;

 

Our ability to forecast demand for our products;

 

Manufacturing capacity and/ or component supply constraints and difficulties;

 

The scope of protection we are able to establish and maintain for intellectual property rights covering our technology;

 

The availability of capital under our revolving credit facility;

 

Estimates of our future revenues, expenses, capital requirements, and our needs for additional financing;

 

Cybersecurity and other information technology risks;

 

The Company’s partnerships with influencers, athletes and esports teams;

 

Our financial performance; and

 

Other factors discussed under Item 1A - Risk Factors, or elsewhere in this Report.

Except as required by applicable law, including the securities laws of the United States and the rules and regulations of the Securities and Exchange Commission (“SEC”), we undertake no obligation to publicly update or revise any forward-looking statements after we file this Annual Report on Form 10-K, whether as a result of any new information, future events or otherwise. Investors, potential investors, and other readers are urged to consider the above mentioned factors carefully in evaluating the forward‑looking statements and are cautioned not to place undue reliance on such forward‑looking statements. Although we believe that the expectations, reflected in the forward-looking statements are reasonable, we cannot guarantee future results or performance.

Unless the context indicates otherwise, all references in this Report to “we,” “our,” “us,” “the Company,” and “Turtle Beach” refer to Turtle Beach Corporation and its wholly-owned subsidiaries.

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Item 1 - Business Overview

Turtle Beach Corporation’s mission is to deliver the ultimate experience to gamers by providing high-quality, high-performance accessories, including headsets, keyboards, mice, microphones and more. For over 45 years, Turtle Beach has been a pioneer and key innovator in audio technology and is one of the most recognized names in console gaming in North America and Europe. In 2019, Turtle Beach acquired ROCCAT, a provider of gaming keyboards, mice and other accessories focused in the personal computer (“PC”) peripherals market. In early 2021, Turtle Beach further expanded its portfolio with the acquisition of Neat Microphones (“Neat”), which creates, manufactures, and sells high-quality digital USB and analog microphones that embrace cutting-edge technology and design. Turtle Beach, headquartered in White Plains, New York, was incorporated in the state of Nevada in 2010 and the Company’s stock is traded on the Nasdaq Global Market under the symbol HEAR.

Turtle Beach Corporation is the market share leader in headsets for console gaming with cutting-edge, award-winning gaming headsets for Xbox, PlayStation®, and Nintendo consoles and also produces innovative products for PC, Mac®, and mobile/tablet devices.  With the addition of award winning PC gaming accessories from ROCCAT and deep expertise in microphones through the Neat acquisition, Turtle Beach can deliver high quality accessories across a broad range of product categories.

Gaming Accessories Business

Turtle Beach launched its first gaming headset and the first ever console gaming headset – the X51 - in 2005 and has become the leading brand in gaming headsets. The Company designs and markets a large assortment of gaming headsets and audio accessories for Xbox, PlayStation®, and Nintendo consoles, as well as for PC, Mac®, and mobile/tablet devices. The Company’s 2019 acquisition of the ROCCAT brand expands Turtle Beach’s reach into the global market for PC gaming headsets, keyboards, mice and other accessories, and the 2021 acquisition of Neat Microphones furthers Turtle Beach’s reach into the global microphone market. These products are distributed internationally in North America, South America, Europe, the Middle East, Africa, Australia, and Asia. Turtle Beach products are sold at thousands of storefronts, including major retailers such as Amazon, Argos, Best Buy, GAME, GameStop, EB Games, Media Markt, Saturn, Target and Walmart.

Turtle Beach offers gamers a wide assortment of gaming headsets spanning multiple price points ranging from $20 to $250, with many headsets compatible across all major gaming platforms. We believe the price tiers correspond to customer profiles, beginning with entry-level gamers and progressing through casual, enthusiast, core, and professional esports gamers. Each successive price tier incorporates higher level features, comfort, and finish. For example, premium headset models typically include features like large 50mm speakers, metal headbands, memory foam, powerful amplified surround sound, active noise-cancellation, and Bluetooth® connectivity. Additional features include audio presets like Bass Boost and Turtle Beach’s exclusive Superhuman Hearing® sound setting, removable or flip-to-mute microphones, Turtle Beach’s proprietary ProSpecs™ glasses-friendly design, and rechargeable long-lasting batteries.

As gaming consoles have evolved from dedicated video game platforms to home entertainment hubs, and as mobile and tablet devices have become popular entertainment platforms, Turtle Beach has continued to evolve its product lineup to reflect how content is consumed. While each Turtle Beach headset is designed for a primary platform, such as a specific console or PC, nearly all can be used with multiple platforms, and most are compatible with mobile/tablet devices through a standard 3.5mm jack or Bluetooth® connectivity. This primary platform designation, paired with readily identifiable platform-specific packaging designs, often results in Turtle Beach products being displayed in multiple in-store sections by retailers, including in kiosks that allow shoppers to try the headsets and experience each headset’s specific fit, feel and overall audio quality, increasing the prominence of the Turtle Beach brand and its products in physical retail locations and online.

In 2020, Turtle Beach was the leading console gaming headset manufacturer in North America with an over 45% dollar share of the market, as noted in The NPD Group’s retail tracking service, holding eight of the top 10 selling Xbox and PlayStation® models by revenue. Turtle Beach’s console market share in the U.K. was over 40% in 2020 as reported by GfK Global. We believe the Company has achieved these global market shares by delivering high-quality products that often include first-to-market innovations and robust features, in addition to superior sound and unmatched comfort - key factors that consumers look for when shopping for a gaming headset.

Similar to console headsets, our PC gaming headsets, keyboards, and mice span price points from low to high for entry level to professional gamers with each successive price tier adding features and build quality. We seek to infuse differentiation and innovations in our PC products including our own design for keyboard and mouse click switches, innovative lighting and extensive ergonomic design testing and modeling. In 2020, Turtle Beach’s PC brand – ROCCAT, introduced multiple new products to grow the range of offering and augment the already successful ROCCAT line-up.  These new products include the first jointly developed wireless and wired headsets (the ELO Series) that combined ROCCAT’s award-winning design with Turtle Beach’s audio expertise.  Additionally, ROCCAT released new, pioneering technology and formats for their award-winning Vulcan keyboard series.  ROCCAT also introduced a new line of light-weight and ultra-responsive mice with its new Burst series.

Industry Overview

Gaming Headset Market

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Gaming headsets are part of a global software and accessories gaming market which has grown to $183 billion by the end of 2020, a roughly 20% year-over-year increase. The global gaming audience now exceeds global cinema and music markets with over 2.8 billion active gamers worldwide. Gaming peripherals, such as headsets, keyboards, and mice are estimated to be a $5.1 billion business globally with over 75% of that market in the Americas and Europe where the Company’s business is focused. Gaming headsets represent more than a $3.2 billion global market, or more than 60% of the total gaming peripherals market.

Competitive esports is a global phenomenon where professional gamers train and compete to win prize money, partner with major brands, and attract/gain dedicated fans – similar to traditional professional sports. There were approximately 443 million esports viewers in 2019, and that was expected to surge to roughly 495 million viewers by 2020 (11.7% YOY), according to a report from Newzoo. Of those 495 million projected viewers, 272 million will identify as “occasional viewers” and 223 million will consider themselves “esports enthusiasts”.

Many gamers play online where a gaming headset (which typically includes a microphone allowing players to communicate in real-time) provides a more immersive experience and a competitive advantage in the industry’s most popular games and franchises.

PlayStation® and Xbox consoles continue to be dominant gaming platforms in North America and Europe for games that drive headset usage. Consistent with a historical pattern of major new console launches every 7-8 years, Microsoft and Sony released their next generation consoles, Xbox and PlayStation®5 platforms just ahead of holiday 2020. Demand for the new consoles has been very strong and exceeded supply which is a good indicator of the enthusiasm for the latest consoles. Further, industry guidance suggests that with the launch of the new systems, and continued sales of the current consoles, combined console hardware sales will set records in 2021 and 2022.  

In 2020, the Nintendo Switch™ completed its third full year in the market with more than 70 million units sold through the end of December 2020, during which there has been an expanding library of games and an increased number of multiplayer chat-enabled games. In addition, Nintendo launched a follow-on product, the Nintendo Switch™ Lite, which is the handheld-only version of their popular gaming console.

While gaming on mobile/tablet devices represents about 50% of the global gaming market and headsets can be used for mobile gaming, console and PC gaming are by-far the largest drivers of gaming headset use.

PC Accessories Market

PC gaming in the U.S. has seen a resurgence in popularity the past few years and continues to be a main gaming platform internationally, driven by big AAA game launches, PC-specific esports leagues, teams and players, content creators and influencers, cross-platform play, and more. While most games are available on multiple platforms, gaming on PC offers advantages that include improved graphics, increased speed and precision of mouse/keyboard controls, and ability for customization. Gaming mice and keyboards are engineered to provide gamers with higher-end performance and a superior gaming experience through benefits including faster response times, improved materials and build quality, programmable buttons and keys, and software suites to customize and control devices and settings.

PC gaming mice come in a variety of different ergonomic shapes and sizes, are available in both wired and wireless models, offer options for different sensors (optical and laser) and responsiveness, and often feature integrated RGB lighting and software to unify with the lighting on other devices for a visually pleasing PC gaming appearance. Similarly, PC gaming keyboards deliver a competitive advantage by registering keystrokes faster than others, offer options for mechanical key switches that feel and sound different, and utilize customizable lighting.

The $2.5 billion market for PC gaming headsets, mice and keyboards grew at 6.2% in 2019 and was forecasted to grow by another 35% in 2020 to almost $3.4 billion. The same gaming, work-from-home, and school/learn-from-home factors benefitted the accessories market where headsets, keyboards, mice and other accessories developed for PC gaming have seen an increase in consumer demand.

PC and console gaming markets are also driven by major game launches and franchises that encourage players to buy equipment and accessories. On Xbox, PlayStation®, and PC flagship games like Call of Duty®, Destiny, Star Wars: Battlefront, Battlefield, Grand Theft Auto, and battle royale games like Fortnite, Call of Duty Warzone, Apex Legends and PlayerUnknown’s Battlegrounds, are examples of major franchises that prominently feature online multiplayer modes which encourage communication and tend to drive increased gaming headset sales. Many of these established franchises launch new titles annually leading into the holidays and as a result which can cause an additional boost to the normally strong holiday sales of gaming accessories.

Microphone Market

The microphone market is estimated to be $2.3 billion in size with roughly $700 million of that estimated to be for digital USB microphones. The market for high-quality microphones, specifically digital microphones is experiencing significant growth as consumers on YouTube, Twitch and other popular platforms are gravitating toward using high-quality professional equipment for their workstations. Additionally, with the increasing trend to remote work  furthered by stay-at-home orders, the need for a great sounding desktop microphone has become an important tool when it comes to working from home, as well as learning from home and staying connected with family and friends.

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The 2021 acquisition of Neat Microphones expands Turtle Beach’s reach into the global microphone market, including, in particular, the market for digital/USB microphones which are often used by gamers, streamers, and influencers who also use other PC accessories.

COVID-19 Impact and Outlook

During 2020, as the pandemic created stay-at-home guidance, the gaming accessory market experienced a significant surge in demand as existing gamers began gaming more and new gamers entered the market. In addition, the work-from-home and school/learn-from-home increase created additional demand for accessories, particularly gaming headsets which work well for video and audio calls. As a result, the Company’s 2020 revenues have exceeded historical levels as the overall gaming and headset markets have experienced an unprecedented surge in demand.  Going forward, the effects of the global pandemic and the measures being taken in response are uncertain and difficult to predict. While there were likely certain one-time benefits to demand caused by the stay-at-home orders, we believe millions of new gamers have joined the market which should create an ongoing, larger installed base of players.

Business Strategy

We intend to further build upon Turtle Beach’s brand awareness, superior audio technology and high-quality products, as well as further promote and expand the ROCCAT and Neat Microphones brands in certain geographic regions to increase sales and profitability. The Company's strategy focuses on the following:

Continue to Advance Our Turtle Beach Brand. We believe that Turtle Beach’s reputation among consumers is a competitive advantage, and that our success is attributable to our emphasis on delivering the highest quality, most innovative headsets.

Expand Our Product Lines.   We continue to invest in the resources necessary to maintain and expand our technical capability to manufacture multiple product lines that incorporate the latest technologies. PC gaming headsets, keyboards and mice represent a market that is two times the size of the console gaming headset market with projected double-digit market growth. As shown by the initial success of the recently released Elo series of PC gaming headsets, we continue to believe the PC gaming accessory market can be a great source of growth in the coming years.

Grow Revenue in New Markets. We intend to increase our available markets by continuing to develop internally, or through partnerships or acquisitions, products in new gaming accessory or audio categories that we offer to our customers. The latest example, on January 12, 2021, we announced the acquisition of Neat Microphones (“Neat”) that creates, manufactures and sells high-quality digital USB and analog microphones and enables our entry into the $2.3 billion global microphone market, which is experiencing rapid growth in the digital/USB accessories segment.

To maintain our competitive position in our markets we are focused on the following:

 

continuing to deliver innovative, high quality gaming headsets that incorporate advanced audio and wireless technology, while providing a superior game and chat audio experience and unmatched comfort;

 

continuing to deliver innovations in speed, precision, lighting and form factor in gaming keyboards, mice, and other gaming categories that can leverage those capabilities

 

maintaining our position at key retailers with products available in more locations throughout retailers;

 

continuing investments in our ecommerce platforms to drive profitable growth by expanding customer reach, reducing cost-to-serve, and creating differentiated customer experiences;

 

maintaining our strategic relationships, and continuing investment in sponsorships, which we believe provide our brand a larger presence with consumers and creates opportunities for retailers to carry our products; and

 

leveraging high-quality technical support and customer service to exceed consumer expectations and develop brand loyalty.

Intellectual Property

We operate in an industry where innovation, investment in new ideas, and protection of resulting intellectual property rights are critical to success. With over 250 patents, we have a substantial base of intellectual property assets to protect our current and future product development, such as key innovations in gaming headsets, and intend to vigorously enforce such rights.

As a third-party gaming accessory company, certain technology used in the new generation of consoles requires a license to enable products to connect to that platform. While Playstation® does not require any license to produce headsets that can connect, certain connections on the Xbox platforms require the purchase of proprietary chips to integrate into the locked chat audio. The Company currently has the necessary licenses, or can obtain the necessary licenses, to produce compatible products.

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Supply Chain and Operations

We have a global network of suppliers that manufacture products to meet our quality standards and cost objectives sought by our customers. We have worked closely with component, manufacturing and global logistic partners to build a supply chain that we consider predictable, scalable and efficient to provide high-quality, reliable products and leading cost management practices. The use of outsourced manufacturing facilities is designed to take advantage of specific expertise and allow for flexibility and scalability to respond to both seasonality and changing demands for our products.

In 2020, due to current economic conditions, and pandemic-related government restrictions, that have slowed down supply chains, we have extended our purchase order lead times and increased our purchasing forecast period to allow for sufficient delivery time.

We believe we have strong, long-term relationships with our suppliers and that, subject to the discussion in “Risk Factors” and “Management’s Discussion and Analysis of Financial Condition and Results of Operations - Liquidity and Capital Resources,” we will continue to have a sufficient supply of quality products on satisfactory terms.

Retail Distribution

Our products are sold in over 40 countries by retailers such as Amazon, Argos, Best Buy, GAME, GameStop, EB Games, Media Markt, Saturn, Target and Walmart. We often have a broader assortment and more shelf space than competitors at video game and electronics retailers such as Best Buy and GameStop, which we believe reinforces the brand’s authenticity with gaming enthusiasts, and our presence in mass channel retailers such as Walmart and Target enables the brand to reach a wider audience of casual gamers. Our established presence on Amazon and other online retail sites, and positive consumer product ratings on those sites, increases the search visibility of our products and helps to influence both online and in-store sales.

TB Europe, located in the U.K., serves as a primary sales office for the European market and has strengthened our international operations with support for sales, marketing, customer service and distribution.

Our websites, TurtleBeach.com, ROCCAT.org, and Neatmic.com, are important focal points for our marketing efforts, serving as a destination for consumers to learn about the brands, the product offering and as a place to maintain ongoing customer connection. The company saw tremendous growth in online direct sales in 2020 as more consumers opted to shop from home and expect to see this growth continue.

Customers

Our business customer base is comprised primarily of large retailers and distributors, both domestic and international. In 2020, net sales to our major market channels consisted of $213.0 million to North American retail customers, $85.8 million to European customers, $27.7 million to North American distributors and $33.6 million to other customers.

Our five largest individual customers accounted for approximately 61% of our gross sales in 2020, 62% of our gross sales in 2019, and 64% of our gross sales in 2018. During 2020, our three largest customers - Walmart, Target and Amazon - each accounted for between 11% to 23% of our consolidated net sales.

Seasonality

Our business is seasonal with a significant portion of sales and profits typically occurring around the holiday period. Historically, more than 45% of headset business revenues are generated during the period from September through December as new headsets are introduced and consumers engage in holiday shopping. In addition, launches of major new online multiplayer games, and specific retailer purchasing behavior, can drive significant revenue shifts between months and quarters in a given year.

Human Capital

As of December 31, 2020, Turtle Beach had roughly 300 employees, of which 253 were full-time salaried employees. None of our employees are represented by a labor union. We believe that our relationship with our employees is good.

In order to build and maintain a strong and productive workforce, we consistently assess the current business environment and labor market to refine our compensation and benefits programs and other resources available to our employees.  We are committed to an inclusive and high-performance culture at all levels of the organization.  The Company has a diverse global workforce with larger offices located in four countries.

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We are further committed to developing our employees professionally by leveraging our Intellectual Capital (IC) process.  The IC process includes constructive reviews and various talent and leadership development initiatives conducted by the management team and provided throughout an employee’s career.

In response to the COVID-19 pandemic in 2020, we implemented and continue to maintain additional health and safety protocols and new procedures across all of our locations to help ensure the safety and well-being of our employees.  These protocols included the option to work from home, proper hygiene, social distancing, mask use and temperature screenings and other health and safety standards as required by federal, state and local government agencies, taking into consideration guidelines of the Centers for Disease Control and Prevention and other public health authorities.

Available Information

We make available free of charge on or through our website, http://corp.turtlebeach.com, our Annual Report on Form 10-K, Quarterly Reports on Form 10-Q, Current Reports on Form 8-K, proxy statements, and all amendments to those filings as soon as reasonably practicable after such material is electronically filed with, or furnished to, the Securities and Exchange Commission (“SEC”). Information contained on our website is not incorporated by reference unless specifically stated therein.

In addition, the SEC maintains a website that contains reports, proxy statements, and other information about issuers, such as Turtle Beach, who file electronically within the SEC. The address of the website is www.sec.gov.

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Item 1A - Risk Factors

Set forth below is a summary of certain material risks related to an investment in our securities, which should be considered carefully in evaluating such an investment. Our business, financial condition, operating results and cash flows can be affected by a number of factors, whether currently known or unknown, including but not limited to those described below, any one or more of which could, directly or indirectly, cause the Company’s actual results of operations and financial condition to vary materially from past, or from anticipated future, results of operations and financial condition. Any of these factors, in whole or in part, could materially and adversely affect the Company’s business, financial condition, results of operations, cash flows and common stock price. Additional risks and uncertainties not presently known to us or that we currently consider immaterial may also impair our business operations.

Because of the following factors, as well as other factors affecting the Company’s financial condition and operating results, past financial performance should not be considered to be a reliable indicator of future performance, and investors should not use historical trends to anticipate results or trends in future periods. Please also see “Statement Regarding Forward-Looking Disclosures” in the section immediately preceding Item 1 of this Report.

Risks Related to COVID-19

The effects of the COVID-19 pandemic could adversely affect our business, results of operations, and financial condition.

The effects of the public health crisis caused by the novel coronavirus (“COVID-19”) pandemic and the measures being taken in response are uncertain and difficult to predict, but may include:

 

A decrease in the long-term demand and/or pricing for our products, and a global economic recession that could reduce demand and/or pricing for our products, resulting from actions taken by governments, businesses, and/or the general public in an effort to limit exposure to and spreading of such infectious diseases, such as travel restrictions, quarantines, and business shutdowns or slowdowns;

 

 

Disruptions to our supply chain in connection with the sourcing, manufacturing and transportation of finished goods and materials, in particular, the negative impact to lead-times and availability of semiconductor components which could lead to shortages preventing us from manufacturing products in the required quantities to support demand;

 

 

Disruptions in foot traffic to brick-and-mortar retail locations of our retailers resulting from stay-at-home orders and government restrictions on retailing operations could disrupt retail customer awareness and demand for our products;

 

 

Negative impacts to our operations, including reductions in efficiency and productivity and increased costs resulting from efforts to mitigate the impact of COVID-19;

 

 

Deterioration of worldwide credit and financial markets that could limit our ability to obtain financing, result in losses due to failures of financial institutions and other parties, and cause a higher rate of losses on our accounts receivables due to defaults and bankruptcies; and

 

 

Deterioration of the financial condition or liquidity, or interruptions to the operations, of our suppliers and customers, including retailers and distributors, could adversely affect the distribution, availability and sales of our products.

 

Additionally, as a result of stay-at-home orders and government restrictions on retailing operations due to COVID-19, retailers have experienced, and may continue to experience, liquidity constraints or other financial difficulties, which could lead to a reduction in the amount of merchandise purchased from us, an increase in order cancellations or the need to extend payment terms. Any or all of these measures could substantially reduce revenue or have a material adverse effect on our results of operations.

 

The resumption of normal business operations after such interruptions may be delayed or constrained by lingering effects of COVID-19 on our employees, suppliers, manufactures, distributors, retailers, third-party service providers, and/or customers. Additionally, we have seen an increase in demand for our products during the restriction periods and may see a decrease in demand for our products as restrictions imposed for the pandemic are lifted and social functions and activities start returning to pre-pandemic levels.

 

These effects, alone or taken together, could have a material adverse effect on our business, results of operations or financial condition. An extended period of global supply chain and economic disruption resulting from the COVID-19 pandemic and the government measures adopted in response thereto could exacerbate the foregoing effects. In addition, the potential impacts of COVID-19 also could affect many of our risk factors included in Item 1A of this Report. However, as the COVID-19 situation is unprecedented and continuously evolving, the potential impacts to such risk factors remain uncertain.

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Risks Related to Our Operations

We depend upon the success and availability of third-party gaming platforms and release of certain game titles to drive sales of our headset products.

The performance of our headset business is affected by the continued success of third-party gaming platforms, such as Microsoft's Xbox consoles and Sony's PlayStation® consoles, as well as video games developed by such manufacturers and other third-party publishers. Our business could suffer if any of these parties fail to continue to drive the success of these platforms, develop new or enhanced videogame platforms, develop popular game and entertainment titles for current or future generation platforms or produce and timely release sufficient quantities of such consoles. Further, if a platform is withdrawn from the market or fails to sell, we may be forced to liquidate inventories relating to that platform or accept returns resulting in significant losses.

The manufacture, supply and shipment of our products are dependent upon a limited number of third parties, and our success is dependent upon the ability of these parties to manufacture, supply and ship sufficient quantities of our products to us in a timely fashion, as well as the continued viability and financial stability of these third-parties. In addition, many of our products use components with long order lead times and constrained supply. Any disruption in supply of these components could materially impact the ability of our 3rd party manufacturing partners to produce our products.

Our manufacturers and suppliers’ ability to supply products to us is also subject to a number of risks, including the availability of raw materials or components, their financial instability, the destruction of their facilities, epidemics or work stoppages. Any shortage of raw materials or components or an inability to control costs associated with manufacturing could increase our costs or impair our ability to ship orders in a timely and cost-efficient manner. As a result, we could experience cancellations of orders, refusal to accept deliveries or a reduction in our prices and margins, any of which could harm our financial performance and results of operations.

The outbreak of COVID-19 has led to work and travel restrictions globally which in turn has led to factory closures, interruptions in supply chains, increased regulation and workforce shortages. These issues and others may make it difficult for our suppliers and manufacturers to source raw materials or components, manufacture finished goods and export our products. There may be significant and material disruptions to our supply chain and operations, and delays in the manufacture and shipment of our products, which may then have a material adverse effect on our business or results of operations.

Moreover, there can be no assurance that such manufacturers and suppliers will not refuse to supply us at prices we deem acceptable, independently market their own competing products in the future, or otherwise discontinue their relationships with us. Our failure to maintain these existing manufacturing and supplier relationships, or to establish new relationships on similar terms in the future, could have a material adverse effect on our business, results of operations, financial condition and liquidity.

In particular, certain of our products have a number of components and subassemblies produced by outside suppliers. In addition, for certain of these items, we qualify only a single source of supply with long lead times, which can magnify the risk of shortages or result in excess supply and also decreases our ability to negotiate price with our suppliers. Also, if we experience quality problems with suppliers, then our production schedules could be significantly delayed or costs significantly increased, which could have an adverse effect on our business, liquidity, results of operation and financial position.

In addition, the ongoing effectiveness of our supply chain is dependent on the timely performance of services by third parties shipping products and materials to and from our warehouse facilities and other locations. If we encounter problems with these shipments, our ability to meet retailer expectations, manage inventory, complete sales and achieve objectives for operating efficiencies could be materially adversely affected and we may be required to incur material additional costs for expedited shipping, including air freight. We have experienced some of these problems in the past and we cannot assure you that we will not experience similar problems in the future. 

Our brands face significant competition from other consumer electronics companies and this competition could have a material adverse effect on our financial condition and results of operations.

We compete with other producers of gaming accessories, including the video game console manufacturers. Our competitors may undertake more extensive marketing campaigns, adopt more aggressive pricing policies, or develop more commercially successful products for the personal computer or video game platforms than we do. In addition, competitors with large product lines and popular products, in particular the video game console manufacturers, typically have greater leverage with retailers, distributors and other customers, who may be willing to promote products with less consumer appeal in return for access to those competitors’ more popular products.

In the event that a competitor reduces prices, we could be forced to respond by lowering our prices to remain competitive. If we are forced to lower prices, we may be required to “price protect” products that remain unsold in our customers’ inventories at the time of the price reduction. Price protection results in our issuing a credit to our customers in the amount of the price reduction for each unsold unit in that customer’s inventory. Our price protection policies, which are customary in the industry, can have a major impact on our profitability.

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The industries in which we operate are subject to competition in an environment of rapid technological change, and if we do not adapt to, and appropriately allocate our resources among, emerging technologies, our revenues could be negatively affected.

We must make substantial product development and other investments to align our product portfolio and development efforts in response to market changes in the gaming industry. We must anticipate and adapt our products to emerging technologies in order to keep those products competitive. When we choose to incorporate a new technology into our products or to develop a product for a new platform or operating system, we are often required to make a substantial investment prior to the introduction of the product. If we invest in the development of a new technology or for a new platform that does not achieve significant commercial success, our revenues from those products likely will be lower than anticipated and may not cover our costs. Further, our competitors may develop or adapt to an emerging technology more quickly or effectively than we do, creating products that are technologically superior to ours, more appealing to consumers, or both.

New and emerging technologies and alternate platforms for gaming, such as mobile devices and virtual reality devices, could make the consoles for which our headsets are designed less attractive or, in time, obsolete, which could require us to transition our business model such as develop products for other gaming platforms. 

There are numerous steps required to develop a product from conception to commercial introduction and to ensure timely shipment to retail customers, including designing, sourcing and testing the electronic components, receiving approval of hardware and other third-party licensors, factory availability and manufacturing and designing the graphics and packaging. Any difficulties or delays in the product development process will likely result in delays in the contemplated product introduction schedule. It is common in new product introductions or product updates to encounter technical and other difficulties affecting manufacturing efficiency and, at times, the ability to manufacture the product at all. Although these difficulties can be corrected or improved over time with continued manufacturing experience and engineering efforts, if one or more aspects necessary for the introduction of products are not completed as scheduled, or if technical difficulties take longer than anticipated to overcome, the product introductions will be delayed, or in some cases may be terminated. No assurances can be given that our products will be introduced in a timely fashion, and if new products are delayed, our sales and revenue growth may be limited or impaired.

A significant portion of our revenue is derived from a few large customers, and the loss of any such customer, or a significant reduction in purchases by such customer, could have a material adverse effect on our business, financial condition and results of operations.

During 2020, our three largest individual customers accounted for approximately 47% of our gross sales in the aggregate. The loss of, or financial difficulties experienced by, any of these or any of our other significant customers, including as a result of the bankruptcy of a customer, could have a material adverse effect on our business, results of operations, financial condition and liquidity. We do not have long-term agreements with these or other significant customers and our agreements with these customers do not require them to purchase any specific amount of products. All of our customers generally purchase from us on a purchase order basis. As a result, agreements with respect to pricing, returns, cooperative advertising or special promotions, among other things, are subject to periodic negotiation with each customer. No assurance can be given that these or other customers will continue to do business with us or that they will maintain their historical levels of business. In addition, the uncertainty of product orders can make it difficult to forecast our sales and allocate our resources in a manner consistent with actual sales, and our expense levels are based in part on our expectations of future sales. If our expectations regarding future sales are inaccurate, we may be unable to reduce costs in a timely manner to adjust for sales shortfalls. In addition, financial difficulties experienced by a significant customer could increase our exposure to uncollectible receivables and the risk that losses from uncollected receivables exceed the reserves we have set aside in anticipation of this risk or limit our ability to continue to do business with such customers.

If our marketing efforts do not effectively raise the recognition and reputation of our brands, we may not be able to successfully implement our gaming accessory growth strategy. Additionally, Turtle Beach relies on its partnerships with influencers, athletes and esports teams to expand our market and promote our products, which may not perform to our expectations.

We believe that our ability to extend the recognition and favorable perception of our Turtle Beach brand, and the recently acquired ROCCAT and NEAT brands, is critical to implement our gaming accessory growth strategy, which includes maintaining our strong position in console gaming headsets and building our brand recognition and product appeal in PC gaming headsets, keyboards, and mice as well as in additional new categories over time.  These efforts incur significant costs in marketing and these expenditures, however, may not result in a sufficient increase in net sales to cover such costs.

Relationships with new and established influencers, athletes and esports teams have been, and will continue to be important to our future success. We rely on these partners to assist us in generating increased acceptance and use of our product offerings. We have established a number of these relationships, and our growth depends in part on establishing new relationships and maintaining existing ones. Certain partners may not view their relationships with us as significant to their own businesses, and they may reassess their commitment to us or decide to partner with our competitors in the future. We cannot guarantee that any partner will perform their obligations as agreed or that we would be able to specifically enforce any agreement with them. If any partner does not perform consistent with our agreements, we may be subject to reputational or social media risks. Additionally, our failure to maintain and expand these relationships may adversely impact our future revenue.

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Our net sales and operating income fluctuate on a seasonal basis and decreases in sales or margins during peak seasons could have a disproportionate effect on our overall financial condition and results of operations.

Historically, a significant portion of our annual revenues have been generated during the holiday season of September to December. If we do not accurately forecast demand for particular products, we could incur additional costs or experience manufacturing delays. Any shortfall in net sales during this period would cause our annual results of operations to suffer significantly.

Demand for our products depends on many factors such as consumer preferences and the introduction or adoption of game platforms and related content and can be difficult to forecast. If we misjudge the demand for our products, we could face the following problems in our operations, each of which could harm our operating results:

 

If our forecasts of demand for products are too high, we may accumulate excess inventories of products, which could lead to markdown allowances or write-offs affecting some or all of such excess inventories. We may also have to adjust the prices of our existing products to reduce such excess inventories;

 

If demand for specific products increases beyond what we forecast, our suppliers and third-party manufacturers may not be able to increase production or obtain required components quickly enough to meet the demand. Our failure to meet market demand may lead to missed opportunities to increase our base of gamers, damage our relationships with retailers or harm our business;

 

The on-going transition to new console platforms increases the likelihood that we could fail to accurately forecast demand for headsets and other accessories for these platforms.

Our results of operations and financial condition may be adversely affected by global business, political, operational, financial and economic conditions.

We face global business, political, operational, financial and economic risks inherent in international business, many of which are beyond our control, including:

 

trade restrictions, higher tariffs, currency fluctuations or the imposition of additional regulations relating to import or export of our products, especially in China, where many of our Turtle Beach products are manufactured, which could force us to seek alternate manufacturing sources or increase our costs;

 

difficulties obtaining domestic and foreign export, import and other governmental approvals, permits and licenses, and compliance with foreign laws, which could halt, interrupt or delay our operations if we cannot obtain such approvals, permits and licenses;

 

compliance with anti-corruption laws, including the U.S. Foreign Corrupt Practices Act of 1977, the U.K. Bribery Act 2010, the European Union Anti-Corruption Act and other similar laws, or non-compliance that could subject us to trade sanctions administered by the Office of Foreign Assets Control, the U.S. Department of Commerce and equivalent foreign entities;

 

difficulties encountered by our international distributors or us in staffing and managing foreign operations or international sales, including higher labor costs;

 

transportation delays and difficulties of managing international distribution channels;

 

longer payment cycles for, and greater difficulty collecting, accounts receivable;

 

political and economic instability, including wars, terrorism, political unrest, boycotts, curtailment of trade and other business restrictions, any of which could materially and adversely affect our net sales and results of operations; 

 

public health issues (for example, an outbreak of a contagious disease such as COVID-19); and

 

natural disasters.

Any of these factors could reduce our net sales, decrease our gross margins, increase our expenses or reduce our profitability. Should we establish our own operations in international territories where we currently utilize a distributor, we will become subject to greater risks associated with operating outside of the United States.

The electronics industry in general has historically been characterized by a high degree of volatility and is subject to substantial and unpredictable variations resulting from changing business cycles. Our operating results will be subject to fluctuations based on general economic conditions, and in particular conditions that impact discretionary consumer spending. Downturns in the worldwide economy could adversely affect our business.  For example, the health crisis caused by COVID-19 has caused a downturn in the worldwide economy and resulted in adverse economic conditions across the world. If these conditions continue, we could experience a reduction in demand for our products or a lengthening of consumer replacement schedules for our products. Reduced demand for these products could result in decreases in our average selling prices and product sales. A deterioration of current conditions in worldwide credit markets could limit our ability to obtain financing. A lack of available credit in financial markets may adversely affect the ability of our commercial customers to finance purchases and operations and could result in an absence of orders or spending for our products as well as create supplier disruptions. We are unable to predict the likely duration and severity of any adverse economic conditions and disruptions in financial markets and the effects they will have on our business and its financial condition. Difficult economic conditions may also result in a higher rate of losses on our accounts receivables due to defaults or bankruptcies. As a result, a downturn in the worldwide economy could have a material adverse effect on our business, results of operations or financial condition.

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If we fail to maintain an effective system of internal controls, we may not be able to accurately report financial results or prevent fraud, which could have an adverse effect on our business and financial condition.

Effective internal controls are necessary to provide reliable financial reports and to assist in the effective prevention of fraud. Any inability to provide reliable financial reports or prevent fraud could harm our business. The Sarbanes-Oxley Act of 2002 requires, among other things, that we evaluate our systems and processes and test our internal controls over financial reporting to allow management and our independent registered public accounting firm, as applicable, to report on the effectiveness of our internal control over financial reporting. We have reported the remediation of a material weakness related to the review of material non-routine transactions or events disclosed in our 2018 Annual Report on Form 10-K.  In the future, if we are not able to remediate any identified material weakness or otherwise comply with the requirements of Section 404 of the Sarbanes-Oxley Act, or if we or our independent registered public accounting firm identifies deficiencies in our internal control over financial reporting that are deemed to be material weaknesses, investors could lose confidence in the accuracy and completeness of our financial reports, the market price of our common stock could decline and we could be subject to sanctions, investigations by the Nasdaq Stock Market, LLC, the SEC or other regulatory authorities, or shareholder litigation.

In addition, failure to maintain effective internal controls could result in financial statements that do not accurately reflect our financial condition or results of operations. There can be no assurance that we will be able to maintain a system of internal controls that fully complies with the requirements of the Sarbanes-Oxley Act of 2002 or that our management and independent registered public accounting firm will continue to conclude that our internal controls are effective.

Risks Related to our Intellectual Property and other Legal Matters

Our competitive position will be adversely damaged if our products are found to infringe on the intellectual property rights of others.

Other companies and our competitors may currently own or obtain patents or other proprietary rights that might prevent, limit or interfere with our ability to make, use or sell our products. Although we do not believe that our products infringe the proprietary rights of any third parties, we have received notices of alleged infringement in the past and there can be no assurance that infringement or other legal claims will not be asserted against us in the future or that we will not be found to infringe the intellectual property rights of others. The electronics industry is characterized by vigorous protection and pursuit of intellectual property rights and positions, resulting in significant and often protracted and expensive litigation. In the event of a successful claim of infringement against us and our failure or inability to license the infringed technology, our business and operating results could be adversely affected. Any litigation or claims, whether or not valid, could result in substantial costs and diversion of our resources. An adverse result from intellectual property litigation could cause us to do one or more of the following:

 

cease selling, incorporating or using products or services that incorporate the challenged intellectual property;

 

obtain a license from the holder of the infringed intellectual property right, which license may not be available on reasonable terms, if at all; and/or

 

redesign products or services that incorporate the disputed technology.

If we take any of the foregoing actions, we could face substantial costs and shipment delays and our business could be seriously harmed. Although we carry general liability insurance, our insurance may not cover claims of this type or may be inadequate to insure us for all liability that may be imposed.

In addition, it is possible that our customers or end users may seek indemnity from us in the event that our products are found or alleged to infringe the intellectual property rights of others. Any such claim for indemnity could result in substantial costs to us that could adversely impact our operating results.

If we are unable to obtain and maintain intellectual property rights and/or enforce those rights against third parties who are violating those rights, our business could suffer.

We rely on various intellectual property rights, including patents, trademarks, trade secrets and trade dress to protect our Turtle Beach brand name, reputation, product appearance, and technology. Although we have entered into confidentiality and invention assignment agreements with our employees and contractors, and nondisclosure agreements with selected parties with whom we conduct business to limit access to and disclosure of our proprietary information, these contractual arrangements and the other steps we have taken to protect our intellectual property may not prevent misappropriation of that intellectual property or deter independent third-party development of similar technologies. Monitoring the unauthorized use of proprietary technology and trademarks is costly, and any dispute or other litigation, regardless of outcome, may be costly and time consuming and may divert the attention of management and key personnel from our business operations. The steps taken by us may not prevent unauthorized use of proprietary technology or trademarks. Many features of our products are not protected by patents; we may not have the legal right to prevent others from reverse engineering or otherwise copying and using these features in competitive products. If we fail to protect or to enforce our intellectual property rights successfully, our competitive position could suffer, which could adversely affect our financial results.

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We are susceptible to counterfeiting of our products, which may harm our reputation for producing high-quality products and force us to incur expenses in enforcing our intellectual property rights. Such claims and lawsuits can be expensive to resolve, require substantial management time and resources, and may not provide a satisfactory or timely result, any of which may harm our results of operations. As some of our products are sold internationally, we are also dependent on the laws of many countries to protect and enforce our intellectual property rights. These laws may not protect intellectual property rights to the same extent or in the same manner as the laws of the United States.

Further, we are party to licenses that grant us rights to intellectual property, including trademarks, which are necessary or useful to our Turtle Beach business. One or more of our licensors may allege that we have breached our license agreement with them, and seek to terminate our license. If successful, this could result in our loss of the right to use the licensed intellectual property, which could adversely affect our ability to commercialize our technologies or products, as well as harm our competitive business position and our business prospects.

Our success also depends in part on our ability to obtain and enforce intellectual property protection of our technology, particularly our patents. There is no guarantee any patent be granted on any patent application that we have filed or may file. Claims allowed from existing or pending patents may not be of sufficient scope or strength to protect the economic value of our technologies. Further, any patent that we may obtain will expire at some point, and it is possible that it may be challenged, invalidated or circumvented even prior to expiration.

We may initiate claims or litigation against third parties in the future for infringement of our proprietary rights or to determine the scope and validity of our proprietary rights or the proprietary rights of our competitors. These claims could result in costly litigation and divert the efforts of our technical and management personnel. As a result, our operating results could be adversely affected and our financial condition could be negatively impacted.

We are dependent upon third-party intellectual property to manufacture some of our products.

The performance of certain technology used in new generation consoles, such as integrated voice and chat audio from the Xbox platforms is improved by a licensed component to ensure compatibility with our products.

While we currently believe that we have the necessary licenses, or can obtain the necessary licenses, in order to produce compatible products, there is no guarantee that our licenses will be renewed or granted in the first instance in the future. Moreover, if these first parties enter into license agreements with companies other than us for their “closed systems” or if we are unable to obtain sufficient quantities of these headset adapters or chips, we would be placed at a competitive disadvantage.

In order for certain of our headsets to connect to the Xbox platforms’ advanced features and controls, a proprietary computer chip or wireless module is required. As a result, with respect to our products designed for the Xbox platforms, we are currently reliant on Microsoft or their designated supplier to provide us with sufficient quantities. If we are unable to obtain sufficient quantities of these headset adapters or chips, sales of such Xbox platform headsets and consequently our revenues would be adversely affected.

We are licensed and approved by Microsoft to develop and sell Xbox platform compatible audio products pursuant to a license agreement under which we have the right to manufacture (including through third party manufacturers), market and sell audio products for the Xbox platform video game console. Our current Xbox platform headsets are dependent on this license and headsets for future Xbox consoles may also be dependent on this license. Microsoft has the right to terminate that license under certain circumstances set forth in the agreement. Should that license be terminated, our headset offerings may be limited, which could significantly reduce our revenues. While Sony does not currently require a license for audio products to be compatible with PlayStation® consoles, they could do so in the future.

Accordingly, Microsoft, Sony and other third-party gaming platform manufacturers may control our ability to manufacture headsets compatible with their platforms, and could cause unanticipated delays in the release of our products as well as increases to projected development, manufacturing, licensing, marketing or distribution costs, any of which could negatively impact our business.

We are party to ongoing stockholder litigation, and in the future could be party to additional stockholder litigation, any of which could harm our business, financial condition and operating results.

We have had, and may continue to have, actions brought against us by stockholders in connection with past transactions, changes in our stock price or other matters. Any such claims, whether or not resolved in our favor, could divert our management and other resources from the operation of our business and otherwise result in unexpected and substantial expenses that would adversely and materially impact our business, financial condition and operating results. For example, and as further described in Note 14, “Commitments and Contingencies,” we are involved in legal proceedings related to the merger of VTBH and Paris Acquisition Corp. involving certain of our stockholders.

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Risks Related to Liquidity

In the past, we have depended upon the availability of capital under our revolving credit facility to finance our operations. Any additional financing that we may need may not be available on favorable terms, or at all.

In addition to cash flow generated from operations, we have financed our operations with a credit facility (the “Credit Facility”) provided by Bank of America, as Agent, Sole Lead Arranger and Sole Bookrunner. If we are unable to comply with the financial and other covenants contained in the Credit Facility and are unable to obtain a waiver under the Credit Facility, Bank of America may declare any outstanding borrowings under the Credit Facility immediately due and payable. If we had borrowing under the Credit Facility, such an event would have an immediate and material adverse impact on our business, results of operations, and financial condition. We could be required to obtain additional financing from other sources, and we cannot predict whether or on what terms, if any, additional financing might be available. If we were required to seek additional financing and were unable to obtain it, we might need to change our business and capital expenditure plans, which may have a materially adverse effect on our business, financial condition and results of operations. In addition, any debt under the Credit Facility could make it more difficult to obtain other debt financing in the future. The Credit Facility contains certain financial covenants and other restrictions that limit our ability, among other things, to incur certain additional indebtedness; pay dividends and repurchase stock; make certain investments and other payments; enter into certain mergers or consolidations; engage in sale and leaseback transactions and transactions with affiliates; and encumber and dispose of assets.

If we violate any of these covenants, we will likely be unable to borrow under the Credit Facility. If a default occurs and is not timely cured or waived, Bank of America could seek remedies against us, including termination or suspension of obligations to make loans and issue letters of credit, and acceleration of amounts then outstanding under the applicable Credit Facility. No assurance can be given that we will be able to maintain compliance with these covenants in the future. The Credit Facility is asset based and can only be drawn down in an amount to which eligible collateral exists and can be negatively impacted by extended collection of accounts receivable, unexpectedly high product returns and slow-moving inventory, among other factors. In addition, we have granted the lender a first-priority lien against substantially all of our assets, including trade accounts receivable and inventories. Failure to comply with the operating restrictions or financial covenants could result in the lender terminating or suspending its obligation to make loans and issue letters of credit to us.

General Risk Factors

If we are unable to protect our information systems against service interruption, misappropriation of data or breaches of security, our operations could be disrupted, our reputation may be damaged, and we may be financially liable for damages.

We rely heavily on information systems to manage our operations, including a full range of retail, financial, sourcing and merchandising systems. We regularly make investments to upgrade, enhance or replace these systems, as well as leverage new technologies to support our growth strategies. In addition, we have implemented enterprise-wide initiatives that are intended to standardize business processes and optimize performance. Further, while many of our employees and certain suppliers with whom we do business operate in a remote working environment during the COVID-19 pandemic, the risk of cybersecurity attacks and data breaches, particularly through phishing attempts, may be increased as we and third-parties with whom we interact leverage our IT infrastructure in previously unanticipated ways during the ongoing COVID-19 pandemic. Any delays or difficulties in transitioning to new systems or integrating them with current systems or the failure to implement our initiatives in an orderly and timely fashion could result in additional investment of time and resources, which could impair our ability to improve existing operations and support future growth, and ultimately have a material adverse effect on our business.

The reliability and capacity of our information systems are critical. Despite preventative efforts, our systems are vulnerable to damage or interruption from, among other things, natural disasters, technical malfunctions, inadequate systems capacity, human error, power outages, computer viruses and security breaches. Any disruptions affecting our information systems could have a material adverse impact on our business. In addition, any failure to maintain adequate system security controls to protect our computer assets and sensitive data, including associate and client data, from unauthorized access, disclosure or use could damage our reputation with our associates and our clients, exposing us to financial liability, legal proceedings (such as class action lawsuits), and/or regulatory action. While we have implemented measures to prevent security breaches and cyber incidents, our preventative measures and incident response efforts may not be entirely effective. As a result, we may not be able to immediately detect any security breaches, which may increase the losses that we would suffer. Finally, our ability to continue to operate our business without significant interruption in the event of a disaster or other disruption depends, in part, on the ability of our information systems to operate in accordance with our disaster recovery and business continuity plans.

Our reliance on information systems and other technology also gives rise to cybersecurity risks, including security breach, espionage, system disruption, theft and inadvertent release of information. The occurrence of any of these events could compromise our networks, and the information stored there could be accessed, publicly disclosed, lost or stolen. Any such access, disclosure or other loss of information could result in legal claims or proceedings, liability or regulatory penalties under laws protecting the privacy of personal information, disrupt operations, and damage our reputation, which could adversely affect our business. In addition, as security threats continue to evolve we may need to invest additional resources to protect the security of our systems.

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The United Kingdom’s exit of the European Union may negatively impact our operations.

The changes to the trading relationship between the United Kingdom (U.K.) and European Union resulting from the U.K’s exit from the European Union on January 31, 2020 (“Brexit”) will likely result in increased cost of goods imported into and exported from the U.K. and may decrease the profitability of our U.K. and other European operations. Additional currency volatility could drive a weaker British pound, which increases the cost of goods imported into our U.K. operations and may decrease the profitability of our U.K. operations. A weaker British pound versus the Euro and U.S. dollar also causes local currency results of our U.K. operations to be translated into fewer U.S. dollars during a reporting period. Agreements regarding tariff, trade, regulatory and other aspects of the U.K.’s future relationship with the European Union and its member status were reached on December 24, 2020.  The U.K. parliament approved the agreements on December 30, 2020 and the European Parliament will approve the agreement in 2021.  As such, on January 1, 2021, provisional application of the agreement took effect and the new rules entered into force.

The market price of our common stock may fluctuate significantly.

We cannot predict the prices at which our common stock may trade. The market price of our common stock may fluctuate widely, depending on many factors, some of which may be beyond our control, including but not limited to:

 

actual or anticipated fluctuations in our operating results due to factors related to our business;

 

success or failure of our business strategy;

 

the success of third-party gaming platforms and certain game titles to drive sales;

 

our quarterly or annual earnings, or those of other companies in our industry;

 

changes in earnings estimates by securities analysts or our ability to meet those estimates;

 

our ability to execute transformation, restructuring and realignment actions;

 

the operating and stock price performance of other comparable companies;

 

overall market fluctuations; and

 

general economic conditions and other external factors.

Stock markets in general have experienced volatility that has often been unrelated to the operating performance of a particular company. These broad market fluctuations could adversely affect the trading price of our common stock.  These fluctuations may also cause short sellers to periodically enter the market on the belief that we may experience worse results in the future.  We cannot predict the actions of market participants and, therefore, can offer no assurances that the market for our common stock will be stable or appreciate over time.

Loss of our key management and other personnel could impact our business.

Our future success depends largely upon the continued service of our executive officers and other key management and technical personnel and on our ability to continue to attract, retain and motivate qualified personnel. In addition, competition for skilled and non-skilled employees among companies like ours is intense, and the loss of skilled or non-skilled employees or an inability to attract, retain and motivate additional skilled and non-skilled employees required for the operation and expansion of our business could hinder our ability to conduct research activities successfully, develop new products, attract customers and meet customer shipments.

Our business could be adversely affected by significant movements in foreign currency exchange rates.

Our business could be adversely affected by significant movements in foreign currency exchange rates.  We are exposed to fluctuations in foreign currency transaction exchange rates, particularly with respect to the Euro and British Pound.  Any significant change in the value of currencies of the countries in which we do business relative to the value of the U.S. dollar could affect our ability to sell products competitively and control our cost structure.  Additionally, we are subject to foreign exchange translation risk due to changes in the value of foreign currencies in relation to our reporting currency, the U.S. Dollar.  The translation risk is primarily concentrated in the exchange rate between the U.S. dollar and the British Pound. As the U.S. dollar fluctuates against other currencies in which we transact business, revenue and income can be impacted.

Any acquisitions we pursue could disrupt our business and harm our financial condition and results of operations.

As part of our business strategy, we review and intend to continue to review acquisition opportunities that we believe would be advantageous or complementary to the development of our business. If we make any acquisitions, we could take any or all of the following actions, any one of which could adversely affect our business, financial condition, results of operations or share price:

 

use a significant portion of our available cash;

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require a significant devotion of management’s time and resources in the pursuit or consummation of any acquisition;

 

incur debt, which may not be available to us on favorable terms and may adversely affect our liquidity;

 

issue equity or equity-based securities that would dilute existing stockholders’ ownership percentage;

 

assume contingent and other liabilities; and

 

take charges in connection with such acquisitions.

Acquisitions also entail numerous other risks, including, without limitation: difficulties in assimilating acquired operations, products, technologies and personnel; unanticipated costs; diversion of management’s attention from existing operations; risks of entering markets in which we have limited or no prior experience; regulatory approvals; unanticipated costs or liabilities; and potential loss of key employees from either our existing business or the acquired organization. Acquisitions may result in accounting charges for restructuring and other expenses, amortization of purchased technology and intangible assets and stock-based compensation expense, any of which could materially and adversely affect our operating results. We may not be able to realize the anticipated synergies, innovation, operational efficiencies, benefits of or successfully integrate with our existing business the businesses, products, technologies or personnel that we acquire, and our failure to do so could harm our business and operating results.

Our products may be subject to warranty claims, product liability and product recalls.

We may be subject to product liability or warranty claims that could result in significant direct or indirect costs, or we could experience greater returns from retailers than expected, which could harm our net sales. The occurrence of any quality problems due to defects in our products could make us liable for damages and warranty claims in excess of any existing reserves. In addition to the risk of direct costs to correct any defects, warranty claims, product recalls or other problems, any negative publicity related to the perceived quality of our products could also affect our brand image, decrease retailer and distributor demand and our operating results and financial condition could be adversely affected. Changes in production levels or processes could result in increased manufacturing errors, as well as higher component, manufacturing and shipping costs, all of which could reduce our profit margins, result in prices increases and harm our relationships with retailers and consumers.

We could incur unanticipated expenses in connection with warranty or product liability claims relating to a recall of one or more of our products, which could require significant expenditures to defend. Additionally, we may be required to comply with governmental requirements to remedy the defect and/or notify consumers of the problem that could lead to unanticipated expense, and possible product liability litigation against a customer or us.

Changes in laws or regulations or the manner of their interpretation or enforcement could adversely impact our financial performance and restrict our ability to operate our business or execute our strategies.

New laws or regulations, or changes in existing laws or regulations or the manner of their interpretation or enforcement, may create uncertainty for public companies, increase our cost of doing business and restrict our ability to operate our business or execute our strategies. This could include, among other things, compliance costs and enforcement under the Dodd-Frank Wall Street Reform and Consumer Protection Act (the “Dodd-Frank Act”).

We continually evaluate and monitor developments with respect to new and proposed laws, regulations, standards and rules and cannot predict or estimate the amount of the additional costs we may incur or the timing of such costs. Any such new or changed laws, regulations, standards and rules may be subject to varying interpretations and as a result, their application in practice may evolve over time as new guidance is provided by regulatory and governing bodies. This could result in continuing uncertainty regarding compliance matters and higher costs necessitated by ongoing revisions to disclosure and governance practices. We are committed to maintaining high standards of corporate governance and public disclosure. If our efforts to comply with new or changed laws, regulations and standards differ from the activities intended by regulatory or governing bodies due to ambiguities related to practice, regulatory authorities may initiate legal proceedings against us and we may be harmed.

We are subject to various environmental laws and regulations that could impose substantial costs on us and may adversely affect our business, operating results and financial condition.

Our operations and some of our products are regulated under various federal, state, local and international environmental laws. In addition, regulatory bodies in many of the jurisdictions in which we operate propose, enact and amend environmental laws and regulations on a regular basis. If we were to violate or become liable under these environmental laws, we could be required to incur additional costs to comply with such regulations and may incur fines and civil or criminal sanctions, third-party property damage or personal injury claims, or could be required to incur substantial investigation or remediation costs. Liability under environmental laws may be joint and several and without regard to comparative fault. The ultimate costs under environmental laws and the timing of these costs are difficult to predict. Although we cannot predict the ultimate impact of any new environmental laws and regulations, such laws may result in additional costs or decreased revenue, and could require that we redesign or change how we manufacture our products, any of which could have a material adverse effect on our business. Additionally, to the extent that our competitors choose not to abide by these environmental laws and regulations, we may be at a cost disadvantage, thereby hindering our ability to effectively compete in the marketplace.

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Item 1B - Unresolved Staff Comments

None.

Item 2 – Properties

The table below describes our principal facilities as of December 31, 2020.

 

Location

 

State or

Country

 

Principal Business Activity

 

Approx.

Square

Feet

 

 

Expiration Date

of Lease

White Plains

 

NY

 

Corporate Headquarters

 

 

15,800

 

 

2031

San Diego

 

CA

 

Administration

 

 

13,450

 

 

2021

Germany

 

EU

 

Administration

 

 

800

 

 

2022

Taiwan

 

EU

 

Administration

 

 

14,800

 

 

2025

Basingstoke

 

U.K.

 

Administration

 

 

3,650

 

 

2027

 

 

 

The Company is subject to various legal proceedings and claims that arise in the ordinary course of its business. Although the amount of any liability that could arise with respect to these actions cannot be determined with certainty, in the Company’s opinion, any such liability will not have a material adverse effect on its consolidated financial position, consolidated results of operations or liquidity.

 

Shareholders Class Action: On August 5, 2013, VTBH and the Company (f/k/a Parametric Sound Corporation) announced that they had entered into the Merger Agreement pursuant to which VTBH would acquire approximately 80% ownership interest and existing shareholders would maintain approximately 20% ownership interest in the combined company (the “Merger”). Following the announcement, several shareholders filed class action lawsuits in California and Nevada seeking to enjoin the Merger. The plaintiffs in each case alleged that members of the Company’s Board of Directors breached their fiduciary duties to the shareholders by agreeing to a merger that allegedly undervalued the Company. VTBH and the Company were named as defendants in these lawsuits under the theory that they had aided and abetted the Company’s Board of Directors in allegedly violating their fiduciary duties. The plaintiffs in both cases sought a preliminary injunction seeking to enjoin closing of the Merger, which, by agreement, was heard by the Nevada court with the California plaintiffs invited to participate. On December 26, 2013, the court in the Nevada case denied the plaintiffs’ motion for a preliminary injunction. Following the closing of the Merger, the Nevada plaintiffs filed a second amended complaint, which made essentially the same allegations and sought monetary damages as well as an order rescinding the Merger. The California plaintiffs dismissed their action without prejudice, and sought to intervene in the Nevada action, which was granted. Subsequent to the intervention, the plaintiffs filed a third amended complaint, which made essentially the same allegations as prior complaints and sought monetary damages. On June 20, 2014, VTBH and the Company moved to dismiss the action, but that motion was denied on August 28, 2014. On September 14, 2017, a unanimous en banc panel of the Nevada Supreme Court granted defendants’ petition for writ of mandamus and ordered the trial court to dismiss the complaint but provided a limited basis upon which plaintiffs could seek to amend their complaint. Plaintiffs amended their complaint on December 1, 2017 to assert the same claims in a derivative capacity on behalf of the Company, as a well as in a direct capacity, against VTBH, Stripes Group, LLC, SG VTB Holdings, LLC, and the former members of the Company’s Board of Directors. All defendants moved to dismiss this amended complaint on January 2, 2018, and those motions were denied on March 13, 2018. Defendants petitioned the Nevada Supreme Court to reverse this ruling on April 18, 2018. On June 15, 2018, the Nevada Supreme Court denied defendants’ writ petition without prejudice. The district court subsequently entered a pretrial schedule and set trial for November 2019. On January 18, 2019, the district court certified a class of shareholders of the Company as of January 15, 2014. On October 11, 2019, the parties notified the district court that they had reached a settlement that would resolve the pending action if ultimately approved by the Court. On January 13, 2020, the district court preliminarily approved the settlement between the plaintiffs and all defendants. A final approval hearing was held on May 18, 2020, wherein the Court approved the settlement and entered final judgment.

 

On May 22, 2020, PAMTP LLC, which purports to hold the claims of eight shareholders who opted out of the class settlement described above, brought suit against the Company, the Company’s CEO, Juergen Stark, Stripes Group, LLC, SG VTB Holdings, LLC, Kenneth Fox  and members of the Company’s Board of Directors prior to the merger in Nevada state court. This opt-out action asserts the same direct claims that were asserted by the class of shareholders described above. The defendants filed two motions to dismiss this complaint, which were heard on August 10, 2020. The Court denied those motions by order of August 20, 2020. Discovery is ongoing and the case is scheduled for trial in August 2021.

 

Commercial Dispute: On July 20, 2016, BigBen Interactive S.A. (“BigBen”) filed a statement of claim against VTB before the Regional Court of Berlin, Germany. The statement of claim alleged that VTB’s termination of a distribution agreement by and between BigBen and VTB breached the terms thereof and was invalid, and that BigBen was entitled to damages as a result. On September 30, 2020, the Company and BigBen mutually agreed to resolve this claim.

 

Employment Litigation: On April 20, 2017, a former employee filed an action in the Superior Court for the County of San Diego, State of California. The complaint alleges claims including wrongful termination, retaliation and various other provisions of the California Labor Code.

17

 


 

The complaint seeks unspecified economic and non-economic losses, as well as allegedly unpaid wages, unreimbursed business expenses statutory penalties, interest, punitive damages and attorneys’ fees. The Company filed a cross-complaint against the former employee on May 25, 2017 for certain activities related to his employment with the Company. Discovery is closed and the case was set for trial on April 6, 2020 in San Diego County Superior Court. Due to the continued closure of the Court, the April 6, 2020 trial date was vacated, and the current trial date is July 9, 2021.

 

Settlement of Disputes: On May 5, 2020, Jöllenbeck GmbH and First Wise Media GmbH, two of our distributors and affiliates of the sellers of the ROCCAT business, filed for insolvency in Germany. On June 30, 2020, the Company entered into a Settlement Agreement with those companies and the sellers of the ROCCAT business pursuant to which, among other things, the Company received a payment for certain outstanding claims and accounts receivable. On July 1, 2020, the insolvency proceedings for the two companies formally commenced. The Company has filed a claim in those proceedings for approximately €130,000 with respect to the remaining outstanding accounts receivable.

 

Intellectual Property dispute:  On November 24, 2020, ABP Technology Limited (ABP) issued a claim for trade mark infringement in the High Court of England and Wales against Voyetra Turtle Beach, Inc. (“VTB”) and Turtle Beach Europe Limited (“TBEU”) relating to the use by VTB and TBEU of the sign STEALTH on and in relation to gaming headsets in the UK. VTB and TBEU filed and served a Defence to the claim on February 2, 2021. The next stage in the proceedings will be a Case Management Conference (date to be set) at which the Court will give directions for each stage to trial. The trial is expected to be set for mid-2022.

 

The Company will continue to vigorously defend itself in the foregoing matters. However, litigation and investigations are inherently uncertain. Accordingly, the Company cannot predict the outcome of these matters. The Company has not recorded any accrual at December 31, 2020  for contingent losses associated with these matters based on its belief that losses, while possible, are not probable. Further, any possible range of loss cannot be reasonably estimated at this time. The unfavorable resolution of these matters could have a material adverse effect on the Company’s business, results of operations, financial condition, or cash flows. The Company is engaged in other legal actions, not described above, arising in the ordinary course of its business and, while there can be no assurance, believes that the ultimate outcome of these other legal actions will not have a material adverse effect on its business, results of operations, financial condition, or cash flows.

Item 4 - Mine Safety Disclosures

Not applicable.

18

 


 

PART II

Item 5 - Market for the Registrant’s Common Equity, Related Stockholder Matters and Issuer Purchases of Equity Securities

The Company’s stock is traded on the Nasdaq Global Market under the symbol “HEAR.” The number of holders of record of common stock at January 31, 2021 was 948.

Stock Performance Graph

Notwithstanding any statement to the contrary in any of our previous or future filings with the SEC, the following information relating to the price performance of our common stock shall not be deemed to be “filed” with the SEC for purposes of Section 18 of the Securities Exchange Act of 1934, as amended (the “Exchange Act”), to be “soliciting material” or subject to Rule 14A of the Exchange Act, or to be incorporated by reference into any of our filings under the Securities Act of 1933, as amended (the “Securities Act”) or the Exchange Act whether made before or after the date of this Report, except to the extent we specifically incorporate it by reference into such filing.

The following graph shows a comparison from December 31, 2015 through December 31, 2020 of the cumulative total return assuming a $100 investment in our common stock, the S&P 500 Index and the S&P 500 Consumer Durables Index. In accordance with the rules of the Securities and Exchange Commission, the returns are indexed to a value of $100 at December 31, 2015 and assume that all dividends, if any, were reinvested. The comparisons in this graph below are based on historical data and are not intended to forecast or be indicative of future performance of our common stock.

 

 

Dividend Policy

We have not paid regular cash dividends on our common stock and do not anticipate paying cash dividends in the foreseeable future. Any future determination to pay cash dividends will be at the discretion of our board of directors and will depend on our financial condition, operating results, capital requirements and such other factors as our board of directors deems relevant.

19

 


 

Unregistered Sale of Equity Securities and Issuer Purchases of Equity Securities

 

On April 9, 2019, the Company’s board of directors authorized a stock repurchase program to acquire up to $15.0 million of its common stock. Any repurchases under the program will be made from time to time on the open market at prevailing market prices. The following table summarizes, by month, the repurchases made during the three months ended December 31, 2020, under the repurchase program and in connection with shares repurchased from employees to satisfy tax withholding obligations in connection with the vesting of restricted stock awards.

 

 

 

Issuer Purchases of Equity Securities

 

 

 

Total

Number

of Shares

Purchased

 

 

Average

Price Paid

Per Share

 

 

Total Number

of Shares

Purchased As

Part of Publicly

Announced

Plans or

Programs

 

 

Approximate

Dollar Value

of Shares that

May Yet Be

Purchased Under

the Plans or

Programs

 

Period

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

October 1 - 31, 2020

 

 

 

 

$

 

 

 

 

 

 

 

November 1 - 30, 2020

 

 

6,204

 

 

$

17.80

 

 

 

 

 

 

 

December 1 - 31, 2020

 

 

 

 

$

 

 

 

 

 

 

 

Total

 

 

6,204

 

 

$

17.80

 

 

 

 

 

 

 

 

 

For the fourth quarter of 2020, we repurchased approximately $0.1 million of common shares related to employee transactions. These amounts represent common shares repurchased from employees in an amount equal to the statutory tax liability associated with the vesting of their equity awards, which is then remitted on behalf of the employee.

Securities Authorized for Issuance under Equity Compensation Plans

See Part III, Item 12 - Security Ownership of Certain Beneficial Owners and Management and Related Stockholder Matters in this Report for disclosure relating to our equity compensation plans. Such information will be included in our Proxy Statement or an amendment to this Report, which is incorporated herein by reference.

Item 6 - Selected Financial Data

The following table sets forth selected consolidated financial data for each of the five years ended December 31, 2020. This selected financial data should be read in conjunction with “Management’s Discussion and Analysis of Financial Condition and Results of Operations” and the consolidated financial statements and the notes thereto included in this Report.

 

 

 

Year Ended December 31,

 

 

 

2020

 

 

2019 (1)

 

 

2018

 

 

2017

 

 

2016 (2)

 

 

 

(in thousands, except per share data)

 

Net Revenue

 

$

360,093

 

 

$

234,663

 

 

$

287,437

 

 

$

149,135

 

 

$

173,978

 

Cost of Revenue

 

 

226,305

 

 

 

155,950

 

 

 

178,738

 

 

 

98,132

 

 

 

131,368

 

Gross Profit

 

 

133,788

 

 

 

78,713

 

 

 

108,699

 

 

 

51,003

 

 

 

42,610

 

Gross Margin

 

 

37.2

%

 

 

33.5

%

 

 

37.8

%

 

 

34.2

%

 

 

24.5

%

Operating income (loss)

 

 

49,167

 

 

 

10,427

 

 

 

54,041

 

 

 

4,798

 

 

 

(77,701

)

Operating Margin

 

 

13.7

%

 

 

4.4

%

 

 

18.8

%

 

 

3.2

%

 

 

(44.7

%)

Net income (loss)

 

$

38,746

 

 

$

17,944

 

 

$

39,190

 

 

$

(3,248

)

 

$

(87,182

)

Net earnings (loss) per share:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

$

2.62

 

 

$

1.24

 

 

$

2.90

 

 

$

(0.26

)

 

$

(7.18

)

Diluted

 

$

2.37

 

 

$

1.04

 

 

$

2.74

 

 

$

(0.26

)

 

$

(7.18

)

Weighted average number of shares:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Basic

 

 

14,801

 

 

 

14,483

 

 

 

13,512

 

 

 

12,336

 

 

 

12,148

 

Diluted

 

 

16,365

 

 

 

15,688

 

 

 

14,289

 

 

 

12,336

 

 

 

12,148

 

Balance Sheet Data:

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Cash and cash equivalents

 

 

46,681

 

 

 

8,249

 

 

 

7,078

 

 

 

5,247

 

 

 

6,183

 

Total Assets

 

 

203,453

 

 

 

131,351

 

 

 

121,920

 

 

 

94,251

 

 

 

94,800

 

Total Debt

 

 

 

 

 

15,655

 

 

 

37,385

 

 

 

70,265

 

 

 

66,875

 

Series B Redeemable Preferred Stock

 

 

 

 

 

 

 

 

 

 

 

18,921

 

 

 

17,480

 

 

(1)

In 2019, we acquired ROCCAT, which contributed revenue of $14.4 million in the year and $23.9 million of total assets on the date of acquisition.

(2)

Includes a $7.1 million charge for inventory reserves associated with the HyperSound restructuring and goodwill and other intangibles impairment charges of $63.2 million.

20

 


 

Item 7 - Management’s Discussion and Analysis of Financial Condition and Results of Operations

The following discussion should be read in conjunction with our consolidated financial statements and the notes thereto. This discussion summarizes the significant factors affecting our results of operations and the financial condition of our business during each of the fiscal years in the three-year period ended December 31, 2020.  

Turtle Beach Corporation (herein referred to as the “Company,” “we,” “us,” or “our”), headquartered in White Plains, New York, and incorporated in the state of Nevada in 2010, is a premier audio technology company with expertise and experience in developing, commercializing and marketing innovative products across a range of large addressable markets under the Turtle Beach® and ROCCAT® brands.

 

Turtle Beach is a worldwide leader of feature-rich headset solutions for use across multiple platforms, including video game and entertainment consoles, handheld consoles, personal computers (“PC”), tablets and mobile devices.

 

ROCCAT is a gaming headsets, keyboards, mice and other accessories brand focused in the personal computer peripherals market.

Business Trends

Gaming Headset Market

Based on sales tracking data from The NPD Group, Inc. (“NPD Group”), the console gaming headset market in our largest market, the United States, increased by 41.3% in 2020. This was the result of unprecedented growth in the console gaming headset market during the pandemic when new gamers entered the market, lapsed gamers started playing again, existing gamers played more, and non-gamers bought headsets for remote learning.   The Company’s market share in the United States was over 45% in 2020.

Traditionally, the gaming market has grown as new gamers enter and some existing gamers upgraded headsets. However, the emergence of battle royale games that are highly social, collaborative and competitive, contributed to a higher growth in the video game industry and a higher proportion of gamers using headsets. And given that the vast majority of the gaming headset market is driven by replacement and upgrading, this large influx of new gaming headset users could drive an increase in demand for gaming headsets in future years.

Additionally, with the COVID-19 pandemic and consumers following stay-at-home guidance, gaming headsets have seen increase driven by an overall increase in gaming, and by work-from-home, school/learn-from-home, and because chatting with friends during online play has become a main form of daily interactivity and communication for many.

PC Accessories Market

PC gaming in the U.S. has seen a resurgence in popularity the past few years while it continues to be a main gaming platform internationally, driven by big AAA game launches, PC-specific esports leagues, teams and players, content creators and influencers, cross-platform play, and more. While most games are available on multiple platforms, gaming on PC offers advantages including improved graphics, the increased speed and precision of mouse/keyboard controls, and more. Gaming mice and keyboards are engineered to provide gamers with higher-end performance and a superior gaming experience through benefits including faster response times, improved materials and build quality, programmable buttons and keys, software suites to customize and control devices and settings, and more.

Audio Accessories Market

On January 12, 2021, we announced the acquisition of Neat Microphones (“Neat”) that creates, manufactures and sells high-quality digital USB and analog microphones. Neat‘s accomplished leadership team includes the former founders of Blue Microphones, inventors of the first high-performance USB microphone, and pioneers behind other award-winning microphones that have revolutionized how professionals and consumers capture their voice, music and more. The acquisition enables our entry into the $2.3 billion global microphone market, which is experiencing rapid growth in the digital/USB accessories segment where Neat’s product innovation is focused.

Seasonality

Our gaming accessories business is seasonal with a significant portion of sales and profits typically occurring around the holiday period. Historically, more than 45% of revenues are generated during the period from September through December as new products are introduced and consumers engage in holiday shopping.

In connection with the seasonality of the business, historically the Company’s borrowings on the revolving credit facility increased as a result of the holiday inventory build leading up to year-end and declined on gross receipts during the first quarter of the following year. In 2020, as a result of the unprecedented revenue, the Company ended the year with no outstanding borrowings under its revolving credit facility.

21

 


 

COVID-19 Outlook

The effects of the global pandemic and the measures being taken in response are uncertain and difficult to predict. As a result of government mandated stay-at-home orders, the Company’s 2020 revenues have exceeded historical levels as the overall gaming and headset markets have experienced an unprecedented surge in demand. However, the risk of a global economic recession may adversely impact the long-term demand and/or pricing for our products, constrain retail sales of our products, constrain supply of our products, or delay the supply of the next generation Xbox and PlayStation® consoles.

Results of Operations

Management Overview

During 2020, driven by stay-at-home orders, demand surged for everything related to gaming, and supporting the remote “work-from-home” environment, including hardware, software and accessories for both consoles and PC; and Turtle Beach capitalized on this demand and outpaced the market based on the strength of our products and brand as well as our supply and retail execution.  In 2020, overall console headset sales increased by $235M over 2019 for North America, of which Turtle Beach revenue increased by $127M, an increase of 52% vs. 42% for the market.  

Further, our investments to drive growth resulted in the Elo series PC gaming headsets, the first products that blend ROCCAT’s award-winning design and innovation with Turtle Beach’s gaming audio expertise and exclusive audio technologies.  As a result, combined with the newly released Vulcan Keyboards and Burst Pro Mouse, revenue related to our ROCCAT products more than doubled in 2020.

For 2020, our reported net income was $38.7 million, or diluted net income per share of $2.37, with cash from operating activities of $51 million reflective of higher gross receipts, which was partially offset by certain costs to align inventory levels with elevated consumer demand.

Forward looking, we continue to be very excited about the recent launches for PlayStation®5 and Microsoft's new Xbox platform consoles, and to step up our investments to capitalize on new opportunities and, with the integration of the ROCCAT acquisition, the recent Neat acquisition, the excellent team we have here, and our strong continued execution, we will continue to take actions to enable and drive further expansion and growth.  

This year, ROCCAT introduced its groundbreaking optical switch technology that registers key strokes and mouse clicks that are significantly more responsive than standard switches and, in 2021, ROCCAT will continue filling out its entire lineup with additional keyboard, mouse and headset offerings targeting various price points and performance minded gamers.

Whereas, the acquisition of Neat Microphones, whose leadership team includes the former founders of Blue Microphones, inventors of the first high-performance USB microphone, further expands Turtle Beach’s portfolio with a variety of advanced microphone products slated to launch throughout 2021 to meet the growing demand for high-quality, affordable microphones.

Finally, we believe the strong underlying consumer demand continues to be driven by greater overall engagement of existing gamers as well as new and lapsed gamers joining the market as new gaming headset users. In addition, non-gamers continue to buy headsets for at-home work, school and socializing.

Key Performance Indicators and Non-GAAP Measures

Management routinely reviews key performance indicators including revenue, operating income and margins, and earnings per share, among others. In addition, we believe certain other measures provide useful information to management and investors about us and our financial condition and results of operations for the following reasons: (i) they are measures used by our board of directors and management team to evaluate our operating performance; (ii) they are measures used by our management team to make day-to-day operating decisions; (iii) the adjustments made are often viewed as either non-recurring or not reflective of ongoing financial performance and/or have no cash impact on operations; and (iv) the metrics are used by securities analysts, investors and other interested parties as a common operating performance measure to compare results across companies in our industry by adjusting for potential differences caused by variations in capital structures (affecting relative interest expense), and the age and book value of facilities and equipment (affecting relative depreciation and amortization expense). These metrics, however, are not measures of financial performance under accounting principles generally accepted in the United States of America (“GAAP”) and, given the limitations of these metrics as analytical tools, should not be considered a substitute for gross profit, gross margins, net income (loss) or other consolidated income statement data as determined in accordance with GAAP. We consider the following non-GAAP measures, which may not be comparable to similarly titled measures reported by other companies, to be key performance indicators:

 

Adjusted EBITDA is defined as net income (loss) before interest, taxes, depreciation and amortization, stock-based compensation (non-cash) and certain non-recurring special items that we believe are not representative of core operations.

 

Cash Margins is defined as gross margin excluding depreciation, amortization and stock-based compensation.

22

 


 

 

Adjusted EBITDA

Adjusted EBITDA (and a reconciliation to net income, the nearest GAAP financial measure) for the years ended December 31, 2020, 2019 and 2018 are as follows:

 

 

 

Year Ended

 

 

 

December 31,

 

 

 

2020

 

 

2019

 

 

2018

 

 

 

(in thousands)

 

Net income

 

$

38,746

 

 

$

17,944

 

 

$

39,190

 

Interest expense

 

 

467

 

 

 

929

 

 

 

5,335

 

Depreciation and amortization

 

 

5,248

 

 

 

5,198

 

 

 

4,257

 

Stock-based compensation

 

 

5,549

 

 

 

3,558

 

 

 

1,877

 

Income tax expense (benefit)

 

 

13,711

 

 

 

(6,237

)

 

 

1,737

 

Unrealized loss (gain) on financial instrument obligation

 

 

 

 

 

(1,601

)

 

 

5,291

 

Acquisition-related settlement

 

 

(1,702

)

 

 

 

 

 

 

Change in fair value of contingent consideration

 

 

(1,121

)

 

 

(471

)

 

 

 

Business transaction expense

 

 

550

 

 

 

3,516

 

 

 

 

Adjusted EBITDA

 

$

61,448

 

 

$

22,836

 

 

$

57,687

 

 

Comparison of the Year Ended December 31, 2020 to the Year Ended December 31, 2019

Net income for the year ended December 31, 2020 was $38.7 million compared to a net income of $17.9 million in the prior year for the years ended December 31, 2020 and 2019, respectively.

For the year ended December 31, 2020, Adjusted EBITDA was $61.4 million compared to $22.8 million, for the year ended December 31, 2019. Net income and Adjusted EBITDA increased primarily due to higher revenue and favorable business mix as the Company capitalized on the surging stay-at-home driven gaming consumer demand and outpaced the market based on brand strength and product availability.

Comparison of the Year Ended December 31, 2019 to the Year Ended December 31, 2018

Net income for the year ended December 31, 2019 was $17.9 million compared to a net income of $39.2 million in the prior year, inclusive of a $1.6 million unrealized financial instrument obligation gain and a $5.3 million unrealized financial instrument obligation loss, for the years ended December 31, 2019 and 2018, respectively.

For the year ended December 31, 2019, Adjusted EBITDA was $22.8 million compared to $57.7 million, for the year ended December 31, 2018. Net income and Adjusted EBITDA decreased primarily due to a decline in the gaming accessory market from the battle royale driven record levels in the prior year and, certain initial investments in the recently acquired ROCCAT branded products.

23

 


 

Financial Results

The following table sets forth the Company’s statements of operations for the periods presented:

 

 

 

Year Ended

 

 

 

December 31,

 

 

 

2020

 

 

2019

 

 

2018

 

 

 

(in thousands)

 

Net revenue

 

$

360,093

 

 

$

234,663

 

 

$

287,437

 

Cost of revenue

 

 

226,305

 

 

 

155,950

 

 

 

178,738

 

Gross profit

 

 

133,788

 

 

 

78,713

 

 

 

108,699

 

Gross margin

 

 

37.2

%

 

 

33.5

%

 

 

37.8

%

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating expenses

 

 

84,621

 

 

 

68,286

 

 

 

54,658

 

Operating income

 

 

49,167

 

 

 

10,427

 

 

 

54,041

 

Interest expense

 

 

467

 

 

 

929

 

 

 

5,335

 

Other non-operating expense (income), net

 

 

(3,757

)

 

 

(2,209

)

 

 

7,779

 

Income before income tax

 

 

52,457

 

 

 

11,707

 

 

 

40,927

 

Income tax expense (benefit)

 

 

13,711

 

 

 

(6,237

)

 

 

1,737

 

Net income

 

$

38,746

 

 

$

17,944

 

 

$

39,190

 

 

Net Revenue and Gross Profit

The following table summarizes net revenue and gross profit for the periods presented:

 

 

 

Year Ended

 

 

 

December 31,

 

 

 

2020

 

 

2019

 

 

2018

 

 

 

(in thousands)

 

Net Revenue

 

$

360,093

 

 

$

234,660

 

 

$

287,378

 

Gross Profit

 

$

133,788

 

 

$

78,713

 

 

$

108,784

 

Gross Margin

 

 

37.2

%

 

 

33.5

%

 

 

37.9

%

Cash Margin (1)

 

 

38.1

%

 

 

34.4

%

 

 

38.2

%

 

(1)

Excludes non-cash charges of $3.3 million for 2020, $2.1 million for 2019, and $0.9 million for 2018.

Comparison of the Year Ended December 31, 2020 to the Year Ended December 31, 2019

Net revenues for year ended December 31, 2020 was $360.1 million, a $125.4 million, or 53.5%, increase from $234.7 million in 2019. This is due to a surge in gaming activity, including an influx of new gamers, returning gamers, and non-gaming headset use, ignited by state and local stay-at-home orders in place for a significant part of 2020 along with strong execution to rapidly increase supply to meet the increase in demand.

For the year ended December 31, 2020, gross profit as a percentage of net revenue increased to 37.2% from 33.5% in the prior year. Margins were positively impacted by lower promotional activity, favorable business mix, and volume-driven fixed costs leverage, partially offset by certain air freight to enable retail supply and higher tariff costs.

Comparison of the Year Ended December 31, 2019 to the Year Ended December 31, 2018

Net revenues for year ended December 31, 2019 decreased $52.7 million, or 18.3%, as a result of the decrease in demand from the prior period when battle royale driven consumer demand reached record levels. While the overall gaming accessory market declined across all channels, the Company held 43.4% of the North American console market revenue share on the strong performance of the Stealth 600 Series, which continued to be the top selling console model, and the recently released Recon 70 Series.

For the year ended December 31, 2019, gross profit as a percentage of net revenue decreased to 33.5% from 37.9% in the prior year. Margins were impacted by a more normal level of promotions, product mix, increased refurbishment and warehouse costs, and a decline in volume-based fixed cost leveraging.

24

 


 

Operating Expenses

 

 

 

Year Ended

 

 

 

December 31,

 

 

 

2020

 

 

2019

 

 

2018

 

 

 

(in thousands)

 

Selling and marketing

 

$

46,779

 

 

$

38,634

 

 

$

32,389

 

Research and development

 

 

12,265

 

 

 

7,856

 

 

 

5,611

 

General and administrative

 

 

25,027

 

 

 

18,280

 

 

 

16,658

 

Acquisition integration costs

 

 

550

 

 

 

3,516

 

 

 

 

Total operating expenses

 

$

84,621

 

 

$

68,286

 

 

$

54,658

 

 

Selling and Marketing

 

Selling and marketing expense for the year ended December 31, 2020 totaled $46.8 million, or 13.0% as a percentage of net revenues, compared to $38.6 million, or 16.5% as a percentage of net revenues, for the prior year. This increase was primarily due to the inclusion of acquired ROCCAT-related headcount, volume-based direct sales related fees and commissions, and increased digital media spend to build ROCCAT brand awareness, partially offset by decreases in marketing event spend, retail marketing initiatives and advertising display depreciation.

Selling and marketing expense for the year ended December 31, 2019 totaled $38.6 million, or 16.5% as a percentage of net revenues, compared to $32.4 million, or 11.3% as a percentage of net revenues, for the year ended December 31, 2018. This increase was primarily due to incremental costs associated with ROCCAT related headcount and expenses and certain digital and sponsorship initiatives, partially offset by decreases in revenue-based commissions and advertising display depreciation.

Research and Development

For the year ended December 31, 2020, we invested $12.3 million in research and development, an increase from prior years attributable to the expansion of PC accessories development capability and, the Stealth 600 and Stealth 700 Gen 2 wireless gaming headsets for the recently-launched Xbox and PlayStation®5 platforms, investments to increase the company’s software capabilities, and investments to begin work on several new product categories launching in 2021.

For the years ended December 31, 2019 and 2018, we expended $7.9 million and $5.6 million, respectively, reflective of new product initiatives, patent related costs and ROCCAT headcount expenses for 2019,  and new headset portfolio expansion to launch the Atlas line of PC gaming headsets for 2018.

General and Administrative

General and administrative expenses for the year ended December 31, 2020 increased $6.7 million to $25.0 million compared to $18.3 million for the year ended December 31, 2019. The year-over-year increase was primarily due to the inclusion of acquired ROCCAT-related expenses ($1.5 million), higher variable compensation costs, increased professional and legal services, and certain legal settlements.

General and administrative expenses for the year ended December 31, 2019 increased $1.6 million to $18.3 million compared to $16.7 million for the year ended December 31, 2018. The year-over-year increase was primarily due to the inclusion of acquired ROCCAT-related expenses ($1.9 million) and higher non-cash stock expense, partially offset by lower variable compensation costs.

Interest Expense

Interest expense decreased $0.5 million for the year ended December 31, 2020 compared to the prior year due to reduced revolver usage during the record revenue year, increasing cash-on-hand balances.

Interest expense decreased $4.4 million for the year ended December 31, 2019 compared to the year ended December 31, 2018 due to the full repayment of the subordinated notes and term loans, and the exchange of the Series B redeemable preferred stock, both of which occurred in 2018.

Income Taxes

Income tax expense for the year ended December 31, 2020 was $13.7 million at an effective tax rate of 26.1% compared to income tax benefit of $6.2 million for the year ended December 31, 2019 at an effective tax rate of (53.3%). The effective tax rate was primarily impacted by permanent items including state taxes, executive compensation, and reserves for uncertain tax positions.

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Income tax benefit for the year ended December 31, 2019 was $6.2 million at an effective tax rate of (53.3%) compared to income tax expense of $1.7 million for the year ended December 31, 2018 at an effective tax rate of 4.2%. The effective tax rate was primarily impacted by a change in the valuation allowance for deferred tax assets of $10.1 million, which included a $7.4 million benefit related to the release of the valuation allowance in certain jurisdictions.

Other Non-Operating Expense (Income)

Other non-operating income totaled $3.8 million for the year ended December 31, 2020, including a $1.7 million acquisition-related settlement gain and $1.2 million fair value of contingent consideration reversal, compared to other non-operating income of $2.2 million for the year ended December 31, 2019, which included a $1.6 million unrealized gain related to the change in value of a financial instrument obligation.  

Other non-operating expense totaled $7.8 million for the year ended December 31, 2018, which included a $5.3 million loss from the change in fair value of a financial instrument, $1.6 million loss on extinguishment related to the prepayment of our Term Loan and Subordinated Notes and the negative exchange impact of the stronger U.S. dollar on our foreign operations.

Liquidity and Capital Resources

Our primary sources of working capital are cash flow from operations and availability of capital under our revolving credit facility, which was minimally used in the last year. We have funded operations and acquisitions in recent periods with operating cash flows and proceeds from debt and equity financings.

The following table summarizes our sources and uses of cash:

 

 

 

Year Ended

 

 

 

December 31,

 

 

 

2020

 

 

2019

 

 

2018

 

 

 

(in thousands)

 

Cash and cash equivalents at beginning of period

 

$

8,249

 

 

$

7,078

 

 

$

5,247

 

Net cash provided by operating activities

 

 

51,050

 

 

 

39,374

 

 

 

42,249

 

Net cash used for investing activities

 

 

(5,663

)

 

 

(14,579

)

 

 

(5,079

)

Net cash used for financing activities

 

 

(7,413

)

 

 

(24,180

)

 

 

(35,129

)

Effect of foreign exchange on cash

 

 

458

 

 

 

556

 

 

 

(210

)

Cash and cash equivalents at end of period

 

$

46,681

 

 

$

8,249

 

 

$

7,078

 

 

Operating activities

Cash provided by operating activities for the year ended December 31, 2020 was $51.1 million, an increase of $11.7 million as compared to $39.4 million for the year ended December 31, 2019. This is primarily the result of higher gross receipts, partially offset by increased product purchases, and related air freight costs, to align inventory levels with elevated consumer demand.

Cash provided by operating activities for the year ended December 31, 2019 was $39.4 million, a decrease of $2.9 million as compared to cash used in operating activities of $42.2 million for the year ended December 31, 2018. This is primarily the result of lower gross receipts, incremental ROCCAT costs, increased sales and marketing-related expenditures, partially offset by a reduction in inventory purchases.

Investing activities

Cash used for investing activities was $5.7 million of capital expenditures primarily related to in-store advertising displays, new product manufacturing tooling and internal system upgrades during the year ended December 31, 2020 compared to $14.6 million in 2019, which included $12.7 million related to the ROCCAT acquisition and $1.9 million of capital expenditures.

Cash used for investing activities was $14.6 million during the year ended December 31, 2019 compared to $5.1 million in 2018, as a result of the $12.7 million related to the ROCCAT acquisition and $1.9 million of capital expenditures, compared to $5.1 million of capital expenditures in the prior year.

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Financing activities

Net cash used for financing activities was $7.4 million during the year ended December 31, 2020 compared to net cash used for financing activities of $24.2 million and net cash used for financing activities of $35.1 million during the years ended December 31, 2019 and 2018, respectively. Financing activities during the year included net repayments on our revolving credit facility of $15.7 million, offset by $4.3 million received from the sale of equity securities and proceeds from exercise of stock options of $4.2 million.

Financing activities in 2019 included net repayments on our revolving credit facility of $21.7 million and $2.5 million of common stock repurchases.  

Financing activities in 2018 included the repayment of certain subordinated notes of $23.9 million, net term loan repayments of $11.7 million, the exchange of the Series B redeemable preferred stock of $1.4 million and net repayments on our revolving credit facilities of $1.1 million, partially offset by proceeds from exercise of stock options and warrants of $4.2 million.

Management assessment of liquidity

Management believes that our current cash and cash equivalents, the amounts available under our revolving credit facility and cash flows derived from operations will be sufficient to meet anticipated cash needs for working capital and capital expenditures for at least the next 12 months. Significant assumptions underlie this belief, including, among other things, that there will be no material adverse developments in our business, liquidity or capital requirements.

Foreign cash balances at December 31, 2020 and December 31, 2019 were both $5.9 million.

At-the-Market Common Stock Issuance

On August 7, 2020, the Company entered into an ATM Equity Offering Sales Agreement (the “Sales Agreement”) with BofA Securities, Inc. (the “Sales Agent”). Pursuant to the terms of the Sales Agreement, the Company may sell from time to time through the Sales Agent shares of the Company’s common stock, par value $0.001 per share, having an aggregate offering price of up to $30 million. The Company intends to use the net proceeds from the offering, after deducting the Sales Agent’s commissions and the Company’s offering expenses, to support its strategic growth plans, as well as for general corporate purposes.

During 2020, the Company sold a total of 237,813 shares of its common stock under the Sales Agreement in the open market at an average gross selling price of $18.39 per share for net proceeds of $4.4 million.

Revolving Credit Facility

 

On December 17, 2018, Turtle Beach and certain of its subsidiaries entered into an amended and restated loan, guaranty and security agreement (“Credit Facility”) with Bank of America, N.A. (“Bank of America”), as Agent, Sole Lead Arranger and Sole Bookrunner, which replaced the then existing asset-based revolving loan agreement. The Credit Facility, which expires on March 5, 2024, provides for a line of credit of up to $80 million inclusive of a sub-facility limit of $12 million for TB Europe, a wholly-owned subsidiary of Turtle Beach. In addition, the Credit Facility provides for a $40 million accordion feature and the ability to increase the borrowing base with a FILO Loan of up to $6.8 million.

 

On May 31, 2019, the Company amended the Credit Facility to provide for, amongst other items, (i) the addition of TBC Holding Company LLC, a wholly-owned subsidiary of VTB, as an obligor and (ii) the ability to make investments in TB Germany GmbH, a wholly-owned subsidiary of TB Europe, of up to $4 million in connection with the acquisition of ROCCAT and up to an additional $4 million annually.

 

The maximum credit availability for loans and letters of credit under the Credit Facility is governed by a borrowing base determined by the application of specified percentages to certain eligible assets, primarily eligible trade accounts receivable and inventories, and is subject to discretionary reserves and revaluation adjustments. The Credit Facility may be used for working capital, the issuance of bank guarantees, letters of credit and other corporate purposes.

Amounts outstanding under the Credit Facility bear interest at a rate equal to either a rate published by Bank of America or the LIBOR rate, plus in each case, an applicable margin, which is between 0.50% to 1.25% for base rate loans, 1.25% to 2.00% for U.S. LIBOR loans and U.K. loans and 2.00% and 2.75% for the FILO Loan. In addition, Turtle Beach is required to pay a commitment fee on the unused revolving loan commitment at a rate ranging from 0.25% to 0.50%, and letter of credit fees and agent fees. As of December 31, 2020, interest rates for outstanding borrowings were 3.75% for base rate loans and 3.00% for LIBOR rate loans.

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The Company is subject to financial covenant testing if certain availability thresholds are not met or certain other events occur (as defined in the Credit Facility). The Credit Facility requires the Company and its restricted subsidiaries to maintain a fixed charge coverage ratio of at least 1.00 to 1.00 as of the last day of each fiscal quarter.

The Credit Facility also contains affirmative and negative covenants that, subject to certain exceptions, limit our ability to take certain actions, including our ability to incur debt, pay dividends and repurchase stock, make certain investments and other payments, enter into certain mergers and consolidations, engage in sale leaseback transactions and transactions with affiliates and encumber and dispose of assets. Obligations under the Credit Facility are secured by a security interest and lien upon substantially all of the Company’s assets.

As of December 31, 2020, the Company was in compliance with all the financial covenants under the Credit Facility, as amended, and excess borrowing availability was approximately $67.5 million.

Critical Accounting Estimates

Our discussion and analysis of our results of operations and capital resources are based on our consolidated financial statements, which have been prepared in conformity with GAAP. The preparation of these consolidated financial statements requires management to make estimates and assumptions that affect the reported amounts of assets, liabilities, revenue and expenses and the disclosure of contingent assets and liabilities. Management bases its estimates, assumptions and judgments on historical experience and on various other factors that it believes to be reasonable under the circumstances.

Different assumptions and judgments would change the estimates used in the preparation of the condensed consolidated financial statements, which, in turn, could change the results from those reported. Management evaluates its estimates, assumptions and judgments on an ongoing basis.

Based on the above, we have determined that our most critical accounting policies are those related to revenue recognition and sales return reserve, inventory valuation, asset impairment, and income taxes.

Revenue Recognition and Sales Return Reserve

Net revenue consists primarily of revenue from the sale of gaming headsets and accessories to wholesalers, retailers and to a lesser extent, on-line customers. Our products function on a standalone basis (in connection with a readily available gaming console, personal computer or stereo) and are not sold with additional services or rights to future goods or services. Revenue is recorded for a contract through the following steps: (i) identifying the contract with the customer; (ii) identifying the performance obligations in the contract; (iii) determining the transaction price; (iv) allocating the transaction price to the performance obligations; and (v) recognizing revenue when or as each performance obligation is satisfied.

Each contract at inception is evaluated to determine whether the contract should be accounted for as having one or more performance obligations. Revenue is recognized when obligations under the terms of a contract with our customer are satisfied; generally this occurs at a point in time when the risk and title to the product transfers to the customer. Our standard terms of delivery are included in our contracts of sale, order confirmation documents, and invoices. The Company excludes sales taxes collected from customers from “Net Revenue” in its Consolidated Statements of Operations.

Certain customers may receive cash-based incentives (including cash discounts, quantity rebates, and price concessions), which are accounted for as variable consideration. Provisions for sales returns are recognized in the period the sale is recorded based upon our prior experience and current trends. These revenue reductions are established by the Company based upon management’s best estimates at the time of sale following the historical trend, adjusted to reflect known changes in the factors that impact such reserves and allowances, and the terms of agreements with customers. We do not expect to have significant changes in our estimates for variable considerations.

Inventory Valuation

Inventories are valued at the lower of weighted average cost or market, at the individual item level. Market is determined based on the estimated net realizable value, which is generally the selling price. Inventory levels are monitored to identify slow-moving items and markdowns are used to increase sales of such products. Physical inventory counts are performed annually in January and estimates are made for any shortage between the date of the physical inventory count and the balance sheet date.

Asset Impairment

Historically, we have had significant long-lived tangible and intangible assets, including goodwill with indefinite lives, which are susceptible to valuation adjustments as a result of changes in various factors or conditions. We assess the potential impairment of intangible and fixed assets whenever events or changes in circumstances indicate that full recoverability of net asset balances through future cash flows is in question. Goodwill and indefinite-lived intangible assets are assessed at least annually, but also whenever events or changes in circumstances indicate the carrying values may not be recoverable. Factors we consider important, which could trigger an impairment of such assets include significant underperformance relative to historical or projected future operating results; significant changes in the manner of use of the acquired assets or the strategy for our overall business; significant negative industry or economic trends; significant decline in our stock price for a sustained period; and a decline in our market capitalization below net book value.

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Management estimates future pre-tax cash flows based on historical experience, knowledge and market data. Estimates of future cash flows require that we make assumptions and apply judgment, including forecasting future sales and expenses and estimating useful lives of the assets. These estimates can be affected by factors such as future product development and economic conditions that can be difficult to predict, as well as other factors such as those outlined in “Risk Factors.” If the expected future cash flows related to the long-lived assets are less than the assets’ carrying value, an impairment loss would be recognized for the difference between estimated fair value and carrying value.

There are inherent assumptions and estimates used in developing future cash flows requiring management judgment including projecting revenues, interest rates and the cost of capital.  Many of the factors used in assessing fair value are outside our control and it is reasonably likely that assumptions and estimates will change in future periods.  These changes can result in future impairments. 

Income Taxes

We account for income taxes using the asset and liability method. Under the asset and liability method, deferred tax assets and liabilities are recognized based on the differences between the financial statement carrying value of existing assets and liabilities and their respective tax bases. Deferred tax assets and liabilities are measured using enacted tax rates and laws expected to be in effect when the differences are expected to reverse. The effect of a change in tax rates on deferred tax assets and liabilities is recognized in income in the period that includes the enactment date. Inherent in the measurement of these deferred balances are certain judgments and interpretations of existing tax law and other published guidance as applied to our operations. Our effective tax rate considers our judgment of expected tax liabilities in the various jurisdictions within which we are subject to tax.

The determination of the need for a valuation allowance on deferred tax assets requires management to make assumptions and to apply judgment, including forecasting future earnings, taxable income, and the mix of earnings in the jurisdictions in which we operate.

The tax effects of uncertain tax positions taken or expected to be taken in income tax returns are recognized only if they are “more likely-than-not” to be sustained on examination by the taxing authorities based on the technical merits as of the reporting date. The tax benefits recognized in the financial statements from such positions are measured based on the largest benefit that has a greater than fifty percent likelihood of being realized upon ultimate settlement. We recognize estimated accrued interest and penalties related to uncertain tax positions in income tax expense.

There have been no material changes to the critical accounting policies and estimates. See Note 1, “Summary of Significant Accounting Policy,” in the notes to the consolidated financial statements for a complete discussion of recent accounting pronouncements. We are currently evaluating the impact of certain recently issued guidance on our financial condition and results of operations in future periods.

Off-Balance Sheet Arrangements

Off-balance sheet arrangements are transactions, agreements, or other contractual arrangements with an unconsolidated entity for which we have an obligation to the entity that is not recorded in the consolidated financial statements. As of December 31, 2020, there are no significant off-balance sheet arrangements.

Contractual Obligations

Our principal commitments primarily consist of obligations for minimum payment commitments to lessors for office space and the revolving credit facility. As of December 31, 2020, the future non-cancelable minimum payments under these commitments were as follows:

 

 

 

Payments Due by Period

 

(in thousands)

 

Total

 

 

Less Than

One Year

 

 

1 - 3 Years

 

 

3 - 5 Years

 

 

More Than

Five Years

 

Contractual Obligations: (1) (3)

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

 

Operating lease obligations (2)

 

$

7,076

 

 

$

1,123

 

 

$

2,303

 

 

$

1,294

 

 

 

2,356

 

Total

 

$

7,076

 

 

$

1,123

 

 

$

2,303

 

 

$

1,294

 

 

$

2,356

 

 

(1)

Contractual obligations exclude tax liabilities of $2.4 million related to uncertain tax positions because we are unable to make a reasonably reliable estimate of the timing of settlement, if any, of these future payments.

(2)

Operating lease agreements represent obligations to make payments under non-cancelable lease agreements for its facilities.

(3)

On December 17, 2018, the Company entered into an amended Credit Facility that expires on March 5, 2024. However, due to certain terms of the facility, the indebtedness is required to be classified as a current liability. Interest payments are not reflected under the Credit Facility because the amount that will be borrowed in future years is uncertain.

29

 


 

Item 7A. - Qualitative and Quantitative Disclosures about Market Risk

Market risk represents the risk of loss that may impact our financial position due to adverse changes in financial market prices and rates. The Company’s market risk exposure is primarily a result of fluctuations in interest rates, foreign currency exchange rates and inflation.

The Company has used derivative financial instruments, specifically foreign currency forward and option contracts, to manage exposure to foreign currency risks, by hedging a portion of its forecasted expenses denominated in British Pounds expected to occur within a year. The effect of exchange rate changes on foreign currency forward and option contracts is expected to offset the effect of exchange rate changes on the underlying hedged item. The Company does not use derivative financial instruments for speculative or trading purposes. As of December 31, 2020, we do not have any derivative financial instruments.

Foreign Currency Exchange Risk