Is Turtle Beach Corporation a potential add to your portfolio?
If you regularly read my blog, you would probably already know that I find the gaming industry very interesting when it comes to investing. The latest company I have added to my portfolio is Turtle Beach and, in this analysis, I will elaborate a bit about why I did so.
This is not a financial advice. I am not a financial advisor and I only do these post in order to do my own analysis and elaborate about my decisions, especially for my copiers and followers. If you consider investing in any of the ideas I present, you should do your own research or contact a professional financial advisor, as all investing comes with a risk of losing money. You are also more than welcome to copy me.
Since I have attended the workshop with Phil Town, I have decided to change the layout of my analyses a bit. I will do some more calculations and also briefly go through why the company has meaning to me. If you want to read more about how I evaluate a company, please go to "MY STRATEGY" on my website.
For full disclosure, I should mention that I have just added Turtle Beach to my portfolio. In the gaming sector, I also have positions in Sony, Microsoft and Tencent. I have also previously made a post where I compare the historic numbers of the three large U.S. game developers. You can find the post here, where I also elaborate a bit about the industry and why it is interesting.
Turtle Beach Corporation is a global gaming accessory manufacturer that is based in the United States. And while they are most known for their high-quality headsets, they also provide other accessories such as keyboards, mice, and microphones. They are mainly known for providing accessories to consoles, where they have a 45 % market share in the United States but since they have acquired ROCCAT in 2019, they have stretched further into the PC market. Besides ROCCAT, they have also recently acquired Neat Microphones, which is yet another new market for Turtle Beach. The company has existed for more than 45 years, meaning that they have a vast experience in audio technology, and their products are sold in more than 40 countries. Turtle Beach is a well-known brand around the world, and as they have been able to get a 45 % market share in the United States, it is safe to say that they have a strong brand moat.
Their CEO is Juergen Stark. He has been the CEO since late 2012, and since 2020 the chairman of the board as well. Prior to arriving at Turtle Beach, he served as COO for Motorola Mobility Holdings, while he is also an entrepreneur, as he co-founded Centerpost Corporation before joining Motorola. He has a MBA with distinction from Harvard Business School, which means he certainly has the educational credentials in place. Unfortunately, I haven't been able to find much information about Juergen Stark but one thing I do enjoy is his frankness in the earnings conference calls. Personally, I think the earnings conference calls is a great way to judge management, and while I don't have much information about Juergen Stark, his frankness gives me confidence, and makes me willing to invest in the company.
We have determined that Turtle Beach has a brand moat. While I don't have much information about the management, I know that the CEO has a vast experience in the industry and the educational credentials in place. I also feel very confident in the management when reading through the earnings conference call transcripts. Now let us investigate the big five numbers to see if Turtle Beach does live up to our requirements for a strong moat. In case you want an explanation about what the big five numbers are, you can have a look at "MY STRATEGY" on the website.
The first number we will look into is the return on investment capital, also known as ROIC. We want to see 10 years of history and we want the numbers to be above 10 % in all the benchmarks. All right, it is not exactly what we wanted to see. The older benchmarks are disastrous, but the latest benchmarks are fantastic. It seems like that Turtle Beach is trending in the right direction (the ROIC has been fantastic in every year since 2018), and I personally believe that the latest benchmarks paint a better picture of Turtle Beach than the older benchmarks do. You can read more about that later in the analysis.
The next numbers we will investigate are the Sales Growth Rates. Ideally the numbers should be above 10% in each benchmark and increasing. Looking at the numbers they are sort of a mixed bag. The older benchmarks are higher, while we also see an increase in the later years (last year was a bit of an outlier due to the pandemic). Nevertheless, seeing a sales growth rate well above 10 % in all benchmarks is encouraging.
The next numbers are the EPS Growth Rates. As with all other growth rates we want the numbers to be above 10 % in all benchmarks. This is what you would like to see. Above the 10 % in all benchmarks and growing for the most part. Remember that the last year is an outlier due to the pandemic but as we can see through all the numbers, Turtle Beach indeed performs as we would like a company, we invest in to perform.
The Equity Growth Rate is also known as the most important of the four growth rates. We see one benchmark that sticks out as it "only" delivers 15,5 % in equity growth rate, while the rest of the benchmarks are fantastic. However, if you were looking at that 15,5 % without comparing it to the other benchmarks, it would still be great if a company could hit 15,5 % continuously. With other words, the equity growth rate of Turtle Beach is fantastic, and investors should be very happy to see these numbers.
Finally, we investigate the Cash Growth Rates. Once again, we have one numbers that sticks out but instead of focusing on that number, I prefer to focus on the overall picture, which is much more important. And the overall picture is that Turtle Beach are continuously increase their Cash Growth Rate, which growing their numbers, and that makes me confident in the company.
To shortly summarize the five numbers from Turtle Beach. ROIC will always be the most important number and there are a few concerns about the oldest numbers of Turtle Beach. However, while a nice history can give you some confidence, it is the future you invest, and it seems like Turtle Beach has turned into a more positive path. Personally, I'm not too concerned about the ROIC going forward but it is of course something you will need to monitor going forward. All the four growth rates can pretty much be piled together. All in all, the numbers are great in all the benchmark in all the growth rates. You might have some benchmarks stick out a bit, but the overall picture is great for Turtle Beach.
Another important thing to investigate is debt, and we want to see if a business has a reasonable debt that can be paid off within 3 years. We do so by dividing the total long-term debt by current cash flow. However, we were spared of doing the simple calculation, as Turtle Beach has no debt.
Based on the moat and the numbers, I believe that Turtle Beach is an interesting company but like with all other investments, there are some risks. Short-term there are two things that may end up impeding their revenue and that is freight prices and semiconductor shortages. The management talked about it in the latest earnings conference call, and while they still expect to reach their guidance in 2021, they also mentioned that it will impact revenues. If both things continue into 2022, it could hurt Turtle Beach short term. Besides the short-term risks, there are also other risks for Turtle Beach. One of them is that they operate in a very competitive market. If competitors choose to reduce their prices, it could hurt Turtle Beach, either their profit if they lower prices themselves or the brand if they lower the prices, as it removes some of the exclusivity about the brand. A slowdown in the gaming accessories sector growth. The gaming accessories sector has been growing at a fast pace, and a slowdown in the overall sector could hurt the growth of Turtle Beach. A significant portion of their revenue is derived from a few large customers. In 2020, their three largest customers accounted for approximately 47 % of their gross sale. A loss of one of these could be a significant hit on Turtle Beach.
Despite the risks, there are some good reasons why Turtle Beach could be an interesting investment. First, if you look at the last 5 years, Turtle Beach has grown at a CAGR of 17 %, while their long term-term growth goal is a CAGR of 10-20 %, which would be fantastic. Turtle Beach as many ways to reach that goal, the global software and accessories market is growing at a fast pace, as it has grown approximately 20 % from 2019 to 2020. Their investment in ROCCAT has also paid off, as two years after the acquisition it has already generated seven times the $11 million purchase price, and as the management says: "We are really just getting started". They will also launch their Neat microphones portfolio this year, which will dive into the $2,3 billion microphone market. They have also announced that they will launch two new products in game controllers and fly simulation. Turtle Beach estimates that the third-party game pad controllers market is a $600 million market, and they would like to take some market shares. Regarding flight simulators, they believe they can make a better product than the existing products and would like to get their hands on that $400 million market. Apparently, they have already received 15.000 e-mail notification sign-ups on the flight simulator.
All right, we have gone through the numbers, potential and risks regarding Turtle Beach, and now it is time for us to calculate a price for Turtle Beach. To calculate price, we will need numbers that I have explained in the "MY STRATEGY" section of the website. I do not want to go through the whole calculation here. I chose to use an EPS at 2.20 (which is a bit lower than the current one of 2,95 but around the mean EPS in the last 4 years). I chose an Estimated future EPS growth rate of 15 (management expects to grow between 15-20 %), Estimated future PE 28,8 (which is the highest historical PE) and we already have the minimum acceptable return rate on 15 %. Doing the calculations by using the formula I described in "MY STRATEGY" we come up with the sticker price (some call it fair value or intrinsic value) of $63,36, and we want to have a margin of safety on 50 % , so we will divide it by 2 meaning that we want to buy Turtle Beach at price of $31,68 (or lower obviously), if we use the Margin of Safety price.
Our second way to calculate a buy price is the TEN CAP price, which is also explained at "MY STRATEGY". To do so, we need some numbers from their financials, keep in mind that all numbers are in millions. The operating Cash Flow last year was 51,05. The Capital Expenditures was 5,66. I tried to look through their annual report to see, how much of the capital expenditures were used on maintenance. I couldn't find it though, so as a rule of thumb, you expect 70 % of the capital expenditures to be used on maintenance, meaning we will use 3,96 in our further calculations. The Tax Provision was 13,71. We have 16,07 outstanding shares. Hence, the calculation will be like this: (51,05 - 3,96 + 13,71) / 16,07 x 10 = 37,8 in TEN CAP price.
The last calculation is the PAYBACK TIME. I also described in "MY STRATEGY". The free cash flow per share last year was 11,42 but I don't believe that to be sustainable. Hence, I have decided to cut it down with approximately 2/3 to 4. With the Free Cash Flow Per Share at 4 and a growth rate of 15 %, if you want your purchase back in 8 years, the PAYBACK TIME price is $63,14.
I believe that Turtle Beach is an intriguing company with a solid brand moat. There are some valid risks, especially short-term. There is also a slight concern about the historical ROIC. However, I like that management continues to launch new products, either through acquisitions (ROCCAT and Neat) or by developing their own products (game controllers and fly simulators). They operate in markets that are expected to grow at a rather fast past, which is another plus for me. I already opened a position in the company, and I might increase it over time, especially if we see some more drawdowns due to the short-term risks I mentioned in the analysis. I believe it is a good long-term buy if you can get it below the margin of safety price at $31,68, as you would get it at a 50 % discount to intrinsic value on all my calculations.
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