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Executives

John Hanson - CFO

Juergen Stark - CEO

Analysts

Sean McGowan - Needham and Company

Mark Argento - Lake Street Capital

Rob Stone - Cowen and Company

Parametric Sound (PAMT) Post Merger Update Conference Call March 27, 2014 4:30 PM ET

Operator

Good afternoon, everyone and welcome to the Parametric Sound Conference Call to discuss Press Release that was filed this afternoon, which includes the fiscal year 2013 standalone Turtle Beach Financial results.

Before we get started, we will be referring to the press release filed today, announcing financial results for Turtle Beach, which can be downloaded from the Investor Relations page of our website at www.parametricsound.com.

Please be aware that some of the comments make during the call may include forward-looking statements that involve risks and uncertainties regarding our operation and future results that could cause Parametric Sound's results to differ materially from management's current expectation. We encourage you to review the safe harbor statements contained in today's press release and on our filings with the Securities and Exchange Commission, including without limitation, our Annual Report on Form 10-K and other periodic reports as well as our Proxy Statement on Schedule 14A filed in connection with our merger with Turtle Beach, which identifies specific risk factors that may cause actual results or events to differ materially from those described in forward-looking statements.

The speakers on today's call are Juergen Stark, Chief Executive Officer and John Hanson, Chief Financial Officer.

I'll now turn the call over to Juergen.

Juergen Stark

Good afternoon. Thank you very much for joining us on our call today. With me is John Hanson, our Chief Financial Officer and we are very excited to be addressing you on the company's first earnings call following the merger of Turtle Beach and Parametric Sound.

By combining an industry leader in technology-driven audio, Turtle Beach, with what we view to be a very disruptive and innovative new way to deliver audio, Parametric's HyperSound technology, we've created a company with significant growth opportunities in audio for consumer, commercial and healthcare segments.

Before we review the highlights from the past year, and outline our future growth plans, I would like to remind you that we started the process of changing our company name to Turtle Beach Corporation. In conjunction with the name change, we are also planning to change our ticker symbol to HEAR; H-E-A-R.

We are excited about this unique stock ticker because it is a great fit for the new company as our overarching strategy is to improve people's audio experience, so they can hear better when they are playing video games, listening to music or experiencing ultra-sound based audio in commercial or consumer environments. We expect those changes to be completed by May and we will also be changing our CUSIP as a part of this.

It's also worth-mentioning that going forward, we will refer to the former Parametric Sound business and technology as HyperSound.

Prior to the merger, Turtle Beach was a private company. So there has been limited information for and communication with the investment community. To better understand where we are taking this newly combined company, I think it's important to spend a few minutes talking about the history of the businesses and the significant industry events of the past year.

Turtle Beach was founded in 1975 and has over 35 years of experience in innovating and commercializing audio technology products. In 2005, the company created a gaming headset category with the introduction of the first ever headset tailored for gaming and consoles.

Over the past nine years, Turtle Beach has led the growth of this burgeoning category, which is now estimated to be approximately $330 million at retail in the U.S. alone. Our strong performance has been driven by key innovations year after year that have further advanced consumer's gaming experiences.

Note that gaming headsets are very different from stereo headphones in two key ways. First, they are designed for two-way communication, enabling gamers to talk to each other in multi-player online games. We call that chat audio.

Second, our products have unique features for controlling and enhancing gaming and chat audio. In fact, our higher end headsets are very sophisticated audio processing devices. We differentiate through innovation of these types of features, combined with high quality in the build and audio performance of our products.

Between 2010 and 2012, we doubled the size of Turtle Beach's revenue to just over $200 million through new product introductions that fuelled consumer demand and increased sell-through at our strong network of retail partners, including Best Buy, GameStop, Wal-Mart, Amazon to name a few in the U.S. with similar types of strong retail partners internationally.

Over in the past decades, Turtle Beach has demonstrated the ability to identify, innovate and build audio technology driven businesses with high quality product and outstanding global retail relationships. This capability will be very relevant as I talk about HyperSound in a few minutes.

As expected, following several years of rapid growth, our upward revenue trajectory dipped in 2013 following the announcements in Q1 and Q2, that Sony and Microsoft would launch new consoles in November ahead of the holiday season. History has shown that these console transitions produce a market drop leading up to the transition, followed by several years of robust growth.

The negative impact of the console transition was felt industry-wide last year. There are several factors that create these headwinds. First, consumers bought less consoles, games and accessories, particularly for the old generation, that's X-Box 360 and Playstation 3, so and just choosing to save their money in order to invest in new consoles and the next generation software and accessories that will eventually be developed for X-Box One and Playstation 4.

Second, retailers became much more conservative and uncertain with their purchasing, given the unpredictability of consumer demand, very logical. Third, because of the technical specs for new consoles were not available until mid or late last year, the portfolio of products that can be created was by definition limited.

We can't design and develop new products without knowing exactly what they are connecting to and given that our products are not simple stereo headphones, we connect in the optical ports, USB ports, etcetera, it’s very important that we understand what we’re connecting to and exactly how those specs would work in the new platforms.

And then very importantly, the launch of our first officially licensed Xbox One headsets was delayed to March as the necessary adaptor and related software for Microsoft required to make any gaming headsets function wasn’t made available until March of this year.

So for us and for the industry as a whole, 2013 was an unusual and challenging transition year. Despite the challenging market conditions in 2013, we executed well. We launched all products on time, including being fully ready for both new consoles in November.

We held our dollar share of market at approximately 50% in the U.S. for the year and grew our share in the U.K., our second largest market, to 53%. By comparison by the way, the next largest competitor on both markets has roughly one-fifth of our share.

In the U.S. last year, seven of the top 10 best selling gaming headsets by dollar share were Turtle Beach. For PlayStation 4, we launched two models in time for the November debut of that platform and have a broad line of our PlayStation 3 headsets, which are also compatible with PlayStation 4.

For the Xbox One platform, we are one of two companies licensed to produce and sell headsets and we were first to market with three models, which launched a few weeks ago on March 6th.

All of this by the way, while executing on the merger with Parametric and making all of the associated preparation to launch, what is essentially a new midsized public company, Turtle Beach plus Parametric.

I’m mentioning execution as I have in the past, because we do and will always focus on the fundamentals, innovate and launch great products that consumers love, manage and retain strong retail relationships and run an organization with a great team of people that know how to execute. We did that and we continue to do that.

I’m confident that we’re navigating the headwinds across from the console transition better than the competition and that we are very well-positioned to capitalize on the meaningful growth opportunity created by the new console introductions.

Perhaps the most important indicator for us for the long-term gaming industry prospect, is the fact that since their launches, a little over five months ago, the new consoles are selling very well, creating a rapidly growing installed-base of users, which we estimate to be over 10 million units already.

These are great signs for the long-term strength of the gaming industry and speak to the future prospects we believe exist for expanding the Turtle Beach headset business.

That said it’s important to understand that the expected positive impact on the gaming headsets sales will take some time to fully develop. The new console transition isn’t a simple [light] [ph] switch, where our new consoles get introduced and everything returns to normal. Let me expand on two very important factors for understanding our gaming headsets business and how we see this playing out in 2014.

First, consumer buying behaviour remained somewhat unpredictable. Baseline demand for software and accessories for previous generation consoles, those are Xbox 360 and PlayStation 3, is still not stabilized, as much of the current gaming disposable income is being directed towards new consoles. This is actually pretty logical.

At the same time, the attachment rate for games and accessories on the new consoles is not yet well established given that we’re only five months into the new platform launch cycle. In addition to the short selling period, supply has been limited. At times, new consoles are expensive and therefore they absorbing -- excuse me; they are absorbing more disposable gaming income.

The Xbox One headsets just arrived at retail a few weeks ago, all of which makes it more difficult to predict near-term demand. With all that said, we are seeing very strong response to our PlayStation 4 and Xbox One headsets since they launched in November and March respectively.

The second important factor, product portfolio is by definition very limited, our new consoles, which impacts revenues and gross margins. We are the industry leader in terms of the number of compatible products available in both marketplaces for the new consoles.

However the portfolio is narrower and will take until 2015 to fully fill out. For example, we have 12 models for the Xbox 360 platform, which expand retail price points of $30 to $300. In contrast, we have three models for the Xbox One, ranging from $99 to $159 at retail. This is a natural and normal result of the technology and product launch cycle, following the release of any new hardware platform.

Of course over the next 12 to 18 months, we will fill out the portfolio, particularly in the mid and upper price spans. We consider 2014, the first phase of the new console transition and expect continued growth and improvements in margins as the market dynamics normalize and our portfolio for the new generation of consoles broadens in 2015.

Indeed if you look at DFC’s gaming market analyst console market forecast, they expect Gen 7 as they call it, that’s Xbox One and PlayStation 4, hardware revenues to actually peak in 2017. That’s why the most important metric we pay attention to is the strong sales of the new platforms and the growing installed base of Xbox One and PlayStation 4, which will fuel the industry in the console gaming headset part of our business over the coming years.

Turning to HyperSound. We remain very excited about the disruptive audio technology pioneered by Parametric Sound. For those of you who aren’t familiar with HyperSound, it's a remarkable new sound delivery mechanism unlike anything else on the market.

What's unique is the fact that the audio is injected into an ultrasound beam and the sound stays within that beam to produce very targeted delivery of audio. To use an analogy, if a normal speaker is like a light bulb, where the light fills the room in all directions, HyperSound is like a tight flash-like beam, putting sound only where you want it.

From a business perspective, there are three key characteristics that we believe provide significant new market opportunities. First, with HyperSound you can put and get audio only where you want it. This opens up possibilities to add audio to retail displays for example without boiling into the surrounding store and a wide array of similar commercial audio opportunities.

Second, because of the sound travels in a beam, which you can target at a listener’s right and left ear independently, imagine the flash light example I was giving, where one flash light is lighting up your left ear and one is lighting up your right ear, with that HyperSound offers 3D surround sound that's superior to the systems of five or seven speakers around you, a typical living room surround sound stereo set up, similar by the way to the effect that you would get with headphones. This opens up consumer audio applications for the future related to these unique 3D surround sound characteristics.

Third, and perhaps most interesting the unique nature of HyperSound delivers audio into the ear canal, far better than regular speakers, creating significant and profound benefits for people with hearing impairments.

I am sure all of you know multiple people who have trouble hearing their televisions, obviously see solving that problem with HyperSound is a major opportunity. In addition to being unique and disruptive new audio technology, it’s well protected with 24 issued patterns and many, many more in process. While it’s still in the early stages of commercialization, we are very encouraged about the possibilities for HyperSound and the wide array of potential usage.

We look at HyperSound by the way in three segments, just so with that, that lingo starts becoming clear. Commercial for HyperSound refer to uses of that technology for businesses. Healthcare or what we'll sometimes call hearing health refers to the uses of HyperSound for people with hearing impairments and consumer refers of course the uses of HyperSound for consumer audio applications. Let me cover each of those real briefly.

On the commercial front, we have a robust and growing pipeline of opportunities for HyperSound in retail displays or for adding directed audio in commercial environments for information purposes. These range from users in retail kiosk to opportunities in restaurants, banks, casinos, airports and museums.

We are pioneering this new category of directed audio, teaching people what it is, how it works, so we will take some time to fold this new capability into the plans for stores and kiosks and mature into a meaningful business.

On the healthcare front, the recent FDA clearance is a major milestone. It solidifies that HyperSound can assist the hearing impaired and improve their listening experience.

Giving at roughly 48 million people in the U.S. alone have hearing impairments and many of them are likely to struggle with hearing and enjoy their TVs or audio systems for example, we view that as a very meaningful opportunity and are highly focused on bringing the first product to market in 2015. We'll be saying a lot more about the specifics of HyperSound for people with hearing impairments later this year.

On the consumer front, we view that as a priority for 2016 after we fully launched the HyperSound business in commercial and healthcare segments and are able to make product requirements and cost improvements that we feel we'll get from that scale and experience. In parallel, we’ll be ramping up efforts on licensing the technology in areas outside of the above three core product segments.

We’ve also beefed up the research team to drive continued advancement and breakthroughs in the core ultrasound audio technology area. Indeed I will tell you, even in the past 12 months that I’ve been engaged with Parametric, I’ve seen the team continue to discovering new characteristics of ultrasound audio that could open up additional future applications.

So we continue to be very excited about the potential for HyperSound. One of the major benefits of the merger is that the strong business on the Turtle Beach headset side enables us to invest in really advancing and protecting the HyperSound technology, commercializing products, driving sales and creating a foundation for growth in the coming years. You will see when we go through the numbers that we are making exactly those investments in the business.

Hopefully all of this gives you a good understanding of the forces that shape 2013 and more importantly the dynamics that are creating a bright future for the company. Before I turn the call to John to review the financials and outline our guidance, let me summarize the five key priorities for this year.

Number one; capitalize on the introduction of the new gaming consoles with first-to-market compatible products. We are one of two third parties currently licensed to produce and sell Xbox One headsets. Sell-in and sell-through of our initial three products, which launched in March has been very strong and given that Xbox 360 headsets don’t work on Xbox One without a proprietary adaptor, we feel we are in a strong position to benefit from the transition.

Similarly, we expect the robust sales of PS4 consoles to drive renewed growth of our headsets for that platform; all of this in the context of what we believe will be a positive multiyear dynamic. Number two, focus on product development and introduce an expanded offering of Xbox One and PlayStation 4 compatible products.

We are moving to quickly fill the gaps and price points, particularly the premium and above 150 as I discussed before and as always, we are focused on innovating and delivering the highest quality and best featured headsets in the category.

Number three; expand internationally and into new segments like media headsets and PC gaming headsets. Internationally, we make great progress in the U.K. and we’ll focus on growing faster than the market by taking share in countries where we are not as well established.

We’ve also launched new headsets for PC gaming, which is the dominant gaming platform in multiple international markets and we will continue to expand that product line. And we successfully launched our iSeries media headsets with distribution in Apple stores and we’ll work to expand that distribution consistent with our aspiration to establish ourselves in the broader media headset segment with outstanding feature-rich products over the coming years.

Number four, maintain and enhance the outstanding relationships that we have with our global retailers and the unique partnerships we have with leaders in the gaming category such as Microsoft, Sony, Activision, EA and MLG to name of few. This includes enhancing and leveraging our installed base of over 16,000 retail gaming headset displays, continuing to lead in retail presence and developing unique licensed headsets.

Number five; invest in research, product development and sales of HyperSound products. This year, we’ll focus on ramping commercial sales. Next year, we will add healthcare with the first product for people with hearing impairment and we are trying to expand products in the consumer segment in 2016 as I mentioned.

In parallel, we will explore opportunities to license new technology outside of our core product areas and as always, we’ll explore new fields and applications as we discovery them. As I mentioned, we are also investing to further the research and development in the core technology and identify new unique uses for this exciting technology.

There are lot of reasons to be excited about our future and I’m delighted to be able to formally accept the table for the first time post merger. We believe we have a great platform for near and medium term growth, based on our excellent position in gaming console headset market and we’re excited about the prospects for HyperSound in the medium and longer term growth we expect to drive with that technology.

We have a clear vision and a sound strategy for where we want to take this company and lost the expectations to grow rapidly as I’ve articulated with our internal aspiration to reach a $1 billion in revenue.

With that, I’ll turn it over to John.

John Hanson

Thank you, Juergen. Hello, everyone. And I want to thank everyone for joining us today. This is a very exciting and dynamic time for us and it’s great to be addressing all of you today. In my presentation, I’ll start with a review of our full year fiscal 2013 results for Turtle Beach as a standalone entity and then provide our outlook for the full year fiscal 2014 for the combined business.

Now before I proceed, I’d like to thank the finance teams from both Turtle Beach and Parametric for their efforts in integrating the financial operations of the two companies. This process has gone very smoothly and we continue to strengthen the controls and procedures in place to support the future growth of our company.

Turning now to the full year 2013 results for Turtle Beach, on a GAAP basis, revenue totaled $178.5 million compared with $207.1 million in 2012, representing a 13.8% year-over-year decline. As Juergen mentioned, the transitions of both the Xbox and PlayStation consoles contributed to a down year, not only for us, but for the overall gaming industry.

In addition, we believe Microsoft the way the implementation of headset audio for the Xbox One until March of 2014, also meaningfully reduced our Q4 revenues.

Gross profit totaled $50.3 million in 2013 compared with $74.3 million a year ago. Gross margin as a percentage of revenue was 28.6% compared to 35.9% in 2012. The decrease in gross margin as a percentage of revenue was primarily due to a shift in customer mix, including a higher percentage of distributor business as we expanded outside North America through our Lygo acquisition, higher refurbished product revenue, which carries a lower margin and less fixed cost leverage from the lower overall revenues in the year.

Operating expenses totaled $48.6 million compared with $31.4 million in 2012. The increase in operating expenses was primarily due to an increase in depreciation, amortization and stock compensation expense, which are non-cash expenses, non-recurring business transaction expenses relating to the Parametric Turtle Beach merger, operating expenses related to the Lygo acquisition and marketing cost.

The company made increased marketing investments in 2013 ahead of the new generation console roll-outs to position the company to maximize that opportunity and launch the new iSeries media headsets. We do not expect to continue making marketing investments at the 2013 run rate going forward.

On a non-GAAP adjusted EBITDA basis, the company delivered $13.9 million for the full year 2013 as compared to $47.4 million in 2012. The year-over-year decline in adjusted EBITDA was driven primarily by lower revenue as previously discussed, a change in customer mix, including higher distributor revenue as a percentage of total revenue, additional operating expenses from the acquisition of Lygo, increased marketing investments and an increase in research and development staffing levels.

Please note that we have provided a reconciliation of GAAP reported results to adjusted EBITDA in the accompanying tables at the end of the press release we issued today.

Now turning to the balance sheet for standalone Turtle Beach, as of December 31, 2013, cash and cash equivalent totaled $6.6 million and increase of $1.4 million compared with $5.2 million as of December 31, 2012.

The company add $64.6 million in outstanding debt as of December 31, 2013 compared with $74.3 million as of December 31, 2012, reflecting a decline of $9.7 million. Please note, that the total debt balance at the end of the year has historically reflected a high point in our borrowings to fund working capital needs related to holiday sales.

Accounts receivable decreased 19.3% to $52.9 million as of December 31, 2013, compared with $65.6 million as of December 31, 2012, due to the lower fourth quarter revenues year-over-year.

Inventory increased 24.4% to $50.6 million as of December 31, 2013, from $40.7 million as of December 31, 2012, primarily due to the Xbox One headsets that were manufactured and positioned for the 2013 holiday season prior to Microsoft announcing the delay in gaming audio to March 2014 and lower overall fourth quarter revenue.

Now, I would like to provide you with our current thoughts and guidance for the full year 2014 for the combined Parametric and Turtle Beach business. We currently forecast revenues in the Turtle Beach headsets segment to be in the range of $210 million to $230 million, representing growth of approximately 24% over 2013 levels at the midpoint of the range.

The strong anticipated revenue growth is primarily driven by the expected rebound in the core console gaming headset market, which we expect to be a multiyear trend.

As Juergen mentioned, we are still early into the new console platform cycle with PlayStation 4 and our compatible headsets having launched five months ago and Xbox One headsets having just launched a few weeks ago. This makes estimating overall console market performance and specific headsets attach rates challenging on both platforms.

Revenues from HyperSound are expected to be in the range of $1 million to $4 million, consistent with our expectations for the early stages of commercializing that technology. Gross margins are expected to be approximately 30%, a 150 basis point increase over 2013 with further improvement expected in 2015 as Turtle Beach's gaming headset product portfolio for new consoles expands and HyperSound becomes a more material part of our revenues.

Full year adjusted EBITDA for the Turtle Beach headset segment is expected to be in the range of $30 million to $35 million, representing growth of over 100% from 2013 and an adjusted EBITDA margin of approximately 15% at the mid-point of the range, up from approximately 8% in 2013 or 700 basis point improvement.

The company plans to invest approximately $10 million in HyperSound in 2014 in order to capitalize on the broad array of expected future opportunities for this technology.

Total company adjusted EBITDA for 2014 therefore is expected to be in the range of $20 million to $25 million, representing anticipated growth of approximately 140% over the pro-forma combined company adjusted EBITDA for 2013 at the midpoint of the range. The combined adjusted EBITDA range for 2014 also reflects approximately $3 million of additional public company expense associated with general and administrative costs.

We are not able to provide net income for 2014 at this time as we have not completed purchase accounting and valuation work relating to the Parametric merger. We expect to conclude that work in the coming months and hope to update everyone on our first quarter earning call in May.

And now I’d like to pass the call back over to Juergen for some closing remarks.

Juergen Stark

Great. Thanks, John. We believe that innovation and technology developed in ways that benefit users is the key way to long-term product success, by doing products right, high quality, user friendly, well packaged, attention to details and great customer service.

As I mentioned before, we have strong cash around these points, which has allowed us to become the market leader in gaming headsets. We are bringing that passion to the broader categories of media headsets and HyperSound products in commercial, healthcare and consumer segments.

In short, we are on a mission to deliver innovative audio products that provide better technology, quality and user experiences across multiple market segments. And by doing that, fuel growth and increased shareholder value in the coming years.

Before I close, I’d like to thank all of our employees for their hard work, dedication and excellent execution in the past year. Thanks to their efforts, we were able to successfully weather the challenging market environment and emerge in a great position to build on our leadership and capitalize on the many opportunities we see ahead of us.

With that, we’ll start with some questions. Thank you.

Question-and-Answer Session

Operator

(Operator Instructions) Our first question comes from the line of Sean McGowan with Needham and Company. Your line is open.

Sean McGowan - Needham and Company

Hi, guys. Thanks for taking the questions. I have a couple, some of them are sort of housekeeping-ish or trying to get a baseline for what we can expect in terms of information. So John, on a regular basis what segment information will you be providing when we see the K and then subsequent Qs, are we going to see good revenue breakdown between the two sides and what are the segment information we will see?

John Hanson

Yes, great. Thanks, Sean. The plan is for really two numbers, headsets and HyperSound.

Sean McGowan - Needham and Company

On revenue will it be...

John Hanson

On revenues.

Sean McGowan - Needham and Company

Any gross profit or operating profit or EBITDA breakdown as well?

Juergen Stark

Sean, this is Juergen. So for now, we are going to stick with revenues. As we said, HyperSound revenue, we expect to be about $1 million to $4 million. So it's not super meaningful yet and we will be clear as we have been now on the guidance with what kind of level of investment we are putting into the business. I think as it becomes more meaningful like next year, we will look at starting to break it out. I know that will be very important for people.

Sean McGowan - Needham and Company

Okay. I mean there is not much historical data on the Parametric historical numbers that are really going to mean much, but can we assume that whatever revenues there are from HyperSound, will be still at that higher than overall average gross margins?

Juergen Stark

Yes.

Sean McGowan - Needham and Company

Okay. And then so the $10 million investment is that basically all then at various operating expense levels?

Juergen Stark

Yeah, most of that is OpEx. So that’s based on like I said, a few million dollars of revenue and OpEx spend or investment in the business of over $10 million.

Sean McGowan - Needham and Company

Is that mostly sales people going out to try to sell it or can you give us some flavor?

Juergen Stark

No, it’s actually across the Board. It’s sales for the commercial business, product development, R&D and G&A.

Sean McGowan - Needham and Company

Okay. And John circling back on the -- you mentioned some unusual 2013 expenses, maybe we can take this offline, but I was just wondering if you could run through them again, [inaudible] non-cash things?

John Hanson

Sure. So depreciation, amortization, stock compensation in the adjusted EBITDA schedule that we provided in the back of the press...

Sean McGowan - Needham and Company

Oh, it’s all there. Okay.

John Hanson

It’s all there, but I’ll just give you some of the highlights right. Non-cash expenses increased $4.3 million year-over-year and then we did have an increase in business related -- business transaction related expenses associated with the Parametric merger, I should say of $3.5 million. So substantial increase in those two categories in 2013 and obviously we don’t anticipate the business transaction expenses being a run rate expense.

Sean McGowan - Needham and Company

Okay. And final housekeeping question and then one for you Juergen, what do you expect the tax rate to be John?

John Hanson

So right now, I think that -- and everything that we have -- that in the both proxies and we think that the company’s effective tax rate is going to be in the 38% range. Obviously as I've said before, we are working to get global tax scheme in place and do some better -- and do some new tax planning and better tax planning to obviously pick at and get the effective tax rate down.

Sean McGowan - Needham and Company

Okay, great. And then my final question is, I would have made the assumption that the early months or quarters are certainly of new consoles that the consumers buying these new consoles tend to be more hardcore gamers, little bit early adopter, a little more affluent.

So is the -- was the decision not to have premium headsets, what drove that? Is it that you just wanted to have something out there and that was -- you used to get out there in a short period of time or why not go for the really high end of the market and then work your way down? That seems to be what had happened before. You had higher priced models and it was later in the cycle that you moved down in price, although I am not remembering it correctly.

John Hanson

Yes Sean, actually I’m very glad you asked that, because what’s obvious to us is clearly not obvious externally. So, here’s a very simple straightforward reason. The higher end headsets tend to be, just as an example, wireless models, right. You tend to not have wired models at the mid and low tiers and the specs on both new platforms were how to connect and do all the proprietary things you got to do, especially on the Xbox One for example, which is as you know, a platform where you have to have a license and get direct access to the technology is just not far enough for long.

And so, we’re going to be ready for those things in the coming 12 months, but it was not possible, I don’t think for anybody to develop those. It's kind of a very natural normal progression of a hardware cycle.

Sean McGowan - Needham and Company

Okay. So...

John Hanson

Does that make sense?

Sean McGowan - Needham and Company

Yeah, it actually does and I look at the historical levels of gross margin and I understand there are lot of differences in marketplace, but can you sort of bracket what the upper end of the gross margin could be and recognizing again that at the outside of let’s say 2008 or something, you probably had -- like 2010, you probably had a lot less low end consumers in it and more high end stuff in the mix, in 2014 and 2015 it’s probably going to be a little bit more general. I understand all that, so can you tell us is it possible to get even up to 40% gross margin on Turtle Beach product?

Juergen Stark

Sure. Be happy to talk about that. The gross margin what we said is that our goal is to be in the mid 30s on gross margin. And we were just above 35% in 2012. Now that was probably a bit artificially high because of some -- in the past where it wasn’t kind of a fully established process for moving return in refurb market through a process and getting it back out to market, right.

So we commented that we’ve had to do some catch-up last year, which had a significant impact on margins and EBITDA. And that will get more normalized this year. But our goal in the headset category is probably to be -- move up a few percentage points over the next year or two as the portfolio fills in. And then I think as we fold in more HyperSound business, which we expect to be at a higher margin, we’d like to get above 35% over time.

Sean McGowan - Needham and Company

Okay. Very helpful. Thank you very much.

Operator

Our next question comes from the line of Mark Argento with Lake Street Capital. Your line is open.

Mark Argento - Lake Street Capital

Hey, good afternoon, guys. Thanks for taking my questions. First off, getting back to the Xbox product, I know the installed base is small but growing fairly rapidly, can you give us any, maybe real time anecdotal information about the sell-through, I think you alluded to it that it was looking fairly strong both at the sell-in and sell-through numbers as of recent?

Juergen Stark

Yeah. I won’t give specifics. One of the things Mark we are really sensitive to information that’s useful to you guys, but we don’t want to give information that’s really useful to our competitors, but especially not given we’re by far the King of the Hill here. So let me just say a couple of things.

We’re very happy with sales of the Xbox One headsets and I think as John alluded to and you’ll see in the press release, we expect Q4 actually to be about 10% up from Q4 2013, which was actually unusually high quarter and up about 50% from 2012. So -- and a fair amount of that by the way is obviously the launch of the Xbox One headsets.

So, we’re very pleased. We are pleased to be first in the market that we take pride in being able to do that and we’re very excited about that line up, our relationship with Microsoft, how their console is performing and all the things that are coming. Including the recent Titanfall launch, which we think will give a nice boost to that -- the whole Xbox set of platforms.

Mark Argento - Lake Street Capital

Right. And then shifting gears to the...

Juergen Stark

Sorry Mark, one clarification. I’d say Q4 -- I meant Q1, yes.

Mark Argento - Lake Street Capital

Q1?

Juergen Stark

Q1 will be up about 10% over 2013 Q1, versus Q1 2012. Sorry if I used that.

Mark Argento - Lake Street Capital

And while we are on that subject, in terms of quarterly -- I haven't seen any quarterly -- the quarterly breakdown in the press release. Will you guys be giving us historical quarterly once the audit is done in terms of -- so we can get our models tuned up a little bit, because I am not certain I have a good Q1 number to base that year-over-year growth of -- estimate off of in terms of guidance?

Juergen Stark

Yes. Mark. When the 8-K comes out, you’ll see that there is a quarterly breakdown in net revenue for 2013 and 2012. Let me just summarize what it -- how it typically works for us though. Q4 is by far the highest. Its often can be around 50%. The second best is -- I think by the way it supplies the whole gaming industry, Q3 and it’s largely the back end of Q3 as it start to ship in for holidays kind of very natural. And then the third best -- it typically tends to be pretty strong as Q1 and then Q2 tends to be the lowest or by far the lowest quarter.

Mark Argento - Lake Street Capital

Okay. Thanks, that’s helpful. Shifting gears, I guess kind of staying on the whole concept of guidance, so the full year guidance of $210 million to $230 million, I believe on the handset business, I don't know, I am guessing you are going to tell me, I don't want to get in this granularity, but could you maybe help me understand what assumptions underlie that in terms of kind of the installed base of next-gen? How much of that would be next-gen headsets, just trying to better gauge where we need to see the end market if you guys just feel comfortable with your guidance?

Juergen Stark

Yes, actually I appreciate the question because as I said in my comments, it’s not all that easy at the moment to actually run all these calculations and see how that whole market is going to do.

Maybe a little bit harder actually even for the whole industry, for us in the hardware business or anybody making accessories and hardware because they tend to lag a bit. So what -- but we have and I won’t do any breaking out or anything like that as you said for competitive reasons. But we’ve got a very detailed model that we use to forecast our year that gets all the way down to SKU by SKU and helps us plan supply.

Of course it’s based on inputs and overall console sales and attach rates and market share are three key assumptions. So -- and we’ve got -- we use public sources for the overall console forecast BFC, NPD all the guys that you’d expect and work our model from there. And of course the higher end of the range in general reflects higher assumptions on overall market console sales and higher attach rates.

And the lower end of the range reflects lower numbers in those pieces here. And on the share number, our aspiration -- our goal is to hold our share in the U.S. and in the markets like the U.K. where we are well established. It’s not an easy feet by the way because at 50% and five times as big as the next biggest competitor right. We hold our share there. We gain share in countries where we are newer or less established and all that's kind of factored in the model.

So the short answer to your question is the biggest variables are overall performance of the console industry and attach rates. And we will know as the year goes by the way, we will never have perfect information because Q4 of courses is a very large part of the business, but the visibility will get much better as we go through the next few quarters and the consoles are been out for a while.

And the old generation is a little more stabilized in terms of being able to forecast what those will do; I think we’ll have much better information as we go along.

Mark Argento - Lake Street Capital

Great. And so a fair answer to a tough question. And then in terms of like I said this was for John. You said kind of the seasonality of the business, peak runs end of the year. Can you tell us kind of where you stand in terms of your cash collection right now? I assume you paid down the debt levels to or this been able to get a lot of their receivables back and pay down the debt. Where you stand in generally where you are right now because of the balance sheet?

John Hanson

Yes so typically -- historic what you'll see is that the company has been able to reduce its revolver in term loan combined facilities somewhere from in the $25 million to kind of $35 million range this time a year, right, associated with the heavy cash flows that come from the holiday season.

What we noted is we want to make sure that we note here is that the company no longer has a term loan. The company paid off the term loan at the end of February, which we've talked about publicly.

And so, right now we have a revolver facility that is in and around a range we talked about and we’ll have -- we’re actively working around establishing a more global bank facility and so we’ll have some more -- we’re doing a lot of work right now. It's quite a bit of effort around that level, little more to talk about here. So I really think a lot of insight at this point but certainly we'll have more to talk about.

Juergen Stark

Yes, and just maybe one add-on for me that putting an improved credit facility in place, its global and is more supportive of the long-term prospect for the company. It's real important and John and team has been working very hard on that. And that’s a very important part of putting this in a position where we’re able to be very comfortable with our liquidity and our working capital needs.

Mark Argento - Lake Street Capital

Okay. And last one for me is shifting gears to HyperSound business I think you talked about $1 million to $4 million in potential revenue this year, is that going to be all coming from the commercial part of the business and if so when do you think you can start to see some uptake of revenue potential from the medical part of that business?

John Hanson

Yeah, great. So, it’s very worth clarifying and understanding. So, the $1 million to $4 million is all the commercial business. And as I mentioned, the minute we closed the transaction we actually restructured the sales team and are really just starting to drive that in a way to get it commercialized. But we’re pioneering the segment, right.

So we’re -- you go in, people just tend to be absolutely astounded when they see the technology, but you got to get in, you got to show them. And then they’re typically blown away frankly and then they start thinking about all the way to use it and build it into whatever they’re doing.

Their retail kiosk, their stores, restaurants, right, you do pilots. So all that will take some time and that’s the reason why we’ve got some modest expectations for this year but feeling very good about where the commercial part of that business is heading.

And then, very important priority is developing the product for people with hearing impairments and that as I’ve said, the expectation there is to launch that next year. So there is no revenue build in this year for that. And we’re very excited about it. I have mentioned before we did our own testing before that merger and a few of us here including myself have personal experience with people kind of also testing their product with hearing impairments and in addition to the business opportunities, I’m personally just very excited to be able to bring a better listening experience to millions of people who cannot enjoy watching the TVs any more.

Mark Argento - Lake Street Capital

Okay. Thanks. And then I would like to get one more quick one, just in terms of the name change and the ticker change, what do you expect that to become a practice?

John Hanson

Yes. The work -- we've said in May, we’re working at name change, ticker symbol change. I would tell you, I love to hear, I think it’s very good for us and keep some change as well.

Mark Argento - Lake Street Capital

Great. Well, congrats on becoming a public company and look forward to watching you guys grow the business.

John Hanson

Thanks a lot Mark.

Juergen Stark

Thank you, Mark

Operator

Our next question comes from the line Rob Stone with Cowen & Company. Your line is open.

Rob Stone - Cowen & Company

Hi, guys. Thanks for taking my questions. I apologize if there is any background noise. I’m still in the airport. So you mentioned expanding the SKUs as you get spec and so forth, are there any particular launch in those or other figures we should be thinking about to what those expanded SKUs might be tied over time and for example maybe title-specific products as well?

John Hanson

Yeah, good question. So, the first one is one we just went through and executed very well on, which is the Titanfall launch, right. Titanfall is expected to be one of the biggest releases on the Xbox platforms this year. So that's kind of done. And the next one is our work with Activision and I won’t say any more there, but as we have in the past, that’s a partnership we really value and we will look to do some more headsets for their next launch there.

And then obviously the holiday season is a key season. So some of our portfolio plans are geared up to introduce the right products in type for holiday and then headsets like some of the higher end models that are dependent on the specs and when we get them, we'll be driven by the timing of the technical information to us to allow the product development to happen.

Rob Stone - Cowen and Company

Is there foreseeable timeline for technical specs coming out or...

Juergen Stark

That’s -- yeah, but I won’t get more specific again just for competitive reasons for our timeframe plans are there.

Rob Stone - Cowen and Company

I know it’s very difficult these time not necessarily the same as prior generation, but can you maybe give a general sense of the typical tail of business for prior generation products? Just go to zero on prior generation stuff of course when new products come out and is there a way to think about that in proportion to next gen over the next year or two?

Juergen Stark

Yes, Rob actually another point that we know well from our seat, but may not be well understood externally, so I am glad you asked. So right now, if you look at the industry analyst forecast and you can go use whatever source you want, but let me just say that around this year the installed base of new generation consoles is expected to be called around a quarter of the installed base, around 25%, okay, which means 75% of the installed base is old generation consoles, all right.

So -- and by the way I would guess that 25% penetration of a new platform in the first year I would guess if that flows away prior launches and that’s why you saw as that consoles launched in Q4 these outside research analyst who do these numbers had the keep upping their numbers because they kept in long on the low side.

So that’s a very good thing for new platform sales, right, but 75% of the installed base is old platform and companies like Microsoft have stated that they plan to continue to support the Xbox 360 and are actually -- I think their public numbers have stated that they want to drive roughly another 20 million units of sales in the next three years.

So let me give you one more industry forecast stat, which is based on what we see from these analysts, the crossover point happens in 2016. Now 2016 the new generation starts to overtake the old generation in terms of the number of consoles that are in installed base. Hopefully those two stats will give you what are you looking for.

Rob Stone - Cowen and Company

Well, the last piece was I guess there is a natural propensity, I got the new box and then if I have the cash, I want to get to new gears to go with it. But what kind of attach rate is there on that 75% of those -- of old or previous generation install base?

Juergen Stark

Yeah, good. So historically and I think we've said this before, I think the industry analyst everybody’s number shows around 8% to 10% is kind of historical attach rate on old -- on any console frankly, right?

So new gen is probably different. You got pent-up demand. You got different characteristics obviously. But even the 8% to 10% this is one of the dynamics that I mentioned is we don’t have numbers. I haven't seen seeing numbers from anybody in terms of how that behaves when a new council platform is out there. Remember that last time the console is changed there was no big install base of any kind of meaningful accessories, right.

And so that’s one of the numbers that attach rate of old gen is one of the things that drives the range in our guidance or forecast for this year and that's something we’ll be paying close attention to especially once the market stabilized.

Right now we think a lot of disposable income is being -- in the gaming segment is being moved over by new consoles, right. But that trend is going to stabilize over time and my guess in the next couple of quarters, we’ll be able to do a much better job -- the industry will be able to go do a much better job of estimating what attach rates for software accessories all that will look like for the next couple of years for the old generation. That’s a long winded, but hopefully that answers your question.

Rob Stone - Cowen and Company

Yes, that was very helpful. I’m intrigued by your comments on HyperSound licensing and obviously if you find certain new markets you probably want to develop themselves. Is it too early to say what segments or areas of interest might be ones that you just prefer to license as opposed to self develop?

John Hanson

Yeah. Sure. I’ve talked about this a little bit in prior investor presentation, so I can talk about it. There are -- one of things about HyperSound, when people see it, they come up with 27 ways to use it, 19 of which we might have not thought of before.

So, some good example that I’ve given would be automotive, right. So we’ve been -- we’ve talked to people. People have come up with the idea that it wouldn’t be great for a driver to be able to get navigation data or navigation audio only and not have to kind of have that drawn out with the rest of the car, right.

So, that’s -- we haven’t done any work on that. There are obviously a lot of things that would need to done to turn that into a real application, but just as an example, we wouldn’t go build a sales channel and all the capabilities to deal with automotive manufacturers. We would just talk to a company that in that space in licensing technology. And so, that will give you one example.

There are potential government uses, right. You can come up with all kinds of ideas, if it’s not in one of the core product areas, right. Commercial for retail and kind of what we call sound zones, the consumer products that we’ll look at that are kind of sound bars things like that, where the hearing health product then that becomes more likely that we would look at licensing.

Rob Stone - Cowen and Company

Okay. My final question is with respect to broadening out into additional headset verticals, how do think about your product positioning in media headsets, which I guess is itself a non-trivial market size and what do you think are your key competitors as you went into that?

John Hanson

Yes, good. So we, as you know we launched the iSeries last year with Apple distribution I mentioned in my comments that we’re going to -- we’re looking this year to expand the distribution of that. We were very proud frankly to be able to work with Apple on the initial launch, but obviously the secret here will be to get more broad distribution. So that’s we’re working on.

But I’ve also said that, look it’s a very big category. We have what we think are -- what we’re doing exactly the same thing, we’ve done in the gaming segment for many, many, years which is introduce feature rich, high performance headsets. And if you look at the reviews for iSeries, you’ll see that, that’s exactly what we’ve done.

But I am also been clear that it’s a big market. It's very, very competitive. We have a couple of large players with very large marketing dollars and you saw those at work in Q4, right. And so this for us it’s a multiyear strategy. We’re not going to go spend $10 million or $20 million in marketing to try to out compete with these guys. We will do this through some selective marketing, build word of mount and at the end of the day, have great quality products that sell themselves over time.

Rob Stone - Cowen and Company

Great. Thanks very much for taking my question.

Juergen Stark

Great. Thank you.

John Hanson

We’re getting close to end here. Do we want to take one or two more questions? Okay.

Operator

Our next question comes from line of [Steven Franko] (ph). Your line is open.

Unidentified Analyst

Good afternoon. Couple of quick ones. Where are you on working down the inventory of refurbished goods?

John Hanson

Yeah good. In a much, much better place here. I had mentioned in the past and maybe that’s why you’re asking Steven that there wasn’t as robust of a process. So every consumer electronics company gets return product of course most of it by the way not affected, that's just a normal part of how consumer electronic work. And you have to move those back into the market.

So we had kind of a pile to work down in 2013, and we'll continue and that's in a good place now. But they are much more stabilized process where kind of the incoming and the outgoing are roughly equal. We’ll continue to do work on that this year, but I’ll just be very transparent there. We’re still -- we’re in a good position, but that will be a normal part of our margins and business going forward where 2012 I would say didn’t really reflect the normal type process that we would have or should have had.

Juergen Stark

And we have additional resource to focus.

John Hanson

Yeah. We’ve got -- exactly. We've got a good outside partnership that we’re working with and resources focused on managing that in a very robust going forward.

Unidentified Analyst

And should we expect gross margins to kind of start at a low point and ramp through the year to get to your 30% rate?

John Hanson

No, not necessarily. We think that the year -- you know, the margin will move around based on which products were slated for holiday versus now and all that. But the margins I don’t think tend to move a ton quarter to quarter.

Juergen Stark

Just pretty for a fixed cost leverage.

Unidentified Analyst

Okay. And then on -- what are channel inventories like with the old generation Xbox and PS 3 products where are they relative to where you think they should be?

Juergen Stark

The old generation product sales were slower in Q4 than we expected and I think than retailer expected and so they are somewhat higher than we would like. That’s not -- we don’t view that as a major problem. That's just something that we work on and they work on.

Unidentified Analyst

And are you comfortable as with kind of what the balance sheet is going to look like at the end of Q1 at consoles running highly levered like you have in the past or as a public vehicle, would you look to find opportunities to pay down that leverage and build up the cash?

Juergen Stark

Right now the highest priority on that front is to improve the credit facility. We feel that will give us exactly what we do frankly and again as John said, we’ll talk more about that in the coming weeks when that is finished. And of course we'll always look at the capital structure and balance sheet and if there is an opportunity to do something, we’ll do it, but right now that’s not on the table. We are focused on getting the credit facility improved and executing on the business?

Unidentified Analyst

And the last quick question what was the cash flow for the year?

John Hanson

So you mean free cash flow?

Unidentified Analyst

What was the cash from operation and what was free cash flow, if I could have both that would be great.

John Hanson

Hang on. Hey Sean, I can read just in the interest of time, since we are five minutes over. Sorry, [Steve], can we -- can I shoot you an email or...

Unidentified Analyst

That's in the cash flow statement, I got pulled up here.

Juergen Stark

Okay. That’s fine.

Unidentified Analyst

Thanks.

John Hanson

Thanks, Steve. So let’s take one more question and then we will close up here.

Operator

And our final question comes from line of Sean McGowan, a follow-up from Needham & Company. Your line is open.

Sean McGowan –Needham & Company

Two quick housekeeping questions that I didn’t ask before, you brought it up with your Q4 comments. You are going to stick with December fiscal year as far as we know?

Juergen Stark

Yes, for now we are -- in the future we may look to make a change to that, but post merger, we need to stick with the December fiscal.

Sean McGowan –Needham & Company

Okay. And what’s the revenue recognition policy on the commercial HyperSound product? You shipped as you booked there is no complexity to that?

Juergen Stark

That is correct. We are not providing other services multi element revenue recognition rules are not a part of that.

Sean McGowan –Needham & Company

Okay. Thank you.

Juergen Stark

Sure. Hey, I want to just thank everybody again for allowing us to as I said before, set the table for the first time with our first set of information about where we've been and where we are going. We are very excited about the future in front of us and also appreciate all the great questions and the opportunity to clarify a couple of points on those.

So thank you very much. And with that we will close up

Operator

Ladies and gentlemen, thank you for participating in today’s conference. This does conclude the program. And you may all disconnect. Everyone, have a good day.

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