LeapFrog 2005 Annual Report Download - page 54

expenses was primarily due to increases in legal expense attributable to enforcing our patents, increase in
consulting and auditing fees and restructuring related charges associated with our realignment plan.
During the second quarter, net loss increased from $7.4 million in 2004 to $9.8 million in 2005. The higher
loss was due to lower gross margins resulting from unfavorable segment mix, higher research and development
caused by more spending on our new generation of Leapster software titles and additional content for our FLY
Pentop Computer, combined with higher advertising expenses associated with our U.S. Consumer segment’s
summer television campaign. These factors were partially offset by higher sales.
During the third quarter of 2005, net income increased by $12.6 million compared to the same period of
2004, and was primarily due to an increase in gross profit of $15.2 million, due to both higher sales and gross
margins. Higher sales were due to the launch of Leapster L-MAX in the U.S. Consumer segment and shipments
to retailers of our FLY Pentop Computer in the third quarter. A favorable product mix, including higher sales of
software and lower freight costs compared to the same period in 2004 drove the improved gross margins. In
addition, research and development decreased by $1.3 million and advertising decreased by $2.6 million which
were partially offset by a $2.8 million increase in selling, general and administrative expenses.
During the fourth quarter, net income improved from a loss of $7.5 million in 2004 to income of $14.4
million in 2005, and was primarily due to an increase of $8.3 million in gross profit and a decrease of $24.0
million in operating expenses. The increase in gross profit was due to reduced sales allowances in 2005
compared to 2004, when customers received allowances to offset operational issues encountered during the
start-up of our new distribution facility in the third quarter of 2004, and lower expense for excess and obsolete
inventory compared to the same period of 2004. We recorded a charge for excess and obsolete inventory of $9.6
million in 2005 compared to $14.6 million in 2004. The decrease in operating expenses was primarily due to a
$5.5 million decrease in selling, general and administrative expenses directly related to lower compensation and
employee expenses, a $9.3 million decrease in research and development mainly due to reduced expenses relative
to 2004 for our FLY Pentop Computer platform and related content, and a $9.9 million decrease in advertising
primarily due to discontinued U.S. Consumer catalogs and cost containment efforts.
Liquidity and Capital Resources
LeapFrog’s primary sources of liquidity in 2005 and 2004 have been:
• Net cash flows used in operating activities: Increases in net working capital which were partially offset
by net income in 2005 and non-cash charges.
• Net cash flows provided by investing activities: Net proceeds from sales and purchases of investments
totaling $16.7 million and $26.7 million in 2005 and 2004, respectively.
• Net cash flows provided by financing activities: Proceeds from the exercise of employee stock options
and the employee stock purchase plan of $10.6 million and $13.0 million in 2005 and 2004, respectively.
Cash and related balances are:
December 31,
2005(1) 2004(1) Change(1)
Cash and cash equivalents .............................................. $48.4 $60.6 $(12.2)
Short-term investments ................................................. 23.7 28.2 (4.5)
Total ........................................................... $72.1 $88.8 $(16.7)
% of total assets ...................................................... 12% 16%
Restricted Cash
Short-term ....................................................... $ 0.2 $ 8.4 $ (8.2)
Long-term investments ................................................. $— $ 3.7 $ (3.7)
(1) In millions.
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