LeapFrog 2011 Annual Report Download - page 61

LEAPFROG ENTERPRISES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except per share data)
Such costs are capitalized once the technological feasibility of the product is established and costs are
determined to be recoverable. Amortization of these costs begins when the products are initially released for
sale and continues over a two-year life using the straight-line method, and is included in cost of sales. The
Company evaluates the future recoverability of capitalized amounts periodically and recognizes write-downs
of these amounts in cost of sales as needed. Capitalized content costs that are cancelled, abandoned or
otherwise deemed impaired are charged to cost of sales in the period of cancellation.
The Company also capitalizes external website development costs (‘‘website costs’’), which primarily include
third-party costs related to developing applications that are an integral component of certain products the
Company markets, as well as costs incurred to develop or acquire and customize code for web applications,
costs to develop HTML web pages or develop templates, and costs to create initial graphics for the website
that included the design or layout of each page. Website costs are amortized on a straight-line basis over
two years. The Company evaluates the future recoverability of capitalized website costs periodically and if an
impairment loss is considered to have occurred during the period, accelerates the amortization and records it
in ‘‘depreciation and amortization’’ in the statement of operations in the same period.
Property and Equipment
Property and equipment is stated at cost less accumulated depreciation. Depreciation expense is calculated
using the straight-line method over the estimated useful life of the assets, generally between two and three
years, except for leasehold improvements, which are depreciated over the shorter of the estimated related
useful life of the asset or the remaining term of the lease. Amortization of equipment under capital leases, if
any, is included in depreciation expense. Depreciation expense for manufacturing tools is included in cost
of sales.
Goodwill
The Company reviews its goodwill for impairment at least annually on December 31, and between annual
tests if events occur or circumstances change that warrant a review.
In September 2011, the Financial Accounting Standards Board (‘‘FASB’’) issued new guidance that permits an
entity to first assess qualitative factors to determine whether it is more likely than not that the fair value of a
reporting unit is less than its carrying amount as a basis for determining whether it is necessary to perform the
two-step goodwill impairment test. Under this guidance, if an entity determines, after assessing such
qualitative factors, that it is not more likely than not that the fair value of a reporting unit is less than its
carrying amount, then performing the two-step impairment test is unnecessary. The Company early adopted
this guidance for our December 31, 2011 annual goodwill impairment test.
The Company’s qualitative assessment includes consideration of relevant events and circumstances that may
impact the carrying amount of the reporting unit to which our goodwill is allocated. The identification of
relevant events and circumstances and how these may impact a reporting unit’s fair value or carrying amount
involve significant judgment and assumptions. Relevant events and circumstances identified include, but are
not limited to: macroeconomic conditions, industry and market considerations, cost factors, overall financial
performance, LeapFrog specific events and share price trends. Additional judgment is required to determine
relative importance and impact of each factor.
If the qualitative assessment concludes that it is probable that there is impairment, then a quantitative
assessment must be performed. Application of the goodwill impairment test requires significant judgment,
including identification of reporting units, assignment of assets and liabilities to reporting units, assignment of
goodwill to reporting units, determination of the fair value of each reporting unit, and projections of future net
cash flows, which projections are inherently uncertain. The fair value of each reporting unit is estimated using
a combination of a market approach and a discounted cash flow methodology. The market approach requires
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