LeapFrog 2012 Annual Report Download - page 52

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LEAPFROG ENTERPRISES, INC.
NOTES TO THE CONSOLIDATED FINANCIAL STATEMENTS
(In thousands, except per share data)
forecast, anticipated product selling prices, the expected product lifecycle, and products planned for
discontinuation. If actual future usage, demand for the Company’s products and anticipated product selling
prices were less favorable than those projected by management, additional inventory write-downs would be
required, resulting in a negative impact on gross margin.
The Company monitors the estimates of inventory write-downs on a quarterly basis. When considered
necessary, the Company makes adjustments to reduce inventory to its net realizable value with corresponding
increases to cost of sales.
Capitalized Product Costs
The Company capitalizes certain external costs related to the development of content for its learning products,
including design, artwork, animation, layout, editing, voice, audio and apps included in the learning products.
Such costs are capitalized once the technological feasibility of the product is established and costs are
determined to be recoverable. Amortization of these costs is included in cost of sales and begins when the
products are initially released for sale and generally continues over a two-year life using the straight-line
method. 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, 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 generally 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. Depreciation expense for manufacturing tools is
included in cost of sales.
Goodwill
The Company reviews its goodwill for impairment at least annually as of 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. If the qualitative assessment
concludes that it is probable that there is impairment, then a quantitative assessment must be performed. The
Company early adopted this guidance for its 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 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
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