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Executives

Karen Sansot

John Barbour - Chief Executive Officer, Director and Member of Non-Executive Officer Stock Award Committee

Raymond L. Arthur - Chief Financial Officer

Analysts

Lee J. Giordano - Imperial Capital, LLC, Research Division

Andrew E. Crum - Stifel, Nicolaus & Co., Inc., Research Division

Sean P. McGowan - Needham & Company, LLC, Research Division

Michael A. Swartz - SunTrust Robinson Humphrey, Inc., Research Division

John Taylor

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

James Andrew Chartier - Monness, Crespi, Hardt & Co., Inc., Research Division

LeapFrog Enterprises (LF) Q1 2013 Earnings Call May 2, 2013 8:30 AM ET

Operator

Good morning. My name is Steve, and I will be your conference operator today. At this time, I would like to welcome everyone to the LeapFrog First Quarter 2013 Earnings Conference Call. [Operator Instructions] Thank you. I'll now turn the conference over to Karen Sansot, Senior Director of Investor Relations. Please go ahead.

Karen Sansot

Thank you. Good morning, and welcome to the LeapFrog Enterprises conference call to review our results for the first quarter ended March 31, 2013. I'm Karen Sansot, Senior Director of Investor Relations. Today on the call, we have John Barbour, our Chief Executive Officer; and Ray Arthur, our Chief Financial Officer.

Before we begin, I have a quick housekeeping item to go over. Our closed communication period, during which we will be unavailable to talk with investors or analysts about our business, will begin on Monday, July 1, and will last until we announce our second quarter results, which we anticipate to announce in early August.

And now the Safe Harbor statement. We wish to remind you that our statements today will include forward-looking statements, including management's expectations regarding anticipated second quarter and full year 2013 financial results. In addition, we expect the questions posed in the Q&A portion of this call to prompt answers that contain additional forward-looking statements not included in our prepared remarks. You should be aware that actual results might differ materially from those projected in any forward-looking statements. Some important factors that could cause actual results to differ materially from those in the forward-looking statements are described in our most recent Form 10-K filed with the SEC. LeapFrog makes these statements as of today, May 2, 2013, and disclaims any duty to update them.

I would now like to turn the call over to John Barbour.

John Barbour

Thank you, Karen, and a good morning to everyone. As the CEO and a shareholder of LeapFrog, I am very pleased with our performance in quarter 1 and the progress that we're making on our 2013 initiatives. During the quarter, we delivered solid sales, earnings and cash flow growth while making significant long-term investments in our business.

Our life-changing learning solutions continued to be recognized for their exceptional education and entertainment value, receiving many prestigious awards. And we launched our 2013 multimedia product line to our major retail partners around the world. And their feedback was very positive.

While it's early in the year, we're tracking to have a successful 2013. And more importantly, we're investing in our future so we can extend our leadership in the children's education entertainment business and further strengthen our foundation for growth. All of us at LeapFrog have a deep passion for creating the best learning solutions that help children around the world achieve their potential while also creating significant value for our shareholders.

Now let me take a few minutes to talk about our first quarter performance. We delivered market-leading net sales growth of 15% year-on-year despite challenging economic conditions in most of the markets in which we operate. Our net sales in the U.S. increased by 11% and by 26% in international markets.

Net sales had strong double-digit growth on each of content, platforms accessories and toys. Content was the largest driver of our sales growth as we continue to capitalize on the installed base of millions of connected multimedia learning platforms. In addition, accessories sales for our platforms had exceptional growth and were up 55% year-on-year. Both content and accessories increased as a percent of our total sales mix.

Content and accessories sales were driven in part by our late December and January retail promotional activities, which we call our Q5 programs. They're designed to create a sell-through of additional content and accessories for the new platforms that were received as holiday 2012 gifts. Our Q5 initiatives for this year, including having more displays and end caps, incremental retail facings, more catalog placement and greater online marketing plans, including direct e-mails to our millions of connected customers.

As a result of our sales growth and continued cost control, we improved our operating results by 47%, and we're EBITDA positive in the first quarter for the first time since 2003. We delivered $69 million of free cash flow, which is up 12% year-on-year, even with our expenditures for long-time investments.

Speaking of investments, this year, we're making significant long-term investments in content, new business categories, line refreshments and extensions, international expansion, online communities and internal operating systems. Within content, we're creating significantly more titles and offering those titles across many different form factors. We're investing in our own intellectual property to expand the awareness of our current portfolio of lovable characters and to create new characters. We're making great progress in the first of our 4 new DVD movies from the deal we announced with Lionsgate in November 2012. A couple of weeks ago, I saw the first animation clip from the studio, and they look fantastic.

In addition, we're expanding our distribution relationships with third-party partners and expect to have about 800 educator-approved titles in our library by the end of this year. We also continue to explore the potential of delivering our extensive library of educational entertainment content to other platforms such as Apple and Android devices. We focus on exceptional brand and track record and delivering the absolute best in children's educational entertainment. We believe there are additional categories where we can make our proprietary education curricula and entertainment expertise and build new lines of business. We're currently working on some exciting new technologies that will help us deliver life-changing educational entertainment experiences in categories that we do not operate in today. More to follow. We're also looking to expand our business internationally.

Our International business has exhibited very strong double-digit sales growth over the last 3 years, which gives us confidence that our products have the opportunity to perform well in many of the geographies where we do not operate today. We're currently investing new opportunities in Europe, Asia and South America. Today, we have more than 13 million parents connected to our business, and many of them are keen for support and guidance on their children's development and educational journey. We are uniquely positioned to provide those parents with a safe and credible place to share those ideas, discuss their child's progress and to get answers on important questions they may have. We're making good progress on building a new online community infrastructure.

Over the last 2 years, our sales have grown over 30%, and our business has become more complex. As we discussed earlier this year, we have big visions for this company but are acutely aware that we need to have the operating foundation to support potential growth. Over the next 12 to 24 months, we're investigating and upgrading and expanding our internal business systems to provide us with a solid foundation for success.

But back now to some of our other accomplishments this year. As a result of our reference and expertise in developing the best educational entertainment for children, LeapFrog received some very prestigious awards in the first part of this year, which built upon our track record of winning hundreds of industry, education and parenting awards over our 18-year history.

In February, at the 13th annual U.S. Toy Industry Association's Toy of the Year Awards ceremony, LeapPad2 received the inaugural People's Choice Toy of the Year and the Education Toy of the Year awards. The People's Choice was the only award of the evening voted on exclusively by consumers. This award validates the popularity of educational entertainment solutions with parents across the country. LeapFrog has now won Educational Toy of the Year 8 out of 13 years and has won a total of 18 Toy of the Year awards from the U.S. Toy Industry Association.

In March, our learning game Jake and the Never Land Pirates received a 2013 ON for Learning Award from Common Sense Media, the national nonprofit dedicated to help parents and teachers manage the media and technology in children's lives. This esteemed honor is given to the top children's media products that received the highest rating for the learning potential from Common Sense Media based on research from leading experts on both educational and digital media.

Also in March, 6 of our learning games won Parents' Choice Spring Video Game Awards. LeapFrog won more Parents' Choice Video Game Award than any other brands. The Parents' Choice Awards committee evaluated top-quality products to entertain, teach, stimulate the imagination and inspire creativity. The 6 learning titles were Phineas and Ferb, Letter Factory, Brave, Learn to Read Ultra eBooks, Adventure Stories and Fairy Tales and Jake and the Never Land Pirates.

In quarter 1, we also won a Wal-Mart Supplier of the Year Award. This is a very special achievement as it is awarded to only 1 company in the whole toy industry. It's a terrific recognition to the great job that our team did last year.

Building on our first quarter momentum, in March, we launched our 2013 multimedia product line throughout major retail partners around the world, and we received a very positive global response. We have an exciting product line that provides the best educational entertainment designed specifically for children to be kid tough, kid safe and kid fun, and most importantly, offers rich nutritional education.

And just this week, we unveiled our LeapReader line of learn to read and write products at 2 major media events in New York City. Many influential consumer, business and tech media journalism bloggers attended these events. The LeapReader line received extremely positive feedback and some great early media coverage. In June, like the last couple of years, we will announce to consumers our new tablets, toys and content for the second half of 2013.

So in summary, we're off to a great start and making really good progress in our 2013 business plans. We delivered solid first quarter financial results, continue to receive prestigious awards and made investments in key long-term opportunities. We are passionate about helping children achieve their potential. That's why the LeapFrog team continues to drive innovation and excellence in children's learning solutions and why we're keenly focused on building for the long term.

I'd like to finish by thanking all of the dedicated LeapFrog employees around the world for their passion for helping children achieve their potential and an incredible commitment to our business. I'm very proud of the progress we've achieved together.

Now I'll turn the call over to Ray Arthur, LeapFrog's CFO, who will talk about our Q1 performance and 2013 outlook in more detail.

Raymond L. Arthur

Thank you, John, and good morning, everyone. I'm pleased to report that LeapFrog turned in a strong performance for the first quarter of 2013. The performance was due in part to restocking efforts by retailers after a strong 2012 holiday season, consumer sell-through and an earlier Easter this year than last. While the first quarter is seasonally insignificant relative to our full year business, we're encouraged by these results and believe that we are on track to achieve our 2013 business plans.

Worldwide net sales for the quarter were $83 million, up 15% compared to that of last year's $72 million in sales, and the impact on net sales from changes in currency exchange rates was immaterial. The worldwide growth was driven by strong double-digit sales growth in content, platforms, accessories and toys.

Net sales for our U.S. segment were $58 million, up 11% compared to the $52 million reported a year ago. Net sales growth in the U.S. segment was largely driven by increased sales of platforms, content, accessories and toys. This performance was particularly offset by higher defective return allowances in Q1, primarily due to a large increase in platforms sold in the fourth quarter of 2012 versus 2011.

In our International segment, net sales were $25 million, up 26% compared to the $20 million reported a year ago. Changes in currency exchange rates did not have a material impact on sales. Our sales growth was driven by increased sales of platforms, content and accessories. This sales performance was partially offset by higher trade discounts and allowances.

By business line, worldwide net sales of multimedia learning platforms and content, which includes tablets, game systems, reading systems, content and accessories, increased 17% year-over-year. Sales of content and accessories, as well as LeapPad hardware, were particularly strong and more than offset expected declines in older platforms that we are transitioning out of, such as Leapster2, which is a 5-year-old gaming platform that's been replaced by LeapsterGS and Tag, which is also a 5-year-old learn to read system that will be replaced by LeapReader, our new learn to read and write system in mid-2013. Learning toy net sales increased 23%, reflecting the sales of our new Touch Magic toy line introduced in 2012 and improved sales in our Milestones and Scout toy lines.

Turning to gross profit for the quarter. It was $33 million, an increase of 12% compared to the $30 million reported for the prior year. Gross margin was 40.2%, down 110 basis points year-over-year. Gross margin was favorably impacted by higher sales volume, resulting in fixed cost leverage, as well as lower freight and warehousing costs. This was more than offset by higher trade discounts and allowances, which were due to a couple of reasons. First, we had higher sales growth in international markets that have higher discount and allowance rates. And a second, as a result of far higher tablet sales in the fourth quarter of 2012 versus the fourth quarter of 2011, our trade allowances for defectives and returns were higher in the current quarter. Additionally, gross margin was negatively impacted by a higher mix of sales of third-party distributed content, which carries a lower gross margin than on our other content but generates a high operating margin given its revenue share model.

Operating expenses for the quarter were $38 million, flat compared to the $38 million reported a year ago and are down 750 basis points as a percentage of net sales. Operating expenses in the first quarter of 2012 included a $3 million bad debt expense related to an isolated customer bankruptcy. Excluding this expense, operating expenses would have increased 8% year-on-year. SG&A decreased 8%, primarily due to the $3 million bad debt expense we incurred in the first quarter of 2012, which we did not incur again in 2013. Excluding this expense, SG&A would have increased 6% year-on-year due to higher headcount-related expenses. R&D expenses increased 1% due to higher headcount-related costs, as we continue to invest in our product development.

Advertising, including our marketing and retail programs, increased about $2 million year-on-year or 72%, as Easter occurred in the first quarter of 2013 compared to the second quarter of 2012. We also had bigger Q5 marketing initiatives this year, including more online and social marketing. While the advertising growth rate sounds high, it's primarily due to timing and the impact of shifting advertising dollars to a period has a very small base. We expect our advertising-to-sales ratio to remain flat for the year compared to the prior year. Net loss was $3 million, an improvement of $6 million over the $9 million loss reported for the prior year. And net loss per basic and diluted share was $0.04, an improvement of $0.10 compared to the $0.14 net loss a year ago. Normalized net loss per basic and diluted share was $0.05, an improvement of $0.04 year-over-year. Normalized earnings have been adjusted to reflect an effective tax rate of 37.5%.

In the first quarter of 2013, normalized net loss per share was different than GAAP net loss per share by $0.01, primarily due to a discrete tax benefit related to an expiring statute of limitations that falls out of the normalized calculation when you move to a 37.5% rate.

Adjusted EBITDA, which is EBITDA adjusted for stock-based compensation, was $2.4 million, an improvement of $3.5 million year-over-year and the first positive EBITDA the company has seen in the first quarter since 2003.

Operating cash flow was $77 million, up 17% year-on-year, and free cash flow defined as operating cash flow less capital expenditures was $69 million, up 12% year-on-year.

Now let me spend a moment on balance sheet. Cash and equivalents, which peaked at $212 million during the quarter, finished at $190 million, an increase of $55 million compared to the year-ago period. Our accounts receivable balance was $57 million, flat with last year on increased sales, and our portfolio was in good shape, and our days sales outstanding improved over the year-ago period by 10 days to 62 days.

Our inventory balance was $45 million, up $6 million or 16% compared to the year ago. Remember, our inventory consists of top-quality products, and recall also that last year, we had too little inventory. Overall, we believe both LeapFrog and retail channel inventories are at appropriate levels to meet consumer demands.

Deferred tax was increased $22 million due to the reversal of a portion of the valuation allowance against our deferred tax assets in the fourth quarter last year. And we still maintain approximately $70 million in valuation allowances against our deferred tax assets that, in essence, are not on our balance sheet. Accounts payable is down $9 million due to the timing of vendor payments. And in summary, our balance sheet is in excellent shape.

I'll finish our prepared remarks with our outlook. We expect net sales in the second quarter to increase at a mid to high single-digit growth rate compared to a year ago. The growth rate will moderate from the first quarter as we have entered our traditionally slowest retail takeaway quarter of the year. All Easter sell-in occurred in the first quarter of 2013, and we plan to transition out of a number of products in the quarter to prepare for new product launches this summer. Additionally, we expect an increase in operating expenses year-over-year due to higher headcount-related cost, supporting our higher sales volume and our investments in the future.

As a result, we expect second quarter GAAP and normalized net loss per basic and diluted share to be in the range of $0.10 to $0.08 compared to a GAAP net loss per basic and diluted share of $0.12 a year ago and a normalized net loss per basic and diluted share of $0.07 a year ago.

Remember, our annual business cycle really consists of 2 halves. The first half of the year is seasonally small, while the second half benefits from holiday shipments and holidays sales. In the first half of the year, small fluctuations in the timing of shipments for expenditures between quarters can have a big impact on our results. For example, we believe that our Q1 sales benefited this year from the timing of Easter, which occurred in March this year compared to April last year. Therefore, we suggest you look at our results on a first and second half basis. With our first quarter actual results and second quarter guidance, our implied first half estimated net sales growth is at approximately 10% to 12%. Our implied first half GAAP loss per share improvement is expected to be $0.12 to $0.14, which includes the $0.10 year-over-year improvement in Q1 plus the estimated $0.02 to $0.04 year-over-year improvement in Q10 -- Q2, excuse me. Our implied first half normalized net loss per share improvement is expected to be $0.01 to $0.03, which includes the $0.04 year-over-year improvement in Q1 minus the estimated $0.01 to $0.03 year-over-year decline in 2Q -- in Q2.

For the year, we are reiterating our guidance. We expect net sales to increase at a high-single digit percentage growth rate compared to 2012. We expect operating margins to be relatively flat to 2012 as we make long-term investments in content, new business categories, international expansion, online communities and systems. We expect operating income improvement to be driven largely by net sales growth. We're expecting other expense of about $2 million, which is consistent with 2012. And as a result, we expect net income per diluted share to be in the range of $0.57 to $0.60 for both GAAP and normalized income per diluted share, excluding any potential discrete tax adjustments related to our tax valuation allowances. That would be compared to a GAAP and normalized EPS for 2012 of $1.24 and $0.56, respectively.

Lastly, we are in the early -- in the year of a highly seasonal business, and while we are planning for growth, we will continue to manage our business prudently until we have better visibility into the holiday season. As we look to the rest of 2013 and beyond, we believe that we are well positioned to grow our earnings and deliver strong cash flow. We are the leader in children's educational entertainment, with a brand that parents and children love. We have the best learning solutions, exciting new projects and many growth opportunities.

That concludes our prepared remarks. And we'd now like to open the call for questions. Operator, who would like to ask the first question?

Question-and-Answer Session

Operator

Your first question comes from the line of Lee Giordano from Imperial Capital.

Lee J. Giordano - Imperial Capital, LLC, Research Division

In terms of the investments you're making this year and the increased cost, can you just talk about what might be temporary in nature and what might be investments that you will continue to make or that will flow through in years following?

John Barbour

Well, if you break down the year, where we're spending money, Lee, in terms of content, the plan would be -- is as we build out a base of multimedia systems around the world, we certainly see a growing demand for high-quality content. So we see a lot of content investments that certainly continue multiyear. That's kind of one area. As you look at the other areas, in terms of systems and internal systems, I think there's always an ongoing course of internal systems, but there's some significant investments at the moment in our new ERP system and things that are going to be a little bit more short term. As you sit and you look at the investments in building our community, those will be a little bit more front loaded, but there'll be some ongoing costs as well. And then in terms of getting into new categories and new marketplaces, they both also tend to be front-end loaded, especially when you're developing new technology or you're starting to go into new marketplace. So an example would be Asia, as you're starting to develop a new English as a second language curricula. So I would say they're going to be spread across, certainly more upfront, but a number of them do have a back-end aspect to that. The goal would be that the businesses are large enough to sustain the ongoing investment as we go forward.

Lee J. Giordano - Imperial Capital, LLC, Research Division

Great. That's helpful. And then secondly, you ended the first quarter with almost $3 a share in cash on the balance sheet. Can you just talk about how you're thinking about using that cash going forward, either for potential acquisitions or buyback? Just how you're thinking about that.

Raymond L. Arthur

We do have quite a bit of cash on the balance sheet, but I think as we've stated before, we're very interested in growing the business and supporting our growth initiatives. So we'll continue to look for acquisition opportunities opportunistically. We'll continue to invest in our content and our online communities and systems. At the end of the day, we continue to look at whether any kind of a stock buyback might be appropriate. I don't think that's a short-term initiative for us. I think we have better uses for that cash than returning it at this point in time.

John Barbour

I actually agree. I mean, if you look at this marketplace, there are very few companies growing as fast as we are. I mean, just look at the results of the first quarter. I mean, this is a company, if you look at the last 2 years, has certainly been on fire, and we're growing the marketplace. One of the advantages we're in is we're in a marketplace, the supplemental education space, that's growing faster than the toy space. So that cash that we have there is going to be really important as we continue to grow our business. And I think it's a key for us, as I said, to continue to build cash and invest it wisely on chasing that growth where the water is rising.

Operator

Your next question comes from the line of Drew Crum from Stifel, Nicolaus.

Andrew E. Crum - Stifel, Nicolaus & Co., Inc., Research Division

I wonder if you could start by putting some numbers around your point of sales in the first quarter. And as you look at the second quarter, are you going to be shipping any new products, namely the LeapReader?

Raymond L. Arthur

We had solid POS in the first quarter on a worldwide basis. We're very happy with it. I think we will be shipping a number of new products in the second quarter, LeapReader being the probably biggest introduction in Q2.

Andrew E. Crum - Stifel, Nicolaus & Co., Inc., Research Division

Okay. And accessories seem to have a very good first quarter. And it sounds like it's becoming a more meaningful piece of your business. How is that impacting the gross margin? And as you look out through the balance of 2013, how are you thinking about gross margin for the year?

John Barbour

Well, I think in our business, as you know, the more content and the more accessories we sell as a share of our business, the higher our blended margin becomes in the main. And you've got to remember that last year, we had a small range of accessories, it was just the first holiday season, post-holiday season after launching the original tablet. Our line of accessories this year was a lot more expansive and was very appealing. I mean, our Q5 initiatives driving accessories sales and content sales to the customers that are the kids who got our tablets and our gaming systems for Christmas. And all of this was very strong. And as you look at our gross margin, we said this a few times, there's a bunch of moving parts there. All of them have an impact. And more tablets reduces overall gross margins. More accessories, more content, especially cartridge content, lifts our gross margin. And more digital content in the main can have a detrimental impact, especially if we sell more third-party content where we're on our rev share. And therefore, the gross margin aspect of that is lower than the rest of our business or many parts of our business. But of course, there's a lot more drops today. So our gross margin, I said this before, I'm not sure that looking at gross margin in our business is the best way to look at our profitability. I'll be looking at operating profit because each of those moving parts will have impact. And what we want to see is we want to see growth in our operating margins.

Raymond L. Arthur

Yes. And just to add to what John said, this is Ray, that remember, is a 30-70, basically, rev share.

Andrew E. Crum - Stifel, Nicolaus & Co., Inc., Research Division

Got it, okay. And last question, JB, the toy category is kind of tough in 2012. Your business in the first quarter was up 23%. How are you feeling about that piece of the business looking forward?

John Barbour

Sorry, I didn't catch you. There was a bubble on the phone.

Andrew E. Crum - Stifel, Nicolaus & Co., Inc., Research Division

Your standalone toy category, I believe, was up 23% in the first quarter. I know that was a tough category in 2012. How are you feeling about that looking ahead?

John Barbour

I think our new introductions for this year are better than they were last year. I think that Greg Ahearn and his team and the engineering team have done a lot of really good stuff for this year. So my expectation is that our toy business is going to grow this year. I mean, it's an important first handshake with our customers. And as I say, a lot of it's down to the quality and innovation that we bring to the marketplace. And some years that's a little bit stronger than others. I feel especially good about our toy line this year. And we've just finished looking at our 2/3 in the '14 line as we get ahead of things here, and we've got some good stuff coming through for the future as well.

Operator

Your next question comes from the line of Sean McGowan from Needham.

Sean P. McGowan - Needham & Company, LLC, Research Division

I have a couple of housekeeping things first. Ray, can you tell us what the full year fully diluted share base would be assuming that your earnings are in the range of what you're forecasting?

Raymond L. Arthur

Sure, Sean. It is about 70.2 million shares.

Sean P. McGowan - Needham & Company, LLC, Research Division

70.2 million, okay. And just to clarify, when you guys say that platform sales were also up double digits, do you mean that LeapPad hardware was up double digits in the quarter?

Raymond L. Arthur

We really don't break it down into the individual components.

John Barbour

Yes. So it's LeapPad, it's Leapster, it's TAG. All of our platforms was up over double digits.

Sean P. McGowan - Needham & Company, LLC, Research Division

Okay. And Ray, could you give us some sense in terms of order of magnitude or priority, what the factors were on gross margin and how much of the gross margin drop was due to the defective rate? And can you tell us internationally versus domestically, are the gross margins about the same or higher in one market versus another?

Raymond L. Arthur

We don't allocate certain things to international markets, so that the gross margin tends to be a little bit higher. They do in the international market tend to have a higher gross-to-net discount, which has some impact. The defectives are higher because of the number of platforms we sold into the market at the end of last year. But what I would say is that we're looking into that now. So I really don't want to get into the actual amount of the number of defectives, but they did have a negative impact on gross margin in Q1.

Sean P. McGowan - Needham & Company, LLC, Research Division

But do you think that's more of a quarter 1 issue or a Q5 issue, if you will?

Raymond L. Arthur

Well, obviously, we sell more platforms in Q1, so it's going to be -- excuse me, in Q4, so it's going to be a Q1 issue. But again, some of this stuff has just come through recently, so we're actually digging into it now.

John Barbour

Yes, I think it's important to recognize here, Sean, that every quarter 4 that we sell more hardware, we're going to have a bigger impact on regular returns in the next quarter. And of course, quarter 1, which is our second lowest quarter of the year, is going to be impacted by that. It's just part of the seasonal shift of our business as we go forward.

Sean P. McGowan - Needham & Company, LLC, Research Division

But I would expect though that you could take -- as your experience grows, you could take a reserve in the fourth quarter about that so that you wouldn't see a surprise in the first quarter.

Raymond L. Arthur

Yes, yes. Ultimately, we'll be able to do that. But it's an evolving business, and the high-growth sales number, it's sometimes hard to predict exactly what's going to happen when you're dealing with the kind of growth that we're seeing.

John Barbour

Yes. The other thing that's important, though, and I think that's what makes this unique and the way that we sweat the details is -- and when you look at it last year, we really only had regular returns for product -- for 1 single product. This year, we had a traditional product go from LeapPad1 to LeapPad2. And you know as well as I do that in the retail world, that not everything that you get back is actually defective. Sometimes, people have bought LeapPad1 and LeapPad2 comes along, and some people are said to bring those back and it's a perfectly good product. So we're going to go through and analyze that data right now. And as we go forward, we'll try and get ahead of it.

Sean P. McGowan - Needham & Company, LLC, Research Division

Okay. A couple of others then. How is SG&A down so much in the quarter?

Raymond L. Arthur

It's basically the $3.1 million sell point -- or excuse me, accounts receivable write-off that we had last year did not reoccur this year.

Sean P. McGowan - Needham & Company, LLC, Research Division

Okay, got it. You did mention that. I didn't know if that was the whole reason. And then last question. Hearkening back to the toy question about the growth there. Have you seen the same kinds of growth in the U.S. as you are seeing outside the U.S. in that category? Or is it stronger outside the U.S.?

Raymond L. Arthur

It was actually very strong in the U.S.

John Barbour

I mean, you've got to remember, of course, Q1 is more of a fill than a POS quarter. So it actually reflects the sell-through of our product really at the end of 2012.

Sean P. McGowan - Needham & Company, LLC, Research Division

Right, okay. I just didn't know if there was a lot more sales -- a lot more growth outside the U.S. than in the U.S.

Raymond L. Arthur

No, U.S. growth was strong.

Operator

Your next question comes from the line of Michael Swartz with SunTrust.

Michael A. Swartz - SunTrust Robinson Humphrey, Inc., Research Division

I just wanted to maybe touch on your commentary around your advertising spend for the full year. I think you said that as a percentage of sales, it'll likely be flat. Could you just maybe give us some more color? I mean, you had a pretty decent increase last year, I mean, how should we look at that playing out through the year?

Raymond L. Arthur

Well, I think...

John Barbour

I think one of the things you look at is you look at the product we're launching in the marketplace. So until we announce publicly what's happening in the tablet front, it's hard to give you a little bit more detail on that. But the fact of it is that the more new systems you launch into the marketplace, the likelihood is your average spend in advertising is going to up year-on-year. And we've got some new things that are going to happen later this year, but we're also starting to see efficiencies of marketing direct with consumers through our network and through our direct relationship with customers. So you're going to see a couple of those things playing this year. Launch of more new systems this year versus last year, which means that we're going to spend a little bit more money in those fronts. But then just ongoing leverage that we're getting from those millions of consumers that are connected to our back end is going to start to pay off as well. That's why we're saying we're -- our belief is we're going to be able to hold it flat as a percent of sales. And you're going to see those big trends within the numbers.

Michael A. Swartz - SunTrust Robinson Humphrey, Inc., Research Division

And then did you quantify the impact of the Easter shift on the top line?

Raymond L. Arthur

We did not. It's hard to kind of segregate exactly what is Easter selling versus replaying and other things. So, no, we have not quantified that.

John Barbour

I mean, it's certainly a benefit, a bigger benefit. We'll see.

Michael A. Swartz - SunTrust Robinson Humphrey, Inc., Research Division

Okay. And then final question. Could you maybe give any additional color around some of the commentary you had said earlier in the call about some new categories you're looking at? I know you don't want to give away too much, but is there anything that maybe you can provide us?

John Barbour

No.

Michael A. Swartz - SunTrust Robinson Humphrey, Inc., Research Division

Easy enough.

John Barbour

No. I mean, we've got some super cool stuff we're working on here, but absolutely, we're keeping it ultra top secret. As you can imagine, lots of people are looking at us to try and copy the things we do, and we're having to become tighter and tighter because everybody looks at the companies that are growing faster than everybody else for their ideas.

Operator

Your next question comes from the line of John Taylor with Arcadia.

John Taylor

I got a few questions here for me. Ray, I think you talked about third party's share of content going up. So can you give us a sense kind of what the percentage mix looks like or kind of what you're thinking about this year versus last year? I don't care what the time frame is, but give us a sense of the relative magnitude of those 2 categories and the trend line.

Raymond L. Arthur

It's increasing. We don't break it down between components for competitive reasons. I think the real story there is we're getting more choices for consumers, and that's a good thing, and it's being curated by our educational experts, which is a great thing. And ultimately, while it might have some depressive effect on gross margin percentage, it's accretive, very accretive to operating margin because we've got basically no cost associated with the third-party content.

John Taylor

Okay, all right. And then it sounds like you're kind of alluding to a close-out of those 5-year-old platforms. So can you give us any sense of kind of what the revenue contribution of those looked like last year and/or maybe what the sort of first half negative impact on closing that out what might look like?

Raymond L. Arthur

No, I can't. Unfortunately, I can say that any time -- the objective is to manage it as tightly as possible so that you can transition from one product to another and not miss a sale. Best laid plans of mice and men, of course, that we do the best we can at it. The better we do, the less the impact. But ultimately, quantifying net impact at this point in time would not be something that I can really do.

John Barbour

The good news is, I can tell you from testing and from our media events this week, that the new LeapReader, which we see as a new significant enhancement on our Tag, is going to be strong this year. We're really excited about it. I think the addition of the learn to write component and the ability to listen to stories is going to be a big addition to the product because when you think about it, it's all about that combined experience of learning to read, learning to write and then the ability to listen to storybooks. I mean, it's not just a small tweak to Tag. This is a major new product. And the response from the trade, the response from the media, the response from our testers have all been incredibly strong.

John Taylor

It's kind of a 3-in-1 thing.

John Barbour

It's awesome. I tell you, you should -- when it comes out, you should get one and try it. It is a big step up.

John Taylor

Okay. Let me ask 2 more, if I can. So JB, what's going on -- what are you hearing from retailers on shelf space in the U.S., in particular for the ELA category?

John Barbour

As we sit down and we look at our shelf space for the fourth quarter, we're either holding or gaining space in our business. And there's no question that retailers are seeing our category as a strong category compared to some of the others that are out there. I mean, you've just got to look at the growth in our category and construction versus the decline in other parts of the business. So we're feeling good that we are holding or growing our space, shelf space, for the fourth quarter. Where you're going to see some increases is in the amount of promotion support. People are definitely seeing our lines as good product lines for attracting families to the store. And that's where we put a lot of focus, is really driving off shelf and post this level line for this year.

John Taylor

Okay, good. And then last question, so this new category that you're talking about but not talking about, can you give us any sense of the timing of when you might go into some detail on that? Is that a June event or is that down the road sometime?

John Barbour

What category? No, just kidding, just kidding. No, but it will be -- we've got -- as you can imagine, at our June media event, we have a bunch of new stuff. Everybody will get a chance to see the multiple new tablets that we've launched that we've already shared with our major customers and had a great response to. Everybody will see that in June. And then there'll be new stuff coming through for 2014. I mean, I can tell you that we are further ahead in our product development than we've been for years. We are getting ahead of this. And I think that's going to help us in the long term. So we're just -- we're constantly -- as our business grows, we're still constantly trying to drive the operational excellence of our business.

Operator

Your next question comes from the line of Ed Woo from Ascendiant.

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

It looks like your International is doing pretty well this quarter again. Is there any change in accelerating the rollout of the LeapPad2 across your international geographies?

John Barbour

This year, we'll be launching LeapPad2 in France, so there will be an acceleration in that front. And it will go into, I think, some of our smaller distributor marketplaces. But beyond that, nothing significant for this year.

Edward M. Woo - Ascendiant Capital Markets LLC, Research Division

Okay. And another question I had is the last few of years you guys have been doing a good job of growing your distribution beyond traditional toy companies or toy retailers. How do you see that progressing this year, especially as you roll out more products and more content?

John Barbour

The bulk of our products are still going to be sold through the customers we had last year. So we did expansion last year in Best Buy, an expansion last year at GameStop. And we see those opportunities continuing, but I don't see it having a dramatic impact in the mix of our retail business across the board.

Operator

Your last question comes from the line of Jim Chartier from Monness Hardt.

James Andrew Chartier - Monness, Crespi, Hardt & Co., Inc., Research Division

I had a couple of questions. Is there an opportunity to lower the defective return rate going forward?

Raymond L. Arthur

Like I said earlier, we just recently basically started looking into that rate, so we're not even sure it's right at this point. Honestly, I mean, we're going to go and investigate the drivers behind it. It's funny, with defectives, it can be defectives, it can be returns, right, because what happens in the store is the customer walks back in, maybe they bought a LeapPad2 and they want to upgrade to a LeapPad -- LeapPad1 and they want to upgrade to a LeapPad2. So whether it's a return or whether it's a defective, we still got to hash through some of that information. But we're always driving to maintain the defective rate that's as low as humanly as possible. And you've seen us before take a LeapPad1 and throw it against the wall, it doesn't break generally.

John Barbour

I mean, one of the things we have to clarify here is, just so everybody is super clear, the defective rate at the moment in the first quarter is driven by the amount of tablets we place into the marketplace, first of all. It's driven by 2 things: the amount of tablets and the level of defectives. In the first quarter, if we sell a lot more tablets than previous fourth quarter, we are going to have a higher defective number in our business unless there's some dramatic change to the quality of our product. And I think that's really important. What you're seeing here at the moment is that not a dramatic change in the rate of defectives. You're seeing a difference in the amount of defectives because of the amount of tablets. And we're analyzing it right now.

James Andrew Chartier - Monness, Crespi, Hardt & Co., Inc., Research Division

Great. And did you say that the multimedia segment was up 17% and toys was up 23% in the first quarter?

Raymond L. Arthur

Yes. Multimedia was up 17% and learning toys were up 23%. And if you're wondering why the overall sales isn't up a little more, it's because there were some miscellaneous sales categories that went down, very small, but had an impact.

James Andrew Chartier - Monness, Crespi, Hardt & Co., Inc., Research Division

All right. And then finally, should we expect to see at retail in the fall with the LeapReader and Tag at retail similar to what we saw with the LeapPad2 and LeapPad1 this past year?

John Barbour

No.

Raymond L. Arthur

No.

John Barbour

We're transitioning LeapReader in, and we're transitioning Tag out. It's going to be a replacement.

Operator

And that concludes the Q&A portion of today's call. I'll turn the call back to Karen Sansot.

Karen Sansot

Thank you, everyone, for joining us on the call today. Please feel free to call Ray or me with any follow-up questions. Goodbye.

Raymond L. Arthur

Thanks.

Operator

Ladies and gentlemen, this concludes today's conference call. You may now disconnect.

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