LeapFrog 2011 Annual Report Download - page 23

System failures in our online services or web store could harm our business.
The online aspects of our business have grown substantially in strategic importance to our overall business.
Any failure to provide a positive user experience could have a negative impact on our reputation, sales and
consumer relationships. If demand for accessing our App Center or our website exceeds the capacity we have
planned to handle during peak periods or if other technical issues arise when customers attempt to use these
systems to purchase products or to access features or content for our Internet-connected products, then we
could lose sales and customers could be inconvenienced or become dissatisfied with our products. Any
significant disruption to our App Center, website or internal computer systems or malfunctions related to
transaction processing on our e-commerce store or content management systems could result in a loss of
potential or existing customers and sales.
Although our systems have been designed to reduce downtime in the event of outages or catastrophic
occurrences, they remain vulnerable to damage or interruption from earthquakes, floods, fires, power loss,
telecommunication failures, terrorist attacks, computer viruses, computer denial-of-service attacks, and similar
events. Some of our systems are not fully redundant, and our disaster recovery planning is not sufficient for
all eventualities. Our systems are also subject to break-ins, sabotage, and intentional acts of vandalism.
Despite any precautions we may take, the occurrence of a natural disaster or other unanticipated problems at
our hosting facilities could result in lengthy interruptions in our services. We do not carry business
interruption insurance sufficient to compensate us for losses that may result from interruptions in our service
as a result of system failures. Any unplanned disruption of our systems could result in adverse financial
impact to our operations.
We rely on a limited number of manufacturers to produce our finished products, and our reputation
and operating results could be harmed if they fail to produce quality products in a timely and
cost-effective manner and in sufficient quantities or if our manufacturing process is otherwise disrupted.
We outsource substantially all of our manufacturing to several Asian manufacturers, most of which
manufacture our products at facilities in the Guangdong province in the southeastern region of China. These
manufacturers are selected based on their technical and production capabilities and are matched to particular
products to achieve cost and quality efficiencies. We depend on these manufacturers to produce sufficient
volumes of our finished products in a timely fashion, at satisfactory cost and quality levels and in accordance
with our and our customers’ terms of engagement. If we determine that we need to order larger quantities of
our products to meet customer demand, we may encounter delays and shortfalls in shipments based on
manufacturer capacity issues. Such delays could have a particularly significant impact on our business to the
extent that retailers attempt to manage their inventory levels by delaying orders, which may lead to shorter
lead times to match changes in consumer demand. In addition, the costs of using contract manufacturers are
subject to increase, which has had, and could continue to have, a negative impact on our cost of sales.
Commodity and labor costs in China continue to increase due to a variety of factors, including tightening
Chinese labor markets, delays in ramping up production of raw materials to meet growing demand for finished
goods, and the revaluation of Chinese currency to permit it to rise in value versus the U.S. dollar, among
other things, leading to increased prices for us with some of our contract manufacturers. Furthermore, in the
past, there have been product quality and safety issues for other producers of toys and other companies that
manufacture goods in China. In addition, the risk of political instability and civil unrest exists in China, which
could temporarily or permanently damage our manufacturing operations located there. If our manufacturers
fail or are unable to produce quality finished products on time, at expected cost targets and in sufficient
quantities, or if any of our products are found to be tainted or otherwise raise health or safety concerns, our
reputation and operating results would suffer.
See also ‘‘Political developments, including trade relations, natural disasters, the threat or occurrence of
armed hostilities, terrorism, labor strikes or public health issues could have a material adverse effect on our
business’’ below.
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