LeapFrog 2002 Annual Report Download - page 57

We depend on our suppliers for our components, and our production would be seriously harmed if these
suppliers are not able to meet our demand and alternative sources are not available.
Some of the components used to make our products, including our application-specific integrated circuits, or
ASICs, currently come from a single supplier. Additionally, the demand for some components such as liquid
crystal displays, integrated circuits or other electronic components is volatile, which may lead to shortages. If our
suppliers are unable to meet our demand for our components and if we are unable to obtain an alternative source
or if the price available from our current suppliers or an alternative source is prohibitive, our ability to maintain
timely and cost-effective production of our products would be seriously harmed and our operating results would
suffer.
If we do not correctly anticipate demand for particular products, we could incur additional costs or
experience manufacturing delays, which would reduce our gross margins or cause us to lose sales.
Historically, we have seen steady increases in demand for our products and have generally been able to
increase production to meet that demand. However, the demand for our products depends on many factors such
as consumer preferences, including children’s preferences, and the introduction or adoption of new hardware
platforms for interactive educational products, and can be difficult to forecast. We expect that it will become
more difficult to forecast demand for specific products as we introduce and support additional products, enter
additional markets and as competition in our markets intensifies. If we misjudge the demand for our products, we
could face the following problems in our operations, each of which could harm our operating results:
• If our forecasts of demand are too high, we may accumulate excess inventories of components and
finished products, which could lead to markdown allowances or write-offs affecting some or all of such
excess inventories. We may also have to adjust the prices of our existing products to reduce such excess
inventories.
• If demand for specific products increases beyond what we forecast, our suppliers and third-party
manufacturers may not be able to increase production rapidly enough to meet the demand. Our failure to
meet market demand would lead to missed opportunities to increase our base of users, damage our
relationships with retailers and harm our business.
• Rapid increases in production levels to meet unanticipated demand could result in increased
manufacturing errors, as well as higher component, manufacturing and shipping costs, all of which
could reduce our profit margins and harm our relationships with retailers.
Our efforts to establish direct content sales to consumers may not be successful.
In September 2000, we launched our efforts to develop a channel for direct content sales to consumers in the
U.S. market. As of December 31, 2002, the significant majority of our subscriptions have been offered for a free
trial period and we have generated virtually no sales from our direct sales efforts, have incurred substantial costs
and expect to continue to incur substantial costs for the foreseeable future. Our ability to generate direct-to-
consumer content sales depends primarily on:
• our ability to build a base of paid subscribers to our Never-Ending Learning Club and Leap’s Pond
magazine;
• sales of our Mind Station connector;
• the ability of users to download our content easily from our Internet website using our Mind Station
connector;
• acceptance of the Internet as a means of enhancing the usefulness of educational products; and
• development of compelling and effective content that can be downloaded for use with our platforms.
If our direct sales channel develops more slowly than we expect, or if our efforts to attract paying
subscribers are not successful or cost-effective, our business could be harmed.
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