United States District Court, N.D. California
IN RE LEAPFROG ENTERPRISE, INC. SECURITIES LITIGATION, This Document Relates to All Actions.
ORDER GRANTING DEFENDANTS’ MOTION TO DISMISS
DOCKET NO. 72
M. CHEN UNITED STATES DISTRICT JUDGE
have filed a class action against LeapFrog Enterprises Inc.,
and two of its officers, John Barbour (“Barbour”)
and Raymond L. Arthur (“Arthur”), for violations
of federal securities laws. Defendants' motion to dismiss
Plaintiffs' First Amended Consolidated Class Action
Complaint (“FAC”) focuses on the allegedly false
and misleading statements about LeapFrog's inventory, the
roll out of LeapTV, LeapFrog's financial guidance, and
accounting. For the reasons stated below, the Court GRANTS
Defendants' motion to dismiss.
REQUESTS FOR JUDICIAL NOTICE
ask the Court to take judicial notice over nine categories of
documents or to consider them under the doctrine of
incorporation by reference: (1) LeapFrog's press releases
filed with the SEC as attachments to Forms 8-K (Exs. 1, 4, 8,
14, 16); (2) LeapFrog's earnings and conference call
transcripts (Exs. 2, 5, 7, 9, 11, 12, 15); (3) LeapFrog's
Forms 10-Q filed with the SEC (Exs. 13, 17); (4)
LeapFrog's Forms 10-K filed with the SEC (Exs. 3, 19);
(5) LeapFrog's Forms DEF 14A filed with the SEC (Exs. 20,
21); (6) LeapFrog's press releases published through
PRNewswire (Exs. 6, 18); (7) SunTrust Robinson Humphrey's
Report about LeapFrog's 1Q15 results (Ex. 10); (8) a
Microsoft Excel Spreadsheet with the data about
LeapFrog's daily stock price for the period of January 1,
2014 to July 17, 2015 (Ex. 22); and (9) copies of
Defendants' Form 4 (Exs. 23, 24). See Docket No.
73, (“Foster Decl.”), Docket No. 74
object to the Court's consideration of three of the
items. Docket No. 76 (“Response to D's RJN”).
Plaintiffs object to (1) Exhibit 21 - copies of
LeapFrog's Form DEF 14A filed with the SEC on July 2,
2015 (“Proxy Statement”) and (2) Exhibits 23 and
24 - copies of Defendants' Forms 4, which show that
Defendants exercised LeapFrog stock options.Defendants respond
that Exhibits 21, 23, and 24 are public filings with the SEC
and thus subject to judicial notice. Docket No. 81 at 4
(“D's Reply to P's RJN”). Because these
exhibits are not necessary to this decision, the Court
declines to take judicial notice.
also ask the Court to strike all factual assertions and
arguments derived from Exhibits 3, 15, and 19,
(LeapFrog's 10-K filed March 14, 2014; a transcript of an
earnings call held February 5, 2015; and LeapFrog's 10-K
filed June 15, 2015) asserting that Defendants improperly
rely on these exhibits for the truth of these factual
• Exhibit 3: “LeapFrog's business depends on
being able to predict highly changeable trends and consumer
preferences, which is no easy task, especially in the toy
market.” Docket No. 53 at 2; (“MTD”)
(citing Ex. 3 at 9); “LeapFrog's products help
teach children things like phonics, reading, writing, math,
sciences, social studies, creativity, and life skills.”
MTD at 2 (citing Ex. 3 at 1; ¶ 21);
“LeapFrog's business is highly seasonal, and its
overall success depends on sales relating to a brief, but
critical, holiday season.” MTD at 2-3 (citing Ex. 3 at
• Exhibit 15: “Worldwide sales of children's
tablets ' shrunk for the first time since 2010, '
causing 'significant sales declines'
industrywide.” MTD at 6 (citing Ex. 15 at 3).
• Exhibit 19: “Its products include, among others,
the LeapPad learning tablets and, since the fall of 2014, the
LeapTV educational video game system.” MTD at 2 (citing
Exh. 19 at 1; ¶ 21); “Over 70% of LeapFrog's
sales come in the second half of the calendar year, with 40%
in the period between October and December.” MTD at 3
(citing Ex. 19 at 7).
respond that the contents of Exhibits 3, 5, and 19 must be
considered for the truth of the facts asserted therein
because these exhibits are incorporated by reference into the
FAC. Docket No. 81 at 1 (“D's RJN Reply”).
the incorporation by reference doctrine, if a document is
referenced in a complaint, a court may “properly
consider the [document] in its entirety.” In re
NVIDIA Corp. Sec. Litig., 768 F.3d 1046, 1058 n.10 (9th
Cir. 2014) (“Once a document is deemed incorporated by
reference, the entire document is assumed to be true for
purposes of a motion to dismiss, and both parties -and the
Court - are free to refer to any of its contents.”).
Specifically, courts may take into account “documents
whose contents are alleged in a complaint and whose
authenticity no party questions, but which are not physically
attached to the [plaintiffs] pleading.” Knievel v.
ESPN, 393 F.3d 1068, 1076 (9th Cir. 2005). A court
“may treat such a document as part of the complaint,
and thus may assume that its contents are true for purposes
of a motion to dismiss under Rule 12(b)(6).” United
States v. Ritchie, 342 F.3d 903, 908 (9th Cir. 2003).
Here, Plaintiffs expressly referred to these exhibits in the
FAC, and relied on them as sources of the allegedly
fraudulent statements. See, e.g., FAC ¶¶
55, 24, 176. Therefore, the Court DECLINES to strike all
factual assertions and arguments derived from Exhibits 3, 15,
filed a conditional request to take judicial notice of a
November 5, 2014 analyst article entitled “LeapFrog
Continues To Offer Rare And Compelling Value Going Into The
Holidays, ” published by Seeking Alpha. Docket
No. 78, Exhibit 1 (“Article”). “If the
Court takes judicial notice of the extrinsic evidence
(Defendants' Exhibits 21, 23, and 24) on which Defendants
base their factual assertions concerning Barbour's and
Arthur's stock ownership and does not strike the
assertions, Plaintiff respectfully requests that it also take
judicial notice of Exhibit 1.” Docket No. 77 at 1
(“P's RJN”). Since the Court is not taking
notice of Exhibits 21, 23, and 24, Plaintiffs request is
denied. In any event, judicial notice is not proper.
Plaintiffs must allege sufficient facts, not wait to see what
Defendants challenge and then seek to add facts at the
briefing stage. Because Plaintiffs attach the Article in an
improper attempt to introduce new facts at briefing, and
because the Court is not taking judicial notice of
Defendants' Exhibits 21, 23, and 24, the Court DENIES
judicial notice of Plaintiffs' Exhibit 1.
The Parties and Claims
LeapFrog creates electronic learning toys and content. FAC
¶ 5. The putative class consists of all persons or
entities who purchased shares of LeapFrog common stock during
the Class Period. Id. ¶ 1. The Class Period is
between May 5, 2014 and June 11, 2015. Id. During
the Class Period, Barbour was LeapFrog's director and
CEO; id. ¶ 38; Arthur was LeapFrog's CFO.
Id. ¶ 39. Plaintiffs allege that from May 2014
to June 2015 Defendants made false statements about: (1)
LeapFrog's carryover inventory and development delays
with Leap TV; and (2) LeapFrog's financial guidance and
Roll Out of LeapTV
allege that Defendants claimed that LeapTV would help
LeapFrog to deliver growth. Id. ¶ 9. In January
2014, the management decided to move up the release of LeapTV
to a calendar 2014 release. Id. ¶ 6. Because
the product had not been slated for such an early release,
the decision placed a tight timeline for development and
production of the new product. Id. Plaintiffs allege
that Defendants misled investors by representing on June 11,
2014 that LeapTV would be shipping at the end of September,
id. ¶ 81, and would be “hitting stores in
October.” Id. ¶ 72. However, LeapTV did
not ship until mid-October meaning that LeapTV was not on
store shelves until November as the result of the typical lag
time between shipment and arrival of the product in stores of
weeks. Id. ¶ 77. Plaintiffs contend that
because Defendants knew about development delays of LeapTV,
they lacked any basis for telling investors that it would
ship at the end of September. Id. ¶ 100.
Finally, Plaintiffs allege that Defendants misled investors
during the November 3, 2014 conference call that
“LeapTV [was] off to a very strong start.”
Id. ¶ 105. This was supposedly misleading
because the late launch caused Target to relegate LeapTV to
end-cap space and important retailers to drop LeapTV from
sales. Id. ¶ 112(c).
allege that LeapFrog “faced a substantial retail
inventory hangover of LeapPads from 2013 that management knew
would impact both margins and sales heading into 2014.”
Id. ¶¶ 6, 77. Plaintiffs allege that
defendants made false and misleading statements on May 5,
2014 that “[i]inventories at retail have come down from
where they were at year end by a fair amount . . . . The
important fact is that isn't across the board . . . . We
don't have higher inventories across the board. We have
some pockets of inventory.” Id. ¶ 45.
Plaintiffs allege that the above statements were false and
misleading because in fact “there remained a massive
volume of carryover inventory at retailers that required
discounts to sell.” Id. Plaintiffs further
allege that Defendants “deliberate[ly] conceal[ed] the
nature and impact of the carryover inventory” when
referring to inventory hangover as a “one-off
situation” and stating that the bulk of the inventory
will be gone by Thanksgiving. Id. ¶¶ 88,
May 5, 2014
5, 2014 (the first day of the proposed class period),
LeapFrog issued a press release announcing LeapFrog's
financial guidance for the rest of 2014. Id. ¶
41. The company reported expected sales for the 2014 year of
$554-$580 million, or $0.18-$0.25 per diluted share.
Id. ¶ 42. Defendants are quoted in the press
release as stating that “[their] line-up of major new
product introductions will begin shipping in late summer and
fall.” Id. ¶ 41.
same day Defendants held a 1Q14 earnings conference call to
review LeapFrog's results for the first quarter ended
March 31, 2014. Id. ¶ 41; Ex.5 at 3. Arthur
projected net sales for the second quarter of $48-$52
million. Id. ¶ 43; Ex.5 at 7. Arthur announced
that LeapFrog expected “net sales and earnings growth
in the second half of the year, largely due to new product
introductions.” Id. Arthur noted that
“[w]ithin the second half of this year,
[LeapFrog's] results will be much more back-end-loaded
with some new products shipping for the first time in
September.” Id. In response to questions about
inventory allowances for the next quarter, Arthur asserted
that possible clearance costs are not going to be
“incredibly significant.” Id. ¶ 46;
Ex.5 at 10. Following these announcements, the price of the
company's stock increased from $6.83 to $7.29 per share,
or approximately 6%. Id. ¶ 47.
contend that there was no reasonable basis for these
projections. They cite the August 4, 2014 press release
stating that for the full fiscal year ending March 31, 2015
the company expected net sales to be $480-$505 million as
opposed to $554-$580 million and net income (loss) per basic
and diluted share to be in the range of a loss per share of
$0.04-$0.10 as opposed to a loss of $0.18-$0.25. Id.
¶ 197; Ex.8 at 3. Plaintiffs emphasize that Defendants
explained the reduction in guidance to be due “elevated
beginning retail inventory levels, a challenging market
environment and POS trends as well as the timing of new
product shipments.” Id. Moreover, Plaintiffs
assert that on May 5, 2014 the shipment date of “as-yet
undeveloped and untested” LeapTV was in question.
Id. ¶ 68.
August 4, 2014
August 4, 2014, LeapFrog issued a press release announcing
its financial results for the quarter ended June 30, 2014 and
lowering its earning guidance for the 2015 fiscal year ending
March 31, 2015. Id. ¶ 80; Ex. 8. The company
noted that the new guidance will be offset by “a very
back-end loaded year with Leap TV shipping at the end of
September, ” and “the introduction of new
products that we expect to perform very well in the market
place in fiscal 2015 and beyond.” Id. ¶
81. The press release stated that LeapFrog would experience a
“strong holiday season” and a “solid net
sales growth in both the December and March quarters, led
largely by sales of new releases including LeapTV, LeapBand,
LeapPad3, LeapPad Ultra XDi and related content.”
Id. ¶ 82; Ex. 8 at 1, 3.
August 4, 2014, Defendants held a 1Q15 conference call to
review LeapFrog's results for the first fiscal quarter,
ended June 30, 2014. Id. ¶ 83; Ex. 9. Barbour
stated that LeapFrog expected “double-digit sales
growth in the December and March quarters.”
Id. ¶ 83; Ex. 9 at 3. Barbour also stated:
“We expect this growth to be driven by shipments of our
exciting new product introductions for the year . . .
.” Id. ¶ 84; Ex. 9 at 3. Arthur added
that LeapFrog expected “solid growth in [its] third and
fourth fiscal quarters” and that it was “well
positioned for a strong holiday season with a new lineup of
tablets, fantastic new products in LeapTV and LeapBand set to
enter the market . . . .” Id. ¶ 85; Ex. 9
at 8. Arthur stated that the company expected net sales in
the second quarter to be in the range of $125-$130 million.
Id. ¶ 86; Ex. 9 at 7. When asked how to
reconcile an old guidance with the new guidance,
Arthur said: “Definitely the third quarter of our
fiscal year is a big quarter for us, bigger than it has been
for a long time. I think that's primarily the result of
LeapTV starting to ship at the end of September, so most of
the channel fill is going to occur in Q3.” Id.
¶ 90; Ex. 9.
contend that the projections offered during this period were
false and misleading, given that three months later
Defendants reported a loss of $0.13 to $0.25 per share and
net sales of $450-$470 million (as opposed to expected EPS of
$0.04 to $0.10 and net sales of $480-$505 million).
Id. ¶ 95. In a November 3, 2014 press release,
Defendants explained that “slippage of first shipments
of LeapTV” was the primary reason for reduced guidance.
Id. ¶ 95; Ex. 12 at 1.
November 3, 2014
November 3, 2014, LeapFrog issued a press release announcing
financial results for the quarter ended September 30, 2014.
Id. ¶ 103; Ex. 12. Defendants are quoted in the
press release as stating that LeapFrog was
“well-positioned for the all-important holiday
season” and that the company expected “financial
results in . . . fiscal third quarter ending December 31,
2014 to improve year-over-year given the launch of LeapTV,
two new LeapPad tablets . . . .” Id. ¶
103; Ex. 12 at 2. Defendants stated that “for the full
fiscal year ending March 31, 2015, [LeapFrog] expected net
sales to be in the range of $450 million to $470 million
compared to $528 million for the twelfth-month period ended
March 31, 2014.” Id. ¶ 104; Ex. 12 at 3.
Plaintiffs contend this was misleading, as Defendants
“knew” that reaching even this lowered sales
guidance “would be impossible due to their awareness of
adverse facts and circumstances . . . .” FAC ¶
110. For the third fiscal quarter ending December 31, 2014,
LeapFrog expected “net sales to be in the range of $220
million to $240 million, up 18% to 28%, compared to $187
million for the quarter ended December 31, 2013.”
November 3, 2014, defendants held a conference call to review
results for the second fiscal quarter ended September 30,
2014. Id. ¶ 105; Ex. 11. Barbour emphasized
that “[t]he second half of fiscal 2015 will be much
brighter and [LeapFrog] expected double-digit sales growth in
the December and March quarters.” Id. ¶
105; Ex. 11 at 3. Barbour stated that this growth will be
driven “by shipments of [LeapFrog's] exciting new
product introductions for the year.” Id.
Finally, Barbour reported that LeapFrog “started
shipping [LeapTV] units to retailers a few weeks ago and . .
. LeapTV [was] off to a very strong start.”
Id. ¶ 105; Ex. 11 at 4. Arthur reiterated:
“[w]e expect sales to increase for the balance of our
fiscal year versus the same period of last year as we are
well positioned for the holidays with our best product lineup
ever and strong support from significant retail, trade, and
advertising campaigns, as well as off-shelf
promotions.” Looking forward to the full-year outlook,
Arthur stated: “[w]hile our reported results through
the second fiscal quarter of 2015 reflect sales and earnings
reductions versus the same periods in the prior year, we
expect to see improved results for the remaining two quarters
of the year versus the same periods a year ago.”
Id. ¶ 106; Ex. 11 at 6. When asked if LeapFrog
would make up for the second quarter shortfall of LeapTV
sales in the fiscal third quarter, Barbour responded:
“We would hope that we would make up most of it, yes .
. . .” Id. ¶ 107; Ex. 11 at 9. Barbour
added: “if you take the carryforward tablet from last
year out of the equation, our inventory is actually quite
tight in the marketplace at the moment. So I think it may be
more than normalized at the moment, and that is why we are
looking at growth . . . for the third quarter and into the
fourth quarter.” Id. ¶ 108; Ex. 11 at 11.
assert that Defendants' forecasts during this period were
materially false and misleading because Defendants knew that
to achieve this guidance, the company “had to have
holiday 2014 sales that surpassed those of its successful
launch of LeapPad in 2011, and knew that this would be
impossible due to their awareness of adverse facts and
circumstances at the time.” Id. ¶ 110.
Plaintiffs contend given that “LeapTV had shipped to
retailers late, in mid-October” Defendants “knew
that LeapTV could not drive the 3Q15 and FY 2015 guidance
they issued.” Id. ¶ 111. Plaintiffs also
allege that Defendants “deliberate[ly] conceal[ed] the
nature and impact of the carryover inventory, ” in
telling investors that the carryover was “a
'one-off situation'” and “build-up would
be gone by Thanksgiving.” FAC ¶ 97. Specifically,
Plaintiffs allege that a “shocking amount” of
carryover inventory remained, which would require
“further discounts” and “cannibalizing of
new tablet sales.” Id.
February and May 2015
February 5, 2015, Defendants held a conference call to review
results for the third fiscal quarter ended December 31, 2014.
Id. ¶ 154; Ex. 15. Barbour stated that
financial results for the third quarter of fiscal 2015
“were very disappointing.” Id. ¶
154; Ex. 15 at 2. Barbour explained: “[b]ased on these
factors, and our own experiences with consumers playing with
LeapTV, we believe this platform will deliver, but understand
that financial performance did not live up to expectations
for this past holiday season.” Ex. 15 at 4.
announced that LeapFrog “will not be providing guidance
for fiscal fourth quarter or full year beyond indicating that
we believe sales for our fiscal fourth quarter will be below
that of the prior year period.” Ex. 15 at 6. Arthur
We are very disappointed that our performance in the third
fiscal quarter of 2015 was significantly below our
expectations. . . . In our projections for the third quarter
we planned for a decline in retail sales of LeapPad tablets.
However, we are surprised by the magnitude of the actual
decline across the tablet business and our key competitors
during the holiday season, which was significantly in excess
of our expectations.
FAC ¶ 155. Plaintiffs contend that Defendants materially
misled investors regarding their surprise about across the
tablet business sales declines because, in part, Defendants
already knew that leading up to Black Friday 2014 LeapTV
sales were off-trend and that the carryover inventory would
not allow LeapFrog to achieve its guidance forecasts.
Id. ¶ 163.
November 3, 2014
November 3, 2014, defendants held a conference call to review
results for the second fiscal quarter ended September 30,
2014. Id. ¶ 122; Ex. 11. The company reported a
net income loss of $2, 026 and EPS of negative $0.03.
Id. ¶ 122. Plaintiffs assert that if LeapFrog
had properly recorded goodwill impairment charges of $19.5
million in 2Q15, then the company should have reported a net
income loss of $17, 442 and EPS of negative $0.25.
Id. ¶ 125.
November 10, 2014, LeapFrog filed its 2Q15 form 10-Q with the
SEC, which reported that “[a]s of September 30, 2014,
based on [company's] assessment of various qualitative
factors and projection of future operating results, the
Company does not believe that sufficient indicators of
impairment of its goodwill currently exist that would require
performing step one of the two-step test for goodwill
impairment.” Id. ¶ 123; Ex. 13 at 9.
February 5, 2015
February 9, 2015, LeapFrog filed its 3Q15 form 10-Q with the
SEC. Id. ¶ 167. The company reported a net
income loss of $124, 212 and EPS of $1.77 with negative
$0.22, accounting for goodwill. Id. Plaintiffs
assert that if LeapFrog had properly recorded goodwill
impairment charges of $36.5 million in 3Q15, then the company
should have reported a net income loss of $145, 233 and EPS
of $2.07. Id. ¶ 170. The company concluded that
its long-lived assets were not impaired as of December 31,
2014. Id. ¶ 168; Ex.17 at 9.
claim that LeapFrog fraudulently inflated its financial
results for the second and third quarters of 2015. See FAC
¶¶ 17, 24. Plaintiffs first allege “that a
$19.5 million goodwill impairment that LeapFrog took after
its disappointing holiday season for the quarter ended
December 31 should have been taken in the second quarter
ended September 30, 2014.” MTD at 15-16. Second,
Plaintiffs allege that “the 36.5 million long-lived