here's my guess on the timeline:
1. legend of korra first pitched while nick was still trying to make a series out of the last airbender with films and a television presence, like what they're doing with ninja turtles.
2. for some reason nobody wanted to continue the movie series, but contracts were signed for the show, and production was already underway so it only made sense to move forward.
3. when korra aired, toy deals were in the works, and initial high ratings led to the greenlighting of additional seasons beyond the first two.
4. the toy deals fell through at the end of season one for some reason- maybe the demographics breakdown showed more adults or more women watching the show than toy companies expected, scaring them off.
5. nickelodeon decided to just burn off season 2 fairly unceremoniously, and maybe used it as a test for other shows, since the series would be getting a limited run (let's see what happens when we put it on fridays, and then online, and now on saturdays, and secretly release all episodes online).
6. this was also the plan for the current season, but the leaks upset the advertisers nickelodeon may have worked out deals with, so they made a strong push for television with episodes 4-7.
7. now that korra really has nothing to offer nickelodeon, they could be looking to cut the budget on the final season and test out some sort of online streaming solution using what remaining fanbase the show has.
I didn't know anything about a scrapped toy deal. That might have tipped Nickelodeon's hand. I want to learn more about this; got any sources?