Business Strategies in Creative

Industries
30269

LEGO Case

Pedro Aceves
Attendance code

Class 11 -

Class 12 -
Organizational adaptation and change

Two primary factors can The organization can adapt the

change relative to an following to better align with the
organization that will require changes:
the organization to adapt:
• Strategy
1. The environment can • Inverroche and expansion due
change to increasing demand for
craft gins
2. The strategy can change
• Resources
• Marvel and major resource
reallocation

• Capabilities
• Alessi and its routines

• Structure
• Wildfire
Lego in 2004

Revenues, profits, and assets have plummeted.

Management team believes the company is on the brink of bankruptcy.

Jorgen Knudstorp, a 35-year-old “amateur” by executive standards, has

just been appointed CEO.

If nothing changes, company will likely be bought up by Hasbro, Mattel, or

a private equity firm.
What has gone wrong with this once-great toymaker?
Has the structure of the traditional toy industry gotten better or worse
in the years leading up to 2004?

Customer Power

Three types of customers:

1. Parents
a) Will pay anything to please kids
b) Will pay anything to stop demands for certain toys
c) Will pay anything for toys they consider good for their kids
d) Tend to be loyal to brands they grew up with, wanting to relive their
childhoods by sharing those brands with their children
NOT THAT POWERFUL
2. Children
a) Highly fickle, with great desire for the latest toys
b) Fads don’t last long and are getting shorter
c) Whatever customer loyalty among children that exists is declining
QUITE POWERFUL
Has the structure of the traditional toy industry gotten better or worse
in the years leading up to 2004?
Customer Power

Three types of customers:

3. Retailers
a) Have consolidated rapidly in many parts of the world
i. Walmart and Target main players in the U.S.
ii. At Walmart, no longer competing against other toys, now also against
socks and dog food, and Walmart will threaten to replace shelf space
with these items
iii. Have made sales much more seasonal than before
b) Price sensitive
c) Highly demanding
d) Have good alternatives to the products of most individual toymakers
e) Can switch away from most toymakers with ease
f) Insist:
i. That toymakers provide low wholesale prices
ii. On a constant stream of new products
iii. On cooperative advertising support
iv. On promotional support
v. On in-store display assistance
vi. Etc…
VERY POWERFUL
Five forces

Threat of
New
Entrants

Supplier
Competitors Buyer Power
Power

Threat of
Substitutes
Has the structure of the traditional toy industry gotten better or worse
in the years leading up to 2004?
Threat of Substitutes

Stores like Walmart and other general merchandisers have broadened the array of
substitutes dramatically

Rapid shift from traditional toys to videogames and online activities

Children are more overscheduled than ever, spending time on structured activities
and less time on leisure

Childhood is getting shorter and adolescence longer

Five forces

Threat of
New
Entrants

Supplier
Competitors Buyer Power
Power

Threat of
Substitutes
Has the structure of the traditional toy industry gotten better or worse
in the years leading up to 2004?
Threat of New Entry

What if I had an idea for an amazing new toy? How easy would it be for me to
implement that idea?
• Quite easy to implement
• Fund the venture through the crowd on Kickstarter
• Hire contractor in Asia to produce the toy
• Use online channels to distribute the toy until it becomes popular
• Then approach mainstream retailers
• Easy exit after fad dies down and imitators have flooded the market
Threat of
New
Entrants

Supplier
Competitors Buyer Power
Power

Threat of
Substitutes
Has the structure of the traditional toy industry gotten better or worse
in the years leading up to 2004?
Competitors

Thousands of toymakers engage in wholesale price competition and rapid imitation

Some concentration at the top with Mattel and Hasbro, but these make up just 13%
of industry

Seasonality of the industry has meant that all toymakers build lots of inventory in
the hopes of being the big hit of the season, because if their toy hits big there
wouldn’t be enough time to restock from China

This leads to quick price drops in order to rapidly unload inventory.

Five forces

Threat of
New
Entrants

Supplier
Competitors Buyer Power
Power

Threat of
Substitutes
Has the structure of the traditional toy industry gotten better or worse
in the years leading up to 2004?

Summary

LEGO operates in an industry whose structure has been mediocre in the past and is
now getting worse:

• Channel has consolidated into the hands of the most dangerous retailers

• Loyalty has waned among end consumers (kids)

• Substitutes have proliferated Threat of

New
• Entry barriers have fallen Entrants

• Rivalry has intensified

Supplier
Competitors Buyer Power
Power

Threat of
Substitutes
Uses for Porter’s Five Forces framework

1. To understand the drivers of industry-average profitability

2. To figure out whether a particular company is more or less exposed to industry

changes than an average competitor

3. Here, to pinpoint the changes in an industry that are most economically relevant

4. To consider how to reposition a vulnerable company

Threat of
New
Entrants

Supplier
Competitors Buyer Power
Power

Threat of
Substitutes
The growth period that wasn’t (1993-1998)

What did LEGO try to do?

It expanded the scope of its operations:

• Family leisure park
• LEGO media
• Children’s wear
• Watches
• Robotic bricks

A VP of marketing stated:
“The mentality was that only we sufficiently knew our brand and the
expression of it could therefore not be outsourced.”

What was the logic for this strategy?

1. LEGO had one of the ten strongest brands in the world among families with
children.
2. Their core market was slowing down and the structure of their traditional
industry was deteriorating.
3. Therefore, they should use their key asset, their brand, to expand into new
markets with better prospects.
The growth period that wasn’t (1993-1998)

What is wrong with this strategy?

1. It led the company to do many things that it doesn’t do well.

2. It led to an erosion of the historical core of the brand

a) The core was unhealthy

b) And attention from the core was diverted away towards new markets
c) Naturally, position in the main business eroded

Component count soared from 4,000 to 8,000 during this period

• But these additions were totally unnecessary from a design standpoint
• How many different shapes can 3 two-by-four bricks create?
• 3 two-by-four bricks can create a total of 1,560 different shapes
• 6 two-by-four bricks can create a total of over 9 million shapes

This increase in components led to huge indirect costs in the entire supply chain,
“affecting design, manufacturing, servicing of retailers, forecasting, and managing
inventory” (Jorgen on page 5)
The growth period that wasn’t (1993-1998)

Summary of the period

This period shows us what happens when a company:

1. Reacts to troubles in its core market by trying to enter markets where it lacks a
competitive advantage, and in the process

2. Takes its eye off the ball in the core markets and allows operations there to veer
out of control
The fix that wasn’t (1999-2004)

What happened here?

Hired Mr. Fix-it Poul Ploughmann

• Restructuring program
• Exit from watches and publishing
• Streamlining of production
• Consolidation of sales offices
• Opening of direct channels to consumers: stores and online
• Goes back to the brick, launching licensed products such as Star Wars
The fix that wasn’t (1999-2004)

What are the flaws in Ploughmann’s approach?

1. Package of changes is incomplete

• Expands the brick product line without establishing the systems and
processes required to manage a broader product line well.
• Managers rotate roles every 6-12 months; consequence?:
• they are nowhere long enough to take responsibility, thus they start
“attributing poor results to factors beyond their control such as the
weather” (page 6)
• They also focus on quick wins, bought at the expense of long-run
performance

2. Responds to environmental changes in ways that are not distinctively LEGO

• E.g., designing products in Milan and London, where LEGO style and culture
is not served for breakfast, lunch, and dinner

3. Does not seem to consider the reactions of other players

• How will Walmart and Toys-R-Us react to opening of direct channels?
• Unlikely that direct sales will replace Walmart sales in any sensible timeline
In 2004, LEGO needs a Turnaround Plan

We need a plan that is:

1. Externally consistent: it copes well with the Five Forces in the industry, especially
recent changes in those forces

2. Internally consistent: the full value chain of the company is engaged, the moves
in different parts of the company fit together well, and the changes fit well with
what LEGO can uniquely do

3. Dynamically consistent: the plan is sound in light of future changes and the
reactions of other players
Jorgen’s turnaround

As Jorgen, what would you do in each part of the firm?

• Product scope?

• Customer scope?

• Firm infrastructure?

• Human resources?

• New product development?

• Manufacturing?

• Distribution and sales?

• Marketing?
Jorgen’s new value chain

Competitive Advantage:

High WTP for superior, branded build-

and-play experience

Customer Scope:

Loyal fan base of all ages

Product Scope:

Brick-based products, not theme parks,

videogames, or other peripherals
Jorgen’s new value chain
Firm Infrastructure
- Sell theme parks and other assets for cash to get past crisis
- Invest in forecasting systems and processes
- Develop annual process for manufacturing and product management
- Promote inter-departmental meetings to negotiate component count and other issues
Human Resources
- Change out senior team
- Stop job rotations
- Decouple sales incentives from forecasts
- Recreate family-like atmosphere
New Product Development
- Boost new products to 50% of SKUs and 60-70% of sales
- Establish strict processes for new product development
- Co-create new products with kids and parents
- Develop new products in four new departments
- Set a minimum “reuse rate” of components
- Focus on products that are “obviously LEGO but never seen before”

Manufacturing Distribution/Sales Marketing

- Quickly cut component count
to 5,000
- Increase inventory of shared
components
- Decrease inventory of finished
goods
- Develop systems to measure
product profitability
- Tailor value propositions by
customer
- Shift from push to pull
distribution and manufacturing
system
- Develop systems to measure
customer profitability
- Foster AFOLs and LEGO user
groups
- Develop highly appealing
website for kids
- Engage in deep customer
research (e.g., sending designers
to live with families for weeks)
Jorgen’s transformation timeline
Jorgen got the board to agree to a 7-year agreement to restructure and restabilize the business.
2004 2005
Manage for cash
(2004-2005)
Focus on core products and
processes:
• Any venture beyond the
brick was immediately
stopped
• Sold LEGOLAND parks
• Shut video games
• Reduced the number of
brick components
• New focus on satisfying
retailers: Target and
exclusivity, Walmart and
prices, ToysRUs and breadth
• Fired executives who didn’t
align on complexity issue or
on retailer issue
• Outsourced any non-core
operations
2006 2007 2008
Manage for value
(2006-2008)
Recreate the family-like
atmosphere the owners had built.
Emphasized collaboration across
different departments and inter-
department meetings.
Tapped into its strong community
of loyal fans, AFOLs (Adult Fans
of LEGO)
Strengthened product
development:
• Gathering early market
insights
• Co-creating products with kids
and parents
• Sending designers to live with
families
2009 2010 2011
Manage for growth
(2009+)
More disciplined innovation processes:
1. Product and Marketing Development
(PMD)—keep core portfolio fresh and
vibrant
2. Concept Lab—develop fundamentally
new products and physical play concepts
3. Community, Education, and Direct
(CED)—digital innovations in online play
experiences
4. New Business Group—responsible for
creating new business models
Had a new sales and operations planning
software system working smoothly
How did these moves counter the forces in the industry?

Force Counter Force Counter

Competitive fringe, Attain competitive cost Chinese contractors Make in-house production
price-based rivalry position an advantage
Threat of Rapid product imitation
Fads, seasonality Introduce new product
New
steadily
Declining birth rates Entrants

Supplier
Competitors Buyer Power
Power

Force Counter Force Counter

Owners of licensed Position yourself as the
characters have preferred licensee
leverage
Force
Videogames, online
activities, adolescence
Consolidation around Tailor all systems to be
Threat of retailers with good in-stock on high-
Substitutes alternatives and price demand SKUs
sensitivity
Improve ability to
Counter Declining product develop products that
Appealing website for loyalty core customers love
kids

Dog food MINDSTORM robotics

products
Jorgen’s extraordinary results
From the brink of bankruptcy to the most profitable major toymaker in the world

2004 2011
LEGO Group financial results
Revenues DKK 6.3 bn DKK 18.7 bn
Net profit DKK -1.9 bn DKK 4.2 bn
Return on invested capital 1.2% 133%

Typical retailer’s LEGO metrics

Retailer’s margin 19% 30%
Retailers turns 2x 5x
Shelf space 9 feet 30 feet
Next Time

Business Venture: Organizational Change

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