The Lego Group Is A Privately Held Company Marketing Essay

Founded in 1932, the LEGO Group is a privately held company headquartered in Billund, Denmark. The vision of Lego Group is to “inspire children to explore and challenge their own creative potential” [1] Lego now ranks 4th in the world as a toy manufacturer. The Lego Group employs nearly 9,000 workers and its own product, Lego Brick can be found in over 130 countries. The financial performance of Lego declined drastically through the 1990’s and early 2000’s.  In 2004, the company accumulated losses of DKK1.9 billion. [2] Therefore, Lego tried to implement some changes in order to cut the production cost and reverse the poor situation. In the last step of the process of restructuring Lego’s supply chain, the Group tried to close some of its’ own factories in Korea and Switzerland, upgrade the procurement process and outsource 80 percent of the production.

           Prior to outsourcing to Flextronics, production plants were located in high-cost countries including Denmark and Switzerland.  Apart from the famous Brick, the company entered into other industries including computer games, clothing, licensed products and television. The product diversification was very large since they lost confidence in their core product.   This catalyzed inefficiencies and confusion for customers.  The result was a disastrous net loss and forced the company to find solutions to cut the cost and recapture the market share.

           In 2009, the Lego Group ended the outsourcing contract with Flextronics as they claimed that it would be more optimal for them to manage their global manufacturing set up. They gain back the control over its production plants. Now, they need to adapt to the changing demand on their own and to maintain the relationships with different small external suppliers. As they focus on the internal production now, they need to re-think the structure and the production process.  This paper will analyze issues facing LEGO, mainly with the global supply chain, and then examine various alternatives and recommendations for LEGO.

Segmentation

Before the Group outsourced, it took a few actions to prepare for it. First, LEGO shifted its attitude towards retailers. It focused more on the larger retail chains rather than small outlets as they are having a growing dominance in the world toy market. This can help them to foresee a more reliable demand and reduce the distribution cost.

           Second, the distribution facilities were centralized. Five European facilities were grouped together to one in the Czech Republic, which handled customers in Europe and distribution centers throughout the world. The Group outsourced the operation to DHL Solutions. Also, the Group outsourced the distribution in The US and Canada to Excel Inc.

Third, LEGO changed its traditional production method. Before, each factory operated according to different brands of the Group. Each country’s factories were specialized in one brands’ production only. However, this method shifted to looking for external partners for larger production and reallocated the production to countries that fulfill the need of market responsiveness and cost-saving criteria. Therefore, the Group moved its European market, which accounts for 60% of the sales of whole company, to Czech Republic and Hungary. They took over the capacity transferred from by cost of production. Besides, the Group also moves its US production site to Mexico, so as to meet the demand of North American market that contributed 30% of company’s sales.

           Lastly, the Group went for outsourcing by targeting large subcontractors, including Sonoco, Greiner, 2B Pack and Flextronics. However, the Group did not outsource all the product lines. It kept Technic and Bionicle to in-house production while outsourcing Duplo and System as they are of high-volume production.

Corporate Structure

The managerial structure is imperative to the success of any company.  LEGO Group used to be a family-controlled firm where the Kristiansen family owned the rights to make final decisions.  For generations, control remained in the hands of this family.  While the family was moving towards a more international business, the company also upheld the belief of its traditional business pattern while continuing to increase market share and growth by focusing on new product development.  It wasn’t until 2004 when LEGO faced the largest deficit yet that an outsider was appointed as the CEO.  Jorgen Vig Knudstorn suggested dropping the arrogance and listening to the customers.  He attempted to fix the ineffective and inflexible supply chain traditionally used by LEGO. Knudstrom was more willing to try something new and adopt and establish a new value for the group.

Lessons Learned from “Failed Marriage”

There are a few lessons to be learned from LEGO’s short-term relationship with Flextronics. The primary lesson LEGO learned was that outsourcing production was not the cure-all solution it was hoping for. In actuality, it made LEGO’s global supply chain more complex. When choosing a company to outsource your production to, you must also look at the outsource company’s strategic goals. “Many companies ally with their outsourcing partners in order to gain higher levels of flexibility.” [3] However, LEGO saw less flexibility due to “Flextronics’ more stable and predictable operations in which economies of scale was a key phrase.” [4] This mismatch of strategies could have been avoided if LEGO had outsourced to a company more similar to itself.

It was also clear from the beginning that Flextronics did not hold its core competency within the toy or plastics manufacturing markets. Thus, the second less learned is that, when choosing an outsourcing partner, you should make sure that they have experience and know-how of your industry. Flextronics was using LEGO to increase its own “competencies and knowledge about plastics.” [5] 

The third lesson learned is that outsourcing takes time. Even if LEGO and Flextronics were a perfect match for each other, outsourcing does not happen overnight. Companies seeking to outsource have to transfer a lot of information and know-how to its partners. This takes time and experience to be facilitated properly. Production managers, line-works, and other employees can provide the outsourcing company with very usefully information in regard to how the supply chain operates. Keeping many of these employees employed during the initial stages of the outsourcing can help smooth the transition.

Communication, standardization, and documentation were also very important lessons learned in this case. They help to “provide consistent operations” and “makes process control easier.” [6] Initially, LEGO had an overabundance of suppliers. Poor communication within the production chain led to greater tension within the company. By creating more standardized processes, and providing more documentation and communication, LEGO was able to reduce the number of components it manufactures. The establishment of the 70% ‘evergreen’ bricks [7] protocol is another example of how LEGO has begun to standardize its production lines.

The most important lesson to be learned is that greater knowledge can often come from a company’s failures rather than its successes. LEGO could have potentially restructured its production value chain without the help of Flextronics, but the short-term partnership between the two companies allowed LEGO to realize many of its faults. With greater knowledge of what needs to be done for the future, LEGO can now use these lessons learned to create a better company.

LEGO’s Competitor’s

LEGO maintains the leading position in the market for construction toys. It holds the largest market share in the United States with Mega Bloks as its closest direct competitor. [8]  LEGO has an advantage over new competitors considering the costs required for advertising and the costs for promotion. The company’s brand recognition surpasses its competitors and provides an additional barrier to entry for companies wishing to enter into the industry.

As of 2004 the LEGO Group was the fourth-largest toy manufacturer in the world. A few years ago, Fortune Magazine and the British Association of Toy Retailers acclaimed the LEGO Brick “Toy of the Century”. [9]  In fact, the arrival of competitors in the market for construction toys has done little to damage the sales of the LEGO Group.

LEGO is competing with companies producing interlocking plastic building bricks. The number of companies in the market is relatively small, however, LEGO always has had competitors. Several companies have introduced and begun producing toy building bricks that are nearly identical to LEGO’s Bricks.

Some competitors have come and gone, but some are quite fierce and are not afraid to initiate court proceedings against LEGO patents.  The toy company Tyco Toys produced similar bricks for a time. Other competitors include Mega Bloks, Best-Lock and Coko have also done the same. These competitor products are typically compatible with LEGO bricks, and are marketed at a lower cost than LEGO sets.

Best-Lock and Mega Bloks are two of the major competitors that eagerly fight for market shares on the toy construction market.  Mega Bloks started making toys for pre-school children and in the early 80s it began to produce toy-building bricks for small children. The bricks were very successful in Canada. Mega Bloks began to market smaller bricks for older children in 1989. It has grown from Bertrands’ small business to a global supplier and manufacturer of toys based in Canada, exporting its toys to over 100 countries. It is the largest Canadian toymaker in terms of employees (over 1000) and is ranked in the top ten toy manufacturers in North America. [10] 

Tyco Toys, a division of Mattel, has been fighting against LEGO in several court actions. While the LEGO Group was the fourth-largest toy manufacturer in terms of sales in 2004 Mattel was the largest toy manufacturer in the same year, which permits Mattel to have developed a large line of toys in the world, many of them are very similar to the LEGO sets. [11] 

Another competitor is Best-Lock, a privately owned company founded in 1997, which has offices in the United States, Europe, and Asia. Best-Lock produces bricks that are able to interlock with LEGO Bricks and also sells its products in 36 countries.

In Asia, LEGO competed with Coko, manufactured by the Chinese company Tianjin Coko Toy Co. and demanded them in 2002 to stop the production of its bricks identical to LEGO. Coko obliged but still continued to sell similar construction bricks and found growing market share in Australian.

Since the popularity of LEGO, the company has suffered from intense competitors that literally have copied the traditional LEGO bricks. However, the success of LEGO lies in the power of the image and brand of the company, the successful system of communication and engagement with their customers, product quality, and ultimately the ability of adaptation and innovation that the company has developed in recent years. As the latest example, LEGO has launched very successfully sets of the very famous movies such as Star Wars, Pirates of the Caribbean, and Harry Potter, allowing the kids to not only play with their own imagination but to construct based on their favorite movie themes. 

Porter’s Five Forces

By reviewing Michael E. Porter’s Five Forces Model, it becomes clear that LEGO has been facing many of the problems associated with competitive markets. [12] They have seen rises in the substitute products, an increasing number of competitors, and greater rivalry amongst their existing competition. The marketplace is becoming fiercer, and without many of its original patents to protect it, LEGO needs to manage its company wisely. A lose for LEGO one year may mean a gain for its competitors. If LEGO wishes to keep its top spot in the industry, it must be willing to stand above its competition.

Financial Analysis

Over the past decade, LEGO had experienced a slight stumble in its financial performance. Beginning in 2003, the company saw a rapid decline in revenue. It dropped nearly 3,300 mDKK (~$625 mil) from start of 2003 up until the end of 2004. [13] Cumulative net profit for the two years was negative 2,866 mDKK (~$542 mil). [14] This was why LEGO decided to outsource production to Flextronics, in order to cut cost and generate positive profits.

Addition problems that LEGO faced were unprofitable ventures, such as LEGO retail stores and theme park, and an over abundance of stocked inventory needed for meeting unpredictable demand. By the year 2003, LEGO’s total assets in plant, property, and equipment were worth 6,103 mDKK (~$1,155 mil). [15] The three-year partnership between LEGO and Flextronics helped to cut many of the cost facing LEGO Group. Inventory levels dropped, employees were laid-off, and divestiture of plants, stores, etc. took place. [16] 

During the past five years LEGO has seen rising revenues and growing profits. Employment hit its lowest point in 2007, but has seen growth in both 2008 and 2009. Total assets is also on the rise again as LEGO begins to acquire more property, plant, and equipment. It appears that LEGO has weathered through its financial troubles and is well on its way to being a top performing toy manufacturer. However, LEGO must be ready for sudden shifts in the market. The toy industry is very seasonal with most sales occur at the latter half of the year. Roughly sixty percent of LEGO’s production takes place in the second half of the year. [17] This being the case, LEGO must be prepared to meet fluctuating demand.

Alternatives

After careful consideration of this information, we have formulated a variety of alternatives for the LEGO group.

           1. Hire a consultant.

In 2004, the LEGO organization endured a radical shake up in order to avoid bankruptcy.  By off-shoring and outsourcing up to 80% of LEGO’s production to Flextronics, a large Singaporean electronics manufacturing services provider, in order to combat the large financial crisis.  However, this new partnership was made in haste and proved itself detrimental to the global supply chain.  Although Flextronics was a key player in the market with industry-leading plastics capabilities, in only three years the relationship failed for a variety of reasons.  Ultimately, this resulted in the LEGO group controlling global manufacturing on their own.

           Flextronics had a long history as well as vast experience in standardizing and documenting work routines and processes to move business activities from site to site.  The complexity of the supply chain was one of the biggest issues originally facing LEGO and Flextronics assured the Group that they would excel in reducing the complexity of both production and organization.

           Within three years, it became evident that this was not the case.  LEGO believed that since they were unable to handle the complexity of the production network on their own, simply outsourcing to Flextronics would dissolve the issue altogether.  Instead, this resulted in an even more complex global manufacturing footprint.  The hastiness of the decision became problematic when trying to control the complex network of production facilities while simultaneously ensuring a reliable transfer of production knowledge between the two.  LEGO’s business model demanded flexibility and market-responsiveness regarding supply whereas Flextronics’ strategy involved stability and predictability in regards to operations.

A consultant’s job is to take into consideration all of these outstanding factors and develop a plan of action most suitable for company.  By professionally hiring an outside firm, an objective approach would be taken when dealing with LEGO and their issues.  LEGO would be able to easily access deeper levels of expertise than simply what they know in-house.  When consultants analyze the situation for LEGO, they can further provide various alternatives.  In hiring a consultant, power struggles and emotional roller coasters are sidestepped.  This professional legitimacy is one that many would feel safe with and not question.

2. Create an internal managerial team to address the problems.

It is clear that the majority of the issues facing LEGO revolved around the production value chain.  However, further issues arose in regards to upper management and a loss of confidence in its core product.  This led to a rush in focusing on other products as opposed to addressing the problems with their standard bricks. An internal management team is important because they would be representatives from various departments who know LEGO in and out.  This dedicated team may be able to guarantee continuity to the solution to a certain degree.  The team may also have better control over both costs and skills.

3. Outsource to a company familiar with plastic production.

Flextronics was a market-leader when it came to global production.  Their vast experience in dealing with contracts, documentation, and processes to move business activities from site to site seemed nothing but promising.  Flextronics assured the LEGO Group that they would reduce the complexity of both production and organization.  However, LEGO overlooked the fact that Flextronics had never dealt with plastics before.  In fact, Flextronics wanted to diversify its’ portfolio into this market.  The lack of experience with plastic production was detrimental to the relationship.  Instead, LEGO could have outsourced to a company who specializes solely in plastics.  Two prominent manufacturers include Pittsburgh Plastic or Arrow Plastics.  The fundamental strategies of the two companies were incompatible as Flextronics functioned on predictability.          

4. Communication Platform.

The major problem in the case is communication inefficiency, both internally and externally. Internally, the development department ignored the production costs of the new product, making the Group’s cost of production rise. A communication platform is needed so that both departments can understand each other’s concern before making a final decision on the company’s product. This can enhance efficiency by controlling the cost of production. Regarding external communication, demand misconceptions are one of the causes that contributed to the pile up of stocks, which thus increased the production cost. Therefore, an open platform online should be set up so that distributors can show their latest demand on the Group’s products and the Group can disclose their latest news. This interactive communication can help the Group to get better estimate demand and cater to the latest market needs, ultimately allowing the company to respond quicker to its customers with limited cost.

Recommendations

While these are all viable alternatives for the managerial staff at LEGO, we believe that a hybrid solution offers the best advantages to countering the various issues facing the LEGO Group.  By taking the time to sort out internal managerial problems, evaluating current processes, and examining both internal and external factors, we assume that the horrible recession LEGO faced could have been avoided and less of an impact.  By integrating aspects of these alternatives, our recommendation takes a holistic approach to problems facing the LEGO group.  Ultimately, the best option involves hiring an external supply management team to work with LEGO’s internal management team in order to synchronize the supply chain.  

           The first step is to create a management team made up of various staff members within the organization.  It should include the heads of each respective department, the CFO, and the CEO. They must also formalize and standardize a communication platform throughout all of the regional production facilities as well as with management. Regular meetings should be held in order to improve inter-departmental communication.  The communication path between upper level management and lower level workers should be shortened so that the workers who experience problems first hand can directly voice the issues to top management.  Therefore, problems are visible to all and the management can respond rapidly.  The key role of this internal team is to gather as much of the information about LEGO as possible and work in conjunction with the external consulting team.  This information will be easily accessible when utilizing the communication platform.

The external consulting firm will work with the internal managerial team to develop a strong plan of action.  The firms’ responsibility is to deeply investigate why LEGO is performing so poorly, especially in regards to the global value chain.  Research conducted by this external team should objectively address every detail within this case.  Solutions can then be presented to the internal team and further discussions will ensue.

Finally, we would suggest utilizing a company who specializes in supply chain solutions, not just plastics.  For instance, IBM can offer LEGO an all-encompassing outsourcing solution in order to streamline and standardize production.  This will benefit LEGO because a company who specializes in dealing only with the supply chain will take their greatest problem out of their hands.  

This all-encompassing recommendation provides a sound solution to the problems faced by LEGO. It is clear that if decisions were thoroughly approached as opposed to hastily made, many economic pitfalls could have been avoided.  Furthermore, it would ensure a solid future with a strategy that can easily handle the fluctuating demand and needs of the company.  

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