On the surface, the Lego Group didn’t look as if it was in trouble. The fourth-largest toymaker in the world at the time (today it is fifth-largest), the Lego Group sold €1 billion (US$1.35 billion) worth of toys in 2004, ranging from its snap-together bricks for young children to Mindstorms, a line of do-it-yourself robot kits for older kids. Even in the digital age, its toys maintained a surprisingly firm grip on the market and seemed to adapt well to changing tastes. The company’s steady stream of new products routinely generated three-quarters of its yearly sales. Popular enthusiasm was so great that in 2000, the British Association of Toy Retailers joined Fortune magazine in naming the company’s classic bricks “the toy of the century.”
But the Lego Group’s financial performance told another story. Despite its extraordinary hold on the imagination of children around the world, the Billund, Denmark, company was in trouble. The Lego Group had lost money four out of the seven years from 1998 through 2004. Sales dropped 30 percent in 2003 and 10 percent more in 2004, when profit margins stood at –30 percent. Lego Group executives estimated that the company was destroying €250,000 ($337,000) in value every day.
How could such a seemingly successful toymaker lose that much money? Some observers speculated that the Lego Group had overdiversified its product line with moves into such areas as apparel and theme parks. Others blamed the exploding popularity of video games or pressure from low-cost producers in China.
Although there was some truth in these hypotheses, many other factors impeded the success of the iconic global brand, including its innovation capabilities and its supply chain. The company leadership knew it had to address those problems, and that the supply chain posed the most immediate opportunity for improvement. The Lego Group’s supply chain was at least 10 years out of date. Poor customer service and spotty availability of products were eroding the company’s franchise in key markets. Speedy attention to the supply chain, the leaders reasoned, would not only buy them time to deal with the other challenges, but could help set in motion a virtuous circle of improvements that would support subsequent changes in the rest of the company.
And it would address head-on one of the company’s most pressing challenges. Having established itself in an era when supply chain management was a matter of moving boxes from here to there, the Lego Group had missed a sea change as retail giants like Wal-Mart and Carrefour gained dominance. The company’s supply chain was geared for custom delivery to the smaller retailers that had owned the toy market in the 1950s when its bricks first became popular. For nearly six decades, this way of doing business had served the company very well — and then the system started to fail. In the 1990s, as competitors focused on regearing for the big-box stores, the Lego Group considered its primary challenge to be brand building — despite the fact that its bricks were already among the most recognized toys in the world. By the end of that decade, most of the Lego Group had lost ground to companies that operated with much greater sophistication, companies that analyzed and optimized every cost driver to provide just-in-time service to the behemoths. (U.S. operations were a notable exception to this problem.)
To rebuild profitability, the company had to refashion every aspect of its supply chain. That meant eliminating inefficiencies, aligning its innovation capacity with the market, and re-gearing to compete in the new big-box world. This was no small matter for the Lego Group, which by the time CEO Jorgen Vig Knudstorp took the helm in 2004, had grown to roughly 7,300 employees, working mostly in two factories and three packaging centers — each in a different country — turning out more than 10,000 permutations of its products packaged in hundreds of configurations.