In Return on equity shot up from

In eight years’ time, LEGO revenues
increased threefold. (see figures 1-4 to get a snapshot of financial
performance). A spectacular operating margin was a result of a turnaround from
a 2.5 billon Krona loss in financial years 2003 and 2004. 56% to 70% was the
jump in prices and gross margins. Operating costs were squeezed from 70% to
37%, while the sales per employee doubled. Return on equity shot up from zero
to about 70%; whereas the equity increased from 400 million to +11 billion DKK.

 

 

A summary of pre and post-turnaround
financials is exhibited below:

 

Figure 1: Sales
Revenues 1993 – 2013

Source: Danish Krona Billions
data from Financial Reports

Figure 2: Profit
before tax 1993 – 2013
Source: Danish Krona Billions
data from Financial Reports

Figure 3: Return on
Sales %
 
Data
derived from Financial Reports

Figure 4: Cash Flow
 
Danish
Krona Billions data from Financial Reports

 

But how did
this change happen? Let’s have a look at the actions that management took to
implement the turnaround.

 

The successful
turnaround manager, Jorgen Vig Knudstorp, targeted firmer financial footing,
reorientation towards growth and openness towards to ideas from enthusiastic
users – by applying a series of different leadership approaches as the
turnaround progressed into different phases. (Harvard Business Review, 2018)

 

In the first
phase (2004-05) –
Knudstorp aimed at staunching the
bleeding – ie halting a sales decline, reducing debt and strictly focusing
on cashflow as the first thing. He sold off peripheral businesses such as theme
parks and video games, and cutting the number of parts that Lego made. Foreign
outposts were scaled back or closed down. It was a classic turnaround that
required tight fiscal control and
top-down management. At the same
time, regaining credibility was
critical thus he made sure that he was approachable. He ‘managed at eye level’
(Danish expression) which literally means talking to people on the factory
floor, to engineers, to marketers – everyone. 
There were weekly sales management meetings along with a tight control
on capacity allocation choices. (Harvard Business Review, 2018)

In the
second phase (2005-08),
he worked on productivity and identity
by moving much of Lego’s production to countries such as Hungary and Mexico,
and boosting the brand (Ft.com, 2018). Once the
company had gained freedom to live and have a strategy – the management team
focused on enhancing the firm’s value.
At this stage, a strategy of niche
differentiation and excellence required a looser structure and a relaxation of top-down management style that
was imposed in the first stage; it was needed to empower the managers.

 

Only in the
third phase (2009-11), did Knudstorp think Lego needs to pursue on organic growth. He thought ‘Every
time you grow, you are hiding your problems. Growth is like sugar-coating your
problems’ (Ft.com, 2018). At this stage, he
realized the need to change the leadership style once again. Company’s
management had become risk averse during the earlier phases, to be able to
capture opportunities he wanted them to be able to take calculated risks. He
achieved this by moving leaders within the company and altering organizational
structures and ways of working. They realized early on that managing user
contributions required corporate transparency and respect for consumer’s ideas.

 

 

 

 

 

 

 

 

Analysis of capital
allocation and measurement of return on capital performance placed the LEGOLAND
parks under scrutiny and were disposed off in 2004. The turnaround manager
believed that the company needed more of an action plan rather than just a
strategy.

 

The first action plan
in 10 steps:

    Rationalise the product offer by slashing
product offer by 30%

    Attack the bases of cost

    Slow down the programme of LEGO stores

    Drop off the theme parks

    Get out of the computer sales business.

    Launch DUPLO again

    Set the targets for financial performance such
as Line profitability , Consumer Product Profitability 13.5%, the ROS
benchmark. FMC – targets for full manufacturing cost.

    Prioritising retailers ; getting close to the
customer

    Understand the end consumer: Pay attention to
AFOLs, mindstorming, focus groups

    Increasing customer base by improving segmentation,
eg DUPLO, LEGO and FRIENDS for the young females.(4)

 

 

Amongst the cost cutting efforts were global
reduction in number of global staff. It also closed the Lattich Factory in
Switzerland in February 2004. This planned closure resulted in further cut down
of jobs.

 

All costs were reorganized and analysed.
Design was fully linked to manufacturing costs and focused again on the core
business of  making construction sets.
The number of parts was slashed to 6000. This also included shutting down
unprofitable business of LEGO computer games business. (Feloni,
2018)

 

 

Management of
Partners for Bionicles:

There was lack of
coherence between Lego and its partners. As Lego produced products after
developing stories for each character, it had complimentary products that its
partners launched. Unfortunately the partners were not in tune with the product
releases, thus by the time they caught up with product release it would be
outdated. See the lag in figure 6.  Management
found its solution in starting licensing team the bonuses of which were tied to
the performance of development team. They knocked at the door of the
development team and asked for the product. 
They were representatives of the outside people, that’s when the whole
thing worked. (See figure 7)

 

Source: David
Robertson tells the LEGO story at the FT Innovate conference, 2018

 

Innovation:

Crucial to the success of Lego turnaround was the updated
structure to strategically coordinate innovation activities, being led by a
cross-functional team ‘the Executive Innovation Governance Group’. Lego managers
took a broad view on innovation that did not just include new products but also
the plans on pricing, building community, business processes as well as
channels to market. Each of these can be a powerful business driver. Lego also
distributed innovation responsibility in all areas cross four groups expecting
different levels of innovativeness from each. (Robertson and Hjuler, 2018)

Figure 8: Lego’s 4 Groups for Innovation

Source: Robertson
and Hjuler, “Innovating a turnaroung at LEGO”, Harvard Business Review, 2009

 

 

Lego (turnaround) innovation strategy comprised the
following fundamental elements:

    “Building
an Innovation Culture

§ 
The Return to Core Values

    Becoming
Customer Driven

§ 
The Rebirth of LEGO City

    Exploring
the Full Spectrum of Innovation

§ 
The Bionicle Chronicle

    Fostering
Open Innovation

§ 
Mindstorms, Architecture, and the
Wisdom of the Clique

    Attempting
a Disruptive Innovation

§ 
Aiming for the Stars with LEGO Universe

    Sailing
for Blue Ocean

§ 
“Obviously LEGO, but Never Seen Before”
and the Birth of LEGO Games

    Leveraging
Diverse and Creative People

§ 
The Ninjago Big Bang

    Transforming
LEGO

§ 
The Rebirth of a Brand”(7)

 

Please see the Innovation Matrix
instrumentalised by Lego in Annexure.

 

Community
Involvement:

After consolidation and streamlining, Knudstorp
proceeded to transfer creative control in hands of hardcore fans of Lego
instead of the top designers who despite being skilled, lacked real
understanding of the history of the toymaker.

It initiated with
four most respected Mindstorm fans who signed NDAs. In January 2006 they took
the robot model to consumer electronics model. They got almost 10,000
applicants who would pay to be a part of LEGO remodeling. Management hired a
community organizer. Please see the appendix for the heirarchy.

Progress on
Mindstorm user panels (MUPs):

    Group
of 4 insiders

    Expanded
to 11

    In
January 2006 they invited 100 more to create and test – over 9600 applied

    The
MUPs flooded the LEGO with ideas

They realized
that MUPs can only be hired but cannot be fired. Thus they formed a hierarchy
with LEGO employee on top and community comprised multiple layers of hierarchy.

 

 

With a
sophisticated internal guided system, Licensing team for Bionacles, Mindstorm
Development Team leading the community involvement with multiple levels of
hierarchy along with their innovation matrix – Lego management ensured that it
coordinates innovation such that it is able to get the whole spectrum of
innovation. With that it was able to develop a sustainable competitive
advantage.

 

Understanding the KSFs, the key success
factors was extremely important in this process. ‘Close to the customer’ became
a turnaround mantra. Using focus groups for children and AFOLs, the adult fans
of Lego in the process, ideas of new products were tested during the product
development stages.

 

Actions
taken in the Growth Phase:

 

    “Adopted a ‘strategy of globalizing its
operations’ – expanding into new territories with Sales and Marketing

    Initiated a program of investment to
hire staff and build premises to ‘locate production costs closer to core
markets.’

    Exploitation of Intellectual Property
through partnerships with video game makers, t.v. and film studios &
clothing manufacturers.

    Added the ‘digital revolution’ as the
main adjacency – partnering with others with relevant capabilities rather than
doing it in-house

    Achieves double digit growth in its main
30 international markets – highly focused on building systems.” (Mackay and
Wilson, 2018)

 

 

Summing it up, The Knudstorp process
had:

 

    Created
a clear vision for the future direction of the company.

    Set
a clear direction for LEGO and fundamentally changed the way the company did
business with major retailers.

    Created
a clear command structure within the organisation with an emphasis on
performance and profitability.

    Defined
gross and net margin targets defined as the major challenge within product
development including a premium price strategy and a 13.5% return on sale
target.

    Restored
competitive advantage by focusing on retail customers, in particular their
profitability. Understanding the importance of “STAMP” the impact of Stock Turn
and (Margin Performance), gross margins achieved in store.

    Reduced
the level of risk by right sizing the activities, cost base and assets to a
lower overhead base, reducing the break even level for a given level of
turnover.

    Introduced
back to basics, focusing on the Lego brick legacy. A focus on the brick and the
system, developing core products for a clearly defined group of customers.
Avoiding the lure of too many adjacencies.

Encapsulated the belief in the brand and the company,
In Knudstorp’s own words “Passionate about what you are doing, living your
dream”.(4)

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