LEGO: The missing bricks in their global supply chain?

Examining the effects of globalization and isolationism on LEGO's global supply chain

On the brink of bankruptcy in 2004, LEGO staged an impressive turnaround to become one of the top global toy companies.[1] LEGO achieved this by streamlining their supply chain in the following ways:

  • Reduced unique parts (every color of every brick requires its own tool)
  • Cut extraneous products
  • Under NAFTA, they relocated their US factory to Mexico for cost savings.[2]
  • Focused on core markets[3]

LEGO’s supply chain was now optimized to serve the European and North American markets.[4] [5] Today, LEGO faces a new challenge. With stalling sales, they need to expand to new markets, requiring a dramatic shift in supply chain strategy.

Global supply chain meets isolationism

In 2016, LEGO reported stalling sales in Europe and North America, but double-digit growth in China[6]. Their Chinese market share was only 2.8%, leaving enormous potential for growth.[7] However, toys imported into China are subject to high import taxes, a result of China’s isolationist trade policies. To sell in China, LEGO’s costs must become more competitive. At the same time, LEGO must protect their market share in Europe and North America, both of which have uncertain futures related to isolationist trade policies.

Throughout its history, LEGO never manufactured in China, a fact it leveraged as a quality differentiator to North American and European consumers.  In contrast, other major toy companies (e.g. Mattel and Hasbro) rely on Chinese manufacturing and have faced consumer backlash on quality and safety.[8]

The Chinese supply chain offers major cost advantages in a historically cost sensitive, low margin industry.[9] Toy manufacturing is cheapest in China due to lower labor and material costs, an ecosystem of high capacity factories, and efficient infrastructure for exporting goods. Also, as LEGO considers expanding their market in China, the potential savings on import taxes, shipping costs, and delivery time are strategically important.

In addition to stalling sales in the United States, LEGO also faces the specter of US isolationism. With the looming renegotiation of NAFTA, import costs from LEGO’s Mexican factory to the US could have devastating effects to their gross margin. LEGO’s 2016 US sales were 27% of their $5.93B total global sales.[10] With such a crucial market threatened, LEGO must weigh the costs and benefits of moving manufacturing into the US.

A move to China

LEGO has already taken the necessary steps to get around LEGO’s high import taxes. In 2016, LEGO opened their first Chinese factory.[11] In the short term, they are working to ramp the Jiaxing factory to full capacity while maintaining quality standards and aggressively expanding their Chinese and wider Asian market share.[12] LEGO has announced their new supply chain strategy for the Asian market: all of the products they produce in China will be sold in Asia, with the remaining Asian demand met via shipments from Europe.[13]

Medium term, LEGO is keeping their eye on the US and potential disruptions to NAFTA. Their leadership has expressed a cautious attitude, preferring to wait before taking action. LEGO’s leadership recently stated that any disruptions to NAFTA are “speculation at the moment. We would rather wait to see what happens.”[14]

LEGO Global Factory Locations (2016)[15]

 

Recommendations

China:

LEGO has taken positive first steps to increase market share in China. As China’s market demand grows, it will likely become one of their largest markets and LEGO should have a plan in place to expand their Chinese operations. Under the current plan, they will be importing approximately 20% of their goods sold in China. With rapid market growth, that could become increasingly costly. Additionally, LEGO should consider a major Chinese partner, such as Alibaba, to increase the speed of market penetration.

North America:

Unlike companies that produce larger, more complex products like cars, LEGO plants require lower skilled workers, smaller machinery, and shorter lead times and therefore have more flexibility in deploying plants. LEGO should consider reopening US manufacturing in the short term to preserve US market share and shield the company from potential isolationist policies.

Other diversification:

LEGO should also look earlier in the supply chain for additional diversification opportunities and consider new raw material sources apart from oil. In 2015, LEGO pledged to move to sustainable materials by 2030.[16] LEGO should accelerate this timeline to mitigate reliance on a commodity that is dominated by areas with political instability and to price fluctuations.

 

What other sources of diversification should LEGO introduce into their supply chain to insulate operations from political uncertainty?

Should LEGO take a wait and see approach with US manufacturing, or set up US operations now?

 

(Word count 798)

 

[1] Jacob Davidson, “Lego is Now The Largest Toy Company In The World,” TIME, September 4, 2014, http://time.com/money/3268065/lego-largest-toy-company-mattel/, accessed November, 2017

[2] “Lego to lay off 1,200, end U.S. production,” NBC News, June 20, 2006, http://www.nbcnews.com/id/13442193/ns/business-us_business/t/lego-lay-end-us-production/, accessed November, 2017

[3] Chris Zook, “How to Pull Your Company Out of a Tailspin,” Harvard Business Review, September 8, 2016, https://hbr.org/2016/09/how-to-pull-your-company-out-of-a-tailspin, accessed November, 2017

[4] Tine Froberg Mortensen, “The LEGO Group History,” LEGO Company Website, January 9, 2012, https://www.lego.com/en-us/aboutus/lego-group/the_lego_history/1930, accessed November, 2017

[5] Roar Rude Trangbæk, “THE LEGO GROUP EXPANDS FACTORIES TO REACH EVEN MORE CHILDREN WITH GREAT PLAY EXPERIENCES,” LEGO Company Website, October 20, 2015, https://www.lego.com/en-us/aboutus/news-room/2015/october/factory-expansion, accessed November, 2017

[6] Roar Rude Trangbæk, “THE LEGO GROUP REPORTS RECORD REVENUE IN 2016,” LEGO Company Website, March 9, 2017,

https://www.lego.com/en-us/aboutus/news-room/2017/march/annual-results-2016, accessed November, 2017

[7]Gayathree Ganesan, “Mattel plays with digital toys to triple China business,” Reuters, June 14, 2017, https://www.reuters.com/article/us-mattel-strategy/mattel-plays-with-digital-toys-to-triple-china-business-idUSKBN19537N, accessed November, 2017

[8] Gang (Kevin) Han & Xiuli Wang, “From Product-Country Image to National Image: “Made In China” and Integrated Valence Framing Effects,” International Journal of Strategic Communication Vol. 9, Iss. 1, 2015

[9] July 26, 2007,  http://www.nytimes.com/2007/07/26/business/26toy.html, accessed November, 2017

[10] John Kell, “How Mattel Is Challenging Lego’s Building Brick Dominance,” Fortune, April 19, 2017, http://fortune.com/2017/04/19/mattel-vs-lego-building-toys/, accessed November, 2017

[11] Roar Rude Trangbæk, “THE LEGO GROUP CELEBRATES OFFICIAL OPENING OF FACTORY IN CHINA,” LEGO Company Website, November 25, 2016, http://www.lego.com/en-us/aboutus/news-room/2016/november/jiaxing-factory-grand-opening, accessed November, 2017

[12] Roar Rude Trangbæk, “THE LEGO GROUP SIGNIFICANTLY EXPANDS SINGAPORE OFFICE TO SUPPORT GROWTH IN ASIA,”

LEGO Company Website, December 2, 2015, http://www.lego.com/en-gb/aboutus/news-room/2015/december/new-lego-singapore-office-inauguration/, accessed November, 2017

[13] Roar Rude Trangbæk, “LEGO GROUP TO BUILD FACTORY IN CHINA,” LEGO Company Website, March 18, 2013,

https://www.lego.com/en-us/aboutus/news-room/2013/march/lego-group-to-build-factory-in-china, accessed November, 2017

[14] Christine Weinberg, “Made-in-Mexico Lego Ignores Trump Trade Threat for Now, CEO Says,” Industry Week, March 13, 2017,

http://www.industryweek.com/trade/made-mexico-lego-ignores-trump-trade-threat-now-ceo-says, accessed November, 2017

[15] Image source: https://www.lego.com/en-us/careers/locations, diagram assembled by author

[16] Gabriel Fisher, “LEGO says its plastic pieces will be made with sustainable material by 2030,” Quartz, June 25, 2015

https://qz.com/437264/lego-says-its-plastic-pieces-will-be-made-with-sustainable-material-by-2030/, accessed November, 2017

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8 thoughts on “LEGO: The missing bricks in their global supply chain?

  1. Very well written! I agree with LEGO’s approach of waiting to see what happens before acting. Trump’s tweets are not legislation and it is worth being sure the transition is necessary before undergoing a very expensive switch that is also likely to increase cost of production due to more expensive labor. This is especially important given that LEGO is currently going through a difficult period, failing to report growth in revenue in the US for the first time in many years. [1]

    [1] Christine Weinberg, “Made-in-Mexico Lego Ignores Trump Trade Threat for Now, CEO Says,” Industry Week, March 13, 2017

  2. I really enjoyed reading about LEGO! I agree with James Shaw – moving plants or creating new ones is a costly business, and as you stated, LEGO is already operating on low margins. However, I do agree with you that they should open plants in China to serve their Asian market needs – with stringent quality control in place, they should be able to produce same quality product to be distributed to the Asian markets, and reduce shipping costs overall. I also agree with your suggestion that LEGO should find other places to diversify their supply chain, because they are combating increasing costs, and would need to do so in order to reduce costs further up in the supply chain.

  3. I enjoyed learning about how Lego is responding to protectionism in China and US. I was surprised to learn that LEGO did not produce their products in China until recently in order to maintain quality of the products. I propose to Lego to take more risk in expanding their production locations for two reasons. First, if they want to insulate themselves from protectionism, the best strategy would be to produce everywhere around the world and supply locally. Second, production of Lego is not as complicated as automobiles or electronic products. They should learn to transfer their production system from their existing factories to the new markets. If they target new markets with huge population growth, such as Indonesia, India, Phillipines, and Nigeria, their future of business will be promising.

  4. I had no idea LEGO was facing bankruptcy in the early 2000s! LEGO faces some unique challenges in terms of Chinese duties on imported toys and they have reacted well to this change by initiating manufacturing in China. They have also focused on lower manufacturing costs in supporting their large markets in Europe through manufacturing plants in Hungary and the Czech Republic and in Mexico for the US market. Whereas isolationism is rearing its ugly head in the US and parts of Europe, it is certainly not a worldwide phenomenon. President Xi of China continues to push for more international trade and other Asian and African countries recognize that free trade is essential to raising the living standards of their citizens.

    LEGO will need to carefully weigh the political situation in each major geography and adjust its supply chain to the local reality. The factory in China may support the Chinese market and other nearby Asian countries like Japan and Korea but other markets may require local manufacturing as well. Although Brexit is a concern, the rest of the European Union still seems to be amenable to open borders and cross-EU trade. Depending on the direction the NAFTA negotiations take, LEGO may have to react differently in North America. A one-size-fits-all solution will not be the answer, and LEGO (and other companies with similar global supply chains) will need to react appropriately to changing geo-political conditions.

  5. While re-negotiations of NAFTA could spell trouble for LEGO’s production in Mexico, the potential cost gains to LEGO of producing in China are greater than the revenue gains to be had from claiming that LEGO has a higher quality product because it is not produced in China. There are alternative ways to signal high quality to consumers through testimonials from child educators, parent groups, and consumer reports.

    As for LEGO’s US operations, I think LEGO should cautiously prepare for the case in which they can no longer import products manufactured in Mexico to the US. LEGO should start conversations with US based vendors and research the their potential move into US based manufacturing, but it would be premature to close up shop in Mexico or to put forward the large capital investment needed to set up a US based production of LEGOs when it is still very unclear as to what legislation will actually take affect regarding the US’s isolationist policies.

  6. While focusing efforts on China make sense due to the large growth opportunity there, I wonder if about the backlash it may receive upon opening a factory there. You stated that Lego leveraged the fact that they did not manufacture there as a key differentiator to their consumers. Will the markets be more perceptive of this shift even though the most recent political talks have been to move towards protectionism?

    I agree with Lego’s overall approach of patiently waiting to see the results before making moves regarding the myriad of possibilities of the future of NAFTA. Building a back-up factory in the US as a contingency plan seems far too costly; I doubt there is sufficient demand in the US market to fully justify another factory at this moment in time.

  7. Very interesting reading and a very puzzling question. When I was thinking about the decision of LEGO to build a factory in China an it seemed pretty straightforward to me that having access to such an attractive market was worth the cost of building a factory in China. And besides the access to the market, labor costs in China are still inferior than in the US and than most developed countries, it is not so hard to understand why LEGO decided to do it in China. However, the decision is not as simple when we are talking about building a new factory in the US specially because (a) costs are not so attractive as they are in China and (b) no one really knows if this factory will be needed to have access to US market in the long run. The uncertainty about the future of NAFTA is enough for me to agree with James and say that LEGO should just wait and see, although this might mean taking a hit in margins and sales for a few years before they can have a factory up and running in the United States. Thanks a lot for writing this!

  8. Very interesting! Thanks for the details and thoughtful approach. From a supply chain efficiency, I agree with the proposal to manufacture in China and one major opportunity is to serve as a regional hub and source to other Asian countries. I also think there’s an opportunity in empowering front-line employees to come up with ideas to increase productivity, yield and decrease cost (http://www.supplychain247.com/article/lego_expands_to_beat_supply_chain_bottlenecks/university_of_st._gallen).

    From a commercial perspective, I think another way to tackle stagnant profits is maybe to think of recycling or recirculating the used legos. This might serve as another revenue stream or at least another way of recreating revenues. I also think that they need to do more educational campaigns and more engaging activities on a marketing level, to combat the decrease in the demand by children (http://www.telegraph.co.uk/business/2017/09/05/lego-sales-crumble-children-turn-away-building-bricks/).

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