Lego 2004: How a Corporation Found Its Way Back to Its Core

What does the Lego crisis have to do with your business?

When the core business weakens, one answer suggests itself: build something new next to it. An additional product, a second target group, another line of business. Each idea sounds reasonable on its own. Together they produce a company in which every order is a special case and nobody can say anymore what actually makes the money.

Lego demonstrated this path on a grand scale, including the way back. The story is well documented and therefore instructive: a world-famous family company grew in every direction, came to the brink of insolvency, and recovered by leaving things out. The scale differs from that of a small or mid-sized firm. The mechanism is the same. The guiding question of this case study is therefore: how did Lego get out of the crisis, and what can be transferred to a smaller business? To answer it, we first look at the starting point and the role of complexity, then at the three steps of the turnaround and the order of putting things in order and growing. At the end come the lessons for small and mid-sized companies and the Core Check.

Complexity grows more quietly than revenue. You only notice it once it has eaten the cash.

The starting point: how did Lego get into crisis?

In the 1990s the toy market changed. Big discounters pushed prices down, birth rates fell, and video games captured children’s attention. Lego responded by expanding. According to an account from the Wharton School, the company tripled its range after a sales slump. From 2000 onward it added electronics, video games, jewelry, education centers, and licensed themes such as Star Wars and Harry Potter, alongside the theme parks.

Revenue did not keep pace with the expansion. In 1998, according to Harvard Business School, Lego posted the first loss in its history. A turnaround specialist cut jobs and streamlined operations, yet the situation kept deteriorating. For 2003, Wharton cites a loss of around 300 million US dollars. In 2004 the net loss was 1.93 billion Danish kroner, according to a news agency report.

What the crisis was not is worth noting. The brand was strong, customers loved the product, and there was no shortage of ideas. Wharton author David Robertson sums it up by saying that Lego did much of what experts recommended for innovation at the time and still nearly failed. The problem was not too little novelty. It was that the novelty was not managed.

Why was complexity the real problem?

Every new product brought new parts, and every part brought its own molds, storage locations, suppliers, and planning. The number of distinct parts rose sharply within a few years. Published accounts cite figures between a good 12,000 and more than 14,000 parts, depending on how they are counted. According to the trade magazine strategy+business, the color palette grew to more than 100 hues.

The same report describes how this ran through the entire supply chain. One pirate set contained eight figures with ten different leg variants. The factories ran at only 70 percent capacity on average. 67 percent of orders were smaller than a full carton, because Lego supplied thousands of small shops individually even though around 200 large retail chains accounted for two-thirds of revenue. Harvard Business School notes that forecasting became harder: depending on the set, there was either too much stock or none at all.

None of these points is a scandal in itself. Together they act as a multiplier. Every variant raises the effort in purchasing, production, warehousing, sales, and planning at the same time, while it raises revenue in only one place. That is why complexity stays invisible in the accounts for so long: its costs are spread across all departments and appear on no single line.

What did the new management do? The turnaround in three steps

In October 2004 Jørgen Vig Knudstorp took over. He had joined the company in 2001 and had pointed out the situation in an internal report. The steps that followed were unspectacular and painful. They followed a clear order.

1. Secure liquidity

   In July 2005 Lego sold its four Legoland parks for 375 million euros to a company owned by the financial investor Blackstone. According to Wharton, the deal covered a 70 percent stake. The owner family kept a holding in the park operator Merlin through its investment company. Peripheral businesses were shut down.

2. Reduce complexity

   The color palette was roughly halved, and the variety of parts was cut to around 7,000 according to widely cited figures. From then on, designers worked with a cost matrix and basic rules for new colors and shapes. New sets were to be built predominantly from existing parts.

3. Put operations in order

   Lego reorganized its supply chain. The number of logistics providers fell from 26 to three or four. Five distribution centers in Denmark, Germany, and France were replaced by one center in the Czech Republic. Sales aligned itself more closely with the large retail customers.

Manufacturing was restructured as well. In 2005 Lego announced that it would close a plant in Switzerland and move production, in whole or in part, to countries with lower wages. Part of this outsourcing was later reversed: according to Harvard Business School, Lego brought brick manufacturing back in-house to secure quality. So a turnaround, too, consists of decisions that must remain correctable.

Why did order come first and growth second?

What stands out about the Lego turnaround is what was missing at the start: a new vision. There was no grand picture of the future and no new product universe. When presenting the 2005 figures, Knudstorp said Lego would first focus on profitability through streamlining and cost savings, and only afterwards on sales growth. According to strategy+business, he called the supply chain a company’s circulation system, which has to be fixed to keep the blood flowing.

This is the thread that links this case study to the daily life of a small or mid-sized business. Sales grows when the processes are right. Lego had a coveted product and still lost money because ordering, production, and delivery did not fit together. More sales pressure would have increased the losses. Only when operations held up was it worthwhile to sell more again.

After the restructuring Lego grew again, and strongly for many years. In 2012 Wharton reported average revenue growth of 24 percent per year over the preceding three years. The company stayed innovative throughout, for example with board games, films, and its own stores. The difference lay in the management of it: new ideas had to fit the core and pay off. The relationship with the parks also continued. In 2019 a consortium around the owner family’s holding company took over the park operator Merlin entirely.

What can smaller companies learn from the Lego turnaround?

No trade business and no agency operates theme parks. Yet the patterns behind the crisis can be found in almost every growing company. The following overview translates them.

The fourth point is often underestimated. The requirement to build new sets predominantly from existing parts did not make Lego more boring. The company launched successful new product lines after the reduction as well. For your business this means: a fixed kit of services does not take options away from sales. It makes quotes faster, prices more reliable, and delivery predictable.

The Core Check: how do I recognize sprawl in my own business?

A simple diagnostic tool can be derived from the case study: the Core Check. It consists of one count and five questions. The count makes complexity visible, and the questions show whether it pays off.

The count

Once a year, count how many different services or products you offer, in how many variants, for how many customer groups, and through how many suppliers. Write the numbers next to revenue. If the counts rise faster than revenue, complexity is growing faster than the business.

The five questions

• With which few services and customers do we earn most of our contribution margin?
• Which services do we rarely sell but constantly have to keep available?
• Which new line of business did we start because the core was weakening?
• Do we know what an additional variant costs in purchasing, warehousing, delivery, and administration?
• Is there a rule for when a new service or special solution is admitted?

What you can put into practice right away

You do not need a restructuring plan to benefit from the Lego case. Three small steps are enough to start.

1. Count. Write down all services or products you sold in the last twelve months, with number of orders and revenue. Mark everything that was sold fewer than three times.
2. Name the core. Note the three services that bring in most of the contribution margin. Check how much of your sales time actually goes to them.
3. Drop one thing. Choose one service, variant, or target group that causes a lot of effort and little return, and stop actively offering it from now on.

Leaving things out feels like sacrifice. The Lego story shows the opposite: giving up peripheral businesses released the energy with which the company grew again afterwards.

In the end, Lego did not get out of the crisis through new ideas but by leaving things out: divestments, a color palette cut in half, and fewer distinct parts first put liquidity and processes in order, and only then did growth return. For a smaller business the scale is different, but the mechanism is the same. Growth outside the core is expensive as long as the core itself is not healthy.