New Heritage Doll Company: Capital Budgeting
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HBS Professor Timothy Luehrman and HBS MBA Heide Abelli prepared this case solely as a basis for class discussion and not as an
endorsement, a source of primary data, or an illustration of effective or ineffective management. This case, though based on real events, is
fictionalized, and any resemblance to actual persons or entities is coincidental. There are occasional references to actual companies in the
na
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T I M O T H Y L U E H R M A N
H E I D E A B E L L I
New Heritage Doll Company:
Capital Budgeting
In mid-September of 2010, Emily Ha
is, vice president of New Heritage Doll Company’s
production division, was weighing project proposals for the company’s upcoming capital budgeting
meetings in October. Two proposals stood out based on their potential to strengthen the division’s
innovative product lines and drive future growth. However, due to constraints on financial and
managerial resources, Ha
is knew it was possible that the firm’s capital budgeting committee would
decline to approve both projects. She also knew that New Heritage’s licensing and retail divisions
would promote compelling projects of their own. Consequently, Ha
is had to be prepared to
ecommend one of her projects over the other.
The Doll Industry
Revenues in the U.S. toy and game industry totaled $42 billion in 2008 and were projected to
increase by 4.6% per year to $52.5 billion by XXXXXXXXXXThe market was divided into two
oad segments:
video games (48%) and traditional toys and games (52%). The second segment was further divided
into infant/preschool toys (14.5%), dolls (14.1%), outdoor & sports toys (12.3%), and other toys &
games (59.1%) including arts and crafts, plush toys, action figures, vehicles, and youth electronics.
The U.S. market for toys and games was dominated by large global enterprises that enjoyed
economies of scale in design, production, and distribution. Revenues were highly seasonal; the
largest selling season in the United States coincided with the winter holiday period.
Within the toy and game segment, U.S. retail sales of dolls totaled $3.1 billion in 2008 and were
projected to grow by 3% per year to $3.6 billion by XXXXXXXXXXThe doll category included large, soft, and
mini dolls, as well as doll clothing and other accessories. The phenomenon of “age compression”—
the tendency of younger children to acquire dolls that had traditionally been designed for older
girls—reduced growth in the “baby-doll” sub-segment. Competition among doll producers was
vigorous, as a small number of large producers targeted similar demographics and marketed their
dolls through the same media. Lasting franchise value for a
anded line of dolls was rare; the
enormous success of Ba
ie® dolls was an obvious exception. More recently and on a much smaller
scale, New Heritage also had created a durable franchise for its line of heirloom dolls. But the
popularity of most doll lines waned after a few years.
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4212 | New Heritage Doll Company: Capital Budgeting
2 BRIEFCASES | HARVARD BUSINESS SCHOOL
New Heritage Dolls
The New Heritage Doll Company was founded in 1985 by Ingrid Beckwith, a retired psychologist
specializing in child development and the grandmother of two young girls. Dr. Beckwith believed
the dolls produced by the major toy companies did little to develop girls’ imagination or foster a
positive self-image, so she created a line of dolls with unique storylines and wholesome themes. Dr.
Beckwith’s dolls struck a chord among mothers and grandmothers who also rejected the dated,
clichéd images portrayed by the popular dolls of the day.
By 2009, New Heritage had grown to 450 employees and generated approximately $245 million of
evenue1 and $27 million of operating profit from three divisions: production, retailing, and licensing.
The production division, discussed further below, designed and produced dolls and doll accessories.
The retailing division offered a unique “intergenerational experience” for grandmothers, mothers,
and daughters, centered upon the character histories and storylines of the company’s dolls and
delivered through an online website (42%), a mail-order paper catalog (33%), and a network of retail
stores (25%). In fiscal 2009, the retailing division generated roughly $190 million of revenue and $4.8
million of operating profit. The licensing division was started in 1998, and represented the
company’s newest and most profitable division. It sought to extend the New Heritage
and and
capitalize on high levels of customer loyalty by selectively licensing the company’s doll characters
and themes to a variety of media that reached the firm’s target demographic of toddler to pre-teen
girls. In fiscal year 2009 the licensing division generated $24.5 million of revenue and $14.5 million in
operating profit.
New Heritage’s Production Division
Production was New Heritage’s largest division as measured by total assets, and easily its most
asset-intensive. Approximately 75% of the division’s sales were made to the company’s retailing
division, with the remaining 25% comprising private label goods manufactured for other firms.
Table 1 summarizes the division’s various sources of revenue and operating income.
Table 1
New Heritage Private Label Total
Production Division Data: Dolls Accessories Dolls Accessories
Revenue ($ millions XXXXXXXXXX $125
Operating Income ($ millions XXXXXXXXXX $ 7.5
New Heritage’s dolls and accessories were offered under distinct
ands with different price
points, targeting girls between the ages of 3 and 12 years. The company’s baby dolls were generally
priced from $15–$30, and were offered to younger girls in earlier stages of development. These dolls
typically came with a “birth certificate” and a short personal history. Dolls in the higher-end of this
category incorporated technology that produced a limited amount of speech and motion. For the
$75–$150 price range, New Heritage produced a line of heirloom-quality dolls and accessories. These
were designed to appeal to older girls and to convey a sense of cultural and family tradition among
grandmothers, mothers, and daughters. The heirloom dolls had more elaborate accessories and
personal histories. Finally, the company offered a line of high-end dolls based on fictional
“cele
ities,” each associated with a charitable cause and em
acing more contemporary fashion
1 The division revenue figures include approximately $95 million of internal sales within divisions which are eliminated when
considering consolidated revenue for the company.
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trends. These dolls targeted girls in the so-called “tween” age range of 8–12 years, and also were
priced from $75–$150. Like the heirloom dolls, cele
ity dolls also came with more elaborate stories
and accessories.
New Heritage outsourced much of its production to a select number of contract manufacturers in
Asia. To ensure product quality and safety, the company maintained a fulltime staff to oversee
material sourcing, production, and quality control on site at each of its manufacturing partners.
Manufacturing activities that required precise tolerances or proprietary processes, along with all the
creative elements (design and product prototyping, for example), were handled in-house at the
company’s headquarters facilities in Sacramento, California.
Capital Budgeting at New Heritage
New Heritage’s capital budgeting process retained some of the informality that characterized the
company’s early years as an innovative startup. As the company grew, deliberate steps were taken to
decentralize some of the project approval process and increase spending authority at the division
level. However, large and/or strategic spending proposals were reviewed at the corporate level by a
capital budgeting committee consisting of the CEO, CFO, COO, the controller, and the division
presidents. The committee examined projects for consistency with New Heritage’s business strategy
and sought to balance the needs and priorities of each division against practical financial and
organizational constraints. The committee also sought to understand project interdependencies and
the potential for a given investment to strengthen the whole company, not solely the division
proposing it.
New Heritage’s capital budget was set by the board of directors in consultation with top officers,
who in turn sought input from each of the divisions. The capital and operating budgets were linked;
historically, the capital budget comprised approximately 15% of the company’s EBITDA. The
committee had limited discretion to expand or contract the budget, according to its view of the
quality of the investment opportunities, competitive dynamics, and general industry conditions.
Before being considered by the committee, projects were described, analyzed, and summarized in
self-contained proposal documents prepared by each division. These contained business
descriptions, at least five years of operating and cash flow forecasts, spending requirements by asset
category, personnel requirements, calculations of standard investment metrics, and identification of
key project risks and milestones.
Financial Analyses
Financial analysis began with operating forecasts developed with oversight from New Heritage
operating managers. Revenue projections were derived from forecasts of future prices and volumes.