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Although there are hundreds of smaller players, the toy field is dominated by Mattel (MAT) and Hasbro (HAS), which together account for about a third of all U.S. toy sales. The large size of their operations provides an advantage in terms of manufacturing, distribution, and marketing costs, while their wide selection of toys helps them to survive the occasional flop. By contrast, smaller operators, such as Jakks Pacific (JAKK), RC2 (RCRC), and Leapfrog Enterprises (LF), in addition to lacking scale, will usually have more riding on a smaller range of products. But even smaller companies will frequently come up with  winners, such as the recent Zhu Zhu Pets, by privately held Cepia, LLC.

Traditionally, the main challenge for toymakers has been to anticipate trends in popular culture, media, fashions, and technology and to beat the competition to market. The industry, more so than most, is often prone to fads and must-have items, as evidenced by the likes of Cabbage Patch Kids, Beanie Babies, and Tickle-Me-Elmo. As such, it’s difficult to predict what will please both kids and parents, and demand can dry up quickly, which only intensifies the battle for consumer dollars.

In recent years, while Mattel’s venerable Barbie brand was in a sales slump, privately held MGA Entertainment had a big hit with its BRATZ line.  Launched a decade ago, it offered a hip, urban, and more stylized fashion doll, which ate into Barbie’s business. Adding insult to Mattel’s injured sales, it was discovered that the line’s creator was a former employee. Mattel pursued the matter vigorously through a slew of suits and countersuits. It eventually won a verdict which determined that most of the design drawings were created under the employ of Mattel, and a jury later awarded it damages of about $100 million.  But the battle may not be over. In addition to appealing the decision, MGA won an order to keep the dolls on the shelf and is even planning an updated 10th anniversary BRATZ lineup for this summer. The company is also fighting back with its recently launched Moxie Girlz and Best Friends Club lines, the latter a group of 18-inch dolls largely aimed at Mattel’s American Girl offerings, but at lower price points.

While competition within the industry can be fierce at times, the bigger issue in recent years has been the inroads made by other forms of entertainment. Also, while it may sound like a Yogi-ism that “kids are getting older at a younger age”, the pace at which traditional toys are outgrown continues to accelerate. Specifically, non-toy products such as DVDs, MP3 players, and digital cameras (originally geared for adults and teens) are increasingly in demand from the younger set. Also, attention spans have gotten much shorter, as children are inundated by a slew of different media choices. Cartoon programming, for example, used to be relegated to Saturday mornings and afternoons after school. Now, several cable networks offer animated entertainment around the clock. Meanwhile, the gaming divisions of such giants as Microsoft (MSFT) and Sony (SNE) with their Xbox and PlayStation consoles, are also grabbing a bigger slice of the toy industry’s pie.

Rather than combat these trends with traditional offerings, toymakers have largely decided to adapt to the new weaponry. The largest trend has been toward featuring more electronics. While it can be argued that simple is sometimes best, in many cases it’s no longer enough to just have a stuffed toy dog.  It now must talk, walk, sleep, and be able to wet a plastic hydrant on command. Thus, although classic fare, like building sets, die-cast vehicles, and riding toys are still with us, most feature added bells and whistles. For example, among the top selling toys of all time, LEGOS (Lego Company) stay relevant by constantly coming up with new themed sets (Star Wars, Batman, SpongeBob) as well as adding innovations such as motors, lights, and cameras.

Mattel and Hasbro have largely adapted by coming out with new versions of familiar brands and play themes for different media, including handheld electronics, video and online games, and mobile phone applications. One example of how brand longevity can be extended is Hasbro’s G.I. Joe, which has gone from action figures, to animated TV series and comic books, video games and, most recently, a live action movie. As a group, toymakers have become increasingly involved in the creation, production, and promotion of Television and movie content based on their own brands. Barbie, for example, has had a string of successful made-for-DVD animated releases, and Hasbro recently teamed up with Discovery Communications (DISCA) to start a new cable network featuring children’s and family programming.
Meanwhile, the retail landscape has also changed dramatically, with fewer and more concentrated outlets. For decades, toys were mostly sold through neighborhood corner toy shops and department stores. Now, the retail scene has consolidated to the point where it’s largely dominated by the likes of Wal-Mart (WMT), Target (TGT), and Toys “R” Us. Moreover, the exit in recent years (due to bankruptcy) of KB Toys in the U.S. and Woolworths in the UK, has made the playing field even smaller.

With the exception of Toys “R” Us, most of these retailers and discounters sell other goods, expanding their toy offerings only around the fourth-quarter holiday season. As a result, large retailers have become more powerful, dictating what is sold and at what price, and carrying a lot of sway in terms of what makes it big.  An offshoot of this trend is that many have also become competitors themselves, putting out their own private label toys and using their buying power to drive down costs.

Meanwhile, the eternal fight for shelf space also continues. Slotting fees, in-store promotion activities, volume discounts, and store exclusives are among many of the concessions demanded by retailers just to get a manufacturer’s product seen. Moreover, they tend to stick to the biggest and most profitable sellers. In many cases, big retailers want some sort of guarantee of a hit, which has increasingly meant a movie or TV tie-in, whereby the programming serves to enhance marketing and promotion. As such, media-based licenses can often springboard a product to the fast track in sales, and competition to secure, maintain, and renew these licenses has become more intense.

While surviving and thriving in the toy industry becomes increasingly challenging, broader, and more high tech, one thing can be certain, kids will always be searching for the next “wow” toy, keeping creators, manufacturers, and retailers on their toes, if not at each others’ throats.