Skullcandy earphones made in which country

Individual Case: Skullcandy

Skullcandy

Founded in 2003 by Rick Alden, Skullcandy grew from a simple idea to a company with products distributed in approximately 80 countries and generating over $200 million in revenues annually. The company’s core prod- ucts, headphones with an extreme sport aesthetic, were sold in both specialty shops (e.g., skateboard, surf, and snowboard shops) and mass-market channels such as Target, Best Buy, college bookstores, and more, and its iconic skull logo was recognizable by its core youth market worldwide. Rather than the simplistic and streamlined ear buds that dominated the headphone category throughout the 1990s, many of Skullcandy’s designs had large ear cups with integrated amplifiers, akin to those worn by disc jockeys. As Alden notes, one of their first set of headphones, the Skullcrushers, pro-

vided sound that “rattles your head and bleeds through your eyes. It’s a damage-your-hearing kind of bass.”1 The headphones also came in bold colors and patterns (see Figure 1). Skullcandy had reinvented the head- phone category from a commodity-like product to one that was highly differentiated and branded, with dis- tinct designs that became as much about fashion and identity as functionality. As a result, Skullcandy head- phones commanded much higher prices, and greater brand loyalty than typical headphones.

After the company’s 2011 initial public offering, however, Skullcandy’s founder Rick Alden left the company to pursue other entrepreneurial ventures (starting, among other projects, the company Stance, which makes high-performance sports socks with unique designs). This worried the young company’s new stockholders. Furthermore, competitors began to eagerly imitate the Skullcandy strategy by develop- ing large-ear-cup headphones with bolder aesthetics and higher prices. Analysts began to wonder just how far Skullcandy could go.

Creating an aCtion SportS Brand

In 2001, veteran snowboarder Rick Alden was rid- ing up a ski lift and listening to music on an MP3 player when he heard his phone ringing, muffled in

15

02277_Case15_rev02.indd 84 01/10/15 5:41 PM

C-85Case 15 Skullcandy

the pocket of his ski jacket. He fumbled around with his gloved hands, trying to get to the phone before it stopped ringing, worrying that he would drop either his gloves or his phone into the snow 30 feet below. At that moment he thought, “Why not have headphones that connect to both a cell phone and an MP3 play- er?”2 In January 2002, he had his first prototype of a device called the “Link,” built by a Chinese manufac- turer. The device could plug into a cellphone and an MP3 player at the same time, and had a control switch on the cord with a microphone, a button that could switch between the phone and the MP3 player, and a volume control. The device was a hit. By January 2003, he had taken out two mortgages on his home to launch his company, Skullcandy, in Park City, Utah.3

Alden had an extensive background in the snow- boarding industry, having previously founded Na- tional Snowboard Incorporated (one of the first companies to promote snowboarding) and having developed and marketed his own line of snowboard bindings. His father, Paul Alden, had played many roles in the industry, including serving as the presi- dent of the North American Snowboard Association, which helped open up ski resorts to snowboarders. His brother, David Alden, had been a professional

snowboarder for Burton and a sales representative for several snowboard lines. Thus, when Alden began cre- ating an image and brand for the headphones, it only made sense to have a dynamic edginess that would attract snowboarders and skateboarders. Alden could also use his deep connections in the snowboarding and skateboarding worlds to line up endorsements by pro riders and distribution by skate and snowboard shops. As Alden notes, “I’d walk into snowboarding and skateboarding shops that I’d sold bindings to or that I’d known for 15 years,” and say, “Hey, man, I think you ought to sell headphones.” Soon he was developing headphones that were integrated into Giro ski and snowboard helmets, and MP3-equipped backpacks and watches. The graphic imagery of the brand—which draws from hip-hop culture and fea- tures a prominent skull—helped turn a once-placid product category into an exciting, important fashion accessory for action-sports enthusiasts.

The company grew quickly. By 2005, it broke $1 million in sales, and in the following year sold almost $10 million worth of headphones and acces- sories. In 2007, Alden pitched Skullcandy’s products to Best Buy, Target, and Circuit City, never dreaming that all three would say “Yes” and place orders for their

Style In Ear On Ear Over Ear

Product

Models

Jib Ink’d 2 Riot Chops Smokin’ Buds Titan 50/50 Fix Heavy Medal

Icon 3 Uprock Lowrider Cassette Navigator

Hesh Agent Skullcrusher Crusher Aviator Mix Master

Price Range $10–80 MSRP $20–100 MSRP $60–300 MSRP

Figure 1 Skullcandy product examples

Source: Skullcandy 10-K, 2013.

02277_Case15_rev02.indd 85 01/10/15 5:41 PM

C-86 Case 15 Skullcandy

U.S. stores. Suddenly the challenge was not selling, but production: Could the company deliver enough prod- uct on time? Alden’s team went to China and quickly figured out a way to increase the tooling cavities used to produce the headphones so that they could get more units out of each production run. Remarkably, they were able to deliver to all three chains by their deadlines.4 By the end of the year, Skullcandy had achieved $35 million in revenue, greatly exceeding even the stretch targets the company was shooting for. In 2008, almost 10 million people purchased Skullcandy headphones, for total sales of $86.5 million, and by 2009, it had already broken $100 million in sales. In the same year, Alden was named Entrepreneur maga- zine’s “Entrepreneur of the Year.”

competition Though Skullcandy had pioneered the market for action-sports headphones sold through specialty sports channels, in the mass-market channels it faced competition from major consumer-electronics brands that produced traditional headphones (e.g., Sony, Sennheiser, Bose) and new entrants that entered directly in response to Skullcandy’s success (e.g., Beats by Dr. Dre). The former category had the advantage of greater financial and distribution resources, and greater economies of scale. The latter had benefited mostly by observing Skullcandy’s strategies to fine- tune their own market entry. For example, whereas Alden had not originally thought people would be willing to pay hundreds of dollars for headphones, managers at Beats by Dr. Dre had correctly surmised that if people are willing to pay hundreds of dollars for designer sunglasses, they might be willing to do so also with headphones. Alden conceded, “We have to give them a lot of credit for figuring out that one.”5 In addition, some sports brands (e.g., Nike and Adidas) had begun offering headphones bearing their brands.

The functionality and style trends in headphones were relatively easy to quickly imitate. The key source of advantage, then, was to create brand loyalty among consumers and distributors. Alden noted that, though he had initially patented some individual headphone models or technologies, given the time lag between pat- ent application and patent granting, and the expense involved in using patent attorneys, patenting didn’t make much sense in his industry—he preferred to just beat his competitors to market with great products.6

Skullcandy distribution Alden was careful in his approach to selling to the mass market, vigilantly distinguishing between products that were sold to the core channel versus to big-box retailers.7 Even though the core market only accounted for 10% of sales, they were disproportionately impor- tant to the reputation of the brand. Alden’s philoso- phy was that “Conservative guys buy core products, but core guys will never buy conservative. In other words, we’ve got to be edgy and keep our original con- sumer happy, because without him, we’ll lose people like me–old guys who want to buy cool young prod- ucts too.”8 To achieve this, Skullcandy restricted sale of some of its products with the highest performance or edgiest designs to specialty action-sports retailers such as dedicated skateboard, snowboard, or surf shops, while releasing the rest of the product lineup to broader channels. This helped to ensure that snow- boarders and skaters who bought the latest products at their local board shop were unlikely to see other types of customers with the same headphones, thus preserv- ing some of the exclusivity of the brand. In 2013, it also dramatically cut distribution to discount chan- nels, resulting in a major drop in sales for the year. The company’s managers felt, however, that protecting the exclusivity of the brand was more important in the long run than preserving short-term revenue growth.

Marketing at Skullcandy Skullcandy’s marketing relied primarily on in-store advertising, trade shows, and sponsoring highly visible sports events, action-sports athletes, and music celebri- ties. Typical sponsorship contracts had a 1- to 3-year term, required sponsored individuals to maintain a visible and exclusive association with Skullcandy head- phones, and granted Skullcandy the right to use their names and likenesses in its other marketing. These Skullcandy “ambassadors” also received cash pay- ments for wearing Skullcandy products during public appearances, in magazine photo shoots, or on the po- dium after a sports victory. The company also made extensive use of social media such as Twitter, Instagram, Facebook, and YouTube to promote its products.

new Product development at Skullcandy To develop a new headphone line, Skullcandy put to- gether teams that included knowledgeable end users,

02277_Case15_rev02.indd 86 01/10/15 5:41 PM

C-87Case 15 Skullcandy

industrial designers, and “creatives.” For example, in 2009, the company began to develop a headphone line that would target the hip hop music aficionado market by partnering with key music industry vet- erans such as Calvin “Snoop Dogg” Broadus and Michael “Mix Master Mike” Schwartz of the Beastie Boys. The collaboration with Snoop Dogg resulted in the “Skullcrusher”—a headphone with extreme bass amplification perfect for listening to rap music. The collaboration with Mix Master Mike was intended to produce the “ultimate DJ headphone,” which would target disk jockeys/turntablists.

To develop the new product, a design team was as- sembled that included Mix Master Mike (who would lend insight into the key factors that would make the “ideal” DJ headphone, as well as lending his own per- sonal design inspirations), Skullcandy’s director of industrial design, Pete Kelly (who would translate the desired features into engineering specifications), an external industrial design company that could quickly transform the team’s ideas into photorealistic render- ings, product manager Josh Poulsen (who would man- age the project milestones and communicate directly to the factory in China where the product would be manufactured), and team members with backgrounds in graphic arts or fine arts who would explore poten- tial color palettes, materials, and form factors.

Skullcandy’s small size and informal atmosphere ensured close contact between team members, and between the team and other Skullcandy personnel. For example, the director of industrial design and the art director shared an office, and all of the graphic designers worked in a common bullpen.9 The team would schedule face-to-face meetings with Mix Mas- ter Mike and the external industrial design company. Josh Poulsen would travel to China for similar face- to-face meetings with the manufacturer.

In the first phase, the team met to analyze what functionalities would be key to making a compelling product. For the DJ headphones, the team identified the following key factors that would significantly im- prove headphone design10:

●● Tough, replaceable, and/or washable ear pads made of antimicrobial materials (ear pads were prone to getting soiled or torn)

●● Headphones that could be worn by “righty” or “lefty” DJs (DJs typically have a preference for leaning on one side while they work, and this side determines the optimal cable location)

●● Sound quality that was not too clear, not too bass, and not too muddy (DJs typically were not look- ing for the clear quality of studio sound)

●● Coiled cord or straight cord options (many DJs preferred coiled cords, whereas mass-market con- sumers typically preferred straight cords)

Above all, the team had the mandate given by Alden to create “headphones that don’t look like head- phones.”

The product’s aesthetic design was heavily influ- enced by Mix Master Mike. As noted by Dan Levine, “When you attach yourself to someone iconic, you try to figure out what inspires their form sensibilities. For example, Mike likes transformers, Japanese robots, Lamborghinis, furniture by B&B Italia . . . we use these design elements to build inspiration boards.”11 The team initially met for 3 straight days in Mix Mas- ter Mike’s studio. Then, after the team had created 6 to 12 initial sketches, they worked to narrow the list down to three of the best, and then fine-tuned those until they had one best sketch. The external industri- al design firm created photorealistic renderings that precisely portrayed what the end product was to look like. At this point, marketing people could be brought into the team to begin developing a marketing strat- egy around the product. The marketing team used “sneak peaks” of renderings and nonfunctioning pro- totypes to gain initial sales contracts.

The next phase was an iterative process of com- mercialization and design refinement. According to Levine, “That’s when it feels like you’re swimming in glue because it never happens fast enough. The design phase is exciting. Once you have that design you get impatient for it to come to market, but you can only work as fast as manufacturing capabilities dictate, and building technical products takes time.”12 First, CAD files would be brought to China, where a manufac- turer would use a stereolithography apparatus (SLA) to create prototypes of each part of the headphone in a wax resin. As described by Alden, “You can’t see the lasers–the part just rises up out of this primor- dial ooze. Then you can sand it down, paint it, screw it to your other parts. This part will end up costing $300 compared to the 30 cents the part will eventually cost when its mass produced using injection molding, but it’s worth creating these SLA parts to make sure they’re accurate.”13 SLA versions of the products were also often taken to the trade shows to solicit customer feedback and generate orders. Every week or two, the

02277_Case15_rev02.indd 87 01/10/15 5:41 PM

C-88 Case 15 Skullcandy

product manager would talk to the Chinese factory about building or modifying SLA parts, until eventu- ally a 100% complete SLA product was achieved. At that point, it was time to begin “tooling” (the process of building molds that would be used to mass pro- duce the product). This phase took 4 to 6 weeks to complete and was expensive. Several samples would be produced while final modifications were made, and then, once a perfect sample was obtained, the tools would be hardened and mass production would be- gin. As Alden described, “After you’ve got everything in place–after you’ve made the first one, then it’s just like making doughnuts.”14

All of the steps of the project were scheduled using a Gantt chart (a type of chart commonly used to depict project elements and their deadlines). Project deadlines were determined by working backward from a target market release date and the time required to manufacture the product in China.15 In general, the firm sought to release new products in September (before the big Christmas sales season), which required having the tooling complete in July.

team roles and Management Product manager Josh Poulsen was responsible for coordinating all of the team members and making sure all deadlines were met. Every major design decision was passed up to Dan Levine for approval, and when the design was ready for tooling (being handed off to manufactur- ing), it had to be approved by Rick Alden, as this phase entailed large, irreversible investments. Most of the people at Skullcandy were involved with many projects simultaneously. As Levine emphasized, “This is a lean organization. At Nike you can work on a single or a few projects; when you have a brand that’s small and growing fast, you work on a tremendous number of projects, and you also hire outside talent for some tasks.”16 According to Rick Alden, “We used to try to manage everything in-house, but we just don’t have enough bodies. We’ve discovered that the fastest way to expand our development capacity is to use outside developers for portions of the work. We’ll develop the initial idea, and then bring it to one of our trusted industrial design firms to do the render- ings, for example.”17

According to Alden, the biggest challenge associ- ated with new product development is managing three different development cycles simultaneously:

You have your new stuff that you’re coming out with that you haven’t shown anyone yet– that’s the really exciting stuff that everyone focuses on. Then you have the products you have just shown at the last show but that aren’t done yet–maybe the manufacturing process isn’t approved or the packaging isn’t finished. You’re taking orders but you haven’t yet fin- ished the development. Finally, you have all of the products you’ve been selling already but that require little improvements (e.g., altering how something is soldered, improving a cord, changing the packaging). We have so little bandwidth in product development that the big challenge has been managing all of these cycles. We just showed a product in January of this year [2009] that we still haven’t delivered and its now May. We were just too excited to show it. But that’s risky. If you don’t deliver on time to a retailer, they get really angry and they won’t keep your product on the shelf.18

Employee Reviews and Rewards Team members did not receive financial rewards from individual projects. Instead, their performance was rewarded through recognition at monthly “Skullcoun- cil” meetings, and through quarterly “one touch” re- views. For the quarterly reviews, each employee would prepare a one-page “brag sheet” about what they had accomplished in the previous quarter, what they in- tended accomplish in the next quarter, and what their strengths and weaknesses were. These reviews were used to provide feedback to the employee and to determine the annual bonus: 75% of the annual bonus was based on the individual’s performance, and 25% was based on overall company performance. Accord- ing to Rick Alden, “In the early days, we did things very differently than we do now. Everyone received bonuses based on overall performance–there were so few of us that we all had a direct attachment to the bottom line. Now with a bigger staff, we have to rely more on individual metrics, and we have to provide quarterly feedback so that the amount of the annual bonus doesn’t come as a surprise.”19 The company also relied on less conventional incentives. Each year, the board of directors would set an overarching stretch target for revenues, and if the company surpassed it,

02277_Case15_rev02.indd 88 01/10/15 5:41 PM

C-89Case 15 Skullcandy

Alden took the whole company on a trip. In 2006, he took everyone heli-boarding (an extreme sport where snowboarders are brought to the top of a snow-cov- ered peak by helicopter). When the company achieved nearly triple its 2007 sales goal (earning $35 million instead of the targeted $13 million), Alden took the entire staff and their families to Costa Rica to surf.20

the Future oF SkullCandy

Alden had always been, first and foremost, an entre- preneur. Chafing under the direction of others, Alden had early in his life concluded that he was “completely unemployable” and set about creating his own economic opportunities. As an archetypal serial entrepreneur, he was happier creating new companies than managing established companies. In 2009, as the IPO process was unfolding, he noted to Jeremy Andrus (who had been with the company since 2005 and served as COO since 2008), “There are other entrepreneurial enterprises I’d like to focus on. I don’t think I’ll be sitting in public CEO seat for the next five years–it’s time to do something dif- ferent.”21 Thus, 1 month after the IPO filing in January 2009, Alden startled the investment community by re- signing as the CEO of Skullcandy (though he remained on the board of directors). Andrus initially replaced Alden at the helm of Skullcandy, as Alden left to work closely with his new start-up, Stance socks. In 2013, Hoby Darling joined the company as chief executive officer. Darling had deep brand, product, and distribution expe- rience, having previously worked with Nike+ (the digital innovation group at Nike) and Volcom apparel compa- ny. He was also a “tough-minded optimist” who got up every morning at 4:30 a.m. to do CrossFit, and he was eager to take on the challenge of running Skullcandy.22

In the years that followed, management at Skull- candy sought to expand both its product portfolio and its global reach. Though Skullcandy generated the vast majority of its revenues from headphones, the company also offered branded apparel, smart- phone cases, and docking stations. Skullcandy also began to sell headphones designed specifically for videogaming (and acquired gaming handset manu- facturer Astro Gaming for $10 million in early 2011),

and worked with partners to incorporate Skullcandy- branded technology into computers (with Toshiba), helmets, and bags. It also formed partnerships with rapper Jay-Z’s Roc Nation, the NBA, the NCAA, and the Hard Rock Hotel and Casino.23

The company also began to expand more aggres- sively internationally. Though prior to 2011 the com- pany had only worked with third-party distributors to sell product into international markets, Skullcandy’s management believed that such distributors were not in- vested in stewarding the brand. They thus used some of the capital raised through the IPO to buy Skullcandy’s European distributor (Kungsbacka 57 AB, which held an exclusive distribution license to sell Skullcandy products in Europe), and began making investments in brand, marketing, and infrastructure in order to accelerate growth in Europe. Skullcandy also began mar- keting directly to Mexico, Japan, and China, and began sponsoring international athletes, musicians, and artists. By 2015, Skullcandy products could be found in roughly 80 countries, and the company was earning roughly 25% of its sales in markets outside of North America.

Though the Skullcandy name was becoming more and more well known, and its products were available in an ever-wider range of outlets, investors still had concerns. Though revenues had continued to increase, so had competition, and Skullcandy’s net margin had decreased from 18% and 17% in 2007 and 2008, re- spectively, to 4% in 2014 (see Figure 2).24 Furthermore, as noted previously, a decision to cut its sales to low- price channels resulted in a significant drop in sales in 2013 that resulted in the company posting losses for the year. Apple’s 2014 announcement that it would acquire Beats by Dre also had analysts questioning what impact this would have on Skullcandy—Apple’s reach and branding expertise was unparalleled.25 As a result, Skullcandy’s stock price had fallen from its IPO price of $20 per share to $10.75 per share in March 2015 (see Figure 3). The young, fast-growing company was making the transition to adulthood, and it was anyone’s guess what that adulthood look like. Would it continue to grow and diversify, leveraging the brand profitably to more product categories? Would it stay focused and lean, deepening its presence primarily in action-sports headphones and accessories? Or would it stumble, enabling competitors to displace it in the market it had pioneered? The next few years would be pivotal ones as the answers to these questions emerged.

02277_Case15_rev02.indd 89 01/10/15 5:41 PM

C-90 Case 15 Skullcandy

–50

0

50

100

150

200

250

300

350

201420132005 2006 2007 2008 2009 2010 2011 2012

Revenues ($US Millions) Net Income ($US Millions)

Volume

$26.00 22.00

18.00

14.00 12.00 10.00

8.00

6.00

4.00

14.61 M 12.18

9.74 7.31 4.87 2.44

Oct 12 Apr Jul Oct 13 Apr Jul Oct 14 Apr Jul Oct 15

Oct 12 Apr Jul Oct 13 Apr Jul Oct 14 Apr Jul Oct 15

Click on the chart to view the underlying data.

EDGAR*Online

44 Month 03/18/15

Figure 2 Skullcandy revenues and net income, 2005–2014

Figure 3 Skullcandy Stock price and trading Volume, September 2012–March 2015

Source: Skullcandy 10-K, 2013, 2014; Rick Alden for early revenue numbers.

Source: Nasdaq.com.

02277_Case15_rev02.indd 90 01/10/15 5:41 PM

C-91Case 15 Skullcandy

NOTEs

1. R. Alden, “How I Did It,” Inc., September 2008. 2. A. Osmond, “Rick Alden: Founder & CEO of

Skullcandy,” Launch, March/April 2007. 3. Interview with Rick Alden, May 5, 2009. 4. R. Alden, “How I Did It.” 5. R. Alden, “Breakthrough Strategic Thinking,”

speech given at New York University Executive Education Seminar, October 2012.

6. Interview with Rick Alden, February 2012. 7. Anonymous, “Caught on Tape: Rick Alden, CEO

of Skullcandy,” Transworld Business, October 24, 2008.

8. R. Alden, “How I Did It.” 9. Interview with Dan Levine, May 2, 2009.

10. Ibid. 11. Ibid.

12. Ibid. 13. Ibid. 14. Ibid. 15. Ibid. 16. Ibid. 17. Ibid. 18. Ibid. 19. Ibid. 20. Ibid. 21. M. Lewis, “Skullcandy CEO Jeremy Andrus

Breaks the Silent Period,” Transworld Business, August 29, 2011.

22. C. Bessette, “10 Questions: Hoby Darling, CEO, Skullcandy,” fortune.com, July 18, 2014.

23. Hoovers.com, accessed March 13, 2015. 24. Skullcandy 10-K Reports, 2013 and 2015. 25. B. Geier, “Where Does Apple Deal Leave Beats’

Rivals?” fortune.com, April 12, 2014.

02277_Case15_rev02.indd 91 01/10/15 5:41 PM