Toy World

Executive summary.

In this business case, a shift from seasonal to level monthly production of toys will change the seasonal cycle of Toys World's working capital needs and necessitate new bank credit arrangements.

It has to be analyzed the company's performance, forecast fund needs and make a recommendation. The case introduces the pattern of current assets and cash flows in a seasonal company and provide and elementary exercise in the construction of the pro forma financial statements and estimation of fund needs.

Toy World has been facing two basic issues, as follows:

- The first one is if it has to change to a level monthly production.

- The second area of concern is the financial arrangement with the bank.

These two points are analyzed in detail here in this paper.

Finally, I have suggested some recommendations for the issues that I have mentioned above. In reference to the first issue, it will be profitable for the company to change to level monthly production.

In reference to the second issue, Toy World has to get a bigger loan.

If the company follow this recommendations, it will obtain a profit of $ 531,000 that represents $180,000 more than with seasonal production

Background

Toy World, Inc is a manufacturer of plastic toys for children, founded in 1973 by David Dunton. In the past, the company's production schedules had always been highly seasonal, reflecting the seasonality of sales. Jack McClintock, president and part owner of this company, is considering a proposal to adopt level monthly production for the coming year.

Main Issues:

The two principal issues that has to be analyzed are:

.

1.Should Toy World change from seasonal production to level monthly production?

The first problem that has to be analyzed is if they have to adopt a policy of level monthly production, or if they have to continue with seasonal production. It has to be studied what are the opportunities and the risks for the company if they adopt the change.

2. Financial arrangement with the bank

If a level production is adopted, fund needs will change, and the company will have to renegotiate the agreements with its primary bank, City Trust Company.

Insights about the Main Issues

1. Should Toy World change from seasonal production to level monthly production?

With seasonal production there are many problems. Overtime premiums reduced profits, seasonal expansion and contraction of the work force resulted in recruiting difficulties and high training and quality control cost, etc....

Changing to level production these costs can be reduced in $490,000, which is reflected in the cost of good sold, instead of be a 70% of sales, now is 65.1 % of sales.

But a portion of these savings would be offset by higher storage costs, that is $115,000. This will increase the operating expenses in $10,000 approximately each month. ( Exhibit 1).

With all these changes, the company will obtain more profit with the level production, $532,000 instead of $351,000,which represents an important increase.

Looking at ratios, return on equity with level production will be 14.5%, instead of 9.62% that it is now with seasonal production. Return on assets will be 9.8% with level production, instead of 6.5 that is now.

( Exhibit 2 ).

The biggest problem of changing to a level production is the cash flow. As it changes to a level production, it will produce 542 dollars each month. However, the first seven months it is not selling more than 160 dollars each month (it is selling less than it is producing). The money that is obtained from sales, is not enough to cover production expenses. This is going to cause problems with the cash flow as the company doesn't have enough money to continue producing. They have to borrow money from the bank.

The balance sheet under level production shows how the inventory increase, and the loan that is required