13. Toys-4-Kids manufactures plastic toys. Sales and production are highly seasonal. The following is a quarterly pro forma forecast indicating external financing needs for 2018. Assumptions are in parentheses Page 108 Toys-4-Kids 2018 Quarterly Pro Forma Forecast (5 thousands) ir / Otrd 200 5.000 3.500 1.960 Net sales Cost of sales (70 percent of sales) Gross profit Operating expenses Profit before tax Income taxes Profit after tax Cash (minimum balance - $200,000) Accounts receivable (75 percent of quarterly sales) Inventory (12/31/17 balance = $500,000) Current assets Net plant & equipment Total assets Accounts payable (10 percent of quarterly sales Accrued taxes (payments quarterly in arrears) Current liabilities Long-term debt Equity (12/31/17 balance = $3.000.000) Total liabilities and equity External financing required 1060 (188) (155) 3.570 510 a. How do you interpret the negative numbers for income taxes in the first two quarters? b. Why are cash balances in the first two quarters greater than the minimum required S200.000? How were these numbers determined? c. How was "external financing required" (appearing at the bottom of the forecast) determined? d. Do you think Toys-4-Kids will be able to borrow the external financing required as indicated by the forecast? 14. Continuing with Toys-4-Kids, introduced in the preceding problem, the company's production manager has argued for years that it is inefficient to produce on a seasonal basis. She believes the company should switch to level production throughout the year, building up finished goods inventory in the first two quarters to meet the peak selling needs in the last two. She Page 109 believes the company can reduce its cost of goods sold from 70 percent to 65 percent with level production. (Recall that production managers typically want to restrict production to left shoes only so as to reduce costs.) a. Prepare a revised pro forma forecast assuming level production. In your forecast, assume that quarterly accounts payable under level production equal 10 percent of average quarterly sales for the year. To estimate quarterly inventory, use the following two formulas: Inventory = Inventory + Quarterly production - Quarterly cost of sales Quarterly production Annual cost of sales/4 where eoq and boq refer to end of quarter and beginning of quarter. respectively. Please ignore the effect of increased external financing required on interest expense. b. What is the effect of the switch from seasonal to level production on annual profits? c. What effect does the switch have on the company's quarterly ending inventory? On the company's quarterly need for external financing? d. Do you think the company will be able to borrow the amount of money required by level production? What obsolescence risks does the company incur by building up inventory in anticipation of future sales? Might this be a concern to lenders