Smart Union Toy Company

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Accounting: Case Study for Toy Story

Assignment: Toy Story Summary
Main problem – loans will become due and they might need short term financing

Questions:
1. How does Smart Union make money? What are the key success factors in Smart Union’s business? What are the major risks the company is exposed to? 

Smart Union is engaged in the manufacturing and trading of recreational and educational toys and equipment for OEMs, such as Mattel, Hasbro, and Megablocks. The company has diversified product classes including hard and electronic toys, soft toys, educational and recreational products, and sports products. The company’s major product line was hard and electronic toys, followed by educational and recreational products. Smart Union has a vertically and horizontally integrated operation which offers one-stop production capabilities encompassing design, model fabrication, tooling, different processes of manufacturing, assembly, and packaging.  

Key success factors 
• Managing operating costs 
• Obtaining financing at as low cost as possible 
• Managing working capital and maintaining good liquidity to absorb cost increases  • Achieving a high inventory turnover 
• Maintaining competitive prices 
• Hedging the risk of rise in crude oil prices 
• Obtaining long term production contracts from manufacturers to ensure stable revenue  Risks 
• Shortage of labor, which can add cost pressure 
• Foreign currency risk 
• Rise in crude oil prices, since a significant portion costs were derived from plastic resins made from oil derivatives • Average net profit margins were likely to drop as a result of increase in raw material costs and labor shortages  • Influence of technology on traditional toy purchases by children  • Global economy – people spend less on toys if there is a recession • Raw material cost – silver is an increasing cost item, they bought a silver mine company to offset costs of using this in toys. They might have used another way, ie hedging against contracts for silver… • Toys tend to be seasonal – you may end up with extra inventory

2. How successful has Smart Union been recently? What is your assessment of the company’s profitability, asset management, leverage, and liquidity performance? 

Revenues are increasing but the profits are decreasing 

Gross profit was 11.9 percent, down from 16.8 – this means that it has goon way down from 2006 to 2007 – there was pressure on the revenue side. Costs were likely going up, labor and material, but prices were going down, for example, the toy companies were attempting to pay contractors less.

Return on equity was 1.7 percent in 2007, down from 18.3 percent. (2006 to 2007).

Days inventory – was 164 days, but the year before it was 145 – going up, and that is not a good thing. For seasonal items, that is not looking good. The other side is the days receivable 63 to 52 – harder to get paid by Mattel. This is reducing the cash flow. You are keeping more cash in the working capital. In terms of cash flows, follow, they would follow with net income, add back depreciation –

Cash flow from operations is -200,000, which is very high - this is due to receivables issues and inventory issues.

The company’s revenues are increasing but profits are decreasing. Revenues increased from HK$479 million in 2003 to over HK$953 million in 2007, a cumulative average (CAGR) of 19% per year. Over the same period, profits fell from HK$26 million to less than HK$6 million 

My assessment of the company’s profitability is that it is declining. With regards to gross profits, they have reduced from HK$122 million, to HK$213million, due to an increase in cost of sales. Operating profit has declined substantially, from HK$47 million to HK$27 million, due to an increase in administrative expenses, losses of HK$1.8 million. Finance costs have also increased substantially, from HK$11 million to HK$19 million....
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