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Toy World Summary Points:

Toy World Summary Points:. Demonstrates how best to use fixed assets: level production more efficient, less costly than seasonal Seasonal business + level production: WATCH OUT! inventory gets VERY high HUGE risk of inventory obsolescence in this market LARGE financing requirements

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Toy World Summary Points:

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  1. Toy World Summary Points: • Demonstrates how best to use fixed assets: level production more efficient, less costly than seasonal • Seasonal business + level production: WATCH OUT! • inventory gets VERY high • HUGE risk of inventory obsolescence in this market • LARGE financing requirements • Trade off lower costs --> <--greater risk, financing • Pro Forma Cash budget: consistency check on income statement and balance sheet • Distinguish inflows, outflows vs. accruals Professor Mike Vetsuypens

  2. Optimal Inventory: An LBO illustration • O.M. Scott produces lawn care products • was bought by ITT in 1972 • 1984: ITT begins shedding assets • 11/26/86: ITT sells Scott for $211 million in a sealed bid auction to its managers and a Private Equity Group (C&D) • Buyer is not ‘strategic’ yet offered highest price! • Funding: Debt $191 million (91%) Equity $21 million (9%) • Equity comes from: Clayton & Dubilier PE group 62% Subordinated Lenders 21% Scott managers, employees 17% Professor Mike Vetsuypens

  3. Life at O.M. Scott under ITT • Decisions tend to be made by ITT, with limited input from Scott • Only 10 Scott managers eligible for bonuses • Bonuses had limited variability • “Don’t rock the boat, make your budget” • Large meetings between Scott and ITT managers (40+) • Scott managers felt meetings were antagonistic, ITT managers tried to find problems Professor Mike Vetsuypens

  4. Life at O.M. Scott under ITT (2) • Inflexible formal planning structure; changes requires multiple approvals at various ITT levels • Cash in: swept into ITT bank account #1; Cash needs: wired by ITT bank #2 – no connection between inflows and outflows • Long production runs, low production costs but huge inventories • Scott proposed to enter the professional lawn care market: ITT vetoed Professor Mike Vetsuypens

  5. Pre-buyout Post-buyout Percent YE 12/20/86 YE 9/30/88 Change EBIT $18.1 $28.2 56% Sales $158.1 $197.1 25% R & D $4.1 $4.7 7% Working Capital $59.3 $36.2 -39% Total Assets $243.6 $162.0 -34% Net Worth $20 $38.3 92% Was the buyout successful? Professor Mike Vetsuypens

  6. Changes at Scott: • Huge Interest Burden===> tighter cash management • Clayton & Dubilier on board===> tighter monitoring • Top people get stock & options, bonuses===> tighter incentives Professor Mike Vetsuypens

  7. The “Working Capital” task force • Achieved 40% WC reduction in less than 2 years! • Cash Management became internalized! • Under ITT: Cash In, Cash Out unrelated • Now: Have to earn it to spend it • Driven by need to repay huge debt burden • Inventory days from 175 to 114 • More flexible production: small runs of what is needed • Avoids inventory carrying costs • “Collect early, pay late” • Manage Acc/R and Acc/P more tightly • Use debt burden to convince suppliers to extend terms Professor Mike Vetsuypens

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