Coleco Essay

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Coleco Industries, Inc. Teaching Note Synopsis and Objectives Suggested complementary cases dealing with financial distress: “Caledonian News- papers Ltd. (Abridged)” (UVA-F-1013); “Massive Power Design Corporation” (UVA-F-1086) In March 1988, this large toy manufacturer is facing the consequences of bearing too much debt in a volatile competitive environment. The student’s task is to recommend a response to the worsening situation by which the firm can be returned to financial health. At the date of the case, the company is not under judicial protection, although bankruptcy looms as a distinct possibility if negotiations with lenders produce no mutually agreeable solution. The case was developed to stimulate a discussion of the determinants of corporate-debt policy as part of a pair of cases set in the toy industry (the other being “Tonka Corporation,” UVA-F-0774). In sharp contrast to the Tonka case, this case raises the costs of financial distress as a constraint on the use of debt. The case discussion can also sharpen students’ thinking on the exact nature of financial distress and how it differs from the special case of bankruptcy. Moreover, the case can be used to illustrate the allocative issues that arise in working out a satisfactory financial plan for recovery. Finally, the case provides an opportunity to compare the equity in a distressed firm with an out-of-the-money option on the firm’s assets. Suggested Questions for Advance Assignment to Students 1. Assess the product-market strategy and financial strategy Coleco pursued through 1987. Compare Coleco’s strategy with that of Tonka in early 1987. 2. What went wrong? How did Coleco respond? 3. Assess various alternatives at this stage of Coleco’s difficulties. What sort of refinancing plan would alleviate Coleco’s financial difficulties? 4.
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