Mary Lou Black, M.D., president of Narcolarm, Inc., was in the process of preparing a business plan, including some pro forma (i.e. projected) financial statements, for her new venture [see Narcolarm, Inc. (A) and Narcolarm, Inc. (B)].
Enlisting the help of a niece who had recently completed a course in accounting, Dr. Black first prepared a list of requirements and activities necessary to launch the new enterprise, which she called “Narcolarm, Inc.” These requirements and activities led to the development of an initial balance sheet, shown in Exhibit 1.
Next, again with the help of her niece, Dr. Black projected the activities that would take place during the first year of operations. These are shown in Exhibit 2. She realized that these were overall estimates, and that they would not necessarily occur in the sequence shown, but she felt they were sufficient to allow her to prepare a set of pro forma financial statements for the first year of operations.
Unlike her previous plan, she now planned to store completed Narcolarms in inventory, so that she would always have sufficient devices on hand to meet demand. As a result, she would need to have three inventories: raw-materials, work-in-process, and finished-goods.
- Beginning with the balance sheet shown in Exhibit 1, and using up T Accounts, indicate the effect of each of the activities listed in Exhibit 2. Those items that differ from the Narcolarm (B) case are shown in boldfaced type. (You do not need to have analyzed the Narcolarm (B) case to analyze this case.)
- Prepare a pro forma balance sheet as of the end of that year.
- Prepare two pro forma income statements: one based on the information in the (B) case (i.e. without WIP and finished goods inventories) and one based on the information in Exhibit 2 of this case. Why do these two income statements differ? (If you already have analyzed the (B) case, your notes should contain the income statement for operations without a WIP inventory.)
- Would your opinion of Dr. Black's proposed venture change if she were producing to inventory rather than to order? Why or why not?