The Gilead Science Corporation spent several years working on developing a produ

Question

The Gilead Science Corporation spent several years working on developing a product that can be used to provide a healthy supplement to a variety of food products. The benefits of a new supplement have been cited in studies of the brain, eyes, and the immune system. Unfortunately, it is difficult to consume enough of any one supplement to get the benefits that most consumers demand. To counter this constraint, Gilead Science Corp. and several competitors have been able to develop a similar product with various benefits. However, none have been able to produce the “ultimate” solution. Gilead Science Corp.’s initial product was designed to supply additives to dairy products and yogurt. For example, the venture’s new product was added to cottage cheese and fruit-flavored yogurts to enhance the health benefits of those products. After the long product development period, Gilead Science Corp. began operations in 2014. Income statement and balance sheet results for 2015, the first full year of operations, have been prepared. Gilead Science Corp., however, is concerned with forecasting its financial statements for next year because it is uncertain as to the amount of additional financing of assets that will be needed as the venture ramps up sales next year. Gilead Science Corp. expects to introduce a new product that offers the taste of chocolate candies. Not only will consumers get the satisfaction of the taste of chocolate candies they will benefit from the vitamin enhancement. What are considered to be conservative, sales are expected to increase 50 percent next year (2016) even though the new product will come on line in mid-year. An additional 80 percent increase in sales is expected the following year (2017), 100 percent in (2018), 50 percent in (2019), before leveling off to a projected future annual growth rate of 20 percent beginning with (2020).

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GILEAD SCIENCE CORPORATION

Income Statement for December 31, 2015 (Thousands of Dollars)

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Sales $15,000 Operating expenses -12,000 EBIT 3,000 Interest 320 EBT 2,680 Taxes (40%) 1,072 Net income 1,608 Cash dividends (40%) 643 Added retained earnings $965 GILEAD SCIENCE CORPORATION Balance Sheet as of December 31, 2015 (Thousands of Dollars) ________________________________________________________________________

Cash & marketable securities $ 1,000 Accounts payable $ 1,600 Accounts receivable 2,000 Bank Loan 1,800 Inventories 2,200 Accrued liabilities 1,200 Total current assets 5,200 Total current liabilities 4,600 Long-term debt 2,200 Fixed assets, net 6,800 Common stock 2,400 Total assets $12,000 Retained earnings 2,800 Total liabilities & equity $12,000

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A.Estimate the additional funds needed (AFN) for 2016, using the formula method based on “percent of sales” relationships.

B.Estimate the AFN for GILEAD SCIENCE for 2017.

C.Prepare pro forma income and balance sheet statements for 2016 before obtaining any additional financing. Why does the AFN from the spreadsheet projections differ from the AFN estimated in Part A?

D.Prepare a second iteration of your pro forma financial statements for 2016 if the initial AFN estimate is to be financed by additional long-term funds at an 8 percent interest rate.

E.Prepare pro forma financial statements for 2017 that build on to the pro forma results obtained in

Part D. F. Prepare projected income statements, balance sheets, and statements of cash flow for GILEAD SCIENCE for 2016 and 2017 before obtaining of any additional financing. What are the amounts of additional funds needed?

G. Assume that sales are expected to grow 100 percent percent in 2018 (over the 2017 sales level), 50 percent in 2019, and 20 percent in 2020. Extend your projected financial statements prepared in Part E to include years 2018, 2019, and 2020. What will be the maximum amount of additional funds needed during your five-year forecast?

H. Assume that you will acquire the amount funds needed in Part F by selling or issuing more common stock and by borrowing from lenders at an 8 percent interest rate. Prepare a second round of projected five-year financial statements showing that the initial financing needed will be obtained equally each year by issuing new stock (50 percent) and by borrowing from lenders (50 percent).

Explanation / Answer

. AFN need in 2016 Growth 50% G S CORPORATION ($ 000' ) 150% Income Statement 2015 2016 % of Sales Sales 15000 22500 Operating expenses 12000 80.00% 18000 % of sales EBIT 3000 4500 Interest 320 320 Interest not changed EBT 2680 4180 Taxes (40%) 1072 1672 Net income 1608 2508 Cash dividends (40%) 643.2 1003.2 Added retained earnings 964.8 1504.8 Balance Sheets Actual 2015 Cash & marketable securities 1000 6.67% 1500 % of sales Accounts Receivable 2000 13.33% 3000 % of sales Inventories 2200 14.67% 3300 % of sales Total Current Assets 5200 34.67% 7800 Fixed Assets, Net 6800 45.33% 10200 % of sales Total Assets 12000 25800 Accounts Payable 1600 10.67% 2400 % of sales Bank Loan 1800 1800 $ of sales not applicable Accrued liabilities 1200 8.00% 1800 % of sales Total Current Liab 4600 30.67% 6900 Long-Term Debt ** 2200 2200 Common Stock 2400 2400 Retained Earnings 2800 4304.8 Total Iiabilities & Equity 12000 80.00% 21804.8 3995.2 AFN (Total Asset - Total Liabilities ) B.Estimate the AFN for Genentech for 2016 Similarly for 2017 Growth 80% G CORPORATION ($ 000' ) 150% 180% Income Statement 2016 2017 % of Sales Sales 22500 40500 Operating expenses 18000 80.00% 32400 EBIT 4500 8100 Interest 320 320 EBT 4180 7780 Taxes (40%) 1672 3112 Net income 2508 4668 Cash dividends (40%) 1003.2 1867.2 Added retained earnings 1504.8 2800.8 Balance Sheets 2016 2017 Cash & marketable securities 1500 6.70% 2713.5 Accounts Receivable 3000 13.30% 5386.5 Inventories 3300 14.70% 5953.5 Total Current Assets 7800 14053.5 Fixed Assets, Net 10200 45.30% 18346.5 Total Assets 25800 32400 Accounts Payable 2400 10.70% 4333.5 Bank Loan 1800 1800 Accrued liabilities 1800 8.00% 3240 Total Current Liab 6900 9373.5 Long-Term Debt ** 2200 2200 Common Stock 2400 2400 Retained Earnings 4304.8 7105.6 Total Iiabilities & Equity 21804.8 21079.1 3995.2 11320.9 Additional Funds Needed (AFN) Pro forma financial statements for 2016/2017 adding the financing amount and considering the Interest at 8% G CORPORATION ($ 000' ) 150% 180% Income Statement 2015 2016 2017 % of Sales % of Sales Sales 15000 22500 40500 Operating expenses 12000 80.00% 18000 80.00% 32400 EBIT 3000 4500 8100 Interest 320 639.616 1545.288 EBT 2680 3860.384 6554.712 Taxes (40%) 1072 1544.1536 2621.8848 Net income 1608 2316.2304 3932.8272 Cash dividends (40%) 643.2 926.49216 1573.13088 Added retained earnings 964.8 1389.73824 1573.13088 Balance Sheets Actual 2015 2016 2017 Cash & marketable securities 1000 6.70% 1500 6.70% 2713.5 Accounts Receivable 2000 13.30% 3000 13.30% 5386.5 Inventories 2200 14.70% 3300 14.70% 5953.5 Total Current Assets 5200 7800 14053.5 Fixed Assets, Net 6800 45.30% 10200 45.30% 18346.5 Total Assets 12000 18000 32400 Accounts Payable 1600 10.70% 2400 10.70% 4333.5 Bank Loan 1800 1800 1800 Accrued liabilities 1200 8.00% 1800 8.00% 3240 Total Current Liab 4600 6000 9373.5 Long Term Loan ( new 1) 3995.2 11320.9 Long-Term Debt 2200 2200 2200 Common Stock 2400 2400 2400 Retained Earnings 2800 4189.73824 5762.86912 Total Iiabilities & Equity 12000 18784.9382 31057.2691 Additional Funds Needed (AFN) -784.93824 1342.73088

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