SUNLEY INDUSTRIES, INC.

In January, 2014, Sarah Lowens, Vice President and Treasurer of Sunley Industries, was
working on a loan request to be presented to the company’s bank of account, First Security Bank.
Ms. Lowens had to determine how large a loan to request, as well as the length and type of loan,
and to appraise the likelihood of the bank’s granting the loan.

Sunley Industries is a manufacturer of solar panels for photovoltaic power generation,

designed for rooftop solar arrays. Founded in 2000, the company had experienced considerable
growth in sales. In recent years, operations have been consistently profitable. Recent balance
sheets and income statements are shown in Exhibits 1 and 2. Sunley Industries sold most of its
products directly to construction firms, although an increasing portion of its sales were to
distributors of construction products.

During the past three years, Sunley had undertaken a major expansion and modernization
program aimed at providing the efficient production facilities its management considered vital to
the company’s survival in a competitive environment. In anticipation of growth in the demand
for photovoltaic panels, plant capacity had been increased to a point sufficient to handle a
volume of $75 million per year. It was anticipated that the company’s expansion program would
be completed in March, 2014 with the installation of new equipment costing $3.2 million.

The expansion had been timely because Sunley was hoping to increase its market share in
2014 with an all-out marketing and selling effort. Management estimated the company would
reach $54 million in sales in 2014. Further sales growth of $5 to $7 million per year was
expected in 2015-2017.

The company’s sales, like those of the industry as a whole, are highly seasonal. Over
two-thirds of annual sales usually comes during the first six months of the year. Exhibit 3 shows
forecasted monthly sales for 2014; the pattern is similar to that in previous years. On the other
hand, production is held relatively steady through the year. This policy is necessary to give
employment to and thereby retain the skilled work force required in the company’s
manufacturing operation. Additional economies come in better utilization of equipment.

Sunley Industries had borrowed seasonally from First Security Bank for eight years.
These loans occurred under a line of credit arranged annually in January. The bank required that
the loan be completely repaid and “off the books” for two months during the year. In previous
years, Sunley had not experienced difficulty in obtaining seasonal loans and meeting loan
requirements. First Security Bank had always granted the company’s seasonal needs, which in
2013 had amounted to $8.1 million at the peak.

Normally, the company began borrowing in early January and repaid its loans by mid-
June. However, in 2013 the company had been unable to liquidate its loan until mid-September
and by early November had again required a bank loan. At the end of 2013, the bank loan
outstanding amounted to nearly $4.5 million. Although the bank had not hesitated to extend the

1This case is a small revision of a prior case, Morley Industries, written by James C. Van Horne. This revision was prepared by Arthur Korteweg
and Jeffrey Zwiebel.

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credit, its officers expressed disappointment at not being given greater forewarning of the
continued need, particularly at a time when the federal bank examiners were conducting an
examination and were critical of aberrations of any sort. They suggested that it would be helpful
if Ms. Lowens could plan Sunley’s requirements more carefully for 2014.

Ms. Lowens also was disturbed by the unexpected increase in borrowing and what it
might mean in terms of future requirements. Therefore, she began collecting data that might be
helpful in making plans for 2014. These plans would need to be cleared with the company’s
founder and president, Roger Barrett, before presentation to the bank.

The company’s nominal terms of sales were net 30 days. However, for competitive
reasons, these terms were not strictly enforced, and the average collection period had recently
slipped to around 40 days. All sales were credit sales and Ms. Lowens feels that a 40-day
average period to collection was a reasonable estimate for 2014. There had been a deterioration
in collection experience through 2013, but she is confident the downtrend has been arrested. (Of
November, 2013 sales of $1,683,000, $1,122,000 was collected in December; none of the
December sales were collected in that month. All of October and earlier sales had been collected
by December 31, 2013.)

Production is scheduled to be fairly level throughout 2014 except for two weeks
beginning Monday, August 7, when it is planned to shut down the plant for the annual paid
vacation period. Also, in February through June, production is scheduled to be moderately
higher. Material purchases are scheduled as follows:

November (actual) $1,430,000

December (actual) 1,473,000
January (forecast) 1,503,000
February 1,583,000
March 1,583,000
April 1,583,000
May 1,583,000
June 1,583,000
July 1,503,000
August 907,000
September 1,503,000
October 1,503,000
November 1,503,000
December 1,503,000

The company purchases its materials on varying terms, depending on the supplier, but on
average pays for them in 33 days. Depreciation of $2.6 million is forecast for the year, and is
included in cost of goods sold. For simplicity in preparing a pro forma balance sheet, it is
assumed that the entire depreciation burden is allocated to inventory. Cash disbursements related
to labor and overhead (not including depreciation, a noncash charge) are planned at $1,480,000
per month throughout 2014, except for the months of February through June when $1,512,000

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per month is planned. It should be noted that planned production not only embraces that
associated with estimated sales but also reflects a moderate build-up in inventory.

General and administrative expenses are estimated to total $10,632,000 in 2014.

Disbursements for these expenses are expected to run fairly evenly through the year. Twenty-five
percent of the estimated income taxes for 2014 are to be paid quarterly in March, June,
September, and December. New equipment costing $3.2 million is to be delivered in March. It
will be paid for in five equal monthly installments, beginning in March. Advertising and
promotion expenditures, not included elsewhere, are forecast at $50,000 per month in January
and February, $30,000 per month in March through August, and $65,000 per month in
September through December, 2014.

In 2011, Sunley Industries borrowed $12 million from a life insurance company under a
16-year mortgage loan, secured by the entire plant and certain equipment. The loan is repayable
in equal semiannual principal installments in June and December each year. Interest at the rate of
10 percent per annum on the unpaid balance is also payable on these dates. In her financial
forecasting, Ms. Lowens planned to treat differently the interest payments on the mortgage loan
and on the bank loan. The two mortgage interest payments due in 2014 would be shown
separately in the cash flow and income projections. In contrast, bank loan interest payments had
been roughly estimated and included in the total general and administrative expenses estimate of
$10,632,000.

In 2014, sales are forecast at $54 million, costs of goods sold (including depreciation) at
70 percent, and general and administrative expenses at $10,632,000. Advertising and promotion
expenses (not included elsewhere) are expected to total $540,000. Additional expenses of
$1,031,000 (rounded to the nearest thousand) for mortgage interest result in an estimated profit
before taxes of $3,997,000. The effective tax rate for 2014 is estimated at 35 percent.

In 2013, the company raised its common stock dividend to $0.10 per share, per quarter,
payable in March, June, September, and December. Ms. Lowens knew that the directors of
Sunley Industries would be reluctant to raise the dividend in 2014. However, maintenance of the
present dividend was essential. The company was not well known, and directors hoped that with
another several years of profitable operations and stable dividends and equity issue might be
feasible.

As chief financial officer of Sunley Industries, Ms. Lowens had given considerable
thought to the optimum cash position of the company. She had concluded that cash and cash
equivalents of at least $1.5 million should be maintained at all times. This will take care of
transactions needs, and provide a moderate amount of liquidity for emergencies.

On the basis of the plans outlined above, Ms. Lowens asked her assistant treasurer to
prepare a monthly cash budget for 2014, which she hopes will indicate the amount and timing of
the bank credit that Sunley Industries will require. She also asked the Assistant Treasurer to
prepare a pro forma income statement for the year and a pro forma balance sheet for December
31, 2014. She suggested that the assistant assume no change in “other assets” or in “accruals”
from the amounts shown at year-end, 2013.

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Exhibit 1
Sunley Industries, Inc.
Balance Sheets as of December 31, 2011-13
(Dollar Figures in Thousands)
ASSETS 2011 2012 2013
Cash and cash equivalents $9,564 $2,187 $1,524
Accounts receivable 2,633 2,908 3,779
Inventories 4,632 5,547 7,280
Total current assets $16,829 $10,642 $12,583
Property, plant, and equipment (net) 18,207 24,300 26,979
Other assets 806 1,065 1,110
Total assets $35,842 $36,007 $40,672

LIABILITIES AND SHAREHOLDERS’ EQUITY

Bank loan $0 $0 $4,478
Accounts payable 1,417 1,564 1,616
Accruals 837 906 867
Mortgage, current portion 750 750 750
Total current liabilities $3,004 $3,220 $7,711
Mortgage payable $11,250 $10,500 $9,750
Common stock
(3,000,000 shares @ $2 par value) 6,000 6,000 6,000
Retained earnings 15,588 16,287 17,211
Total liabilities and equity $35,842 $36,007 $40,672

Exhibit 2
Sunley Industries, Inc.
Income Statements
(Dollar figures in Thousands)
2011 2012 2013
Net sales $34,788 $38,373 $44,466
Cost of goods sold* 24,838 27,175 30,930
Gross profit 9,950 11,198 13,536
General and admin. expenses 6,755 7,433 9,147
Interest expense 1,056 1,181 1,106
Profit before taxes 2,139 2,584 3,283
Income taxes 813 925 1,159
Net profit $1,326 $1,659 $2,124
Common dividends 960 960 1,200
Changes in retained earnings $366 $699 $924

Includes depreciation of $1,657, $2,223, and $2,469, respectively.

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Exhibit 3
Sunley Industries, Inc.
Estimated Monthly Sales for 2014
(Dollar Figures in Thousands)
Net Sales
November, 2013 actual $1,683
December, 2013 actual 3,218
January 2014 3,720
February 5,250
March 7,410
April 7,650
May 8,550
June 4,830
July 4,020
August 3,360
September 1,920
October 1,800
November 1,890
December 3,600
Total $54,000