What factor
should Dr. Richard Miller consider in deciding whether to raise equity?
(b) The equity needs to be $60 million is based on the Pharmacyclics Income Statements, we can
know that the total net loss of PCYC from 1992 to 2000 was about $76 million. As a result, there
was a financial deficit in Pharmacyclics, and PCYC had to increase $60 million to cover the loss.
3. Compare these cash flows to PCYCs liquid assets (cash and investments that can be easily converted
to cash). As of March 2000, how many future years of funding does PCYC have?
Conclusion:
As we can see the available funds will be negative in 2002.
As a result, the liquid asset can cover the cash outflow until 2001.
4. What finding strategy is apparent in PCYCs pre-IPO financing? Why would the managers of PCYC
want to follow this strategy? Would its investors also want PCYC to follow this strategy?
Pre-IPO:
According to Exhibit 2, PCYC raised a total of $2.7M in convertible preferred stock from venture
capitalists Asset Management, Kleiner, Perkins, Caufield &Byers, and Venrock Associates by Associates
by April 1992. In December 1992, PCYC raised $7.7M from four venture firms. The company raised a
third round of $7.6M in June 1994 and a final 1994 mezzanine round of $5.6M in July 1995.
Apparently, PCYC adopted the strategy of issuing convertible preferred stock. Though preferred
stock may not have a fixed liquidation valuation associated with it. Also, because in the U.S. dividends
on preferred stock are not tax-deductible at the corporate level (in contrast to interest expense), the
effective cost of capital raised by preferred stock is 35 percent greater than issuing the equivalent
amount of debt at the same interest rate.
After-IPO:
But overall, managers followed the strategy because of below 3 advantages:
No obligation for dividendsA company is not bound to pay a dividend on preference shares if
company can raise capital without dilution of control. Equity shareholders retain exclusive
control over the company.
Trading on equity: The rate of dividend on preference shares is fixed. Therefore, with the rise
in its earnings, the company can provide the benefits of trading on equity to the equity
shareholders.
One main reason that its investors want PCYC to follow this strategy is because they want to
participate in the rise of growth companies while being insulated from a drop in price should
the stocks not live up to expectations. Also, there are income-tax advantages generally
available to corporations investing in preferred stocks in the United States. Therefore,
whether individual or corporate investors would support PCYCs strategy.
5. Forecast after-tax cash flows for PCYC through the expiration of the four drug patents. Use a tax rate
of 35% and the following additional assumptions in your analysis:
a. For Lutrin: 50% probability of FDA approval in 2002
b. For Antrin: 30% probability of FDA approval in 2004. If Antrin is approved by the FDA, its
contribution to pre-tax income would be $191 million in FY05 and peak at $281 million in FY06
c. For Optrin: 30% probability of FDA approval in 2004. Id Optrin is approved by the FDA, its
contribution to pre-tax income would be $25 million in FY05, $40 million in FY06, and peak at $50
million in FY07.
d. For all drugs: Patent protection for these drugs ends ten years after FDA approval. Upon patent
expiration, analysts expected revenue to fall at a perpetual rate of 20% per year (for example, if
revenue is $1.00 prior to patent expiration, the pattern of revenues after patent expiration is
forecast at $0.80, $0.64, $0.51, etc.)
year 2002 2003 2004 2005 2006 2007 2008
used rate(domestic) 2% 17% 26% 40% 40% 39% 38%
Xcytrin(50%),revenue 34,000,000 289,000,000 442,000,000 680,000,000 680,000,000 663,000,000 646,000,000
cost(domestic) 6,800,000 57,800,000 88,400,000 136,000,000 136,000,000 132,600,000 129,200,000
used rate(foreign) 5% 15% 25% 25% 24% 23%
Xcytrin(50%),revenue 85,000,000 255,000,000 425,000,000 425,000,000 408,000,000 391,000,000
cost(foreign) 17,000,000 51,000,000 85,000,000 85,000,000 81,600,000 78,200,000
Xcytrin(50%),total revenue 34,000,000 374,000,000 697,000,000 1,105,000,000 1,105,000,000 1,071,000,000 1,037,000,000
Xcytrin(50%),COGS 6,800,000 74,800,000 139,400,000 221,000,000 221,000,000 214,200,000 207,400,000
Xcytrin(50%),gross profit 27,200,000 299,200,000 557,600,000 884,000,000 884,000,000 856,800,000 829,600,000