In August 2007, analysts were expecting Whole Foods Market's sales to be $6,450 million in 2007 and $7,500 million in 2008. Net income was expected to be $147 million and $151 million in 2007 and 2008, respectively.

Required 1. Using the steps outlined in Appendix B to this chapter and the spreadsheet template available on the textbook Web site, prepare 2007 and 2008 forecasted financial statements (balance sheets, income statements, and cash flow statements) for Whole Foods Market. Your forecasts should incorporate the following assumptions:

a. Sales for 2007 and 2008 will equal $6,450 million and $7,500 million, respectively. Investment and other income will be $20 million each year.

b. All other income statement items (except pre-opening and relocation costs and interest expense) are expected to equal their 2006 levels as a percentage of sales. Interest expense is expected to be close to zero (see item [e] below). Pre-opening and relocation costs are expected to be $40 million each year.

c. The company’s income tax rate will be 40%.

d. Cash and cash equivalents are expected to be 2.0% of sales.

e. Long-term debt and capital lease obligations are expected to remain at around $10 million each year. Current installments of long-term debt will be $50,000 each year.
Interest expense will be essentially zero each year because amounts are rounded to the nearest $100,000.

f. All other balance sheet items except Common stockholders equity are expected to equal their 2006 levels as a percentage of sales. Depreciation expense (included in item [b]) is estimated to be $178.0 million and $207.0 million in 2007 and 2008, respectively. Accumulated .
depreciation was $706.1 million and $589.2 million in 2006 and 2005, respectively.
g. Development costs of new store locations (included in Direct store expenses in item [b]) are expected to be $200 million each year, and are classified as an investing (not operating) cash flow item by the company.
h. The company will continue to pay dividends of about $60 million each year. The company will issue or buy back stock during 2007 and 2008 to meet its cash flow needs or to distribute excess cash. Additional forecast assumptions may be needed.
i. Round all percentage calculations to the nearest one-half of a percent for forecasting purposes (e.g. 2.35% becomes 2.5%).
2. How do your net income forecasts from requirement 1 compare with those of the analysts ($147 million and $151 million in 2007 and 2008)? What does this tell you about your forecasting assumptions compared to those used by the analysts?
3. How do your sales, net income, accounts receivable, total assets, and operating cash flow forecasts for 2007 and 2008 compare to the amounts actually reported by the company in those two years? What factors are likely to explain sizable differences between the actual figures and your forecasts?

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APPENDIX B FINANCIAL STATEMENT FORECASTS Financial statement forecasts (or projections) are essential ingredients of equity valuation and credit risk analysis. This appendix illustrates the construction of comprehensive financial state- ment forecasts. Our approach has two advantages. First, it uses information about the com- pany's complete operating, investing, and financing activities to yield a forecast of each individual financial statement item. Second, the approach ensures that the forecasted financial statements-sometimes called pro forma projections-are internally consistent. Nothing is overlooked, and the projected financial statements fit together as they should. The starting point for developing comprehensive financial statement fore- casts is a detailed understanding of the company, its recent financial perfor- mance, and health. (Chapter 5 shows you how!) This involves learning about the company and its industry conditions, competitors, customers, and suppli- ers. Armed with this knowledge, the analyst can then develop plausible predic- tions about future economic conditions in the industry and about how the company and its competitors will respond to those conditions. The analyst then incorporates these predictions into the forecasted financial statements. Preparing comprehensive financial statement forecasts involves six steps: Sometimes the analyst is interested in forecasting only a single financial statement item, such as EPS. Shortcuts that circumvent the need to construct comprehensive financial statement forecasts are often used in such cases, but the resulting single- item forecasts may prove highly unreliable. 1. Project sales revenue for each period in the forecast horizon (say, two years). 2. Forecast operating expenses such as cost of goods sold (but not depreciation, interest, or tax expense, which are handled separately), and derive projected pre-tax operating income before depreciation and amortization. Expense margins-for example, cost of goods sold expressed as a percentage of sales-are useful for this purpose. 3. Forecast the level of balance sheet operating assets and liabilities--cash, inventories, accounts receivable, accounts payable, and the like-needed to support the projected operations in Steps 1 and 2. Turnover ratios (also called utilization) ratios can help guide these projections. 4. Forecast depreciation expense and tax expense each period. These are two of the last three items needed to construct projected income statements.