Case Study: Ocean Carriers Essay

Executive summary marine Carriers is contemplating the opportunity of stipulating a 3-twelvemonth leasing contract that would require commissioning the aspect of a new vessel. In the short term applied employ rank are decreasing, just as they should be on the retrieval side starting 2003. While signing a new lymph node and therefore expanding the business, the aforementioned investment should be under taken in Hong Kong. Further more than, a 15year jut emerge is preferable, thus scrapping the vessel at an estimated price of $5M in order to reinvest that tally and avoid facing heavier upcoming be.Although the commodiouser lasting project (25 years) guarantees a higher authorise posit value and forecasted rates seem to be increasing, less agility on future market occasions, increasing consider rates volatility and risks to bear for the corporation must be considered. Moreover, the maintain strong correlation between number of commitments and take in rates is beingness q uestioned.Summary of factsProvided that Ocean carriers fleet doesnt present a ship which meets the new customers requirements and that a passably tenacious clock time is needed to build a new one, the trouble has to decide in 2001 whether to commission a vessel for a 3-year time charter get downning in 2003 at an initial daily get rate of $20,000 growing at a pace of $200 per year of contract.Statement of the problemMany factors are to be considered such as the daily hire rate and operating cost trends, the add and take of compact ore and steel which form the 85% of capesize dry bulk carriers shipments. The headquarter location, on which the tax regime depends, is too a critical decision epoch in Hong Kong the achievements would be exempt from tax, they would account for 35% on acquire in New York.AnalysisFor a better recognition of the problem, we first focused on some possible outcomes depending on supply and demand tendency. In the short term, an excess of su pply (63 new vessels) and no major forces influencing the demand will cause the hire rates to drop. Also, if the consulting crowd is to be fully trusted, a sharp decrease in iron ore vessel shipments will drive down prices as well. Looking at a longer horizon, supply and demand drivers are mainly, for the latter, the world frugality as a whole and trade patterns i.e. the longer distance the more demand, and for the former the efficiency and size of vessels (negative correlation), the demand for shipping capacity and the get on with of the ships. These factors reveal positive long-term effects. Due to Australian ad Indian demand rocketing, exports will expand along with higher trading volume.Moreover, Ocean carriers presents an advantage with regards to their ships they are bigger and newer thus deserving a prescribed 15% factor over standard prices. Nevertheless, adverse aspects should be taken into account as well, such as the inefficiency in building a new vessel (2 years) whi ch could lead to a growing demand for net working capital in order to strengthen the companys financial position and make it able to face sudden hard currency outflows. In addition, given their better increment pattern, Ocean Carriers should favour the routine and not the time daily hire rates instead of fix themselves up in long term, less flexible contracts.Our view for the long run is definitely positive though not outstanding, with future growth resembling the inflation level. Considering the mentioned facts as well as all the assumptions, the choice that has to be made will be primarily influenced by the daily hire rates. These factors are the most volatile and difficult to predict and influence income, profit and finally cash-flows. Ms Linns decision should evaluate contrary and beastly outcomes before taking a decision based only on cash-flows NPV.  Firstly, when comparing Hong Kongs and new Yorks NPV, the no tax regularise is clearly the better choice (see table 3 and 4 for calculations), with the 35% straight-line american taxation killing most of the profits from the investments first years. Even if we consider an accelerated depreciation system (MACRS) and liken equivalent profits, annuity figures are still worse for taxed areas ( graph 3).From this calculation we begin to see how actual cash-flow equivalent annuities are not markedly different between the 15 and 25-year no-tax projects. If accurately analysed, inter- spot NPVs show an un judge picture (table and graph 1). If the reinvestment of the scrap value could guarantee a real rate of bring to similar to the discount used (discount rate=9%,inflation rate=3%,real discount=5,83%), the two NPVs move closer. This partially explains why, of the two, the shorter investment is the best a substantial chunk of the 25-year projects NPV (74%) is created in the latter period of the investment (2017-2027) when prices are hardly predictable, more volatile and easily influenced by pres ent expectations. $610.159,93 supplementary cash income are not worth 10 more years of holding period operating and survey costs become too heavy to sustain the additional period of investment.We carried on our analysis by looking at the hire rates and their expected value. The strong correlation between charter rates and shipments reported by the consulting firm is now being took into consideration (table and graph 2). The outsourced analysis states that when shipment numbers rise so should the same charter rates. Unfortunately this is amiss(p) under a statistical point of view whilst shipments and 3-year hire rates seem actually slightly related, the number of shipments and the spot rates go surprisingly in the opposite direction (Pearson correlation index=(0.3783)). Hence, long term NPV needs to be managed carefully being based on assumptions not entirely true.RecommendationsThe 15-year, no-tax investment is the right choice. The NPV of this project turns out to be p ositive, leading us to recommend the signature of the contract. Turning down this operation would mean wasting future earnings. Furthermore, the 25-year project is unsafe it could dry out the companys cash and equivalents and prevent the reinvestment of the scrap value ($5M) in more profitable projects. The extra return doesnt justify a 10 year longer investment based on some unreliable assumptions, not supported by statistical data and which does not grant the flexibility that a shorter one would.