2. Table of Contents
2
1 Ocean Carriers - Recommendation....................................................................................................3
2 Reasons behind our recommendation...............................................................................................3
3 The calculations .................................................................................................................................3
3.1 NPV with 25 years of operation.........................................................................................................5
3.2 NPV with 15 years of operation.........................................................................................................7
4 Assignment Questions........................................................................................................................8
4.1 Do you expect daily spot hire rates to increase or decrease next year?............................................8
4.2 What factors derive average daily hire rates?...................................................................................8
4.3 How would you characterize the LT prospects of the capesize dry bulk industry?............................8
4.4 Should Ms Linn purchase the $39M capesize?..................................................................................8
4.5 What do you think of the company's policy of not operating ships over 15 years old?.....................9
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3. 1 Ocean Carriers - Recommendation
The project is recommended for rejection of the proposal due to company policy of not operating
vessels older than 15 years. As explained in the later part of document, this project is not viable
within 15 years of vessel’s life.
The decision to move forward with this project is dependent on our company’s confidence in the
long term market demand for capsizes. If Australian and Indian ore exports begin in 2003 as
projected and demand for capsizes is increased, this project will return a positive NPV over the 25
year life of the ship. As the following data shows, the company policy to not operate vessels over 15
years may not necessarily produce maximum profits. Looking forward I would also suggest that the
company reevaluate this policy, and consider revamping it for future projects such as this.
2 Reasons behind our recommendation
Assuming the existence of sufficient long term demand and a full 25-year operating life of the vessel,
the end result would prove profitable for the company. However, if the life of the ship is reduced to
15 years pursuant to company policy, and subsequently sold for scrap, the project would result in a
loss for the company even when the scrap value is included.
3 The calculations
We take into account total expected revues over the life of the ship were calculated using the given
yearly operating days and hire rate data. Then, expected yearly operating costs were subtracted
from revenues to determine yearly cash flows from operations. To determine cash flows from
investment activities, the initial purchase of the carrier, working capital investment as well as capital
expenditures had to be taken into consideration. The vessel was purchased over a three-year time
period, and delivered at the end of 2002. At that time, a $500,000 investment in working capital was
injected, which was expected to grow with inflation over the life of the ship. Yearly investment cash
flows were determined using these figures. Providing a 9% discount rate, the total net present value
(NPV) of the yearly cash flow was determined for both a 25-year fully depreciated operating lifetime,
as well as a 15-year operating lifetime with a $5 million scrap value. It was determined that for this
project to be profitable, the ship would have to remain in operations for at least 22 years before it
returned a positive NPV figure. If operated for the full 25 years, total NPV of $368,557 is forecasted.
However, if the ship is operated for 15 years and then scrapped, a negative NPV of -$1,252,916
would result.
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8. 4 Assignment Questions
4.1 Do you expect daily spot hire rates to increase or decrease next year?
Exhibit 3 shows order booking and delivery schedule for bulk capsizes for coming years. This is a
big number compared to current fleet size as per exhibit 2. Thus, the spot hire rates are likely to
drop because of availability of capsizes.
4.2 What factors derive average daily hire rates?
Since the daily hire rate is determined by the supply and the demand for such services, we first
take a look at the supply of Capesize vessels. Future supply of the capesize vessels is the sum of
current vessels, minus the vessels that will be scraped, plus new ships delivered. Exhibit 2 shows
the existing capesize carriers in terms of the sum of the loading capacity.
4.3 How would you characterize the LT prospects of the capesize dry bulk
industry?
Availability of fleet in the market and availability of transports good drives average daily hire
rates. The daily hire rates would increase if Australia and India ore export starts in coming years.
This would bring big business. In absence of a new business, due to increasing number of fleet
and based on order booking, the average daily rates may drop.
There are 2 million tons of capesize with the age over 24 years. We can expect that these old
vessels would be soon scrapped, which in turn would reduce the supply of the capesize vessels.
However, such old vessels were small portion of the total existing vessels. So we would not
expect a large reduction in supply due to the scraping of old vessels.
Exhibit 3 shows the current order of new capesize vessels delivered in the coming 4 years.
As can be seen, there will be a large supply of new capesize vessels in 2001 2002 and 2003. This
will increase the supply of capesize vessel in the near future.
4.4 Should Ms Linn purchase the $39M capesize?
Answered in first part.
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9. 4.5 What do you think of the company's policy of not operating ships over 15
years old?
This is a conservative policy of company which saves company from uncertainty. But, due to this
policy, it is not able to take advantage of returns on investment in later years of vessels. This
policy is not giving favorable outlook for investment.
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