Ocean Carrierse

a) Statement of Problem.

Ocean Carriers is evaluating a proposed three year lease of a ship. Currently, no ships in Ocean Carrier’s fleet meet the requirements of the customer. Since the new ship requires an investment of $39 million, Mary Linn, the Vice President of Finance for Ocean Carriers, needs to evaluate the proposal’s NPV and determine whether or not to accept the proposal by considering expected cash flows, tax implications, and future market conditions.

(b) Statement of Facts and Assumptions.

In our analysis, we assumed that the ship was sold after 15 and 25 years, with and without tax. In both sets of calculations, the ship had a salvage value of $5 million for the sale of the steel to the demolition yard. The 25 year analysis included the final survey cost of $1.25 million in the 25th year, resulting in one year of depreciation. Expected daily hire rates from exhibit 6 were used to calculate annual income.

(c) Analysis.

Average daily hire rates are determined by market supply and demand. Factors such as the number of operating vessels, number of scrapped vessels per year, the age of the ships, the efficiency of ships, and market expectations of supply and demand; consequently, these factors drive average daily hire rates. Market conditions also drive rates since demand is dependent on the world economy. When the economy is strong, the demand increases, especially for iron ore and coal since it is transported by dry bulk capesizes. Changes in trade patterns such as the distance between trading countries also attribute to the demand for charters and average daily hire rates.

The long-term prospects of the capesize dry bulk industry are adequately strong. While by no means a booming or emerging industry, it will present many opportunities for firms in the industry to capture and exploit the increasing demand and trade of iron and coal. The difference in the current spot rates and the 3-year charter rates can be explained by the impact of demand on the average spot rate. Changes in demand and supply are reflected in the spot rate; however, the average 3-year charter rate is a contracted rate based on historical and forecasted demand and supply. Therefore, when shipments decrease, the spot rate decreases substantially with demand while the charter rate is contracted and remains steady.