Solution to New Economy Transport

Study Case I - New Economy Transport A&B, BMA p168-169

New Economy Transport (A)

Before mentioning the assumptions made to find out the best project, it is important to point out three main assertions given in the text. First, the firm is said to be conservatively financed, and consequently the 11% nominal cost of capital is an adequate discount rate for the project. Also, the overhaul happens in period 0, and consequently the Cash Flow generated by the costs and revenues starts in period 1. Finally, the total book value of the vessel is constituted by its book value plus its spare parts.

The following has been further assumed for the spreadsheets A.1 and A.2 below:

* For the analysis of the best project, the life span of the overhauled vessel is conservatively estimated to be 10 years long.

* The director considers the cost and revenues to be constant in real terms over years. They need therefore to be converted into nominal values to fit the calculation. Furthermore, all values in the spreadsheets are nominal values.

* The reference year for inflation is the first year.

The calculation of the project of overhauling the Vital Spark leads to prefer the overhaul including the brand-new machine because of its higher Net Present Value:

NPV (overhauling without new-brand machine) = $261’814

NPV (overhauling including new-brand machine) = $485’096

Additionally, details of the main formulas used in spreadsheets A.1 and A.2 are provided below the tables.

Table A.1: NPV for Overhauling without the new-brand machine

...

...

...

...

Table A.2: NPV for Overhauling with the new-brand machine

Details of calculation for spreadsheets A.1 and A.2:

1 Nominal Revenues in year t=Real Revenues in year (t-1)*(1+inflation rate)

2 Nominal Operating Costs in year t=Real Operating Costs in year (t-1)*(1+inflation rate)

4 Depreciation=7year MACRS rate*Capital Investment

5 EBIT=Nominal Revenues-Nominal Operating Costs-Depreciation

6 Tax=Tax...