Ocean Carrier

The Charles H. Kellstadt Graduate School of Business

DePaul University

FIN 555: Financial Management

Thomas M Carroll Phone: 312.362.8826

Office: Loop Campus tcarroll@depaul.edu

Case Study Questions

Capital Budgeting In Practice

Ocean Carriers

These questions relate to the Ocean Carriers case in your course packet. You can find the data for this case on the course website in a spreadsheet named: Ocean Carriers Exhibits.xls.

This case provides the opportunity to make a capital budgeting decision by using discounted cash flow analysis to make an investment and corporate policy decision. Ocean Carriers is a shipping company evaluating a proposed lease of a ship for a three-year period beginning in 2003. The proposed leasing contract offers very attractive terms, but no ship in Ocean Carrier’s current fleet meets the customer’s requirements. The firm must decide if future expected cash flows warrant the considerable investment in a new ship.

1. Do you expect daily spot hire rates to increase or decrease next year? Give the reasons for your choice. Which are the factors that drive average daily rates? What does this imply in terms of your cash flow projections?

2. How much is the cost of a new vessel in present value terms? What is the book value of the ship?

3. Should Ms Linn purchase the capesize carrier? Assume that it is going to be sold for scrap after 15 years. [Hint: Construct the Free Cash Flows of the project!] Explain the reason for constructing the free cash flow rather than some other type of cash flow? Assume that the relevant corporate tax rate is 35%.

4. Ms Linn is considering trying to argue that the firm should operate carriers for more than 15 years before selling them for scrap. What would be the optimal number of years to operate the capesize carrier before scrapping it? Assume that the capesize carrier must be scrapped after 30 years. If the policy is changed should they go ahead and...