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Ocean Carriers Memo
Ocean Carriers Memo
DATE:
8/29/2007
TO:
MS MARY LINN
CC:
FROM:
RE:
PRIORITY: [URGENT]
Ms Mary Linn,
After careful cash flow analysis and a discount rate (WACC) of 9%, commissioning a
capsize carrier for 25 years is the only appropriate option for our firm. However, if the discount
were instead 10%, both options would fail the NPV test by yielding negative results. I make this
recommendation after thorough analysis of estimated cash flow and with the desire that our
required 15-year life span will be amended.
With the expected 9% discount rate, commissioning a capsize carrier for 15 years and then
scrapping it as is company policy would ultimately yield a NPV of (1,252,916). However, if
Ocean Carriers decided to commission its ship for 25 years, then the NPV would be a positive
368,557. Since current company policy is to scrap ships after 15 years, management should
look at these numbers in detail and consider revising its dated policy. As mentioned above, this
recommendation hinges on a 9% discount rate. If our cost of debt or cost of equity would
change, then this would change our WACC and thus our discount rate. Therefore, if either the
cost of equity or debt increases and our subsequent discount rate were to be 10% rather than the
expected 9%, then both options would yield a negative NPV and neither should be undertaken.
If the opposite happened, and the discount rate was 8%, then both options would yield a positive
NPV. In this case, the 25-year option is more profitable due to its NPV being greater. Details
are below (Italics showing recommendation at appropriate discount rate).
15 Year
25 Year
8%
$815,580
$2,865,29
7
Discount Rate
9%
10%
($1,252,916) ($3,076,460)
$368,557
($1,793,116)
With current projections of cash flow and the estimated 9% discount rate, this project is
acceptable only if the company allows the commissioning of 25-year old ships. However, if
7/16/2007
Confidential
economic conditions change or the cost of capital changes, then this recommendation may
Event
Year
0
1
2
3
4
5
6
7
8
9
10
11
12
13
14
15
16
17
18
19
20
21
22
23
24
25
26
27
15 Year
Discounted
Operating
Cash Flow
$0
$0
$0
$4,386,002
$4,033,065
$3,706,990
$3,004,351
$2,440,887
$2,205,441
$2,023,295
$1,855,438
$1,700,636
$1,448,466
$1,301,784
$1,189,629
$1,086,363
$991,309
$606,264
$31,979,920
15 Year
Discounted
Investment
Cash Flow
($3,900,000)
($3,577,982)
($26,681,256)
($11,583)
($10,945)
($10,343)
($9,773)
($173,346)
($8,727)
($8,247)
($7,793)
($7,364)
($131,396)
($6,575)
($6,213)
($5,871)
($5,548)
$1,330,125
($33,232,836)
NPV
($1,252,916)
25 Year
Discounted
Operating
Cash Flow
$4,386,002
$4,033,065
$3,706,990
$3,004,351
$2,440,887
$2,205,441
$2,023,295
$1,855,438
$1,700,636
$1,448,466
$1,301,784
$1,189,629
$1,086,363
$991,309
$606,264
$547,345
$493,370
$443,952
$398,728
$306,107
$272,006
$240,872
$212,552
$186,775
$92,818
$35,174,445
25 Year
Discounted
Investment
Cash Flow
($3,900,000)
($3,577,982)
($26,681,256)
($11,583)
($10,945)
($10,343)
($9,773)
($173,346)
($8,727)
($8,247)
($7,793)
($7,364)
($131,396)
($6,575)
($6,213)
($5,871)
($5,548)
($178,548)
($4,954)
($4,681)
($4,424)
($4,180)
($131,605)
($3,733)
($3,527)
($3,333)
($3,150)
$99,208
($34,805,887)
NPV
$368,557
change as well.
7/16/2007
Confidential