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Ocean Carriers


A Case Study

By ab
• Ocean Carriers Inc. owned and
operated cape-size dry bulk carriers
• Major Cargo type : Iron ore.
• Vessel sizes : 80000 DWT to 210000
• Cape-size carriers travel around Cape
Horn rather than the Panama Canal
due to size constraints.


Maintaining Supplies Repairs

And on board Stores Operations

Supply of Lubricants Insurance

Business Model
• Mostly chartered on “time charter ” basis
for one, three , or five year periods.
• Occasionally spot charter market was used
• Charterer paid a daily hire rate for entire
• They controlled where the cargo was
loaded and unloaded and also determined
the cargo.
• OC Inc. supplied a qualified crew along
Brief History
• In 2003, the average daily operating
costs amounted to $ 4000.
• This cost increased annually at 1%
due to inflation.
• Charterers were not charged for days
spent in maintenance and repair but
operating cost were still incurred.
Maintenance Work Time
• Initially 8 days a year for repairs and
• This time increased to 12 days per
year for ships operating for more
than 5 years.
• For ships operating for more than 10
years the repair and maintenance
days increased to 16 day per year.
Operating Policies
• Ocean Carriers didn’t operate ships
which were more than 15 years old.
• As per international maritime
regulations they underwent special
surveys every 5 years for
seaworthiness of the carriers.
• As per the norms maintenance costs of
ships older than 15 years was too high.
• To avoid these costs they sold the ships
in scrap or second hand market before
SWOT Analysis
Strengths Weaknesses
• New and Larger vessels • Too much
compared to industry dependence on basic
• So premium is earned industries
compared to market • Not much

Opportunities Threats
• Great demand for iron ore and • Probability of
coal products in a strong economy defaulting of
• Australian production and Charterer
Indian Exports creating long term • Future estimates
demand not entirely reliable
Case Brief
• Background:
– Mary Linn, VP Finance at OC Inc is
evaluating options whether to invest
and if yes how to invest in the new ship
to be leased in 2003
• Aim:
– To evaluate the various options of
capital budgeting, leasing, owning and
resale of the new project
• Ocean Carriers is a U.S. firm
• Discount rate is taken to be 9%
• In case of 15 year life of the ship, the
resale value in 2017 is calculated by
assuming that the ‘then discount
rate’ would be 12%
• Corporate tax rate is assumed to be
35% (Source: US Federal Reserve
Data Release, 2001)
Assumptions Continued
• Ocean Carriers is located in Hong
Kong, where owners of Hong Kong
ships are not required to pay any tax
on profits made overseas and are
also exempted from paying any tax
on profit made on cargo uplifted from
Hong Kong.
• Discount rate is 9%
• Inflation rate is 0.4% (Source: Central
Bank of China data release, 2001)
Options Available

Don’t invest in
new ship

What to Operate for 15 yrs
choose? Sell off or scrap

Operate for 15
Sell off or scrap
Option 1: 15 Years Life
• The DCF analysis of this option gives
us the following results:
Option 2 : 25 years life
• The DCF analysis of this option gives
us the following results:
Business Implications of the
Assume the company is based
• NPVs of both the options are negative
• Also, the IRR of both the options are
less than the existing discount rate
• As a result, we recommend that Ocean
Carriers Inc. should not go for the
investment in the ship
• The tax rate of 35% is considerably
• The initial $39 million purchase of the
new ship is never fully recovered by
expected future revenues since NPV is
negative in both the cases
• Thus, the investment is too much of a
Business Implications of the
analysis: Assume the company
is based in HK
• Considering the zero tax assumption,
we can see that the NPV of both the
options is positive and that for 15
year life is more than the 25 year life
• Thus, assuming the company is
based in Hong Kong, the company
must go for the 15 year life option
owing to the higher NPV
Reasons for selecting the 15
years life option
• As stated earlier, the NPV of this
option is more than the other
• As the ship gets older than 15 years,
the hire rate starts decreasing more
rapidly as seen from Exhibit 4
• As it can be seen from the following
graph, the hire rate reduces more
rapidly after 2017
Expected Daily Hire Rate vs
Sell of the ship and don’t
• As seen in Exhibit 6, the ship has the
potential to generate cash flows even after
15 years
• The estimated resale value of the ship at
the end of 15 years assuming that the life
can be extended up to 25 years is
• This value is significantly higher than the
scrap value of $5,000,000
• Also, the company has a policy of not
operating the ships older than 15 years old
• But, there exists a potential for selling off
the ship since some other companies do
• The current inflation was pegged at
0.4%. But, in case in the future
years, say 15 years hence, if the
inflation rises above 0.4%, then there
would be a significant increase in the
operating costs and working capital
• Thus, the current forecasts for 20 -25
years down the line may not hold
• Thus, even with this case it is better
Ocean Carriers Inc. should
accept the 3 year contract
• Amount recovered by the initial contract is
• Many a times, new ships may not be leased
out immediately after delivery because of
low demand
• But, in this case, the ship can be
immediately leased out: meaning it can
generate cash inflows immediately on
• Also, since the client is in utter need of the
ship, he may offer the company a premium
of 10-15% which is beneficial for Ocean
Carriers Inc.
Our Recommendations
Invest in new ship
OC Inc is HK Operate it for 15 yrs followed
Based by resale
Accept the initial 3 yr contract

OC Inc is US Don’t invest in new

Based ship