Ocean Carriers Inc Case Study

Fact

Ocean Carrier Inc is a shipping company with offices in Hong Kong and New York. It owns and operates capsize carriers that range in size from 80,000 deadweight tons to 210,000 deadweight tons. The vessels mainly carry iron ore worldwide and usually transit through Cape Horn due to its large size to transit through the Panama Canal. Vessels belonging to Ocean Carriers were mostly chartered on a time charter basis for a period such as one year, three years or five years. Occasionally, the spot charter approach was used. Charterers of the vessel paid a daily hire rate for the length of period of the contract. The company determined what the vessel should carry and controlled where the vessel should load and unload.

In January 2001, the Vice President of Finance, Linn evaluated a proposed lease of a ship for a three year period beginning early 2003. The client of the proposed lease was eager to finalize the contract with very attractive terms that meet his own commitments. However, no ship in Ocean carrier’s fleet meets the customer’s requirements. Linn has to decide whether the company should immediately order a new vessel at a cost of $39 million and would be completed in 2years for lease to the customer.

Diagnostics

Based on an NPV analysis of the case, multiple scenarios should be considered to make the optimum decision for a proposed lease of a vessel or not. First, consider the situation where a new cape-size is commissioned by the company and operates in Hong Kong, a no corporate tax zone. Assuming forecasted daily hire rates, estimated operating cost and revenue remain accurate over the long term, Ocean Carrier will make a profit of $5,146,811 if management adheres to the policy of selling vessels at a market value after 15 years. The profitability of the project was determined by discounting the cash flow before tax at an estimated weighted cost of capital rate of 9% as seen in appendix 1.

In the second scenario, it is presumed that Ocean Carriers commissions the new capsize and operates in the US where it is compelled to pay a 35% tax on profit. With all assumptions holding over a long term, and adhering to the 15 years scraping policy of vessels, Oceans Carrier will make a loss of $4,201,426 when cash flow after tax is discounted at the estimated weighted cost of capital rate of 9%.

Future cash flows of Ocean Carriers was determined for the 15 years period based on the given data including annual operating days, daily hire rates which was used to estimated expected revenue, daily operating cost which increased annually at 1% above inflation rate of