Ocean Carriers Case Analysis Essay Example

final year, these expenses make up 80% of her revenue before taxes. Additionally, the $5 million received from scrapping the ship 15 years in the future is only worth $3 million today. Net loss is still about $10 million.

If Ocean Carriers sells the capsize in the second hand market instead of selling it for scrap, we would likely change our conclusion, as the vessel will be able to sell for much more than $5 million. We discounted future cash flows generated from operating the ship as the method to determine the market value of the ship. A US buyer with under the same tax rate as Ocean Carriers will calculate a price threshold of $15,858,028, meaning that a US buyer will yield a zero return if it paid the threshold amount.

If Linn sells the capsize in the US, the PV of the whole investment will be 33,574,623 (23,980,255 + (15,858,028/1.03^17)), which is less than the PV of cost $37,095,400.

So there will be a $3.5 million loss in US secondhand market. However, if Linn sells the capsize in secondhand market in Hong Kong, the situation will be different. A buyer in Hong Kong – with no US tax implications – will pay $17,082,061.

The PV of investment will be 41,725,243 (31,390,315 + (17,082,061/1.03^17)), which gives Linn a gain of more than $4.6 million. So the only way to avoid a capital loss is to sell the ship in the secondhand market in Hong Kong.

If financing comes from issuing debt in the capital market, free cash flows will increase because the debt creates cash within the business or project. However, this cash comes at the price of interest

and the company will need to pay this interest moving forward. This additional expense of capital will lower the NPV of the project funded through issuing debt or reduce net income if evaluating the company overall. In this case, if the total future value of principal plus interest is even bigger than the future value of cash inflows when the ship is operating until the date the debt is all paid, issuing debt is not a good idea because they will eventually have bigger burden to pay back in the future.

If the financing of the project comes partially from issuing debt and cash infusion from the owners, the available cash will increase without as much interest expense. This will cause the company books to look bad because of lower EPS, however the company will have a choice not to pay dividends if necessary rather than being bound to pay interest expense. If the IRR of the project is greater than the cost of capital for the owners (in this case 9%), it would make economic sense for the owners to fund the project, at least partially.