ocean carries hbs case study
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Harvard Business School's case study on ocean carriers solutionTRANSCRIPT
Ocean Carriers Case Study Rashidul Esrar (3019094) | Class 17 | Group Lone Wombat
Executive Summary
Ocean Carriers must analyze the costs and benefits of commissioning a new capsize carrier to
lease to an eager customer. We evaluate global trends based on economics and future cash
flow expectations to recommend that Ocean Carriers immediately commission a new
capesize carrier based on a comparison of NPV throughout the lifetime of the new carrier
ship. In fact, NPV of the new carrier is larger than the worth of the scraps after 15 years.
The Facts
Mary Linn, Ocean Carriers' VP of Finance, must decide whether or not to accept a leasing
contract for the duration of three years. Expenses include cost of commissioning a new
capesize ship, maintenance, operations, and depreciation throughout its lifetime while
revenue depends on the charter rate. After the contract expires, further income would be
evaluated based on expected market daily hire rates, assuming another lease is not signed for
simplification.
The Problem
Due to the relatively short term of the contract, Ocean Carriers has to analyze whether or not
to the investment in commissioning a new capesize is profitable even after the term of the
contract. In order to do so, we take into account the fluctuations of the daily spot rates in the
short and long terms along with the differences in taxation policies in Hong Kong and the
United States. Ultimately, we assess the practicality of Ocean Carriers’ policy of
decommissioning ships after 15 years.
Analysis
Spot Hire Rates
Average daily hire rates are dependent on fleet size and the supply and demand of items
being shipped. As 63 new vessels are scheduled for delivery in the upcoming year, daily spot
hire rates are predicted to drop during 2001-2002 due to the increase in fleet size. Couple this
increase in fleet size with expected stagnation in coal and iron ore shipments, which account
for 85 percent of cargo per year, and Ocean Carriers should expect a drop in daily spot hire
rates because of its weaker position in the market.
Future Prospects
There is reason to be optimistic about long-term prospects for market demand of capesizes.
India’s and Australia’s entrance into the iron ore market should make iron ore vessel
shipments increase, and as a consequence, time charter rates and spot charter rates should
increase, thus leading to an increased demand for shipments.
Making a Decision
U.S. Assumption—
Table 1 displays the 2017 NPV and 2027 NPV as -$6.35m and -$4.29m, which can be
attributed to the 35 percent tax rate.
Hong Kong Assumption—
Table 1 displays the 2017 NPV and 2027 NPV as $1.72m and $4.03m, which can be
attributed to the tax-exempt status.
When examining Table 1, it is interesting to note the two columns for 2017: one models the
company operating the ship for 15 years and the other models operating the ship past 15
years, which includes capital expenditures associated with the 3rd special survey.
15-year Policy?
Ocean Carriers scraps or sells ships by the 15th year of commission in order to forgo the
maintenance expenses that result from readying the ship to pass its 3rd special survey.
Referring to Table 1, we do not recommend scrapping the vessel because the NPV of a 15
year-old ship is higher than the $5m value of the scraps. Therefore, Ocean Carriers can
operate ships past the 15-year period to generate additional revenue that will outweigh the
expenses of maintaining ships for the 3rd survey; these ships can also be scrapped after 15-
year for $5m.
There are associated risks and questions about efficiency, however, when considering
operating ships older that 15 years. Additionally, older ships are less desirable and may be
more difficult to lease.
Recommendations
After thorough examination of the numbers and possible market scenarios, Ocean Carriers
should invest in producing a new capesize ship from its Hong Kong office; furthermore, the
ship should not be scrapped after 15 years because its NPV is worth more than the scrapped
parts.
Exhibits & Tables
Table 1