Ocean Carriers Case

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OCEAN CARRIERS CASE

1) Should Ls Linn purchase the $39M capsize? Make two different assumptions. First, assume that Ocean Carriers is a U.S. firm subject to a 35% statutory (and effective) marginal tax rate. Second, assume that Ocean Carriers is domiciled in Hong Kong for tax purposes, where ship owners 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, i.e., assume a zero tax rate.

The investment is not viable from the finance perspective. According to the analysis, Linn should not purchase the Capesize. After 15 years, Linn will suffer a loss on in both the U.S and Hong Kong. After 20 years, Linn will still lose money in both locations, albeit less money. Finally, in the 25-year analysis, Linn will be able to turn a small profit in Hong Kong while still suffering a loss in the U.S. Although the 25-year time frame allows for a gain in Hong Kong, such a gain is highly contingent on the salvage rate which may be volatile subject to new technology, ship defects, etc. Thus, the profits gained by the keeping the ship longer are not worth the risks inherent in the unpredictable scrap value.

2) What do you think of the company’s policy of not operating ships over 15 years old? Assume that Ocean Carriers can fully utilize any tax benefit it derives from asset sales.

This conservative policy saves the company from uncertainty and from risks inheriting from the age of ships. But, due to this policy, the company is not able to take advantage of returns on investment in later years of vessels. The policy of 15 years is not maximizing the profits and returns of the investments. A more optimal policy can be identified to maximize the returns and profits – using the solver calculation the optimal policy tend to be the 19 years use of vessels.

3) Suppose Ocean Carriers pays fixed annual dues of $500,000 to an association of ship owners that provides...
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