46.26 Moray Ferries Ltd own a single ship which provides a short sea ferry service for passengers, private vehicles and commercial traffic. The present ship is nearing the end of its useful life and the company is considering the purchase of a new ship.

The forecast operating budgets using the present ship are as follows:

2005 2006 2007 2008 2009 Estimated revenue receipts £m £m £m £m £m Private traffic 2 3 4.5 6 7 Commercial traffic 3 4 4.5 iS u6 5 7 9.0 11 13 Estimated operating payments 4 i} 6.5 72 §

al Z 2.5 35 4 i i The ships being considered as a replacement are as described below.

1 Ship A. Cost £10m This ship is of similar capacity to the one being replaced, but being a more modern ship it is expected that extra business would be attracted from competitors. It is anticipated therefore that estimated revenue receipts would be 10% higher in each year of the present forecast. There would be no change in operating payments.

2 Ship B. Cost £14m This modern ship has a carrying capacity 30% greater than the present ship. It is expected that private traffic receipts would increase by £'/2m a year in each year of the forecast. Commercial traffic receipts are expected to increase by 15% in each of the first two years and by 30% in each of the remaining years.

Operating payments would increase by 20% in each year of the forecast.

Additional information:

3 The company’s cost of capital is 15% per annum.

4 It is company policy to assume that ships have a life of 20 years.

5 |t should be assumed that all costs are paid and revenues received at the end of each year.

6 The following is an extract from the present value table for £1:
12% 14% 15% 16%
Year 1 £0.893 £0.877 £0.870 £0.862 Year 2 £0.797 £0.769 £0.756 £0.743 Year 3 £0.712 £0.675 £0.658 £0.641 Year 4 £0.636 £0.592 £0.572 £0.552 Year 5 £0.567 £0.519 £0.497 £0.476 7 All calculations should be made correct to three places of decimals.
Required:

(a) Revised operating budgets for 2005-2009 for each of the alternatives being considered.

(b) Appropriate computations using the net present value method for each of the ships, A and B.

(c) A report providing a recommendation to the management of Moray Ferries Ltd as to which course of action should be followed. Your report should include any reservations that you may have.
(AQA (Associated Examining Board): GCE A-level!)