CASE:

Anatolia Construction Company specializes in railway construction. The company has established a solid reputation in railway construction, especially in the area of boring railway tunnels in high-risk geological formations such as sandstones. In recent years they took part in several high-profile projects, and the company has built a solid reputation in the market. In response to increasing number of projects, the company is planning to upgrade its machine park portfolio with a tunnel boring machine. They want to use this new machine, primarily in the new projects. The company recently awarded several tunnel projects in Yozgat, Sivas and Erzincan regions as a part of Ankara-Erzurum fast rail project. The new machine can excavate 10-15 meters per day, and it is an ideal fit to bore tunnels in soft rock formations of sedimentary formations of Yozgat and Sivas.

A new boring machine costs 40 million Euro. For operation costs, an hourly rate of 7000 Euro is a reasonable assumption based on 24-hour per day operation. Anatolia construction will be paid 20 thousand Euro per meter of tunnel completed. The company is expecting to have solid work for the next 5 to 10 years, as the government is planning to expand high-speed rail network to entire Turkey. However, the company has a signed contract for 2 years only, and the company has to bid for new contracts after that.

The company already has 5 million Euro in cash, and they hope to secure a private loan of 10 million Euro from an investor. This investor is not expecting any return in the first five years. However, he wants 15 million Euro back at the end of year 5.

As for the loan the company has three options:

Option 1.

Fixed 0.60 % per month for 10 years.

Option 2

An adjustable rate loan. The interest is %0.4 per month for the first 5 years. The company must pay at least the interest as a minimum monthly payment. After the fifth year, the interest readjusts to 0.9 percent per month. The loan should be paid off within 10 years. There is no early payment penalty. The company can pay off the outstanding balance at any time they choose.

Option 3

An adjustable rate loan. The interest is 0.1 % per month for the first 3 years. The interest readjusts to 1.5% per month from year 4 to 10.

Develop a financing strategy for Anatolia Engineering Company. Assume that the company can earn 0.75 percent interest on his unused cash reserves. The company can payback any loan early without any termination fee.

The hourly rate for the boring machine is 7000 Euro per hour. When machine remains idle, it still cost the company 1000 Euro per hour to keep the machine operation ready. There is also monthly fixed cost of 1 million Euro.

When developing strategies consider the cases where the machine is not operational for 24 hours.