National Cruise Line, Inc. is considering the acquisition of a new ship that will cost $600,000,000. In this regard, the president of the company asked the CFO to analyze cash flows associated with operating the ship under two alternative itineraries: Itinerary 1, Caribbean Winter/Alaska Summer and Itinerary 2, Caribbean Winter/Eastern Canada Summer. The CFO estimated the following cash flows, which are expected to apply to each of the next 15 years:

Caribbean/Alaska Caribbean/ Eastern Canada

Net revenue $120,000,000 $105,000,000

Less:

Direct program expenses (25,000,000) (24,000,000)

Indirect program expenses (20,000,000) (20,000,000)

Non-operating expenses (21,000,000) (21,000,000)

Add back depreciation 115,000,000 115,000,000

Cash flow per year $169,000,000 $155,000,000

The estimated cost of the new ship and during of expected cash flows is:

Estimated cost of new ship

$600,000,000

Estimated period of cash flows in years

15

Required

a. For each of the itineraries, calculate the present values of the cash flows using required rates of return of both 12 and 16% using both present value factors and separately using Excel PV function. Assume a 15-year time horizon. Should the company purchase the ship with either or both required rates of return?

(Use Appendix Table B9.2 to arrive at the factor)

Caribbean/Alaska

12% Cash Flow

Factor

=

16%

=

Caribbean/ Eastern Canada

12%

=

16%

=

Caribbean/Alaska Caribbean/ Eastern Canada

Rate

12% 16% 12% 16%

Number of periods

Cash Flow

Future value $0 $0 $0 $0

Type

0 0 0 0

PV

For the PV values in cells D49,E49, F49, G49, use the Microsoft excel functions.If you need help with the excel function, See Appendix A

Should the company purchase the ship with either or both required rates of return? Explain.

b. The president is uncertain whether a 12 percent or a 16 percent required return is appropriate. Explain why,

c. Focusing on a 12 percent required rate of return, what would be the opportunity cost to the company of using the ship in the Caribbean/Eastern Canada itinerary rather than a Caribbean/Alaska itinerary?