Questions

1. What are the relevant cash flows under the two alternatives?
2. For your analysis, consider the following assumptions:
   1. Depreciation is based on straight-line method
   2. The diesel boat if acquired would be sold at the end of 20 years
   3. Diesel parts inventory can be depreciated over a 25 year life
   4. The hull of the diesel ($265,000) would be depreciated over 25 years and the engines over 10 years
   5. The book cost of the Cynthia plus rehabilitation costs would be depreciated over 20 years if rehab is chosen
   6. The $32,500 residual value for the diesel in Year 20 assumes no engine overhaul in Year 20
3. Would you recommend the rehabilitation of Cynthia or the purchase of the new diesel boat?

Table A Annual Operating Costs for the Conway and Its Crew Wages $1 10,200 Vacation and sickness benets 1,880 Social security payments 2,400 Life insurance 1,800 Commissary supplies 15,420 Repairs and maintenance 24,400 Fuel 34,500 Miscellaneous service and supplies 12 550 Total $203,150 An alternative to rehabilitating the steamboat was the purchase of a diesel-powered boat. The Quapelle Company, a local boat manufacturer, quoted the price of $325,000 for a diesel boat. An additional $75,000 for a basic parts inventory would be necessary to service a diesel boat, and such an inventory would be sufficient to service up to three diesel boats. If four or more diesels were purchased, however, it was estimated that additional spare parts inventory would be necessary. The useful life of a diesel-powered boat was estimated to be 25 years; at the end of that time the boat would be scrapped or completely rehabilitated at a cost approximately that of a new boat. The controller did not contemplate the possibility of diesel engine replacement during the 25-year life, since information from other companies having limited experience with diesel-powered riverboats did not indicate that such costs needed to be anticipated. A general overhaul of the engines, costing $60,000 at current prices, would, however, be expected every 10 years. After consulting the Quapelle Company and other companies operating diesel-powered boats, the controller estimated that the annual operating costs of such a boat would total $156,640 (see Table B). Table B Annual Operating Costs for a Diesel-Powered Boat Wages for a 13-person crew $ 77,300 Vacation and sickness benets 1,320 Social security payments 1,680 Life insurance 1,170 Commissary supplies 10,020 Repairs and maintenancea 21 ,700 Fuel 28,800 Miscellaneous service and supplies 14 650 Total $155,640 aExclrrclir'rg possible major overhaul of diesel engines Although the Economy Shipping controller had not considered the matter, at the end of the twentieth year the diesel boat would have a realizable value of $32,500 and the inventory of parts, $37,500. Another factor the controller was considering at this time was alternative uses of funds. In the spring of 1950, Economy had sufficient funds to buy four diesel-powered boats; however, there were alternative uses for these funds. The other projects the management was considering at this time had an estimated return of at least 10% after taxes. The income tax rate at the time was 48%