Shipping Evaluation $$

Dark Star Enterprises $($DSE$),$ which you work for as CFO has decided to diversify their transportation operations. Currently, the company is active in leasing box and tank cars to US based railroads. The company has $10,000$ railroad cars under lease contracts $($a railroad car costs about $$100,000$ to purchase$).$ An investment opportunity has recently come up$,$ which involves the purchase of a shipping company that owns two $(2)$ ships, the Mariner and the Jahre Viking. Each vessel is $100,000$ deadweight $($dwt$)$ tons and both will serve the route between Abu Dhabi and Tokyo for Shell on a $20-$year contract basis. The ship type is referred to as an AFRAMAX tanker and is about $240$ to $245$ yards in length and can carry about $600,000$ to $800,000$ barrels of crude oil. You have been asked to do a valuation of two of the tankers$,$ the Jahre Viking and the Mariner. Based on your analysis, the following data is available.

Daily running costs for each oil tanker: $$9,000$ per day.

While the oil tanker is expected to operate every day of the year, Shell will not pay for downtime such as maintenance. Based on industry information, you determine that in the first $10$ years of operation, $15$ days per year will be required to perform necessary maintenance and repairs. In the second five years of operation, this will increase to $25$ days per year. For the remaining life of the ship, non$-$revenue days will increase to $40$ days per year. Note that the company has a policy of not operating ships older than $20$ years. The scrap value is estimated to be $$5$ million at the end of $25$ years.

Shell had offered to pay $$21,000$ per day but this will be subject to adjustments based on the age of the ships. Shell wants to portray themselves as an environmentally friendly company and requested the following adjustments to the daily rate $($generally$,$ the younger the ship the higher the rate$).$ Daily hire rate adjustment factor:

a$)4$ years and younger: $1\mathrm{.}12$

b$)5$ to $9$ years: $1\mathrm{.}03$

c$)10$ to $15$ years: $\mathrm{.}75.$

d$)16$ to $25$ years: $\mathrm{.}65$

A new ship would cost $$115$ million.

The ship would be depreciated straight$-$line over $25$ years $($assuming the ship would be in use for $25$ years$)$ with no salvage value.

An additional investment in working capital of $$2,000,000$ will be required, all of which is "returnable" at the end of the life of the ship or at the end of the contract, as appropriate. The Corporate tax rate is zero since the ship will be registered in Panama.

The discount rate is $10$ percent.

The market value of the ship at the end of year $20$ would be $$20$ million.

The age of the Mariner $($ship $1)$ is $10$ years; and the Jahre Viking $($ship $2),$ is brand new.

Cash Flow to value on a per share basis for similar firms is $9.$ This is similar to the p$/$e ratio, but it is based on cash flow rather than earnings. Price to earnings ratio for similar firms is $12.$

Required: Using the present value method $($PV$),$ what is the value of Jahre Viking? What is the value of the Mariner? Please note that you will need to replace the Mariner in your calculation by purchasing another ship after $10$ years. This is necessary since your

investment horizon is $20$ years. For the second ship, assume that it is sold when the contract is completed in $20$ years.

Show your supporting calculations and document your assumptions. The difficulties in this case are: $(1)$ to come up with a defensible cash flow forecast based on realistic assumptions, $(2)$ deal with some technical issues $(3)$ make assumptions that will hold when the auditor scrutinizes your valuation, $(4)$ how to deal with the volatility in shipping prices and daily shipping rates. Please provide a list of decisions you need to make in bullet point format. Note that you must perform the discounted cash flow analysis $($PV$)$ and all calculations and formulas should be done in an Excel sheet. If you feel that some information is missing,