Project: Ship Rental Analysis--International
(Taxi spreadsheet might be helpful, as a starting place, to develop this analysis—but it will require significant work to accommodate the following project.)
The firm purchases a ship to rent out. Only equity capital is used, no debt. The terms of the rental are such that the services of a ship operator are included in the lease of the equipment, in a manner similar to the Taxi analysis, wherein the taxi provides the vehicle, and driver.
The firm is contemplating the following:
Acquisition cost € 1,000,000
Years of useful life (economic life) 5
Tax rate 0%
Required rate of return on equity 10%
Annual revenues € 2,000,000
Operating expenses include only: “Other expenses” of € 1,500,000, plus depreciation.
The current exchange rates for USD/EUR:
Time
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0
|
1
|
2
|
3
|
4
|
5
|
USD per EUR
|
$1.10/ €1
|
$1.13/ €
|
$1.15/€ 1
|
$1.17/€1
|
$1.19/€1
|
$1.22/€1
|
Terminology
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“Spot” price for the Euro, “today”
(from Bloomberg)
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Forward/Futures prices (from futures curve at Chicago Mercantile Exchange) Note: these are also expected spot prices at these dates in the future, via Rational Expectations.
|
Tips:
1.Depreciate straight-line over the years of useful life down to € 0. The ship will be disposed of at end of the fifth year at no cost.
2. The maximum dividend is paid annually. Euros are exchanged for dollars to repatriate the cashflows to payout as dividends.
3. Ignore any working capital effects.
Please include in the analysis:
0. FX CONVERSION: How many dollars will it take to purchase the Euros needed to purchase the ship?
1. CASHFLOW ANALYSIS: convert Euros to U.S. dollars
2. PROJECT SELECTION: Does this project deserve consideration? Discuss.
3. WEALTH CREATION: How much wealth, if any, will the project create?
4. PROJECT RETURN: What is the project’s IRR? [ Appendix to “Project Analysis” and “Excel IRR spreadsheet” might be helpful here.]
5. RETURN TO SHAREHOLDERS: What is shareholder’s total rate of return?
6. RISK ANALYSIS: Address the project risk which results from foreign exchange. For example, what if exchange rates are +/5% higher than expected (i.e. multiply FX rates by 1.05)?
7. STRUCTURING INCENTIVE-COMPATIBLE COMPENSATION CONTRACT: describe the manner in which an incentive contract can be structured to split the Euro-denominated wealth created from year 2 operations, 20% to the executive and 80% to the shareholders.