W3_Wimbo_ Alternative Selection for Own Fleet Procurement Using IRR, ERR and Discounted Payback Period

W3_Wimbo_ Alternative Selection for Own Fleet Procurement Using IRR, ERR and Discounted Payback Period

1.      Problem recognition, definition and evaluation

In this year our company have plan to invest 1 unit oil tanker (30.000 DWT) that will be used for transport oil from Dumai to Jakarta. The problem for the management is to decide which method that will be chosen to own chemical tanker. In common we should compare between build new tanker or buy existing tanker (second hand tanker).

2.      Development of the feasible alternatives

There are two possible alternative to own tanker:

-         a. Build New tanker

-         b.  Buy existing tanker (second hand)

We will compare which alternative could give more benefit for our company. In this time we using economical analysis using IRR, ERR and discounted payback period parameter to decide which alternative give more financial benefit for our company.

3.      Development of the outcomes

Build new tanker, our company need to wait minimum 24 month for EPC period, operation life time 20 years. Market data show that tanker price is USD 30.0 Million project cost needed USD 1.5 million.

Buy existing tanker (secondhand), the vessel can directly use. Tanker’s price is cheaper than new tanker. Market data show that tanker price is USD 27.0 Million and administration cost need USD 0.5 million.

4.     Acceptable Criteria

To meet company requirement, those alternatives method should give benefit to our company.

Term and condition a special tanker could be accepted by our company:

Have Special technical specification

Age of the tanker                    : less than 20 years

For new building option the tanker could be operated on 20 years 

For second hand option tanker (YOB 2006) could be operated on 14 years.

Revenue for the vessel           : USD 25.000 / day

No salvage value at the end of the useful period

To analyze which method that could meet the company requirement, we use economical calculation to analyze each alternative with parameter IRR, ERR and discounted payback period

Build new special tanker

  

Project ERR  by using equation (5-8) from Engineering Economic fifteenth edition

(12.600.000+12.600.000(P/F,10%,1)+6.300.000(P/F,10%,2)(F/P,i%,21) = 4.462.500(F/A,10%,20)

(12.600.000+12.600.000*0.909+6.300.000*0.827) (F/P,i%,21) = 4.462.500*57.27

(F/P,i%,21)=  (255.589.685,24) / (29.261.157,025)

                             = 8,73

                        i% = (8,73) / (1+10%)²¹

                                     = 10,87%

Buy secondhand tanker

Assuming:

1 unit tanker candidate with same technical specification and have 6 years old offering to our company.

Project ERR  by using equation (5-8) from Engineering Economic fifteenth edition

27.500.000 (F/P,i%,21) = 4.058.044(F/A,10%,21)

27.500.000 (F/P,i%,21) = 4.058.044*27.98

         (F/P,i%,21) =  (113.523.702,81) / (27.500.000)

                                                   = 4,13

                                               i% = (4,13) / (1+10%)¹⁴

                                                          = 10,66%

6.      Selection of the preferred alternative

According economical analysis IRR, ERR and discounted payback period result as below :

Parameter	Newbuilding	Second hand
IRR	11,03%	13,84%
ERR	10,87%	11,29%
Disc. Payback period	16,42 year	11,0 year

Alternative method which have benefit for company is secondhand tanker. The value of economical parameter show that secondhand tanker have higher than newbuilding tanker.

7.      Performance Monitoring & Post Evaluation of Result

The project will be monitored and evaluate by compare between initial project calculation and actual financial report from operation and financial department .

References:

i.         Shipping Intellegence Network , retrieved from :

http://www.clarksons.net/sin2010/markets/Default.aspx

ii.       Market Focus : Oil Tanker, retrieved from

http://www.drewry.co.uk/publications/list_publications.php?market=34

iii.     How to calculate your Return On Investment, retrieved from :

http://www.fatpitchfinancials.com/392/how-to-calculate-your-return-on-investment/

iv.  Sullivan, G. William, Wicks, Elin M & Koelling, C. Patrick (2012). Engineering Economic 15^th       Edition: Chapter 5 Evaluation a Single Project, pp. 205-208.