Question

National Cruise Line is considering the acquistion of a new ship that will cost $200,000. In this regard, the president of the company asked the CEO to analyze cash flows under two itineraries (Alaska and Canada). See following cash flows:

Net Revenue: Alaska - 120,000,000, Canada-105,000,000

Less:

Direct Program Expense: Alaska- 25,000,000, Canada- 24,000,000

Indirect Program Expense- Alaska- 20,000,000, Canada- 20,000,000

Nonoperating Expense- Alaska-21,000,000, Canada- 21,000,000

Add Back Depreciation- Alaska 115,000,000, Canada- 115,000,000

Cash flow per year: Alaska 169,000,000, Canada 155,000,000

Calculate present values of the cash flows both Alaska and Canada using required rate of return at both 12% and 16% and assume a 15 year time horizon.

Focusing on 12 percent required rate of return, what would the oppurtunity cost to the company of using the ship in a Canda itenerary rather than Alaska itenenary be?

Answer 1

Present value = FV*(1/(1+r%))(n)              
where:                  
FV   Future Value              
r%   Rate of return              
n   No.of years  

           
Cash Flow ( Alaska)   169,000,000               
Rate of Return   12% 16%  
Years PV Factor      PV Factor     
1 0.8929 150,892,857 0.8621 145,689,655
2   0.7972 134,725,765 0.7432 125,594,530
3 0.7118   120,290,862   0.6407 108,271,147
4 0.6355   107,402,555   0.5523 93,337,196
5 0.5674   95,895,139   0.4761 80,463,100
6 0.5066   85,620,659 0.4104 69,364,741
7 0.4523   76,447,017   0.3538 59,797,191
8 0.4039   68,256,266 0.3050 51,549,302
9 0.3606   60,943,094   0.2630 44,439,054
10   0.3220   54,413,477 0.2267 38,309,529
11 0.2875   48,583,462 0.1954 33,025,456
12 0.2567   43,378,091 0.1685 28,470,221
13 0.2292   38,730,438 0.1452 24,543,294
14 0.2046   34,580,748 0.1252 21,158,012
15 0.1827   30,875,668 0.1079 18,239,665
                  
                  
                  
Cash Flow (Canada)   155,000,000               
Rate of Return   12% 16%  
Years   PV factor PVfactor  
1 0.8929   138,392,857        0.8621   133,620,690
2 0.7972   123,565,051        0.7432   115,190,250
3 0.7118   110,325,938        0.6407   99,301,939
4 0.6355   98,505,302 0.5523   85,605,120
5 0.5674   87,951,163 0.4761   73,797,517
6 0.5066   78,527,824 0.4104   63,618,549
7 0.4523   70,114,128 0.3538   54,843,577
8 0.4039   62,601,900 0.3050   47,278,946
9 0.3606   55,894,554        0.2630   40,757,712
10 0.3220   49,905,852        0.2267   35,135,959
11 0.2875   44,558,796        0.1954   30,289,619
12 0.2567   39,784,639        0.1685   26,111,741
13    0.2292   35,521,999        0.1452   22,510,121
14 0.2046   31,716,071        0.1252   19,405,277
15 0.1827   28,317,920        0.1079   16,728,687
                  
                  
Opportunity Cost =   Return on foregone option - return on choosen option              
                  
Opportunity Cost to the company if Canada Itenerary is choosen over Alaska Itenerary

Return on Alaska Itenerary - Return on Canada Itenerary                  
30,875,668 - 28,317,920 =    2,557,748