Advanced Corporate Finance I
University of Zurich
Prof. Dr. Kjell G. Nyborg
Case Exercise 1: New Economy Transport„
Remark. Comparing editions 15, 14, 13 and 12 of the book reveals the following changes:
1. The sentence “Mr. Handy believes that all these outlays could be depreciated for tax
purposes in the seven-year MACRS class” in edition 12 is replaced by “Mr. Handy
believes that all these outlays could be written off immediately for tax purposes” in
edition 13, 14 and 15. The same logic applies to footnote: “. . . for tax depreciation
in the seven-year MACRS class” (edition 12) is replaced by “. . . for an immediate
100% bonus depreciation” (edition 13, 14 and 15), and
2. the tax rate of 35% in edition 12 is replaced by 21% in edition 13, 14 and 15.
Importantly, for this case study use the wording from the 12th edition.
Questions for Case 1 “New Economy Transport”
1. In part A), calculate the NPV of the proposed overhaul of the Vital Spark, with and
without the new engine and control system. To do the calculation, you will have to
prepare a spreadsheet table showing all costs after taxes over the vessel’s remaining
economic life. Take special care with your assumptions about depreciation tax shields
and inflation. Carry out this exercise separately using real and nominal cash flows.
Comment on any differences.
2. In part B), calculate and compare the equivalent annual cash flows of (a) basic
overhaul (i.e. without the new engine and control system) and operating the Vital
Spark for 12 more years, (b) extensive overhaul (with the new engine and control
system) and operating the Vital Spark for 12 more years, and (c) buying and operating the proposed replacement vessel for 20 years. Based upon this, what would you
recommend that NETCO should do?
3. In addition, answer the following questions qualitatively; that is without showing
calculations. Rather provide the intuition and the logic:
„
Case Exercise 1 uses the case study “New Economy Transport” from Brealey, Myers, Allen and
Edmans “Principles of Corporate Finance”, 15th, 14th, 13th and 12th editions, McGraw-Hill, Parts A
and B, BMAE 15th edn., p. 6-36 to 6-38, 14th edn., p. 181-182, 13th edn., p. 165-166, and 12th edn.,
p.159-161.
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(a) What happens to the NPV (and/or EACF) if you use a tax rate of 21% instead
of 35% (introduced with the US tax reform in 2018)?
(b) What happens to the NPV (and/or EACF) if you use the full, 100% write-off
instead of the MACRS depreciation.
(c) What do you think was the reason to replace the MACRS depreciation with
full, 100% write-off depreciation?
Explain your answers carefully but, importantly, also concisely.
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