Business Studies
Title:
Part A and Part B: Case studies
Paper instructions:
There are two parts to this assignment. This assignment should include:
what are you going to do. How you are going to do it and why you are doing it. Interpret the results.
Part A – case study and to prepare excel sheet to support the analysis. Evaluate the BIG Bright Star investment project on behalf of BIG Rederij NV. Advise the firm whether they should undertake the project on a financial basis. Your answer must be presented in the form of a report of 2500 words total. You must also submit an Excel spreadsheet containing your calculations and an appropriate formula linked Assessment model.
For Part B – Select ONE of the below topics and give a critical appraisal of how they are implemented in
your own organisation or a similar organisation. Emphasis should be placed on whether adopted procedures are conceptually sound and the extent to which they could be improved. You should confine your research to content which is in the public domain and avoid any activity which may require university ethics approval.
Your answer must be presented in the form of a 1500 word appendix to the above report.
Topic 1: Identify the strategies adopted by your organisation to enable the creation and maintenance of value and show how such strategies are linked to the performance Assessment system. Suggest how improvements could be made.
Topic 2: Evaluate the financial and operating risks faced by your organisation and the strategies adopted for mitigating these risks. Show how such strategies are linked to the performance Assessment system. Suggest how improvements could be made.
BIG BRIGHT STAR INVESTMENT PROJECT
Assignment PART A: Managing Financial Value Drivers
Student ID:
Word count: 2566
Contents
Executive Summary 3
1.0 Terms of reference 4
1.1 Aims 4
1.2 Scope 4
1.3 Limitations 4
2.0 Introduction 5
3.0 Analysis 6
3.1 Initial cost 6
3.2 Depreciation 6
3.3 Estimation of revenues 6
3.4 Operating costs 8
3.4.1 Crew costs 8
3.4.2 Fuel costs 8
3.4.3 Maintenance costs 8
3.4.4 Other operating costs 9
3.5 Estimation of Cash flows for the Investment in Big Bright Star 13
4.0 Assessment of the Project 20
4.1 The cost of equity 20
4.2 Net Present value 20
5.0 Conclusion 23
6.0 References 24
7.0 Appendix 25
Executive Summary
This reports evaluates the viability of investing in a Big Bright Star by B.I.G. Rederij NV, The reports evaluates both the initial capital outlays, expected revenues and expected operational costs. The project is appraised using net present value. The net present value technique shows that the project has a positive NPV meaning it’s a worthwhile investment.
1.0 Terms of reference
1.1 Aims
a) To determine the viability of the project.
b) To assess how net present value is sufficient for examining the project viability.
1.2 Scope
The analysis will employ capital budgeting technique to assess the project.
1.3 Limitations
To achieve better results, time value of money is considered by discounting the cash inflows.
2.0 Introduction
The directors of B.I.G. Rederij NV believe they need to invest in a larger vessel in order to remain profitable. The new vessel will operate solely between the Port of Shanghai and the London Gateway port, a distance of 11,866nm, via the Suez Canal. The vessel will carry containers bound for the UK and for destinations in mainland Europe. The company aims at investing in a 20,000 TEU capacity ship that would be used in sea freight services.
The aim of this report is to evaluate the viability of the investment. The report is going to employ net present value to assess the viability of the project.
3.0 Analysis
3.1 Initial cost
The initial cost comprises of both the acquisition value of the new ship and the cost of recruitment and training of crew members. These are the total cost of investment in the new ship.
Initial cost $ €
Acquisition cost 180,000,000.00 165,137,614.68
Recruitment and training 15,000,000.00 13,761,467.89
Total 195,000,000.00 178,899,082.57
3.2 Depreciation
The new ship is expected to have a useful life of 24 years. The scrap value of the ship is $10,000,000 and its acquisition cost is $180,000,000. Depreciation will be estimated using a straight-line method since the scrap value and its useful life have been provided. In straight-line depreciation method it assumed the ship will depreciate at the same rate equally over its useful life. The table below indicates the rate of depreciation per year for the ship.
Straight line basis $ €
Cost 180,000,000 165,137,614
Scarp value 10,000,000 9,174,311
Diff 170,000,000 155,963,302
Useful life 24 24
Depreciation per year 7,083,333 6,498,470.95
3.3 Estimation of revenues
The Big Bright Star has a capacity of 20,000 TEU but it is estimated to only carry 80% capacity. The ship will further be used to carry 40ft containers. In this case the total units carried are as follows.
20ft = 20,000TEU
40ft= 10,000
But load capacity is 80%, then the capacity will be 8,000.
Total = 8000*12 journeys = 96000units
The cost per 40ft container is $1769 in the first year but is expected to rise by 1% between 2024 and 2026 and thereafter it will rise by 3%. The expected revenue is estimated as follows;
Year 2023 2024 2025 2026 2027
Units 96,000 96,000 96,000 96,000 96,000
Price per unit 1,769 1,787 1,805 1,823 1,877
Total revenue 169,824,000 171,522,240 173,237,462 174,969,837 180,218,932
Year 2028 2029 2030 2031 2032
Units 96,000 96,000 96,000 96,000 96,000
Price per unit 1,934 1,992 2,051 2,113 2,176
Total revenue 185,625,500 191,194,265 196,930,093 202,837,996 208,923,136
Year 2033 2034 2035 2036 2037
Units 96,000 96,000 96,000 96,000 96,000
Price per unit 2,242 2,309 2,378 2,449 2,523
Total revenue 215,190,830 221,646,555 228,295,951 235,144,830 242,199,175
Year 2038 2039 2040 2041 2042
Units 96,000 96,000 96,000 96,000 96,000
Price per unit 2,599 2,677 2,757 2,840 2,925
Total revenue 249,465,150 256,949,105 264,657,578 272,597,305 280,775,224
Year 2043 2044 2045 2046
Units 96,000 96,000 96,000 96,000
Price per unit 3,012 3,103 3,196 3,292
Total revenue 289,198,481 297,874,435 306,810,668 316,014,988
In the estimation of the revenuers the changes in the price per 40ft container has been considered. The adjustments are done to cover the estimated changes in the total expected revenue to be generated by the Big Bright Star ship. These revenues will be used in the estimation of the expected cash flows of the company.
3.4 Operating costs
The costs of operating the Big Bright Star have been categorized as crew costs, fuel costs, maintenance costs and other operating costs. Each of the cost item is expected to reduce the revenues for each year. Therefore, these costs are discussed as follows.
3.4.1 Crew costs
Each crew is expected to have 53 personnel and the cost of each personnel will be $50,000. The total crews required are two to allow change in shifts between the crew members. The crew cost will be $50,000 in the first year per crew member and is expected to rise by 2% each year.
3.4.2 Fuel costs
To achieve optimal full efficiency the Big Bright Star will use 377.51 tons of oil per day. Each ton of oil will cost the company $476.81 in the first year but will eventually increase by 3% thereafter. The ship expected to travel everyday hence the total fuel used will be constant each day every year. Assume each year has 365 days.
3.4.3 Maintenance costs
The ship is expected to undergo maintenance and repair, dry dock maintenance every 5 years and diesel overhaul every 10 years. These costs are necessary in ensuring the ship is in the correct position. The annual routine for maintenance and repair is expected to cost $12.07 million and will gradually increase by 3% from the following year. The cost of dry dock maintenance will be $ 25,000,000 in the first five years which will therefore increase by 5 million the subsequent five years. Diesel overhaul is expected to cost $35, 000,000 every 10 years. These costs are incurred to ensure the suitability of the ship to conduct its daily trips between Shanghai and London.
3.4.4 Other operating costs
The ship will further require insurance, harbor and pilotage as well as consumables and other incidental costs. The total insurance cost per year is estimated as $ 5.98 million in the first year and is expected to increase by 5% thereafter. Also, the harbor and pilotage costs are expected to be $ 6.45 million in the first year, and increase by 2% each year thereafter. Moreover the consumables and incidental costs are expected to be $ 4.26 million in year 1 and increase by 2% each year thereafter.
The total estimated operational costs for the next 24 years are as follows;
Year 2023 2024 2025 2026
Less Costs
Crew costs (5,300,000) (5,406,000) (5,514,120) (5,624,402.)
Fuel costs (65,700,198) (67,671,204) (69,701,340) (71,792,380)
Maintenance and repair costs (12,070,000) (12,432,100) (12,805,063) (13,189,214)
Dry dock maintenance – – – –
Diesel overhaul – – – –
Other operating costs
Insurance (5,980,000) (6,279,000) (6,592,950) (6,922,597)
Harbour and pilotage (6,450,000) (6,579,000) (6,710,580) (6,844,791)
Consumables and incidental (4,260,000) (4,345,200) (4,432,104) (4,520,746.)
Total costs (99,760,198) (102,712,504) (105,756,157) (108,894,132)
Year 2027 2028 2029 2030 2031
Less Costs
Crew costs (5,736,890) (5,851,628) (5,968,660) (6,088,034) (6,209,794)
Fuel costs (73,946,151) (76,164,536) (78,449,472) (80,802,956) (83,227,045)
Maintenance and repair costs (13,584,891) (13,992,438) (14,412,211) (14,844,577) (15,289,914)
Dry dock maintenance (25,000,000) – – – –
Diesel overhaul – – – – –
Other operating costs
Insurance (7,268,727) (7,632,163) (8,013,771) (8,414,460) (8,835,183)
Harbour and pilotage (6,981,687) (7,121,321) (7,263,747) (7,409,022) (7,557,203)
Consumables and incidental (4,611,161) (4,703,384) (4,797,451) (4,893,400) (4,991,268)
Total costs (137,129,509) (115,465,471) (118,905,316) (122,452,452) (126,110,410)
Year 2032 2033 2034 2035 2036
Less Costs
Crew costs (6,333,991) (6,460,670) (6,589,884) (6,721,682) (6,856,115)
Fuel costs (85,723,857) (88,295,573) (90,944,440) (93,672,773) (96,482,956)
Maintenance and repair costs (15,748,612) (16,221,071) (16,707,703) (17,208,934) (17,725,202)
Dry dock maintenance (30,000,000) – – – –
Diesel overhaul (35,000,000) – – – –
Other operating costs
Insurance (9,276,943) (9,740,790) (10,227,829) (10,739,221) (11,276,182)
Harbour and pilotage (7,708,347) (7,862,514) (8,019,764) (8,180,160) (8,343,763)
Consumables and incidental (5,091,094) (5,192,916) (5,296,775) (5,402,710) (5,510,764)
Total costs (194,882,844) (133,773,534) (137,786,395) (141,925,479) (146,194,982)
Year 2037 2038 2039 2040 2041
Less Costs
Crew costs (6,993,237) (7,133,102) (7,275,764) (7,421,280) (7,569,705)
Fuel costs (99,377,445) (102,358,768) (105,429,531) (108,592,417) (111,850,190)
Maintenance and repair costs (18,256,958) (18,804,667) (19,368,807) (19,949,871) (20,548,367)
Dry dock maintenance (35,000,000) – – – –
Diesel overhaul – – – – –
Other operating costs
Insurance (11,839,991) (12,431,991) (13,053,590) (13,706,270) (14,391,583)
Harbour and pilotage (8,510,638) (8,680,851) (8,854,468) (9,031,557) (9,212,188)
Consumables and incidental (5,620,980) (5,733,399) (5,848,067) (5,965,028) (6,084,329)
Total costs (185,599,249) (155,142,777) (159,830,227) (164,666,423) (169,656,362)
Year 2042 2043 2044 2045 2046
Less Costs
Crew costs (7,721,099) (7,875,521) (8,033,032) (8,193,692) (8,357,566)
Fuel costs (115,205,695) (118,661,866) (122,221,722) (125,888,374) (129,665,025)
Maintenance and repair costs (21,164,818) (21,799,763) (22,453,755) (23,127,368) (23,821,189)
Dry dock maintenance (40,000,000) – – – –
Diesel overhaul (35,000,000) – – – –
Other operating costs
Insurance (15,111,162) (15,866,720) (16,660,056) (17,493,059) (18,367,712)
Harbour and pilotage (9,396,432) (9,584,361) (9,776,048) (9,971,569) (10,171,000)
Consumables and incidental (6,206,016) (6,330,136) (6,456,739) (6,585,873) (6,717,591)
Total costs (249,805,222) (180,118,367) (185,601,352) (191,259,936) (197,100,083)
3.5 Estimation of Cash flows for the Investment in Big Bright Star
Year 2023 2024 2025 2026 2027
Units 96,000 96,000 96,000 96,000 96,000
Price per unit 1,769 1,787 1,805 1,823 1,877
Total revenue 169,824,000 171,522,240 173,237,462 174,969,837 180,218,932
Less Costs
Crew costs (5,300,000) (5,406,000) (5,514,120) (5,624,402) (5,736,890)
Fuel costs (65,700,198) (67,671,204) (69,701,340) (71,792,381) (73,946,152)
Maintenance and repair costs (12,070,000) (12,432,100) (12,805,063) (13,189,215) (13,584,891)
Dry dock maintenance – – – – (25,000,000)
Diesel overhaul – – – – –
Other operating costs
Insurance (5,980,000) (6,279,000) (6,592,950) (6,922,598) (7,268,727)
Harbour and pilotage (6,450,000) (6,579,000) (6,710,580) (6,844,792) (6,981,687)
Consumables and incidental (4,260,000) (4,345,200) (4,432,104) (4,520,746) (4,611,161)
Total costs (99,760,198) (102,712,504) (105,756,157) (108,894,133) (137,129,510)
Operating profit 70,063,802 68,809,736 67,481,305 66,075,704 43,089,423
Less Depreciation (7,083,333) (7,083,333) (7,083,333) (7,083,333) (7,083,333)
Profit before tax 62,980,468 61,726,402 60,397,972 58,992,371 36,006,089
Add back deprecation 7,083,333 7,083,333 7,083,333 7,083,333 7,083,333
Total cash flows 70,063,802 68,809,736 67,481,305 66,075,704 43,089,423
Year 2028 2029 2030 2031 2032
Units 96,000 96,000 96,000 96,000 96,000
Price per unit 1,934 1,992 2,051 2,113 2,176
Total revenue 185,625,500 191,194,265 196,930,093 202,837,996 208,923,136
Less Costs
Crew costs (5,851,628) (5,968,661) (6,088,034) (6,209,795) (6,333,991)
Fuel costs (76,164,536) (78,449,473) (80,802,957) (83,227,045) (85,723,857)
Maintenance and repair costs (13,992,438) (14,412,211) (14,844,578) (15,289,915) (15,748,612)
Dry dock maintenance – – – – (30,000,000)
Diesel overhaul – – – – (35,000,000)
Other operating costs
Insurance (7,632,164) (8,013,772) (8,414,461) (8,835,184) (9,276,943)
Harbour and pilotage (7,121,321) (7,263,748) (7,409,023) (7,557,203) (7,708,347)
Consumables and incidental (4,703,384) (4,797,452) (4,893,401) (4,991,269) (5,091,094)
Total costs (115,465,472) (118,905,316) (122,452,452) (126,110,411) (194,882,844)
Operating profit 70,160,028 72,288,949 74,477,641 76,727,585 14,040,292
Less Depreciation (7,083,333) (7,083,333) (7,083,333) (7,083,333) (7,083,333)
Profit before tax 63,076,695 65,205,616 67,394,307 69,644,252 6,956,958
Add back deprecation 7,083,333 7,083,333 7,083,333 7,083,333 7,083,333
Total cash flows 70,160,028 72,288,949 74,477,641 76,727,585 14,040,292
Year 2033 2034 2035 2036 2037
Units 96,000 96,000 96,000 96,000 96,000
Price per unit 2,242 2,309 2,378 2,449 2,523
Total revenue 215,190,830 221,646,555 228,295,951 235,144,830 242,199,175
Less Costs
Crew costs (6,460,670) (6,589,884) (6,721,682) (6,856,115) (6,993,237)
Fuel costs (88,295,573) (90,944,440) (93,672,773) (96,482,956) (99,377,445)
Maintenance and repair costs (16,221,071) (16,707,703) (17,208,934) (17,725,202) (18,256,958)
Dry dock maintenance – – – – (35,000,000)
Diesel overhaul – – – – –
Other operating costs
Insurance (9,740,790) (10,227,829) (10,739,221) (11,276,182) (11,839,991)
Harbour and pilotage (7,862,514) (8,019,764) (8,180,160) (8,343,763) (8,510,638)
Consumables and incidental (5,192,916) (5,296,775) (5,402,710) (5,510,764) (5,620,980)
Total costs (133,773,534) (137,786,395) (141,925,479) (146,194,982) (185,599,249)
Operating profit 81,417,296 83,860,160 86,370,473 88,949,848 56,599,926
Less Depreciation (7,083,333) (7,083,333) (7,083,333) (7,083,333) (7,083,333)
Profit before tax 74,333,963 76,776,827 79,287,139 81,866,515 49,516,593
Add back deprecation 7,083,333 7,083,333 7,083,333 7,083,333 7,083,333
Total cash flows 81,417,296 83,860,160 86,370,473 88,949,848 56,599,926
Year 2038 2039 2040 2041 2042
Units 96,000 96,000 96,000 96,000 96,000
Price per unit 2,599 2,677 2,757 2,840 2,925
Total revenue 249,465,150 256,949,105 264,657,578 272,597,305 280,775,224
Less Costs
Crew costs (7,133,102) (7,275,764) (7,421,280) (7,569,705) (7,721,099)
Fuel costs (102,358,768) (105,429,531) (108,592,417) (111,850,190) (115,205,695)
Maintenance and repair costs (18,804,667) (19,368,807) (19,949,871) (20,548,367) (21,164,818)
Dry dock maintenance – – – – (40,000,000)
Diesel overhaul – – – – (35,000,000)
Other operating costs
Insurance (12,431,991) (13,053,590) (13,706,270) (14,391,583) (15,111,162)
Harbour and pilotage (8,680,851) (8,854,468) (9,031,557) (9,212,188) (9,396,432)
Consumables and incidental (5,733,399) (5,848,067) (5,965,028) (6,084,329) (6,206,016)
Total costs (155,142,777) (159,830,227) (164,666,423) (169,656,362) (249,805,222)
Operating profit 94,322,373 97,118,877 99,991,155 102,940,943 30,970,002
Less Depreciation (7,083,333) (7,083,333) (7,083,333) (7,083,333) (7,083,333)
Profit before tax 87,239,039 90,035,544 92,907,822 95,857,610 23,886,668
Add back deprecation 7,083,333 7,083,333 7,083,333 7,083,333 7,083,333
Total cash flows 94,322,373 97,118,877 99,991,155 102,940,943 30,970,002
Year 2043 2044 2045 2046
Units 96,000 96,000 96,000 96,000
Price per unit 3,012 3,103 3,196 3,292
Total revenue 289,198,481 297,874,435 306,810,668 316,014,988
Less Costs
Crew costs (7,875,521) (8,033,032) (8,193,692) (8,357,566)
Fuel costs (118,661,866) (122,221,722) (125,888,374) (129,665,025)
Maintenance and repair costs (21,799,763) (22,453,755) (23,127,368) (23,821,189)
Dry dock maintenance – – – –
Diesel overhaul – – – –
Other operating costs
Insurance (15,866,720) (16,660,056) (17,493,059) (18,367,712)
Harbour and pilotage (9,584,361) (9,776,048) (9,971,569) (10,171,000)
Consumables and incidental (6,330,136) (6,456,739) (6,585,873) (6,717,591)
Total costs (180,118,367) (185,601,352) (191,259,936) (197,100,083)
Operating profit 109,080,114 112,273,083 115,550,733 118,914,905
Less Depreciation (7,083,333) (7,083,333) (7,083,333) (7,083,333)
Profit before tax 101,996,781 105,189,750 108,467,399 111,831,572
Add back deprecation 7,083,333 7,083,333 7,083,333 7,083,333
Total cash flows 109,080,114 112,273,083 115,550,733 118,914,905
4.0 Assessment of the Project
The project will be evaluated using net present value. Net present value is used to determine the difference between the total cost incurred at initial investment stages and the present value of the projected cash flows (Woo et al., 2019). In net present value, projected cash flows are discounted to estimate the present vale you of the future cash flows. These allows the investors to determine the net worth of an investment in the present terms. Therefore the method considers time value of money which makes it the most effective method to use in appraising projects.
4.1 The cost of equity
Ke is the cost of equity
Beta 1.52
Risk free rate 0.05%
Ke Rf + beta (Rm-Rf)
Assume Rm is 10% 10%
Ke 0.15
15%
The projected cash flows will be discounted at a present value interest factor of 15% to determine the present value of all cash flows for the project duration.
4.2 Net Present value
The present values are estimated as follows;
Year 2022 2023 2024 2025 2026 2027
Initial cost` (195,000,000) – – – – –
Cash flows – 70,063,802 68,809,736 67,481,305 66,075,704 43,089,423
Scrap value – – – – – –
Cash flows (195,000,000) 70,063,802 68,809,736 67,481,305 66,075,704 43,089,423
PVIF@15% 1.0000 0.8696 0.7561 0.6575 0.5718 0.4972
Present value (195,000,000) 60,925,045 52,030,046 44,370,053 37,778,998 21,423,058
Year 2028 2029 2030 2031 2032 2033
Initial cost` – – – – – –
Cash flows 70,160,028 72,288,949 74,477,641 76,727,585 14,040,292 81,417,296
Scrap value – – – – – –
Cash flows 70,160,028 72,288,949 74,477,641 76,727,585 14,040,292 81,417,296
PVIF@15% 0.4323 0.3759 0.3269 0.2843 0.2472 0.2149
Present value 30,332,116 27,176,094 24,346,873 21,810,768 3,470,545 17,500,096
Year 2034 2035 2036 2037 2038 2039 2040
Initial cost` – – – – – – –
Cash flows 83,860,160 86,370,473 88,949,848 56,599,926 94,322,373 97,118,877 99,991,155
Scrap value – – – – – – –
Cash flows 83,860,160 86,370,473 88,949,848 56,599,926 94,322,373 97,118,877 99,991,155
PVIF@15% 0.1869 0.1625 0.1413 0.1229 0.1069 0.0929 0.0808
Present value 15,674,064 14,037,616 12,571,163 6,955,819 10,079,739 9,024,858 8,079,797
Year 2041 2042 2043 2044 2045 2046 2046
Initial cost` – – – – – – –
Cash flows 102,940,943 30,970,002 109,080,114 112,273,083 115,550,733 118,914,905 –
Scrap value – – – – – – 10,000,000
Cash flows 102,940,943 30,970,002 109,080,114 112,273,083 115,550,733 118,914,905 10,000,000
PVIF@15% 0.0703 0.0611 0.0531 0.0462 0.0402 0.0349 0.0349
Present value 7,233,178 1,892,276 5,795,500 5,187,083 4,642,184 4,154,207 349,343
The net present value is computed as follows;
Present value of cash inflows- Present value of cash outflows
Net Present Value = $446,840,520 -$ 195,000,000
Net Present Value = $ 251,840,520
5.0 Conclusion
The company should invest in the project because it has a positive net present value. A positive net present value indicates that the project is a worthwhile investment and the company will generate more value by investing in such projects (Vale et al., 2017). The Assessment further shows that the project is profitable to the company as the net present value is positive and is expected to remain constant over the useful life of the project.
6.0 References
Vale, A. M., Felix, D. G., Fortes, M. Z., Borba, B. S. M. C., Dias, B. H., & Santelli, B. S. (2017). Analysis of the economic viability of a photovoltaic generation project applied to the Brazilian housing program “Minha Casa Minha Vida”. Energy Policy, 108, 292-298.
Woo, J., Kim, E., Sung, T. E., Lee, J., Shin, K., & Lee, J. (2019). Developing an Improved Risk-Adjusted Net Present Value Technology Valuation Model for the Biopharmaceutical Industry. Journal of Open Innovation: Technology, Market, and Complexity, 5(3), 45.
7.0 Appendix
Financial and Operational Risks Affecting the Organization
Introduction
The shipping industry is very volatile and there may risks involved in this business. These risks affect the performance of the company either positively or adversely depending on the strategies adopted by the specific company. Financial risks involves the probability of a financial loss or investment loss by a company. Operational risks involves the unexpected occurrences and other uncertainties that exist in the course of running a business. These risks have to be managed and companies need to devise suitable strategies to manage these risks. The aim of this paper is to examine the financial and operational risks that affect B.I.G Rederij NV. The paper further evaluates the strategies adopted by the company to manage these risks.
Financial Risks
Credit Risk
Most deals in the shipping industries are based on agreements between one party and the other. As a result of this, the risk arises when one party is required to honor an agreement made between it and the other party. In some cases the deal relates to simple charter contract between a ship-owner and a charterer, a newbuilding contact between an investor and a shipyard, or even a bunker transaction between a ship-owner and a bunker supplier. Therefore, this means both parties needs to honor those obligations to ensure that the contract has been completed. Failure to do so results in a credit risks. Also, a credit risks arises when a company relies on debt financing and is obligated to ensure principal and interest payments are made. Failure to do so exposes the company to a credit risk.
Currency risk
B.I.G Rederij NV conducts its transaction in foreign currency, the US Dollar. The local currency of the company is the euro. Therefore, as a result of this, the company is exposed to a currency risks. Its oils is acquired in the US dollar as well the most projects are dollar denominated. The currency risk for the company arises when there is need to make payments in foreign currency from the local currency (Holm, F., & Kalinovs, 2021). Therefore, this will mean there are foreign transactional losses which affect the profitability of the firm. Also, freight rates are determined using the US dollar and impending fluctuations are likely to adversely affect t the performance of the company. The currency risk results from this fluctuations and may limit the profitability of the firm.
Liquidity risk
The ability of a company to meet its current and future obligations is determined by the amount of liquidity is held. The company needs to maintain a high working capital minimize the liquidity risks likely to arise in the course of the business. B.I.G Rederij NV is involved in constant incurring of certain expenses which means the company need to be more liquid to minimize this risk (Yin, Chen, Xiao & Wang, 2020). Furthermore, the current ratio of the company needs to be manageable to avoid unnecessary cash outages in the company. In this case B.I.G Rederij is highly leveraged since its debt to equity ratio is more than one meaning the company has borrowed more than its total equity.
Equity risk
Equity risks affect the value of a shipping company. Since the freight rates are higher in the shipping industry, it means that the earnings in the industry are higher. However, on instances where the rates fall, the value of the enterprise reduces resulting into an equity risk (He, Sun, Zhang, & Li, 2020), Therefore, equity risks reflect on the performance of the company in the industry with a direct correlation to the performance of its shares on the stock exchange.
Operational Risks
Business interruption
The business of B.I.G Rederij NV is subject to interruptions caused by legal, environmental, and technological factors. Environmental factors involve the presence of tides, earthquakes and weather changes. These environmental factors are likely to limit the progress of the business. Legal factors involve change in legislation or political instability. These factors may hinder navigation through certain routes for the vessels leading to business interruption. Technological factors are further critical in the shipping industry since technology evolves very fast and there is likelihood of certain vessel technology becoming obsolete. Failure to respond to these technological changes may render a vessel inactive and this may lead to business interruption.
Health and Safety
Health and safetuy of crew members is one of the major risk affecting shipping industry. B.I.G Rederij is wary of instances of occupational health and safety of crew members. The see transport is one of the most dangerous mode of transport. Navigation through deep waters and presence of currents are likely to threaten the health and safety of crew members.
Errors and omissions
Crew members are sometimes susceptible to errors and omissions. Such errors include failure to dock a vessel to check for safety of all people aboard (Drummond, 2020). Also, errors occur when crew staff fail to ensure proper maintenance and repair of the ship is done. These errors and omissions are likely to limit the operations of the shipping company thereby decreasing operational capacity.
Competition risk
There are many players in the shipping industry. Due to this, competition is very high and this may affect the performance of the company in the long run. These companies compete through adoption of new technology. Increasing market operations and improving safety measures more than their competitors. The company is thus likely to lose staff and crew members to join an efficient firm. Therefore, competition possess a great operational risk to the performance of B.I.G Rederij.
Strategies to Mange Operational and Financial Risk
Diversification
Diversification involves the investment in more than one industry. The company should source an optimal investment structure to reduce the volatility in the shipping industry. The company can invest in a low risk, medium risk and averse risk industry to ensure its investments are protected. Diversification allows the company to generate revenues from another sector when the other is not performing. The strategy also allows the company to manage systematic risk likely to affect the financial performance of the firm. The strategy is useful in managing financial risks and operational risks affecting the shipping industry. The strategy further allows the generation of higher returns in the diversified assets by the company.
Hedging
Hedging safeguards a company against fluctuations in the foreign markets. In this case when a company exposed to currency risks hedging allows it to safeguard its assets (Fisch, & Puhr, 2021). The company can adopt both put and call options to safeguard prices of its fuel and costs of repairs and maintenance to minimize the risk of foreign currency risk. Consequently, hedging also allows the company to acquire future assets using call options to avoid loss of money. Thereby, this eliminates the currency risk which may negatively impact on the performance of the industry.
Insurance
The company can insure itself against financial and operational risks such as credit risk and occupational safety of the crew members. The company should also insure against business interruptions and other uncertainties caused by political instability. Insurance allows the company to safeguard its assets against future risks which may impede the normal operations of the company (Radanliev et al., 2018). Furthermore, insurance allows the company to put funds in a pool inform of premiums and in the event of a loss the company can be compensated for the loss.
Adoption of New Technology
The company needs to keep at par with technological changes in the industry. Failure to do so, certain innovations may become obsolete and replaced by better ones. As a result the company may not be able to meet the demands of its consumers. Therefore, it is important ensure technological needs are adopted in the company and continued upgrading of the systems and vessels. Due to this, the performance of the company will increase marginally thereby minimizing the risk of business loss. Also, new technology improves the organization and maintenance of records, meaning tracking of goods becomes easier and there are no unnecessary losses.
Conclusion
The shipping industry faces different risks. These risks mainly involve financial risks and operational risks. Financial risks affect the financial performance of the company limiting growth and investment. On the other hand, operational risks affect the day to day activities of the firm. Some of the financial risks include credit risks, equity risks, and currency risks. Operational risks include, business interruptions, competition, health and safety as well as errors and omissions. These risks can be managed through hedging, diversification, insurance and adoption of new technology. Shipping companies need to adopt these strategies to ensure risks are minimized and improve the operational efficiency of the firm.
References
Drummond, D. M. (2020). An Assessment of the Collision and Strict liability Framework for the Shipowner with respect to Autonomous vessels: A Norwegian Perspective (Master’s thesis).
Fisch, J. H., & Puhr, H. (2021). Financial hedging and operational flexibility as instruments to manage exchange‐rate uncertainty in multinational corporations. Global Strategy Journal.
He, P., Sun, Y., Zhang, Y., & Li, T. (2020). COVID–19’s impact on stock prices across different sectors—An event study based on the Chinese stock market. Emerging Markets Finance and Trade, 56(10), 2198-2212.
Holm, F., & Kalinovs, V. (2021). Risk and risk management in the shipping industry.
Radanliev, P., De Roure, D., Cannady, S., Montalvo, R. M., Nicolescu, R., & Huth, M. (2018). Economic impact of IoT cyber risk-analysing past and present to predict the future developments in IoT risk analysis and IoT cyber insurance.
Yin, H., Chen, Z., Xiao, Y., & Wang, S. (2020). Analysis of risk management performance with innovative approach: a case study of China’s shipping companies. Maritime Policy & Management, 47(8), 1082-1096.
