Tashtego it is the single richest five-page cost

Tashtego

Teaching Commentary

OVERVIEW

Upon first review, this case appears to be a complicated, but straightforward, exercise in financial analysis for a “capacity

allocation” decision—where should the “productive capacity” represented by the ship Tashtego be deployed? This seems

to be just an exotic example of the familiar machine allocation problem.

As we shall demonstrate, the case is really much richer than that. It also deals with capacity expansion, “hub and

TEACHING STRATEGY (A)

The first five assignment questions constitute a structured approach to the ostensible issue in the case—the capacity

assignment problem. Even though the issues here are straightforward, the “facts” are complicated enough that it is very

difficult to pull them together clearly. The five questions allow the student to tackle the problem logically, one step at a

ANSWERS TO ASSIGNMENT QUESTIONS

Question 1

Contribution per ton of cargo (considering only cargo–related costs):

Tapioca General Merchandise

Revenue $5.10 $2.70

IRRESPECTIVE OF THE VESSEL

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Question 2

“Contribution” per trip, considering only revenue and cargo costs:

Question 3

Trip Costs (irrespective of the cargo):

Tashtego LV

Question 4

“Contribution” per year (merging cargo-related and trip-related items):

Tashtego LV

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Question 5 (Merging case Question 4 with Exhibits 3

and 4)

Net effect of the proposal:

Ex. 4 -> Saved LV costs +632,240

Ex. 3 -> Cargo & Trip Costs Incurred –315,948

NET +458,792

Are we finished?

In one sense, the analysis is now complete.

The net profit impact of moving the Tashtego and using

large vessels on the tapioca trade is positive by about

$460,000 per year—Do it!

Sailing Days

Committed

Profit $ Tashtego LV

This proposal is balanced for Tashtego, but it

involves investing an extra eighty–five LV sailing days.

The net effect is thus: $458,792 minus the lost

contribution from eighty-five LV sailing days

redeployed. Is this net a plus or a minus?

“product” is sailing days. Each sailing day deployed

contributes to profit based on revenues less cargo costs

and trip costs.

We have no information in the case about the

Average Contribution Per Sailing Day

(considering cargo and trip-related items):

Per Exhibit 5 Revenue (cargoes) = $49.7 million

Voyage Expenses =

Ship Costs

Trip Costs $33.5 million

Cargo Costs

Therefore, Trip & Cargo Costs =

~$33,500 – ~$19,800 = ~$13,700

negative, as long as we drop eighty-five average (or

below average) contribution margin days from the

current distribution.

Are we finished, now?

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new questions than it answers.

This is a good general lesson for students

about cost analysis. Very often, analysis we do to

frame an answer to “question A” leads us to see that

sailing day ($898,000 ÷ 325). This doesn’t really look

like very good business for a large vessel.

Does this mean we should reject the proposal

altogether? Some further thought at this point reveals

that the proposal can really be broken into two parts:

1. Use the Tashtego as a freight tender in East

Africa to free up 240 LV sailing days.

Is this a good idea?

Yes, as long as we can invest those newly

found sailing days to generate more than $439,808 of

“contribution.” We must average 439,808 ÷ 240 =

1,832 per sailing day. Is this likely? Yes, it is very

likely if the ships are fully deployed now and the

average contribution margin is $3,865 per day.

for those newly found LV sailing days.

Are we finished?

One problem with this new conclusion,

How profitable is this business?

The Tashtego as a “Tapioca” Ship

Capital Cost? = $223K x 15 years = $3.34M

Annual Return

Contribution $756K

– Cash Ship Costs (488 – 223) 265K

What does this suggest?

Leave the Tashtego where it is and buy a new

Tashtego to use as the freight tender in East Africa!

Then, look for the best possible LV new business that

generates more than $1,832 per sailing day.

Are we finished, now?

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2. Costs (Trip and Cargo)

(Exhibit 3) Trips $188,508

Cargo 127,440

We need only generate $717 per sailing day

($172,000 ÷ 240) to make this a good move!

Are we finished, now?

This way of structuring the analysis suggests a

new twist. Why buy a 4,500-ton slow ship to shuttle

because it would make a good freight tender in East

Africa. An optimum freight tender between DES and

Zanzibar would be small and fast:

Small 1,350 ton current demand per trip

Fast Able to make eighty trips per year

Hypothetically (for a 2,000 T ship capable of steaming

With total annual cost of $532,000 and saved

LV costs of $632,000, we save $100,000 net, and free

up 240 LV sailing days! WOW.

Are we finished, now?

If we can do it in three places with

approximately the same economic impact, we can save

$300,000 per year, net, in voyage costs and free up the

equivalent of 2+ large vessels (240 x 3 ÷ 345). What

should we do with this extra capacity?

II. Use the incremental sailing days to expand our

revenues and our contribution dollars?

At what average contribution per sailing day?

If can get even $2,500/SD (average now =

$3,865) (Tapioca Trade in East Indies = $2,765 for

325 SDs)

TEACHING STRATEGY (B)

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It is certainly not possible to cover all these issues in

one class if the instructor relies on student input at each

1. Try to cover Questions 1 to 4, with student input,

in no more than thirty minutes.

2. Ask for student questions, if any, on Exhibits 3 and

4.

level, moving quickly. I try to get as much student

input as possible, but I don’t really expect that the

I end the class by showing the transparency

attached here as Exhibit A. Students leave the class

overwhelmed, in one sense, by all the levels of analysis

and all the calculations in the preceding ninety minutes.

But, I believe they also leave the class with a better

appreciation for the important role of cost analysis in

Exhibit A

Tashtego—What’s the broad point?

THE PURPOSE OF COST ANALYSIS IS

BETTER QUESTIONS, NOT FINAL

ANSWERS

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And, an exotic journey at that!