Taurion Inc.: Built to Cure an Incurable Disease (VCs) Net Present Value (NPV) / MBA Resources

Introduction to Net Present Value (NPV) - What is Net Present Value (NPV) ? How it impacts financial decisions regarding project management?

NPV solution for Taurion Inc.: Built to Cure an Incurable Disease (VCs) case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Taurion Inc.: Built to Cure an Incurable Disease (VCs) case study is a Harvard Business School (HBR) case study written by Heinrich Liechtenstein, Uli Grabenwarter. The Taurion Inc.: Built to Cure an Incurable Disease (VCs) (referred as “Tau Taurion” from here on) case study provides evaluation & decision scenario in field of Finance & Accounting. It also touches upon business topics such as - Value proposition, Financial management, Health, Negotiations, Technology, Venture capital.

The net present value (NPV) of an investment proposal is the present value of the proposal’s net cash flows less the proposal’s initial cash outflow. If a project’s NPV is greater than or equal to zero, the project should be accepted.

NPV = Present Value of Future Cash Flows LESS Project’s Initial Investment

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Case Description of Taurion Inc.: Built to Cure an Incurable Disease (VCs) Case Study

Supplement to case IES519. Taurion Inc. is a start-up company established in 2006 and based in Vienna. It specializes in researching the causes of Alzheimer's disease (AD) as well as developing diagnostic tools and targeted drugs to combat it.For several years, the founders of the company - two renowned scientists and a finance professional - have been focusing on the role of one deficient protein present in the brains of Alzheimer's patients, the tau protein, which is believed to have a decisive influence on the development of AD. Taurion discovered a particular form of the diseased tau protein which has a causal role in AD and developed three molecules (successfully tested in rats) to prevent its occurrence. By treating truncated tau, Taurion expects to develop the next blockbuster in the pharmaceutical industry to prevent AD. This research approach is controversial, as big pharmaceutical companies don't see any market potential in the tau protein in relation to AD.Taurion's challenge is to convince a VC investor - who at the moment is facing all the challenges of a sharp industry downturn - to invest in the company in order to be able to run clinical trials with its three molecules and hopefully achieve promising results that will call the attention of big players in the industry.Under these conditions, students assume the roles of Taurion's management team and VC investors to develop a fundraising proposal and an investment offer, respectively.

Case Authors : Heinrich Liechtenstein, Uli Grabenwarter

Topic : Finance & Accounting

Related Areas : Financial management, Health, Negotiations, Technology, Venture capital

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Calculating Net Present Value (NPV) at 6% for Taurion Inc.: Built to Cure an Incurable Disease (VCs) Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10024293)	-10024293	-	-
Year 1	3444440	-6579853	3444440	0.9434	3249472
Year 2	3959332	-2620521	7403772	0.89	3523791
Year 3	3962155	1341634	11365927	0.8396	3326702
Year 4	3228430	4570064	14594357	0.7921	2557219
TOTAL			14594357		12657184

The Net Present Value at 6% discount rate is 2632891

In isolation the NPV number doesn't mean much but put in right context then it is one of the best method to evaluate project returns. In this article we will cover -

Different methods of capital budgeting

What is NPV & Formula of NPV,
How it is calculated,
How to use NPV number for project evaluation, and
Scenario Planning given risks and management priorities.

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Capital Budgeting Approaches

Methods of Capital Budgeting

There are four types of capital budgeting techniques that are widely used in the corporate world –

1. Payback Period
2. Profitability Index
3. Net Present Value
4. Internal Rate of Return

Apart from the Payback period method which is an additive method, rest of the methods are based on Discounted Cash Flow technique. Even though cash flow can be calculated based on the nature of the project, for the simplicity of the article we are assuming that all the expected cash flows are realized at the end of the year.

Discounted Cash Flow approaches provide a more objective basis for evaluating and selecting investment projects. They take into consideration both –

1. Magnitude of both incoming and outgoing cash flows – Projects can be capital intensive, time intensive, or both. Tau Taurion shareholders have preference for diversified projects investment rather than prospective high income from a single capital intensive project.
2. Timing of the expected cash flows – stockholders of Tau Taurion have higher preference for cash returns over 4-5 years rather than 10-15 years given the nature of the volatility in the industry.

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Formula and Steps to Calculate Net Present Value (NPV) of Taurion Inc.: Built to Cure an Incurable Disease (VCs)

NPV = Net Cash In Flowt1 / (1+r)t1 + Net Cash In Flowt2 / (1+r)t2 + … Net Cash In Flowtn / (1+r)tn
Less Net Cash Out Flowt0 / (1+r)t0

Where t = time period, in this case year 1, year 2 and so on.
r = discount rate or return that could be earned using other safe proposition such as fixed deposit or treasury bond rate. Net Cash In Flow – What the firm will get each year.
Net Cash Out Flow – What the firm needs to invest initially in the project.

Step 1 – Understand the nature of the project and calculate cash flow for each year.
Step 2 – Discount those cash flow based on the discount rate.
Step 3 – Add all the discounted cash flow.
Step 4 – Selection of the project

Why Finance & Accounting Managers need to know Financial Tools such as Net Present Value (NPV)?

In our daily workplace we often come across people and colleagues who are just focused on their core competency and targets they have to deliver. For example marketing managers at Tau Taurion often design programs whose objective is to drive brand awareness and customer reach. But how that 30 point increase in brand awareness or 10 point increase in customer touch points will result into shareholders’ value is not specified.

To overcome such scenarios managers at Tau Taurion needs to not only know the financial aspect of project management but also needs to have tools to integrate them into part of the project development and monitoring plan.

Calculating Net Present Value (NPV) at 15%

After working through various assumptions we reached a conclusion that risk is far higher than 6%. In a reasonably stable industry with weak competition - 15% discount rate can be a good benchmark.

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 15 %	Discounted Cash Flows
Year 0	(10024293)	-10024293	-	-
Year 1	3444440	-6579853	3444440	0.8696	2995165
Year 2	3959332	-2620521	7403772	0.7561	2993824
Year 3	3962155	1341634	11365927	0.6575	2605181
Year 4	3228430	4570064	14594357	0.5718	1845865
TOTAL					10440036

The Net NPV after 4 years is 415743

(10440036 - 10024293 )

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Calculating Net Present Value (NPV) at 20%

If the risk component is high in the industry then we should go for a higher hurdle rate / discount rate of 20%.

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 20 %	Discounted Cash Flows
Year 0	(10024293)	-10024293	-	-
Year 1	3444440	-6579853	3444440	0.8333	2870367
Year 2	3959332	-2620521	7403772	0.6944	2749536
Year 3	3962155	1341634	11365927	0.5787	2292914
Year 4	3228430	4570064	14594357	0.4823	1556920
TOTAL					9469737

The Net NPV after 4 years is -554556

At 20% discount rate the NPV is negative (9469737 - 10024293 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Tau Taurion to discount cash flow at lower discount rates such as 15%.

Acceptance Criteria of a Project based on NPV

Simplest Approach – If the investment project of Tau Taurion has a NPV value higher than Zero then finance managers at Tau Taurion can ACCEPT the project, otherwise they can reject the project. This means that project will deliver higher returns over the period of time than any alternate investment strategy.

In theory if the required rate of return or discount rate is chosen correctly by finance managers at Tau Taurion, then the stock price of the Tau Taurion should change by same amount of the NPV. In real world we know that share price also reflects various other factors that can be related to both macro and micro environment.

In the same vein – accepting the project with zero NPV should result in stagnant share price. Finance managers use discount rates as a measure of risk components in the project execution process.

Sensitivity Analysis

Project selection is often a far more complex decision than just choosing it based on the NPV number. Finance managers at Tau Taurion should conduct a sensitivity analysis to better understand not only the inherent risk of the projects but also how those risks can be either factored in or mitigated during the project execution. Sensitivity analysis helps in –

Understanding of risks involved in the project.

What can impact the cash flow of the project.

What are the key aspects of the projects that need to be monitored, refined, and retuned for continuous delivery of projected cash flows.

What are the uncertainties surrounding the project Initial Cash Outlay (ICO’s). ICO’s often have several different components such as land, machinery, building, and other equipment.

What will be a multi year spillover effect of various taxation regulations.

Some of the assumptions while using the Discounted Cash Flow Methods –

Projects are assumed to be Mutually Exclusive – This is seldom the came in modern day giant organizations where projects are often inter-related and rejecting a project solely based on NPV can result in sunk cost from a related project.

Independent projects have independent cash flows – As explained in the marketing project – though the project may look independent but in reality it is not as the brand awareness project can be closely associated with the spending on sales promotions and product specific advertising.

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Negotiation Strategy of Taurion Inc.: Built to Cure an Incurable Disease (VCs)

References & Further Readings

Heinrich Liechtenstein, Uli Grabenwarter (2018), "Taurion Inc.: Built to Cure an Incurable Disease (VCs) Harvard Business Review Case Study. Published by HBR Publications.