Innermotion on the Move, (Video) DVD 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 Innermotion on the Move, (Video) DVD case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Innermotion on the Move, (Video) DVD case study is a Harvard Business School (HBR) case study written by James Phills. The Innermotion on the Move, (Video) DVD (referred as “Si Innermotion” from here on) case study provides evaluation & decision scenario in field of Leadership & Managing People. It also touches upon business topics such as - Value proposition, Social responsibility, Strategy.

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 Innermotion on the Move, (Video) DVD Case Study

A non-profit organization founded in 1990, Innermotion was a dance company that presented performances based on themes related to incest and childhood sexual abuse as well as therapeutic workshops for survivors of such abuse. The organization consisted of an all-volunteer troupe of childhood sexual abuse survivors, and its lone full-time employee, founder and artistic director Sharon Daugherty. Innermotion relied primarily on state and federal funding from sources intended to provide support services to victims of crime and domestic violence. Precipitated by the loss of a major grant and participation in an executive program on strategy, Daugherty felt pressured reexamine her focus and priorities. The videocase explores Innermotion's mission and strategy as well as the choices, tensions, and risks associated with the decision to narrow or broaden the organization's competitive scope. SI-25v Innermotion on the Move is part of The Social Entrepreneurship Series and is intended be used in conjunction with the text-based case SI-25 Innermotion. Professor Jim Phills developed The Social Entrepreneurship Series to help students appreciate mechanisms of change and theories of action as well as challenges in initiating and sustaining meaningful change in social sectors. Other video cases in this series include SI-14v The Evolution of Interplast, SI-69v Circus Oz, SI-72v Social Entrepreneurs: Correcting Market Failures, and SI-77v Rubicon Program's Corporate Strategy.

Case Authors : James Phills

Topic : Leadership & Managing People

Related Areas : Social responsibility, Strategy

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Calculating Net Present Value (NPV) at 6% for Innermotion on the Move, (Video) DVD Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10029379)	-10029379	-	-
Year 1	3446298	-6583081	3446298	0.9434	3251225
Year 2	3954539	-2628542	7400837	0.89	3519526
Year 3	3971312	1342770	11372149	0.8396	3334390
Year 4	3237241	4580011	14609390	0.7921	2564198
TOTAL			14609390		12669338

The Net Present Value at 6% discount rate is 2639959

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

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. Si Innermotion 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 Si Innermotion 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 Innermotion on the Move, (Video) DVD

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 Leadership & Managing People 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 Si Innermotion 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 Si Innermotion 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	(10029379)	-10029379	-	-
Year 1	3446298	-6583081	3446298	0.8696	2996781
Year 2	3954539	-2628542	7400837	0.7561	2990200
Year 3	3971312	1342770	11372149	0.6575	2611202
Year 4	3237241	4580011	14609390	0.5718	1850903
TOTAL					10449086

The Net NPV after 4 years is 419707

(10449086 - 10029379 )

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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	(10029379)	-10029379	-	-
Year 1	3446298	-6583081	3446298	0.8333	2871915
Year 2	3954539	-2628542	7400837	0.6944	2746208
Year 3	3971312	1342770	11372149	0.5787	2298213
Year 4	3237241	4580011	14609390	0.4823	1561169
TOTAL					9477505

The Net NPV after 4 years is -551874

At 20% discount rate the NPV is negative (9477505 - 10029379 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Si Innermotion 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 Si Innermotion has a NPV value higher than Zero then finance managers at Si Innermotion 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 Si Innermotion, then the stock price of the Si Innermotion 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 Si Innermotion 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 will be a multi year spillover effect of various taxation regulations.

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

What can impact the cash flow of the project.

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.

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 Innermotion on the Move, (Video) DVD

References & Further Readings

James Phills (2018), "Innermotion on the Move, (Video) DVD Harvard Business Review Case Study. Published by HBR Publications.