Novo Nordisk Engineering: Running for Fast-Track Project Execution 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 Novo Nordisk Engineering: Running for Fast-Track Project Execution case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Novo Nordisk Engineering: Running for Fast-Track Project Execution case study is a Harvard Business School (HBR) case study written by Carlos Cordon, Ralf W. Seifert, Francois Jager. The Novo Nordisk Engineering: Running for Fast-Track Project Execution (referred as “Nne Nordisk” from here on) case study provides evaluation & decision scenario in field of Organizational Development. It also touches upon business topics such as - Value proposition, Project management, Supply chain.

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 Novo Nordisk Engineering: Running for Fast-Track Project Execution Case Study

When appointed CEO of Novo Nordisk Engineering, Hans Ole Voigt created a vision for the company: Within five years NNE should be able to build a pharmaceutical plant in less than a year. The first reactions were quite negative, most of the employees thought such a goal was totally unrealistic. Processes were reengineered, people were coached and step by step NNE got closer to the objective. Employees became more and more energized and felt the 12 months goal was reachable. From a 30 to 36 months industry average construction time, NNE first came down to 24 then 18 and finally 11 months. By 2005 the goal was reached and the company had earned a standing reputation thanks to its accomplishments. Learning objectives: This case provides a good opportunity to learn about speed in project management. From a supply chain perspective it shows the importance of involving external partners from clients to suppliers in successful project execution. It also helps understand that even in highly regulated industries (here pharmaceutical industry) processes can be changed and improved. From a human resourced management it shows the importance both of creating energy driving employees to overcome extremely challenging projects and investing in project management training.

Case Authors : Carlos Cordon, Ralf W. Seifert, Francois Jager

Topic : Organizational Development

Related Areas : Project management, Supply chain

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Calculating Net Present Value (NPV) at 6% for Novo Nordisk Engineering: Running for Fast-Track Project Execution Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10023449)	-10023449	-	-
Year 1	3467651	-6555798	3467651	0.9434	3271369
Year 2	3977337	-2578461	7444988	0.89	3539816
Year 3	3943189	1364728	11388177	0.8396	3310778
Year 4	3225046	4589774	14613223	0.7921	2554539
TOTAL			14613223		12676501

The Net Present Value at 6% discount rate is 2653052

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

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. Nne Nordisk 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 Nne Nordisk 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 Novo Nordisk Engineering: Running for Fast-Track Project Execution

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 Organizational Development 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 Nne Nordisk 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 Nne Nordisk 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	(10023449)	-10023449	-	-
Year 1	3467651	-6555798	3467651	0.8696	3015349
Year 2	3977337	-2578461	7444988	0.7561	3007438
Year 3	3943189	1364728	11388177	0.6575	2592711
Year 4	3225046	4589774	14613223	0.5718	1843931
TOTAL					10459428

The Net NPV after 4 years is 435979

(10459428 - 10023449 )

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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	(10023449)	-10023449	-	-
Year 1	3467651	-6555798	3467651	0.8333	2889709
Year 2	3977337	-2578461	7444988	0.6944	2762040
Year 3	3943189	1364728	11388177	0.5787	2281938
Year 4	3225046	4589774	14613223	0.4823	1555288
TOTAL					9488975

The Net NPV after 4 years is -534474

At 20% discount rate the NPV is negative (9488975 - 10023449 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Nne Nordisk 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 Nne Nordisk has a NPV value higher than Zero then finance managers at Nne Nordisk 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 Nne Nordisk, then the stock price of the Nne Nordisk 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 Nne Nordisk 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 –

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

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.

Understanding of risks involved in the project.

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 Novo Nordisk Engineering: Running for Fast-Track Project Execution

References & Further Readings

Carlos Cordon, Ralf W. Seifert, Francois Jager (2018), "Novo Nordisk Engineering: Running for Fast-Track Project Execution Harvard Business Review Case Study. Published by HBR Publications.