×




Performance Improvement Capability: Keys to Accelerating Performance Improvement in Hospitals 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 Performance Improvement Capability: Keys to Accelerating Performance Improvement in Hospitals case study


At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Performance Improvement Capability: Keys to Accelerating Performance Improvement in Hospitals case study is a Harvard Business School (HBR) case study written by Paul S. Adler, Patricia Riley, Seok-Woo Kwon, Jordana Signer. The Performance Improvement Capability: Keys to Accelerating Performance Improvement in Hospitals (referred as “Improvement Projects” from here on) case study provides evaluation & decision scenario in field of Organizational Development. It also touches upon business topics such as - Value proposition, Developing employees, Organizational culture, Project management.

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






Case Description of Performance Improvement Capability: Keys to Accelerating Performance Improvement in Hospitals Case Study


Organizations differ considerably in their rate of performance improvement. Because any improvement trajectory is the fruit of a series of improvement projects, the proximate cause of this variation among organizations lies in the varied ways these projects are managed. The success of these projects depends, however, not only on the goals and the efforts of the project team, but also on the context within which the projects are undertaken--and, more specifically, on the competencies on which the projects can draw. It is variation in these competencies--the organization's underlying "performance improvement capability" (PIC)--that explains the substantial and sustained differences in rates of improvement across organizations. This article describes the efforts of several hospitals to strengthen their PIC through five key components: skills, systems, structure, strategy, and culture.


Case Authors : Paul S. Adler, Patricia Riley, Seok-Woo Kwon, Jordana Signer

Topic : Organizational Development

Related Areas : Developing employees, Organizational culture, Project management




Calculating Net Present Value (NPV) at 6% for Performance Improvement Capability: Keys to Accelerating Performance Improvement in Hospitals Case Study


Years              Cash Flow     Net Cash Flow     Cumulative    
Cash Flow
Discount Rate
@ 6 %
Discounted
Cash Flows
Year 0 (10019101) -10019101 - -
Year 1 3471921 -6547180 3471921 0.9434 3275397
Year 2 3975394 -2571786 7447315 0.89 3538087
Year 3 3957937 1386151 11405252 0.8396 3323160
Year 4 3246706 4632857 14651958 0.7921 2571695
TOTAL 14651958 12708339




The Net Present Value at 6% discount rate is 2689238

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.




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. Internal Rate of Return
4. Net Present Value

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






Formula and Steps to Calculate Net Present Value (NPV) of Performance Improvement Capability: Keys to Accelerating Performance Improvement in Hospitals

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 Improvement Projects 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 Improvement Projects 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 (10019101) -10019101 - -
Year 1 3471921 -6547180 3471921 0.8696 3019062
Year 2 3975394 -2571786 7447315 0.7561 3005969
Year 3 3957937 1386151 11405252 0.6575 2602408
Year 4 3246706 4632857 14651958 0.5718 1856315
TOTAL 10483753


The Net NPV after 4 years is 464652

(10483753 - 10019101 )








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 (10019101) -10019101 - -
Year 1 3471921 -6547180 3471921 0.8333 2893268
Year 2 3975394 -2571786 7447315 0.6944 2760690
Year 3 3957937 1386151 11405252 0.5787 2290473
Year 4 3246706 4632857 14651958 0.4823 1565734
TOTAL 9510165


The Net NPV after 4 years is -508936

At 20% discount rate the NPV is negative (9510165 - 10019101 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Improvement Projects 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 Improvement Projects has a NPV value higher than Zero then finance managers at Improvement Projects 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 Improvement Projects, then the stock price of the Improvement Projects 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 Improvement Projects 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 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.

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.

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.






Negotiation Strategy of Performance Improvement Capability: Keys to Accelerating Performance Improvement in Hospitals

References & Further Readings

Paul S. Adler, Patricia Riley, Seok-Woo Kwon, Jordana Signer (2018), "Performance Improvement Capability: Keys to Accelerating Performance Improvement in Hospitals Harvard Business Review Case Study. Published by HBR Publications.


Sierra Metals Inc. SWOT Analysis / TOWS Matrix

Basic Materials , Gold & Silver


Jenoptik SWOT Analysis / TOWS Matrix

Technology , Semiconductors


Orient Electric SWOT Analysis / TOWS Matrix

Consumer Cyclical , Appliance & Tool


Kesar Enterprises Ltd SWOT Analysis / TOWS Matrix

Consumer/Non-Cyclical , Food Processing


Kansai Paint Co Ltd SWOT Analysis / TOWS Matrix

Basic Materials , Chemical Manufacturing


Smiles Inclusive SWOT Analysis / TOWS Matrix

Healthcare , Healthcare Facilities


Dukemount SWOT Analysis / TOWS Matrix

Services , Real Estate Operations


TAG Oil SWOT Analysis / TOWS Matrix

Energy , Oil & Gas Operations


Cgrowth Capital Inc SWOT Analysis / TOWS Matrix

Financial , Insurance (Miscellaneous)


Samsung Heavy Industries SWOT Analysis / TOWS Matrix

Transportation , Water Transportation