Cat Is Out of the Bag: KANA and the Layoff Gone Awry (A), Spanish Version 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 Cat Is Out of the Bag: KANA and the Layoff Gone Awry (A), Spanish Version case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Cat Is Out of the Bag: KANA and the Layoff Gone Awry (A), Spanish Version case study is a Harvard Business School (HBR) case study written by Leslie A. Perlow, David L. Ager. The Cat Is Out of the Bag: KANA and the Layoff Gone Awry (A), Spanish Version (referred as “Layoff Kana” from here on) case study provides evaluation & decision scenario in field of Organizational Development. It also touches upon business topics such as - Value proposition, Downsizing, Human resource management, Influence, Technology.

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 Cat Is Out of the Bag: KANA and the Layoff Gone Awry (A), Spanish Version Case Study

Vicki Amon-Higa, vice president of KANA, a publicly traded, midsize development company, was working with Bryan Kettle, KANA's CFO, to plan a layoff in which KANA would reduce the size of its workforce by nearly 40%. Despite the best of intentions, news of the layoff leaked before the planned announcement. The situation quickly deteriorated as a series of irate managers called Amon-Higa, demanding to know why they weren't aware of the layoff and asking her how to handle the situation. She must quickly assess the situation, figure out what went wrong, and decide how to manage each of the company's stakeholders, including Chuck Bay, KANA's CEO.

Case Authors : Leslie A. Perlow, David L. Ager

Topic : Organizational Development

Related Areas : Downsizing, Human resource management, Influence, Technology

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Calculating Net Present Value (NPV) at 6% for Cat Is Out of the Bag: KANA and the Layoff Gone Awry (A), Spanish Version Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10015599)	-10015599	-	-
Year 1	3468383	-6547216	3468383	0.9434	3272059
Year 2	3982323	-2564893	7450706	0.89	3544253
Year 3	3949093	1384200	11399799	0.8396	3315735
Year 4	3233075	4617275	14632874	0.7921	2560898
TOTAL			14632874		12692946

The Net Present Value at 6% discount rate is 2677347

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. Profitability Index
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 Layoff Kana 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. Layoff Kana shareholders have preference for diversified projects investment rather than prospective high income from a single capital intensive project.

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Formula and Steps to Calculate Net Present Value (NPV) of Cat Is Out of the Bag: KANA and the Layoff Gone Awry (A), Spanish Version

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 Layoff Kana 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 Layoff Kana 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	(10015599)	-10015599	-	-
Year 1	3468383	-6547216	3468383	0.8696	3015985
Year 2	3982323	-2564893	7450706	0.7561	3011208
Year 3	3949093	1384200	11399799	0.6575	2596593
Year 4	3233075	4617275	14632874	0.5718	1848521
TOTAL					10472307

The Net NPV after 4 years is 456708

(10472307 - 10015599 )

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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	(10015599)	-10015599	-	-
Year 1	3468383	-6547216	3468383	0.8333	2890319
Year 2	3982323	-2564893	7450706	0.6944	2765502
Year 3	3949093	1384200	11399799	0.5787	2285355
Year 4	3233075	4617275	14632874	0.4823	1559160
TOTAL					9500336

The Net NPV after 4 years is -515263

At 20% discount rate the NPV is negative (9500336 - 10015599 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Layoff Kana 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 Layoff Kana has a NPV value higher than Zero then finance managers at Layoff Kana 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 Layoff Kana, then the stock price of the Layoff Kana 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 Layoff Kana 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.

Understanding of risks involved in the project.

What can impact the cash flow of 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.

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 Cat Is Out of the Bag: KANA and the Layoff Gone Awry (A), Spanish Version

References & Further Readings

Leslie A. Perlow, David L. Ager (2018), "Cat Is Out of the Bag: KANA and the Layoff Gone Awry (A), Spanish Version Harvard Business Review Case Study. Published by HBR Publications.