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Wal-Mart's Sustainability Strategy (A) 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 Wal-Mart's Sustainability Strategy (A) case study


At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Wal-Mart's Sustainability Strategy (A) case study is a Harvard Business School (HBR) case study written by Erica Plambeck, Lyn Denend. The Wal-Mart's Sustainability Strategy (A) (referred as “Wal Mart” from here on) case study provides evaluation & decision scenario in field of Organizational Development. It also touches upon business topics such as - Value proposition, Entrepreneurship, Supply chain, Sustainability.

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 Wal-Mart's Sustainability Strategy (A) Case Study


In October 2005, in an auditorium filled to capacity in Bentonville, Arkansas, Lee Scott, Wal-Mart's president and CEO, made the first speech in the history of Wal-Mart to be broadcast to the company's 1.6 million associates (employees) in all of its 6,000+ stores worldwide and shared with its 60,000+ suppliers. Scott announced that Wal-Mart was launching a sweeping business sustainability strategy to dramatically reduce the company's impact on the global environment and thus become "the most competitive and innovative company in the world." He argued that, "Being a good steward of the environment and being profitable are not mutually exclusive. They are one and the same." He also committed Wal-Mart to three aspirational goals: "To be supplied 100 percent by renewable energy; to create zero waste; and to sell products that sustain our resources and the environment." Against this backdrop, the case introduces Andrew Ruben, vice president of corporate strategy and business sustainability, and Tyler Elm, senior director of the same group. Ruben and Elm, who were chosen by Scott to lead the sustainability strategy, recognized that they needed to keep environmental improvement tightly coupled with business value and profitability for the strategy to succeed. The case describes Wal-Mart's efforts to accomplish this, focusing on three of the company's primary focus areas (seafood, electronics, and textiles) and their effect on the company's operations, supplier relationships, and results. It also explores how Wal-Mart is measuring and communicating its ideas about sustainability to its suppliers, associates, customers, and the public.


Case Authors : Erica Plambeck, Lyn Denend

Topic : Organizational Development

Related Areas : Entrepreneurship, Supply chain, Sustainability




Calculating Net Present Value (NPV) at 6% for Wal-Mart's Sustainability Strategy (A) Case Study


Years              Cash Flow     Net Cash Flow     Cumulative    
Cash Flow
Discount Rate
@ 6 %
Discounted
Cash Flows
Year 0 (10026628) -10026628 - -
Year 1 3458251 -6568377 3458251 0.9434 3262501
Year 2 3969955 -2598422 7428206 0.89 3533246
Year 3 3963692 1365270 11391898 0.8396 3327992
Year 4 3237015 4602285 14628913 0.7921 2564019
TOTAL 14628913 12687758


The Net Present Value at 6% discount rate is 2661130

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. 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. Wal Mart 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 Wal Mart have higher preference for cash returns over 4-5 years rather than 10-15 years given the nature of the volatility in the industry.




Formula and Steps to Calculate Net Present Value (NPV) of Wal-Mart's Sustainability Strategy (A)

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 Wal Mart 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 Wal Mart 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 (10026628) -10026628 - -
Year 1 3458251 -6568377 3458251 0.8696 3007175
Year 2 3969955 -2598422 7428206 0.7561 3001856
Year 3 3963692 1365270 11391898 0.6575 2606192
Year 4 3237015 4602285 14628913 0.5718 1850774
TOTAL 10465997


The Net NPV after 4 years is 439369

(10465997 - 10026628 )






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 (10026628) -10026628 - -
Year 1 3458251 -6568377 3458251 0.8333 2881876
Year 2 3969955 -2598422 7428206 0.6944 2756913
Year 3 3963692 1365270 11391898 0.5787 2293803
Year 4 3237015 4602285 14628913 0.4823 1561060
TOTAL 9493653


The Net NPV after 4 years is -532975

At 20% discount rate the NPV is negative (9493653 - 10026628 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Wal Mart 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 Wal Mart has a NPV value higher than Zero then finance managers at Wal Mart 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 Wal Mart, then the stock price of the Wal Mart 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 Wal Mart 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 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.

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.




References & Further Readings

Erica Plambeck, Lyn Denend (2018), "Wal-Mart's Sustainability Strategy (A) Harvard Business Review Case Study. Published by HBR Publications.