Mahindra and Mahindra Finance Services Limited: Empowering Rural Customers in India 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 Mahindra and Mahindra Finance Services Limited: Empowering Rural Customers in India case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Mahindra and Mahindra Finance Services Limited: Empowering Rural Customers in India case study is a Harvard Business School (HBR) case study written by Rajeev Kumra. The Mahindra and Mahindra Finance Services Limited: Empowering Rural Customers in India (referred as “Mahindra Loans” from here on) case study provides evaluation & decision scenario in field of Sales & Marketing. It also touches upon business topics such as - Value proposition, Strategic planning.

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 Mahindra and Mahindra Finance Services Limited: Empowering Rural Customers in India Case Study

Mahindra and Mahindra Financial Services Limited is a non-banking finance company in India whose product portfolio includes vehicle loans, used vehicle financing, housing finance, personal loans, fixed deposits, mutual fund distribution, insurance broking, gold loans and loans for construction equipment. Catering to the rural poor across India, the company has close to 6,600 employees, mostly hired locally to serve local needs. Because it focuses on future cash flow projections and not on past credit history, and takes into consideration the integrity and character of the customer - primarily farmers, small traders and vehicle operators but also some small and medium enterprises - as well as the projected business plan, it is a good fit for poor rural Indian consumers. It bridges the gap between moneylenders, who charge exorbitant interest, and public sector banks that require collateral. In 2013, the manager of the Bijnor branch is approached by the owner of a transport firm who requests a loan to buy two more trucks to expand her business of moving goods for small pharmaceutical companies. Given that the prospective borrower has been rejected by a competing bank, should the loan to her be sanctioned? Rajeev Kumra is affiliated with Indian Institute of Management - Lucknow.

Case Authors : Rajeev Kumra

Topic : Sales & Marketing

Related Areas : Strategic planning

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Calculating Net Present Value (NPV) at 6% for Mahindra and Mahindra Finance Services Limited: Empowering Rural Customers in India Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10002824)	-10002824	-	-
Year 1	3447183	-6555641	3447183	0.9434	3252059
Year 2	3958392	-2597249	7405575	0.89	3522955
Year 3	3958412	1361163	11363987	0.8396	3323559
Year 4	3244619	4605782	14608606	0.7921	2570042
TOTAL			14608606		12668615

The Net Present Value at 6% discount rate is 2665791

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. Payback Period
2. Internal Rate of Return
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. Magnitude of both incoming and outgoing cash flows – Projects can be capital intensive, time intensive, or both. Mahindra Loans 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 Mahindra Loans 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 Mahindra and Mahindra Finance Services Limited: Empowering Rural Customers in India

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 Sales & Marketing 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 Mahindra Loans 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 Mahindra Loans 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	(10002824)	-10002824	-	-
Year 1	3447183	-6555641	3447183	0.8696	2997550
Year 2	3958392	-2597249	7405575	0.7561	2993113
Year 3	3958412	1361163	11363987	0.6575	2602720
Year 4	3244619	4605782	14608606	0.5718	1855121
TOTAL					10448505

The Net NPV after 4 years is 445681

(10448505 - 10002824 )

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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	(10002824)	-10002824	-	-
Year 1	3447183	-6555641	3447183	0.8333	2872653
Year 2	3958392	-2597249	7405575	0.6944	2748883
Year 3	3958412	1361163	11363987	0.5787	2290748
Year 4	3244619	4605782	14608606	0.4823	1564728
TOTAL					9477011

The Net NPV after 4 years is -525813

At 20% discount rate the NPV is negative (9477011 - 10002824 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Mahindra Loans 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 Mahindra Loans has a NPV value higher than Zero then finance managers at Mahindra Loans 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 Mahindra Loans, then the stock price of the Mahindra Loans 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 Mahindra Loans 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.

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 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 Mahindra and Mahindra Finance Services Limited: Empowering Rural Customers in India

References & Further Readings

Rajeev Kumra (2018), "Mahindra and Mahindra Finance Services Limited: Empowering Rural Customers in India Harvard Business Review Case Study. Published by HBR Publications.