G. Heileman Brewing Co. (A): Power Failure at PowerMaster 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 G. Heileman Brewing Co. (A): Power Failure at PowerMaster case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. G. Heileman Brewing Co. (A): Power Failure at PowerMaster case study is a Harvard Business School (HBR) case study written by Stephen A. Greyser, Wendy Schille. The G. Heileman Brewing Co. (A): Power Failure at PowerMaster (referred as “Heileman Alcohol” from here on) case study provides evaluation & decision scenario in field of Sales & Marketing. It also touches upon business topics such as - Value proposition, Ethics, Marketing.

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 G. Heileman Brewing Co. (A): Power Failure at PowerMaster Case Study

In June 1991, Heileman announced plans to introduce a high-alcohol malt liquor under the name PowerMaster (PM). Although the company claimed PM would be positioned as an upscale product and marketed on the basis of its superior taste, minority advocates and alcohol foes quickly assailed the company for targeting lower-income, inner-city black consumers. In the wake of protests, the Bureau of Alcohol, Tobacco, and Firearms (BATF), which had previously approved the PM product, initiated a review of PM and several other high-alcohol malt liquor products that BATF considered to be in violation of federal law prohibiting brewers from stating or even implying the alcohol content of their products. Shortly after, BATF requested that Heileman remove the word "power" from PM's label. Heileman cancelled plans to launch the product. The case encompasses both target marketing and ethical issues. Illustrates a problem faced by many American brewers: How can these companies increase beer sales in a slow-growing, increasingly saturated market, which is completely dominated by the Anheuser-Busch companies?

Case Authors : Stephen A. Greyser, Wendy Schille

Topic : Sales & Marketing

Related Areas : Ethics, Marketing

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Calculating Net Present Value (NPV) at 6% for G. Heileman Brewing Co. (A): Power Failure at PowerMaster Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10005117)	-10005117	-	-
Year 1	3445489	-6559628	3445489	0.9434	3250461
Year 2	3967451	-2592177	7412940	0.89	3531017
Year 3	3952090	1359913	11365030	0.8396	3318251
Year 4	3242640	4602553	14607670	0.7921	2568475
TOTAL			14607670		12668204

The Net Present Value at 6% discount rate is 2663087

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. Profitability Index
3. Payback Period
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 Heileman Alcohol 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. Heileman Alcohol 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 G. Heileman Brewing Co. (A): Power Failure at PowerMaster

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 Heileman Alcohol 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 Heileman Alcohol 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	(10005117)	-10005117	-	-
Year 1	3445489	-6559628	3445489	0.8696	2996077
Year 2	3967451	-2592177	7412940	0.7561	2999963
Year 3	3952090	1359913	11365030	0.6575	2598563
Year 4	3242640	4602553	14607670	0.5718	1853990
TOTAL					10448594

The Net NPV after 4 years is 443477

(10448594 - 10005117 )

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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	(10005117)	-10005117	-	-
Year 1	3445489	-6559628	3445489	0.8333	2871241
Year 2	3967451	-2592177	7412940	0.6944	2755174
Year 3	3952090	1359913	11365030	0.5787	2287089
Year 4	3242640	4602553	14607670	0.4823	1563773
TOTAL					9477277

The Net NPV after 4 years is -527840

At 20% discount rate the NPV is negative (9477277 - 10005117 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Heileman Alcohol 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 Heileman Alcohol has a NPV value higher than Zero then finance managers at Heileman Alcohol 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 Heileman Alcohol, then the stock price of the Heileman Alcohol 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 Heileman Alcohol 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 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.

What can impact the cash flow of 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 G. Heileman Brewing Co. (A): Power Failure at PowerMaster

References & Further Readings

Stephen A. Greyser, Wendy Schille (2018), "G. Heileman Brewing Co. (A): Power Failure at PowerMaster Harvard Business Review Case Study. Published by HBR Publications.