Sensory Branding: Oreo in the Indian Context 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 Sensory Branding: Oreo in the Indian Context case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Sensory Branding: Oreo in the Indian Context case study is a Harvard Business School (HBR) case study written by Ramesh Kumar, Nalin Goel, Gireesh Geera. The Sensory Branding: Oreo in the Indian Context (referred as “Oreo Brands” from here on) case study provides evaluation & decision scenario in field of Sales & Marketing. It also touches upon business topics such as - Value proposition, Emerging markets.

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 Sensory Branding: Oreo in the Indian Context Case Study

Indian marketing scenario (an emerging economy) has been experiencing a new wave of consumer behavior after liberalization of markets. FMCG and durable brands in several categories have made an impact on the lifestyle and mindset of consumers. It is interesting to note that in a market that has diverse culture across its geographical spread, several multinational brands have made substantial headway in domains that are strongly associated with the traditional culture. Snacking is a habit among Indians that covers several kinds of cultural snacks. Kurkure, a brand sold by a multinational was successful with its marketing mix that included an offering that tasted and looked similar to a traditional cultural snack. Chocolates and biscuits, categories that are strongly entrenched in the Indian context (though they have their origin in western countries) competed with traditional snacks in an environment that had proliferated western lifestyles. It is in this context Oreo brand, the well-known biscuit brand in the US market was launched in India by Cadbury. The brand competed with well-known Indian brands of cream biscuits and was positioned to attract children teenagers and young adults. In a category that lacked loyalty and was prone to brand switching (variety of offerings in the market makes the consumer switch brands as the purchasing is done with a low involvement mindset by most consumers) Oreo that had achieved considerable degree of success faced the challenge of sustaining its success. The survey results reflect the need for a deeper analysis beyond a generic brand positioning strategy. An analysis of consumer perception, sensory branding aspects, and careful consideration of a variety of needs of consumers that shape consumer perception of brands in the category seem to be the direction Oreo needs to pursue. How should Oreo use perceptual principles to reposition itself to sustain itself to sustain its success?

Case Authors : Ramesh Kumar, Nalin Goel, Gireesh Geera

Topic : Sales & Marketing

Related Areas : Emerging markets

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Calculating Net Present Value (NPV) at 6% for Sensory Branding: Oreo in the Indian Context Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10021918)	-10021918	-	-
Year 1	3463348	-6558570	3463348	0.9434	3267309
Year 2	3973069	-2585501	7436417	0.89	3536017
Year 3	3970372	1384871	11406789	0.8396	3333601
Year 4	3235425	4620296	14642214	0.7921	2562760
TOTAL			14642214		12699687

The Net Present Value at 6% discount rate is 2677769

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. Net Present Value
2. Internal Rate of Return
3. Payback Period
4. Profitability Index

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 Oreo Brands 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. Oreo Brands 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 Sensory Branding: Oreo in the Indian Context

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 Oreo Brands 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 Oreo Brands 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	(10021918)	-10021918	-	-
Year 1	3463348	-6558570	3463348	0.8696	3011607
Year 2	3973069	-2585501	7436417	0.7561	3004211
Year 3	3970372	1384871	11406789	0.6575	2610584
Year 4	3235425	4620296	14642214	0.5718	1849865
TOTAL					10476267

The Net NPV after 4 years is 454349

(10476267 - 10021918 )

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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	(10021918)	-10021918	-	-
Year 1	3463348	-6558570	3463348	0.8333	2886123
Year 2	3973069	-2585501	7436417	0.6944	2759076
Year 3	3970372	1384871	11406789	0.5787	2297669
Year 4	3235425	4620296	14642214	0.4823	1560294
TOTAL					9503162

The Net NPV after 4 years is -518756

At 20% discount rate the NPV is negative (9503162 - 10021918 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Oreo Brands 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 Oreo Brands has a NPV value higher than Zero then finance managers at Oreo Brands 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 Oreo Brands, then the stock price of the Oreo Brands 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 Oreo Brands 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 Sensory Branding: Oreo in the Indian Context

References & Further Readings

Ramesh Kumar, Nalin Goel, Gireesh Geera (2018), "Sensory Branding: Oreo in the Indian Context Harvard Business Review Case Study. Published by HBR Publications.