Delhi Metro Rail Corporation (A): Delivering Customer Satisfaction 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 Delhi Metro Rail Corporation (A): Delivering Customer Satisfaction case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Delhi Metro Rail Corporation (A): Delivering Customer Satisfaction case study is a Harvard Business School (HBR) case study written by Somnath Chakrabarti, B. S. Kiran. The Delhi Metro Rail Corporation (A): Delivering Customer Satisfaction (referred as “Dmrc Metro” from here on) case study provides evaluation & decision scenario in field of Sales & Marketing. It also touches upon business topics such as - Value proposition, Customers, Leadership, Project management.

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 Delhi Metro Rail Corporation (A): Delivering Customer Satisfaction Case Study

Delhi Metro Rail Corporation Ltd. (DMRC), a government-owned enterprise in India, was responsible for building, operating, and managing the metro rail network in the National Capital Region of India. Delhi's reliable, punctual, clean, and green metro services began operation in 2002. By 2016, DMRC had transformed peoples' lives and become an essential form of transit for an average of 2.5 million commuters per day. In terms of customer satisfaction, DMRC was ranked in a global online survey as the second-best metro system in the world. But management at DMRC knew that to maintain that level of customer satisfaction, it had to be conscious of the gap between performance and customer expectations, which were increasing with demands from DMRC's assertive and ambitious millennial commuters. In addition, the government was embarking on strategies to induce commuters to switch from private to public transit. DMRC needed to evaluate its strategic service priorities while continuing to deliver value to its stakeholders. Should DMRC focus on enhancing customer experience with augmented services or invest in measures to reduce operational costs? Was DMRC's culture of customer delight sustainable?

Case Authors : Somnath Chakrabarti, B. S. Kiran

Topic : Sales & Marketing

Related Areas : Customers, Leadership, Project management

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Calculating Net Present Value (NPV) at 6% for Delhi Metro Rail Corporation (A): Delivering Customer Satisfaction Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10010499)	-10010499	-	-
Year 1	3470369	-6540130	3470369	0.9434	3273933
Year 2	3971358	-2568772	7441727	0.89	3534494
Year 3	3966825	1398053	11408552	0.8396	3330623
Year 4	3233873	4631926	14642425	0.7921	2561530
TOTAL			14642425		12700581

The Net Present Value at 6% discount rate is 2690082

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. Profitability Index
3. Payback Period
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. Dmrc Metro 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 Dmrc Metro 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 Delhi Metro Rail Corporation (A): Delivering Customer Satisfaction

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 Dmrc Metro 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 Dmrc Metro 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	(10010499)	-10010499	-	-
Year 1	3470369	-6540130	3470369	0.8696	3017712
Year 2	3971358	-2568772	7441727	0.7561	3002917
Year 3	3966825	1398053	11408552	0.6575	2608252
Year 4	3233873	4631926	14642425	0.5718	1848977
TOTAL					10477859

The Net NPV after 4 years is 467360

(10477859 - 10010499 )

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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	(10010499)	-10010499	-	-
Year 1	3470369	-6540130	3470369	0.8333	2891974
Year 2	3971358	-2568772	7441727	0.6944	2757888
Year 3	3966825	1398053	11408552	0.5787	2295616
Year 4	3233873	4631926	14642425	0.4823	1559545
TOTAL					9505023

The Net NPV after 4 years is -505476

At 20% discount rate the NPV is negative (9505023 - 10010499 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Dmrc Metro 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 Dmrc Metro has a NPV value higher than Zero then finance managers at Dmrc Metro 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 Dmrc Metro, then the stock price of the Dmrc Metro 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 Dmrc Metro 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 –

Understanding of risks involved in the project.

What can impact the cash flow of 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 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.

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 Delhi Metro Rail Corporation (A): Delivering Customer Satisfaction

References & Further Readings

Somnath Chakrabarti, B. S. Kiran (2018), "Delhi Metro Rail Corporation (A): Delivering Customer Satisfaction Harvard Business Review Case Study. Published by HBR Publications.