Corporate Responsibility & Community Engagement at the Tintaya Copper Mine (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 Corporate Responsibility & Community Engagement at the Tintaya Copper Mine (A) case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Corporate Responsibility & Community Engagement at the Tintaya Copper Mine (A) case study is a Harvard Business School (HBR) case study written by V. Kasturi Rangan. The Corporate Responsibility & Community Engagement at the Tintaya Copper Mine (A) (referred as “Mine Billiton” from here on) case study provides evaluation & decision scenario in field of Strategy & Execution. It also touches upon business topics such as - Value proposition, Corporate governance, Emerging markets, Ethics, Government, Negotiations, Public relations, Social responsibility, Strategy, 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

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Case Description of Corporate Responsibility & Community Engagement at the Tintaya Copper Mine (A) Case Study

To maximize their effectiveness, color cases should be printed in color.Located in the highlands of Peru, the Tintaya copper mine has long been a source of intense conflict between local community members and mine operators. The mine, which was owned and managed first by the Peruvian state and later by BHP Billiton, stands on 2,300 hectares of land expropriated from local subsistence farmers. In 2000, to contest this loss of land, mining-related environmental degradation, and allegations of human rights abuses, a coalition of five indigenous communities forged an alliance with a group of domestic and international NGOs to build their case against the BHP Billiton and pursue it directly with the company's Australian headquarters. The outcome of these efforts was the inception of a unique corporate-community negotiation process known as the Tintaya Dialogue Table. In December 2004, after three years of negotiation, BHP Billiton and the five communities signed an agreement compensating families for lost land and livelihoods and establishing a local environmental monitoring team and community development fund. However, just as the company resolves one conflict, another group of local stakeholders emerges with new demands--ones that the company may not be able to meet. The conflict with this new group culminates in a violent takeover of the mine in May 2005, whereupon BHP Billiton staff are forced to shut down operations, abandon the mine site, and devise a new strategy for winning back local support.

Case Authors : V. Kasturi Rangan

Topic : Strategy & Execution

Related Areas : Corporate governance, Emerging markets, Ethics, Government, Negotiations, Public relations, Social responsibility, Strategy, Sustainability

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Calculating Net Present Value (NPV) at 6% for Corporate Responsibility & Community Engagement at the Tintaya Copper Mine (A) Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10024745)	-10024745	-	-
Year 1	3455945	-6568800	3455945	0.9434	3260325
Year 2	3973939	-2594861	7429884	0.89	3536792
Year 3	3936472	1341611	11366356	0.8396	3305138
Year 4	3243313	4584924	14609669	0.7921	2569008
TOTAL			14609669		12671263

The Net Present Value at 6% discount rate is 2646518

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. Net Present Value
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 Mine Billiton 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. Mine Billiton 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 Corporate Responsibility & Community Engagement at the Tintaya Copper Mine (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 Strategy & Execution 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 Mine Billiton 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 Mine Billiton 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	(10024745)	-10024745	-	-
Year 1	3455945	-6568800	3455945	0.8696	3005170
Year 2	3973939	-2594861	7429884	0.7561	3004869
Year 3	3936472	1341611	11366356	0.6575	2588294
Year 4	3243313	4584924	14609669	0.5718	1854375
TOTAL					10452707

The Net NPV after 4 years is 427962

(10452707 - 10024745 )

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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	(10024745)	-10024745	-	-
Year 1	3455945	-6568800	3455945	0.8333	2879954
Year 2	3973939	-2594861	7429884	0.6944	2759680
Year 3	3936472	1341611	11366356	0.5787	2278051
Year 4	3243313	4584924	14609669	0.4823	1564098
TOTAL					9481783

The Net NPV after 4 years is -542962

At 20% discount rate the NPV is negative (9481783 - 10024745 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Mine Billiton 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 Mine Billiton has a NPV value higher than Zero then finance managers at Mine Billiton 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 Mine Billiton, then the stock price of the Mine Billiton 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 Mine Billiton 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 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 will be a multi year spillover effect of various taxation regulations.

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 Corporate Responsibility & Community Engagement at the Tintaya Copper Mine (A)

References & Further Readings

V. Kasturi Rangan (2018), "Corporate Responsibility & Community Engagement at the Tintaya Copper Mine (A) Harvard Business Review Case Study. Published by HBR Publications.