Blizzard v. bnetd.org: Managing Intellectual Property (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 Blizzard v. bnetd.org: Managing Intellectual Property (A) case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Blizzard v. bnetd.org: Managing Intellectual Property (A) case study is a Harvard Business School (HBR) case study written by V. Brian Viard, Pamela Yatsko. The Blizzard v. bnetd.org: Managing Intellectual Property (A) (referred as “Bnetd Blizzard” from here on) case study provides evaluation & decision scenario in field of Strategy & Execution. It also touches upon business topics such as - Value proposition, Intellectual property, Internet, IT, Regulation.

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 Blizzard v. bnetd.org: Managing Intellectual Property (A) Case Study

Personal computer game maker Blizzard filed a lawsuit in 2002 against the developers of the bnetd project. The bnetd project was a volunteer effort of game enthusiasts and programmers frustrated with difficulties encountered playing Blizzard's personal computer games on its 24-hour Battle.net online gaming service. Via reverse engineering of Blizzard's software, the bnetd developers created and disseminated a free open source software program that mimicked the Battle.net playing experience while improving on some of its deficiencies. Blizzard, one of the world's most successful PC game publishers and a part of international media conglomerate Vivendi Universal, charged the bnetd developers with breach of contract and various counts of intellectual property infringement. The defendants maintained that U.S. law, in an effort to spur innovation in the United States, protected their activities. Describes the events leading up to a court-ordered mediation session between the two parties in October 2003. Students are asked, as business managers, to determine the legal and non-legal alternatives available to Blizzard and the bnetd developers, and to decide which strategy to pursue from each party's perspective. http://www.gsb.stanford.edu/multimedia/flv/100618-Case-Blizzard1.html

Case Authors : V. Brian Viard, Pamela Yatsko

Topic : Strategy & Execution

Related Areas : Intellectual property, Internet, IT, Regulation

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Calculating Net Present Value (NPV) at 6% for Blizzard v. bnetd.org: Managing Intellectual Property (A) Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10006183)	-10006183	-	-
Year 1	3468951	-6537232	3468951	0.9434	3272595
Year 2	3982544	-2554688	7451495	0.89	3544450
Year 3	3970368	1415680	11421863	0.8396	3333598
Year 4	3247405	4663085	14669268	0.7921	2572249
TOTAL			14669268		12722892

The Net Present Value at 6% discount rate is 2716709

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. Payback Period
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. Timing of the expected cash flows – stockholders of Bnetd Blizzard 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. Bnetd Blizzard 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 Blizzard v. bnetd.org: Managing Intellectual Property (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 Bnetd Blizzard 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 Bnetd Blizzard 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	(10006183)	-10006183	-	-
Year 1	3468951	-6537232	3468951	0.8696	3016479
Year 2	3982544	-2554688	7451495	0.7561	3011375
Year 3	3970368	1415680	11421863	0.6575	2610581
Year 4	3247405	4663085	14669268	0.5718	1856714
TOTAL					10495150

The Net NPV after 4 years is 488967

(10495150 - 10006183 )

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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	(10006183)	-10006183	-	-
Year 1	3468951	-6537232	3468951	0.8333	2890793
Year 2	3982544	-2554688	7451495	0.6944	2765656
Year 3	3970368	1415680	11421863	0.5787	2297667
Year 4	3247405	4663085	14669268	0.4823	1566071
TOTAL					9520186

The Net NPV after 4 years is -485997

At 20% discount rate the NPV is negative (9520186 - 10006183 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Bnetd Blizzard 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 Bnetd Blizzard has a NPV value higher than Zero then finance managers at Bnetd Blizzard 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 Bnetd Blizzard, then the stock price of the Bnetd Blizzard 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 Bnetd Blizzard 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 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.

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 Blizzard v. bnetd.org: Managing Intellectual Property (A)

References & Further Readings

V. Brian Viard, Pamela Yatsko (2018), "Blizzard v. bnetd.org: Managing Intellectual Property (A) Harvard Business Review Case Study. Published by HBR Publications.