Continuous Quality Improvement Initiatives at Queen Mary Hospital 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 Continuous Quality Improvement Initiatives at Queen Mary Hospital case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Continuous Quality Improvement Initiatives at Queen Mary Hospital case study is a Harvard Business School (HBR) case study written by Shunyin Lam, Marissa McCauley. The Continuous Quality Improvement Initiatives at Queen Mary Hospital (referred as “Cqi Qmh” from here on) case study provides evaluation & decision scenario in field of Technology & Operations. It also touches upon business topics such as - Value proposition, .

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 Continuous Quality Improvement Initiatives at Queen Mary Hospital Case Study

Looks into the success factors in implementing a continuous quality improvement (CQI) initiative in a project called Pre-Operative Skin Preparation: Shaving and Pre-Operative Baths at Queen Mary Hospital (QMH) in Hong Kong. Using focus, analyze, develop, and execute (FADE) as a CQI model, the CQI unit's skin preparation project achieved the CQI objectives. The CQI unit's intention is to administer the same CQI model in other areas, one of which is the Food Wastage Minimization project. A critical factor in the implementation is how should the CQI unit move forward with other changes using CQI? How should the CQI unit respond to organizational resistance and managing professionals through change? The unit also has to consider where and how to collect data in determining areas for CQI application. What are the key elements to be considered to achieve the cooperation of everyone at QMH, or at least of critical decision makers?

Case Authors : Shunyin Lam, Marissa McCauley

Topic : Technology & Operations

Related Areas :

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Calculating Net Present Value (NPV) at 6% for Continuous Quality Improvement Initiatives at Queen Mary Hospital Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10016252)	-10016252	-	-
Year 1	3460644	-6555608	3460644	0.9434	3264758
Year 2	3954249	-2601359	7414893	0.89	3519268
Year 3	3967612	1366253	11382505	0.8396	3331284
Year 4	3229124	4595377	14611629	0.7921	2557769
TOTAL			14611629		12673078

The Net Present Value at 6% discount rate is 2656826

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. Net Present Value
4. Payback Period

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. Cqi Qmh 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 Cqi Qmh 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 Continuous Quality Improvement Initiatives at Queen Mary Hospital

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 Technology & Operations 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 Cqi Qmh 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 Cqi Qmh 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	(10016252)	-10016252	-	-
Year 1	3460644	-6555608	3460644	0.8696	3009256
Year 2	3954249	-2601359	7414893	0.7561	2989980
Year 3	3967612	1366253	11382505	0.6575	2608769
Year 4	3229124	4595377	14611629	0.5718	1846262
TOTAL					10454267

The Net NPV after 4 years is 438015

(10454267 - 10016252 )

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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	(10016252)	-10016252	-	-
Year 1	3460644	-6555608	3460644	0.8333	2883870
Year 2	3954249	-2601359	7414893	0.6944	2746006
Year 3	3967612	1366253	11382505	0.5787	2296072
Year 4	3229124	4595377	14611629	0.4823	1557255
TOTAL					9483203

The Net NPV after 4 years is -533049

At 20% discount rate the NPV is negative (9483203 - 10016252 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Cqi Qmh 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 Cqi Qmh has a NPV value higher than Zero then finance managers at Cqi Qmh 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 Cqi Qmh, then the stock price of the Cqi Qmh 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 Cqi Qmh 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 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.

What are the key aspects of the projects that need to be monitored, refined, and retuned for continuous delivery of projected cash flows.

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 Continuous Quality Improvement Initiatives at Queen Mary Hospital

References & Further Readings

Shunyin Lam, Marissa McCauley (2018), "Continuous Quality Improvement Initiatives at Queen Mary Hospital Harvard Business Review Case Study. Published by HBR Publications.