Getting Past the Hype About 3-D Printing 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 Getting Past the Hype About 3-D Printing case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Getting Past the Hype About 3-D Printing case study is a Harvard Business School (HBR) case study written by Jaime Bonnin Roca, Parth Vaishnav, Joana Mendonca, M. Granger Morgan. The Getting Past the Hype About 3-D Printing (referred as “Additive Manufacturing” from here on) case study provides evaluation & decision scenario in field of Technology & Operations. It also touches upon business topics such as - Value proposition, Personnel policies, Technology.

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 Getting Past the Hype About 3-D Printing Case Study

This is an MIT Sloan Management Review article. Although additive manufacturing -also known as 3-D printing -was developed back in the 1980s, lately it has become increasingly talked about as managers look for ways to improve efficiency and reduce production costs. The appeal of additive manufacturing is its potential to reduce the need for expensive materials and energy, cut lead times, and make supply chains more efficient. Despite the promise of additive manufacturing, the authors argue, near-term expectations are overblown. Based on dozens of interviews, study of the literature on the history of materials and process technologies, industry meetings, and factory visits, they have identified three myths that need to be dispelled. The first myth is that additive manufacturing will allow producers to make parts of any complexity as easily and economically as parts that are manufactured in traditional ways (in other words, that it will make complexity "free"). The second myth is that additive manufacturing will prod manufacturing to become local. And the third myth is that additive manufacturing will allow producers to replace mass manufacturing with mass customization. In the authors'view, none of these expectations is likely to be realized in the next few decades. Although the authors say that additive manufacturing will make it easier to design lighter parts with complex geometries and internal cavities, they point to important drawbacks and restrictions. Knowing the parameters of what's possible to produce requires skills that are currently scarce. There are also safety and technical issues. Some of the safety concerns stem from the fact that the technology is new. Although many people are looking for additive manufacturing to bring manufacturing closer to markets and consumers, the authors believe that this scenario has been exaggerated, largely due to economies of scale. Despite expectations that additive manufacturing will bring a decisive shift from mass manufacturing to mass customization, the likelihood that change will occur quickly is slim, the authors say. What's more, they raise questions about how flexible additive manufacturing will be. In theory, a good 3-D printer should be capable of printing a wide range of designs. In practice, though, there may be regulations (particularly in safety-critical applications) about how equipment can be configured.

Case Authors : Jaime Bonnin Roca, Parth Vaishnav, Joana Mendonca, M. Granger Morgan

Topic : Technology & Operations

Related Areas : Personnel policies, Technology

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Calculating Net Present Value (NPV) at 6% for Getting Past the Hype About 3-D Printing Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10015614)	-10015614	-	-
Year 1	3464078	-6551536	3464078	0.9434	3267998
Year 2	3960529	-2591007	7424607	0.89	3524857
Year 3	3972804	1381797	11397411	0.8396	3335643
Year 4	3243643	4625440	14641054	0.7921	2569269
TOTAL			14641054		12697767

The Net Present Value at 6% discount rate is 2682153

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. Payback Period
3. Internal Rate of Return
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. Magnitude of both incoming and outgoing cash flows – Projects can be capital intensive, time intensive, or both. Additive Manufacturing 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 Additive Manufacturing 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 Getting Past the Hype About 3-D Printing

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 Additive Manufacturing 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 Additive Manufacturing 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	(10015614)	-10015614	-	-
Year 1	3464078	-6551536	3464078	0.8696	3012242
Year 2	3960529	-2591007	7424607	0.7561	2994729
Year 3	3972804	1381797	11397411	0.6575	2612183
Year 4	3243643	4625440	14641054	0.5718	1854563
TOTAL					10473717

The Net NPV after 4 years is 458103

(10473717 - 10015614 )

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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	(10015614)	-10015614	-	-
Year 1	3464078	-6551536	3464078	0.8333	2886732
Year 2	3960529	-2591007	7424607	0.6944	2750367
Year 3	3972804	1381797	11397411	0.5787	2299076
Year 4	3243643	4625440	14641054	0.4823	1564257
TOTAL					9500432

The Net NPV after 4 years is -515182

At 20% discount rate the NPV is negative (9500432 - 10015614 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Additive Manufacturing 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 Additive Manufacturing has a NPV value higher than Zero then finance managers at Additive Manufacturing 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 Additive Manufacturing, then the stock price of the Additive Manufacturing 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 Additive Manufacturing 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 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.

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.

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 Getting Past the Hype About 3-D Printing

References & Further Readings

Jaime Bonnin Roca, Parth Vaishnav, Joana Mendonca, M. Granger Morgan (2018), "Getting Past the Hype About 3-D Printing Harvard Business Review Case Study. Published by HBR Publications.