Oilcorp's Marketing Campaign: Mixed Reactions to a CSR Initiative 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 Oilcorp's Marketing Campaign: Mixed Reactions to a CSR Initiative case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Oilcorp's Marketing Campaign: Mixed Reactions to a CSR Initiative case study is a Harvard Business School (HBR) case study written by Juan M. Parra. The Oilcorp's Marketing Campaign: Mixed Reactions to a CSR Initiative (referred as “Oilcorp's Oilcorp” from here on) case study provides evaluation & decision scenario in field of Leadership & Managing People. It also touches upon business topics such as - Value proposition, Ethics, Joint ventures, Social responsibility.

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 Oilcorp's Marketing Campaign: Mixed Reactions to a CSR Initiative Case Study

In January 2010, the head of the Colombian Red Cross approached Oilcorp, owner of the largest regional chain of service stations in the country, requesting its participation in its 100th anniversary celebration with a brand awareness campaign for its social programs. Given that the annual budget had already been approved without this campaign in mind, Oilcorp's CEO assigned the task of raising money to the marketing department. Nevertheless, the campaign backfired when Oilcorp tried to link the social message with selling more gasoline and asking customers to provide their details through its corporate website, to be added to Oilcorp's database. Carlos Cardona-a member of the marketing team at Oilcorp-was worried about the mixed reactions he was receiving. The team merely wanted to be practical, and this seemed the easiest way. However, people close to Carlos thought otherwise. For many, it seemed that the company was taking advantage of a social cause for marketing purposes. They disliked the way in which it was hiding selfish intentions behind helping those most in need. Nor did they understand why Oilcorp asked for personal information on a website in exchange for a donation that the company should give on its own initiative. In addition, Oilcorp's CEO told media the company expected to raise US$50,000 from the campaign, but Carlos was worried about achieving the target when he noticed that just 1,200 users had provided their data via the campaign's website. Because of the regular pattern of gas consumption, it was improbable that customers would buy more gasoline from Oilcorp's service stations through the influence of a social initiative. Consequently, the results of the campaign could be as much as 30% below the Colombian Red Cross's expectations and the promises made by Oilcorp's CEO in the media. Carlos and the marketing team needed to decide what actions to take given that the campaign was not on track to meet expectations.

Case Authors : Juan M. Parra

Topic : Leadership & Managing People

Related Areas : Ethics, Joint ventures, Social responsibility

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Calculating Net Present Value (NPV) at 6% for Oilcorp's Marketing Campaign: Mixed Reactions to a CSR Initiative Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10026263)	-10026263	-	-
Year 1	3449317	-6576946	3449317	0.9434	3254073
Year 2	3965350	-2611596	7414667	0.89	3529147
Year 3	3964438	1352842	11379105	0.8396	3328619
Year 4	3234499	4587341	14613604	0.7921	2562026
TOTAL			14613604		12673865

The Net Present Value at 6% discount rate is 2647602

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. Internal Rate of Return
3. Profitability Index
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. Oilcorp's Oilcorp 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 Oilcorp's Oilcorp 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 Oilcorp's Marketing Campaign: Mixed Reactions to a CSR Initiative

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 Leadership & Managing People 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 Oilcorp's Oilcorp 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 Oilcorp's Oilcorp 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	(10026263)	-10026263	-	-
Year 1	3449317	-6576946	3449317	0.8696	2999406
Year 2	3965350	-2611596	7414667	0.7561	2998374
Year 3	3964438	1352842	11379105	0.6575	2606682
Year 4	3234499	4587341	14613604	0.5718	1849335
TOTAL					10453798

The Net NPV after 4 years is 427535

(10453798 - 10026263 )

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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	(10026263)	-10026263	-	-
Year 1	3449317	-6576946	3449317	0.8333	2874431
Year 2	3965350	-2611596	7414667	0.6944	2753715
Year 3	3964438	1352842	11379105	0.5787	2294235
Year 4	3234499	4587341	14613604	0.4823	1559847
TOTAL					9482228

The Net NPV after 4 years is -544035

At 20% discount rate the NPV is negative (9482228 - 10026263 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Oilcorp's Oilcorp 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 Oilcorp's Oilcorp has a NPV value higher than Zero then finance managers at Oilcorp's Oilcorp 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 Oilcorp's Oilcorp, then the stock price of the Oilcorp's Oilcorp 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 Oilcorp's Oilcorp 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 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 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.

Understanding of risks involved in the project.

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 Oilcorp's Marketing Campaign: Mixed Reactions to a CSR Initiative

References & Further Readings

Juan M. Parra (2018), "Oilcorp's Marketing Campaign: Mixed Reactions to a CSR Initiative Harvard Business Review Case Study. Published by HBR Publications.