Raintree Resorts International: Envisioning Unique Adventures 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 Raintree Resorts International: Envisioning Unique Adventures case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Raintree Resorts International: Envisioning Unique Adventures case study is a Harvard Business School (HBR) case study written by Gary Carini, Douglas Y. Bech. The Raintree Resorts International: Envisioning Unique Adventures (referred as “Raintree Destinations” from here on) case study provides evaluation & decision scenario in field of Organizational Development. It also touches upon business topics such as - Value proposition, Strategy.

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 Raintree Resorts International: Envisioning Unique Adventures Case Study

In early 2017, the chief executive officer (CEO) of Raintree Resorts International, Inc. was contemplating the next moves for the timeshare company he had founded in 1997. He and his team had focused their attention on creating and developing properties in the world's top destinations. The CEO felt privileged to have built the best vacation destinations for people, but the company was at a turning point. He was intrigued by disrupters in the broader industry of hospitality, such as Airbnb (the largest provider of rooms without hotel ownership) and Uber (the US$66 billion company that provided rides but did not own a single taxi). Should the CEO grow his company's existing properties, develop new ones, or do something else entirely? Gary Carini is affiliated with Baylor University.

Case Authors : Gary Carini, Douglas Y. Bech

Topic : Organizational Development

Related Areas : Strategy

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Calculating Net Present Value (NPV) at 6% for Raintree Resorts International: Envisioning Unique Adventures Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10022127)	-10022127	-	-
Year 1	3453541	-6568586	3453541	0.9434	3258058
Year 2	3961935	-2606651	7415476	0.89	3526108
Year 3	3951810	1345159	11367286	0.8396	3318016
Year 4	3234885	4580044	14602171	0.7921	2562332
TOTAL			14602171		12664513

The Net Present Value at 6% discount rate is 2642386

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. Raintree Destinations 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 Raintree Destinations 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 Raintree Resorts International: Envisioning Unique Adventures

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 Organizational Development 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 Raintree Destinations 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 Raintree Destinations 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	(10022127)	-10022127	-	-
Year 1	3453541	-6568586	3453541	0.8696	3003079
Year 2	3961935	-2606651	7415476	0.7561	2995792
Year 3	3951810	1345159	11367286	0.6575	2598379
Year 4	3234885	4580044	14602171	0.5718	1849556
TOTAL					10446806

The Net NPV after 4 years is 424679

(10446806 - 10022127 )

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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	(10022127)	-10022127	-	-
Year 1	3453541	-6568586	3453541	0.8333	2877951
Year 2	3961935	-2606651	7415476	0.6944	2751344
Year 3	3951810	1345159	11367286	0.5787	2286927
Year 4	3234885	4580044	14602171	0.4823	1560033
TOTAL					9476255

The Net NPV after 4 years is -545872

At 20% discount rate the NPV is negative (9476255 - 10022127 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Raintree Destinations 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 Raintree Destinations has a NPV value higher than Zero then finance managers at Raintree Destinations 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 Raintree Destinations, then the stock price of the Raintree Destinations 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 Raintree Destinations 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 will be a multi year spillover effect of various taxation regulations.

What can impact the cash flow of the project.

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 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.

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 Raintree Resorts International: Envisioning Unique Adventures

References & Further Readings

Gary Carini, Douglas Y. Bech (2018), "Raintree Resorts International: Envisioning Unique Adventures Harvard Business Review Case Study. Published by HBR Publications.