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Blue Haven Initiative: The PEGAfrica Investment 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 Blue Haven Initiative: The PEGAfrica Investment case study


At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Blue Haven Initiative: The PEGAfrica Investment case study is a Harvard Business School (HBR) case study written by Vikram Gandhi, Caitlin Lindsay Reimers Brumme, Amram Migdal. The Blue Haven Initiative: The PEGAfrica Investment (referred as “Bhi Peg's” from here on) case study provides evaluation & decision scenario in field of Finance & Accounting. It also touches upon business topics such as - Value proposition, Budgeting, Corporate governance, Currency, Emerging markets, Entrepreneurial finance, Financial analysis, Financial markets, Growth strategy, Organizational culture, Pricing, Social enterprise, Sustainability.

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




Case Description of Blue Haven Initiative: The PEGAfrica Investment Case Study


This case examines Blue Haven Initiative (BHI), an impact investing fund and family office, and one of its investments, PEGAfrica (PEG). BHI founder Liesel Pritzker Simmons' motivations for using her family wealth to start a family office focused on impact investing, as well as BHI's approach and strategy, including direct and indirect investments, fund manager selection, total returns, sourcing and due diligence of direct investments, and other aspects. The case explores a specific investment decision in depth. In May 2017, Pritzker Simmons and BHI Director of Private Investments Lauren Cochran were considering whether to invest an additional $1 million in PEG's upcoming $5 million Series B round, at a $20 million pre-money valuation. PEG offered pay-as-you-go (PAYG) financing plans that allowed customers to make small payments via mobile money to pay off financing for the solar equipment over time. The case details PEG's business model, growth strategy, financial structure, and the landscape of investment capital in West Africa during the time of the case.


Case Authors : Vikram Gandhi, Caitlin Lindsay Reimers Brumme, Amram Migdal

Topic : Finance & Accounting

Related Areas : Budgeting, Corporate governance, Currency, Emerging markets, Entrepreneurial finance, Financial analysis, Financial markets, Growth strategy, Organizational culture, Pricing, Social enterprise, Sustainability




Calculating Net Present Value (NPV) at 6% for Blue Haven Initiative: The PEGAfrica Investment Case Study


Years              Cash Flow     Net Cash Flow     Cumulative    
Cash Flow
Discount Rate
@ 6 %
Discounted
Cash Flows
Year 0 (10016533) -10016533 - -
Year 1 3447535 -6568998 3447535 0.9434 3252392
Year 2 3975186 -2593812 7422721 0.89 3537901
Year 3 3940597 1346785 11363318 0.8396 3308601
Year 4 3225925 4572710 14589243 0.7921 2555235
TOTAL 14589243 12654129


The Net Present Value at 6% discount rate is 2637596

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.




Capital Budgeting Approaches

Methods of Capital Budgeting


There are four types of capital budgeting techniques that are widely used in the corporate world –

1. Payback Period
2. Profitability Index
3. Net Present Value
4. Internal Rate of Return

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 Bhi Peg's 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. Bhi Peg's shareholders have preference for diversified projects investment rather than prospective high income from a single capital intensive project.




Formula and Steps to Calculate Net Present Value (NPV) of Blue Haven Initiative: The PEGAfrica Investment

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 Finance & Accounting 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 Bhi Peg's 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 Bhi Peg's 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 (10016533) -10016533 - -
Year 1 3447535 -6568998 3447535 0.8696 2997857
Year 2 3975186 -2593812 7422721 0.7561 3005812
Year 3 3940597 1346785 11363318 0.6575 2591006
Year 4 3225925 4572710 14589243 0.5718 1844433
TOTAL 10439108


The Net NPV after 4 years is 422575

(10439108 - 10016533 )






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 (10016533) -10016533 - -
Year 1 3447535 -6568998 3447535 0.8333 2872946
Year 2 3975186 -2593812 7422721 0.6944 2760546
Year 3 3940597 1346785 11363318 0.5787 2280438
Year 4 3225925 4572710 14589243 0.4823 1555712
TOTAL 9469642


The Net NPV after 4 years is -546891

At 20% discount rate the NPV is negative (9469642 - 10016533 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Bhi Peg's 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 Bhi Peg's has a NPV value higher than Zero then finance managers at Bhi Peg's 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 Bhi Peg's, then the stock price of the Bhi Peg's 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 Bhi Peg's 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 can impact the cash flow of the project.

What will be a multi year spillover effect of various taxation regulations.

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.




References & Further Readings

Vikram Gandhi, Caitlin Lindsay Reimers Brumme, Amram Migdal (2018), "Blue Haven Initiative: The PEGAfrica Investment Harvard Business Review Case Study. Published by HBR Publications.