Bluestar's Acquisition of Adisseo (B) 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 Bluestar's Acquisition of Adisseo (B) case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Bluestar's Acquisition of Adisseo (B) case study is a Harvard Business School (HBR) case study written by F. Warren McFarlan, Donghong Li, Lei Li. The Bluestar's Acquisition of Adisseo (B) (referred as “Adisseo Bluestar” from here on) case study provides evaluation & decision scenario in field of Global Business. 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 Bluestar's Acquisition of Adisseo (B) Case Study

This case describes the post-M&A integration of Adisseo of France in 2006 by Bluestar Group, the largest subsidiary of ChemChina (a Fortune 500 company) until 2013. Adisseo was mainly engaged in production of methionine, a feed additive, while China had no methionine production and had relied on its import for a long time. After acquiring Adisseo, Bluestar started to integrate Adisseo, change its executives and sent executives and technical staff to study at Adisseo, expanded Adisseo's production capacity in France and Spain, supported Adisseo in its M&A of the upstream businesses in France, and so on. More importantly, Bluestar and Adisseo jointly started a new methionine project in Nanjing, China, in 2010. In the construction of the Nanjing project, Bluestar reached a successful integration with Adisseo through project team establishment, organization structure replication, management system and institution transplantation and improvement, communication with the trade union, and fusion of organizational cultures. Additionally, in the years of the post-M&A integration, Bluestar and its parent company ChemChina realized remarkable upgrading and development. While Chinese methionine market maintained growth momentum, Adisseo was facing overcapacity of the whole industry and needed to consider the road of future development.

Case Authors : F. Warren McFarlan, Donghong Li, Lei Li

Topic : Global Business

Related Areas :

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Calculating Net Present Value (NPV) at 6% for Bluestar's Acquisition of Adisseo (B) Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10016064)	-10016064	-	-
Year 1	3453610	-6562454	3453610	0.9434	3258123
Year 2	3976851	-2585603	7430461	0.89	3539383
Year 3	3966681	1381078	11397142	0.8396	3330502
Year 4	3249086	4630164	14646228	0.7921	2573580
TOTAL			14646228		12701588

The Net Present Value at 6% discount rate is 2685524

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. Adisseo Bluestar 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 Adisseo Bluestar 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 Bluestar's Acquisition of Adisseo (B)

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 Global Business 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 Adisseo Bluestar 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 Adisseo Bluestar 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	(10016064)	-10016064	-	-
Year 1	3453610	-6562454	3453610	0.8696	3003139
Year 2	3976851	-2585603	7430461	0.7561	3007071
Year 3	3966681	1381078	11397142	0.6575	2608157
Year 4	3249086	4630164	14646228	0.5718	1857675
TOTAL					10476042

The Net NPV after 4 years is 459978

(10476042 - 10016064 )

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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	(10016064)	-10016064	-	-
Year 1	3453610	-6562454	3453610	0.8333	2878008
Year 2	3976851	-2585603	7430461	0.6944	2761702
Year 3	3966681	1381078	11397142	0.5787	2295533
Year 4	3249086	4630164	14646228	0.4823	1566882
TOTAL					9502125

The Net NPV after 4 years is -513939

At 20% discount rate the NPV is negative (9502125 - 10016064 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Adisseo Bluestar 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 Adisseo Bluestar has a NPV value higher than Zero then finance managers at Adisseo Bluestar 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 Adisseo Bluestar, then the stock price of the Adisseo Bluestar 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 Adisseo Bluestar 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 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.

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 Bluestar's Acquisition of Adisseo (B)

References & Further Readings

F. Warren McFarlan, Donghong Li, Lei Li (2018), "Bluestar's Acquisition of Adisseo (B) Harvard Business Review Case Study. Published by HBR Publications.