CIBC Mellon: Managing a Cross-Border Joint Venture 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 CIBC Mellon: Managing a Cross-Border Joint Venture case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. CIBC Mellon: Managing a Cross-Border Joint Venture case study is a Harvard Business School (HBR) case study written by Paul W. Beamish, Michael Sartor. The CIBC Mellon: Managing a Cross-Border Joint Venture (referred as “Mellon Cibc” from here on) case study provides evaluation & decision scenario in field of Global Business. It also touches upon business topics such as - Value proposition, Leadership, Recession.

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 CIBC Mellon: Managing a Cross-Border Joint Venture Case Study

During his 10-year tenure, the president and chief executive officer (CEO) of CIBC Mellon had presided over the dramatic growth of the jointly owned, Toronto-based asset servicing business of CIBC and The Bank of New York Mellon Corporation (BNY Mellon). In mid-September 2008, the CEO was witnessing the onset of the worst financial crisis since the Great Depression. The impending collapse of several major firms threatened to impact all players in the financial services industry worldwide. Although joint ventures (JVs) were uncommon in the financial sector, the CEO believed that the CIBC Mellon JV was uniquely positioned to withstand the fallout associated with the financial crisis. Two pressing issues faced the JV's executive management team. First, they needed to discuss how to best manage any risks confronting the JV as a consequence of the financial crisis. How could the policies and practices developed during the past decade be leveraged to sustain the JV through the broader financial crisis? Second, they needed to continue discussions regarding options for refining CIBC Mellon's strategic focus, so that the JV could emerge from the financial meltdown on even stronger footing. This case is intended to provide an example of best practice in joint venturing. There is a school of thought within the scholarly community that suggests that JVs are less profitable than wholly owned subsidiaries, are a transitional organization form, are very hard to manage, and are a vehicle that might result in the loss of one's technology. The CIBC Mellon JV provides a counterpoint. It has been quite profitable and stable, has not resulted in BNY Mellon losing its technology contribution, and senior management has been able to effectively manage operations. A second objective is to underscore the value in paying attention to the details in designing and managing a joint venture because, during an actual crisis, you'll surely find out whether major problems exist. Carefully considering such details greatly improves the chances that it will survive. Some joint ventures never pass such a test of their resiliency. The case can be used in the latter half of a strategic management course, or in a course about cooperative strategies.

Case Authors : Paul W. Beamish, Michael Sartor

Topic : Global Business

Related Areas : Leadership, Recession

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Calculating Net Present Value (NPV) at 6% for CIBC Mellon: Managing a Cross-Border Joint Venture Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10017805)	-10017805	-	-
Year 1	3453725	-6564080	3453725	0.9434	3258231
Year 2	3967273	-2596807	7420998	0.89	3530859
Year 3	3975728	1378921	11396726	0.8396	3338098
Year 4	3247505	4626426	14644231	0.7921	2572328
TOTAL			14644231		12699516

The Net Present Value at 6% discount rate is 2681711

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. Payback Period
4. Net Present Value

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 Mellon Cibc 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. Mellon Cibc shareholders have preference for diversified projects investment rather than prospective high income from a single capital intensive project.

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Formula and Steps to Calculate Net Present Value (NPV) of CIBC Mellon: Managing a Cross-Border Joint Venture

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 Mellon Cibc 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 Mellon Cibc 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	(10017805)	-10017805	-	-
Year 1	3453725	-6564080	3453725	0.8696	3003239
Year 2	3967273	-2596807	7420998	0.7561	2999828
Year 3	3975728	1378921	11396726	0.6575	2614106
Year 4	3247505	4626426	14644231	0.5718	1856772
TOTAL					10473945

The Net NPV after 4 years is 456140

(10473945 - 10017805 )

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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	(10017805)	-10017805	-	-
Year 1	3453725	-6564080	3453725	0.8333	2878104
Year 2	3967273	-2596807	7420998	0.6944	2755051
Year 3	3975728	1378921	11396726	0.5787	2300769
Year 4	3247505	4626426	14644231	0.4823	1566119
TOTAL					9500043

The Net NPV after 4 years is -517762

At 20% discount rate the NPV is negative (9500043 - 10017805 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Mellon Cibc 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 Mellon Cibc has a NPV value higher than Zero then finance managers at Mellon Cibc 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 Mellon Cibc, then the stock price of the Mellon Cibc 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 Mellon Cibc 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 are the key aspects of the projects that need to be monitored, refined, and retuned for continuous delivery of projected cash flows.

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.

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 CIBC Mellon: Managing a Cross-Border Joint Venture

References & Further Readings

Paul W. Beamish, Michael Sartor (2018), "CIBC Mellon: Managing a Cross-Border Joint Venture Harvard Business Review Case Study. Published by HBR Publications.