Funding Philanthropy: Creating a Service NGO for Mothers 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 Funding Philanthropy: Creating a Service NGO for Mothers case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Funding Philanthropy: Creating a Service NGO for Mothers case study is a Harvard Business School (HBR) case study written by Veena Srinivasa, Joan Winn. The Funding Philanthropy: Creating a Service NGO for Mothers (referred as “Karin Mothers” from here on) case study provides evaluation & decision scenario in field of Innovation & Entrepreneurship. It also touches upon business topics such as - Value proposition, Social enterprise, 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 Funding Philanthropy: Creating a Service NGO for Mothers Case Study

This case is about an affluent and educated woman who decided to start her own organization to support young mothers. Shortly after the birth of her first child, Karin Marques stopped working full-time and soon felt the pangs of "maternal isolation" that mothers commonly report. Finding no satisfaction in the already-existing network of Mothers' Centers, which were geared more towards childcare, Karin formulated a concept for a mothers' center that would "provide support to women before, during, and after their maternity leave." By adopting a theme of "equal opportunities for men and women" - a priority for European Union Member States and an area where the Czech nation planned to grow - Karin registered Klub K2 as a non-governmental (non-profit) organization (NGO), and hoped to access funding from foundations or the European Union. The thematic focus Karin has chosen - women's reentry to the labor market after maternity leave - is a hot-button issue, particularly in new European Union Member States. Yet as Karin's start-up costs rose, and some members of her team of instructors backed out, Karin wondered how all of the pieces would come together by the time she was ready to launch her organization.

Case Authors : Veena Srinivasa, Joan Winn

Topic : Innovation & Entrepreneurship

Related Areas : Social enterprise, Social responsibility

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Calculating Net Present Value (NPV) at 6% for Funding Philanthropy: Creating a Service NGO for Mothers Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10005483)	-10005483	-	-
Year 1	3462282	-6543201	3462282	0.9434	3266304
Year 2	3966795	-2576406	7429077	0.89	3530433
Year 3	3968942	1392536	11398019	0.8396	3332400
Year 4	3238366	4630902	14636385	0.7921	2565089
TOTAL			14636385		12694227

The Net Present Value at 6% discount rate is 2688744

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. Timing of the expected cash flows – stockholders of Karin Mothers 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. Karin Mothers 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 Funding Philanthropy: Creating a Service NGO for Mothers

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 Innovation & Entrepreneurship 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 Karin Mothers 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 Karin Mothers 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	(10005483)	-10005483	-	-
Year 1	3462282	-6543201	3462282	0.8696	3010680
Year 2	3966795	-2576406	7429077	0.7561	2999467
Year 3	3968942	1392536	11398019	0.6575	2609644
Year 4	3238366	4630902	14636385	0.5718	1851546
TOTAL					10471337

The Net NPV after 4 years is 465854

(10471337 - 10005483 )

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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	(10005483)	-10005483	-	-
Year 1	3462282	-6543201	3462282	0.8333	2885235
Year 2	3966795	-2576406	7429077	0.6944	2754719
Year 3	3968942	1392536	11398019	0.5787	2296841
Year 4	3238366	4630902	14636385	0.4823	1561712
TOTAL					9498507

The Net NPV after 4 years is -506976

At 20% discount rate the NPV is negative (9498507 - 10005483 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Karin Mothers 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 Karin Mothers has a NPV value higher than Zero then finance managers at Karin Mothers 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 Karin Mothers, then the stock price of the Karin Mothers 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 Karin Mothers 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.

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Negotiation Strategy of Funding Philanthropy: Creating a Service NGO for Mothers

References & Further Readings

Veena Srinivasa, Joan Winn (2018), "Funding Philanthropy: Creating a Service NGO for Mothers Harvard Business Review Case Study. Published by HBR Publications.