Google and Niantic Labs: The Professional Entrepreneur and Innovation in the Silicon Valley (A) 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 Google and Niantic Labs: The Professional Entrepreneur and Innovation in the Silicon Valley (A) case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Google and Niantic Labs: The Professional Entrepreneur and Innovation in the Silicon Valley (A) case study is a Harvard Business School (HBR) case study written by Jerome S. Engel. The Google and Niantic Labs: The Professional Entrepreneur and Innovation in the Silicon Valley (A) (referred as “Google Hanke” from here on) case study provides evaluation & decision scenario in field of Innovation & Entrepreneurship. It also touches upon business topics such as - Value proposition, Costs, Emerging markets, Entrepreneurship, Innovation, Internet, Mergers & acquisitions.

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 Google and Niantic Labs: The Professional Entrepreneur and Innovation in the Silicon Valley (A) Case Study

The case study focuses on the entrepreneurial career of John Hanke, a 1996 MBA graduate of the Haas School of Business at the University of California, Berkeley and a professional entrepreneur. While the case's central storyline centers on whether Hanke should spin-out his most recent venture - an entity called Niantic Labs that develops augmented reality (AR) games for use on smart phones from Google - in early 2015, there are multiple subplots that make this a potentially discussion-rich case for classroom use: (1) How the different components of the "Culture of Innovation" ecosystem in the San Francisco Bay Area impacted Hanke's career, starting from the time when he first enrolled at Berkeley-Haas in Fall 1994 up to his current situation now; (2) How he successfully created several start-ups before Google acquired his third one, Keyhole, an 3-D online mapping company, in 2004 and then rebranded it as Google Earth; (3) How he was able to scale-up Google's Geo-products division over an eight-year period and within a large corporate setting by applying the concepts of "lean start-up", "open sourcing", and "open innovation" that led to the eventual creation of Google Maps and Google Street View; and (4) The importance of "time and place", which demonstrates how Hanke, as a successful and experienced entrepreneur, foresaw the intersection of multiple converging technology trends, including the increased power of handheld computing, digital graphics, space-based imagery and geo-location with the ubiquitous use of mobile devices and the possibilities of new and related online products, services, and other forms of social interaction. Please note: this case also has a supplementary case available. The (B) supplement can be found using product number B5869.

Case Authors : Jerome S. Engel

Topic : Innovation & Entrepreneurship

Related Areas : Costs, Emerging markets, Entrepreneurship, Innovation, Internet, Mergers & acquisitions

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Calculating Net Present Value (NPV) at 6% for Google and Niantic Labs: The Professional Entrepreneur and Innovation in the Silicon Valley (A) Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10014541)	-10014541	-	-
Year 1	3470051	-6544490	3470051	0.9434	3273633
Year 2	3971957	-2572533	7442008	0.89	3535028
Year 3	3963171	1390638	11405179	0.8396	3327555
Year 4	3232870	4623508	14638049	0.7921	2560736
TOTAL			14638049		12696951

The Net Present Value at 6% discount rate is 2682410

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. Profitability Index
2. Net Present Value
3. Payback Period
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. Magnitude of both incoming and outgoing cash flows – Projects can be capital intensive, time intensive, or both. Google Hanke 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 Google Hanke 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 Google and Niantic Labs: The Professional Entrepreneur and Innovation in the Silicon Valley (A)

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 Google Hanke 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 Google Hanke 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	(10014541)	-10014541	-	-
Year 1	3470051	-6544490	3470051	0.8696	3017436
Year 2	3971957	-2572533	7442008	0.7561	3003370
Year 3	3963171	1390638	11405179	0.6575	2605849
Year 4	3232870	4623508	14638049	0.5718	1848404
TOTAL					10475059

The Net NPV after 4 years is 460518

(10475059 - 10014541 )

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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	(10014541)	-10014541	-	-
Year 1	3470051	-6544490	3470051	0.8333	2891709
Year 2	3971957	-2572533	7442008	0.6944	2758303
Year 3	3963171	1390638	11405179	0.5787	2293502
Year 4	3232870	4623508	14638049	0.4823	1559062
TOTAL					9502576

The Net NPV after 4 years is -511965

At 20% discount rate the NPV is negative (9502576 - 10014541 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Google Hanke 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 Google Hanke has a NPV value higher than Zero then finance managers at Google Hanke 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 Google Hanke, then the stock price of the Google Hanke 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 Google Hanke 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 Google and Niantic Labs: The Professional Entrepreneur and Innovation in the Silicon Valley (A)

References & Further Readings

Jerome S. Engel (2018), "Google and Niantic Labs: The Professional Entrepreneur and Innovation in the Silicon Valley (A) Harvard Business Review Case Study. Published by HBR Publications.