Investindustrial Exits Ducati 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 Investindustrial Exits Ducati case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Investindustrial Exits Ducati case study is a Harvard Business School (HBR) case study written by Francois Brochet, Karol Misztal. The Investindustrial Exits Ducati (referred as “Ducati Investindustrial” from here on) case study provides evaluation & decision scenario in field of Finance & Accounting. It also touches upon business topics such as - Value proposition, Branding, Entrepreneurial finance, Financial analysis, Financial management.

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 Investindustrial Exits Ducati Case Study

In early 2012, Investindustrial, a European private equity group, publicly announced their intention to sell their 76.7% stake in Ducati Motor Holding S.p.A., an iconic Italian producer of sport performance motorcycles. The decision followed a six-year turnaround during which Ducati returned to profitability and significantly expanded its product line. Investindustrial's team had the following exit alternatives: 1) a trade sale to an automotive buyer; 2) a secondary buyout, partial or complete, by a financial investor; 3) a relisting in Hong Kong. Each option had its pros and cons, but all required a careful valuation of Ducati to maximize the investors' return on their flagship investment.

Case Authors : Francois Brochet, Karol Misztal

Topic : Finance & Accounting

Related Areas : Branding, Entrepreneurial finance, Financial analysis, Financial management

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Calculating Net Present Value (NPV) at 6% for Investindustrial Exits Ducati Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10008965)	-10008965	-	-
Year 1	3466746	-6542219	3466746	0.9434	3270515
Year 2	3982375	-2559844	7449121	0.89	3544300
Year 3	3951380	1391536	11400501	0.8396	3317655
Year 4	3240494	4632030	14640995	0.7921	2566775
TOTAL			14640995		12699244

The Net Present Value at 6% discount rate is 2690279

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. Payback Period
2. Net Present Value
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. Timing of the expected cash flows – stockholders of Ducati Investindustrial 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. Ducati Investindustrial 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 Investindustrial Exits Ducati

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 Ducati Investindustrial 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 Ducati Investindustrial 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	(10008965)	-10008965	-	-
Year 1	3466746	-6542219	3466746	0.8696	3014562
Year 2	3982375	-2559844	7449121	0.7561	3011248
Year 3	3951380	1391536	11400501	0.6575	2598096
Year 4	3240494	4632030	14640995	0.5718	1852763
TOTAL					10476669

The Net NPV after 4 years is 467704

(10476669 - 10008965 )

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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	(10008965)	-10008965	-	-
Year 1	3466746	-6542219	3466746	0.8333	2888955
Year 2	3982375	-2559844	7449121	0.6944	2765538
Year 3	3951380	1391536	11400501	0.5787	2286678
Year 4	3240494	4632030	14640995	0.4823	1562738
TOTAL					9503910

The Net NPV after 4 years is -505055

At 20% discount rate the NPV is negative (9503910 - 10008965 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Ducati Investindustrial 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 Ducati Investindustrial has a NPV value higher than Zero then finance managers at Ducati Investindustrial 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 Ducati Investindustrial, then the stock price of the Ducati Investindustrial 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 Ducati Investindustrial 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.

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

Understanding of risks involved in the project.

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 Investindustrial Exits Ducati

References & Further Readings

Francois Brochet, Karol Misztal (2018), "Investindustrial Exits Ducati Harvard Business Review Case Study. Published by HBR Publications.