Ayala Corporation: One Family's Contribution to Nation Building 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 Ayala Corporation: One Family's Contribution to Nation Building case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Ayala Corporation: One Family's Contribution to Nation Building case study is a Harvard Business School (HBR) case study written by Benoit Leleux, Anne Catrin Glemser. The Ayala Corporation: One Family's Contribution to Nation Building (referred as “Ayala Philippines” from here on) case study provides evaluation & decision scenario in field of Leadership & Managing People. It also touches upon business topics such as - Value proposition, Emerging markets, Entrepreneurship, Generational issues, Succession planning, Sustainability.

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

---

Case Description of Ayala Corporation: One Family's Contribution to Nation Building Case Study

MAY 21, 2014, MANILA. For the first time, the World Economic Forum (WEF) had come to the Philippines. Ayala Corporation, one of the nation's oldest and most successful conglomerates, hosted an evening reception that brought together the "Who's Who" of the Philippines. Jaime Augusto and Fernando Zobel de Ayala, the seventh generation chairman and president, respectively, of the Ayala Corporation, were inspiring and natural ambassadors, promoting the Philippines as an up-and-coming market to global investors and potential business partners, investing time and effort in nation-building activities. Just after the East Asia Forum, Ayala's biannual executive strategy meeting was held, with some eighth generation family members attending for the first time. Among the topics discussed were how to strategically allocate resources to grow the corporation inside and/or beyond the Philippines and how to venture beyond the traditional business models. The next generation had to consider fundamental questions. What were the keys to Ayala's success over the past 180 years? Would they still be relevant in the future? Would inclusion and nation building continue to serve as reliable pillars for the business? Finally, how should they best prepare themselves to become the next generation of responsible stewards?

Case Authors : Benoit Leleux, Anne Catrin Glemser

Topic : Leadership & Managing People

Related Areas : Emerging markets, Entrepreneurship, Generational issues, Succession planning, Sustainability

---

Calculating Net Present Value (NPV) at 6% for Ayala Corporation: One Family's Contribution to Nation Building Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10015459)	-10015459	-	-
Year 1	3453405	-6562054	3453405	0.9434	3257929
Year 2	3954181	-2607873	7407586	0.89	3519207
Year 3	3943888	1336015	11351474	0.8396	3311364
Year 4	3237045	4573060	14588519	0.7921	2564043
TOTAL			14588519		12652544

The Net Present Value at 6% discount rate is 2637085

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.

---

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. Net Present Value
3. Payback Period
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. Ayala Philippines 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 Ayala Philippines have higher preference for cash returns over 4-5 years rather than 10-15 years given the nature of the volatility in the industry.

---

Formula and Steps to Calculate Net Present Value (NPV) of Ayala Corporation: One Family's Contribution to Nation Building

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 Leadership & Managing People 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 Ayala Philippines 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 Ayala Philippines 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	(10015459)	-10015459	-	-
Year 1	3453405	-6562054	3453405	0.8696	3002961
Year 2	3954181	-2607873	7407586	0.7561	2989929
Year 3	3943888	1336015	11351474	0.6575	2593170
Year 4	3237045	4573060	14588519	0.5718	1850791
TOTAL					10436851

The Net NPV after 4 years is 421392

(10436851 - 10015459 )

---

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	(10015459)	-10015459	-	-
Year 1	3453405	-6562054	3453405	0.8333	2877838
Year 2	3954181	-2607873	7407586	0.6944	2745959
Year 3	3943888	1336015	11351474	0.5787	2282343
Year 4	3237045	4573060	14588519	0.4823	1561075
TOTAL					9467214

The Net NPV after 4 years is -548245

At 20% discount rate the NPV is negative (9467214 - 10015459 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Ayala Philippines 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 Ayala Philippines has a NPV value higher than Zero then finance managers at Ayala Philippines 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 Ayala Philippines, then the stock price of the Ayala Philippines 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 Ayala Philippines 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.

---

Negotiation Strategy of Ayala Corporation: One Family's Contribution to Nation Building

References & Further Readings

Benoit Leleux, Anne Catrin Glemser (2018), "Ayala Corporation: One Family's Contribution to Nation Building Harvard Business Review Case Study. Published by HBR Publications.