How Managers Can Lower Mental Illness Costs by Reducing Stigma 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 How Managers Can Lower Mental Illness Costs by Reducing Stigma case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. How Managers Can Lower Mental Illness Costs by Reducing Stigma case study is a Harvard Business School (HBR) case study written by Betsy Gelb, Patrick W. Corrigan. The How Managers Can Lower Mental Illness Costs by Reducing Stigma (referred as “Stigma Mental” 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, Health, Personnel policies.

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 How Managers Can Lower Mental Illness Costs by Reducing Stigma Case Study

The stigma associated with mental illness is not usually an issue that managers include in their portfolio of everyday concerns. However, published data from multiple sources makes it clear that the costs of doing business for any organization are increased when the very common conditions characterized as mental illnesses are stigmatized. Denial, fear of discovery, and insurance inadequacy among an organization's employees often delay treatment, harming organizational productivity and raising health care costs related to both the mental illness itself and associated medical conditions. Additional costs to businesses range from the possibility of increased liability to higher taxes. To counter stigma among employees, the authors recommend personal communication with co-workers diagnosed with a mental illness, or with members of their families, to create new associations for these illnesses, which is a more effective approach than either education or anti-stigma messages. They also recommend communication to constituencies beyond one's own organization, joining with other companies to demonstrate actions aimed at community-wide stigma reduction, and to offer consulting services to organizations promoting mental health.

Case Authors : Betsy Gelb, Patrick W. Corrigan

Topic : Leadership & Managing People

Related Areas : Health, Personnel policies

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Calculating Net Present Value (NPV) at 6% for How Managers Can Lower Mental Illness Costs by Reducing Stigma Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10013823)	-10013823	-	-
Year 1	3455014	-6558809	3455014	0.9434	3259447
Year 2	3977455	-2581354	7432469	0.89	3539921
Year 3	3951123	1369769	11383592	0.8396	3317439
Year 4	3244388	4614157	14627980	0.7921	2569859
TOTAL			14627980		12686666

The Net Present Value at 6% discount rate is 2672843

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. Internal Rate of Return
3. Net Present Value
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. Stigma Mental 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 Stigma Mental 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 How Managers Can Lower Mental Illness Costs by Reducing Stigma

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 Stigma Mental 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 Stigma Mental 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	(10013823)	-10013823	-	-
Year 1	3455014	-6558809	3455014	0.8696	3004360
Year 2	3977455	-2581354	7432469	0.7561	3007527
Year 3	3951123	1369769	11383592	0.6575	2597928
Year 4	3244388	4614157	14627980	0.5718	1854989
TOTAL					10464804

The Net NPV after 4 years is 450981

(10464804 - 10013823 )

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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	(10013823)	-10013823	-	-
Year 1	3455014	-6558809	3455014	0.8333	2879178
Year 2	3977455	-2581354	7432469	0.6944	2762122
Year 3	3951123	1369769	11383592	0.5787	2286530
Year 4	3244388	4614157	14627980	0.4823	1564616
TOTAL					9492446

The Net NPV after 4 years is -521377

At 20% discount rate the NPV is negative (9492446 - 10013823 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Stigma Mental 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 Stigma Mental has a NPV value higher than Zero then finance managers at Stigma Mental 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 Stigma Mental, then the stock price of the Stigma Mental 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 Stigma Mental 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.

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Negotiation Strategy of How Managers Can Lower Mental Illness Costs by Reducing Stigma

References & Further Readings

Betsy Gelb, Patrick W. Corrigan (2018), "How Managers Can Lower Mental Illness Costs by Reducing Stigma Harvard Business Review Case Study. Published by HBR Publications.