HomeZilla: Attracting Homebuyers through Better Photos 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 HomeZilla: Attracting Homebuyers through Better Photos case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. HomeZilla: Attracting Homebuyers through Better Photos case study is a Harvard Business School (HBR) case study written by Gregory S. Zaric, Hongmei Sun. The HomeZilla: Attracting Homebuyers through Better Photos (referred as “Homezilla Browsing” 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, Financial analysis.

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 HomeZilla: Attracting Homebuyers through Better Photos Case Study

In November 2014, the founder and chief executive officer of HomeZilla, in Toronto, Canada, was considering how to provide value-added services to his business. One of the company's main services was to work with real estate agents to provide web listings to attract home shoppers. Many Internet companies were analyzing web-browsing data in an effort to better understand user behaviour and thus improve their business. Inspired by this trend, the founder considered how his company could use web-browsing data to better attract home shoppers on the company's website and thereby add value to his business.

Case Authors : Gregory S. Zaric, Hongmei Sun

Topic : Leadership & Managing People

Related Areas : Financial analysis

Calculating Net Present Value (NPV) at 6% for HomeZilla: Attracting Homebuyers through Better Photos Case Study

Years              Cash Flow     Net Cash Flow     Cumulative    
Cash Flow
Discount Rate
@ 6 %
Cash Flows
Year 0 (10018073) -10018073 - -
Year 1 3459116 -6558957 3459116 0.9434 3263317
Year 2 3963561 -2595396 7422677 0.89 3527555
Year 3 3951510 1356114 11374187 0.8396 3317764
Year 4 3242819 4598933 14617006 0.7921 2568616
TOTAL 14617006 12677253

The Net Present Value at 6% discount rate is 2659180

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. Payback Period
2. Profitability Index
3. Net Present Value
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. Timing of the expected cash flows – stockholders of Homezilla Browsing 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. Homezilla Browsing shareholders have preference for diversified projects investment rather than prospective high income from a single capital intensive project.

Formula and Steps to Calculate Net Present Value (NPV) of HomeZilla: Attracting Homebuyers through Better Photos

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 Homezilla Browsing 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 Homezilla Browsing 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 %
Cash Flows
Year 0 (10018073) -10018073 - -
Year 1 3459116 -6558957 3459116 0.8696 3007927
Year 2 3963561 -2595396 7422677 0.7561 2997022
Year 3 3951510 1356114 11374187 0.6575 2598182
Year 4 3242819 4598933 14617006 0.5718 1854092
TOTAL 10457223

The Net NPV after 4 years is 439150

(10457223 - 10018073 )

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 %
Cash Flows
Year 0 (10018073) -10018073 - -
Year 1 3459116 -6558957 3459116 0.8333 2882597
Year 2 3963561 -2595396 7422677 0.6944 2752473
Year 3 3951510 1356114 11374187 0.5787 2286753
Year 4 3242819 4598933 14617006 0.4823 1563859
TOTAL 9485683

The Net NPV after 4 years is -532390

At 20% discount rate the NPV is negative (9485683 - 10018073 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Homezilla Browsing 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 Homezilla Browsing has a NPV value higher than Zero then finance managers at Homezilla Browsing 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 Homezilla Browsing, then the stock price of the Homezilla Browsing 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 Homezilla Browsing 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.

References & Further Readings

Gregory S. Zaric, Hongmei Sun (2018), "HomeZilla: Attracting Homebuyers through Better Photos Harvard Business Review Case Study. Published by HBR Publications.