Eastern Condiments: The Changing Curry Company 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 Eastern Condiments: The Changing Curry Company case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Eastern Condiments: The Changing Curry Company case study is a Harvard Business School (HBR) case study written by Kavil Ramachandran, Sonia Mehrotra. The Eastern Condiments: The Changing Curry Company (referred as “Ecpl Firoz” 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, Change management, Customers, Performance measurement.

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 Eastern Condiments: The Changing Curry Company Case Study

Navas Meeran, the Chairman and Managing Director of Eastern Condiments Private Limited (ECPL) had been instrumental in the growth and professionalization of ECPL by bringing in non-family professionals, introducing state-of-the-art systems and processes in manufacturing, and nurturing the values of compassion and loyalty that his father had instilled across the organization. In 2014 he had taken a sabbatical and handed over the company operations to his younger brother Firoz. ECPL, the flagship company of the INR 8 billion, family managed Eastern Group headquartered in Kochi, India, was engaged in manufacturing and marketing spices, blended spice powders, pickles, breakfast staples and beverages in both domestic and international markets. The company began as a small shop set up by their father M.E. Meeran in 1961. It had grown to record revenues of INR 5.60 billion in 2014. Though Navas was pleased with the company's 2015 business performance under Firoz's leadership he was uncomfortable with the pace and execution of major organizational changes brought in by Firoz. He was worried about Firoz's aggressive approach; the speed of the internal changes Firoz had made to tap external market opportunities had resulted in 10 -15% attrition at all levels in the organization. Was it right for a traditional family run business bred on a culture of compassion and loyalty to make a sudden shift to a metrics-based performance culture? Would Firoz's efforts to transform the company into a professional organization ultimately sustain the growth of the business? Was there a need to both cultivate professionalism and reward loyalty across the ECPL value chain? Could a company based out of a Tier 2 city such as Kochi be able to attract high-quality talent easily? These were some of the questions that worried Navas.

Case Authors : Kavil Ramachandran, Sonia Mehrotra

Topic : Leadership & Managing People

Related Areas : Change management, Customers, Performance measurement

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Calculating Net Present Value (NPV) at 6% for Eastern Condiments: The Changing Curry Company Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10012295)	-10012295	-	-
Year 1	3461501	-6550794	3461501	0.9434	3265567
Year 2	3960229	-2590565	7421730	0.89	3524590
Year 3	3958988	1368423	11380718	0.8396	3324043
Year 4	3238814	4607237	14619532	0.7921	2565444
TOTAL			14619532		12679643

The Net Present Value at 6% discount rate is 2667348

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. Timing of the expected cash flows – stockholders of Ecpl Firoz 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. Ecpl Firoz 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 Eastern Condiments: The Changing Curry Company

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 Ecpl Firoz 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 Ecpl Firoz 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	(10012295)	-10012295	-	-
Year 1	3461501	-6550794	3461501	0.8696	3010001
Year 2	3960229	-2590565	7421730	0.7561	2994502
Year 3	3958988	1368423	11380718	0.6575	2603099
Year 4	3238814	4607237	14619532	0.5718	1851802
TOTAL					10459404

The Net NPV after 4 years is 447109

(10459404 - 10012295 )

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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	(10012295)	-10012295	-	-
Year 1	3461501	-6550794	3461501	0.8333	2884584
Year 2	3960229	-2590565	7421730	0.6944	2750159
Year 3	3958988	1368423	11380718	0.5787	2291081
Year 4	3238814	4607237	14619532	0.4823	1561928
TOTAL					9487752

The Net NPV after 4 years is -524543

At 20% discount rate the NPV is negative (9487752 - 10012295 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Ecpl Firoz 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 Ecpl Firoz has a NPV value higher than Zero then finance managers at Ecpl Firoz 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 Ecpl Firoz, then the stock price of the Ecpl Firoz 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 Ecpl Firoz 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.

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Negotiation Strategy of Eastern Condiments: The Changing Curry Company

References & Further Readings

Kavil Ramachandran, Sonia Mehrotra (2018), "Eastern Condiments: The Changing Curry Company Harvard Business Review Case Study. Published by HBR Publications.