Hindustan Petroleum Corporation Ltd.: Driving Change Through Internal Communication 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 Hindustan Petroleum Corporation Ltd.: Driving Change Through Internal Communication case study

At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Hindustan Petroleum Corporation Ltd.: Driving Change Through Internal Communication case study is a Harvard Business School (HBR) case study written by Boris Groysberg, Michael Slind. The Hindustan Petroleum Corporation Ltd.: Driving Change Through Internal Communication (referred as “Hpcl Hpcl's” 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, Communication, Competitive strategy, Motivating people, Organizational culture, Strategic planning.

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 Hindustan Petroleum Corporation Ltd.: Driving Change Through Internal Communication Case Study

Hindustan Petroleum (HPCL), confronted in 2003 with an urgent need to change how it operated externally, adopted a highly innovative approach to communicating internally. This case, set in 2010, presents an overview of the new, more interactive model of employee communication that HPCL introduced as part of its effort to adapt to increased market competition during the early 21st century. (HPCL, previously a wholly state-owned company within a state-controlled industry, had begun to operate in an increasingly privatized environment.) At the center of the new model was a series of "vision workshops"--structured conversations in which employees at all levels of the company took part in developing strategic and organizational visions for their regional offices, for their business units, and for the company as a whole. The case also discusses HPCL's use of digital technology to enhance employee communication; its leaders' increased emphasis on direct, "one-to-one" interaction with employees; and some of the consequences (both external and internal) of this more conversational model of organizational communication. As of 2010, HPCL was a Fortune Global 500 company, with more than 11,000 employees and with annual revenues of more than $23 billion. The question that company leaders now faced was whether HPCL's novel approaches to communicating with employees were appropriate to its next stage of internal development and external growth.

Case Authors : Boris Groysberg, Michael Slind

Topic : Leadership & Managing People

Related Areas : Communication, Competitive strategy, Motivating people, Organizational culture, Strategic planning

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Calculating Net Present Value (NPV) at 6% for Hindustan Petroleum Corporation Ltd.: Driving Change Through Internal Communication Case Study

Years	Cash Flow	Net Cash Flow	Cumulative     Cash Flow	Discount Rate @ 6 %	Discounted Cash Flows
Year 0	(10027793)	-10027793	-	-
Year 1	3459294	-6568499	3459294	0.9434	3263485
Year 2	3967399	-2601100	7426693	0.89	3530971
Year 3	3953711	1352611	11380404	0.8396	3319612
Year 4	3229118	4581729	14609522	0.7921	2557764
TOTAL			14609522		12671832

The Net Present Value at 6% discount rate is 2644039

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. Internal Rate of Return
3. Net Present Value
4. Payback Period

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 Hpcl Hpcl's 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. Hpcl Hpcl's 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 Hindustan Petroleum Corporation Ltd.: Driving Change Through Internal Communication

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 Hpcl Hpcl's 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 Hpcl Hpcl's 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	(10027793)	-10027793	-	-
Year 1	3459294	-6568499	3459294	0.8696	3008082
Year 2	3967399	-2601100	7426693	0.7561	2999924
Year 3	3953711	1352611	11380404	0.6575	2599629
Year 4	3229118	4581729	14609522	0.5718	1846259
TOTAL					10453893

The Net NPV after 4 years is 426100

(10453893 - 10027793 )

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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	(10027793)	-10027793	-	-
Year 1	3459294	-6568499	3459294	0.8333	2882745
Year 2	3967399	-2601100	7426693	0.6944	2755138
Year 3	3953711	1352611	11380404	0.5787	2288027
Year 4	3229118	4581729	14609522	0.4823	1557252
TOTAL					9483163

The Net NPV after 4 years is -544630

At 20% discount rate the NPV is negative (9483163 - 10027793 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of Hpcl Hpcl's 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 Hpcl Hpcl's has a NPV value higher than Zero then finance managers at Hpcl Hpcl's 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 Hpcl Hpcl's, then the stock price of the Hpcl Hpcl's 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 Hpcl Hpcl's 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 –

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.

What can impact the cash flow of the project.

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

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 Hindustan Petroleum Corporation Ltd.: Driving Change Through Internal Communication

References & Further Readings

Boris Groysberg, Michael Slind (2018), "Hindustan Petroleum Corporation Ltd.: Driving Change Through Internal Communication Harvard Business Review Case Study. Published by HBR Publications.