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Parks and Partnership in New York City (B): The Spectrum of Engagement 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 Parks and Partnership in New York City (B): The Spectrum of Engagement case study


At Oak Spring University, we provide corporate level professional Net Present Value (NPV) case study solution. Parks and Partnership in New York City (B): The Spectrum of Engagement case study is a Harvard Business School (HBR) case study written by Susan Rosegrant, John D. Donahue. The Parks and Partnership in New York City (B): The Spectrum of Engagement (referred as “A?the Park” 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, Economy, Joint ventures, Leadership, Operations management, Policy, Project management, 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




Case Description of Parks and Partnership in New York City (B): The Spectrum of Engagement Case Study


In a gradual but profound transition, New York's park system had become dependent on private partners. The private sector's involvement was pervasive by 2003, but came in very different forms. This case, a companion to "Adrian Benepe's Challenge," highlights specific items to map the spectrum of engagement ranging from contracts where government is clearly in control, to philanthropy where government is mostly passive, to a range of complex collaboration in between. The five points of focus are: A?Outsourcing much of the maintenance of the Parks Department's fleet of vehicles; A?The evolution of the Central Park Conservancy from an informal group of volunteers to a sophisticated and well-funded non-profit with full responsibility for managing New York's flagship park; A?Bryant Park's transformation from a drug market to a glittering landmark, under the auspices of a private corporation subject to only limited Parks Department influence; A?The emergence of the Bronx River Alliance, comprising dozens of public and private organizations, as steward for the troubled river and the lands on its banks; A?The single-minded (and almost single-handed) campaign of the entertainer Bette Midler to realize her unique vision for a public park in a rough area of Harlem. HKS Case Number 1744.0


Case Authors : Susan Rosegrant, John D. Donahue

Topic : Leadership & Managing People

Related Areas : Economy, Joint ventures, Leadership, Operations management, Policy, Project management, Strategic planning




Calculating Net Present Value (NPV) at 6% for Parks and Partnership in New York City (B): The Spectrum of Engagement Case Study


Years              Cash Flow     Net Cash Flow     Cumulative    
Cash Flow
Discount Rate
@ 6 %
Discounted
Cash Flows
Year 0 (10011263) -10011263 - -
Year 1 3465991 -6545272 3465991 0.9434 3269803
Year 2 3953677 -2591595 7419668 0.89 3518758
Year 3 3962247 1370652 11381915 0.8396 3326779
Year 4 3249772 4620424 14631687 0.7921 2574124
TOTAL 14631687 12689464


The Net Present Value at 6% discount rate is 2678201

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. Profitability Index
2. Net Present Value
3. Internal Rate of Return
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. Magnitude of both incoming and outgoing cash flows – Projects can be capital intensive, time intensive, or both. A?the Park 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 A?the Park 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 Parks and Partnership in New York City (B): The Spectrum of Engagement

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 A?the Park 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 A?the Park 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 (10011263) -10011263 - -
Year 1 3465991 -6545272 3465991 0.8696 3013905
Year 2 3953677 -2591595 7419668 0.7561 2989548
Year 3 3962247 1370652 11381915 0.6575 2605242
Year 4 3249772 4620424 14631687 0.5718 1858068
TOTAL 10466762


The Net NPV after 4 years is 455499

(10466762 - 10011263 )






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 (10011263) -10011263 - -
Year 1 3465991 -6545272 3465991 0.8333 2888326
Year 2 3953677 -2591595 7419668 0.6944 2745609
Year 3 3962247 1370652 11381915 0.5787 2292967
Year 4 3249772 4620424 14631687 0.4823 1567213
TOTAL 9494114


The Net NPV after 4 years is -517149

At 20% discount rate the NPV is negative (9494114 - 10011263 ) so ideally we can't select the project if macro and micro factors don't allow financial managers of A?the Park 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 A?the Park has a NPV value higher than Zero then finance managers at A?the Park 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 A?the Park, then the stock price of the A?the Park 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 A?the Park 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 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 are the key aspects of the projects that need to be monitored, refined, and retuned for continuous delivery of projected cash flows.

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

Understanding of risks involved in the project.

What can impact the cash flow of the project.

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

Susan Rosegrant, John D. Donahue (2018), "Parks and Partnership in New York City (B): The Spectrum of Engagement Harvard Business Review Case Study. Published by HBR Publications.