Question

After 18 months of hard work, self-paced learning, and success at Salesforce, you have just been promoted from Associate Sales Representative to Account Executive. Your annual salary was increased by 11% overnight which will certainly help reduce some of the stress you have felt balancing student loan repayment with the costs of an exciting (but expensive) life in Chicago. You are backfilling Heather Lee, your onboarding mentor who was just promoted to her first sales manager role in Boston. Your territory includes a handful of existing clients and new business responsibility for pharmaceutical industry firms with at least $50M in annual revenues in the states of Illinois, Wisconsin, Michigan, Iowa, and Minnesota. One of the largest opportunities Heather handed over to you is a new customer relationship management (CRM) solution for Eli Lilly and Company headquartered in Indianapolis. Heather has been negotiating with the decision maker, Chief Revenue Officer Declan Macmanus, for several months.

The total purchase price of the integrated Salesforce Sales Cloud solution is $678,000 for 1,100 new tablet computers and cloud software plus $14,250 installation and training costs. It is expected that your solution will reduce the customer support cost of Lilly’s operation by $176,600 per year. The solution will have a life of 6 years. The tablet computers included in your solution can be resold at the end of the period for $295,500. Salesforce’s competitor in this opportunity at Lilly is Microsoft with their Dynamics CRM solution. The Microsoft sales team has presented a similar system which has a purchase price of $708,022, free installation costs, an annual reduction of the customer support cost of Lilly’s operation of $184,000 per year. The Microsoft solution is also expected to have a life of 6 years. The tablet computers included in this solution can be resold at the end of the period for $275,000. The account executive from Microsoft, Caroline Partum, has influenced Declan to believe that her higher initial price is justified by the incremental annual higher savings. Neither Salesforce nor Microsoft is offering financing as Lilly is expected to pay upfront for this solution. Mr. Macmanus can borrow from Lilly’s bank at a rate of 3.5%. He has asked you to use this cost-of-capital rate for any net present value calculations.

You have been asked to prepare a six year financial comparison of the two proposals. Specifically, all costs and benefits are to be provided in today’s dollar terms. Mr. Macmanus has indicated that he will quickly make his decision on that basis, as he perceives the systems are nearly identical. Which of the two proposals offers the best ROI (quantified in both $US dollars and %) for Lilly? How do the ROIs of the two proposals (quantified in both $US dollars and %) change for Lilly if Lilly’s cost-of-capital is only 2.9%?

Answer 1

The following options would be available to Mr. Macmanus on the basis of Sales force and Microsoft tablets.

One of the assumption here is the yearly cost savings will start occurring in a year from investment, which means an investment done today will have the first cost year cost savings in 12 month

The Present Value of Cash Flow = CFt / (1+r) ^ T

where CFt is the cash flow in year T

R is the discount rate or cost of capital

T is the year of cash flow

So the cashflow in year 5 below = 176,600 and the PV = 176600/ (1+3.5%) ^ 5 = 176600 / 1.188 = 148,692

NPV = Initial Investment - Sum of the PV of all future cash flows

IRR is found using the IRR function in excel

ROI (in $)  = Initial Investment - Sum of PV of all cash flows (is same as NPV)

ROI (%) = (Initial Investment - Sum of PV of all future cash flows) / Initial Investment in %

Many people consider IRR as ROI, but ROI can also be calculated as above

1. At 3.5% Cost of capital

Sales Force option

Salesforce	Year 0	Year 1	Year 2	Year 3	Year 4	Year 5	Year 6
Reduction in operational cost		176600	176600	176600	176600	176600	176600
Capital Expenditure	-678000
Installation cost	-14250
Value from Sale							295500
Cash flows	-692250	176600	176600	176600	176600	176600	472100
Required Rate of Return	3.50%
PV of Cash Flow	-692250	170628	164858	159283	153897	148692	384054
NPV ($ROI)	489162
IRR	15.65%
ROI (%)	70.66%

NPV ($ROI) = (-692250 + 170628 + 164858 + 159283 + 153897+ 148692 + 384054) = 489162

ROI (%) = 489,162/ 692,250 = 70.66%

Microsoft	Year 0	Year 1	Year 2	Year 3	Year 4	Year 5	Year 6
Reduction in operational cost		184000	184000	184000	184000	184000	184000
Capital Expenditure	-708022
Installation cost
Value from Sale							275000
Cash flows	-708022	184000	184000	184000	184000	184000	459000
Required Rate of Return	3.50%
PV of Cash Flow	-708022	177778	171766	165957	160345	154923	373397
NPV ($ROI)	496144
IRR	15.75%
ROI (%)	70.07%

In terms of ROI ($), Microsoft Proposal is better (496144 vs  489162), however in ROI (%) sales force proposal is better (70.66% vs 70.07%)

2. At 2.90% Cost of Capital

For Salesforce

Salesforce	Year 0	Year 1	Year 2	Year 3	Year 4	Year 5	Year 6
Reduction in operational cost		176600	176600	176600	176600	176600	176600
Capital Expenditure	-678000
Installation cost	-14250
Value from Sale							295500
Cash flows	-692250	176600	176600	176600	176600	176600	472100
Required Rate of Return	2.90%
PV of Cash Flow	-692250	171623	166786	162086	157518	153078	397687
NPV ($ROI)	516528
IRR	16.32%
ROI (%)	74.62%

Microsoft	Year 0	Year 1	Year 2	Year 3	Year 4	Year 5	Year 6
Reduction in operational cost		184000	184000	184000	184000	184000	184000
Capital Expenditure	-708022
Installation cost
Value from Sale							275000
Cash flows	-708022	184000	184000	184000	184000	184000	459000
Required Rate of Return	2.90%
PV of Cash Flow	-708022	178814	173775	168877	164118	159493	386652
NPV ($ROI)	523708
IRR	16.42%
ROI (%)	73.97%

In terms of ROI ($), Microsoft Proposal is better (523,708 vs 516,528 ), however in ROI (%) terms sales force proposal is better (74.62% vs 73.97%)