In the business world, Net Present Value (NPV) has long been an essential calculation when making investment and program decisions. The NPV formula helps managers focus on four essential truths about their financial decisions:
- It’s the long-term value or cost of a decision that matters, much more than the perceived immediate return;
- All calculations should include both expected returns AND expected costs (hence the ”net” in net present value);
- A dollar earned a year from now is LESS valuable than a dollar in your hand today — since you could earn interest on today’s dollar (which is why NPV ”discounts” all money earned in the future to assess its ”present value”);
- Investing in one project means you can’t invest in another — there is an ”opportunity cost” to any business decision, the lost opportunity to do something else. So, it’s not good enough for an investment to yield positive returns. Rather, those expected returns must be GREATER than any other possible use of your money, time, and energy.
The NPV calculation brings a touch of discipline to financial decisions, that can so often be influenced by the lure of immediate return. Of course, it’s all still guessing (”expected returns” and ”expected costs” are just guesses, after all, despite the historic data we bring to the effort). But it’s a structured guess, which is a start.
As I talk with arts groups about their investment and programming decisions, I often sense them struggling with essentially the questions above. But, because they’re driven by passion rather than profit, financial concerns are only a part of the balance. Certainly, they want to make decisions that are financially viable and responsible — they can’t make a difference if they’re out of business. But the calculus is more complex than that.
Net Present Joy (NPJ)
Which is why I hereby suggest the discipline of Net Present Joy (NPJ). Like Net Present Value, Net Present Joy would assess all immediate and future joy created by the decision in question, discounting future joy a bit since we’d certainly prefer to be joyful now rather than later. And, of course, the calculation would deduct all current and future grief associated with the initiative (emotional, organizational, logistical, etc.), adjusted to present value.
And before the world dumps on me for suggesting a ”discount rate” for future joy, consider this: Do you really want to spend a year of hard work only to achieve the same joy you could have had without the work? Or is the point of that hard work to reach a GREATER joy, for you and your community, than you could have received immediately or by any other means? That’s the function of ”present joy.”
I won’t begin to suggest where you get the numbers for this calculation, nor who’s joy you’re estimating (yours, your audience, your artists, your community, mankind). But it strikes me that even a back-of-the-envelope analysis would bring some useful insight to your decision process. And if you haven’t already considered the OTHER opportunities that might yield a greater return, this will be your excuse to do so.
Andrew, that’s it completely, and in fact, the dreary old world of economics has already dealt with this concept quite directly.
It’s referred to as ‘utility.’
Ugh, sounds grim, but it’s pretty much exactly what you’re saying, which is that a person or an organization makes decisions that maximize their ‘utility’ which is a term that takes in, well, pretty much whatever it is somebody values.
One of my college roommates was an Econ major and was a real propeller head about this stuff. One time, he slept in really late one day and when he woke up, he said, “yeah, I should have gotten up earlier, but I get a lot of utility from sleep.”
Andrew:
A useful idea…
It strikes me that this NPJ concept would fuel a helpful, if provocative, exercise for arts organizations (and nonprofits generally) as they think about their mission, their fuel, and their sustainability…
It might help force — in a special way — the “why” “how” “when” “how much” “how long” and “who cares” questions that often don’t get traction in composing the vision/mission haikus…
Hope you push this further: back of a napkin, envelope, or otherwise…
drc
Yes, interesting indeed. How to calculate the anticipation factor?
Tangential suggestion, with all due respect to a great thinker who cranks out this provocative stuff weekly: Consider using the gender-neutral term ‘humankind’ instead of ‘mankind.’
Thanks Rolf. And my intent is certainly to engage all audiences with respect. I’ll work to ensure my language reflects that.
Love this discussion. I would argue that NPV doesn’t work quite as well unless the income and expenses are both in dollars (or equivalent). However, you can still get lots of benefit from developing a Present Value model. To simplify, let’s start by ignoring future benefits.
The steps for determining present value would therefore be:
1. Start with utility to understand the personal benefit of a program or initiative. This would capture the joy, educational value, desire to be cultured, etc. Typically utility is measured on a per person basis. Multiply by the number of people that can be expected to benefit to get the Total Utility
Utility x # People benefiting = Total Utility
You could compare the value of different programs using the per person utility or the total utility depending on your objectives.
If you want to derive an efficiency measure, divide the “total utility” by the cost(resources, dollars, getting burned out on an intense performance schedule).
Efficiency = Utility/ Costs($) = [Utility x # People benefiting]/ Cost.
Dollars allocated to higher efficiency programs would generate greater overall utility.
The model ignores and hence penalizes programs that have substantial benefits over time. To rectify this, you can take those future benefits and discount them back to present value. This additional benefit will add to the current value that you determined earlier. In most cases, the incremental benefit will be smaller than the immediate benefit.
Example:
A discount concert ticket may result in a new classical music aficionado 5% of the time (defined as someone who attends 5 or more concerts a year). So consider adding 3-5 years of subsequent utility from concert attendance by this group. Apply a discount rate to the utility created in future years to get the current value of that utility. Each subsequent year is discounted more and more- and hence gives you less and less incremental value. You can find equations for this online.
A final comment: this model over-simplifies in many ways. You can refine the model substantially by incorporating a segmentation study into this analysis.