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Chapter 8: Sensitivity and
Breakeven Analysis
Analyzing project risks by
making mechanical trial and
error changes to forecast
values of selected variables.
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Introduction
•Analyzing the risks of investment
projects, by changing the values of
forecasted variables.
•Finding the values of particular variables
which give the project a Breakeven NPV
of zero.
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Process of Analysis
•Identification of those variables which
will have significant impacts on the NPV,
if their future values vary around the
forecast values.
•The variables having significant impacts
on the NPV are known as ‘sensitive
variables’.
•The variables are ranked in the order of
their monetary impact on the NPV.
•The most sensitive variables are further
investigated by management.
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Management Use of Sensitivity and
Breakeven Analysis
Sensitive variables are investigated and
managed in two ways:
•(1) Ex ante; in the planning phase; more
effort is used to create better forecasts of
future values. If management decides the
project is too risky, it is abandoned at this
stage.
Using Sensitivity:
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Management Use of Sensitivity and
Breakeven Analysis
•(2) Ex post; in the project execution phase;
management monitors the forecasted values. If
the project is performing poorly, it is
abandoned or sold off prior to its planned
termination.
Using Sensitivity:
Sensitive variables are investigated and
managed in two ways: