Question

5. Brandt Enterprises is considering a new project that has an estimated NPV of $800. The assistant to CFO conducted a sensitivity analysis with regard to sales price and salvage value. The results are documented in the table below: Sales price change by -30% -15% 0 15% 30% NPV results 579.2 724 800 876 1051.2 Salvage value change by -30% -15% 0 15% 30% NPV results 624 780 800 820 984 The assistant needs to explain what sensitivity is and what the results mean. Can you help to explain the above two issues?

Answer 1

The technique used to determine how independent variable values will impact a particular dependent variable under a given set of assumptions is defined as sensitive analysis. For example if the sales fall by 10%, by how much amount would the profits change. Or if the variable costs decreases by a certain percentage, how much would the change be in profits. Basically sensitivity analysis is a risk management tool, helping management understand the change in input values would have on Output.

It is also known as the what – if analysis.

Sensitivity results

Salvage Value

A better way to represent sensitivity is given below. A 30% decrease in salvage value of equipment would lead to a 22% decrease in NPV. An increase of 15% in salvage value over the base value, will increase the NPV by a mere 2.50%

Sensitivity of Salvage Value
Variation in Salvage	NPV	% Change in NPV
-30%	624	-22.00%
-15%	780	-2.500%
0%	800	-
15%	820	2.50%
30%	984	23.00%

Sales Price

A better way to represent sensitivity is given below. A 30% increase in sales price would lead to a 31.40% increase in NPV. A decrease of 15% in sales price over the base value, will decrease the NPV by 9.50%

Sensitivity of Sales Price
Variation in Unit Price	NPV	% Change in NPV
-30%	579	-27.60%
-15%	724	-9.500%
0%	800	-
15%	876	9.50%
30%	1,051	31.40%

NPV is more sensitive to changes in Sales price than to changes in Salvage Value