Question

1. What is the difference between scenario analysis and sensitivity analysis? How might you use each during the capital budgeting process?

2. What is the concept of operating leverage? Describe a scenario where a high degree of operating leverage would be positive for a company and one in which it would be negative.

Answer 1

Answer:

Difference between Scenario analysis and sensitivity anaysis-

	Scenario analysis	Sensitivity analysis
Definition	It is the analysis of estimating the expected value of a portfolio after certain changes in the factors affecting the portfolio such as interest rates.	This analysis tells how different values of an independent variable affect dependent variable under some set of assumptions.
Effect	It analyzes the effect of changing one variable at a time	It analyzes the effect of changing all the variables at the same time.
Cases	It studies three scenarios: Base case, worst case and best case scenario.	It examines how sensitive the dependent variable is if there is change in independent variable.
In capital budgeting	It analyzes the outcome of the project if the assumptions and estimates turn to be unreliable.	It analyzes how an independent variable in capital budgeting may affect the decision.