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Hi,
I came across a question in March 2019 examiners report. The question asked was about the usefulness of sensitivity analysis. To summarize the examiner commented that there was no need to explain the sensitivity analysis process or its disadvantages.
I have watched your on investment appraisal lectures but would be grateful if you would advice on how to approach such type of questions.
Regards
I do explain the usefulness of sensitivity analysis in my free lectures.
All of the figures used in NPV calculations are estimates and therefore if any of the estimates turn out to be wrong it could mean that the end up having made a bad decision (they accepted a project expecting it to have a positive NPV but it ends up giving a negative NPV).
Sensitivity analysis measures the extent to which an item can change before the NPV becomes negative and therefore the more sensitive an item is then the more risky it is to accept the project. They either need to do more work to try and be more certain of the relevant flow, or if they cannot be more certain then they might decide not to do the project even though the NPV is positive because the risk that they are wrong is too great.
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