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Hi Sir,
I really am unable to understand how did they perform the sensitivity analysis in (b)(iii). I’ve watched your lecture on this topic still didn’t understand what approach has the examiner followed, and why.It is the normal approach.
The question effectively asks for the sensitivity of the sales revenue, so you calculate the PV of the sales revenue (less the tax on the sales revenue), which is 11,683 (as shown in appendix 2). (It is only these flows that would change, all the other flows are not affected).
You already know the NPV of the project which is 959 (from appendix 1).
So the sensitivity of the revenue is 959/11,683 x 100%
If we have to calculate the sensitivity of the Sales Revenue then why do we need to subtract tax?
Because for every $1 that the revenue changes there will be $1 change in profit and therefore a change in the tax. So we need to consider the after-tax revenue.
Sir, could you please explain it in case of sensitivity to Tax Rate? This is not related to the question but in general a doubt!
Why is tax adjusted with depreciation while calculating the sensitivity to Tax Rate?I am not sure that I understand what you are asking. However tax is calculated on the net cash flow after subtracting the tax allowable depreciation.
Hi sir, if we want to perform sensitivity analysis on Costs, will we follow the same procedure as we did in Sales?
Variable Costs * (1 – t)?Okay, thank you sir.
Also, I was unable to understand the sensitivity analysis for IRR.
Could you please be able to explain in brief?There is no such thing as the sensitivity of the IRR.
It is the sensitivity of the cost of capital that could be asked.
The IRR is the discount rate that, by definition, gives a NPV of zero.
So the sensitivity of the cost of capital is the (cost of capital – the IRR) / cost of capital, expressed as a %.
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