Capital Budgeting Techniques for Decision Making
Added on 2019-11-14
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CORPORATE FINANCIAL MANAGEMENTCorporate financial managementBy Student`s NameCode+Course NameProfessor`s NameUniversity NameCity, StateDate1
CORPORATE FINANCIAL MANAGEMENTTable of contentCover page.........................................................................................................1Table of content...................................................................................................2Sensitivity Analysis................................................................................................3Scenario Analysis................................................................................................3,4,5Break even Analysis.............................................................................................5,6Simulation Analysis..............................................................................................6,7Conclusion.........................................................................................................7Analytical Example...............................................................................................7References.........................................................................................................8,92
CORPORATE FINANCIAL MANAGEMENTSENSITIVITY ANALYSISSensitivity analysis is the accounting tool used by top management in companies to make a deep analysis for a given scenario. This analysis is also referred to as what-if-analysis as it commonly involves the process of getting an insight into the possible outcome of a given event. It is used to determine the important and unimportant factors on the greater profitability of the business. Top management involves this analysis in the process of capital budgeting so as to have an insight of the likelihood of the rapport that may ensue between various parts of the project sales, contribution, liquidity and the working capital management of an entity (Жамойда, О.А. and Мацюк, М.С., 2011)The purpose of the analysis is not to solely determine risk but rather to determine the reaction of NPV to various factors used in its calculation. This is due to the fact that the process of NPV involves some assumptions founded on forecast thus rendering it uncertain. Sensitivity analysis is one variableof the commonly used analysis tool to measure the extent of change in factors and the related assumptions that would have the impact on the profitability and the projected cashflow. The process of allowing managers to appraise a project before allocating resources to it is paramount as it gives themanager an insight of what the project would contribute toward the overall success of the business(Cooke-Davies, T.J., 2001)Sensitivity analysis tool as analysis tool has a various advantage such as 1.simplicity- in that there is no complicated theory involved as opposed to the most concept in accounting and finance where the certain theoretical concept has to be appreciated before a method is applied.2.It helps in directing the management`s effort. It identifies important areas as far as attainment of the organizational goal is concerned and any facet which is regarded as highly sensational will be highly monitored.3.Source of information through the use of this analysis, various information is availed to the management in the form that aid in the use of professional judgment.Notwithstanding its advantages, sensitivity analysis has got some disadvantage in that it fails to provide clear result as the term pessimistic and optimistic may have a different meaning to different people. Furthermore, it focuses on the relationship between factors for instance sales volume may be related to cost but each factor is analyzed in a different manner.SCENARIO ANALYSISScenario Analysis is a way in which possible future events are ascertained and analyzed. It is a very crucial tool in finance and in economics and it is used extensively to make future projections. It does not try to manifest one specific scenario but rather the alternative possible outcome. The main aim in carrying out the Scenario Analysis is to estimate the risk associated with a specific plan against different situations that could possibly arise as the plan unfolds. Scenario analysis is not dependent onthe past outcomes.Scenario Analysis is a way of configuring some thought about the future. Outcomes are evident based on different expected scenarios and so are the avenues that lead to that scenario from the current state of affairs, hence giving the institution more space to vary plans accordingly. Extremely positive or negative scenarios allow are stress-tested and proper risk mitigation done if considered appropriate.An example of a scenario is that involving” good, middling and bad “This kind of levels allows for a prudent spread of insights. It is also likely to come up with other types or levels of scenarios, But 3
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