# Topic 6_student - forecasts is break-even analysis Common...

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Topic 6 Scenario analysis, break- even analysis and simulation Readings: Chap 8 (8.1, 8.2)

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Sensitivity Analysis, Scenario Analysis, and Break-Even Analysis Allows us to look the behind the NPV number to see how robust our estimates are.
Stewart Pharmaceuticals NPV \$1,188 Net Income (612) Tax (34%) \$1,800 EBIT (1,800) Fixed Costs Years 1-4 Year 0 \$1,588 -\$1,600 Cash Flow (400) Depreciation (3,000) Variable Costs \$7,000 Revenues 75 . 433 , 3 \$ ) 10 . 1 ( 588 , 1 \$ 600 , 1 \$ 4 1 = + - = = t t NPV Current price = \$10/ dose

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Sensitivity Analysis: We can see that NPV is very sensitive to changes in revenues. In the Stewart Pharmaceuticals example, a 14% drop in revenue leads to a 61% drop in NPV
Scenario Analysis: A variation on sensitivity analysis is scenario analysis. For example, the following three scenarios could apply to a pharmaceutical company: 1. Best Case (Revenue=10000, variable cost=2000) 2. Normal case (Revenue=7000, variable cost=3000) 3. Worst case (Revenue=5000, variable cost=5000) For each scenario, calculate the NPV.

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Break-Even Analysis Another way to examine variability in our

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Unformatted text preview: forecasts is break-even analysis. Common tool for analyzing the relationship between sales volume and profitability There are two common break-even measures Accounting break-even: sales volume at which net income = 0 Financial break-even: sales volume at which net present value = 0 Stewart Pharmaceuticals NPV \$1,188 Net Income (612) Tax (34%) \$1,800 EBIT (1,800) Fixed Costs Years 1-4 Year 0 \$1,588-\$1,600 Cash Flow (400) Depreciation (3,000) Variable Costs \$7,000 Revenues Current price = \$10/ dose Break-Even Analysis: The project requires an investment of \$1,600. In order to cover our cost of capital (break even) the project needs to generate a cash flow each year for four years with a discount rate of 10%. This is the projects break-even operating cash flow, OCF BE Break-Even Revenue Monte Carlo Simulation Monte Carlo simulation is a further attempt to model real-world uncertainty....
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