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Department
Administrative Studies
Course
ADMS 3530
Professor
All Professors
Semester
Winter

Description
Finance ADMS 3530 ­ Winter 2012 – Professor Lois King Lecture 8 – Capital Budgeting II – Feb 28 8.1 Sensitivity & Scenario Analysis − Sensitivity Analysis o Changing a single variable within a range from most likely to optimistic to  pessimistic and then evaluating the resulting NPVs. o Assumes that the individual variables are independent of each other.  − Scenario Analysis o Several variables or a combination of variables are changed under a different set  of assumptions (more realistic). − Simulation Analysis o An extension of scenario analysis.  o A computer generates hundreds or thousands of possible outcomes of combination  of variables.  o The different estimates for the variables are calculated using probability  distributions and the project NPV is then calculated. 8.2 Break­Even Analysis − Accounting break­even level of revenues = o Fixed costs plus depreciation – additional profit from each additional dollar of  sales.  o Fixed costs plus depreciation – ( 1 – variable costs per dollar of sales)  Accounting break­even tells you the level of sales at which profits = zero  (or where total costs = total revenues). − NPV (or Economic) Break­Even o This can be defined as the level of sales at which NPV switches from positive to  negative.  o Or where PV of cash flows = investment.  8.3 Operating Leverage − Fixed costs = costs incurred regardless of the level of output. − Variable costs = costs that vary directly with sales. − Accounting break­even  ▯depends on the level of fixed costs. − Operating Leverage o The degree to which a project’s costs are fixed  If a project has mostly fixed costs, it is said to have high operating  leverage.   High operating leverage implies that profits are more sensitive to changes  in sales. 8.4 The Valu
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