SENSITIVITY ANALYSIS

A Sensitivity Analysis is a "what-if" tool that examines the effect on a company's Net Income (bottom line) when sales levels are increased or decreased. For example, the sensitivity analysis can answer the following questions;

"WHAT" would be my forecasted net income, "IF" my sales forecast is 30%, 20%, or 10% too high?

"WHAT" would be my forecasted net income, "IF" my sales forecast is 30%, 20% or 10% too low?

In other words;

1. What would my bottom line be if I sold 10% more units than I originally forecasted?

2. What would my bottom line be if I sold 20% more units than I originally forecasted?

3. What would my bottom line be if I sold 30% more units than I originally forecasted?

4. What would my bottom line be if I sold 10% fewer units than I originally forecasted?

5. What would my bottom line be if I sold 20% fewer units than I originally forecasted?

6. What would my bottom line be if I sold 30% fewer units than I originally forecasted?

Below provides an example of a sensitivity analysis.

RESUME SERVICES FORECASTED SENSITIVITY ANALYSIS FOR YEAR ENDING DECEMBER 31, 200X
	15% Decline in Sales	10% Decline in Sales	200X Original Forecasted Figures	10% Incline in Sales
Sales	$88,400	$93,600	$104,000	$114,400
Cost of Goods Sold	$10,200	$10,800	$ 12,000	$ 13,200
GROSS PROFIT	$78,200	$82,800	$ 92,000	$101,200

OPERATING EXPENSES:
Marketing Expenses:
Promotional Pamphlet Expense	$ 4,000	$4,000	$4,000	$ 4,000
University Advertising Expense	$ 8,000	$8,000	$8,000	$ 8,000
Newspaper Advertising Expense	$25,998	$25,998	$25,998	$25,998
Total Marketing Expenses	$37,998	$37,998	$37,998	$37,998

Administrative Expenses:
Office Salaries Expense	$15,600	$15,600	$15,600	$15,600
Employer Costs (11% of Salary)	$1,716	$1,716	$1,716	$1,716
Office Supplies Expense	$2,500	$2,500	$2,500	$2,500
Business Cards, etc. Expense	$ 250	$ 250	$ 250	$ 250
Printing of Checks Expense	$ 75	$ 75	$ 75	$ 75
Telephone Expense	$1,200	$1,200	$1,200	$1,200
Business Registration Expense	$1,200	$1,200	$1,200	$1,200
Message Centre Expense	$4,600	$4,600	$4,600	$4,600
Toll Free Services Expense	$9,600	$9,600	$9,600	$9,600
Credit Card Service Expense	$4,992	$4,992	$4,992	$4,922
Bank Charges Expense	$ 240	$ 240	$ 240	$ 240
Miscellaneous Expenses	$1,800	$1,800	$1,800	$1,800
Depreciation Expense, Auto	$1,000	$1,000	$1,000	$1,000
Depreciation Expense, Equipment	$1,400	$1,400	$1,400	$1,400
Total Administrative Expenses	$46,173	$46,173	$46,173	$46,173

TOTAL OPERATING EXPENSES	$84,171	$84,171	$84,171	$84,171

INCOME BEFORE TAXES	$(5,971)	$(1,371)	$7,829	$17,029

A sensitivity analysis consists of three main components namely; 1) The Heading, 2) Sales Percentage Factors, and 3) The Body. Below briefly explains each component; beginning with The Heading.

1.    The Heading
2.    Sales Percentage Factors
3.    The Body

STEPS TO DEVELOP A SENSITIVITY ANALYSIS ARE SUMMARIZED BELOW:

develop your forecasted income statement;

set your sales percentage factors (10%, 20%, and 30% for instance); look at each cost & expense and determine which is a variable cost and which is a fixed cost;

Increase & decrease the sales in dollars at the various sales percentage (%) factors;

Increase & decrease the variable costs at the various sales percentage (%) factors;

The fixed costs will remain the same at various sales increases & decreases;

Subtract each column's variable costs and fixed costs from each sales column to arrive at the net income before tax at the various sales increases & decreases;

Apply a tax rate to the net income before taxes to arrive at the Net Income After Taxes (optional).

Don't get frustrated when distinguishing between a variable cost and a fixed costs. All you have to do is ask yourself - "will this cost or expense increase or decrease if I sell one additional unit or sell one fewer unit?" If the answer is yes, then it's a variable cost AND if the answer is no, then it's a fixed cost.

For a complete Sensivity Analysis illustration, please click here (recommended read). Below provides two additional examples.

EXAMPLES OF A SENSITIVITY ANALYSIS:

J&B Incorporated
Scholarship Information Services