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FP&A Beacon Slideshow Part 2 Chapter 10
7
FINANCIAL PLANNING AND ANALYSIS
Part 2 Chapter 10
Into
Table of Content
Table of Contents
• Enter Inputs and Run Model to Form Initial Conclusions
• Test Reasonableness of Conclusions against Sensitivities, Scenarios or Simulations
• Model Interpretation
Location in the PDCA Cycle
Are Conclusions Defensible?
Quality: Using best practices in data validation and model building
- Also. choose appropriate benchmarks (think capital budgeting metrics) and consider stand-alone risk and diversification
Objectivity: Opinion is based solely on inferences from the model
- Watch for biases: in particular confirmation bias
Full Disclosure: Express the limitations and assumptions of the model
- Examples that you would like to discuss?
Sensitivities,
Scenarios or Simulations
Sensitivities,
Scenarios or Simulations
Analysis Measures Defined
Sensitivity analysis Scenario analysis Monte Cerio simulation
Measures the effect on outputs when multiple input values are changed simultaneously from their expected values to reflect a realistic situation that could occur.
A process conducted by simulation software that makes multiple trials (simulation runs) and. in each trial. the software varies each input variable semi-randomly on the basis of a probability distribution for each variable.
Measures the effect on outputs when one input value is changed and all other input values are held constant at their expected values.
Applied Sensitivity Analysis
Assumptions: Your firm is examining the viability of investing in commercial real estate. The current asked price for the development is $1.5M. If the property is purchased, then your firm will lease the property out on an annual basis for $100,000(assume beginning-of year cash flows) for each year of the property's holding periocf. The property will then be sold at the end of the second year. Assume a WACC of 10%.
You are uncertain about the residual value of the property, but you have determined the following potential values:
Resell Best-case = $2.1M
Resell Worst-case = $1.3M
Applied Sensitivity Analysis: NPV Analysis
Applied Scenario Analysis
Assumptions: Your firm is examining the viability of investing in
commercial real estate. The current asked price for the development is
$1.5M. If the property is purchased, then your firm will lease the
property out on an annual basis for $100,000(assume beginning-of year
cash flows). The property will then be sold at the end of the second year.
You are uncertain about the cost of capital and the residual value of the
property, but you have determined the following potential values:
WACC Best-case 7.5%, Re-sell best-Case = $2.1M
WACC Worst-case 13%, Re-sell worst-Case = $1.3M
Applied Scenario Analysis: NPV Analysis
NVP Best-case
NVP Worst-case
Monte Carlo Simulation
Model is re-estimated many times using changes in multiple variables at a time.
Changes to the inputs follow the probability distribution specified by the user
- Many probability distributions to choose from
After generating the simulations, the user should calculate and examine the descriptive stats taken from the model output.
Monte Carlo Simulation Results via Histogram
Making Conclusions with Capital
Budgeting
Metrics
Invest if
NPV> $0
- Targeted value other than $0 may be used in some cases
IRR >WACC
- Is the WACC the appropriate comparison rate? If the investment has a different risk level than the overall firm. then probably not
- Beware the possibility for multiple IRRs: Number of IRRs will equal the# of sign changes in the CFs
Profitability Index > 1.00
Payback Period < what exactly?
- Discounted payback period is interpreted simillary
Question
Thank You