Sensitivity analysis is used in capital budgeting to
A) Estimate a project's internal rate of return (IRR).
B) Determine the optimal contribution margin given a set of resource constraints.
C) Determine the amount that a variable in a decision model (e.g., annual after-tax cash inflows) can change without changing the indicated decision (e.g., acceptance of a project).
D) Simulate probabilistic customer reactions to a new product.
E) Capture income tax consequences.

Question

Quizplus · Accepted Answer

Sensitivity analysis is the process of determining how sensitive the output of a model or decision is to changes in the inputs or assumptions. In capital budgeting, sensitivity analysis is used to determine the amount that a variable (such as annual after-tax cash inflows) can change without changing the decision (such as accepting or rejecting a project). This helps decision-makers understand the risk and uncertainty associated with a project and make more informed decisions. Options A, B, D, and E are not directly related to sensitivity analysis in capital budgeting.

Sensitivity Analysis Is Used in Capital Budgeting to