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Scenario Analysis in Portfolio Management

Instructor: Sudha Aravindan

Sudha has a Doctor of Education Degree and is currently working as a Information Technology Specialist.

In this lesson we will learn about scenario analysis as a tool to allocate or reallocate capacity, and its benefits for portfolio management and performance.

What-If Scenario Analysis

Let's start with a hypothetical example. Let's say our friend Matthew is a portfolio manager. The company is in the midst of launching a new product. New projects have to be started as demands on staff are added to meet deadlines. Matthew had to analyze multiple scenarios to understand the impact on the final outcome.

Matthew decided to make use of the What-If Scenario Analysis (WISA) to help evaluate different scenarios and help predict both negative and positive effects on the program objectives and outcome. He listed out the questions he needed answers for.

What-If Scenario Analyis
What-If Scenario Analyis

  1. What if no additional resources are available? Can current projects be completed on time?
  2. What if new projects are started? How will current projects be impacted?
  3. What if new high-priority projects are added into the existing work plan?
  4. What if new projects cause delay of lower priority projects?
  5. What if we stop projects that are of a lower priority so that freed resources can be used for higher priority projects?
  6. What if the lead time for acquiring product components gets extended?
  7. What if parts of the project are sub-contracted?
  8. What if the duration of some work needs to be extended?
  9. What if one of the projects timeline is reduced?
  10. What if resources are allocated to this project from another project?

Benefits

Before implementing the analysis Matthew met with his supervisor to discuss the benefits.

1. Evaluating possible outcomes:

WISA can be used to see how project costs may be affected by the unavailability of resources or deadlines not being met.

2. Making informed decisions:

WISA can be used to plan ahead so that when an unexpected situation occurs, it has been thought of before, and the negative impact can be minimized.

3. Analyzing factors:

WISA is a critical tool for analyzing both complex and simple factors, for example, analyzing how extending the deadline of a project would impact the final outcome would be a simple analysis. When additional criteria are factored in, it'd become a more complex analysis. For example, how would extending the deadline affect the final outcome when project costs and product performance history are taken into account?

4. Improving project outcomes:

WISA analysis also helps towards improving the predictability of the outcome of the project, because questions about possibilities are asked and answered through the life cycle of the project.

Criteria

Matthew and his supervisor discussed some of the criteria to be considered while developing a scenario analysis.

  • understand the problem
  • identify what data needs to be collected
  • consider all goals and constraints
  • view the business as a whole
  • consider the cumulative effect of events as well as the domino effect

Case Study - New Product Launch

Step 1 - Defining the Problem

The problem has to be defined so the what if questions can be formulated to address the problem that needs to be resolved. For the new product launch, the marketing team defined the problem as the need to determine the timing of the launch and account for competing products to maximize profit.

Step 2 - Data Collection

Identify the key factors and issues that may impact the business plan. In this case Matthew identified the following factors as important:

  • current economy and consumer purchasing power
  • estimated product demand
  • estimated market share of product
  • availability of skilled workers

Step 3 - Identify Certainties and Uncertainties

Matthew conducted a market analysis for the new product and came to the conclusion that the product demand would be high and that it would be relatively easy to hire skilled workers.

However, it's possible that a competing product might claim some of the estimated market share, and this was a concern. Also the purchasing power of consumers may be lower than expected.

Step 4 - Develop Scenarios

To develop scenarios, Matthew combined the uncertainties with the certainties to predict good and poor outcomes. Matthew prepared the following scenarios with the assumptions that product demand and availability of skilled workers is high.

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