What Is Sensitivity Analysis? - Definition & Example

Instructor: Tara Schofield

Tara has a PhD in Marketing & Management

How does a manager know if a change is going to have a positive impact on a business? How sensitive will the operations be to making an adjustment? Doing a sensitivity analysis will help evaluate what the potential result will be.

What is Sensitivity Analysis?

You have been running a restaurant for about four years now. While business is consistent, you haven't seen an increase in business in the last two years. You spend some time analyzing your business to determine what you can do to increase sales in the next twelve months. As part of this review, you do a sensitivity analysis.

A sensitivity analysis is the hypothesis of what will happen if variables are changed. More specifically, it is analyzing what will happen if one variable is changed. In other words, if you change something about your business, how will it affect other aspects of your business or the overall operations? In our example, you consider the different areas of your restaurant that you can change and make educated assumptions about what the result will be from each of those changes.

As you start your sensitivity analysis, you begin planning what changes you could make in your restaurant. You could change the menu, re-decorate, change the theme or type of food you offer, add catering, or expand your dining room size. In looking at each option, you consider what the cost of the change will be and the result you anticipate.

Upon reviewing each of the options, you determine that changing the theme and expanding the dining room size will be more costly than justified based on the amount of revenue each option would bring.

There are some changes that can be made that would immediately affect the success of the restaurant. You review the menu and determine the items that are not selling well and decide to remove those items while adding a few new options. You then analyze what would happen if you added catering. By making this change, you can easily increase your revenue by 15% in the next six months. The sensitivity analysis reveals that each of these options offers the opportunity to increase your revenue without an extensive increase in costs.

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