The alteration of one or more input variables in a financial model to observe what effect this has on the output or result is known as sensitivity analysis. It seeks to understand how sensitive the output is to variations in specific inputs. For instance, sensitivity analysis could be performed using a DCF model by adjusting, say, the growth rates on revenue, the discount rate, or the operating cost, and subsequently see how values of these adjusted factors change their impact on present value of future cash flows.

Uncertainty and variability are characteristic of finance, business strategy, and the world of risk management. This means that managers have to be confronted with those uncertainties and dealt with them using tools such as sensitivity analysis and scenario analysis. Such tools determine the consequences of the modification of different variables on the models and business-related decisions. The application of these tools will enable the managers, analysts, and investors to evaluate potential risks, drivers of performance which are critical for performance, and base decisions on varied potential future scenarios. These two have a unique strength and weakness, making it imperative that one understands how they compare and contrast in other contexts. This paper discusses sensitivity analysis and scenario analysis, their uses, advantages, limitations, differences, and their relationship with other financial models, like Discounted Cash Flow (DCF) analysis.