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Sensitivity Analysis vs Expected Monetary Value (EMV)
There are two techniques used in quantitative risk analysis: a sensitivity analysis and an expected monetary value (EMV) analysis.
A sensitivity analysis determines which risks have the most potential impact on the project.
Sensitivity charts are used to visualize impacts (best and worst outcome values) of different uncertain variables over their individual ranges.
A tornado diagram is a type of sensitivity chart where the variable with the highest impact is placed at the top of the chart followed by other variables in descending impact order.
Expected Monetary Value (EMV)
Expected monetary value (EMV) analysis is a statistical concept that calculates the average outcome when the future includes scenarios that may or may not happen. An EMV analysis is usually mapped out using a decision tree to represent the different options or scenarios.
EMV for a project is calculated by multiplying the value of each possible outcome by its probability of occurrence and adding the products together.
For a sensitivity analysis, the project risks are evaluated based on the potential financial impact of each individual risk and then placed in rank order.
For an EMV analysis, you are evaluating two vendors:
Vendor A has a 50% probability of being on-time, a 30% probability of being late at an additional cost of $40,000 and a 20% probability of delivering early at a savings of $20,000.
EMV: (30% x $40,000) + (20% x -$20,000) = $12,000 + ($4,000) = $8,000
Vendor B has a 30% probability of being on-time, a 40% probability of being late at an additional cost of $40,000 and a 30% probability of delivering early at a savings of $20,000.
EMV: (40% x $40,000) + (30% x -$20,000) = $16,000 + ($6,000) = $10,000
Based on the EMV, Vendor A would be a better choice as the potential cost is lower.
Two common quantitative risk analysis techniques are sensitivity and expected monetary value (EMV) analyses.
A sensitivity analysis ranks risks based on their impact (usually in a tornado diagram) and an EMV analysis quantifies the potential outcomes of risk scenarios (usually using a decision tree).
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