Glossary
Sensitivity Analysis
Sensitivity analysis is a technique that measures how much an output, such as value, IRR, DSCR or loan proceeds, changes when one or two input assumptions change while others stay constant. It identifies which assumptions matter most and shows how much room for error an underwriting case has before results become unacceptable.
Example
A property's base case NOI is $1,000,000 and the exit cap rate is 6.0%, implying a value of $1,000,000 / 0.06 = $16,666,667. Raising the exit cap rate to 6.5% lowers value to $15,384,615, a 7.7% decline. Holding the cap rate at 6.0% but reducing NOI by 10% lowers value to $15,000,000, a 10% decline. A two-way table across both variables shows every combination.
How it is used in underwriting
Underwriters use sensitivity analysis to move beyond a single base case. In real estate, typical tables vary exit cap rate against rent growth, or interest rate against occupancy. In private equity, they vary entry or exit multiple against EBITDA growth or leverage. In lending, they show DSCR and LTV across NOI declines and rate increases. The results reveal which assumptions drive the outcome, and investment committees often focus their questions on those drivers. A deal whose returns collapse with a modest change in one assumption is fragile, even if the base case looks attractive.
Sensitivity analysis changes one or two variables at a time, which makes it easy to read but can understate risk, since in a real downturn several assumptions tend to move together. Scenario analysis and stress testing address this by changing multiple inputs consistently. Another common mistake is choosing ranges too narrow to be informative, for example testing exit cap rates only 25 basis points either side of the base case. Ranges should reflect realistic historical volatility for the market and asset type. Breakeven analysis, solving for the input level at which a target is missed, complements the tables well.
Frequently asked questions
What is the difference between sensitivity analysis and scenario analysis?
Sensitivity analysis changes one or two inputs at a time to measure their individual effect. Scenario analysis changes several inputs together to reflect a coherent story, such as a recession with lower revenue, higher vacancy and higher cap rates. Both are useful, and strong underwriting usually includes each.
Which variables should be sensitized?
Focus on the assumptions that most affect the result and are most uncertain. In real estate these are often exit cap rate, rent growth, vacancy and interest rates. In acquisitions they are usually revenue growth, margins, leverage and exit multiple. In lending, NOI or EBITDA declines and rate increases are standard.
What is a two-way sensitivity table?
A two-way table shows an output, such as IRR or DSCR, across a grid of values for two inputs at once, for example exit cap rate across the columns and rent growth down the rows. Each cell shows the result for that combination, making it easy to see where the deal stops working.
Related terms
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