The term project risk is used to denote the variability in the NPW of a project.  Engineering economists use three methods of analysis to account for project risk.  They are: sensitivity analysis, breakeven analysis, and scenario analysis.

Sensitivity analysis is the method of measuring the consequence on NPW due to the variability in various determining variables that are used in the analysis.   Examples of determining variables are unit price of product, demand for the product, costs associated with the production and marketing of the product, and salvage value.  In sensitivity analyses the values of the determining variables are systematically varied and the NPW for the changed circumstance is computed.  In this manner a range of NPW values can be computed by varying the values of a particular variable, and this behavior can be plotted as done in Figure 14.1 of the text.  The "base case" denoted in Table 14.2 and Figure 14.1 is for the case with the most likely estimates for all the  variables used in computing the NPW. 

Note that these graphs show only the effect of one variable on NPW while holding the values of all other variables constant at their most likely values.  Thus, "interaction effects" between or among variables are ignored.  It would be difficult to show the simultaneous effect of variation in more than one variable on the NPW in a single graph.  Scenario analysis, which is described later, is designed to handle the effect on NPW due to variation in more than one variable at the same time.

Breakeven analysis is used to find the breakeven point for the project.  In other words, in this type of analysis managers are trying to find the sales volume at which a project will change from a profitable operation to an unprofitable one.  The breakeven point is usually with respect to sales volume; but it can be with respect to any other variable of interest.

The technique for finding the breakeven point is to equate the PW of cash inflows to the PW of cash outflows.   The problem is set up in terms of the unknown variable and the unknown variable is solved by equating the two PW values.  By varying the value of the unknown variable systematically the effect on project profitability due to changes in this variable can be determined and this behavior can also be plotted for improved visualization of the process.  Figure 14.3 is an example of such a plot.  In this figure the inflow is the lower line in the region that is to the left of the breakeven point of 1430 units.  Likewise, the outflow is depicted by the higher line in this region.