Scenario Based Planning

Scenario Based Planning

In this post we will discuss how the scenario based planning (SBP) approach can be used to capture the financial impact of synergies found during due diligence.  

Companies operate under some degree of uncertainty.  The presence of uncertainty makes decision making more difficult as strategies are set and executed based on some assumptions that may not necessarily hold true in the future.   From industry trends to government regulation or some totally unexpected events.  The pandemic is a perfect example of an unexpected event.  Others could be more predictable such as certain competitor moves or industry trends published by business analysts.

Scenario based planning provides a framework to make decisions under different scenarios.  Given a broad range of events this framework helps you make the best decisions as well as prepare for recovery actions if the business encounters unexpected events.  In addition to the use in corporations, scenario based planning has applications in city planning, military and can also be used in personal life situations.  Below is a pictorial representation of scenario based planning framework.

In addition to strategy planning, scenario based planning can help do a better evaluation of the synergies during due diligence and consider price adjustments based on the probability of the occurrence of the events.  Here are the steps to integrate scenario based planning into the due diligence process:

  1. Identify negative and positive synergies
  2. Develop plausible scenarios for each synergy
  3. Analyze the likeliness and implications of each scenario

For instance, assume that in an acquisition  the due diligence team identifies a pending litigation the target company is involved in.  There are 3 possible scenarios to consider:

ScenarioPath Implication
Target company loses the caseGet additional help from the corporate counselPayment of $2M plus legal fee of $2K incurred by the parent company
Target company wins the caseContinue supporting the legal teamLegal fees of $200K incurred by the parent company
Target company to handle  and close the case prior to closingNo actionNone assuming the due diligence team ensures proper closure of the case.

Every scenario has to go through a very thorough review in order to make the best decision and determine the financial impact.  This will also help apply adjustments during valuation and negotiation.

In the future articles we will look at case studies and how situations may have been covered using the scenario based planning framework.

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