Bull, base and bear scenarios without price targets
Bull, base and bear scenarios should describe coherent operating states, not three arbitrary growth percentages. Use the same model, reporting boundary and accounting definitions in all three. Change the business drivers and explain why those combinations could occur.
Choose drivers that can move together
For a hypothetical repair business, activity depends on service visits, revenue per visit, parts cost and fixed staffing. A favorable scenario might combine more visits with stable pricing. It should not automatically assume the highest volume, lowest costs and smallest working-capital needs unless there is a mechanism supporting that combination.
The 10-K financial statements and management discussion offer different views of operating results. Use reported data as the common starting point. Scenario assumptions are your constructed possibilities, not company guidance unless explicitly attributed.
Worked operating scenarios
All amounts below are hypothetical and use the same period. Revenue equals visits times revenue per visit; contribution equals revenue less variable parts and labor; operating profit subtracts fixed costs. Taxes, financing and investment are excluded, so this is not a cash-flow forecast.
| Driver | Bear | Base | Bull |
|---|---|---|---|
| Visits | 800 | 1,000 | 1,100 |
| Revenue per visit | 100 | 100 | 102 |
| Variable cost per visit | 65 | 60 | 60 |
| Fixed costs | 30,000 | 30,000 | 32,000 |
| Operating profit | -2,000 | 10,000 | 14,200 |
The bull case includes extra staffing rather than pretending capacity is free. The bear case includes higher variable cost from inefficient scheduling. These combinations express mechanisms. They do not represent an estimate of how often each outcome will occur.
Identify what would select a scenario
Attach observations to the drivers: booked visits, cancellations, realized prices and staffing commitments. A quarter with more visits but much higher parts cost may belong to none of the three scenarios. Record it as a mixed state rather than forcing it into the nearest label. Recompute the model using observed inputs and update the explanation.
If you assign probabilities, state their basis and allow for outcomes outside the table. Calling the middle case “base” does not establish that it is most likely. Avoid averaging scenario profits while overlooking different financing needs or downside constraints.
Verify arithmetic independently and check the operating capacity implied by every case. Comparing annual visits with quarterly fixed costs is a common error. Another is changing the revenue definition in the bear case to make the result look worse. Keep definitions fixed and isolate only the assumptions you intend to test.
This framework is suitable for operational uncertainty. It cannot by itself determine fair value, investment suitability or a transaction decision. Businesses with discontinuous legal outcomes may require separate event branches rather than smooth volume scenarios.
A further check on the example
Stress the scenario combinations against a physical constraint. In the repair example, confirm whether the assumed staff can complete 1,100 visits at the promised service level. If overtime raises variable cost as well as fixed staffing, both rows need adjustment. Retain the original scenario and create a revised one rather than altering inputs invisibly. This exercise often reveals that an attractive bull outcome depends on two favorable assumptions that cannot coexist, which is more useful than a more elaborate profit formula.
FAQ
Does the base case have to match management guidance?
No. Show guidance separately if available and explain how your assumptions differ. Do not quietly present your own estimate as management’s forecast.
Are three scenarios enough?
Only when they capture the key uncertainty. Add a branch for a structurally different outcome, or simplify a table that contains several versions of the same mechanism.