How to use scenario planning to prepare for uncertainty

Scenario planning is a strategic planning process in which organizations envision different futures that may play out. By visualizing a range of future events, leaders can proactively develop contingency plans and ensure they’re prepared if and when problems arise.

While it’s unrealistic to plan for every plausible scenario, building awareness around uncertainties still offers a competitive advantage over organizations that are overconfident in the status quo.

This article will cover the importance of scenario planning, how it works, and how to implement it in your organization.

What is scenario planning?

As the name implies, scenario planning is identifying and preparing for a range of different scenarios and their impact on an organization. Scenario planning is used to prepare for worst-case scenarios (like data breaches or natural disasters) as well as best-case scenarios (sudden demand spikes).

A scenario is usually expressed as a story with a beginning, middle, and end.

Scenario planning was popularized in the 1970s by Royal Dutch/Shell, which created an entire department dedicated to crafting narratives about how potential issues in the oil industry could affect their business planning, innovation, personnel, and public affairs.

Since then, organizations of all shapes and sizes have used scenario planning to improve their decision-making, refine their corporate strategy, and future-proof their operations. Scenario planning isn’t about predicting the future. Rather, it helps stakeholders understand how well (or poorly) their organization might fare in many different situations.

Scenario planning isn’t an exact science, but a number of scenario analysis templates can add structure to the process (more on those later).

Scenario planning vs. forecasting: what’s the difference?

It’s important to note the difference between scenario planning and forecasting, a separate strategic planning methodology.

Generally speaking, forecasting involves applying quantitative data and trends to predict one possible future scenario that an organization plans for accordingly. But scenario planning requires a bit more creative thinking—it requires organizations to look beyond the “here and now” and describe what could happen across multiple alternative scenarios.

These methods can complement each other, but they’re quite different and shouldn’t be used interchangeably.

Why scenario planning is essential in an uncertain world

As the world witnessed at the onset of the COVID-19 pandemic, uncertainties wreak havoc on all aspects of a business. Few, if any, organizations could have predicted the global economy grinding to a halt. That said, many companies delayed taking action to prepare for a potential recession—and paid the price.

If there’s a silver lining from the pandemic, it’s that companies now realize the importance of planning for unforeseen events—ironic as that sounds. Organizations that expand their imaginations to envision possible futures (good or bad) aren’t at the mercy of unwelcome surprises. Accordingly, they lower their risk of getting blindsided if and when theoretical situations become real.

Now let’s explore some specifics of scenario planning.

4 types of scenario planning

Every company has unique attributes, which are reflected in its scenario planning. Here are four scenario planning formats you can choose from based on your industry, goals, and challenges.

1. Operational scenarios

Also called event-driven scenarios, these are some of the most common internal planning formats. Operational scenarios explore the impact of different events and how they immediately impact the business.

Examples of operational scenarios can range from climate change disrupting supply chains to competitors developing more advanced technology. Then, a plan is devised for what actions will be taken. Operational scenario narratives may pose questions such as:

• How will we respond if we face this obstacle?
• What are the implications for our product or service?
• How much time will we have to adapt?
• How will our customers and partners respond to the same issue?

2. Quantitative scenarios

With quantitative modeling, possible futures are expressed mathematically by adjusting a limited number of variables or unknowns. The output is expressed numerically with certain key performance indicators (KPI), such as a return on investment (ROI), revenue projection, or market share.

For example: What would our market share be if we lost 2% of revenue next year?

By altering inputs, companies can identify the driving factors behind best- and worst-case scenarios. This method is helpful for teams that only feel comfortable when a hard number is attached to the model.

3. Normative scenarios

Normative scenarios (or prescriptive scenarios) refer to what a company wants to achieve or its ideal end state. You can think of them more as vision statements than objective plans. Normative scenarios typically start with a preferred vision of the future, after which the company works backward to determine the steps needed to get there.

Normative scenarios are often used in tandem with other scenario planning formats. For example: once a manufacturing company identifies its strengths and weaknesses, its normative scenario details the values, attitudes, and mindset necessary to realize its vision for what the future could look like.

4. Strategic management scenarios

Also called alternative futures scenarios, these narratives focus on long-term macro-changes in the marketplace instead of short-term issues. This includes the role of consumer preferences, the government, and other regulatory bodies.

For example, an automotive company might craft an alternative futures scenario about the rise of electric vehicles and emissions regulations.

Strategic management scenarios are challenging to develop because they require deep insights into the industry, economy, and marketplace. Accordingly, planners may bring in consultants or analysts to assist in the scenario planning process.

How to put scenario planning into action

A scenario planning exercise typically involves four steps:

1. Identify the driving forces that could impact your organization

One way to do this is through a PESTLE analysis, which considers six categories of factors:

• Political (tax rates, tariffs, regulations)
• Economic (prices, employment trends, exchange rates)
• Social (consumer trends, target demographic gets older, etc.)
• Technological (automation, IT issues, innovations)
• Legal (government mandates, employment laws, lawsuits)
• Environmental (natural disasters, pollution, climate change)

2. Identify critical uncertainties

These variables follow the previous step. If you’ve done a thorough PESTLE analysis, the next step is to identify which uncertainties are most relevant.

For example, critical uncertainties for a brick and mortar retailer might be:

• Overwhelming shift to ecommerce shopping
• Cost to employ retail employees at multiple stores

3. Develop Possible Scenarios

This is where you’ll draw up possible outcomes based on the critical uncertainties you selected. The simplest way to do this is with a scenario planning matrix, which plots potential outcomes in four quadrants.

For example, at the onset of the COVID-19 pandemic, a company might use these four outcomes in its matrix:

• Strict stay-at-home lockdowns continue all year
• Lockdowns and stay-at-home orders are lifted
• Target audience don’t have disposable income
• Target audience has plenty of disposable income

In reality, there will likely be crossover between these quadrants, so don’t fixate on the extremes.

4. Discuss the implications of each scenario

This final step should be creative and collaborative. Gather your team and craft narratives for each scenario. Describe the situations in the present tense, as if you’re going through them right now.

This scenario development exercise will prompt members in each department to consider how they would best respond, and hopefully, tailor their operations accordingly.

Best practices for scenario planning

When building scenarios, here are five tips to keep in mind:

1. Get buy-in from senior management and key stakeholders.
2. Include leaders from the whole organization in the process, including finance, marketing, and HR.
3. It’s impossible to plan for every outcome, so focus on 2-3 critical uncertainties and craft scenarios from there.
4. Don’t bog your scenarios down with excessive details—keep it simple, especially if this is a new concept for your organization.
5. Revisit your scenarios and revise your assumptions quarterly.

Final thoughts

In Nassim Taleb’s book The Black Swan, he argues that people are prone to underestimating the inevitability and impact of improbable events. We get lulled into patterns and get caught off guard when something disrupts the status quo.

“The central idea in The Black Swan is that: rare events cannot be estimated from empirical observation since they are rare,” said Taleb.

So we can’t predict what or when such events occur, but we can expect they will happen eventually. That’s why scenario planning is essential, especially when predictions are getting harder and harder to make.

This article originally appeared on The QuickBooks Resource Center and was syndicated by MediaFeed.org.