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Payback Period

The document discusses the payback period method for evaluating investments. It defines payback period as the time it takes to recover the initial investment or for returns to cover costs. It provides 3 examples calculating payback periods for different investment scenarios. Finally, it notes that payback period is widely used but simple, as it does not consider total cash flows, patterns, or the time value of money.

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Doug Brown
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189 views7 pages

Payback Period

The document discusses the payback period method for evaluating investments. It defines payback period as the time it takes to recover the initial investment or for returns to cover costs. It provides 3 examples calculating payback periods for different investment scenarios. Finally, it notes that payback period is widely used but simple, as it does not consider total cash flows, patterns, or the time value of money.

Uploaded by

Doug Brown
Copyright
© Attribution Non-Commercial (BY-NC)
We take content rights seriously. If you suspect this is your content, claim it here.
Available Formats
Download as PPTX, PDF, TXT or read online on Scribd
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Douglas Brown MBA (Open)

Payback Period
Designed to answer the question
How Long..
..will it take to recover the initial Investment?
..will it take for the project to break-even?
..will it take for the returns to cover the costs?

Some examples

AAT Diploma – Costs &


Revenues
Payback Period
Example 1
Assuming even cash flows!
Investment
Cash Flow Year 0 Year 1 Year 2 Year 3 Year 4

Net Cash Flow (800) (100) 200 700 350


Cumulative
Cash Flow (800) (900) (700) 0 350

Payback Period = 3 years

AAT Diploma – Costs &


Revenues
Payback Period
Example 2
Investment
Cash Flow Year 0 Year 1 Year 2 Year 3 Year 4 Year 5

Cash Inflows 300 300 300 300 300


Cash
Outflows (500) (300) (150) 0 0 0
Net Cash
Flow (500) 0 150 300 300 300
Cumulative
Cash Flow (500) (500) (350) (50) 250 500
Payback Period = 3 years + (50/300) * 12 = 3 years 2 months

AAT Diploma – Costs &


Revenues
Payback Period
Example 3
Investment
Cash Flow Year 0 Year 1 Year 2 Year 3 Year 4 Year 5 Year 6

Cash Inflows 200 300 800 400 300 200


Cash
Outflows (800) (300) (200) (100) (50) (50) (50)
Net Cash
Flow (800) (100) 100 700 350 250 150
Cumulative
Cash Flow (800) (900) (800) (100) 250 500 650
Payback Period = 3 years + (100/350) * 12 = 3 years 4 months

AAT Diploma – Costs &


Revenues
Payback Period
How do we use Payback Period?
Limit – Minimum payback period
Comparison – Tool for comparing projects/proposals

AAT Diploma – Costs &


Revenues
Payback Period
Payback – Pro’s and Con’s
Pro’s
Widely used
Easily calculated
Easily understood
Could say it addresses risk
Cons
Too simple
Doesn’t consider total cash flow
Doesn’t consider cash flow patterns
Doesn’t take into account the time value of money

AAT Diploma – Costs &


Revenues

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