Payback period shows the length of time required to repay the total initial investment through investment cash flows. A project is acceptable if its payback period is shorter than or equal to the cutoff period.
Payback period = 20,000 / 5,000 = 4
The shorter the payback period, the better a company is. A long payback means that the investment dollars will be locked up for a long time, hence the project is relatively illiquid, and since the project’s cash flows must be forecast far out into the future, the project is probably quite risky.
Refer to the following advantages:
Refer to the following limitations:
1. Payback method ignores cash flows after the pay back period.