The amount of time it takes to recover the cost of an investment. In capital budgeting the payback period refers to the specific time period needed by the firm in order to recoup the initial plus and subsequent costs of the capital investment. The payback period includes all initial investment to the annual predicted cash inflows for the recovery time period. The major problem of this ratio is that it does not take into account cash flows which the firm receives after the payback period has been met and thus cannot be considered a measure of the profitability of any particular investment. undertaking.
It is calculated as:
Cost of Project/Annual Cash Inflows
For example, if a project costs $150,000 and is expected to return $30,000 annually, the payback period will be $150,000 / $30,000, or five years.
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