When is a decision rule for a payback period is?

Answer 1

Payback period is the number of years required to recover the cost of project or initial cash out flows. Say a project requires an initial investment of $10,000 and you can expect cash inflows at the end of each of the next four years in amounts of $5,000 $4,000 $3,000 and $1,000

N---- CF ----------- Cumulative Cash Flow

0---- -10,000(p)

1---- 5,000 -------- 5,000

2q-- 4,000 -------- 9,000 r

3---- 3,000s ------ 12,000

4---- 1,000 -------- 13,000

As we notice that year before recovery is 2. And to get the remaining months out of Year 3, we do the following calculations

(10,000 - 9,000)/3000

1,000/3,000

0.333 years

0.333 x 12 months

4 months

Thus regular payback period is 2 years and 4 months.