Q8RQ - Horngren'S Financial And Managerial Accounting

Question

How is payback calculated with equal net cash inflows?

Step-by-Step Solution

Answer

Answer

The payback period calculates by dividing by keeping the original investment amount in the numerator and the annual cash flow in the denominator.

Step 1: Meaning of Payback Period

The payback period is the time it takes for an exchange to recover its original investment. The project with the shortest payback period is the most appealing.

Step 2: Calculation of payback with equal net cash inflows

The payback period (in years) of an investment is computed utilizing the taking after the equation if cash inflows are equal:

$\mathit{P}\mathit{a}\mathit{y}\mathit{b}\mathit{a}\mathit{c}\mathit{k}\mathbf{=}\frac{\mathbf{A}\mathbf{m}\mathbf{o}\mathbf{u}\mathbf{n}\mathbf{t}\mathbf{l}\mathbf{n}\mathbf{v}\mathbf{e}\mathbf{s}\mathbf{t}\mathbf{e}\mathbf{d}}{\mathbf{Y}\mathbf{e}\mathbf{a}\mathbf{r}\mathbf{l}\mathbf{y}\mathbf{ }\mathbf{N}\mathbf{e}\mathbf{t}\mathbf{ }\mathbf{C}\mathbf{a}\mathbf{s}\mathbf{h}\mathbf{ }\mathbf{I}\mathbf{n}\mathbf{f}\mathbf{l}\mathbf{o}\mathbf{w}\mathbf{ }\mathbf{E}\mathbf{x}\mathbf{p}\mathbf{e}\mathbf{c}\mathbf{t}\mathbf{e}\mathbf{d}}$ 

The fund managers use the payback time period to evaluate whether or not to continue with an investment. One drawback of the payback period is that it does not account for the time worth of money.