Payback Period Calculator

Easily calculate the payback and discounted payback period for your investments with our user-friendly Payback Period Calculator.

Result Payback Period 0 years Discounted Payback Period 0 years

Payback Period Formula

The payback period is a simple and widely used method for evaluating the time required for an investment to generate cash flows sufficient to recover the initial outlay. This method is particularly useful for assessing the risk and liquidity of an investment.

Formula

Payback Period = Initial Investment / Annual Cash Inflow

Example Calculation

Suppose a company invests $100,000 in a new project and expects to generate annual cash inflows of $25,000. The payback period would be calculated as follows:

Payback Period = $100,000 / $25,000

Payback Period = 4 years

Considerations

While the payback period is a useful tool, it has its limitations:

It does not consider the time value of money.
It ignores cash flows that occur after the payback period.
It does not measure profitability, only the time needed to recover the initial investment.

Discounted Payback Period Formula

The discounted payback period improves on the traditional payback period by considering the time value of money. It calculates the time needed to recover the initial investment in present value terms.

Formula

The formula for the discounted payback period involves calculating the present value of each cash inflow and then determining the time required to recover the initial investment:

Discounted Payback Period = Time taken to recover the initial investment from the discounted cash flows

Example Calculation

Suppose a company invests $100,000 in a new project and expects to generate annual cash inflows of $25,000 for 5 years. The discount rate is 10%. The discounted cash inflows would be calculated for each year and summed until the initial investment is recovered:

Year 1: $25,000 / (1 + 0.10)^1 = $22,727

Year 2: $25,000 / (1 + 0.10)^2 = $20,661

Year 3: $25,000 / (1 + 0.10)^3 = $18,783

Year 4: $25,000 / (1 + 0.10)^4 = $17,075

Year 5: $25,000 / (1 + 0.10)^5 = $15,523

Sum of discounted cash inflows = $22,727 + $20,661 + $18,783 + $17,075 + $15,523 = $94,769

In this case, the discounted payback period would be a little over 5 years since the initial investment of $100,000 is not fully recovered within 5 years.

Considerations

The discounted payback period addresses some limitations of the traditional payback period by considering the time value of money. However, it still has limitations:

It may still ignore cash flows occurring after the payback period.
It is more complex to calculate than the traditional payback period.
It does not provide a measure of overall profitability, only the time needed to recover the initial investment in present value terms.