Payback period tells the number of years that an investment takes to pay for itself.

Payback Period = Investment - salvage Cash flow

cash flow in the above formula represent the improvement in cash flow due to the increase in income caused by that investment (e.g, higher volume or quality) or from decreased expenses (e.g., less materials, lower labor, and other expenses). In its simplest form, payback calculations do not take into consideration salvage values or taxes.

Example : A small tools manufacturing company is purchasing a drill press that will cost $39,000, have a salvage value of $3,000 and last for 8 years. This equipment will generate saving for the company of $9,000 per year. what is the payback period?

Payback Period = Investment - salvage Cash flow

PP =($39,000 - $3,000)/$9000 = 4 years

Example: An ATM machine of $24,000 is expected to be obsolete after 12 years, with no salvage value. during its lifetime, it should bring pre tax income of $6000 per year.$2000 must be paid as taxes of its yearly income. what is the payoff period?

Payback = Investment - salvage yearly (income -taxes)

Payback = ($24,000 -$0) / ($6,000 -$2,000) = 6 years

Example: Production Engineers of a company proposed a new $25,000 automatic machine that will have operating cost of $0.5 per unit produced. The machine will cost $2000 installation and it has no salvage value. if the company board desire 2 years to be the payback period, how many unit should be produced to justify the investment.

In this example, engineers need to calculate the income of producing units.

income = Investment / payback

= $(25,000 + 2000) / 2 years, or $13,500 per year.

since unit price is $0.5 then, the number of units required to justify the investment is $13,500/$0.5, or 27,000 units.

Payback is simple and easy to understand and calculate and useful to measure the time required to return to an original investment. However, it does not take into consideration the time value of the money invested, the total return on investment, or the economic life of the investment. payback period should not be considered as sufficient measure for project selection.

Payback Period = Investment - salvage Cash flow

cash flow in the above formula represent the improvement in cash flow due to the increase in income caused by that investment (e.g, higher volume or quality) or from decreased expenses (e.g., less materials, lower labor, and other expenses). In its simplest form, payback calculations do not take into consideration salvage values or taxes.

Example : A small tools manufacturing company is purchasing a drill press that will cost $39,000, have a salvage value of $3,000 and last for 8 years. This equipment will generate saving for the company of $9,000 per year. what is the payback period?

Payback Period = Investment - salvage Cash flow

PP =($39,000 - $3,000)/$9000 = 4 years

Example: An ATM machine of $24,000 is expected to be obsolete after 12 years, with no salvage value. during its lifetime, it should bring pre tax income of $6000 per year.$2000 must be paid as taxes of its yearly income. what is the payoff period?

Payback = Investment - salvage yearly (income -taxes)

Payback = ($24,000 -$0) / ($6,000 -$2,000) = 6 years

Example: Production Engineers of a company proposed a new $25,000 automatic machine that will have operating cost of $0.5 per unit produced. The machine will cost $2000 installation and it has no salvage value. if the company board desire 2 years to be the payback period, how many unit should be produced to justify the investment.

In this example, engineers need to calculate the income of producing units.

income = Investment / payback

= $(25,000 + 2000) / 2 years, or $13,500 per year.

since unit price is $0.5 then, the number of units required to justify the investment is $13,500/$0.5, or 27,000 units.

Payback is simple and easy to understand and calculate and useful to measure the time required to return to an original investment. However, it does not take into consideration the time value of the money invested, the total return on investment, or the economic life of the investment. payback period should not be considered as sufficient measure for project selection.