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Payback Period > Definition > Formula > Example > Calculation > Calculator

On this web page we take a look into the way Payback Period or PBP is used to decide financial viability of an investment. Here you will find a defintion, formula, example, calculation with Payback Period along with a handy calculator. Stop wasting time with arcane templates - we bet, here you will find all you need!

What is Payback Period

One of the oldest and most widely used method to evaluate a capital investment proposal is the Payback Period, as the name implies it refers to the time required to recover the initial investment or the initial cash outlay as it is called in financial terms.

What is the formula for Payback Period?

Payback Period Formula

Payback Period Example

Let us illustrate finding payback period with an example investment proposal. Let us say you were offered a series of cash inflows at the end of each of the next four years as $5000, $4000, $3000, and $1000. Say the Initial Cost Outlay for this proposal is $10,000.

Payback Period Calculation

Payback Period Calculation
Year CASH FLOWS CUMULATIVE CASH INFLOWS
-$10,000 (q)  
$5,000 $5,000
$4,000 $9,000 (r)
$3,000 $12,000
$1,000 $13,000
 

Payback Period Step by Step

  • We add up the cash inflows beginning after the initial cash outlay in the cumulative cash inflows column
  • We keep an eye on this last column and track the last year for which the cumulative total does not exceed the initial cash outlay
  • We compute the part or fraction of the next year's cash inflow need to payback the initial cash outlay by taking the initial cash outlay less the cumulative total in the last step then divide this amount by the next years cash inflow. 
    E.g., ( $10,000 - $9,000 ) / $3,000 = 0.334
  • To now obtain the payback period in years , we take the figure from the last step and add it to the year from the step 2. Thus our payback period is 2 + .334 = 2.334 years
  • Instead of represent the years as decimal value we could represent the payback period in years and months this way We take the fraction 0.334 and multiply it by 12 to get the months which is 4.01 months. Thus our payback period is 2 years and 4 months


Using MS Excel to find Payback Period