Question 1 Introduction
The two methods of capital investment appraisal are payback and net present value (also known as discounted cash flow).
A capital investment project is the spending of money now in order to receive benefits (or reduce costs) in the future.
The two methods of capital investment appraisal are payback and net present value (also known as discounted cash flow).
Payback is the period of time it takes for the initial cost of capital investment to be repaid from future net cash flows.
Two projects, with an initial cost of £10,000 each, both have a payback period of two years. The cash flows for years 1 and 2 respectively are: first project £7,000 and £3,000; second project £3,000 and £7,000. On the basis of payback, the second project is favourable.
One of the advantages of payback is that it ignores all cash flows after the payback period.
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