ECONOMICS

Detailed explanation-1: -What is a payback period? The payback period in capital budgeting is the amount of time it takes for your company to recover the cost of acquiring one customer. For example, a customer that costs $350 to acquire and contributes $25/month, or $300/year, has a payback period of 13.9 months.

Detailed explanation-2: -The payback period is favored when a company is under liquidity constraints because it can show how long it should take to recover the money laid out for the project. If short-term cash flows are a concern, a short payback period may be more attractive than a longer-term investment that has a higher NPV.

Detailed explanation-3: -The payback period method is typically used by startup and fast growing businesses. They need to know how long it will take to recoup the cash laid out for an investment so they can plow that cash into new investments.

Detailed explanation-4: -Rationale for small firms to use Payback over NPV Small firms usually deal with short term projects, vs long term in big organizations. As the principle of time value of money will not have impact in decision making for short term projects. Hence, payback methods suffices the requirements of small firms.