Valuation and investment
Payback period
How long until an investment earns back its cost.
Facts checked against sources onWhat does Payback period mean?
The payback period is the time it takes for the cash an investment brings in to add up to what you spent on it. Spend 1,000 on a machine that saves 250 a year, and the payback is four years. It is simple and fast, but it ignores the time value of money and any cash after the payback date, so two projects with the same payback can be worth very different amounts.
Where does it come up in case interview prep?
- Unit economics in any businessLesson in How industries work: the toolkit
- Nearshoring, friend-shoring and "China plus one"Lesson in Sourcing, trade and supply risk
- Using this in a caseLesson in Sourcing, trade and supply risk
- Valuation in practice: multiples, a simple DCF, NPV, IRR and paybackLesson in Reading a business through its numbers: the three statements, cash and value
- Marketing return: CAC, payback, incrementality, and why last-click credit misleadsLesson in Customers and growth: the economics of marketing
- Capacity and bottlenecks: the slowest step sets outputLesson in Making operations better, and planning for what can go wrong
- The cost of quality: defects, prevention and inspectionLesson in Making operations better, and planning for what can go wrong
- The business case for automation: payback, utilization risk, and peopleLesson in Making operations better, and planning for what can go wrong
Related terms
- Return on investment (ROI)The gain from an investment relative to its cost.
- Net present value (NPV)Today's value of all future cash flows, minus the upfront investment.
- Time value of moneyMoney today is worth more than the same money later.
- Discount rate and hurdle rateThe rate used to turn future cash into today's value.
- Cost of capital (WACC)The return a company must earn to satisfy its lenders and owners.
- IRR (internal rate of return)The discount rate at which NPV is exactly zero.
- DCF (discounted cash flow)Valuing a business from the future cash it will generate.
- Enterprise value (EV) and EV/EBITDAThe value of the whole business, to lenders and owners together.
Learn it in context
See Payback period at work in a lesson from How industries work: the toolkit, with checks as you go.
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