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Payback period rule
The payback period rule is a procedure of the capital budgeting, with help of which the period of amortization (payback period) is calculated. This calculation is aimed at determining the security of an investment, i.e. the time span at the end of which the initial investment is at least balanced by the financial advantages (so-called period of amortization or payback period).
Within the payback period rule, it generally has to be differentiated between two fundamentally different procedures, the static payback period rule and the dynamic payback period rule. The static payback period rule determines the period of time which passes until the initial investment is recovered through the positive net payments that occur later in time (i.e. it disregards any interest receivable by the investor and calculates with an interest rate of zero). In contrast, the dynamic payback period rule determines the time period during which the invested capital plus interest on the amounts receivable is recovered and so eliminates the flaws of the static payback period rule.
The time span determined (payback period) is usually considered as an additional criterion to assess the investment, especially to assess the risks. Investments with a short payback period are considered safer than those with a longer payback period. As the invested capital flows back slower, the risk that the market changes and the invested capital can only be recovered later or not at all increases.
MerzArnoldWuepper features an experienced, competent team of tax consultants, accountants, business economists and attorneys, which covers all significant queries and areas. Within the area of consulting, we include all relevant economical, tax and legal factors. Please approach us if you are interested in the conducting of a payback period calculation.
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