How to Calculate Payback Period in Excel With Easy Steps

simple payback period formula

Thus, the project is deemed illiquid and the probability of there being comparatively more profitable projects with quicker recoveries of the initial outflow is far greater. A longer payback time, on the other hand, suggests that the invested capital is going to be tied up for a long period. Jamie Haenggi, president of ADT Solar, told CNET an average payback period in the US is six to 12 years, with most households leaning closer to the latter. But before you invite a crew of solar installers over, you’ll want to understand when — or if — the panels will start to pay for themselves.

simple payback period formula

However, not all projects and investments have the same time horizon, so the shortest possible payback period needs to be nested within the larger context of that time horizon. For example, the payback period on a home improvement project can be decades while the payback period on a construction project may be five years or less. Solar panels can cost tens of thousands of dollars up front or across years of monthly payments. The breakeven point, or payback period, is the time it takes to recoup the cost from the initial investment. Unlike net present value , profitability index and internal rate of return method, payback method does not take into account the time value of money.

Use of Payback Period Formula

The sooner the break-even point is met, the more likely additional profits are to follow (or at the very least, the risk of losing capital on the project is significantly reduced). Each company will internally have its own set of standards for the timing simple payback period formula criteria related to accepting (or declining) a project, but the industry that the company operates within also plays a critical role. Yarilet Perez is an experienced multimedia journalist and fact-checker with a Master of Science in Journalism.

Machine X would cost $25,000 and would have a useful life of 10 years with zero salvage value. Under payback method, an investment project is accepted or rejected on the basis of payback period. Payback period means the period of time that a project requires to recover the money invested in it.

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In Excel, create a cell for the discounted rate and columns for the year, cash flows, the present value of the cash flows, and the cumulative cash flow balance. Input the known values (year, cash flows, and discount rate) in their respective cells. Use Excel’s present value formula to calculate the present value of cash flows.

simple payback period formula