Question

When considering a number of investment projects, the project that has the best payback period will also always have the highest net present value

Answer 1

This is true.

Payback period is the number of period in which the initial investment is recovered through incoming of cash.

Net present value (NPV) is the difference of present value of all future cash flows and the initial investment.

Best payback period is the smallest recovery period – the initial investment could be recovered in the smallest possible time.

If the initial investment for each project is same and the discount rate for each project is also same, then the best payback period must have the highest NPV. The best payback period indicates recovery in early years of a project; the discount factors which is applicable in NPV calculation in those early years are very high, means greater amounts have very small discount loss; this thing gives higher present value in aggregate and higher NPV.